What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-05-07 compared with 2020-11-06 · 191 added, 263 removed, 234 unchanged (66% of the section changed)

10 unchanged sentences

A number of factors, many of which are beyond management’s control, could cause future results to vary materially from current management expectations.

Such factors include, but are not limited to, natural disasters (such as wildfires and earthquakes), our borrowers’ actual payment performance as loan deferrals related to the COVID-19 pandemic expire, changes to statutes, regulations, or regulatory policies or practices as a result of, or in response to COVID-19, including the potential adverse impact of loan modifications and payment deferrals implemented consistent with recent regulatory guidance, general economic conditions, economic uncertainty in the United States and abroad, changes in interest rates, deposit flows, real estate values, costs or effects of acquisitions, competition, changes in accounting principles, policies or guidelines, legislation or regulation (including the Tax Cuts & Jobs Act of 2017 and the Coronavirus Aid, Relief and Economic Security Act of 2020, as amended), interruptions of utility service in our markets for sustained periods, and other economic, competitive, governmental, regulatory and technological factors (including external fraud and cybersecurity threats) affecting Bancorp's operations, pricing, products and services.

Important factors that could cause results or performance to materially differ from those expressed in our prior forward-looking statements are detailed in the Risk Factors section of this Form 10-Q and in Item 1A .

Risk Factors section of our 2019 Form 10-K as filed with the SEC, copies of which are available from us at no charge.

These and other important factors are detailed in various securities law filings made periodically by Bancorp, copies of which are available from Bancorp without charge.

Forward-looking statements speak only as of the date they are made.

Bancorp undertakes no obligation to release publicly the result of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date of this Form 10-Q or to reflect the occurrence of unanticipated events.

Such factors include, but are not limited to, general economic conditions and the economic uncertainty in the United States and abroad, including changes in interest rates, deposit flows, real estate values, and expected future cash flows on loans and securities;

costs or effects of acquisitions;

changes in accounting principles, policies or guidelines;

changes in legislation or regulation (including the Coronavirus Aid, Relief and Economic Security Act of 2020, as amended, and the Economic Aid to Hard-Hit Small Businesses, Nonprofits and Venues Act of 2020);

our borrowers’ actual payment performance as loan deferrals related to the COVID-19 pandemic expire, including the potential adverse impact of loan modifications and payment deferrals implemented consistent with recent regulatory guidance;

natural disasters (such as wildfires and earthquakes in our area);

adverse weather conditions;

interruptions of utility service in our markets for sustained periods;

and other economic, competitive, governmental, regulatory and technological factors (including external fraud and cybersecurity threats) affecting our operations, pricing, products and services.

In addition, events or factors that could cause results or performance to materially differ from those expressed in the forward-looking statements concerning the AMRB acquisition include, but are not limited to:

• the businesses of Bancorp and AMRB may not be integrated successfully or such integration may be more difficult, time-consuming or costly than expected;

• expected cost savings from the acquisition may not be fully realized or realized within the expected time frame;

• revenues following the merger may be lower than expected;

• customer and employee relationships and business operations may be disrupted by the acquisition;

• the ability to obtain required regulatory and shareholder approvals, and the ability to complete the acquisition within the expected timeframe may be more difficult, time-consuming or costly than expected.

We do not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events.

Critical Accounting Policies and Estimates

Critical accounting policies are those that are both important to the portrayal of our financial condition and results of operations and require Management's most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and imprecise.

The SEC requires us to disclose "critical accounting policies" defined as those that are both most important to the presentation of our financial condition and results of operations and require management's most difficult, subjective, or complex judgments, often because of the need to make estimates about the effect of matters that are inherently uncertain and imprecise.

We consider accounting estimates to be critical to our financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain, (ii) management could have applied different assumptions during the reported period, and (iii) changes in the accounting estimate are reasonably likely to occur in the future and could have a material impact on our financial statements.

There have been no material changes to our critical accounting policies, which include:

Allowance for Loan Losses, Other-than-temporary Impairment of Investment Securities, Accounting for Income Taxes, and Fair Value Measurements .

For a detailed discussion, refer to Note 1 to the Consolidated Financial Statements included in our 2019 Form 10-K filed with the SEC on March 13, 2020 and Note 2, Recently Adopted and Issued Accounting Standards , to the Consolidated Financial Statements in this Form 10-Q.

Under the accounting relief provisions of the Coronavirus Aid, Relief and Economic Security ("CARES") Act, which was signed into law on March 27, 2020, the Bank postponed the adoption of the current expected credit losses (“CECL”) accounting standard until the earlier of the end of the national emergency or December 31, 2020 to focus on customers' needs during the COVID-19

Additionally, the lack of clarity around the extent and duration of the COVID-19 pandemic hindered the development of reasonable and supportable economic forecasts early in the pandemic.

Allowance for Credit Losses on Loans and Unfunded Commitments, Allowance for Credit Losses on Investments Securities, Accounting for Income Taxes, and Fair Value Measurements .

For a detailed discussion of these accounting policies, refer to Note 1 to the Consolidated Financial Statements included in our 2020 Form 10-K filed with the SEC on March 15, 2021.

Executive Summary

Net income for the third quarter of 2020 totaled $7.5 million, compared to $9.4 million in the third quarter of 2019.

Diluted earnings per share were $0.55 in the third quarter of 2020, compared to $0.69 in the same quarter a year ago.

Earnings for the first nine months of 2020 totaled $22.1 million compared to $25.2 million in the same period last year.

Diluted earnings per share were $1.62 and $1.82 in the first nine months of 2020 and 2019, respectively.

Our net income for the first nine months of 2020 was $3.1 million lower than 2019, primarily due to the economic impact of the pandemic, resulting in a $5.1 million year-over-year increase in the provision for loan losses and an historic low interest rate environment.

Our credit quality remained strong with non-accrual loans representing only 0.07% of total loans.

We continue to focus on increasing efficiencies and controlling expenses to offset the impacts of net interest margin compression.

Non-interest expenses remained relatively flat during 2020 resulting in an efficiency ratio of 56.21%.

The Bank has responded to the COVID-19 pandemic in a number of ways, including third quarter charitable contributions to non-profit organizations of $360 thousand to ensure equitable access to remote learning resources for underserved students in Marin, Napa and Sonoma counties and the City of Alameda.

In addition, to assist our employees during the pandemic, we paid $1,200 to each employee totaling $360 thousand in the third quarter, with executive management directing their payments to non-profit organizations of their choice.

Since the onset of the pandemic, Bank of Marin has made Small Business Administration ("SBA") Paycheck Protection Program ("PPP") loans to over 1,800 small businesses, reaching nearly 28,000 employees in our markets.

We also accommodated loan payment relief requests for borrowers, lowered interest rate floors on commercial Prime Rate loans, waived ATM and overdraft fees, and cancelled early withdrawal penalties for certificates of deposit when allowed by law.

On April 16, 2021, Bancorp entered into a definitive agreement to acquire American River Bankshares ("AMRB"), parent company of American River Bank ("ARB"), whereby AMRB will merge with and into Bancorp and immediately thereafter ARB will merge with and into Bank of Marin.

We expect the transaction to be accretive to Bancorp's earnings, adding to shareholder value.

AMRB shareholders will receive a fixed exchange ratio of 0.575 shares of Bancorp common stock for each share of AMRB common stock outstanding.

Based on Bancorp's closing stock price of $39.06 on April 16, 2021, the transaction is valued at $134.5 million (with approximately 3.4 million of additional shares of Bancorp common stock to be issued), or $22.46 per share of AMRB common stock, which includes the value of AMRB options being paid in cash.

