Bank7 Corp. 10-Q

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this Quarterly Report and in our Annual Report on Form 10-K for the year ended December 31, 2023. Unless the context indicates otherwise, references in this management’s discussion and analysis to “we,” “our,” and “us,” refer to Bank7 Corp. and its consolidated subsidiaries. All references to “the Bank” refer to Bank7, our wholly owned subsidiary. General We are Bank7 Corp., a bank holding company headquartered in Oklahoma City, Oklahoma. Through our wholly-owned subsidiary, Bank7, we operate twelve locations in Oklahoma, the Dallas/Fort Worth, Texas metropolitan area and Kansas. We are focused on serving business owners and entrepreneurs by delivering fast, consistent and well-designed loan and deposit products to meet their financing needs. We intend to grow organically by selectively opening additional branches in our target markets and pursuing strategic acquisitions. As a bank holding company, we generate most of our revenue from interest income on loans and from short-term investments. The primary source of funding for our loans and short-term investments are deposits held by our subsidiary, Bank7. We measure our performance by our return on average equity, earnings per share, capital ratios, efficiency ratio (calculated by dividing noninterest expense by the sum of net interest income on a tax equivalent basis) and noninterest income. Q3 2024 Overview We reported total loans of $1.44 billion as of September 30, 2024, an increase of $44.8 million, or 3.2%, from September 30, 2023. Total deposits were $1.52 billion as of September 30, 2024, a decrease of $69.4 million, or 4.4%, as compared to September 30, 2023. Pre-tax net income was $15.5 million, an increase of $5.3 million, or 51.9%, for the three months ended September 30, 2024 as compared to pre-tax net income of $10.2 million for the same period in 2023. Pre-tax net income was $45.6 million, an increase of $10.0 million, or 28.0%, for the nine months ended September 30, 2024 as compared to pre-tax net income of $35.7 million for the same period in 2023. Return on average assets and return on average equity was 2.73% and 23.67%, respectively for the three months ended September 30, 2024, as compared to 1.82% and 18.89%, respectively, for the same period in 2023. Return on average assets and return on average equity was 2.68% and 24.79%, respectively for the nine months ended September 30, 2024, as compared to 2.19% and 23.29%, respectively, for the same period in 2023. Our efficiency ratio for the three months ended September 30, 2024 was 37.87% as compared to 33.61% for the same period in 2023. Our efficiency ratio for the nine months ended September 30, 2024 was 37.58% as compared to 35.05% for the same period in 2023. The provision for credit losses for the three months ended September 30, 2024 decreased $4.2 million, or 100.0%, as compared to the same period in 2023. The provision for credit losses for the nine months ended September 30, 2024 decreased $5.6 million or 100.0%, as compared to the same period in 2023. The provision expense for the nine months ended September 30, 2023 was related to loan growth in the first quarter of 2023, the impact of updated economic assumptions, and we had a single loan customer that filed for bankruptcy, and as a result, we recorded an additional allowance for credit losses of $3.0 million. 34 Table of Contents Results of Operations Three Months Ended September 30, 2024 and September 30, 2023 Net Interest Income and Net Interest Margin. The following table presents, for the periods indicated, information about: (i) weighted average balances, the total dollar amount of interest income from interest-earning assets, and the resultant average yields; (ii) average balances, the total dollar amount of interest expense on interest-bearing liabilities, and the resultant average rates; (iii) net interest income; and (iv) the net interest margin. Net Interest Margin For the Three Months Ended September 30, 2024 2023 Average Balance Interest Income/ Expense Average Yield/ Rate Average Balance Interest Income/ Expense Average Yield/ Rate (Dollars in thousands) Interest-Earning Assets: Short-term investments $ 191,583 $ 2,325 4.81 % $ 176,589 $ 2,062 4.63 % Debt securities, taxable 51,172 303 2.35 151,174 699 1.83 Debt securities, tax exempt (1) 16,889 69 1.62 19,430 81 1.65 Loans held for sale 250 - - 232 - - Total loans (2) 1,418,512 30,791 8.61 1,344,038 28,880 8.52 Total interest-earning assets 1,678,406 33,488 7.92 1,691,463 31,722 7.44 Noninterest-earning assets 40,002 23,407 Total assets $ 1,718,408 $ 1,714,870 Funding sources: Interest-bearing liabilities: Deposits: Transaction accounts $ 922,117 9,237 3.97 % $ 823,331 7,733 3.73 % Time deposits 253,640 3,034 4.75 292,235 3,243 4.40 Total interest-bearing deposits 1,175,757 12,271 4.14 1,115,566 10,976 3.90 Total interest-bearing liabilities $ 1,175,757 12,271 4.14 $ 1,115,566 10,976 3.90 Noninterest-bearing liabilities: Noninterest-bearing deposits $ 332,487 $ 422,691 Other noninterest-bearing liabilities 12,221 11,649 Total noninterest-bearing liabilities 344,708 434,340 Shareholders’ equity 197,943 164,964 Total liabilities and shareholders’ equity $ 1,718,408 $ 1,714,870 Net interest income $ 21,217 $ 20,746 Net interest spread 3.78 % 3.54 % Net interest margin 5.02 % 4.87 % (1) Taxable-equivalent yield of 2.13% as of September 30, 2024, applying a 24.0% effective tax rate (2) Average loan balances include monthly average nonaccrual loans of $7.4 million and $41.2 million as of September 30, 2024 and September 30, 2023, respectively, are included in loans. For the third quarter of 2024 compared to the third quarter of 2023: - Interest income on total loans totaled $30.8 million, an increase of $1.9 million or 6.6%, due to an increase in average loans of $74.5 million, or 5.5%, and increased loan yields as discussed below; - Yields on our interest-earning assets totaled 7.92%, an increase of 48 basis points which was attributable to higher loan yields of 9 basis points, an increase in yield on short term investments of 18 basis points, and an increase in yield on taxable debt securities of 52 basis points; and - Net interest margin for the third quarter of 2024 was 5.02% compared to 4.87% for the third quarter of 2023. 