Item 1. Business
ITEM 1. BUSINESS (continued)
Brokered Deposits
Section 29 of the FDIA and FDIC regulations
generally limit the ability of any bank to accept, renew or roll over any brokered deposit unless it is “well capitalized”
or, with the FDIC’s approval, “adequately capitalized.” However, as a result of the EGRRCPA, the FDIC undertook
a comprehensive review of its regulatory approach to brokered deposits, including reciprocal deposits, and interest rate caps
applicable to banks that are less than “well capitalized.” On December 15, 2020, the FDIC issued final rules that
amend the FDIC’s methodology for calculating interest rate caps, provide a new process for banks that seek FDIC approval
to offer a competitive rate on deposits when the prevailing rate in the Bank’s local market exceeds the national rate cap,
and provides specific exemptions and streamlined application and notice procedures for certain deposit-placement arrangements
that are not subject to brokered deposit restrictions. These final rules are effective on April 1, 2021.
Prompt Corrective Action
The federal banking agencies have broad
powers under current federal law to take prompt corrective action to resolve problems of insured depository institutions. The
extent of these powers depends upon whether the institution in question is “well capitalized,” “adequately capitalized,”
“undercapitalized,” “significantly undercapitalized” or “critically undercapitalized.” These
terms are defined under uniform regulations issued by each of the federal banking agencies regulating these institutions. An insured
depository institution which is less than adequately capitalized must adopt an acceptable capital restoration plan, is subject
to increased regulatory oversight and is increasingly restricted in the scope of its permissible activities. As of December 31, 2020,
the Bank was considered “well capitalized.”
Incentive Compensation
The federal banking agencies have issued
regulatory guidance (the “Incentive Compensation Guidance”) intended to ensure that the incentive compensation policies
of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking.
The FDIC will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking
organizations, such as the Bank, that are not “large, complex banking organizations.” The findings will be included
in reports of examination, and deficiencies will be incorporated into the organization’s supervisory ratings. Enforcement
actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control
or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt
and effective measures to correct the deficiencies.
In 2016, the SEC and the federal banking
agencies proposed rules that prohibit covered financial institutions (including bank holding companies and banks) from establishing
or maintaining incentive-based compensation arrangements that encourage inappropriate risk taking by providing covered persons
(consisting of senior executive officers and significant risk takers, as defined in the rules) with excessive compensation, fees
or benefits that could lead to material financial loss to the financial institution. The proposed rules outline factors to
be considered when analyzing whether compensation is excessive and whether an incentive-based compensation arrangement encourages
inappropriate risks that could lead to material loss to the covered financial institution, and establishes minimum requirements
that incentive-based compensation arrangements must meet to be considered to not encourage inappropriate risks and to appropriately
balance risk and reward. The proposed rules also impose additional corporate governance requirements on the boards of directors
of covered financial institutions and impose additional record-keeping requirements. The comment period for these proposed rules has
closed and a final rule has not yet been published.
Confidentiality and Required Disclosures
of Customer Information
The Company is subject to various laws
and regulations that address the privacy of nonpublic personal financial information of consumers. The Gramm-Leach-Bliley Act
and certain regulations issued thereunder protect against the transfer and use by financial institutions of consumer nonpublic
personal information. A financial institution must provide to its customers, at the beginning of the customer relationship and
annually thereafter, the institution’s policies and procedures regarding the handling of customers’ nonpublic personal
financial information. These privacy provisions generally prohibit a financial institution from providing a customer’s personal
financial information to unaffiliated third parties unless the institution discloses to the customer that the information may
be so provided and the customer is given the opportunity to opt out of such disclosure. Certain exceptions may apply to the requirement
to deliver an annual privacy notice based on how a financial institution limits sharing of nonpublic personal information, and
whether the institution’s disclosure practices or policies have changed in certain ways since the last privacy notice that
was delivered.