Such value will fluctuate with changes in Bancorp's stock price.

The transaction is expected to close in the third quarter of 2021, and based on information currently available, Bank of Marin will have approximately $4.0 billion in assets and operate 31 branches in ten counties (Alameda, Amador, Contra Costa, Marin, Napa, Placer, Sacramento, San Francisco, San Mateo, and Sonoma) upon closing.

For other important factors regarding the AMRB acquisition, please see Note 10, Merger Agreement, and the Forward-Looking Statements section of this Form 10-Q.

Net income for the first quarter of 2021 totaled $8.9 million, compared to $7.2 million in the first quarter of 2020.

Diluted earnings per share were $0.66 in the first quarter of 2021, compared to $0.53 in the same quarter a year ago.

First quarter 2021 earnings included a $2.9 million reversal of the allowance for credit losses on loans and $590 thousand reversal of allowance for credit losses on unfunded loan commitments.

Additionally, the early redemption of our last subordinated debenture generated $1.3 million accelerated discount accretion in interest expense.

The following are highlights of our operating and financial performance for the periods presented:

• Loans totaled $2,108.0 million at September 30, 2020, compared to $1,843.3 million at December 31, 2019, an increase of $264.7 million, primarily due to SBA PPP loans, which totaled $301.7 million, or 14% of loan balances at September 30, 2020.

During the first nine months of 2020, new non-PPP-related loan originations of $122.4 million were offset by $124.7 million in loan payoffs and a $24.5 million decrease in line utilization.

• Bank of Marin is awaiting further guidance from the SBA and the Department of Treasury regarding the PPP loan forgiveness process.

We are prepared to open our secure portal for customers to submit forgiveness applications online in the fourth quarter of 2020.

Of the total PPP loans, 48% (870 loans) totaling $18.4 million had principal balances of less than or equal to $50,000 as of September 30, 2020.

• While California’s wildfire season has once again been challenging for many communities in Northern California, fortunately, Bank of Marin and our clients have been minimally impacted.

The fires had a negligible impact on our third quarter results.

• Since granting $388.5 million in payment relief for 264 loans at the onset of the pandemic, 236 loans totaling $336.3 million have resumed or are scheduled to resume normal payments and eight loans totaling $5.0 million paid off.

As of October 19, 2020, twenty loans totaling $47.2 million (balances as of September 30, 2020) had either requested additional payment relief or the relief period had not expired.

We know each of these clients very well and presently expect the majority will navigate through the pandemic and resume normal payments.

The following table summarizes these loans by industry:

• Loans totaled $2.122 billion at March 31, 2021, compared to $2.089 billion at December 31, 2020, an increase of $33.2 million, or 1.6%.

The increase was attributed to a $73.4 million net increase in PPP loans, partially offset by a $40.2 million decrease in non-PPP loans.

Non-PPP-related loan originations of $25.3 million were offset by loan payoffs of $34.6 million and a $27.9 million decrease in line utilization.

• As of March 31, 2021, there were 2,513 PPP loans outstanding totaling $365.0 million (net of $8.0 million in unrecognized fees and costs), which included 841 loans totaling $119.5 million funded during the first quarter of 2021 under the second round of the PPP stimulus plan.

Approximately 1,940 loans (or 77%) totaling $89.6 million were less than or equal to $150 thousand and had access to streamlined forgiveness processing.

As of March 31, 2021, 142 of the first round PPP loans amounting to $55.6 million had been forgiven and paid off by the SBA.

As of May 4, 2021, an additional 866 loans totaling $61.7 million had been forgiven by the SBA and no applications were denied.

We expect the forgiveness of the first round of PPP loans to continue to accelerate during the second quarter of 2021.

• As of May 4, 2021, 10 borrowing relationships with 16 loans totaling $56.1 million were benefiting from payment relief.

We monitor the financial situation of these clients closely and expect the majority to resume payments as the economy reopens.

The following table summarizes these loans by industry or collateral type.

Payment Relief by Type

Industry Outstanding Loan Balance

(in thousands) Weighted Average LTV

Industry/Collateral Type (dollars in thousands)

Outstanding Loan Balance Weighted Average LTV

Education $ 17,076 26 %

Hospitality 10,431 49%

Retail Related CRE 6,295 48%

Health Clubs 13,352 49 %

Office and Mixed Use 13,794 42 %

Non-CRE Related 1,459 N/A

Hospitality 7,135 48 %

Retail Related CRE 4,760 58 %

Payment Relief Totals $ 56,117 41 %

• Credit quality remains a cornerstone of the Bank's consistent performance.

Non-accrual loans totaled $1.4 million, or 0.07% of total loans at September 30, 2020, compared to $226 thousand, or 0.01% at December 31, 2019.

Despite the low non-accrual totals, we considered the potential impact of the COVID-19 pandemic on the economy in general and recorded a provision for loan losses of $5.45 million for the first nine months of 2020, compared to a $400 thousand provision for the same period in 2019.

Provision for losses on off-balance sheet commitments for the first nine months of 2020 was $610 thousand compared to $129 thousand for the same period in 2019.

SBA PPP loans are fully guaranteed by the SBA and did not contribute to the provisions.

• Total deposits increased $232.8 million in the first nine months of 2020 to $2,569.3 million at September 30, 2020.

• Non-interest bearing deposits represented 54% of total deposits as of September 30, 2020, compared to 48% at December 31, 2019.

The cost of average deposits decreased 7 basis points to 0.13% during the first nine months of 2020.

• Return on assets was 1.03% for the nine months ended September 30, 2020, compared to 1.33% for the first nine months of 2019.

Return on equity was 8.47% for the nine months ended September 30, 2020, compared to 10.40% for the nine months ended September 30, 2019.

• Credit quality remains strong, with non-accrual loans representing $9.2 million, or 0.43% of total loans at March 31, 2021, compared to $9.2 million, or 0.44% at December 31, 2020.

The ratio of allowance for credit losses to total loans was 0.94% at March 31, 2021 and 1.10% at December 31, 2020.

Excluding SBA-guaranteed PPP loans, the allowance for credit losses represented 1.14% of total loans as of March 31, 2021, compared to 1.27% as of December 31, 2020 (see Results of Operations for a definition of this non-GAAP financial measure).

• Return on average assets ("ROA") and return on average equity ("ROE") were 1.21% and 10.22%, respectively, for the quarter ended March 31, 2021.

These reflect meaningful increases as ROA was 1.09% and ROE was 8.54% in the first quarter of 2020.

• Our strong capital and liquidity position afforded us the opportunity to eliminate a high cost funding source.

On March 15, 2021 we redeemed a $2.8 million subordinated debenture, which carried an effective rate of approximately 5.7%.

• The tax-equivalent net interest margin was 3.19% and 3.88% in the first quarters of 2021 and 2020, respectively.

The decrease from the same quarter a year ago was primarily attributed to the lower interest rate environment and redemption of the subordinated debenture.

While the redemption decreased our net interest margin by 18 basis points in the first quarter of 2021, it will serve to improve net interest margin in the future.

• The efficiency ratio was 62.13% for the three months ended March 31, 2021, up from 56.79% in the comparative period a year ago.

Without the $1.3 million accelerated discount accretion from the early redemption of the subordinated debenture our efficiency ratio would have been 58.92%.

• Total deposits increased $152.0 million in the first three months of 2021 to $2.656 billion at March 31, 2021.

