Carter Bankshares, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) of $86.6 million in average investment securities and a decrease of $2.7 million in FHLB stock. The Bank’s largest NPL relationship negatively impacted interest income by $9.1 million in the second quarter of 2024 and was negatively impacted by $11.3 million in the second quarter of 2023. Interest income increased to $108.6 million for the six months ended June 30, 2024 from $95.7 million compared to the same period in 2023. Interest income, on an FTE basis (non-GAAP), increased $12.8 million, or 13.4%, to $109.0 million for the six months ended June 30, 2024 compared to $96.2 million for the same period in 2023, resulting from average loan growth of $303.2 million in taxable loans. The change in average investment securities is the result of active balance sheet management to deploy the proceeds from securities maturities and principal curtailments into higher yielding loans, rather than reinvesting those proceeds back into the securities portfolio. The portfolio has been diversified as to bond types, maturities, and interest rate structures. As of June 30, 2024, the securities portfolio was comprised of 46.1% variable rate securities with approximately 99.3% that will reprice at least once over the next 12 months. We believe having a significant percentage of variable rate securities is an important strategy during times of rising interest rates because fixed-rate bond prices generally fall when interest rates increase, which can result in unrealized losses. However, variable rate securities do not carry as much interest rate risk so there is much less price volatility. This variable rate strategy has limited the impact of rising rates on the Company’s unrealized losses on debt securities. With interest rates likely peaking, the Bank may alter this interest rate mix strategy going forward. Interest expense of $26.5 million for the three months ended June 30, 2024 increased $9.5 million, or 55.8% compared to the same period in 2023, primarily due to an increase in average interest-bearing deposits of $318.4 million. The increase in average-bearing deposits reflected solid growth in average CDs of $335.0 million, an increase of $96.0 million in average money market accounts and an increase of $42.3 million in interest-bearing demand accounts, offset by a decrease of $154.9 million in savings accounts as customer preferences shifted from lower cost non-maturing deposits to higher-yielding money market and CD products. Interest expense of $52.1 million for the six months ended June 30, 2024 increased $23.9 million, or 85.0% compared to the same period in 2023, primarily due to an average increase in CDs of $344.3 million. During the second quarter of 2024, $286.8 million of CDs matured and repriced from an average rate of 4.32% to an average rate of 4.39%. Additionally, FHLB borrowings decreased $122.3 million and the cost of these borrowings increased 19 basis points for the three months ended June 30, 2024 compared to the same period in 2023. The net interest margin increased four basis points to 2.55% for the three months ended June 30, 2024 compared to 2.51% for the same period in 2023. Net interest margin, on an FTE basis, increased two basis points to 2.56% for the three months ended June 30, 2024 compared to 2.54% for the same period in 2023. The increase in net interest margin continues to be significantly impacted by the Bank’s largest lending relationship remaining on nonaccrual status since the second quarter of 2023. The net interest margin decreased 66 basis points to 2.56% for the six months ended June 30, 2024 compared to 3.22% for the same period in 2023. Net interest margin, on an FTE basis, decreased 67 basis points to 2.58% for the six months ended June 30, 2024 compared to 3.25% for the same period in 2023. The decline in net interest income and net interest margin was significantly driven by the aforementioned NPL relationship, which negatively impacted interest income by $18.4 million for the six months ended June 30, 2024 as compared to $11.3 million for the same period in 2023. Funding costs increased 127 basis points, offset by an increase of 36 basis points on the yield on earning assets for the six months ended June 30, 2024 compared to the same period in 2023. During the six months ended June 30, 2024, $760.6 million of CDs matured and repriced from an average rate of 4.30% to an average rate of 4.41%. Since the beginning of 2023, there has been continued pressure on our cost of funds due to the shift from non-maturing deposits to higher yielding CDs, money markets and higher-cost borrowings driven by the ongoing inversion of the yield curve, which has negatively impacted our net interest margin. During the three months ended June 30, 2024, this trend began to stabilize and we believe it will continue to stabilize in the coming quarters. Our balance sheet is currently exhibiting characteristics of a slightly liability sensitive position due to the short-term nature of our deposit portfolio and FHLB borrowings. Specifically, 91.70% of our CD portfolio and 81.1% of our outstanding FHLB borrowings will mature and reprice over the next twelve months. This strategy gives us flexibility to manage the structure and pricing of our deposit and borrowing portfolios to reduce future funding costs should the Federal Open Market Committee (“FOMC”) begin cutting short-term rates later this year and during the remainder of 2024. 46 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) The following table sets forth for the periods presented a summary of the changes in interest earned and interest paid resulting from changes in volume and changes in rates: Three Months Ended June 30, 2024 Compared to June 30, 2023 Six Months Ended June 30, 2024 Compared to June 30, 2023 (Dollars in Thousands) Volume (3) Rate (3) Increase/ (Decrease) Volume (3) Rate (3) Increase/ (Decrease) Interest Earned on: Interest-Bearing Deposits with Banks $ 175 $ 30 $ 205 $ 284 $ 56 $ 340 Tax-free Investment Securities (2) (118) (6) (124) (242) (2) (244) Taxable Investment Securities (619) 652 33 (1,182) 1,565 383 Total Securities (737) 646 (91) (1,424) 1,563 139 Tax-free Loans (1)(2) (170) 8 (162) (340) 22 (318) Taxable Loans (1) 3,163 7,703 10,866 7,833 4,722 12,555 Total Loans 2,993 7,711 10,704 7,493 4,744 12,237 Federal Home Loan Bank Stock (47) 36 (11) 60 67 127 Total Interest-Earning Assets $ 2,384 $ 8,423 $ 10,807 $ 6,413 $ 6,430 $ 12,843 Interest Paid on: Interest-Bearing Demand $ 61 $ 969 $ 1,030 $ 59 $ 1,586 $ 1,645 Money Market 505 1,563 2,068 576 4,234 4,810 Savings (47) 41 (6) (106) 72 (34) Certificates of Deposit 2,542 5,307 7,849 4,509 13,209 17,718 Total Interest-Bearing Deposits 3,061 7,880 10,941 5,038 19,101 24,139 Federal Home Loan Bank Borrowings (1,581) 176 (1,405) (528) 547 19 Federal Funds Purchased (71) — (71) (247) — (247) Other Borrowings 25 (4) 21 41 (6) 35 Total Borrowings (1,627) 172 (1,455) (734) 541 (193) Total Interest-Bearing Liabilities 1,434 8,052 9,486 4,304 19,642 23,946 Change in Net Interest Margin (2) $ 950 $ 371 $ 1,321 $ 2,109 $ (13,212) $ (11,103) (1) Nonaccruing loans are included in the daily average loan amounts outstanding. (2) Tax-exempt income is on an FTE basis (non-GAAP) using the statutory federal corporate income tax rate of 21 percent. (3) Changes to rate/volume are allocated to both rate and volume on a proportionate dollar basis. Provision for Credit Losses Provision for credit losses is determined based on management’s estimates of the appropriate level of ACL needed to absorb expected life-of-loan losses in the loan and lease portfolio, after giving consideration to charge-offs and recoveries for the period. The following table presents information regarding the provision for credit losses and net charge-offs: (Dollars in Thousands) Three Months Ended June 30, Six Months Ended June 30, 2024 2023 $ Change 2024 2023 $ Change Provision for Credit Losses $ 491 $ 85 $ 406 $ 507 $ 1,500 $ (993) (Recovery) Provision for Unfunded Commitments (236) 360 (596) (279) 444 (723) Total Provision for Credit Losses on Loans 255 445 (190) 228 1,944 (1,716) Provision for Securities — — — — — — Total Provision for Credit Losses $ 255 $ 445 $ (190) $ 228 $ 1,944 $ (1,716) Net Loan Charge-offs $ 341 $ 635 $ (294) $ 873 $ 1,208 $ (335) Net Loan Charge-offs (annualized) / Average Portfolio Loans 0.04 % 0.08 % 0.05 % 0.08 % The provision for credit losses increased $0.4 million and decreased $1.0 million for the three and six months ended June 30, 2024, respectively compared to the same periods in 2023. The increase in the provision for credit losses compared to the three months ended 2023 was primarily driven by loan growth, net charge-offs and a $0.5 million reserve on a new individually evaluated loan in the second quarter of 2024, offset by $1.4 million of other segment reserves released related to the $7.8 47 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) million of curtailment payments made by the Bank’s largest nonperforming lending relationship that was placed on nonaccrual status during the second quarter of 2023. The decrease for the six months