16
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1. BUSINESS (continued)
The Company is also subject to various
laws and regulations that attempt to combat money laundering and terrorist financing. The Bank Secrecy Act (the “BSA”)
requires all financial institutions to, among other things, create a system of controls designed to prevent money laundering and
the financing of terrorism, and imposes recordkeeping and reporting requirements. The USA PATRIOT Act added regulations to facilitate
information sharing among governmental entities and financial institutions for the purpose of combating terrorism and money laundering,
and requires financial institutions to establish anti-money laundering programs. Regulations adopted under the BSA impose on financial
institutions customer due diligence requirements, and the federal banking regulators expect that customer due diligence programs
will be integrated within a financial institution’s broader BSA and anti-money laundering compliance program. The Office
of Foreign Assets Control (“OFAC”), which is a division of the U.S. Department of Treasury, is responsible for helping
to ensure that United States entities do not engage in transactions with “enemies” of the United States, as defined
by various Executive Orders and Acts of Congress. If the Company finds the name of an “enemy” of the United States
on any transaction, account or wire transfer that is on an OFAC list, it must freeze such account or place transferred funds into
a blocked account, and report it to OFAC.
Although these laws and programs impose
compliance costs and create privacy obligations and, in some cases, reporting obligations, and compliance with all of the laws,
programs, and privacy and reporting obligations may require significant resources of the Company and the Bank, these laws and
programs do not materially affect the Bank’s products, services or other business activities.
Temporary BSA Reporting Relief
The U.S. Department of the Treasury’s
Financial Crimes Enforcement Network (“FinCEN”) provided targeted relief from certain BSA reporting requirements and
provided updated guidance to financial institutions on complying with such requirements during COVID-19. Specifically, FinCEN
(i) granted targeted relief to financial institutions participating in the PPP, stating that PPP loans to existing customers
will not require re-verification under applicable BSA requirements, unless re-verification is otherwise required under the financial
institution’s risk-based BSA compliance program, (ii) acknowledged that there may be “reasonable delays in compliance”
due to COVID-19, and (iii) temporarily suspended implementation if its February 2020 ruling, which would have entailed
significant changes to currency transaction reporting filing requirements for transactions involving sole proprietorships and
entities operating under a “doing business as” or other assumed name. The Company and the Bank continue to monitor
developments related to FinCEN’s targeted and temporary relief measures.
Corporate Transparency Act
On January 1, 2021, as part of the
2021 National Defense Authorization Act, Congress enacted the Corporate Transparency Act (“CTA”), which requires the
Financial Crimes Enforcement Network (“FinCEN”) to issue regulations implementing reporting requirements for “reporting
companies” (as defined in the CTA) to disclose beneficial ownership interests of certain U.S. and foreign entities by January 1,
2022. The CTA imposes additional reporting requirements on entities not previously subject to such beneficial ownership disclosure
regulations and also contains exemptions for several different types of entities, including among others: (i) certain banks,
bank holding companies, and credit unions; (ii) money transmitting businesses registered with FinCEN; and (iii) certain
insurance companies. Reporting companies subject to the CTA will be required to provide specific information with respect to beneficial
owner(s) (as defined in the CTA) as well as satisfy initial filing obligations (for newly-formed reporting companies) and
submit on-going periodic reports. Non-compliance with FinCEN regulations promulgated under the CTA may result in civil fines as
well as criminal penalties. At this time, FinCEN has yet to issue any proposed rules. Accordingly, the Company is unable to determine
what impact (if any) the CTA and related regulations will have on the Company and the Bank. The Company will continue to monitor
regulatory developments related to the CTA.
17
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1. BUSINESS (continued)
Cybersecurity
The federal banking agencies have also
adopted guidelines for establishing information security standards and cybersecurity programs for implementing safeguards under
the supervision of a financial institution’s board of directors. These guidelines, along with related regulatory materials,
increasingly focus on risk management and processes related to information technology and the use of third parties in the provision
of financial products and services. The federal banking agencies expect financial institutions to establish lines of defense and
ensure that their risk management processes also address the risk posed by compromised customer credentials, and also expect financial
institutions to maintain sufficient business continuity planning processes to ensure rapid recovery, resumption and maintenance
of the institution’s operations after a cyber-attack. If the Company or the Bank fails to meet the expectations set forth
in this regulatory guidance, the Company or the Bank could be subject to various regulatory actions and any remediation efforts
may require significant resources of the Company or the Bank. In addition, all federal and state banking agencies continue to
increase focus on cybersecurity programs and risks as part of regular supervisory exams.