The increase was primarily due to increases in PPP borrower-related balances and normal fluctuations in some of our large business accounts.

Non-interest bearing deposits represented 54% of total deposits as of the end of the first quarter of 2021, compared to 49% as of the end of the first quarter of 2020.

The cost of average deposits was 0.07% in the first quarter of 2021, a decrease of 14 basis points from the same quarter a year ago.

• All capital ratios were above well capitalized regulatory requirements.

The total risk-based capital ratio for the Bank was 15.5% at September 30, 2020, compared to 14.6% at December 31, 2019.

• On October 23, 2020, the Board of Directors approved the reactivation of the share repurchase program that was suspended on March 20, 2020 as part of the early pandemic response, of which $23.2 million remains available for future repurchases.

• The Board of Directors declared a cash dividend of $0.23 per share on October 23, 2020.

This represents the 62nd consecutive quarterly dividend paid by Bank of Marin Bancorp.

The dividend is payable on November 13, 2020, to shareholders of record at the close of business on November 6, 2020.

The total risk-based capital ratio for Bancorp was 15.7% at March 31, 2021, compared to 16.0% at December 31, 2020.

Tangible common equity to tangible assets was 10.5% at March 31, 2021, compared to 11.3% at December 31, 2020 (see Results of Operations for a definition of this non-GAAP financial measure).

The subordinated debt redemption contributed to the decline in total risk-based capital, and share repurchases were the primary driver of the declines in both total risk-based capital and tangible common equity.

The total risk-based capital ratio for the Bank was 14.8% at March 31, 2021, compared to 15.8% at December 31, 2020.

• The Board of Directors declared a cash dividend of $0.23 per share on April 16, 2021.

This represents the 64th consecutive quarterly dividend paid by Bank of Marin Bancorp.

The dividend is payable on May 7, 2021, to shareholders of record at the close of business on April 30, 2021.

Bank of Marin's strong balance sheet is built from our core values - relationship banking, disciplined fundamentals and commitment to the communities that we serve.

For the remainder of 2020 and looking forward into 2021, we believe that our robust liquidity and capital positions, high credit quality loan portfolio, excellent credit metrics and low-cost deposit base should help us navigate the pandemic and low interest rate environment.

For the remainder of 2021, we believe that our robust liquidity and capital positions, high credit quality loan portfolio, excellent credit metrics, and low-cost deposit base as well as our acquisition of AMRB should help us navigate the low interest rate environment.

RESULTS OF OPERATIONS

Highlights of the financial results are presented in the following tables:

(dollars in thousands) September 30, 2020 December 31, 2019

(dollars in thousands) March 31, 2021 December 31, 2020

Selected financial condition data:

3 unchanged sentences

Borrowings and other obligations 30 58

Subordinated debenture — 2,777

Stockholders' equity 350,292 358,253

Asset quality ratios:

Allowance for loan losses to total loans 1.05 % 0.90 %

Allowance for loan losses to total loans, excluding non-PCI and SBA PPP loans 1

Allowance for credit losses to total loans 0.94 % 1.10 %

Allowance for credit losses to total loans, excluding SBA PPP loans 1

1.14 % 1.27 %

Allowance for loan losses to non-accrual loans 15.34x 73.86x

Allowance for credit losses to non-accrual loans 2.17x 2.48x

Non-accrual loans to total loans 0.43 % 0.44 %

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Common equity Tier 1 capital (to risk weighted assets) 14.63 % 14.69 %

Three months ended Nine months ended

(dollars in thousands, except per share data) September 30, 2020 September 30, 2019 September 30, 2020 September 30, 2019

Three months ended

(dollars in thousands, except per share data) March 31, 2021 March 31, 2020

Selected operating data:

Net interest income $ 22,031 $ 24,119

Provision for loan losses 1,250 400 5,450 400

(Reversal of) provision for credit losses on loans (2,929) 2,200

Non-interest income 1,826 3,120

13 unchanged sentences

34.33 % 43.40 %

1 The allowance for loan losses to total loans, excluding non-impaired non-PCI and guaranteed SBA PPP loans, is considered a meaningful non-GAAP financial measure, as it represents only those loans that were considered in the calculation of the allowance for loan losses.

Non-PCI loans that were not impaired at September 30, 2020 and December 31, 2019 totaled $90.4 million and $106.8 million, respectively.

SBA PPP loans totaled $301.7 million at September 30, 2020.

There were no SBA PPP loans as of December 31, 2019.

1 The allowance for credit losses to total loans, excluding SBA-guaranteed PPP loans, is considered a meaningful non-GAAP financial measure, as it represents only those loans that were considered in the calculation of the allowance for credit losses.

SBA PPP loans at March 31, 2021 and December 31, 2020 totaled $365.0 million and $291.6 million, respectively.

2 Tangible common equity to tangible assets is considered to be a meaningful non-GAAP financial measure of capital adequacy and is useful for investors to assess Bancorp's ability to absorb potential losses.

Tangible common equity of $323 million and $302 million at September 30, 2020 and December 31, 2019, respectively, includes common stock, retained earnings and unrealized gains (losses) on available-for sale securities, net of tax, less goodwill and intangible assets.

Tangible assets exclude goodwill and intangible assets of $34.2 million and $34.8 million at September 30, 2020 and December 31, 2019, respectively.

Tangible common equity of $317 million and $324 million at March 31, 2021 and December 31, 2020, respectively, includes common stock, retained earnings and unrealized gains (losses) on available-for sale securities, net of tax, less goodwill and intangible assets.

Tangible assets exclude goodwill and intangible assets of $33.8 million and $34.0 million at March 31, 2021 and December 31, 2020, respectively.

3 Tax-equivalent net interest margin is computed by dividing taxable equivalent net interest income, which is adjusted for taxable equivalent income on tax-exempt loans and securities based on Federal statutory rate of 21 percent, by total average interest-earning assets.

1 unchanged sentence

Net Interest Income

Net interest income is the difference between the interest earned on loans, investments and other interest-earning assets and the interest expense incurred on deposits and other interest-bearing liabilities.

Net interest income is the interest earned on loans, investment and other interest-earning assets minus the interest expense incurred on deposits and other interest-bearing liabilities.

Net interest income is impacted by changes in general market interest rates and by changes in the composition of interest-earning assets and interest-bearing liabilities.

11 unchanged sentences

Three months ended Three months ended

September 30, 2020 September 30, 2019

March 31, 2021 March 31, 2020

Interest Interest

33 unchanged sentences

Tax-equivalent net interest rate spread 2.83 % 3.64 %

Nine months ended Nine months ended

September 30, 2020 September 30, 2019

Interest Interest

Average Income/ Yield/ Average Income/ Yield/

(in thousands;

unaudited) Balance Expense Rate Balance Expense Rate

Interest-earning deposits with banks 1

$ 152,587 $ 421 0.36 % $ 43,896 $ 754 2.27 %

Investment securities 2, 3

544,754 11,632 2.85 % 564,050 11,477 2.71 %

Loans 1, 3, 4

1,998,456 64,423 4.24 % 1,765,260 63,786 4.76 %

Total interest-earning assets 1

2,695,797 76,476 3.73 % 2,373,206 76,017 4.22 %

Cash and non-interest-bearing due from banks 44,665 34,634

Bank premises and equipment, net 5,631 7,108

Interest receivable and other assets, net 130,525 108,806

Total assets $ 2,876,618 $ 2,523,754

Liabilities and Stockholders' Equity

Interest-bearing transaction accounts $ 144,784 $ 146 0.13 % $ 130,109 $ 269 0.28 %

Savings accounts 179,288 50 0.04 % 174,837 52 0.04 %

Money market accounts 786,012 1,731 0.29 % 665,167 2,406 0.48 %

Time accounts including CDARS 96,237 436 0.61 % 109,978 441 0.54 %

Borrowings and other obligations 1

208 3 2.14 % 3,848 75 2.57 %

Subordinated debenture 1

2,733 124 5.96 % 2,664 175 8.66 %

Total interest-bearing liabilities 1,209,262 2,490 0.27 % 1,086,603 3,418 0.42 %

Demand accounts 1,278,265 1,083,260

Interest payable and other liabilities 40,279 30,344

Stockholders' equity 348,812 323,547

Total liabilities & stockholders' equity $ 2,876,618 $ 2,523,754

Tax-equivalent net interest income/margin 1

$ 73,986 3.61 % $ 72,599 4.03 %

Reported net interest income/margin 1

$ 73,060 3.56 % $ 71,786 3.99 %

Tax-equivalent net interest rate spread 3.45 % 3.80 %

1 Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated interest rate terms, where applicable.