35 Table of Contents Net Interest Margin For the Nine Months Ended September 30, 2024 2023 Average Balance Interest Income/ Expense Average Yield/ Rate Average Balance Interest Income/ Expense Average Yield/ Rate (Dollars in thousands) Interest-Earning Assets: Short-term investments $ 180,426 $ 6,896 5.09 % $ 162,432 $ 5,668 4.67 % Debt securities, taxable 103,507 2,266 2.92 152,702 2,106 1.84 Debt securities, tax exempt (1) 17,468 214 1.63 19,828 253 1.71 Loans held for sale 281 - - 115 - - Total loans (2) 1,381,200 89,834 8.66 1,299,754 81,117 8.34 Total interest-earning assets 1,682,882 99,210 7.85 1,634,831 89,144 7.29 Noninterest-earning assets 39,499 22,560 Total assets $ 1,722,381 $ 1,657,391 Funding sources: Interest-bearing liabilities: Deposits: Transaction accounts $ 872,635 25,726 3.93 % $ 812,962 20,346 3.35 % Time deposits 255,348 9,026 4.71 257,418 7,548 3.92 Total interest-bearing deposits 1,127,983 34,752 4.10 1,070,380 27,894 3.48 Total interest-bearing liabilities 1,127,983 34,752 4.10 1,070,380 27,894 3.48 Noninterest-bearing liabilities: Noninterest-bearing deposits 395,822 420,356 Other noninterest-bearing liabilities 12,219 10,496 Total noninterest-bearing liabilities 408,041 430,852 Shareholders’ equity 186,357 156,159 Total liabilities and shareholders’ equity $ 1,722,381 $ 1,657,391 Net interest income $ 64,458 $ 61,250 Net interest spread 3.75 % 3.81 % Net interest margin 5.10 % 5.01 % (1) Taxable-equivalent yield of 2.15% as of September 30, 2024, applying a 24.2% effective tax rate (2) Average loan balances include monthly average nonaccrual loans of $13.9 million and $41.2 million as of September 30, 2024 and September 30, 2023, respectively, are included in loans. For the first nine months of 2024 compared to the same period in 2023: - Interest income on total loans totaled $89.8 million, an increase of $8.7 million or 10.7%, due to an increase in average loans of $81.4 million, or 6.3%, and increased loan yields as discussed below; - Yields on our interest-earning assets totaled 7.85%, an increase of 56 basis points which was attributable to higher loan yields of 32 basis points, an increase in yield on short term investments of 42 basis points, and an increase in yield on taxable debt securities of 108 basis points; and - Net interest margin for the first nine months of 2024 was 5.10% compared to 5.01% for the same period in 2023. - Cost of total interest-bearing deposits totaled 4.10%, an increase of 62 basis points which was attributable to higher interest rates on transaction accounts of 58 basis points and higher interest rates on time deposits accounts of 79 basis points. 36 Table of Contents Increases and decreases in interest income and interest expense result from changes in average balances, or volume, of interest-earning assets and interest-bearing liabilities, as well as changes in average interest rates. The following tables set forth the effects of changing rates and volumes on our net interest income during the period shown. Information is provided with respect to (i) effects on interest income attributable to changes in volume (change in volume multiplied by prior rate) and (ii) effects on interest income attributable to changes in rate (changes in rate multiplied by prior volume). Analysis of Changes in Interest Income and Expenses For the Three Months Ended September 30, 2024 vs 2023 Change due to: Volume (1) Rate (1) Interest Variance (Dollars in thousands) Increase (decrease) in interest income: Short-term investments $ 175 $ 88 $ 263 Debt securities (471 ) 63 (408 ) Total loans 1,595 316 1,911 Total increase (decrease) in interest income 1,299 467 1,766 Increase (decrease) in interest expense: Deposits: Transaction accounts 926 578 1,504 Time deposits (427 ) 218 (209 ) Total interest-bearing deposits 499 796 1,295 Total increase (decrease) in interest expense 499 796 1,295 Increase (Decrease) in net interest income $ 800 $ (329 ) $ 471 Analysis of Changes in Interest Income and Expenses For the Nine Months Ended September 30, 2024 vs 2023 Change due to: Volume (1) Rate (1) Interest Variance (Dollars in thousands) Increase (decrease) in interest income: Short-term investments $ 629 $ 599 $ 1,228 Debt securities (708 ) 829 121 Total loans 5,085 3,632 8,717 Total increase (decrease) in interest income 5,006 5,060 10,066 Increase (decrease) in interest expense: Deposits: Transaction accounts 1,497 3,883 5,380 Time deposits (61 ) 1,539 1,478 Total interest-bearing deposits 1,436 5,422 6,858 Total increase (decrease) in interest expense 1,436 5,422 6,858 Increase (Decrease) in net interest income $ 3,570 $ (362 ) $ 3,208 (1) Variances attributable to both volume and rate are allocated on a consistent basis between rate and volume based on the absolute value of the variances in each category. 37 Table of Contents Securities Our investment portfolio consists entirely of securities classified as available-for-sale. As a result, the carrying values of our investment securities are adjusted for unrealized gain or loss, and any gain or loss is reported on an after-tax basis as a component of other comprehensive income in shareholders’ equity. We evaluate our available-for-sale securities portfolio on a quarterly basis for potential credit-related losses. We assess potential credit losses by comparing the fair value of a debt security to its amortized cost basis. If the fair value of a debt security is greater than the amortized cost basis, no allowance for credit losses is recognized. If the fair value is less than the amortized cost basis, we review the factors to determine if the impairment is credit-related or noncredit-related. For debt securities we intend to sell or are more likely than not required to sell, before the recovery of their amortized cost basis, the difference between fair value and amortized cost is impaired and is recognized through earnings. For debt securities we do not intend to sell or are more likely than not required to sell, prior to expected recovery of amortized cost basis, the credit portion of the impairment is recognized through earnings, with a corresponding entry to an allowance for credit losses, and the noncredit portion is recognized through accumulated other comprehensive income. The following table summarizes the maturity distribution schedule with corresponding weighted average taxable equivalent yields of the debt securities portfolio at September 30, 2024. The following table presents securities at their expected