In October 2016, the federal banking
agencies issued proposed rules on enhanced cybersecurity risk-management and resilience standards that would apply to very
large financial institutions and to services provided by third parties to these institutions. The comment period for these proposed
rules has closed and a final rule has not been published. Although the proposed rules would apply only to bank
holding companies and banks with $50 billion or more in total consolidated assets, these rules could influence the federal
banking agencies’ expectations and supervisory requirements for information security standards and cybersecurity programs
of smaller financial institutions, such as the Bank.
Stress Testing
The federal banking agencies have implemented
stress testing requirements for certain large or risky financial institutions, including bank holding companies and state-chartered
banks. Although these requirements do not apply to the Company and the Bank, the federal banking agencies emphasize that all banking
organizations, regardless of size, should have the capacity to analyze the potential effect of adverse market conditions or outcomes
on the organization’s financial condition. Based on existing regulatory guidance, the Company and the Bank will be expected
to consider its interest rate risk management, commercial real estate loan concentrations and other credit-related information,
and funding and liquidity management during this analysis of adverse market conditions or outcomes.
Volcker Rule
The Dodd-Frank Act prohibits bank holding
companies and their subsidiary banks from engaging in proprietary trading except in limited circumstances, and places limits on
ownership of equity investments in private equity and hedge funds (the “Volcker Rule”). The EGRRCPA and final rules adopted
to implement the EGRRCPA exempt all banks with less than $10 billion in assets (including their holding companies and affiliates)
from the Volcker Rule, provided that the institution has total trading assets and liabilities of 5% or less of total assets, subject
to certain limited exceptions. The Company believes that its financial condition and its operations are not significantly affected
by the Volcker Rule, amendments thereto, or its implementing regulations.
18
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1. BUSINESS (continued)
Call Reports and Examination Cycle
All institutions, regardless of size,
submit a quarterly call report that includes data used by federal banking agencies to monitor the condition, performance, and
risk profile of individual institutions and the industry as a whole. The EGRRCPA contained provisions expanding the number of
regulated institutions eligible to use streamlined call report forms. In June 2019, the federal banking agencies issued a
final rule to permit insured depository institutions with total assets of less than $5 billion that do not engage in certain
complex or international activities to file the most streamlined version of the quarterly call report, and to reduce data reportable
on certain streamlined call report submissions.
Effect of Governmental Monetary
Policies
As with other financial institutions,
the earnings of the Company and the Bank are affected by general economic conditions as well as by the monetary policies of the
FRB. Such policies, which include regulating the national supply of bank reserves and bank credit, can have a major effect upon
the source and cost of funds and the rates of return earned on loans and investments. The FRB exerts a substantial influence on
interest rates and credit conditions, primarily through establishing target rates for federal funds, open market operations in
U.S. Government securities, varying the discount rate on member bank borrowings and setting cash reserve requirements against
deposits. Changes in monetary policy, including changes in interest rates, will influence the origination of loans, the purchase
of investments, the generation of deposits, and rates received on loans and investment securities and paid on deposits. Fluctuations
in the FRB’s monetary policies have had a significant impact on the operating results of the Company and the Bank and all
financial institutions in the past and are expected to continue to do so in the future.
Legislative and Regulatory Responses
to the COVID-19 Pandemic
In response to the COVID-19 pandemic,
the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was enacted on March 27, 2020. The CARES
Act provided approximately $2.2 trillion in emergency economic relief measures including, among other things, loan programs for
small and mid-sized businesses and other economic relief for impacted businesses and industries, including financial institutions.
Many of the CARES Act’s programs depend upon the direct involvement of U.S. financial institutions and have been implemented
through rules and guidance adopted by federal departments and agencies, including the U.S. Department of the Treasury, the
FDIC, the FRB and other federal bank regulatory authorities, including those with direct supervisory jurisdiction over the Company
and the Bank.
Set forth below is a brief overview of
certain provisions of the CARES Act and certain other regulations and supervisory guidance related to the COVID-19 pandemic that
are applicable to the operations and activities of the Company and the Bank. The following description is qualified in its entirety
by reference to the full text of the CARES Act and the statutes, regulations, and policies described herein. Such statutes, regulations,
and policies are subject to ongoing review by U.S. Congress and federal regulatory authorities. Future amendments to the provisions
of the CARES Act or changes to any of the statutes, regulations, or regulatory policies applicable to the Company or the Bank
could have a material effect on the Company and the Bank. Many of the requirements called for in the CARES Act and related regulations
and supervisory guidance continue to be implemented and most are subject to implementing regulations developed over the course
of several months during 2020, many of which continue to be refined by federal banking agencies. The Company and the Bank continues
to assess the impact of the CARES Act and other statutes, regulations and supervisory guidance related to the COVID-19 pandemic.