4 unchanged sentences

The amortized portion of net loan origination fees is included in interest income on loans, representing an adjustment to the yield.

Analysis of Changes in Tax-Equivalent Net Interest Income

The following table presents the effects of changes in average balances (volume) or changes in average rates on tax-equivalent net interest income for the years indicated.

5 First quarter 2021 interest expense includes $1.3 million accelerated discount accretion from the early redemption of our last subordinated debenture on March 15, 2021.

Analysis of Changes in Net Interest Income

The following table presents the effects of changes in average balances (volume) or changes in average rates on tax-equivalent net interest income for the periods indicated.

Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates.

Rate variances are equal to the increase or decrease in rates multiplied by prior period average balances.

Mix variances are attributable to the change in yields or rates multiplied by the change in average balances, including one more day in the nine months ended September 30, 2020.

Three Months Ended September 30, 2020 Compared to Three Months Ended September 30, 2019 Nine Months Ended September 30, 2020 Compared to Nine Months Ended

September 30, 2019

(in thousands) Volume Yield/Rate Mix Total Volume Yield/Rate Mix Total

Mix variances are attributable to the change in yields or rates multiplied by the change in average balances, including one more day in the three months ended March 31, 2020.

Three Months Ended March 31, 2021 Compared to Three Months Ended March 31, 2020

(in thousands) Volume Yield/Rate Mix Total

Interest-earning deposits with banks $ 222 $ (307) $ (205) $ (290)

12 unchanged sentences

1 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21%.

Third Quarter of 2020 Compared to Third Quarter of 2019

Net interest income totaled $24.6 million in the third quarter of 2020, compared to $24.2 million in the same quarter a year ago.

The $415 thousand increase from the comparative quarter a year ago was primarily attributed to $2.4 million from SBA PPP loans, higher non-PPP loan balances and lower interest expense on deposits.

These positive variances were partially offset by the impact of lower interest rates on non-PPP loans, cash and investments.

The tax-equivalent net interest margin was 3.44% in the third quarter of 2020 compared to 4.04% in the same quarter of the previous year.

The decrease in tax-equivalent net interest margin was attributable to both the lower interest rate environment and SBA PPP loans.

SBA PPP loans lowered the third quarter 2020 net interest margin by 4 basis points.

In October 2020, due to the continued delay in the PPP forgiveness process, the Bank extended the payment deferral period from six to sixteen months for PPP loans that originated prior to June 5, 2020 in accordance with the PPP Flexibility Act.

The extension of the first payment due date decreased the effective rate used to accrete net loan origination fees and costs, which will affect the timing of when the accretion of PPP net loan origination fees will be recognized.

We estimate this change will decrease fourth quarter 2020 net interest income by approximately $850 thousand.

The decrease may be partially or fully offset by the accelerated fee accretion related to loans that are forgiven and paid off during the fourth quarter, which cannot be estimated at this time.

First Nine Months of 2020 Compared to First Nine Months of 2019

Net interest income totaled $73.1 million in the nine months ended September, 30 2020, compared to $71.8 million in the same period a year ago.

The $1.3 million increase was primarily due to SBA PPP loan income, higher commercial loan balances, higher yields on investments and lower rates on deposits partially offset by lower yields on loans.

The tax-equivalent net interest margin was 3.61% in the nine months ended September 30, 2020, compared to 4.03% in the same period a year ago.

The decrease in tax-equivalent net interest margin was attributable to both the lower interest rate environment and SBA PPP loans.

SBA PPP loans lowered the 2020 net interest margin by 3 basis points.

To offset the impacts of margin compression, we continue to focus on increasing efficiencies and controlling expenses including evaluating the cost of our facilities.

First Quarter of 2021 Compared to First Quarter of 2020

Net interest income totaled $22.0 million in the first quarter of 2021, compared to $24.1 million in the same quarter a year ago.

The $2.1 million decrease from the first quarter of 2020 was primarily caused by lower yields across all interest earning assets stemming from the low interest rate environment, $1.3 million in accelerated discount accretion from the early redemption of our last subordinated debenture, and lower average commercial and home equity loan balances.

These negative variances were partially offset by interest and fees on PPP loans and lower rates on interest-bearing liabilities.

The tax-equivalent net interest margin was 3.19% in the first quarter of 2021 compared to 3.88% in the same quarter of the previous year.

The decrease in tax-equivalent net interest margin was primarily attributed to the lower interest rate environment.

Additionally, the early redemption of our last subordinated debenture reduced the first quarter of 2021 tax-equivalent net interest margin by approximately 18 basis points, but will improve the net interest margin going forward.

SBA PPP loans lowered first quarter 2021 net interest margin by 1 basis point compared to 13 basis points in the fourth quarter 2020 due to higher fee income accretion in the first quarter of 2021 as more PPP loans were forgiven and paid off by the SBA.

There were no PPP loans in the first quarter of 2020.

We expect the net interest margin to improve in second quarter of 2021 as more PPP loans are forgiven and paid off by the SBA.

Market Interest Rates

Market interest rates are, in part, based on the target federal funds interest rate (the interest rate banks charge each

other for short-term borrowings) implemented by the Federal Reserve Open Market Committee ("FOMC").

In response to the evolving risks to economic activity posed by the COVID-19 pandemic, the Federal Reserve Open Market Committee ("FOMC") made two emergency cuts totaling 150 basis points to the federal funds rate in March 2020.

This will continue to put downward pressure on our asset yields and net interest margin.

The federal funds target rate range has resided between 0.0% and 0.25% since March 15, 2020, putting downward pressure on our asset yields and net interest margin.

A low interest rate environment will continue to

put downward pressure on our asset yields and net interest margin.

Quantitative and Qualitative Disclosure about Market Risk for further information.

Provision for Loan Losses

Management assesses the adequacy of the allowance for loan losses quarterly based on several factors including growth of the loan portfolio, analysis of probable losses in the portfolio, historical loss experience and the current economic climate, including the economic uncertainties of the COVID-19 pandemic.

While loss recoveries and provisions for loan losses charged to expense increase the allowance, actual losses on loans reduce the allowance.

Impaired loans totaled $13.8 million at September 30, 2020 and $11.5 million at December 31, 2019, with specific valuation allowances of $1,106 thousand and $397 thousand at the same respective dates.

Loans graded special mention totaled $87.7 million at September 30, 2020 and $73.4 million at December 31, 2019.