ended June 30, 2024 in the provision for credit losses was primarily driven by the aforementioned $1.4 million of other segment reserves released related to the aforementioned $7.8 million of curtailment payments made by the Bank’s largest NPL relationship during the second quarter of 2024 and lower loan growth in 2024, offset by the $0.5 million reserve on the new individually evaluated loan. The (recovery) provision for unfunded commitments for the three and six months ended June 30, 2024 were recoveries of $0.2 million and $0.3 million, respectively compared to provisions of $0.4 million in both the three and six months ended June 30, 2023. The declines in both the three and six months ended June 30, 2024 were due to decreased commitments in construction loans during the periods. Net charge-offs were $0.3 million and $0.9 million for the three and six months ended June 30, 2024 compared to $0.6 million and $1.2 million for the same periods in 2023. During the three and six months ended June 30, 2024 and June 30, 2023, net charge-offs were concentrated in the other consumer loan segment. As a percentage of average portfolio loans, on an annualized basis, net charge-offs were 0.04% and 0.05% for the three and six months ended 2024 and 0.08% for both the three and six months ended June 30, 2023. See the “Allowance for Credit Losses” section of this MD&A for additional details regarding our charge-offs and refer to Note 5, Allowance for Credit Losses, in the Notes to Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q for additional information related to our ACL. Noninterest Income Three Months Ended June 30, Six Months Ended June 30, (Dollars in Thousands) 2024 2023 $ Change % Change 2024 2023 $ Change % Change Gains (Losses) on Sales of Securities, net $ 36 $ 3 $ 33 N/M $ 36 $ (9) $ 45 N/M Service Charges, Commissions and Fees 1,852 1,759 93 5.3 % 3,727 3,597 130 3.6 % Debit Card Interchange Fees 1,933 1,934 (1) (0.1) % 4,019 4,039 (20) (0.5) % Insurance Commissions 934 508 426 83.9 % 1,548 682 866 127.0 % Bank Owned Life Insurance Income 365 341 24 7.0 % 713 680 33 4.9 % Commercial Loan Swap Fee Income — — — — % — 114 (114) (100.0) % Other 413 483 (70) (14.5) % 535 660 (125) (18.9) % Total Noninterest Income $ 5,533 $ 5,028 $ 505 10.0 % $ 10,578 $ 9,763 $ 815 8.3 % N/M Not Meaningful Total noninterest income increased $0.5 million, or 10.0%, to $5.5 million for the three months ended June 30, 2024 and increased $0.8 million, or 8.3%, to $10.6 million for the six months ended June 30, 2024 when compared to the same periods in 2023. The increase for the three months ended June 30, 2024 was primarily due to an increase of $0.4 million in insurance commissions and $0.1 million increase on service charges, commissions and fees, offset by a decrease of $0.1 million in other noninterest income. During the three months ended June 30, 2024, we recognized an unrealized fair value gain of $63.3 thousand on equity securities. This unrealized fair value gain is recorded in other noninterest income. The most significant increase during the six months ended June 30, 2024 was $0.9 million higher insurance commissions. Also impacting the year-to-date increase was $0.1 million higher service charges, commissions and fees, offset by a decrease of $0.1 million in other noninterest income, as well as a decline of $0.1 million in commercial loan swap fee income as activity has declined due to the interest rate environment. 48 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) Noninterest Expense Three Months Ended June 30, Six Months Ended June 30, (Dollars in Thousands) 2024 2023 $ Change % Change 2024 2023 $ Change % Change Salaries and Employee Benefits $ 14,216 $ 13,649 $ 567 4.2 % $ 28,416 $ 27,301 $ 1,115 4.1 % Occupancy Expense, net 3,793 3,601 192 5.3 % 7,541 7,001 540 7.7 % FDIC Insurance Expense 1,566 702 864 123.1 % 3,253 1,343 1,910 142.2 % Other Taxes 894 786 108 13.7 % 1,797 1,590 207 13.0 % Advertising Expense 528 431 97 22.5 % 885 770 115 14.9 % Telephone Expense 342 412 (70) (17.0) % 759 839 (80) (9.5) % Professional and Legal Fees 1,542 1,659 (117) (7.1) % 3,055 2,493 562 22.5 % Data Processing 1,234 1,058 176 16.6 % 2,125 1,778 347 19.5 % Debit Card Expense 808 771 37 4.8 % 1,564 1,250 314 25.1 % Other 2,523 2,467 56 2.3 % 4,308 4,747 (439) (9.2) % Total Noninterest Expense $ 27,446 $ 25,536 $ 1,910 7.5 % $ 53,703 $ 49,112 $ 4,591 9.3 % Total noninterest expense increased $1.9 million to $27.4 million for the three months ended June 30, 2024 compared to the same period in 2023. The most significant variance for the comparable period related to higher FDIC insurance expenses of $0.9 million due to the deterioration in asset quality as a direct result of the large NPL relationship, which is a component used to determine the assessment. Other increases included, a $0.6 million increase in salaries and employee benefits, an increase of $0.2 million in occupancy expenses, $0.2 million in data processing expenses and a $0.1 million increase in other taxes. Salaries and employee benefits increased related to higher salary expense due to fewer open positions in retail, job grade assessment increases and normal merit increases. The variance in occupancy relates primarily to general inflationary cost increases for existing and new service agreements, as well as lease expense on a newly opened office in the second quarter of 2024. The increase in data processing related to higher third party costs. As compared to the six months ended June 30, 2024, the most significant increases in total noninterest expense, and similar variances to the same period in 2023, was an increase of $1.9 million in FDIC insurance expense, which was a direct result of the aforementioned large NPL relationship, an increase of $1.1 million in salaries and employee benefits, and an increase of $0.5 million in occupancy expenses. However, the year-to-date variance was also impacted by a $0.6 million increase in professional and legal fees as a result of the large NPL relationship and an increase of $0.3 million in debit card expense. The variance in debit card expenses was primarily related to discounts received in March of 2023. Provision for Income Taxes The provision for income taxes increased $1.1 million and decreased $2.0 million to $1.1 million and $2.5 million for the three and six months ended June 30, 2024, respectively when compared to the same periods in 2023. Pre-tax income increased $0.2 million and decreased $13.0 million for the three and six months ended June 30, 2024, respectively when compared to the same periods in 2023. The effective tax rate was 18.9% and 19.3% for the three and six months ended June 30, 2024, respectively compared to 0.9% and 17.4% for the same periods in 2023. The increase in the effective tax rate for the three and six months ended June 30, 2024 compared to the same periods in 2023 was primarily related to changes in pre-tax income, partially offset by higher levels of tax credits in 2023. The Company ordinarily generates an annual effective tax rate that is less than the statutory rate of 21% due to benefits resulting from tax-exempt interest income, tax credit projects and bank owned life insurance (“BOLI”). Financial Condition June 30, 2024 Total assets increased $20.0 million, to $4.5 billion at June 30, 2024 compared to December 31, 2023. Cash and due from banks increased $7.2 million to $61.7 million at June 30, 2024 compared to $54.5 million at December 31, 2023. Total portfolio loans increased $43.6 million, or 2.5% on an annualized basis, to $3.5 billion at June 30, 2024 compared to December 31, 2023 primarily due to loan growth in the CRE loan segment during the six months ended June 30, 2024. Loan growth was muted by $80.0 million in loan payoffs of two large commercial real estate loans in the first quarter of 2024. The variances in loan segments for portfolio loans related to increases of $130.7 million in CRE loans, offset by decreases in all the other loan 49 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) segments, such as a $41.4 million decrease in construction loans, a $30.9 million decrease in C&I loans, a $7.8 million decrease in the other loan segment due to curtailment payments made by the Bank’s largest NPL relationship, a $4.0 million decrease in residential mortgages and a $3.0 million decrease in other consumer loans. The securities portfolio decreased $32.7 million and is currently 16.5% of total assets at June 30, 2024 compared to 17.3% of total assets at December 31, 2023. The decrease is due to ongoing maturities, principal curtailments, sales of available for sale securities and changes in market values driven by fluctuations in intermediate treasury yields. During the six months ended June 30, 2024 there was one new security purchase of $8.6 million and one sale of two bonds with a book value of 10.6 million. As of June 30, 2024, the securities portfolio was comprised of 46.1% variable rate securities with approximately 99.3% that will reprice at least once over the next 12 months. At June 30, 2024, total gross unrealized gains in the available-for-sale portfolio were $0.1 million, offset by $89.3 million