maturities, which may differ from contractual maturities. The Company manages its debt securities portfolio for liquidity, as a tool to execute its asset/liability management strategy, and for pledging requirements for public funds: As of September 30, 2024 After One Year But After Five Years But Within One Year Within Five Years Within Ten Years After Ten Years Total Amount Yield * Amount Yield * Amount Yield * Amount Yield * Amount Yield * Available-for-sale (Dollars in thousands) U.S. Federal agencies $ - 0.00 % $ 72 2.93 % $ - 0.00 % $ - 0.00 % $ 72 2.93 % Mortgage-backed securities 2,608 1.30 8,203 1.37 1,473 1.40 20,552 1.68 32,836 1.57 State and political subdivisions 3,929 0.94 11,940 1.53 6,286 1.66 - - 22,155 1.47 U.S. Treasuries - - 2,851 1.04 2,623 1.12 - - 5,474 1.08 Corporate debt securities - - - - 4,623 3.36 - - 4,623 3.36 Total $ 6,537 1.08 % $ 23,066 1.41 % $ 15,005 2.09 % $ 20,552 1.68 % $ 65,160 1.63 % Percentage of total 10.03 % 35.40 % 23.03 % 31.54 % 100.00 % *Yield is on taxable-equivalent basis using 21% tax rate Provision for Credit Losses Credit risk is inherent in the business of making loans. We establish an Allowance for credit losses (“Allowance”) through charges to earnings, which are shown in the statements of comprehensive income as the provision for credit losses. The provision for credit losses and level of Allowance for each period are dependent upon many factors, including loan growth, net charge-offs, changes in the composition of the loan portfolio, delinquencies, management’s assessment of the quality of the loan portfolio, and the valuation of problems and the general economic conditions in our market areas. For the three months ended September 30, 2024 compared to the three months ended September 30, 2023: - The provision for credit losses decreased from $4.2 million to $0; and - The allowance as a percentage of gross loans decreased by 24 basis points to 1.24%. For the nine months ended September 30, 2024 compared to the nine months ended September 30, 2023: - The provision for credit losses decreased from $5.6 million to $0; and - The allowance as a percentage of gross loans decreased by 24 basis points to 1.24%. 38 Table of Contents Noninterest Income The following table sets forth the major components of our noninterest income for the three months ended September 30, 2024 and 2023: For the Three Months Ended September 30, 2024 2023 $ Increase % Increase (Decrease) (Decrease) (Dollars in thousands) Noninterest income: Mortgage lending income $ 103 $ 6 $ 97 1616.67 % Loss on sales of available-for-sale debt securities (4 ) (7 ) 3 -42.86 % Service charges on deposit accounts 233 213 20 9.39 % Other income and fees 3,345 795 2,550 320.75 % Total noninterest income $ 3,677 $ 1,007 $ 2,670 265.14 % Noninterest income for the three months ended September 30, 2024 was $3.7 million compared to $1.0 million for the same period in 2023, an increase of $2.7 million, or 265.1%. The increase was primarily attributable to income related to the operation of oil and gas assets acquired during the fourth quarter of 2023, see Note 2 of the financial statements. The following table sets forth the major components of our noninterest income for the nine months ended September 30, 2024 and 2023: For the Nine Months Ended September 30, 2024 2023 $ Increase % Increase (Decrease) (Decrease) (Dollars in thousands) Noninterest income: Mortgage lending income $ 233 $ 172 $ 61 35.47 % Loss on sales of available-for-sale debt securities (4 ) (15 ) 11 -73.33 % Service charges on deposit accounts 742 647 95 14.68 % Other income and fees 7,881 1,668 6,213 372.48 % Total noninterest income $ 8,852 $ 2,472 $ 6,380 258.09 % Noninterest income for the nine months ended September 30, 2024 was $8.9 million compared to $2.5 million for the same period in 2023, an increase of $6.4 million, or 258.1%. The increase was primarily attributable to income related to the operation of oil and gas assets acquired during the fourth quarter of 2023, see Note 2 of the financial statements. 39 Table of Contents Noninterest Expense The following table sets forth the major components of our noninterest expense for the three months ended September 30, 2024 and 2023: For the Three Months Ended September 30, 2024 2023 $ Increase % Increase (Decrease) (Decrease) (Dollars in thousands) Noninterest expense: Salaries and employee benefits $ 5,333 $ 4,910 $ 423 8.62 % Furniture and equipment 258 254 4 1.57 Occupancy 711 662 49 7.40 Data and item processing 498 424 74 17.45 Accounting, marketing, and legal fees 218 14 204 1457.14 Regulatory assessments 261 279 (18 ) -6.45 Advertising and public relations 129 74 55 74.32 Travel, lodging and entertainment 87 85 2 2.35 Other expense 1,903 688 1,215 176.60 Total noninterest expense $ 9,398 $ 7,390 $ 2,008 27.17 % Noninterest expense for the three months ended September 30, 2024 was $9.4 million compared to $7.4 million for the same period in 2023, an increase of $2.0 million, or 27.2%. The increase was primarily attributable to expense related to the operation of oil and gas assets acquired during the fourth quarter of 2023, see Note 2 of the financial statements. The following table sets forth the major components of our noninterest expense for the nine months ended September 30, 2024 and 2023: For the Nine Months Ended September 30, 2024 2023 $ Increase % Increase (Decrease) (Decrease) (Dollars in thousands) Noninterest expense: Salaries and employee benefits $ 15,740 $ 14,299 $ 1,441 10.08 % Furniture and equipment 813 755 58 7.68 Occupancy 1,985 1,980 5 0.25 Data and item processing 1,437 1,280 157 12.27 Accounting, marketing, and legal fees 582 491 91 18.53 Regulatory assessments 984 1,013 (29 ) -2.86 Advertising and public relations 358 273 85 31.14 Travel, lodging and entertainment 270 255 15 5.88 Other expense 5,507 2,068 3,439 166.30 Total noninterest expense $ 27,676 $ 22,414 $ 5,262 23.48 % Noninterest expense for the nine months ended September 30, 2024 was $27.7 million compared to $22.4 million for the same period in 2023, an increase of $5.3 million, or 23.5%. The increase was primarily attributable to expense related to the operation of oil and gas assets acquired during the fourth quarter of 2023, see Note 2 of the financial statements. 