While special mention graded loans are not considered adversely classified, the $14.4 million increase was largely due to a small number of commercial real estate borrowers who, after further analysis, were granted additional payment relief beyond the initial relief period and a few commercial real estate loans that were considered temporarily affected by the pandemic.

All of these loans have low loan-to-value ratios and will be monitored at least quarterly as part of the Bank's credit management process.

Classified assets (loans with substandard or doubtful risk grades) totaled $11.0 million at September 30, 2020, compared to $9.9 million at December 31, 2019.

There were no loans with doubtful risk grades at September 30, 2020 or December 31, 2019.

In accordance with the accounting relief provisions of the CARES Act, the Bank has postponed the adoption of the CECL accounting standard to focus on our customers' needs during the COVID-19 pandemic and due to the lack of clarity around the extent and duration of the COVID-19 pandemic, which hindered development of reasonable and supportable forecasts in the early days of the pandemic.

Under the existing incurred loss model we adjusted certain qualitative factors, primarily to account for the significant increase in the unemployment rate and recorded a $5.45 million loan loss provision for the nine months ended September 30, 2020, compared to $400 thousand for the same period in the prior year.

Net charge-offs were $14 thousand for the nine months ended September 30, 2020, compared to net recoveries of $19 thousand same period in the prior year.

The ratio of allowance for loan losses to total loans, including acquired loans and SBA-guaranteed PPP loans, was 1.05% at September 30, 2020, compared to 0.90% at December 31, 2019.

Excluding guaranteed SBA PPP loans and non-PCI acquired loans, the ratio of the allowance for loan losses to total loans would have been 1.29% and 0.96% at September 30, 2020 and December 31, 2019, respectively (Refer to footnote 1 on page 33 for a definition and reconciliation of this non-GAAP financial measure).

Non-accrual loans totaled $1.4 million, or 0.07% of total loans at September 30, 2020, compared to $226 thousand, or 0.01% of total loans at December 31, 2019.

The $1.4 million increase in non-accrual loans was primarily attributable to one loan secured by a triplex property with a low loan-to-value ratio as well as one home equity loan.

Provision for Credit Losses on Loans

Management assesses the adequacy of the allowance for credit losses on loans quarterly based on several factors including growth of the loan portfolio, past events, current conditions, and reasonable and supportable forecasts to estimate expected losses over the contractual terms of our loans.

The allowance for credit losses is increased by provisions charged to expense and loss recoveries and decreased by loans charged off.

We recorded a $2.9 million reversal of the provision for credit losses in the first quarter of 2021, compared to a $2.5 million provision for credit losses for the same period in 2020.

The reversal of the provision in the first quarter of 2021 was primarily due to improvements in the forecasted California unemployment rates over the next four quarters and a $40.2 million decrease in non-PPP loan balances.

Our allowance model is particularly sensitive to current and forecasted California unemployment rates, which decreased to 8.2% at March 31, 2021 from 9.1% at December 31, 2020.

The provision for credit losses for the first quarter of 2020, which was determined under the incurred loss method (prior to the adoption of the excepted credit loss method on December 31, 2020), was largely due to the uncertainty about the impact of the COVID-19 pandemic on the local and regional economies and our customers at that time.

Loans designated special mention, which is not considered adversely classified, decreased by $30.9 million to $56.0 million at March 31, 2021 from $86.9 million at December 31, 2020.

The decrease was largely due to the upgrading of several borrowing relationships totaling approximately $23.7 million because of their improved financial condition and loan reductions and payoffs totaling approximately $6.7 million.

Classified assets (loans with substandard or doubtful risk grades) totaled $26.4 million at March 31, 2021, compared to $25.8 million at December 31, 2020.

There were no loans with doubtful risk grades at March 31, 2021 or December 31, 2020.

The ratio of allowance for credit losses to total loans was 0.94% at March 31, 2021, compared to 1.10% at December 31, 2020.

Excluding SBA-guaranteed PPP loans, the ratio of the allowance for credit losses to total loans was 1.14% and 1.27% at March 31, 2021 and December 31, 2020, respectively (Refer to footnote 1 on page 32 for a definition and reconciliation of this non-GAAP financial measure).

Non-accrual loans totaled $9.2 million, or 0.43% of total loans at March 31, 2021, and remained largely unchanged from $9.2 million, or 0.44% of total loans at December 31, 2020.

For more information, refer to Note 5 to the consolidated financial statements in this Form 10-Q.

Non-interest Income

The following tables detail the components of non-interest income.

The following table details the components of non-interest income.

Three months ended Amount Percent

(dollars in thousands) September 30, 2020 September 30, 2019 Increase (Decrease) Increase (Decrease)

Service charges on deposit accounts $ 284 $ 439 $ (155) (35.3) %

(dollars in thousands) March 31, 2021 March 31, 2020 Increase (Decrease) Increase (Decrease)

Wealth Management and Trust Services $ 488 $ 504 $ (16) (3.2) %

Debit card interchange fees, net 383 406 (23) (5.7) %

Merchant interchange fees, net 63 79 (16) (20.3) %

Earnings on bank-owned life insurance 232 795 (563) (70.8) %

Dividends on FHLB stock 149 202 (53) (26.2) %

Gains on sale of investment securities, net — — — N/A

Other income 229 305 (76) (24.9) %

Total non-interest income $ 1,790 $ 2,721 $ (931) (34.2) %

Nine months ended Amount Percent

(dollars in thousands) September 30, 2020 September 30, 2019 Increase (Decrease) Increase (Decrease)

Debit card interchange fees 366 360 6 1.7 %

Service charges on deposit accounts 281 451 (170) (37.7) %

Wealth Management and Trust Services 1,375 1,406 (31) (2.2) %

Debit card interchange fees, net 1,051 1,200 (149) (12.4) %

Merchant interchange fees, net 183 253 (70) (27.7) %

Earnings on bank-owned life insurance, net 257 275 (18) (6.5) %

Dividends on FHLB stock 149 208 (59) (28.4) %

Merchant interchange fees 57 73 (16) (21.9) %

Gains on sale of investment securities, net — 800 (800) (100.0) %

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Total non-interest income $ 1,826 $ 3,120 $ (1,294) (41.5) %

Third Quarter of 2020 Compared to Third Quarter of 2019

Non-interest income decreased by $931 thousand in the third quarter of 2020 to $1.8 million, compared to $2.7 million in the same quarter a year ago.

The decrease was primarily due to a $562 thousand benefit collected on BOLI policies in the third quarter of 2019.

Additionally fewer ATM fees and service charges on deposit accounts, lower dividends on FHLB stock, and lower fee income from one-way deposit sales to third-party deposit networks in the third quarter of 2020 all contributed to the decrease.

First Nine Months of 2020 Compared to First Nine Months of 2019

Non-interest income decreased by $43 thousand in the first nine months of 2020 to $6.7 million, compared to $6.8 million in the same period a year ago.

The small decline was driven by decreases across most non-interest income categories, partially offset by higher gains on sales of investment securities in the first nine months of 2020.

First Quarter of 2021 Compared to First Quarter of 2020

Non-interest income decreased by $1.3 million in the first quarter of 2021 to $1.8 million, compared to $3.1 million in the same quarter a year ago.

The decrease was mostly attributed to the absence of gains on sales of investment securities, lower service charges on deposit accounts, and lower fee income from one-way deposit sales to third-party deposit networks in the first quarter of 2021.

Non-interest Expense

The following tables detail the components of non-interest expense.

The following table details the components of non-interest expense.