of gross unrealized losses. Refer to the “Securities Activity” section below for further discussion of unrealized losses in the available-for-sale securities portfolio. During the second quarter of 2024, the Company purchased $5.0 million of equity securities with carrying value totaling $5.1 million at June 30, 2024. The equity securities consist of our investment in a market-rate bond mutual fund that invests in high quality fixed income bonds, mainly government agency securities whose proceeds are designed to positively impact community development throughout the United States. The mutual fund focuses exclusively on providing affordable housing to low- and moderate-income borrowers and renters, including those in Majority Minority Census Tracts. The Company’s investment in the mutual fund is eligible for investment credit under the Community Reinvestment Act. FHLB stock, at cost decreased $7.2 million to $14.5 million at June 30, 2024 compared to December 31, 2023. The decrease is due to a lower level of FHLB borrowings due to deposit growth that funded paydowns of FHLB borrowings . Closed retail bank offices had a book value of $1.3 million at June 30, 2024 and $2.3 million at December 31, 2023 included in OREO on the Consolidated Balance Sheets. Total deposits increased $159.4 million, or 8.6% on an annualized basis, to $3.9 billion at June 30, 2024 compared to December 31, 2023. The increase in deposits was primarily due to a $175.5 million increase in CDs and an increase of $84.0 million in interest-bearing demand accounts, offset by a decrease of $55.0 million in savings accounts, a decrease of $31.9 million in noninterest-bearing demand accounts and a decrease of $13.2 million in money market accounts. The Company had $115.6 million brokered CDs at June 30, 2024, compared to $70.0 million at December 31, 2023. At June 30, 2024, noninterest-bearing deposits comprised 16.8% of total deposits compared to 18.4% at December 31, 2023 and 19.3% at June 30, 2023. CDs comprised 45.4%, 42.6% and 40.5% of total deposits at June 30, 2024, December 31, 2023 and June 30, 2023, respectively. As of June 30, 2024, based on assumptions that the Bank uses to prepare its regulatory call report, approximately 82.8% of our total deposits of $3.9 billion were insured under standard FDIC insurance coverage limits, and approximately 17.2% of our total deposits were uninsured deposits over the standard FDIC insurance coverage limit. The Company’s deposit base is diversified and granular and is comprised of approximately 78.4% of retail deposits. FHLB borrowings decreased $155.4 million to $238.0 million at June 30, 2024 compared to $393.4 million at December 31, 2023 primarily due to deposit growth that funded paydowns of FHLB borrowings. The Company had no outstanding federal funds purchased at June 30, 2024 and December 31, 2023. Total capital of $364.4 million at June 30, 2024, reflects an increase of $13.2 million compared to December 31, 2023. The increase in total capital from December 31, 2023 is primarily due to net income of $10.6 million, a $1.8 million increase in other comprehensive income (loss) due to changes in fair value of investment securities, as well as an increase of $0.8 million related to restricted stock activity all during the six months ended June 30, 2024. The ACL was 2.72% of total portfolio loans at June 30, 2024 compared to 2.77% as of December 31, 2023. General reserves as a percentage of total portfolio loans were 1.22% at both June 30, 2024 and December 31, 2023. Management believes the ACL is adequate to absorb expected losses inherent in the loan portfolio. See the sections of this MD&A titled “Provision for Credit Losses,” “Credit Quality” and “Allowance for Credit Losses” for information about the factors that impacted the ACL and the provision for credit losses. The Company remains well capitalized. The Tier 1 capital ratio decreased to 10.95% at June 30, 2024 compared to 11.08% at December 31, 2023. The leverage ratio was 9.43% at June 30, 2024, compared to 9.48% at December 31, 2023 and the total risk-based capital ratio was 12.22% at June 30, 2024 compared to 12.34% at December 31, 2023. 50 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) The Bank also remained well capitalized as of June 30, 2024. The Bank’s Tier 1 Capital ratio was 10.86% at June 30, 2024 compared to 10.99% at December 31, 2023. The Bank’s leverage ratio was 9.35% at June 30, 2024 compared to 9.41% at December 31, 2023. The Bank’s Total Risk-Based Capital ratio was 12.13% at June 30, 2024 compared to 12.25% at December 31, 2023. Securities The following table presents the composition of available-for-sale securities: (Dollars in Thousands) June 30, 2024 December 31, 2023 $ Change U.S. Government Agency Securities 29,590 43,827 (14,237) Residential Mortgage-Backed Securities 98,468 99,150 (682) Commercial Mortgage-Backed Securities 24,038 31,163 (7,125) Other Commercial Mortgage-Backed Securities 21,766 21,856 (90) Asset Backed Securities 132,806 140,006 (7,200) Collateralized Mortgage Obligations 159,182 161,533 (2,351) States and Political Subdivisions 220,262 222,108 (1,846) Corporate Notes 60,213 59,360 853 Total Debt Securities $ 746,325 $ 779,003 $ (32,678) The Company invests in various securities in order to maintain a source of liquidity, to satisfy various pledging requirements, to increase net interest income and as a tool of the ALCO to diversify and reposition the balance sheet for interest rate risk purposes. Securities are subject to market risks that could negatively affect the level of liquidity available to us. Security purchases are subject to our investment policy that is approved annually by our Board and administered through ALCO and our treasury function. The securities portfolio decreased $32.7 million to $746.3 million at June 30, 2024 compared to $779.0 million at December 31, 2023. Securities comprise 16.5% of total assets at June 30, 2024 compared to 17.3% at December 31, 2023. The decrease is due to ongoing maturities, principal curtailments, sales of available for sale securities and changes in market values driven by fluctuations in intermediate treasury yields. During the six months ended June 30, 2024, there was one new security purchase of $8.6 million and one sale of two bonds with a book value of 10.6 million as liquidity generated by the securities portfolio during the first half of 2024 was primarily deployed into higher yielding loans. As of June 30, 2024, the securities portfolio was comprised of 46.1% variable rate securities with approximately 99.3% that will reprice at least once over the next 12 months. At June 30, 2024 total gross unrealized gains in the available-for-sale portfolio were $0.1 million, offset by $89.3 million of gross unrealized losses. At December 31, 2023, total gross unrealized gains in the available-for-sale portfolio were $0.7 million offset by $92.3 million of gross unrealized losses. The unrealized losses on debt securities are believed to be temporary primarily because these unrealized losses are due to reductions in market value caused by upward movement in interest rates since the securities purchase (as applicable), and not related to the credit quality of these securities. Our portfolio consists of 46.9% of securities issued by United States government sponsored entities and carry an implicit government guarantee. States and political subdivisions comprise 29.5% of the portfolio and are largely general obligations or essential purpose revenue bonds, which have performed very well historically over all business cycles, and are rated AA and AAA. We have the ability to hold these securities to maturity and expect full recovery of the amortized cost. We may occasionally sell securities to take advantage of market opportunities or as part of a strategic initiative. The Company’s investment securities with intermediate and long-term maturities were the largest driver of these gross unrealized losses, as the market values of these securities are significantly impacted by the Treasury yield curve for similar durations (i.e., 5- and 10-year Treasury securities). This portion of the Treasury yield curve has moved higher over the past three months, driving unrealized losses on outstanding securities higher. However, principal reductions outpaced the modest increase in unrealized losses, resulting in a lower net unrealized loss number. Changes in short-term interest rates can affect the yield on floating rate securities. Yields on floating rate securities may begin to fall should the Federal Reserve Board (“FRB”) begin lowering short-term rates. Changes in intermediate and long-term interest rates, which are market driven, affect the 51 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) market value of fixed rate securities with similar maturities. The Company expects that market values on the Bank’s intermediate and long-term maturity holdings will continue to fluctuate in large part driven by treasury yield changes. At June 30, 2024 the 5-year and 10-year U.S. Treasury yields were 4.33% and 4.36%, respectively. At December 31, 2023, those same bond yields were 3.84% and 3.88%, respectively. Therefore, this