40 Table of Contents Financial Condition The following discussion of our financial condition compares September 30, 2024 and December 31, 2023. Total Assets Total assets decreased $31.2 million, or 1.8%, to $1.74 billion as of September 30, 2024, compared to $1.77 billion as of December 31, 2023. Loan Portfolio The following table presents the balance and associated percentage of each major category in our loan portfolio as of September 30, 2024 and December 31, 2023: As of September 30, As of December 31, 2024 2023 Amount % of Total Amount % of Total (Dollars in thousands) Construction & development $ 157,374 11.0 % $ 137,206 10.1 % 1-4 family real estate 115,497 8.0 % 100,576 7.4 % Commercial real estate - other 536,070 37.2 % 518,622 38.0 % Total commercial real estate 808,941 56.2 % 756,404 55.5 % Commercial & industrial 547,430 38.0 % 526,185 38.5 % Agricultural 69,171 4.8 % 66,495 4.9 % Consumer 14,308 1.0 % 14,517 1.1 % Gross loans 1,439,850 100.0 % 1,363,601 100.0 % Less: unearned income, net (2,306 ) (2,762 ) Total Loans, net of unearned income 1,437,544 1,360,839 Less: Allowance for credit losses (17,873 ) (19,691 ) Net loans $ 1,419,671 $ 1,341,148 Our loans represent the largest portion of our earning assets. The quality and diversification of the loan portfolio is an important consideration when reviewing our financial condition. As of September 30, 2024, and December 31, 2023, our gross loans were $1.44 billion and $1.36 billion, respectively. We have established internal concentration limits in the loan portfolio for Commercial Real Estate (CRE) loans, hospitality loans, energy loans, and construction loans, among others. All loan types are within our established limits. We use underwriting guidelines to assess each borrower’s historical cash flow to determine debt service capabilities, and we further stress test the customer’s debt service capability under higher interest rate scenarios as well as other underlying macro-economic factors. Financial and performance covenants are used in commercial lending to allow us to react to a borrower’s deteriorating financial condition, should that occur. 41 Table of Contents The following tables show the contractual maturities of our gross loans as of the periods below: As of September 30, 2024 Due after One Year Due after Five Years Due in One Year or Less Through Five Years Through Fifteen Years Due after Fifteen Years Fixed Adjustable Fixed Adjustable Fixed Adjustable Fixed Adjustable Total Rate Rate Rate Rate Rate Rate Rate Rate (Dollars in thousands) Construction & development $ 12,992 $ 67,816 $ 1,864 $ 74,015 $ - $ 576 $ 111 $ - $ 157,374 1-4 family real estate 19,439 17,637 37,587 30,194 990 4,989 4,661 - 115,497 Commercial real estate - other 42,301 78,457 115,304 270,925 157 19,640 9,286 - 536,070 Total commercial real estate 74,732 163,910 154,755 375,134 1,147 25,205 14,058 - 808,941 Commercial & industrial 36,462 294,857 20,048 177,463 8,559 9,437 604 - 547,430 Agricultural 20,900 4,028 14,954 26,404 - 1,026 1,859 - 69,171 Consumer 1,739 5 5,593 178 509 3,521 2,763 - 14,308 Gross loans $ 133,833 $ 462,800 $ 195,350 $ 579,179 $ 10,215 $ 39,189 $ 19,284 $ - $ 1,439,850 As of December 31, 2023 Due after One Year Due after Five Years Due in One Year or Less Through Five Years Through Fifteen Years Due after Fifteen Years Fixed Adjustable Fixed Adjustable Fixed Adjustable Fixed Adjustable Total Rate Rate Rate Rate Rate Rate Rate Rate (Dollars in thousands) Construction & development $ 11,431 $ 70,040 $ 8,970 $ 44,935 $ - $ 1,438 $ 392 $ - $ 137,206 1-4 family real estate 13,628 13,015 41,602 21,451 26 5,443 5,411 - 100,576 Commercial real estate - other 50,251 65,120 152,250 219,260 129 21,283 10,329 - 518,622 Total commerical real estate 75,310 148,175 202,822 285,646 155 28,164 16,132 - 756,404 Commercial & industrial 20,389 263,564 41,520 186,776 3,276 10,041 619 - 526,185 Agricultural 13,250 22,615 13,935 13,032 - 810 2,853 - 66,495 Consumer 2,170 14 5,490 121 595 3,604 2,523 - 14,517 Gross loans $ 111,119 $ 434,368 $ 263,767 $ 485,575 $ 4,026 $ 42,619 $ 22,127 $ - $ 1,363,601 Allowance for Credit and Lease Losses The allowance is based on management’s estimate of potential losses inherent in the loan portfolio. In the opinion of management, the allowance is adequate to absorb estimated losses in the portfolio as of each balance sheet date. While management uses available information to analyze losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance. In analyzing the adequacy of the allowance, a comprehensive loan grading system to determine risk potential in loans is utilized together with the results of internal credit reviews. To determine the adequacy of the allowance, the loan portfolio is broken into segments based on loan type. Historical loss experience factors by segment, adjusted for changes in trends and conditions, are used to determine an indicated allowance for each portfolio segment. These factors are evaluated and updated based on the composition of the specific loan segment. Other considerations include volumes and trends of delinquencies, nonaccrual loans, levels of bankruptcies, criticized and classified loan trends, expected losses on real estate secured loans, new credit products and policies, economic conditions, concentrations of credit risk and the experience and abilities of our lending personnel. The allowance was $17.9 million at September 30, 2024, compared to $19.7 million at December 31, 2023. 42 Table of Contents The following table provides an analysis of the activity in our allowance for the periods indicated: For the Nine Months Ended September 30, 2024 2023 (Dollars in thousands) Balance at beginning of the period $ 19,691 $ 14,734 Impact of CECL adoption - 250 Provision for credit losses for loans - 5,681 Charge-offs: Construction & development - - 1-4 family real estate - - Commercial real estate - other - - Commercial & industrial (2,000 ) - Agricultural - (7 ) Consumer - (16 ) Total charge-offs (2,000 ) (23 ) Recoveries: Construction & development - - 1-4 family real estate - - Commercial real estate - other - - Commercial & industrial 176 - Agricultural 6 2 Consumer - 5 Total recoveries 182 7 Net recoveries (charge-offs) (1,818 ) (16 ) Balance at end of the period $ 17,873 $ 20,649 Net recoveries (charge-offs) to average loans -0.18 % 0.00 % While the entire allowance is available to absorb losses from any and all loans, the following table represents management’s allocation of the allowance by loan category, and the percentage of allowance