Three months ended Amount Percent

(dollars in thousands) September 30, 2020 September 30, 2019 Increase (Decrease) Increase (Decrease)

(dollars in thousands) March 31, 2021 March 31, 2020 Increase (Decrease) Increase (Decrease)

Salaries and related benefits $ 9,208 $ 9,477 $ (269) (2.8) %

Occupancy and equipment 1,751 1,663 88 5.3 %

Depreciation and amortization 539 573 (34) (5.9) %

Federal Deposit Insurance Corporation insurance 181 1 180 18,000.0 %

Data processing 822 923 (101) (10.9) %

Professional services 863 544 319 58.6 %

Directors' expense 184 189 (5) (2.6) %

Data processing 819 786 33 4.2 %

Depreciation and amortization 459 526 (67) (12.7) %

Information technology 313 250 63 25.2 %

Amortization of core deposit intangible 204 213 (9) (4.2) %

Provision for losses on off-balance sheet commitments 248 — 248 100.0 %

Charitable contributions 481 111 370 333.3 %

Other non-interest expense

Advertising 163 183 (20) (10.9) %

Other expense 1,082 1,220 (138) (11.3) %

Total other non-interest expense 1,245 1,403 (158) (11.3) %

Total non-interest expense $ 15,238 $ 14,200 $ 1,038 7.3 %

Nine months ended Amount Percent

(dollars in thousands) September 30, 2020 September 30, 2019 Increase (Decrease) Increase (Decrease)

Salaries and related benefits $ 25,979 $ 26,426 $ (447) (1.7) %

Occupancy and equipment 5,100 4,616 484 10.5 %

Depreciation and amortization 1,591 1,701 (110) (6.5) %

Federal Deposit Insurance Corporation insurance 179 2 177 8,850.0 %

Data processing 2,437 2,942 (505) (17.2) %

Professional services 1,749 1,701 48 2.8 %

Directors' expense 175 174 1 0.6 %

Information technology 758 822 (64) (7.8) %

Amortization of core deposit intangible 639 665 (26) (3.9) %

Provision for losses on off-balance sheet commitments 610 129 481 372.9 %

Charitable contributions 31 167 (136) (81.4) %

(Reversal of) provision for credit losses on unfunded loan commitments (590) 102 (692) (678.4) %

Other non-interest expense

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Total non-interest expense $ 14,822 $ 15,469 $ (647) (4.2) %

Third Quarter of 2020 Compared to Third Quarter of 2019

Non-interest expense increased by $1.0 million to $15.2 million, compared to $14.2 million in the same period a year ago.

The increase was primarily due to $370 thousand more in charitable contributions to non-profit organizations, $248 thousand provision for losses on off-balance sheet commitments, and higher salaries and benefits driven by annual merit increases.

Additionally, the third quarter of 2020 included higher FDIC insurance expense due to fewer FDIC assessment credits, and higher occupancy expense associated with the renewal of leases for our existing headquarters offices and a new lease for a loan production office in San Mateo.

First Nine Months of 2020 Compared to First Nine Months of 2019

Non-interest expense increased by $204 thousand to $44.8 million in the first nine months of 2020, compared to $44.6 million in the same period a year ago.

The increase was primarily due to $544 thousand higher charitable contributions to non-profit organizations, $484 thousand higher occupancy expense associated with new and renewed leases mentioned above, and $481 thousand higher provision for losses on off-balance sheet commitments.

These increases were partially offset by decreases in salaries and related benefits primarily due to $915 thousand SBA PPP-related deferred loan origination costs and fewer data processing costs from our digital platform conversion.

First Quarter of 2021 Compared to First Quarter of 2020

Non-interest expense decreased by $647 thousand to $14.8 million, compared to $15.5 million in the same period a year ago.

The decrease was primarily attributed to a $590 thousand reversal of allowance for credit losses on unfunded loan commitments versus a $102 thousand provision for credit losses on unfunded loan commitments in the first quarter a year ago.

In addition, salaries and related benefits decreased $269 thousand (mostly attributed to $421 thousand additional deferred loan origination costs from funding the second round of SBA PPP loans), charitable contributions decreased $136 thousand, and other expense included several small declines.

These positive variances were partially offset by an increase in professional service expenses due to some pandemic related delays in 2020 activities, and the discontinuation of Federal Deposit Insurance Corporation insurance credits received in 2020.

Bank of Marin has been committed to donating at least 1% of net income before tax to nonprofits in our communities each year.

In recent years, this has typically been around $500 thousand.

In response to the COVID-19 pandemic, we more than doubled our charitable contributions to non-profit organizations in our community to over $1.0 million in 2020.

In 2021, we are returning to our typical giving levels of at least $500 thousand with the majority being disbursed in the second quarter of 2021.

Provision for Income Taxes

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Provisions also reflect permanent differences between income for tax and financial reporting purposes (such as earnings on tax exempt loans and municipal securities, BOLI, low-income housing tax credits, and stock-based compensation from the exercise of stock options, disqualifying dispositions of incentive stock options and vesting of restricted stock awards).

The provision for income taxes for the third quarter of 2020 totaled $2.4 million at an effective tax rate of 24.1%, compared to $2.8 million at an effective tax rate of 23.0% in the same quarter last year.

The decrease in the provision reflected a lower level of pre-tax income in 2020, partially offset by a favorable deferred tax liability true-up adjustment recognized in the third quarter of 2019.

The increase in the effective tax rate was primarily due to the true-up adjustment recognized in third quarter of 2019.

The provision for income taxes for the first nine months of 2020 totaled $7.4 million at an effective tax rate of 25.0%, compared to $8.3 million at an effective tax rate of 24.9% for the first nine months of 2019.

The decrease in the provision reflected a lower level of pre-tax income and higher tax exempt earnings on investment securities in 2020.

The slight increase in the effective tax rate was primarily due to the 2019 favorable deferred tax liability true-up

adjustment as described above and a lower tax benefit from BOLI income in 2020.

These increases were substantially offset by a higher level of discrete tax benefits in 2020 from the exercise of non-qualified stock options and disqualifying dispositions of incentive stock options compared to 2019.

The provision for income taxes for the first quarter of 2021 totaled $3.0 million at an effective tax rate of 25.2%, compared to $2.3 million at an effective tax rate of 24.5% in the same quarter last year.

The increase in the provision in the first quarter of 2021 as compared to the same quarter a year ago was primarily due to higher pre-tax income and lower discrete tax benefits from the exercise of non-qualified stock options and disqualifying dispositions of incentive stock options compared to the first quarter of 2020.

The 70 bps increase in effective tax rate in the first quarter of 2021 as compared to the same quarter last year was primarily due to a lower level of tax benefits from the exercise of non-qualified stock options and disqualifying dispositions of incentive stock options.

We file a consolidated return in the U.S.

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There were no ongoing federal or state income tax examinations at the issuance of this report.

At September 30, 2020, neither the Bank nor Bancorp had accruals for interest nor penalties related to unrecognized tax benefits.

At March 31, 2021, neither the Bank nor Bancorp had accruals for interest nor penalties related to unrecognized tax benefits.

FINANCIAL CONDITION SUMMARY

At September 30, 2020, assets totaled $2,975.2 million, an increase of $267.9 million, from $2,707.3 million at December 31, 2019, mainly due to an increase in cash and loans related to our participation in the PPP in response to the COVID-19 pandemic as explained below, partially offset by a $38.9 million decrease in investment securities.

At March 31, 2021, assets totaled $3,058.1 million, an increase of $146.2 million, from $2,911.9 million at December 31, 2020, mainly due to increases in investment securities and loans as we redeploy our excess liquidity from deposit inflows as discussed below.