19
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1. BUSINESS (continued)
CARES Act
Paycheck Protection Program (“PPP”)
PPP is an amendment to the Small Business
Administration’s (“SBA”) 7-A loan program. PPP is a guaranteed, unsecured loan program created to fund certain
payroll and operating costs of eligible businesses, organizations and self-employed persons during COVID-19. Initially, $349 billion
were approved and designated for PPP in order for the SBA to guarantee 100% of collective loans made under the program to eligible
small businesses, nonprofits, veteran’s organizations, and tribal businesses. The Bank became an approved SBA 7-A lender
in the second quarter of 2020. The Bank participated in the initial round of funding though a referral relationship with a third-party,
non-bank lender. When an additional $310 billion in funds were approved and designated for PPP in April 2020, the Bank opted
to stand up an internal, automated loan process utilizing its core system provider.
Congress enacted the Consolidated Appropriations
Act of 2021 (the “CAA”) on December 27, 2020, which amended the CARES Act and included (i) the Economic
Aid to Hard-Hit Small Businesses, Non-profits, and Venues Act, (ii) the COVID-Related Tax Relief Act of 2020, and (iii) the
Taxpayer Certainty and Disability Relief Act of 2020. These laws include significant clarifications and modifications to PPP,
which had terminated on August 8, 2020. In particular, Congress revived PPP and allocated an additional $284 billion in PPP
funds for 2021. As a result, the SBA will modify prior guidance and promulgate new regulations and guidance to conform with and
implement the new provisions during the first quarter of 2021. As a participating PPP lender, the Bank continues to monitor legislative,
regulatory, and supervisory developments related thereto. The Bank expects to continue to provide access to the PPP through our
internal lending program for our current business customers.
Troubled Debt Restructurings (“TDRs”)
and Loan Modifications for Affected Borrowers.
The CARES Act permits banks to suspend
requirements under GAAP for loan modifications to borrowers affected by COVID-19 that would otherwise be characterized as TDRs
and suspend any determination related thereto if (i) the loan modification is made between March 1, 2020 and the earlier
of December 31, 2020 or 60 days after the end of the COVID-19 emergency declaration and (ii) the applicable loan was
not more than 30 days past due as of December 31, 2019. The provisions of the CARES Act dealing with temporary relief related
to TDRs was extended pursuant to the CAA which was signed into law on December 27, 2020. The CAA extended the “applicable”
period to the earlier of January 1, 2022 or 60 days after the date on which the national emergency concerning the COVID-19
pandemic terminates. The federal banking agencies also issued guidance to encourage banks to make loan modifications for borrowers
affected by COVID-19 and to assure banks that they will not be criticized by examiners for doing so. The Bank is currently applying
this guidance to qualifying loan modifications.
Debt Guarantees and Account Insurance
Increase
The CARES Act also authorized several
key initiatives directly applicable to federal bank regulatory authorities, including (i) the establishment of a program
by the FDIC to guarantee the debt obligations of solvent insured depository institutions and their affiliates (including their
holding companies) through December 31, 2020 and (ii) an increase by the FDIC and the National Credit Union Association
to the insurance coverage on any noninterest-bearing transaction accounts through December 31, 2020.
20
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1. BUSINESS (continued)
FRB Programs and Initiatives related
to the CARES Act and COVID-19
The CARES Act encouraged the Federal Reserve,
in coordination with the Secretary of the Treasury, to establish or implement various programs to help midsize businesses, nonprofits,
and municipalities. On April 9, 2020, the Federal Reserve proposed the creation of the Main Street Lending Program, (“MSLP”)
to implement certain of these recommendations. On June 15, 2020, the Federal Reserve Bank of Boston opened the MSLP for lender
registration. The MSLP operated through five facilities: The Main Street New Loan Facility, the Main Street Priority Loan Facility,
the Main Street Expanded Loan Facility, the Nonprofit Organization New Loan Facility, and the Nonprofit Organization Expanded Loan
Facility. With the consent of the U.S. Department of the Treasury, the FRB terminated the MSLP facilities on January 8, 2021.
Separately and in response to COVID-19,
the FRB’s Federal Open Market Committee (the “FOMC”) set the federal funds target rate – i.e., the interest
rate at which depository institutions such as the Bank lend reserve balances to other depository institutions overnight on an uncollateralized
basis – to an historic low. On March 16, 2020, the FOMC set the federal funds target rate at 0-0.25%. Consistent with
FRB policy, the FRB has committed to the use of overnight reverse repurchase agreements as a supplementary policy tool, as necessary,
to help control the federal funds rate and keep it in the target range set by the FOMC.
In addition, the FRB expanded the size
and scope of three existing programs to mitigate the economic impact of the COVID-19 outbreak: (i) the Primary Market Corporate
Credit Facility; (ii) the Secondary Market Corporate Credit Facility; and (iii) the Term Asset-Backed Securities Loan
Facility. The FRB has also established two new program facilities – the Money Market Mutual Fund Liquidity Facility and the
Commercial Paper Funding Facility – to broaden its support for the flow of credit to households and businesses during COVID-19.
On November 30, 2020, the FRB extended these lending facilities (scheduled to expire on or around December 31, 2020)
through March 31, 2021.
Future Regulation
From time to time, various legislative
and regulatory initiatives are introduced in Congress and state legislatures, as well as by regulatory agencies. Such initiatives
may include proposals to expand or contract the powers of bank holding companies and depository institutions or proposals to substantially
change the financial institution regulatory system. Such legislation could change banking statutes and the operating environment
of the Company and the Bank in substantial and unpredictable ways. If enacted, such legislation could increase or decrease the
cost of doing business, limit or expand permissible activities or affect the competitive balance among banks, savings associations,
credit unions, and other financial institutions. The Company cannot predict whether any such legislation will be enacted, and,
if enacted, the effect that it, or any implementing regulations, would have on its financial condition or results of operations.
A change in statutes, regulations or regulatory policies applicable to the Company and the Bank could have a material effect on
our business.
Where You Can Find More Information
The Company files quarterly, annual and
periodic reports, proxy statements and insider filings with the SEC. The Company’s SEC filings are available to the public
over the Internet at the SEC’s web site at http://www.sec.gov. The Company’s SEC filings also are available through
our web site (www.CBTCares.com at the “Filings” link under the “Investor” tab) as of the day they are filed
with the SEC. Copies of documents also can be obtained free of charge by directing a request by telephone or mail to Investor Relations,
Carter Bankshares, Inc., 1300 Kings Mountain Road, Martinsville, Virginia 24112; telephone number: (276) 656-1776.
21
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM 1A. RISK FACTORS
Investments in the Company’s common
stock involve risk. In addition to the other information set forth in this Report, including the information addressed under “Forward-Looking
Statements,” investors in the Company’s common stock should carefully consider the factors discussed below. The following
discussion highlights the risks that we believe are material to the Company, but does not necessarily include all risks that we
may face. These factors could materially and adversely affect the Company’s business, financial condition, liquidity, results
of operations, and capital position, and could cause the Company’s actual results to differ materially from its historical
results or the results contemplated by the forward-looking statements contained in this Report, in which case the trading price
of the Company’s common stock could decline.
Risks Related to the COVID-19 Pandemic
The COVID-19 pandemic and resulting
adverse economic conditions have already adversely impacted the Company’s business and results, and could have a more material
adverse impact on our business, financial condition and results of operations.
The ongoing COVID-19 global and national
health emergency has caused significant disruption in the United States and international economies and financial markets. The
spread of COVID-19 in the United States has caused illness, quarantines, cancellation of events and travel, business and school
shutdowns, reduction in commercial activity and financial transactions, supply chain interruptions, increased unemployment, and
overall economic and financial market instability. In March 2020, almost all states, including Virginia, where the Company
is headquartered, and North Carolina, in which the Company has significant operations, issued “stay-at-home orders”
and declared states of emergency. Many state and local governments began implementing phased regulations and guidelines for reopening
communities and economies, often with reduced capacity and social distancing restrictions. However, recently, many state and local
governments have implemented additional restrictions in light of the significant COVID-19 resurgence.