in each category, for the periods indicated: As of September 30, As of December 31, 2024 2023 Amount Percent Amount Percent (Dollars in thousands) Construction & development $ 1,652 9.2 % $ 1,417 7.2 % 1-4 family real estate 1,378 7.7 % 1,271 6.5 % Commercial real estate - other 6,848 38.3 % 6,889 35.0 % Commercial & industrial 7,084 39.7 % 9,237 46.8 % Agricultural 679 3.8 % 628 3.2 % Consumer 232 1.3 % 249 1.3 % Total $ 17,873 100.0 % $ 19,691 100.0 % 43 Table of Contents Nonperforming Assets Loans are considered delinquent when principal or interest payments are past due 30 days or more. Delinquent loans may remain on accrual status between 30 days and 90 days past due. Loans on which the accrual of interest has been discontinued are designated as nonaccrual loans. Typically, the accrual of interest on loans is discontinued when principal or interest payments are past due 90 days or when, in the opinion of management, there is a reasonable doubt as to collectability of the obligation. When loans are placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Income on a nonaccrual loan is subsequently recognized only to the extent that cash is received and the loan’s principal balance is deemed collectible. Loans are restored to accrual status when loans become well-secured and management believes full collectability of principal and interest is probable. Real estate we acquire as a result of foreclosure or by deed-in-lieu of foreclosure is classified as other real estate owned, or OREO, until sold, and is initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. The following table presents information regarding nonperforming assets as of the dates indicated. As of September 30, 2024 As of December 31, 2023 (Dollars in thousands) Nonaccrual loans (1) $ 6,952 $ 18,941 Accruing loans 90 or more days past due 779 10,026 Total nonperforming assets $ 7,731 $ 28,967 Ratio of nonperforming loans to total loans 0.54 % 2.13 % Ratio of nonaccrual loans to total loans 0.48 % 1.39 % Ratio of allowance for credit losses to total loans 1.24 % 1.45 % Ratio of allowance for credit losses to nonaccrual loans 257.09 % 103.96 % Ratio of nonperforming assets to total assets 0.44 % 1.64 % (1) Included in the nonaccrual loans balance are $0 and $10.12 million of loans modified to borrows experiencing financial difficulty as of September 30, 2024 and December 31, 2023, respectively. See Note 6 of the financial statements. The following tables present an aging analysis of loans as of the dates indicated. As of September 30, 2024 Loans 30-59 days past due Loans 60-89 days past due Loans 90+ days past due Loans 90+ days past due and accruing Total past due loans Current Gross loans (Dollars in thousands) Construction & development $ - $ - $ - $ - $ - $ 157,374 $ 157,374 1-4 family real estate - - - - - 115,497 115,497 Commercial real estate - other 1,938 4,476 721 721 7,135 528,935 536,070 Commercial & industrial 9 - 28 - 37 547,393 547,430 Agricultural - - - - - 69,171 69,171 Consumer 46 - 58 58 104 14,204 14,308 Total $ 1,993 $ 4,476 $ 807 $ 779 $ 7,276 $ 1,432,574 $ 1,439,850 As of December 31, 2023 Loans 30-59 days past due Loans 60-89 days past due Loans 90+ days past due Loans 90+ days past due and accruing Total Past Due Loans Current Gross loans (Dollars in thousands) Construction & development $ - $ - $ - $ - $ - $ 137,206 $ 137,206 1-4 family real estate - - - - - 100,576 100,576 Commercial real estate - other - - - - - 518,622 518,622 Commercial & industrial 472 10,969 9,946 9,946 21,387 504,798 526,185 Agricultural - - - - - 66,495 66,495 Consumer - 27 80 80 107 14,410 14,517 Total $ 472 $ 10,996 $ 10,026 $ 10,026 $ 21,494 $ 1,342,107 $ 1,363,601 44 Table of Contents In addition to the past due and nonaccrual criteria, we also evaluate loans according to our internal risk grading system. Loans are segregated between pass, watch, special mention, and substandard categories. The definitions of those categories are as follows: Pass : These loans generally conform to Bank policies, are characterized by policy-conforming advance rates on collateral, and have well-defined repayment sources. In addition, these credits are extended to borrowers and guarantors with a strong balance sheet and either substantial liquidity or a reliable income history. Watch : These loans are still considered “Pass” credits; however, various factors such as industry stress, material changes in cash flow or financial conditions, or deficiencies in loan documentation, or other risk issues determined by the lending officer, Commercial Loan Committee or Credit Quality Committee warrant a heightened sense and frequency of monitoring. Special mention : These loans have observable weaknesses or evidence of imprudent handling or structural issues. The weaknesses require close attention, and the remediation of those weaknesses is necessary. No risk of probable loss exists. Credits in this category are expected to quickly migrate to “Watch” or “Substandard” as this is viewed as a transitory loan grade. Substandard : These loans are not adequately protected by the sound worth and debt service capacity of the borrower, but may be well-secured. The loans have defined weaknesses relative to cash flow, collateral, financial condition or other factors that might jeopardize repayment of all of the principal and interest on a timely basis. There is the possibility that a future loss will occur if weaknesses are not remediated. Outstanding loan balances categorized by internal risk grades as of the periods indicated are summarized as follows: As of September 30, 2024 Pass Watch Special mention Substandard Total (Dollars in thousands) Construction & development $ 155,552 $ - $ 1,822 $ - $ 157,374 1-4 family real estate 115,497 - - - 115,497 Commercial real estate - other 523,668 8,542 721 3,139 536,070 Commercial & industrial 536,924 3,234 1,513 5,759 547,430 Agricultural 69,171 - - - 69,171 Consumer 14,226 - - 82 14,308 Total $ 1,415,038 $ 11,776 $ 4,056 $ 8,980 $ 1,439,850 As of December 31, 2023 Pass Watch Special mention Substandard Total (Dollars in thousands) Construction & development $ 136,417 $ - $ 789 $ - $ 137,206 1-4 family real estate 100,576 - - - 100,576 Commercial real estate - other 502,795 - 15,701 126 518,622 Commercial & industrial 485,433 4,094 5,767 30,891 526,185 Agricultural 66,495 - - - 66,495 Consumer 14,437 - - 80 14,517 Total $ 1,306,153 $ 4,094 $ 