Cash, Cash Equivalents and Restricted Cash

Total cash, cash equivalents and restricted cash were $213.6 million at September 30, 2020, compared to $183.4 million at December 31, 2019.

The $30.2 million increase was largely due to temporary increases in SBA PPP borrowers' deposit accounts.

Cash and cash equivalents as of September 30, 2020 do not include $146.6 million in temporary one-way sale transfers of deposits to third-party deposit networks as part of our liquidity management.

Effective March 26, 2020, the Federal Reserve reduced the reserve requirement ratios to zero percent in response to the COVID-19 pandemic resulting in no restricted cash requirements as of September 30, 2020.

Restricted cash held at the Federal Reserve as of December 31, 2019 totaled $4.8 million.

Total cash, cash equivalents and restricted cash were $142.8 million at March 31, 2021, compared to $200.3 million at December 31, 2020.

The reduction was mainly due to increases in investment securities and loans as we redeploy our excess liquidity from deposit inflows, some related to new PPP loan funding.

Cash and cash equivalents do not include $180.8 million and $173.4 million in temporary one-way sale transfers of deposits to third-party deposit networks as part of our liquidity management at March 31, 2021 and December 31, 2020, respectively.

Investment Securities

The investment securities portfolio totaled $530.8 million at September 30, 2020, a decrease of $38.9 million from December 31, 2019.

The decrease reflects paydowns, calls and maturities totaling $88.0 million and sales totaling $32.8 million during the first nine months of 2020, partially offset by purchases of $71.7 million high credit quality longer duration securities and increase in the fair value of available-for-sale securities in 2020.

During the first and second quarters of 2020, respectively, we sold $26.6 million of short duration agency residential mortgage-backed securities subject to increasing prepayment speeds and $6.2 million of obligations of state and political subdivisions that were sensitive to the credit exposure posed by the COVID-19 pandemic.

There were no security sales in the third quarter.

The following table summarizes our investment in obligations of state and political subdivisions at September 30, 2020 and December 31, 2019.

September 30, 2020 December 31, 2019

The investment securities portfolio totaled $670.5 million at March 31, 2021, an increase of $169.2 million from December 31, 2020.

The increase was primarily due to purchases of $203.4 million to deploy excess cash into interest earning assets in a more favorable interest rate environment, partially offset by paydowns, calls and maturities of $24.7 million.

Additionally, the fair value of available-for-sale securities decreased $9.1 million as a result of the higher interest rate environment in the first quarter of 2021.

There were no security sales in the first quarter of 2021.

The following table summarizes our investment in obligations of state and political subdivisions at March 31, 2021 and December 31, 2020.

March 31, 2021 December 31, 2020

(dollars in thousands) Amortized Cost Fair Value % of Total State and Political Subdivisions Amortized Cost Fair Value % of Total State and Political Subdivisions

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Of the total investment in obligations of state and political subdivisions, the largest concentrations outside of California are in Texas (50.9%), Washington (16.1%) and Maryland (5.7%).

During March 2020, we strategically increased our credit

exposure to obligations issued by high credit quality municipal issuers in Texas that are either guaranteed by the AAA-rated Texas Permanent School Fund ("PSF") or backed by revenue sources from essential services (such as utilities and transportation).

Our investment in obligations issued by municipal issuers in Texas are either guaranteed by the AAA-rated Texas Permanent School Fund ("PSF") or backed by revenue sources from essential services (such as utilities and transportation).

We have $6.0 million in obligations of Texas school district issuers having high concentrations in oil and gas industry taxpayers and all of them have credit guarantees from PSF.

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• Credit ratings by major credit rating agencies

During the first nine months of 2020, loans increased by $264.7 million and totaled $2,108.0 million at September 30, 2020, primarily due to SBA PPP loans which totaled $308.2 million.

We ended the origination of new PPP loans on June 30, 2020 to focus our efforts on helping our customers through the loan forgiveness process.

New non-PPP related loan originations totaled $122.4 million in the first nine months of 2020.

Payoffs totaled $124.7 million and line utilization decreased $24.5 million during the first nine months of 2020.

While we have had success originating new loans this year, we have found that the pandemic has extended traditional timelines as loans move through the origination process.

During these unprecedented times, we are focused on maintaining relationships with our customers and bringing in new client relationships where prudent and possible.

During the first nine months of 2020, total liabilities increased by $247.2 million to $2,617.7 million.

Deposits increased $232.8 million in the first nine months of 2020, primarily driven by a combination of PPP loan proceeds and increased liquidity throughout the banking system as a result of depositors' higher level of savings during these uncertain economic times.

Non-interest bearing deposits increased $254.9 million in the first nine months of 2020 to $1,383.7 million, and represented 53.9% of total deposits at September 30, 2020, compared to 48.3% at December 31, 2019.

Liabilities as of September 30, 2020 included operating lease liabilities totaling $27.5 million, which increased $14.9 million in the first nine months of 2020 due to the extension of lease terms for our existing headquarters office and seven retail branches and a new lease agreement for one of our retail branches.

During the first three months of 2021, loans increased by $33.2 million and totaled $2,121.8 million at March 31, 2021, primarily due to SBA PPP loans which totaled $365.0 million at March 31, 2021, compared to $291.6 million at December 31, 2020.

New non-PPP related loan originations totaled $25.3 million in the first three months of 2021.

Payoffs totaled $34.6 million and credit line utilization decreased $27.9 million during the first three months of 2021.

During the first three months of 2021, total liabilities increased by $154.2 million to $2,707.8 million.

Deposits increased $152.0 million in the first three months of 2021, primarily driven by a combination of PPP loan proceeds and normal fluctuations in some of our larger commercial accounts.

Non-interest bearing deposits increased $90.6 million in the first three months of 2021 to $1,445.3 million, and represented 54.4% of total deposits at March 31, 2021, compared to 54.1% at December 31, 2020.

Liabilities as of March 31, 2021 included operating lease liabilities totaling $26.0 million, a decrease of 1.1 million from December 31,2020.

Capital Adequacy

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For all periods presented, the Bank’s ratios exceed the regulatory definition of “well capitalized” under the regulatory framework for prompt corrective action and Bancorp’s ratios exceed the required minimum ratios to be considered a well-capitalized bank holding company.

In addition, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action as of September 30, 2020.

There are no conditions or events since that

notification that Management believes have changed the Bank’s categories and we expect the Bank to remain well capitalized for prompt corrective action purposes.

In addition, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action as of March 31, 2021.

There are no conditions or events since that notification that management believes have changed the Bank’s categories and we expect the Bank to remain well capitalized for prompt corrective action purposes.

In August 2018, the Board of Governors of the Federal Reserve System changed the definition of a "Small Bank Holding Company" by increasing the asset threshold from $1.0 billion to $3.0 billion.

As a result, Bancorp was not subject to separate minimum capital requirements as of September 30, 2020 and December 31, 2019.

However, we disclosed comparative capital ratios for Bancorp, which would have exceeded well-capitalized levels had Bancorp been subject to the same minimum capital requirements in 2020 and 2019.

The Bancorp’s and Bank’s capital adequacy ratios as of September 30, 2020 and December 31, 2019 are presented in the following tables.

Bancorp's Tier 1 capital includes the subordinated debenture, which are not included at the Bank level.

As a result, Bancorp was not subject to separate minimum capital requirements as of December 31, 2020.

However, we disclosed comparative capital ratios for Bancorp, which would have exceeded well-capitalized levels had Bancorp been subject to the same minimum capital requirements in 2020.