increase of 49 bps and 48 bps, respectively in the intermediate part of the yield curve largely caused the reduction in bond prices for fixed rate bonds in that maturity range. Note, the effects were generally greater for longer maturity bonds, such as municipal bonds. On the other hand, floating rate bonds largely held consistent values, as those interest rates generally adjust in line with FRB interest rate hikes. Should the impairment of any of these securities become credit related, the impairment will be recognized by establishing an ACL through provision for credit losses in the period the credit related impairment is identified, while any non-credit loss will be recognized in accumulated other comprehensive loss, net of applicable taxes. At June 30, 2024 and December 31, 2023, the Company had no credit related impairment. The Basel rules permit most banking organizations to retain, through a one-time election, existing treatment for accumulated other comprehensive loss, which currently does not affect regulatory capital. The Company elected to retain this treatment which reduces the volatility of regulatory capital levels. During the second quarter of 2024, the Company purchased $5.0 million of equity securities with carrying value totaling $5.1 million at June 30, 2024. The equity securities consist of our investment in a market-rate bond mutual fund that invests in high quality fixed income bonds, mainly government agency securities whose proceeds are designed to positively impact community development throughout the United States. The mutual fund focuses exclusively on providing affordable housing to low- and moderate-income borrowers and renters, including those in Majority Minority Census Tracts. The Company’s investment in the mutual fund is eligible for investment credit under the Community Reinvestment Act. Loan Composition The following table summarizes our loan portfolio as of the dates presented: (Dollars in Thousands) June 30, 2024 December 31, 2023 Commercial Commercial Real Estate $ 1,801,397 $ 1,670,631 Commercial and Industrial 240,611 271,511 Total Commercial Loans 2,042,008 1,942,142 Consumer Residential Mortgages 783,903 787,929 Other Consumer 31,284 34,277 Total Consumer Loans 815,187 822,206 Construction 394,926 436,349 Other 297,400 305,213 Total Portfolio Loans 3,549,521 3,505,910 Loans Held-for-Sale — — Total Loans $ 3,549,521 $ 3,505,910 Our loan portfolio represents our most significant source of interest income. The risk that borrowers are unable to pay such obligations is inherent in the loan portfolio. Other conditions such as downturns in the borrower's industry or the overall economic climate can significantly impact the borrower’s ability to pay. For a discussion of the risk factors relevant to our business and operations, please refer to Part I, Item 1A, “Risk Factors,” contained in our Annual Report on Form 10-K for the year ended December 31, 2023 . Total portfolio loans increased $43.6 million, or 2.5%, on an annualized basis, and were $3.5 billion at both June 30, 2024 and December 31, 2023 with production primarily in our CRE portfolio. The CRE portfolio is monitored for potential concentrations of credit risk by market, property type and tenant concentrations. Given the current interest rate environment, our mortgage portfolio paydowns outpaced growth in the six months ended June 30, 2024. At June 30, 2024, the loan portfolio was comprised of 25.8% floating rates which reprice monthly, 40.3%, variable rates that reprice at least once during the life of 52 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) the loan and the remaining 33.9% are fixed rate loans. The Company continues to carefully monitor the loan portfolio during 2024, including in light of market conditions that impact our borrowers and the interest rate environment. Total CRE represented 50.8% of total portfolio loans at June 30, 2024 compared to 47.7% at December 31, 2023. The collateral for the Company’s CRE loans is concentrated predominantly in North Carolina, Virginia, South Carolina, West Virginia and Georgia within the retail/restaurant, warehouse, hospitality, multifamily, and office metrics. The following table presents the Company's loan portfolio breakout by CRE collateral type, loan amounts for each CRE collateral type included in special mention and substandard and the related percentages by segment to the CRE collateral types as of the periods presented: June 30, 2024 (Dollars in Thousands) Commercial Real Estate Commercial & Industrial Residential Mortgage Construction Other Total CRE Collateral Type in Special Mention and Substandard Risk Rating % of Each Segment to Total CRE Collateral Type Retail/Restaurant $ 407,615 $ 126 $ — $ 48,046 $ 3,260 $ 459,047 $ 46 18.8 % Warehouse 346,241 504 51 68,970 — 415,766 1,446 17.0 % Hospitality 301,343 — — 8,430 51,552 361,325 51,552 14.8 % Multifamily 300,220 — — 72,907 — 373,127 4,516 15.3 % Office 214,568 — — 8,617 508 223,693 958 9.1 % Land 1,092 — — 112,304 84,875 198,271 84,929 8.1 % Single Family 9,992 — 46,757 15,331 13,367 85,447 13,559 3.5 % Country Club — — — — 45,002 45,002 45,002 1.8 % Long-term Care 20,171 — — 13,954 — 34,125 — 1.4 % Other 203,575 423 — 22,069 22,836 248,903 22,937 10.2 % Total $ 1,804,817 $ 1,053 $ 46,808 $ 370,628 $ 221,400 $ 2,444,706 $ 224,945 100.0 % December 31, 2023 (Dollars in Thousands) Commercial Real Estate Commercial & Industrial Residential Mortgage Construction Other Total CRE Collateral Type in Special Mention and Substandard Risk Rating % of Each Segment to Total CRE Collateral Type Retail/Restaurant $ 380,285 $ 129 $ — $ 46,241 $ 3,300 $ 429,955 $ 62 18.2 % Warehouse 324,548 514 53 48,674 — 373,789 72 15.9 % Hospitality 288,323 — — 1,229 51,552 341,104 51,552 14.5 % Multifamily 258,676 — — 127,447 — 386,123 — 16.4 % Office 217,228 — — 4,424 508 222,160 1,857 9.4 % Land 1,153 — — 119,188 92,648 212,989 93,581 9.0 % Single Family 5,770 14 47,205 13,194 13,367 79,550 13,439 3.4 % Country Club — — — — 45,002 45,002 45,002 1.9 % Long-term Care 20,172 — — 7,250 — 27,422 — 1.2 % Other 201,353 444 127 34,932 — 236,856 22,941 10.1 % Total $ 1,697,508 $ 1,101 $ 47,385 $ 402,579 $ 206,377 $ 2,354,950 $ 228,506 100.0 % CRE loans represent a portfolio concentration risk. The majority of our CRE loans are made in the above noted geographies and granted to experienced developers and sponsors with loan guaranty structures that provide recourse to individuals with access to financial resources. We believe our knowledge of CRE and our operating knowledge at the local and regional level of these markets allows us to effectively manage concentration risk. Our operating knowledge at the local and regional level is derived from our front-line connection to the customer and our understanding of their business model. We also have access to research tools that inform us about market statistics such as occupancy, lease growth rates and new construction starts. This data is reviewed frequently by our credit officers and disseminated to our lenders. The Bank’s underwriting process includes multiple shock scenarios primarily focused on cash flow and leverage in order to determine a supportable loan amount. 53 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) We attempt to limit our exposure to credit risk by diversifying our loan portfolio by segment, geography, collateral and industry while actively managing concentrations. When concentrations exist in certain segments, we seek to mitigate this risk by reviewing the relevant economic indicators and internal risk rating trends of the loans in these segments. The Company established transaction, relationship and specific loan segment limits in its loan policy. Total commercial real estate balances should not exceed the combination of 300% of total risk-based capital and growth in excess of 50% over the previous thirty-six months and construction loan balances should not exceed 100% of total risk-based capital. Investment real estate property types and purchased loan programs have individual dollar limits that should not be exceeded in the portfolio and are based on management’s risk tolerance relative to capital. In addition, there are specific targets for various categories of real estate loans with respect to debt service coverage ratios, loan-to-value ratios, loan terms, and amortization periods. We also have policy limits on loan-to-cost for construction projects. Although leverage is important, the Company also focuses on cash flow generation and employs stress testing to calculate a supportable loan amount. Aggregate commitments to our top 10 credit relationships were $700.2 million at June 30, 2024. The Other segment represents 42.0% of the top 10 credit relationships including the Bank’s largest NPL relationship, the entire balance which was transferred to nonaccrual status during the second quarter of 2023, as described in more detail below under “Credit Quality” in this MD&A. The following table summarizes our top 10 relationships and a description of industries represented for the periods presented: (Dollars in Thousands) For the Periods Ending Change June 30, 2024 June 30, 2024 June 