22,257 $ 31,097 $ 1,363,601 45 Table of Contents Deposits We gather deposits primarily through our twelve branch locations and online through our website. We offer a variety of deposit products including demand deposit accounts and interest-bearing products, such as savings accounts and certificates of deposit. We put continued effort into gathering noninterest-bearing demand deposit accounts through loan production cross-selling, customer referrals, marketing efforts and various involvement with community networks. Some of our interest-bearing deposits are obtained through brokered transactions. We participate in the CDARS and ICS programs, where customer funds are placed into multiple deposit accounts, each in an amount under the standard FDIC insurance maximum of $250,000, and placed at a network of banks across the United States. Total deposits as of September 30, 2024 and December 31, 2023 were $1.52 billion and $1.59 billion, respectively. Uninsured deposits are defined as the portion of deposit accounts in U.S. offices that exceed the FDIC insurance limit and amounts in any other uninsured investment or deposit account that are classified as deposits and are not subject to any federal or state deposit insurance regimes. Total uninsured deposits were $344.6 million and $448.7 million at September 30, 2024 and December 31, 2023, respectively, as calculated per regulatory guidance. This was approximately 22.6% and 28.2% of deposits at September 30, 2024 and December 31, 2023, respectively. The following table sets forth deposit balances by certain categories as of the dates indicated and the percentage of each deposit category to total deposits. As of September 30, As of December 31, 2024 2023 Amount Percentage of Total Amount Percentage of Total (Dollars in thousands) Noninterest-bearing demand $ 322,480 21.2 % $ 482,349 30.4 % Interest-bearing transaction deposits 830,558 54.4 % 702,150 44.1 % Savings deposits 108,258 7.1 % 150,116 9.4 % Time deposits (less than $250,000) 168,676 11.1 % 168,690 10.6 % Time deposits ($250,000 or more) 94,244 6.2 % 88,086 5.5 % Total interest-bearing deposits 1,201,736 78.8 % 1,109,042 69.6 % Total deposits $ 1,524,216 100.0 % $ 1,591,391 100.0 % The following tables set forth the maturity of time deposits as of the dates indicated below: As of September 30, 2024 Maturity Within: Three Months Three to Six Months Six to 12 Months After 12 Months Total (Dollars in thousands) Time deposits (less than $250,000) $ 67,015 $ 62,665 $ 33,501 $ 5,495 $ 168,676 Time deposits ($250,000 or more) 29,338 46,562 16,154 2,190 94,244 Total time deposits $ 96,353 $ 109,227 $ 49,655 $ 7,685 $ 262,920 As of December 31, 2023 Maturity Within: Three Months Three to Six Months Six to 12 Months After 12 Months Total (Dollars in thousands) Time deposits (less than $250,000) $ 52,423 $ 55,570 $ 50,047 $ 10,650 $ 168,690 Time deposits ($250,000 or more) 30,807 18,472 17,492 21,315 88,086 Total time deposits $ 83,230 $ 74,042 $ 67,539 $ 31,965 $ 256,776 46 Table of Contents Liquidity Liquidity refers to our ability to meet the cash flow requirements of depositors and borrowers, while at the same time meeting our operating, capital and strategic cash flow needs, all at a reasonable cost. We continuously monitor our liquidity position to ensure that assets and liabilities are managed in a manner that will meet all short-term and long-term cash requirements. We manage our liquidity position to meet the daily cash flow needs of customers, while maintaining an appropriate balance between assets and liabilities to meet the return on investment objectives of our shareholders. Our liquidity position is supported by the management of liquid assets and access to alternative sources of funds. Our liquid assets include cash, interest-bearing deposits in correspondent banks and fed funds sold. Other available sources of liquidity include wholesale deposits and borrowings from correspondent banks and FHLB advances. Our short-term and long-term liquidity requirements are primarily met through cash flow from operations, redeployment of prepaying and maturing balances in our loan portfolios, and increases in customer deposits. Other alternative sources of funds will supplement these primary sources to the extent necessary to meet additional liquidity requirements on either a short-term or long-term basis. As of September 30, 2024, we had no unsecured fed funds lines with correspondent depository institutions, with no corresponding amounts advanced. In addition, based on the values of loans pledged as collateral, we had borrowing availability with the FHLB of $192.0 million as of September 30, 2024 and $159.2 million as of December 31, 2023, and we had access to approximately $367.7 million in liquidity with the Federal Reserve Bank as of September 30, 2024 and $0 as of December 31, 2023. Capital Requirements The Bank is subject to various regulatory capital requirements administered by the federal and state banking regulators. Failure to meet regulatory capital requirements may result in certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for “prompt corrective action” (described below), We must meet specific capital guidelines that involve quantitative measures of our assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting policies. The capital amounts and classifications are subject to qualitative judgments by the federal banking regulators about components, risk weightings and other factors. Qualitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios of Common Equity Tier 1 (“CET1”) capital, Tier 1 capital, total capital to risk-weighted assets, and Tier 1 capital to average consolidated assets, referred to as the “leverage ratio.” As of September 30, 2024, the Bank was in compliance with all applicable regulatory requirements and categorized as “well-capitalized” under the prompt corrective action frame work. There have been no conditions or events since September 30, 2024 that management believes would change this classification. The table below presents our applicable capital requirements, as well as our capital ratios as of September 30, 2024 and December 31, 2023. The Company exceeded all regulatory capital requirements and the Bank was considered to be “well-capitalized” as of the dates reflected in the tables below. Basel III Capital Rules Under the Basel III Capital Rules, in order to avoid limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers, a banking organization must hold a capital conservation buffer composed of CET1 capital above its minimum risk-based capital requirements. As of September 30, 2024, the Company and the Bank met all capital adequacy requirements under the Basel III Capital Rules. 