Although banks have generally been permitted
to continue operating, the COVID-19 pandemic has caused disruptions to the Company’s business and could cause material disruptions
to our business and operations in the future. Impacts to our business have included decreased operating effectiveness due to additional
health and safety precautions we implemented at our branches and the transition of 20% of our workforce to home locations, decreases
in customer traffic in our branches and increases in requests for forbearance and loan modifications. Further, loan payment deferment
programs that we have implemented and government stimulus programs, like the PPP, may mask credit deterioration in our loan portfolio
by making less applicable standard measures of developing financial weakness in a client or portfolio, such as past due monitoring
and non-accrual assessments. To the extent that commercial and social restrictions remain in place or increase, the Company’s
expenses, delinquencies, charge-offs, foreclosures and credit losses could materially increase, and we could experience
reductions in interest and fee income. In addition, we anticipate that potential declines in credit quality could significantly
affect the adequacy of our allowance for loan losses, which we expect could lead to increases in the provision for loan losses
and related declines in our net income.
Unfavorable economic conditions and increasing
unemployment figures may also make it more difficult for the Company to maintain deposit levels and loan origination volume
and to obtain additional financing. Furthermore, such conditions have and may continue to cause the value of our
Company’s investment portfolio and of collateral associated with our existing loans to decline. In addition, in March 2020,
the FRB lowered the target range for the federal funds rate to a range from 0 to 0.25 percent in part as a result of the pandemic.
A prolonged period of very low interest rates could reduce the Company’s net interest income and have a material adverse
impact on our cash flows and the market value of our investments or the manner in which we redeploy proceeds from maturing investments.
22
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM
1A. RISK FACTORS – (continued)
While we have taken and continue to take
precautions to protect the safety and well-being of our employees and customers, no assurance can be given that the steps we’ve
taken will be deemed to be adequate or appropriate, nor can we predict the level of disruption to our employees’ ability
to provide customer support and service. The continued or renewed spread of COVID-19 could negatively impact the availability
of key personnel necessary to conduct the Company’s business, the business and operations of our third-party service providers
who perform critical services for the Company’s business, or the businesses of many of our customers and borrowers. If COVID-19
is not successfully contained, we could experience a material adverse effect on its business, financial condition, results of
operations and cash flow.
Among the factors outside the Company’s
control that are likely to affect the impact the COVID-19 pandemic will ultimately have on the Company’s business are, without
limitation:
· the
pandemic’s course and severity;
· the
uncertainty regarding new variants of COVID-19 that have emerged;
· the
speed and efficacy of vaccine and treatment developments;
· the
direct and indirect results of the pandemic, such as recessionary economic trends, including
with respect to employment, wages and benefits, commercial activity, the residential
housing market, consumer spending and real estate and investment securities market values;
· political,
legal and regulatory actions and policies in response to the pandemic, including the
effects of restrictions on commerce and banking, such as current temporary or required
continuing moratoria and other suspensions of collections, foreclosures, and related
obligations;
· the
timing, magnitude and effect of public spending, directly or through subsidies, its direct
and indirect effects on commercial activity and incentives of employers and individuals
to resume or increase employment, wages and benefits and commercial activity;
· effects
on the Company’s liquidity position due to changes in customers’ deposit
and loan activity in response to the pandemic and its economic effects;
· the
timing and availability of direct and indirect governmental support for various financial
assets, including mortgage loans;
· the
long-term effect of the economic downturn on the Company’s intangible assets such
as our deferred tax asset and goodwill;
· potential
longer-term effects of increased government spending on the interest rate environment
and borrowing costs for non-governmental parties;
· the
ability of the Company’s employees to work effectively during the course of the
pandemic;
· the
ability of the Company’s third-party vendors to maintain a high-quality and effective
level of service;
· the
possibility of increased fraud, cybercrime and similar incidents, due to vulnerabilities
posed by the significant increase in our employees and customers handling their banking
interactions remotely from home, the quick roll-out of various government-sponsored lending
programs, like the PPP, or otherwise;
· required
changes to the Company’s internal controls over financial reporting to reflect
a rapidly changing work environment;
· potential
longer-term shifts toward mobile banking, telecommuting and telecommerce; and
· geographic
variation in the severity and duration of the COVID-19 pandemic, particularly in Virginia
and North Carolina, where the Company operates physically.
The ongoing COVID-19 pandemic has resulted
in severe volatility in the financial markets and meaningfully lower stock prices for many companies, including the Company’s
common stock. Depending on the extent and duration of the COVID-19 pandemic, the price of our common stock may continue to experience
volatility and declines.
23
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM
1A. RISK FACTORS – (continued)
The Company continues to monitor the COVID-19
pandemic and related risks, although the rapid development and fluidity of the situation precludes any specific prediction as
to its ultimate impact on the Company. However, if the COVID-19 pandemic continues to spread or otherwise result in a continuation
or worsening of the current economic and commercial environments, our business, financial condition, results of operations and
cash flows could be materially adversely affected.
The full effects of the COVID-19 pandemic
may have a material adverse effect on the Company in numerous ways.
While the scope, duration, and full effects
of COVID-19 are rapidly evolving and not fully known, the pandemic and related efforts to contain it have disrupted global economic
activity, adversely affected the functioning of financial markets, impacted interest rates and increased economic and market uncertainty.
If these effects continue for a prolonged period or result in sustained economic stress or recession, many of the risk factors
identified in Annual Report on Form 10-K could be exacerbated and such effects could have a material adverse impact on us
in a number of ways related to credit, collateral, customer demand, funding, operations, interest rate risk and human capital.
· Our
results of operations may continue to be negatively impacted by general economic or business
conditions and uncertainty, including the strength of economic conditions in our principal
area of operations impacting the demand for our products and services.
· The
low interest rate environment will continue to negatively impact our net interest income
and net interest margin.
· Loan
losses may be higher and our provision for loan losses may continue to increase, due
to deterioration in the financial condition of our commercial and consumer loan customers.
· Declining
asset and collateral values may necessitate increases in our provision for loan losses
and net charge-offs.
· Continued
negative impact on the hospitality industry and our hotel portfolio, which could result
in additional loan losses and net charge-offs.
· We
may have an interruption or cessation of an important service provided by a third-party
provider.
· Our
liquidity and regulatory capital could be adversely impacted.
· Any
new or revised regulations regarding capital and liquidity adopted in response to the
COVID-19 pandemic may require us to maintain materially more capital or liquidity.
· Investors
may have less confidence in the equity markets in general and in financial services industry
in particular, which could have a negative impact on our stock price and resulting market
valuation.
· The
economic downturn caused by the pandemic may last longer in the areas where we do business,
which could negatively affect our financial performance.
· We
face heightened cyber security risk in connection with our operation in a remote working
environment.
Even
after the COVID-19 pandemic subsides, the U.S. economy will likely require time to recover. It
is uncertain how long this recovery will take. As a result, we anticipate our business may be adversely affected during this recovery.
24
CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM
1A. RISK FACTORS – (continued)
Risks Related to Credit
A large percentage of the Company’s
loans are secured by real estate, and an adverse change in the real estate market may result in losses and adversely affect our
profitability.
Approximately 79% of the Company’s
loan portfolio as of December 31, 2020, was comprised of loans secured by real estate. An adverse change in the economy affecting
values of real estate generally or in the market areas we serve specifically could impair the value of the Company’s collateral
and its ability to sell the collateral upon foreclosure. In the event of a default with respect to any of these loans, the amounts
the Company receives upon sale of the collateral may be insufficient to recover outstanding principal and interest on the loan.
As a result, the Company’s profitability and financial condition could be negatively impacted by an adverse change in the
real estate market.
The Company relies on independent appraisals
to determine the value of the real estate which secures a significant portion of our loans, and the values indicated by such appraisals
may not be realizable if foreclose on such loans is forced.
A significant portion of the Company’s
loan portfolio consists of loans secured by real estate. We rely on independent appraisers to estimate the value of such real
estate. Appraisals are only estimates of value and the independent appraisers may make mistakes of fact or judgment that adversely
affect the reliability of their appraisals. In addition, events occurring after the initial appraisal may cause the value of the
real estate to increase or decrease. As a result of any of these factors, the real estate securing some of the loans may be more
or less valuable than anticipated at the time the loans were made. If a default occurs on a loan secured by real estate that is
less valuable than originally estimated, the Company may not be able to recover the outstanding balance of the loan.
The Company’s level of credit
risk is increased due to the level of commercial real estate loans in its portfolio.
Approximately 49% of the Company’s
loan portfolio as of December 31, 2020, was comprised of loans secured by commercial purpose real estate, including loans
related to hotels, strip malls and apartments. These loans generally carry larger loan balances and involve a greater degree of
financial and credit risk than loans secured by residential real estate. Repayment of these loans is often dependent on the success
of the borrower’s underlying business and the borrower’s ability to generate a positive cash flow sufficient to service
its debts. The increased financial and credit risk associated with these loans is a result of several factors, including the concentration
of principal in a limited number of loans and to borrowers in similar lines of business, the size of the loan balances, general
economic conditions affecting values of real estate, and the existence of a market for the subject collateral. The ongoing adverse
economic effects of the COVID-19 pandemic will likely exacerbate the financial and credit risk associated with these loans.
The Company’s exposure to hospitality
at December 31, 2020 equated to approximately $497.2 million, or 16.9% of total portfolio loans. These were mostly loans
secured by upscale or top tier flagged hotels, which have historically exhibited low leverage and strong operating cash flows.
However, we anticipate that a significant portion of our borrowers in the hotel industry will continue to operate at occupancy
levels at or below breakeven, which has caused, and may continue to cause, them to draw on their existing lines of credit with
other financial institutions or other sources of liquidity and may adversely affect their ability to repay existing indebtedness,
and is expected to adversely impact the value of collateral. These developments, together with the current economic conditions
generally, may impact the value of real estate collateral in hospitality and other commercial real estate exposures. As a result,
we anticipate that our financial condition, capital levels and results of operations could be adversely affected.
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CARTER BANKSHARES, INC. AND SUBSIDIARIES
ITEM
1A. RISK FACTORS – (continued)
Allowance for loan losses may be insufficient.
All borrowers carry the potential to default
and our remedies to recover may not fully satisfy money previously loaned. We maintain an allowance for loan losses, which is
a reserve established through a provision for loan losses charged to expense, which represents management’s best estimate
of probable credit losses that have been incurred within the existing portfolio of loans. Management believes the allowance is
adequate to reserve for estimated loan losses and risks inherent in the loan portfolio. The level of the allowance for loan losses
reflects management’s continuing evaluation of industry concentrations, specific credit risks, loan loss experience, current
loan portfolio quality, present economic conditions and unidentified losses in the current loan portfolio. The determination of
the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to make
significant estimates of current credit risks using existing qualitative and quantitative information, all of which may undergo
material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification
of additional problem loans and other factors, both within and outside of our control, may require an increase in the allowance
for loan losses. In addition, bank regulatory agencies periodically review our allowance for loan losses and may require an increase
in the provision for credit losses or the recognition of additional loan charge-offs, based on judgments different than those
of management. An increase in the allowance for loan losses results in a decrease in net income or losses, and possibly risk-based
capital, and may have a material adverse effect on our financial condition and results of operations.
The adoption of ASU 2016-13, Measurement
of Credit Losses on Financial Instruments, referred to as CECL, will result in a significant change in how the Company recognizes
credit losses. If the assumptions or estimates used in adopting the new standard are incorrect or needs to change, there may be
a material adverse impact on the results of operations and financial condition.
The Company has elected to take advantage
of Section 4014 of the CARES Act provision to temporarily delay adoption of the CECL methodology. The Company was subject
to the adoption of the CECL accounting method under Financial Accounting Standards Board (the “FASB”) Accounting Standards
Update (“ASU”) 2016-13 and related amendments, Financial Instruments – Credit Losses (Topic 326). However, we
elected under the CARES Act to defer the implementation of CECL until the earlier of when the national emergency related to the
outbreak of COVID-19 ends or December 31, 2020 which was later extended to January 1, 2022. The Company intends to adopt
in the first quarter of 2021 as allowed under the provisions of the CARES Act.
CECL replaces the incurred loss impairment
methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range
of reasonable and supportable information to form credit loss estimates. The measurement of expected credit losses is to be based
on historical loss experience, current conditions and reasonable and supportable forecasts that affect the collectability of the
reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically
thereafter. This differs significantly from the incurred loss mode required under current GAAP, which delays recognition until
it is probable a loss has been incurred. Upon origination of a loan, the estimate of expected credit losses, and any subsequent
changes to such estimate, will be recorded through provision for loan losses in our Consolidated Statements of (Loss) Income.
The CECL model may create more volatility in the level of our allowance for loan losses.
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CARTER BANKSHARES, INC. AND SUBSIDIARIES