30, 2024 December 31, 2023 % of Gross Loans % of RBC 1. Hospitality, Agriculture & Energy $ 294,140 $ 301,913 $ (7,773) 8.29 % 60.75 % 2. Health Care Facility / Long-Term Care 53,297 53,683 (386) 1.50 % 11.01 % 3. Retail Real Estate & Food Services 52,913 53,576 (663) 1.49 % 10.93 % 4. Warehouse 50,469 51,185 (716) 1.42 % 10.42 % 5. Retail 44,851 45,187 (336) 1.27 % 9.26 % 6. Hospitality 43,612 44,297 (685) 1.23 % 9.01 % 7. Multifamily 41,834 4,368 37,466 1.18 % 8.64 % 8. Office 40,529 40,603 (74) 1.14 % 8.37 % 9. Retail Real Estate 40,476 41,530 (1,054) 1.14 % 8.36 % 10. Multifamily 38,049 43,157 (5,108) 1.07 % 7.85 % Top Ten (10) Relationships $ 700,170 $ 679,499 $ 20,671 19.73 % 144.60 % Total Gross Loans $ 3,549,521 $ 3,505,910 $ 43,611 % of Total Gross Loans 19.73 % 19.38 % 0.35 % Concentration (25% of RBC) $ 121,050 $ 121,231 Unfunded commitments on lines of credit were $558.7 million at June 30, 2024 compared to $568.7 million at December 31, 2023. The majority of unused commitments are for construction projects that will be drawn as the construction completes. Total utilization was 53.9% at June 30, 2024 and 53.8% at December 31, 2023. Unfunded commitments on commercial operating lines of credit was 53.8% at June 30, 2024 and 53.7% at December 31, 2023. Unsecured loans pose higher risk for the Company due to the lack of a well-defined secondary source of repayment. Commercial unsecured loans are reserved for the best quality customers with well-established businesses that operate with low financial and operating leverage. The repayment capacity of the borrower should exceed the policy and guidelines for secured loans. The Company significantly increased the standards for consumer unsecured lending by adjusting upward the required qualifying Fair Isaac Corporation (“FICO”) scores and restricting loan amounts at lower FICO scores. Deferred costs and fees included in the portfolio balances above were $7.6 million and $7.2 million at June 30, 2024 and December 31, 2023, respectively. Discounts on purchased 1-4 family loans included in the portfolio balances above were $119.7 thousand and $133.4 thousand at June 30, 2024 and December 31, 2023, respectively. Refer to Note 4, Loans and Loans Held-for-Sale, in the Notes to Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q for additional information related to our loans. 54 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) Credit Quality On a monthly basis, a Criticized Asset Committee meets to review certain watch, special mention and substandard risk rated loans within prescribed policy thresholds. These loans typically represent the highest risk of loss to the Company. Action plans are established and these loans are monitored through regular contact with the borrower and loan officer, review of current financial information and other documentation, review of all loan or potential loan restructures or modifications and the regular re-evaluation of assets held as collateral. On a quarterly basis, the Credit Risk Committee of the Board meets to review our loan portfolio metrics, approve segment limits, approve the adequacy of ACL, and review the findings from Loan Review identified in the previous quarter. Annually, this same committee approves credit related policy changes and policy enhancements as they become available. Additional credit risk management practices include continuous reviews of trends in our lending footprint and our lending policies and procedures to support sound underwriting practices, concentrations, delinquencies and annual portfolio stress testing. Our Loan Review department serves as a mechanism to independently monitor credit quality and assess the effectiveness of credit risk management practices to provide oversight of all lending activities. The loan review function has the primary responsibility for assessing commercial credit administration and credit decision functions of consumer and mortgage underwriting, as well as determining the appropriateness of risk ratings for those loans reviewed and providing input to the loan risk rating process. Our policy is to place loans in all categories in nonaccrual status when collection of interest or principal is doubtful, or generally when interest or principal payments are 90 days or more past due based on contractual terms. Consumer unsecured loans and secured loans are evaluated for charge-off after the loan becomes 90 days past due. Loans past due 90 days are automatically transferred to nonaccrual status. Management reserves the right to exercise discretion at the individual loan level. For example, we may elect to transfer a loan to nonaccrual regardless of the delinquency status if we believe the collection in full of both principal and interest to be unlikely. We may also elect to retain a loan that is 90 or more days’ delinquent in accrual status if we believe the loan is well secured and in the process of collection. Unsecured loans are fully charged-off and secured loans are charged-off to the estimated fair value of the collateral less the cost to sell. The ability of borrowers to repay commercial loans is dependent upon the success of their business and general economic conditions. Due to the greater potential for loss within our commercial portfolio, we monitor the commercial loan portfolio through an internal risk rating system. Loan risk ratings are assigned based upon the creditworthiness of the borrower and are reviewed on an ongoing basis according to our internal policies. Loans rated special mention or substandard have potential or well-defined weaknesses not generally found in high quality, performing loans, and require attention from management to limit loss. Nonperforming assets consist of nonaccrual loans and OREO. The following table summarizes nonperforming assets for the dates presented: (Dollars in Thousands) June 30, 2024 December 31, 2023 $ Change Nonaccrual Loans Commercial Real Estate $ 611 $ 1,324 $ (713) Commercial and Industrial 1,084 52 1,032 Residential Mortgages 1,951 3,283 (1,332) Other Consumer 30 59 (29) Construction 2,426 2,904 (478) Other 294,140 301,913 (7,773) Total Nonperforming Loans 300,242 309,535 (9,293) Other Real Estate Owned 2,501 2,463 38 Total Nonperforming Assets $ 302,743 $ 311,998 $ (9,255) Nonperforming assets decreased $9.3 million to $302.7 million at June 30, 2024 compared to December 31, 2023. The decrease of $9.3 million in nonperforming loans was primarily related to $7.8 million of curtailment payments made by the Bank’s largest NPL relationship. During the second quarter of 2023, the Company placed $301.9 million of commercial loans that reside in the Other segment of the Company’s loan portfolio, relating to the Bank’s largest lending relationship, on nonaccrual status due to loan maturities and failure to pay in full. These loans remained on nonaccrual status at both June 30, 2024 and December 31, 2023. These 55 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) nonperforming loans are 98.0% of the Company's total nonperforming loans and 97.2% of the Company's total nonperforming assets at June 30, 2024. During the second quarter of 2024, the federal court lawsuit filed against the Company and the Bank by West Virginia Governor James C. Justice II, his wife Cathy L. Justice, his son James C. Justice, III, and related entities that he and/or they own (collectively, the “Justice Entities”) was dismissed and we have agreed upon a pathway of curtailment and payoff of the outstanding loans with the Bank. During the second quarter of 2024, $7.8 million of curtailment payments made by the Bank’s largest NPL relationship have decreased the aggregate nonperforming loan balance outstanding to the Bank to $294.1 million as of June 30, 2024. The Company believes it is well secured based on the net carrying value of the credit relationship and it has appropriately reserved for expected credit losses with respect to all such loans based on information currently available. However, the Company cannot give any assurance as to the timing or amount of future payments or collections on such loans or that the Company will ultimately collect all amounts contractually due. The Company is closely monitoring all developments that may impact collateral values or potential recoveries on its nonperforming loans, including claims that may be asserted by other purported creditors. Based on analyses of the credit relationship and various discounted cash flow valuation techniques utilized in the alternative modeling, which resulted in a valuation allowance with respect to these loans of $52.9 million at June 30, 2024, representing 18.0%, of these loans aggregate principal amount. As the borrowers on these loans operate in the hospitality, agriculture, and energy sectors, this credit relationship is secured by, among other collateral, commercial real estate properties in these sectors including but not limited to top-tier hospitality properties. When evaluating the net carrying value of this credit relationship at June 30, 2024, the Company utilized discounted cash flow valuation techniques to estimate the timing and magnitude of potential recoveries resulting from various collection processes. The following is an analysis of nonperforming loans by loan portfolio segment for the dates presented, and each segment’s relative contribution to total nonperforming loans: June 30, 2024 December 31, 2023 (Dollars in Thousands) Amount % of NPLs Amount % of NPLs Commercial Real Estate $ 611 0.2 % $ 1,324 0.4 % Commercial & Industrial 1,084 0.4 % 52 — % Residential Mortgages 1,951 0.6 % 3,283 1.1 % Other Consumer 30 — % 59 — % Construction 2,426 0.8 % 2,904 1.0 % Other 294,140 98.0 % 301,913 97.5 % Balance End of Period 300,242 100.0 % 309,535 100.0 % Closed retail bank offices had a book value of $1.3 million at June 30, 2024 and $2.3 million at December 31, 2023, and are recorded in OREO on the Company’s balance sheet. During the six months ended June 30, 2024, the Bank sold two retail banking offices and moved $1.2 million of loans at fair value to OREO. These properties are currently being marketed for sale. Past Company legacy underwriting standards relied heavily on loan to value and did not necessarily consider the income characteristics of the borrower or the repayment capacity of collateral with respect to speculative land financing. An overreliance on value as a primary repayment source can become compromised during real estate cycles. As a result, management has worked through these legacy credits and has installed a number of underwriting guardrails that consider the global cash flows and repayment capability of borrowers and/or guarantors, the proportion of speculation, transaction limits and introduced sensitivity analysis in order to determine supportable loan amounts. While these guardrails do not insulate the Company from credit cycles, management believes it should reduce the experience of defaults. Closed-end installment loans, amortizing loans secured by real estate and any other loans with payments scheduled monthly are reported past due when the borrower is in arrears two or more monthly payments. Other multi-payment obligations with payments scheduled other than monthly are reported past due when one scheduled payment is due and unpaid for 30 days or more. We monitor delinquency on a monthly basis, including loans that are at risk for becoming delinquent and early stage delinquencies in order to identify emerging patterns and potential problem loans. 56 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) Allowance for Credit Losses The following is the allocation of the ACL reserves by segment for the periods presented: June 30, 2024 December 31, 2023 (Dollars in Thousands) Amount % of Loans in each Category to Total Portfolio Loans Amount % of Loans in each Category to Total Portfolio Loans Commercial Real Estate $ 19,817 50.7 % $ 19,873 47.7 % Commercial & Industrial 3,194 6.8 % 3,286 7.7 % Residential Mortgages 10,744 22.1 % 10,879 22.5 % Other Consumer 760 0.9 % 868 1.0 % Construction 9,217 11.1 % 7,792 12.4 % Other 52,954 8.4 % 54,354 8.7 % Balance End of Period $ 96,686 100.0 % $ 97,052 100.0 % The ACL was $96.7 million, or 2.72%, of total portfolio loans at June 30, 2024 compared to $97.1 million, or 2.77%, of total portfolio loans at December 31, 2023. The following table summarizes the credit quality ratios and their components as of June 30, 2024 and December 31, 2023: (Dollars in Thousands) June 30, 2024 December 31, 2023 Allowance for Credit Losses to Total Portfolio Loans Allowance for Credit Losses $ 96,686 $ 97,052 Total Portfolio Loans 3,549,521 3,505,910 Allowance for Credit Losses to Total Portfolio Loans 2.72 % 2.77 % Nonperforming Loans to Total Portfolio Loans Nonperforming Loans $ 300,242 $ 309,535 Total Portfolio Loans 3,549,521 3,505,910 Nonperforming Loans to Total Portfolio Loans 8.46 % 8.83 % Allowance for Credit Losses to Nonperforming Loans Allowance for Credit Losses $ 96,686 $ 97,052 Nonperforming Loans 300,242 309,535 Allowance for Credit Losses to Nonperforming Loans 32.20 % 31.35 % Net Charge-offs to Average Portfolio Loans Net Charge-offs (annualized) $ 1,756 $ 2,300 Average Total Portfolio Loans 3,527,357 3,324,757 Net Charge-offs to Average Portfolio Loans 0.05 % 0.07 % See the Credit Quality and Allowance for Credit Losses sections within this MD&A for an analysis of the factors that drove the changes in the ACL ratios presented in the previous table. The provision for credit losses, which includes a provision for losses on loans and on unfunded commitments, is a charge to earnings to maintain the ACL at a level consistent with management's assessment of expected losses in the loan portfolio at the balance sheet date. The provision for credit losses increased $0.4 million and decreased $1.0 million for the three and six months ended June 30, 2024 when compared to the same periods in 2023. The increase in the provision for credit losses for the quarterly comparison was primarily driven by loan growth, net charge-offs and a $0.5 million reserve on a new individually evaluated loan in the second quarter of 2024, offset by $1.4 million of other segment reserves released related to the aforementioned $7.8 million of curtailment payments made by the Bank’s largest NPL relationship. The decrease for the six months ended June 30, 2024 in the provision for credit losses, compared to the same period in 2023, was primarily driven by the aforementioned $1.4 million of other segment reserves released related to the aforementioned $7.8 million of curtailment payments, a $0.5 million reserve on a new individually evaluated loan and lower loan growth in 2024. For more information about the Company’s provision for credit losses, see the discussion above under “Provision for Credit Losses” in this MD&A. 57 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) The (recovery) provision for unfunded commitments decreased $0.6 million and $0.7 million for the three and six months ended June 30, 2024 compared to the same periods in 2023. The declines were due to decreased commitments in construction loans during the second quarter of 2024. The reserve for unfunded commitments is largely comprised of unfunded commitments related to real estate construction loans and pressure on the reserve rates. There are three basic factors that influence the reserve rates associated with unfunded commitments for real estate construction loans. First, the reserve rate is extrapolated from the reserve rates calculated for certain commercial real estate funded loans within the ACL model. These reserve rates are influenced by the same factors cited in the ACL model such as economic forecasts, average portfolio life, etc. Refer to Note 1, Basis of Presentation, in the Notes to Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q for additional information related to the ACL Policy and the discussion of these factors. Second, since the category of construction is generic, management applies a weighting of the reserve rates associated with certain commercial real estate loans. The proportion of these segments affect the weighting. Third, volume changes impact the total reserve calculation. Net charge-offs were $0.3 million and $0.9 million for the three and six months ended June 30, 2024 compared to $0.6 million and $1.2 million for the same periods in 2023. During the three and six months ended June 30, 2024, net charge-offs were primarily recognized in the other consumer segment. As a percentage of average portfolio loans, on an annualized basis, net charge-offs were 0.04% and 0.05% for the three and six months ended 2024 and 0.08% for both the three and six months ended June 30, 2023. At June 30, 2024, nonperforming loans decreased $9.3 million to $300.2 million since December 31, 2023. Nonperforming loans as a percentage of total portfolio loans were 8.46% and 8.83% as of June 30, 2024 and December 31, 2023, respectively. For more information about the Company’s nonperforming loans and about this lending relationship, see the discussion above under “Credit Quality” in this MD&A. The following tables represent credit exposures by internally assigned risk ratings as of the periods presented: June 30, 2024 (Dollars in Thousands) Commercial Real Estate Commercial and Industrial Residential Mortgage Other Consumer Construction Other Total Portfolio Loans Pass $ 1,794,824 $ 234,596 $ 781,858 $ 31,254 $ 392,446 $ 3,260 $ 3,238,238 Special Mention 4,582 2,827 93 — 54 — 7,556 Substandard 1,991 3,188 1,952 30 2,426 294,140 303,727 Total Portfolio Loans $ 1,801,397 $ 240,611 $ 783,903 $ 31,284 $ 394,926 $ 297,400 $ 3,549,521 Performing $ 1,800,786 $ 239,527 $ 781,952 $ 31,254 $ 392,500 $ 3,260 $ 3,249,279 Nonperforming 611 1,084 1,951 30 2,426 294,140 300,242 Total Portfolio Loans $ 1,801,397 $ 240,611 $ 783,903 $ 31,284 $ 394,926 $ 297,400 $ 3,549,521 December 31, 2023 (Dollars in Thousands) Commercial Real Estate Commercial and Industrial Residential Mortgage Other Consumer Construction Other Total Portfolio Loans Pass $ 1,669,029 $ 268,622 $ 784,090 $ 34,202 $ 433,321 $ 3,300 $ 3,192,564 Special Mention 278 2,837 525 — 60 — 3,700 Substandard 1,324 52 3,314 75 2,968 301,913 309,646 Total Portfolio Loans $ 1,670,631 $ 271,511 $ 787,929 $ 34,277 $ 436,349 $ 305,213 $ 3,505,910 Performing $ 1,669,307 $ 271,459 $ 784,646 $ 34,218 $ 433,445 $ 3,300 $ 3,196,375 Nonperforming 1,324 52 3,283 59 2,904 301,913 309,535 Total Portfolio Loans $ 1,670,631 $ 271,511 $ 787,929 $ 34,277 $ 436,349 $ 305,213 $ 3,505,910 At June 30, 2024 and December 31, 2023, the Company had no loans that were risk rated as doubtful. Special mention and substandard loans at June 30, 2024 decreased $2.1 million compared to December 31, 2023, with a decrease of $5.9 million in substandard and an increase of $3.8 million in special mention. The decrease of $5.9 million in substandard was primarily related to the aforementioned $7.8 million of curtailment payments received in the second quarter of 2024 in the Other segment category, partially offset by two Commercial & Industrial (“C&I”) loan relationships and one CRE loan that were downgraded 58 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) to substandard, during the second quarter of 2024, totaling $4.5 million. Also impacting the decrease in substandard loans were two loans, one of which was a commercial real estate (“CRE”) loan and the other was a construction loan, totaling $1.1 million that were moved to OREO and a $1.1 million mortgage loan that was resolved during the first quarter of 2024. At both June 30, 2024 and December 31, 2023 substandard loans were impacted by the above mentioned large nonaccrual lending relationship in the Other loan category, which was placed on nonaccrual status during the second quarter of 2023. Additionally, refer to Note 5, Allowance for Credit Losses, in the Notes to Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q for additional information related to the ACL. Deposits The following table presents the composition of deposits for the periods presented: (Dollars in Thousands) June 30, 2024 December 31, 2023 $ Change % Change Noninterest-Bearing Demand $ 653,296 $ 685,218 $ (31,922) (4.7) % Interest-Bearing Demand 565,465 481,506 83,959 17.4 % Money Market 500,475 513,664 (13,189) (2.6) % Savings 399,833 454,876 (55,043) (12.1) % Certificates of Deposit 1,762,232 1,586,651 175,581 11.1 % Total Deposits $ 3,881,301 $ 3,721,915 $ 159,386 4.3 % Deposits are the Company’s primary source of funds. The Company believes that the deposit base is stable and that the Company has the ability to attract new depositors while diversifying the deposit composition. Total deposits at June 30, 2024 increased $159.4 million, or 8.6% on an annualized basis, from December 31, 2023. The variance related to an increase of $175.5 million in CDs, which includes an increase of $45.6 million in brokered CDs, and an increase of $84.0 million in interest-bearing demand accounts, offset by a decrease of $55.0 million in savings accounts, a decrease of $31.9 million in noninterest-bearing demand accounts and a decrease of $13.2 million in money market accounts. The Company had $115.6 million brokered CDs at June 30, 2024, compared to $70.0 million at December 31, 2023. At June 30, 2024, noninterest-bearing deposits comprised 16.8% of total deposits compared to 18.4% at December 31, 2023 and 19.3% at June 30, 2023. CDs comprised 45.4%, 42.6% and 40.5% of total deposits at June 30, 2024, December 31, 2023 and June 30, 2023, respectively. As of June 30, 2024, based on assumptions that the Bank uses to prepare its regulatory call report, approximately 82.8% of our total deposits of $3.9 billion were insured under standard FDIC insurance coverage limits, and approximately 17.2% of our total deposits were uninsured deposits over the standard FDIC insurance coverage limit. The Company’s deposit base is diversified and granular and is comprised of approximately 78.4% of retail deposits. 59 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) The following table presents additional information in relation to deposits: (Dollars in Thousands) June 30, 2024 December 31, 2023 Deposits from the Certificate of Deposit Account Registry Services ("CDARS") $ — $ — Brokered Deposits 115,551 70,000 Noninterest-Bearing Public Funds Deposits 44,753 51,506 Interest-Bearing Public Funds Deposits 135,847 127,100 Total Deposits not Covered by Deposit Insurance (1) 666,232 647,154 Certificates of Deposits not Covered by Deposit Insurance 273,075 234,968 Deposits for Certain Directors, Executive Officers and their Affiliates 2,014 1,799 (1) These deposits are presented on an estimated basis. This estimate was determined based on the same methodologies and assumptions used for regulatory reporting requirements. Maturities of CDs over $250,000 or more not covered by deposit insurance at June 30, 2024 are summarized as follows: (Dollars in Thousands) Amount Percent Three Months or Less $ 74,221 27.2 % Over Three Months Through Twelve Months 188,132 68.9 % Over Twelve Months Through Three Years 9,565 3.5 % Over Three Years 1,157 0.4 % Total $ 273,075 100.0 % Borrowings and Federal Funds Purchased Borrowings are an additional source of liquidity for the Company. FHLB borrowings decreased $155.4 million to $238.0 million at June 30, 2024 and were $393.4 million at December 31, 2023. The Company had no overnight federal funds purchased at June 30, 2024 or at December 31, 2023. The level and composition of borrowed funds fluctuates over time based on many factors including market conditions, loan growth, investment securities, deposits growth and capital considerations. We manage our borrowed funds to provide a reliable source of liquidity. Information pertaining to FHLB borrowings and federal funds purchased is summarized in the following table: (Dollars in Thousands) June 30, 2024 December 31, 2023 Balance at Period End Federal Home Loan Bank Borrowings $ 238,000 $ 393,400 Federal Funds Purchased $ — $ — Average Balance during the Period Federal Home Loan Bank Borrowings $ 324,968 $ 402,675 Federal Funds Purchased $ — $ 7,023 Average Interest Rate during the Period Federal Home Loan Bank Borrowings 5.26 % 5.17 % Federal Funds Purchased — % 5.24 % Maximum Month-end Balance during the Period Federal Home Loan Bank Borrowings $ 403,000 $ 525,135 Federal Funds Purchased $ — $ 46,965 Average Interest Rate at Period End Federal Home Loan Bank Borrowings 5.05 % 5.20 % Federal Funds Purchased — % — % The Company held FHLB of Atlanta stock of $14.5 million and $21.6 million at June 30, 2024 and December 31, 2023, respectively. The decrease in FHLB stock was due to a lower required level of stock holdings due to a lower level of FHLB borrowings. Dividends recorded on restricted stock were $0.3 million and $0.7 million for the three and six months ended June 30, 2024 compared to $0.3 million and $0.6 million for the same periods in 2023. The investment is carried at cost and evaluated for impairment based on the ultimate recoverability of the par value. We hold FHLB stock because we are a member of the FHLB of Atlanta. The FHLB requires members to purchase and hold a specified level of FHLB stock based upon the 60 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) members’ asset values, level of borrowings and participation in other programs offered. Stock in the FHLB is non-marketable and is redeemable at the discretion of the FHLB. Members do not purchase stock in the FHLB for the same reasons that traditional equity investors acquire stock in an investor-owned enterprise. Rather, members purchase stock to obtain access to the products and services offered by the FHLB. Unlike equity securities of traditional for-profit enterprises, the stock of the FHLB does not provide its holders with an opportunity for capital appreciation because, by regulation, FHLB stock can only be purchased, redeemed and transferred at par value. Refer to Note 9, Federal Home Loan Bank Borrowings, in the Notes to Consolidated Financial Statements in Item 1 of this Quarterly Report on Form 10-Q for additional information related to borrowings. Liquidity and Capital Resources Liquidity is defined as a financial institution’s ability to meet its cash and collateral obligations at a reasonable cost. This includes the ability to satisfy the financial needs of depositors who want to withdraw funds or borrowers needing to access funds to meet their credit needs. In order to manage liquidity risk the Company’s Board has delegated authority to ALCO for formulation, implementation and oversight of liquidity risk management for the Company. The ALCO’s goal is to maintain adequate levels of liquidity at a reasonable cost to meet funding needs in both a normal operating environment and for potential liquidity stress events. The ALCO closely monitors and manages liquidity by reviewing cash flow projections, performing balance sheet stress tests and by maintaining a detailed contingency funding plan that includes specific liquidity measures that are reviewed by the ALCO monthly. Our liquidity policy and contingency funding plan provide graduated risk tolerance levels for multiple liquidity measures and potential liquidity environments. If our liquidity position moves to a level that has been defined as high risk, specific actions are required, such as increased monitoring or the development of an action plan to reduce the risk position. The Company’s primary funding and liquidity source is a stable customer deposit base. Management believes that we have the ability to retain existing deposits and attract new deposits, mitigating any potential funding dependency on other more volatile sources. Although deposits are the primary source of funds, the Company has identified various other funding sources that can be used as part of our normal funding program when either a structure or cost efficiency has been identified. Additional funding sources accessible to the Company include borrowing availability at the FHLB, equal to 25.0% of the Company’s assets or approximating $1.1 billion, subject to the amount of eligible collateral pledged, of which the Company is eligible to borrow up to an additional $669.5 million. The Company has unsecured facilities with three other correspondent financial institutions totaling $50.0 million, a fully secured facility with one other correspondent financial institution totaling $45.0 million, and access to the institutional CD market, and the brokered deposit market. The Company did not have outstanding borrowings on these fed funds lines as of June 30, 2024. In addition to the above funding resources, the Company also has $438.2 million of unpledged available-for-sale investment securities, at fair value, as an additional source of liquidity. Please refer to the Liquidity Sources table below for available funding with the FHLB and our secured and unsecured lines of credit with correspondent banks. As of June 30, 2024, approximately 82.8% of our total deposits of $3.9 billion were insured under standard FDIC insurance coverage limits, and approximately 17.2% of our total deposits were uninsured deposits over the standard FDIC insurance coverage limit. The Company closely monitors changes in the industry and market conditions that may impact the Company’s liquidity and will use other borrowing means or other liquidity and funding strategies sources to fund its liquidity needs as needed. The Company is also closely tracking the potential impacts on the Company’s liquidity of declines in the fair value of the Company’s securities portfolio due to rising market interest rates and developments in the banking industry that may change the availability of traditional sources of liquidity or market expectations with respect to available sources and amounts of additional liquidity. An important component of our ability to effectively respond to potential liquidity stress events is maintaining a cushion of highly liquid assets. Highly liquid assets are those that can be converted to cash quickly, with little or no loss in value, to meet financial obligations. ALCO policy guidelines define a ratio of highly liquid assets to total assets by graduated risk tolerance levels of minimal, moderate and high. At June 30, 2024, the Bank had $459.6 million in highly liquid assets, which consisted of Federal Reserve Board Excess Reserves and interest-bearing deposits in other financial institutions of $21.4 million and $438.2 million in unpledged securities. This resulted in highly liquid assets to total assets ratio of 10.1% at June 30, 2024. Total available liquidity to uninsured deposits was 195.7% at June 30, 2024. 61 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) If an extended recession, or significant industry or market volatility, caused large numbers of our deposit customers to withdraw their funds, we might become more reliant on volatile or more expensive sources of funding. The following table provides detail of liquidity sources as of the periods presented: (Dollars in Thousands) June 30, 2024 December 31, 2023 Cash and Due From Banks, including Interest-bearing Deposits $ 61,746 $ 54,529 Unpledged Investment Securities 438,225 563,537 Excess Pledged Securities 39,444 61,774 FHLB Borrowing Availability 669,474 480,266 Collateralized Lines of Credit 45,000 — Unsecured Lines of Credit 50,000 50,000 Total Liquidity Sources $ 1,303,889 $ 1,210,106 The following table provides total liquidity sources and ratios as of the periods presented: (Dollars in Thousands) June 30, 2024 December 31, 2023 Total Liquidity Sources $ 1,303,889 $ 1,210,106 Highly Liquid Assets to Total Assets 10.1 % 12.8 % Highly Liquid Assets to Uninsured Deposits 69.0 % 89.4 % Total Available Liquidity to Uninsured Deposits 195.7 % 187.0 % Regulatory Capital Requirements Total capital of $364.4 million at June 30, 2024, reflects an increase of $13.2 million compared to December 31, 2023. The increase in total capital from December 31, 2023 is primarily due to net income of $10.6 million, a $1.8 million decrease in other comprehensive loss due to changes in fair value of investment securities, as well as an increase of $0.8 million related to restricted stock activity all during the six months ended June 30, 2024. The Company and the Bank are subject to various capital requirements administered by the federal banking regulators. Failure to meet the minimum capital requirements can initiate certain mandatory and possibly 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, we must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Prompt corrective action provisions are not applicable to bank holding companies. Quantitative measures established by regulations to ensure capital adequacy require us to maintain minimum amounts and ratios. Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required. At June 30, 2024 and December 31, 2023, the most recent regulatory notifications categorized the Bank as well-capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the institution’s category. At June 30, 2024, the Bank continues to maintain its capital position with a leverage ratio of 9.35% as compared to the regulatory guideline of 5.00% to be well-capitalized and a risk-based Common Equity Tier 1 ratio of 10.86% compared to the regulatory guideline of 6.50% to be well-capitalized. The Bank’s risk-based Tier 1 and Total Capital ratios were 10.86% and 12.13%, respectively, which places the Bank above the federal bank regulatory agencies’ well-capitalized guidelines of 8.00% and 10.00%, respectively. We believe that we have the ability to raise additional capital, if necessary. The Basel rules permit banking organizations with less than $15.0 billion in assets to retain, through a one-time election, existing treatment for accumulated other comprehensive income (loss), which currently does not affect regulatory capital. The Company elected to retain this treatment which reduces the volatility of regulatory capital levels. 62 Table of Contents CARTER BANKSHARES, INC. ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (continued) The Basel III Capital Rules require the Company and the Bank to maintain minimum Common Equity Tier 1, Tier 1 and Total Capital ratios, along with a capital conservation buffer, effectively resulting in new minimum capital ratios. The capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of Common Equity Tier 1 capital to risk-weighted assets above the minimum, but below the conservation buffer (or below the combined capital conservation buffer and countercyclical capital buffer, when the latter is applied) will face constraints on dividends, equity repurchases and compensation based on the amount of the shortfall. The Basel III Capital Rules also provide for a “countercyclical capital buffer” that is applicable to only certain covered institutions and does not have any current applicability to the Company or the Bank. The following table summarizes the actual risk-based capital amounts and ratios for the Company and the Bank for the dates presented: (Dollars in Thousands) Minimum Required Basel III Well Capitalized (1) June 30, 2024 December 31, 2023 Amount Ratio Amount Ratio Carter Bankshares, Inc. Leverage Ratio 4.00 % NA $ 434,044 9.43 % $ 435,364 9.48 % Common Equity Tier 1 (to Risk-weighted Assets) 7.00 % NA 434,044 10.95 % 435,364 11.08 % Tier 1 Capital (to Risk-weighted Assets) 8.50 % NA 434,044 10.95 % 435,364 11.08 % Total Capital (to Risk-weighted Assets) 10.50 % NA 484,199 12.22 % 484,925 12.34 % Carter Bank & Trust Leverage Ratio 4.00 % 5.00 % $ 430,053 9.35 % $ 431,550 9.41 % Common Equity Tier 1 (to Risk-weighted Assets) 7.00 % 6.50 % 430,053 10.86 % 431,550 10.99 % Tier 1 Capital (to Risk-weighted Assets) 8.50 % 8.00 % 430,053 10.86 % 431,550 10.99 % Total Capital (to Risk-weighted Assets) 10.50 % 10.00 % 480,161 12.13 % 481,070 12.25 % (1) To be “well capitalized” under the prompt corrective action framework applies to the Bank only. Contractual Obligations As of June 30, 2024, there have been no material changes outside the ordinary course of business to the information about the Company’s contractual obligations and cash commitments disclosed in Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations," under the heading “Contractual Obligations” in the Company's Annual Report on Form 10-K for the year ended December 31, 2023 ( the “2023 Annual Report”). Off-Balance Sheet Arrangements As of June 30, 2024, there have been no material changes to the off-balance sheet arrangements disclosed in Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations," under the heading "Off-Balance Sheet Arrangements" in the Company’s 2023 Annual Report.