47 Table of Contents Actual With Capital Conservation Buffer Minimum to be “Well- Capitalized” Under Prompt Corrective Action Amount Ratio Amount Ratio Amount Ratio (Dollars in thousands) As of September 30, 2024 Total capital (to risk-weighted assets) Company $ 217,253 14.11 % $ 161,626 10.50 % N/A N/A Bank 217,213 14.12 % 161,520 10.50 % $ 153,828 10.00 % Tier 1 capital (to risk-weighted assets) Company 198,916 12.92 % 130,840 8.50 % N/A N/A Bank 198,876 12.93 % 130,754 8.50 % 123,063 8.00 % CET 1 capital (to risk-weighted assets) Company 198,916 12.92 % 107,751 7.00 % N/A N/A Bank 198,876 12.93 % 107,680 7.00 % 99,988 6.50 % Tier 1 capital (to average assets) Company 198,916 11.64 % N/A N/A N/A N/A Bank 198,876 11.64 % N/A N/A 85,452 5.00 % Actual With Capital Conservation Buffer Minimum to be “Well- Capitalized” Under Prompt Corrective Action Amount Ratio Amount Ratio Amount Ratio (Dollars in thousands) As of December 31, 2023 Total capital (to risk-weighted assets) Company $ 185,171 12.74 % $ 152,579 10.50 % N/A N/A Bank 185,118 12.75 % 152,472 10.50 % $ 145,211 10.00 % Tier 1 capital (to risk-weighted assets) Company 166,982 11.49 % 123,516 8.50 % N/A N/A Bank 166,942 11.50 % 123,429 8.50 % 116,169 8.00 % CET 1 capital (to risk-weighted assets) Company 166,982 11.49 % 101,719 7.00 % N/A N/A Bank 166,942 11.50 % 101,648 7.00 % 94,387 6.50 % Tier 1 capital (to average assets) Company 166,982 9.50 % N/A N/A N/A N/A Bank 166,942 9.50 % N/A N/A 87,897 5.00 % Shareholders’ equity provides a source of permanent funding, allows for future growth and provides a cushion to withstand unforeseen adverse developments. Total shareholders’ equity increased $33.8 million as of September 30, 2024 to $204.2 million, compared to $170.3 million as of December 31, 2023. 48 Table of Contents Contractual Obligations The following tables contain supplemental information regarding our total contractual obligations as of September 30, 2024, and December 31, 2023: Payments Due as of September 30, 2024 Within One Year One to Three Years Three to Five Years After Five Years Total (Dollars in thousands) Deposits without a stated maturity $ 1,261,296 $ - $ - $ - $ 1,261,296 Time deposits 255,235 6,771 914 - 262,920 Operating lease commitments 658 627 308 435 2,028 Total contractual obligations $ 1,517,189 $ 7,398 $ 1,222 $ 435 $ 1,526,244 Payments Due as of December 31, 2023 Within One Year One to Three Years Three to Five Years After Five Years Total (Dollars in thousands) Deposits without a stated maturity $ 1,334,615 $ - $ - $ - $ 1,334,615 Time deposits 224,811 31,345 620 - 256,776 Operating lease commitments 553 627 308 850 2,338 Total contractual obligations $ 1,559,979 $ 31,972 $ 928 $ 850 $ 1,593,729 We believe that we will be able to meet our contractual obligations as they come due through the maintenance of adequate cash levels. We expect to maintain adequate cash levels through profitability, loan repayment and maturity activity and continued deposit gathering activities. We have in place various borrowing mechanisms for both short-term and long-term liquidity needs. Off-Balance Sheet Arrangements We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheet. The contractual or notional amounts of those instruments reflect the extent of involvement we have in particular classes of financial instruments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements. We evaluate each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if we deemed necessary upon extension of credit, is based on management’s credit evaluation of the counterparty. The Company also estimates a reserve for potential losses associated with off-balance sheet commitments and letters of credit. It is included in other liabilities in the Company’s consolidated statements of condition, with any related provisions to the reserve included in non-interest expense in the consolidated statement of income. In determining the reserve for unfunded lending commitments, a process similar to the one used for the allowance is employed. Based on historical experience, loss factors, adjusted for expected funding, are applied to the Company’s off-balance sheet commitments and letters of credit to estimate the potential for losses. Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of the customer to a third party. They are intended to be disbursed, subject to certain conditions, upon request of the borrower. The following table summarizes commitments as of the dates presented. September 30, December 31, 2024 2023 (Dollars in thousands) Commitments to extend credit $ 308,931 $ 256,888 Standby letters of credit 11,315 4,247 Total $ 320,246 $ 261,135 49 Table of Contents Critical Accounting Policies and Estimates Our accounting and reporting policies conform to GAAP and conform to general practices within the industry in which we operate. To prepare financial statements in conformity with GAAP, management makes estimates, assumptions and judgments based on available information. These estimates, assumptions and judgments affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the financial statements and, as this information changes, actual results could differ from the estimates, assumptions and judgments reflected in the financial statement. In particular, management has identified several accounting policies that, due to the estimates, assumptions and judgments inherent in those policies, are critical in understanding our financial statements. The following is a discussion of the critical accounting policies and significant estimates that we believe require us to make the most complex or subjective decisions or assessments. Allowance for Credit Losses The allowance is based on management’s estimate of probable losses inherent in the loan portfolio. In the opinion of management, the allowance is adequate to absorb estimated losses in the portfolio as of each balance sheet date. While management uses available information to analyze losses on loans, future additions to the allowance may be necessary based on changes in economic conditions and changes in the composition of the loan portfolio. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance. In analyzing the adequacy of the allowance, a comprehensive loan grading system to determine risk potential in loans is utilized together with the results of internal credit reviews. To determine the adequacy of the allowance, the loan portfolio is broken into pools based on loan type and risk characteristics. Historical loss experience factors by pool, adjusted for changes in trends and conditions, are used to determine an indicated allowance for each portfolio pool. These factors are evaluated and updated based on the composition of the specific loan pool. Other considerations include volumes and trends of delinquencies, nonaccrual loans, levels of bankruptcies, criticized and classified loan trends, expected losses on real estate secured loans, new credit products and policies, economic conditions, concentrations of credit risk and the experience and abilities of our lending personnel. In addition to the pool evaluations, classified loans with a balance of $250,000 or more are individually evaluated based on facts and circumstances of the loan to determine if a specific allowance amount may be necessary. Specific allowances may also be established for loans whose outstanding balances are below the $250,000 threshold when it is determined that the risk associated with the loan differs significantly from the risk factor amounts established for its loan pool. 50 Table of Contents Goodwill and Intangibles Intangible assets totaled $907,000 and goodwill, net of accumulated amortization, totaled $8.5 million as of September 30, 2024, compared to intangible assets of $1.0 million and goodwill of $8.5 million as of December 31, 2023. Goodwill resulting from a business combination represents the excess of the fair value of the consideration transferred over the fair value of the net assets acquired and liabilities assumed as of the acquisition date. Goodwill is tested annually for impairment or more frequently if other impairment indicators are present. If the implied fair value of goodwill is lower than its carrying amount, a goodwill impairment is indicated and goodwill is written down to its implied fair value. Subsequent increases in goodwill value are not recognized in the accompanying consolidated financial statements. Other intangible assets consist of core deposit intangible assets and are amortized on a straight-line basis based on an estimated useful life of 10 years. Such assets are periodically evaluated as to the recoverability of their carrying values. Income Taxes We file a consolidated income tax return. Deferred taxes are recognized under the balance sheet method based upon the future tax consequences of temporary differences between the carrying amounts and tax basis of assets and liabilities, using the tax rates expected to apply to taxable income in the periods when the related temporary differences are expected to be realized. The amount of accrued current and deferred income taxes is based on estimates of taxes due or receivable from taxing authorities either currently or in the future. Changes in these accruals are reported as tax expense, and involve estimates of the various components included in determining taxable income, tax credits, other taxes and temporary differences. Changes periodically occur in the estimates due to changes in tax rates, tax laws and regulations and implementation of new tax planning strategies. The process of determining the accruals for income taxes necessarily involves the exercise of considerable judgment and consideration of numerous subjective factors. Management performs an analysis of our tax positions annually and believes it is more likely than not that all of its tax positions will be utilized in future years. Fair Value of Financial Instruments ASC Topic 820, Fair Value Measurement, defines fair value as the price that would be received to sell a financial asset or paid to transfer a financial liability in an orderly transaction between market participants at the measurement date. The degree of management judgment involved in determining the fair value of assets and liabilities is dependent upon the availability of quoted market prices or observable market parameters. For financial instruments that trade actively and have quoted market prices or observable market parameters, there is minimal subjectivity involved in measuring fair value. When observable market prices and parameters are not available, management judgment is necessary to estimate fair value. In addition, changes in market conditions may reduce the availability of quoted prices or the observable date. Debt securities that are being held for indefinite periods of time and are not intended to sell, are classified as available for sale and are stated at estimated fair value. Unrealized gains or losses on debt securities available for sale are reported as a component of stockholders’ equity and comprehensive income, net of income tax. The Company reviews its portfolio of debt securities in an unrealized loss position at least quarterly. The Company first assesses whether it intends to sell, or it is more-likely-than-not that it will be required to sell, the securities before recovery of the amortized cost basis. If either of these criteria is met, the securities amortized cost basis is written down to fair value as a current period expense. If either of the above criteria is not met, the Company evaluates whether the decline in fair value is the result of credit losses or other factors. In making this assessment, the Company considers, among other things, the period of time the security has been in an unrealized loss position, and performance of any underlying collateral and adverse conditions specifically related to the security. The estimates of fair values of debt securities and other financial instruments are based on a variety of factors. In some cases, fair values represent quoted market prices for identical or comparable instruments. In other cases, fair values have been estimated based on assumptions concerning the amount and timing of estimated future cash flows and assumed discount rates reflecting varying degrees of risk. Accordingly, the fair values may not represent actual values of the financial instruments that could have been realized as of year-end or that will be realized in the future. 51 Table of Contents