The Bancorp’s and Bank’s capital adequacy ratios as of March 31, 2021 and December 31, 2020 are presented in the following tables.

As of December 31, 2020, Bancorp's Tier 1 capital included a subordinated debenture, which was not included at the Bank level.

On March 15, 2021, Bancorp redeemed in full our last subordinated debenture

due to NorCal Community Bancorp Trust II.

The redemption reduced Bancorp's total risk-based capital ratio by approximately 18 basis points.

Capital Ratios for Bancorp

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Actual Ratio Adequately Capitalized Threshold Ratio to be a Well Capitalized Bank Holding Company

September 30, 2020 Amount Ratio Amount Ratio Amount Ratio

March 31, 2021 Amount Ratio Amount Ratio Amount Ratio

Total Capital (to risk-weighted assets) $ 331,739 15.68 % ≥ $ 222,195 ≥ 10.50 % ≥ $ 211,614 ≥ 10.00 %

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Actual Ratio Adequately Capitalized Threshold Ratio to be Well Capitalized under Prompt Corrective Action Provisions

September 30, 2020 Amount Ratio Amount Ratio Amount Ratio

March 31, 2021 Amount Ratio Amount Ratio Amount Ratio

Total Capital (to risk-weighted assets) $ 312,649 14.78 % ≥ $ 222,160 ≥ 10.50 % ≥ $ 211,581 ≥ 10.00 %

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We accomplish this goal by maintaining an appropriate level of liquid assets and formal lines of credit with the FHLB, FRBSF and correspondent banks that enable us to borrow funds as discussed in Note 6 to the Consolidated Financial Statements in ITEM 1 of this report.

Our Asset Liability Management Committee ("ALCO"), which is comprised of independent Bank directors and the President and Chief Executive Officer, is responsible for approving and monitoring our liquidity targets and strategies.

Our Asset Liability Management Committee ("ALCO"), which is comprised of independent Bank directors and the Bank's Chief Executive Officer, is responsible for approving and monitoring our liquidity targets and strategies.

ALCO has adopted a contingency funding plan that provides early detection of potential liquidity issues in the market or the Bank and institutes prompt responses that may prevent or alleviate a potential liquidity crisis.

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We also have relationships with third-party deposit networks and can adjust the placement of our deposits via reciprocal or one-way sales as part of our cash management strategy.

We obtain funds from the collection of loan payments, deposit inflows, investment security maturities, paydowns and sales, federal funds purchases, FHLB advances, other borrowings, and cash flow from operations.

We obtain funds from the repayment and maturity of loans, deposit inflows, investment security maturities and paydowns, federal funds purchases, FHLB advances, other borrowings, and cash flow from operations.

Our primary uses of funds are the origination of loans, the purchase of investment securities, withdrawals of deposits, maturity of certificates of deposit, repayment of borrowings, and dividends to common stockholders.

T he most significant factor in our daily liquidity position has been the level of customer deposits.

The attraction and retention of new deposits depends upon the variety and effectiveness of our customer account products, service and convenience, and rates paid to customers, as well as our financial strength.

Deposit balances increased by $232.8 million in the first nine months of 2020 due to the increased level of liquidity in the financial markets.

In addition, there has been an influx of deposits throughout the banking system as a result of depositors' higher level of savings during the uncertain economic times.

Since March 2020, we have granted $388.5 in payment relief for 264 loans by allowing certain borrowers with hardship requests either full payment deferrals or interest-only payments.

As of October 19, 2020, 236 loans totaling $336.3 million have resumed or are scheduled to resume normal payments and eight loans totaling $5.0 million have paid off.

The Bank has substantial contingent and on-balance-sheet liquidity to support the loan payment relief programs, including unencumbered available-for-sale securities and cash.

At September 30, 2020, our cash and cash equivalents increased $30.2 million from December 31, 2019, primarily due to an increase in deposits of $232.8 million, as explained above.

Other significant sources of liquidity during the first nine months of 2020 included $121.7 million in paydowns, maturities and sales of investment securities and $31.3 million net cash provided by operating activities (including $10.7 million in processing fees received from the SBA for the origination of PPP loans as of September 30, 2020).

Uses of liquidity during the first nine months of 2020 included $269.4 million in loan originations, net of principal collected, $71.7 million in investment securities purchases, and $9.4 million in cash dividends paid on common stock to our shareholders.

T he most significant component of our daily liquidity position is customer deposits.

The attraction and retention of new deposits depends upon the variety and effectiveness of our customer account products, service and convenience, rates paid to customers, and our financial strength.

The cash cycles and unique business activities of some of our large commercial depositors may cause short-term fluctuations in their deposit balances held with us.

Since 2020, the banking industry experienced abundant liquidity driven by pandemic-related government programs such as PPP and stimulus checks as well as an elevated savings rate system-wide.

The most significant source of liquidity during 2021 was an increase in deposits of $152.0 million.

The increase was primarily due to increases in PPP borrower-related accounts and normal fluctuations in some of our large business accounts.

Proceeds from paydowns and maturities of securities totaled $24.7 million, and $12.4 million in net cash was provided by operating activities.

Significant uses of liquidity during 2021 were $193.4 million in investment securities purchased, $36.5 million in loan originations and advances, net of principal collected, $8.8 million in common stock repurchases, $4.1 million in repayment of a subordinated debenture, and $3.1 million in cash dividends paid on common stock to our shareholders.

Refer to the Consolidated Statement of Cash Flows in this Form 10-Q for additional information on our sources and uses of liquidity.

Management anticipates that our current strong liquidity position and core deposit base will provide adequate liquidity to fund our operations.

Undrawn credit commitments, as discussed in Note 8 to the Consolidated Financial Statements in this Form 10-Q, totaled $567.5 million at September 30, 2020.

These commitments, to the extent used, are expected to be funded primarily through the repayment of existing loans, deposit growth and liquid assets.

Management anticipates that our current strong liquidity position and core deposit base are adequate to fund our operations.

Undrawn credit commitments, as discussed in Note 8 to the Consolidated Financial Statements in this Form 10-Q, totaled $610.8 million at March 31, 2021.

We expect to fund these commitments to the extent utilized primarily through the repayment of existing loans, deposit growth and liquid assets.

Over the next twelve months, $69.9 million of time deposits will mature.

In addition, we waived the early withdrawal penalties for certificates of deposit when allowed by law in response to the pandemic, which might cause more depositors to withdraw time deposits during the uncertain economic environment.

Our emphasis on local deposits combined with our equity position is expected to provide a strong funding base.

We expect to replace these funds with new deposits.

Our emphasis on local deposits, combined with our liquid investment portfolio, provides a very stable funding base.

Since Bancorp is a holding company and does not conduct regular banking operations, its primary sources of liquidity are dividends from the Bank.

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The primary uses of funds for Bancorp are shareholder dividends and ordinary operating expenses.

Bancorp held $12.2 million of cash at September 30, 2020.

The cash level at Bancorp is deemed sufficient to cover Bancorp's operational needs and cash dividends to shareholders through mid-2021.

Management anticipates that the Bank will continue to have sufficient earnings to provide dividends to Bancorp to meet its funding requirements going forward.

Bancorp held $18.9 million of cash at March 31, 2021 which is deemed sufficient to cover Bancorp's operational needs, share repurchases, and cash dividends to shareholders through the end of 2021.

Management anticipates that there will be sufficient earnings at the Bank to provide dividends to Bancorp to meet its funding requirements for the foreseeable future.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis