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Item 2. Management’s Discussion and Analysis

2021-11-15 compared with 2021-08-16 · 197 added, 190 removed, 500 unchanged (44% of the section changed)

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FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Period Ended June 30, 2021

Period Ended September 30, 2021

The following discussion analyzes the consolidated financial condition of Community Bancorp.

and its wholly-owned subsidiary, Community National Bank, as of June 30, 2021 and December 31, 2020, and its consolidated results of operations for the three- and six-month interim periods presented.

and its wholly-owned subsidiary, Community National Bank, as of September 30, 2021 and December 31, 2020, and its consolidated results of operations for the three- and nine-month interim periods presented.

The Company is considered a “smaller reporting company” under the disclosure rules of the SEC.

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government debt;

the planned phase out the LIBOR by the end of 2021, which could adversely affect the Company’s interest costs in future periods on its $12,887,000 in principal amount of Junior Subordinated Debentures due December 12, 2037, which currently bear interest at a variable rate, adjusted quarterly, equal to 3-month LIBOR, plus 2.85%;

the planned phase out of three month LIBOR by June 30, 2023, which could adversely affect the Company’s interest costs in future periods on its $12,887,000 in principal amount of Junior Subordinated Debentures due December 12, 2037, which currently bear interest at a variable rate, adjusted quarterly, equal to 3-month LIBOR, plus 2.85%;

the effect of COVID-19 and emerging variants of the virus on our Company, the communities where we have branches and loan production offices, the State of Vermont and the national and global economies and overall stability of the financial markets;

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However, that information should be considered supplemental in nature and not as a substitute for related financial information prepared in accordance with GAAP.

The Company’s consolidated assets on June 30, 2021 were $925,498,638 compared to $918,233,284 at December 31, 2020, an increase of 0.8%.

Changes in the asset base included an increase of $30,850,957, or 50.8%, in securities AFS, which was partially offset by a decrease in cash and due from banks of $18,743,386, or 16.3% and a decrease in net loans of $7,268,217, or 1.0%.

The growth in the securities AFS portfolio was due to purchases totaling $41.6 million during the first six months of 2021, which was funded in part by the decrease in cash and due from banks.

The decrease in loans was primarily attributable to a seasonal decrease in the municipal loan portfolio related to the June 30 municipal fiscal year cycle.

Approximately $16.5 million matured on June 30, 2021 and were replaced with approximately $18.0 million during the first two weeks of July, 2021.

Total deposits on June 30, 2021 were $799,893,395 compared to $782,290,840 on December 31, 2020, an increase of $17.6 million, or 2.3%, reflecting the combined effect of increases in core deposits (demand deposit accounts, non-interest bearing) of $18.7 million, or 10.0%, and savings accounts of $19.2 million, or 15.4%, and partially offset by decreases of $10.8 million, or 4.4%, in interest-bearing transaction accounts due to municipal deposits that run off related to the maturing loans mentioned above.

A decrease of $4.2 million, or 3.6%, is noted in money market funds, as well as a decrease of $5.3 million, or 4.7%, in time deposits.

The Company’s consolidated assets on September 30, 2021 were $968,584,267 compared to $918,233,284 at December 31, 2020, an increase of 5.5%.

Changes in the asset base included an increase of $49,970,961, or 82.3%, in securities AFS, and an increase in cash and cash equivalents of $14,702,116, or 12.8%, which was partially offset by a decrease in net loans of $17,281,314, or 2.5%.

The growth in the securities AFS portfolio was due to purchases totaling $66.0 million during the first nine months of 2021.

The decrease in loans was primarily attributable to forgiveness payments in the PPP portfolio, which had an aggregate principal balance of $35.7 million as of September 30, 2021, compared to $64.4 million at December 31, 2020.

Net of the decrease in PPP loans, loans increased by $12MM, or 1.9% year to date.

More discussion on the activity of this portfolio can be found in the Credit Risk section.

Total deposits on September 30, 2021 were $840,094,760 compared to $782,290,840 on December 31, 2020, an increase of $57.8 million, or 7.4%, reflecting the combined effect of increases in core deposits (demand deposit accounts, non-interest bearing) of $15.5 million, or 8.30%, an increase in interest-bearing transaction accounts of $8.6 million, or 3.8%, an increase in money market funds totaling $9.2 million, or 8.0%, and an increase in savings accounts of $30.2 million, or 21.8%.

These increases were partially offset by a decrease of $5.7 million, or 5.0%, in time deposits.

The increase in core deposits was driven in part by PPP loan funds that were deposited in business checking accounts as well as increases in customer checking accounts likely from stimulus payments, unemployment benefits and deferral or forbearance agreements on residential mortgage and student loans.

Consolidated net income during the second quarter of 2021 increased $204,095, or 7.2%, while year to date consolidated net income increased $1.4 million, or 29.1%, from $4.7 million for the first six months of 2020 to $6.1 million for the same period in 2021.

PPP loan processing fees from the SBA and a significant decrease in interest expense were the main drivers in the increase in net income for the three- and six-month comparison periods.

Please refer to the Non-interest Income and Non-interest Expense sections for more information on these and other changes for the three- and six-month periods ended June 30, 2021.

Total interest income increased $85,699, or 1.1%, for the second quarter of 2021, compared to the same quarter in 2020, and increased $930,457, or 5.8%, year to date for June 30, 2021, compared to the same period in 2020.

An increase in interest earned on the investment portfolio, and the recognition of PPP loan processing fees from the SBA of $835,999 for the second quarter and $2.1 million for the first six months of 2021 contributed to the increase in both periods.

Those processing fees represented 91.0% and 93.4%, respectively, of the total of fees on loans of $918,304 for the second quarter of 2021, and $2.2 million for the six months ended June 30, 2021, compared to total fees on loans of $584,077 and $609,630, respectively, for the same periods in 2020.

Consolidated net income during the third quarter of 2021 increased $818,760, or 28.4%, and year to date consolidated net income increased $2.2 million, or 28.8%, from $7.6 million for the first nine months of 2020 to $9.8 million for the same period in 2021.

PPP loan processing fees from the SBA and a significant decrease in interest expense were the main drivers in the increase in net income for the three- and nine-month comparison periods.

Please refer to the Non-interest Income and Non-interest Expense sections for more information on these and other changes for the three- and nine-month periods ended September 30, 2021.

Total interest income increased $1.1 million, or 13.9%, for the third quarter of 2021, compared to the same quarter in 2020, and increased $2.1 million, or 8.5%, year to date through September 30, 2021, compared to the same period in 2020.

The increase in interest earned on the investment portfolio was due to an increase in volume, and the recognition of PPP loan processing fees from the SBA of $1.6 million for the third quarter and $3.7 million for the first nine months of 2021 contributed to the increase in both periods.

Those processing fees represented 95.5% and 94.3%, respectively, of the total of fees on loans of $1.7 million for the third quarter of 2021, and $3.9 million for the nine months ended September 30, 2021, compared to 86.3% and 84.8%, respectively, of total fees on loans of $525,601 and $1.2 million, for the same periods in 2020.

The opportunity for an increase in interest income from the loan growth was curbed by the mandated 1% interest rate on SBA PPP loans.

Significantly impacting earnings during the comparison periods were decreases in total interest expense of $440,942, or 36.5%, for the second quarter of 2021 compared to 2020, and $1.1 million, or 39.6%, for the first six months of 2021, compared to the same period in 2020, despite a 14.4% increase in total deposits year over year.

The 150 basis point decrease in short-term rates initiated by the FRB in March, 2020 in response to the COVID-19 pandemic resulted in a decrease in most components of interest expense, as rates paid on deposit accounts were reduced to reflect the changes in market rates.

Despite a 14.2% increase in total interest-bearing deposits year over year, a decrease in total interest expense of $322,086, or 30.7%, is noted for the third quarter of 2021 compared to 2020, and a decrease of $1.4 million, or 37.1%, is noted for the first nine months of 2021, compared to the same period in 2020.

The 150 basis point decrease in short-term rates initiated by the FRB in March 2020 in response to the COVID-19 pandemic and sustained since then has resulted in a decrease in most components of interest expense, as rates paid on deposit accounts were reduced to reflect the changes in market rates.

Please refer to the interest rate sensitivity discussion in the Interest Rate Risk and Asset and Liability Management section for more information on the impact that FRB action and changes in the yield curve could have on net interest income.

The provision for loan losses for the second quarter of 2021 was $267,501 compared to $307,499 for the second quarter of 2020, and $534,998 for the first six months of 2021, compared to $684,002 for the same period in 2020, resulting in decreases of 13.0% and 21.8%, respectively, between periods.

These decreases to the provision in both periods were primarily due to higher than anticipated loan charge off activity as well as loan growth during the first six months of 2020 while net charge off activity in 2021 has been negligible and much of the loan growth for the quarter was attributable to PPP loans, which bear a 100% SBA guarantee, subject to borrower eligibility requirements.

The provision for loan losses for the third quarter of 2021 was $89,167 compared to $362,499 for the same quarter of 2020, and $624,165 for the first nine months of 2021, compared to just over $1.0 million for the same period in 2020, resulting in decreases of 75.4% and 40.4%, respectively, between periods.

These decreases to the provision in both periods were primarily due to a negligible level of charge off activity, a decline in historical loss rates and a decrease in the amount of the loan portfolio during the first nine months of 2021, compared to higher than anticipated loan charge off activity as well as loan growth during the same period last year.

Additionally, most of the loan growth during the first nine months of 2021 was attributable to PPP loans, which bear a 100% SBA guarantee, subject to borrower eligibility requirements.

Please refer to the ALL and provisions discussion in the Credit Risk section for more information on these decreases.

During 2020 and the first six months of 2021, the Company navigated through the new challenges presented by the COVID-19 pandemic, including the granting of loan payment deferrals to customers impacted by the pandemic.

As of June 30, 2021, 525 business and retail customer portfolio loans, with unpaid principal balances of $111.0 million, remained modified to provide temporary debt relief to customers impacted by the COVID-19 pandemic.

These short term concessions were made in accordance with guidance from the federal banking regulators, confirmed by them with the FASB, and are therefore not considered to be impaired under GAAP (see Note 6 to the accompanying unaudited interim consolidated financial statements for additional information).

As of June 30, 2021, the Company had originated 1,843 PPP loans totaling $163.6 million, and expects to earn approximately $7.0 million in loan fees over the life of the related loans, of which $4.2 million had been recognized as of June 30, 2021.

These loans are eligible to be forgiven to the extent that the funds are used for payroll costs and other permissible expenses.

Borrowers can apply for forgiveness after a specified covered period.

PPP loan forgiveness applications are processed by the lender, with forgiveness requests for loans in excess of $2.0 million reviewed by the SBA.

Neither the government nor lenders are permitted to charge the borrowers any fees on PPP loans.

These loans carry a fixed rate of 1.00% and are 100% guaranteed by the SBA, subject to borrower eligibility requirements.

The SBA pays the originating bank a processing fee ranging from 1% to 5%, based on the size of the loan.

As of June 30, 2021, the Company had reviewed and submitted 939 PPP loans with total balances of approximately $102.3 million to the SBA for forgiveness consideration.

Of these totals, 875 loans totaling $95.9 million had been forgiven as of June 30, 2021.

Beginning in the second quarter of 2020, participation in the PPP has had a significant impact on our asset mix, liquidity position and net interest margin.

We maintain access to multiple sources of liquidity, including access to the PPPLF of the FRB, which was established by the FRB to facilitate funding of PPP lending activity by banks and other eligible lenders.

Under the PPPLF, lenders may pledge pools of PPP loans having the same maturity date, with the maturity date of the lender’s advance matching the maturity date of the pool.

There are no fees for PPPLF advances, which bear an annual rate of 35 bps.

As of June 30, 2021, the Company had no PPPLF advances.

FRBB announced on June 25, 2021 that it was extending, for a final time, its PPPLF by an additional month to July 30, 2021.

The Company did not exercise its right to use this facility before its expiration.

Equity capital grew to $80.7 million, with a book value per share of $14.81 as of June 30, 2021, compared to equity capital of $77.3 million and a book value of $14.25 as of December 31, 2020.

On June 10, 2021, the Company’s Board of Directors declared a quarterly cash dividend of $0.22 per common share, payable on August 1, 2021 to shareholders of record on July 15, 2021, representing an increase of $0.03 per share over the quarterly dividend paid in recent quarters.

As of June 30, 2021, all of the Company’s capital ratios, and those of our subsidiary Bank, were in excess of all regulatory requirements.

Equity capital grew to $83.2 million, with a book value per share of $15.23 as of September 30, 2021, compared to equity capital of $77.3 million and a book value of $14.25 as of December 31, 2020.

On September 23, 2021, the Company’s Board of Directors declared a quarterly cash dividend of $0.22 per common share, payable on November 1, 2021 to shareholders of record on October 15, 2021.

As of September 30, 2021, all of the Company’s capital ratios, and those of our subsidiary Bank, were in excess of all regulatory requirements.

While we believe that we have sufficient capital to withstand an economic downturn from a resurgence of COVID-19, should one occur, our equity capital and regulatory capital ratios could be adversely impacted by credit losses and other adverse economic and operational impacts of the pandemic.

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These policies are described in the Company’s 2020 Annual Report on Form 10-K in the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies” and in Note 1 (Significant Accounting Policies) to the audited consolidated financial statements.

There were no material changes during the first six months of 2021 in the Company’s critical accounting policies.

There were no material changes during the first nine months of 2021 in the Company’s critical accounting policies.

RESULTS OF OPERATIONS

Net income for the second quarter of 2021 was $3,046,406 or $0.57 per common share, compared to $2,842,311 for the same quarter of 2020.

Net income for the first six months of 2021 was $6,072,107 or $1.13 per common share, compared to $4,703,550 or $0.89 per common share for the same period in 2020.

Core earnings (NII) for the second quarter of 2021 was $7.5 million compared to $7.0 million for the same quarter in 2020 and $15.3 million for the first six months of 2021 compared to $13.3 million for the same period in 2020.

Interest income during the second quarter and year to date period was supported by fees generated from administering PPP loans.

Of the $7.0 million in fee income that the Company expects to receive from the SBA over the life of the related PPP loans, a total of $2.1 million was recognized during the first six months of 2021, including $835,999 recognized during the second quarter of 2021.

Net income for the third quarter of 2021 was $3,699,202 or $0.69 per common share, compared to $2,880,443 or $0.54 per common share for the same quarter of 2020.

Net income for the first nine months of 2021 was $9,771,309 or $1.82 per common share, compared to $7,583,992 or $1.43 per common share for the same period in 2020.

Core earnings (NII) for the third quarter of 2021 was $8.5 million compared to $7.0 million for the same quarter in 2020 and $23.8 million for the first nine months of 2021, compared to $20.3 million for the same period in 2020.

As noted and discussed in the Overview, interest income during the third quarter and year to date period was supported by fees generated from administering PPP loans.

These fees have offset a decrease in interest income due to the repricing of loans, new loans (other than PPP loans) booked at lower market rates and PPP loans booked at a mandated 1% annual interest rate.

Despite a significant increase in deposits between periods, interest paid on deposits, which is the major component of total interest expense, decreased $440,942, or 36.5% for the second quarter of 2021 compared to the same quarter of 2020, and $1.1 million, or 39.6%, for the first six months of 2021 compared to the same period last year, reflecting the decreases in short-term rates initiated by the FRB beginning in March 2020 in response to the pandemic.

The following tables summarize certain balance sheet data and the earnings performance of the Company as of the balance sheet dates and for the six month comparison periods.

Despite the increase in deposits between periods, interest paid on deposits, which is the major component of total interest expense, decreased $283,139, or 32.3% for the third quarter of 2021 compared to the same quarter of 2020, and $1.2 million, or 38.8%, for the first nine months of 2021 compared to the same period last year, as rates paid on deposits continue to adjust downward, reflecting the decreases in short-term rates initiated by the FRB beginning in March 2020 in response to the pandemic.

Non-interest income for the third quarter of 2021 was $1.7 million compared to $1.9 million for the same quarter of 2020, and non-interest income for the first nine months of 2021 was $5.0 million compared to $5.1 million for the first nine months of 2020.

Proceeds from sales of sold loans decreased from $31.5 million for the first nine months of 2020 to $6.5 million for the same period in 2021.

This resulted in decreases in gain on sale from these proceeds totaling $359,265, or 59.7% for the third quarter of 2021 compared to the same quarter of 2020, and $433,952, or 38.1% for the first nine months of 2021 compared to the same period in 2020.

Non-interest expense for the third quarter of 2021 was $5.5 million compared to $5.1 million for the same quarter of 2020, and non-interest expense for the first nine months of 2021 was $16.2 million compared to $15.2 million for the same period of 2020.

The following tables summarize certain balance sheet data and the earnings performance of the Company as of the balance sheet dates and for the nine month comparison periods.

September 30,

Balance Sheet Data

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Book value per common share outstanding

Six Months Ended June 30,

Nine Months Ended September 30,

Operating Data

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Number of common shares outstanding, period end

______________

Applicable income tax expense assumes a 21% tax rate for both periods.

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Return on average equity, which is net income divided by average shareholders’ equity, measures how effectively a corporation uses its equity capital to produce earnings.

The following tables show these ratios annualized for the comparison periods presented.

Three Months Ended June 30,

Net income, as reported

dividends to preferred shareholders

Net income available to common shareholders

Weighted average number of common shares used in calculating earnings per share

Earnings per common share

Six Months Ended June 30,

Net income, as reported

dividends to preferred shareholders

Net income available to common shareholders

Weighted average number of common shares used in calculating earnings per share

Earnings per common share

The following tables show these ratios annualized, as well as other equity ratios, for the comparison periods presented.

Three Months Ended September 30,

Return on average assets

Return on average equity

Dividend payout ratio (1)

Average equity to average assets

Nine Months Ended September 30,

Return on average assets

Return on average equity

Dividend payout ratio (1)

Average equity to average assets

(1) Dividends declared per common share divided by earnings per common share.

INTEREST INCOME VERSUS INTEREST EXPENSE (NET INTEREST INCOME)

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therefore, to equalize tax-free and taxable income in the comparison, we divide the tax-free income by 79%, with the result that every tax-free dollar is equivalent to $1.27 in taxable income for the periods presented.

The Company’s tax-exempt interest income of $254,467 and $396,590 for the three months ended June 30, 2021 and 2020, respectively, and $513,228 and $792,078 for the six months ended June 31, 2021 and 2020, respectively, was derived from loans to local municipalities of $35.8 million and $48.2 million at June 30, 2021 and 2020, respectively.

The Company’s tax-exempt interest income of $246,627 and $319,697 for the three months ended September 30, 2021 and 2020, respectively, and $759,855 and $1.1 million for the nine months ended September 31, 2021 and 2020, respectively, was derived from loans to local municipalities of $53.8 million and $52.3 million at September 30, 2021 and 2020, respectively.

The following tables show the reconciliation between reported NII and tax equivalent NII for the comparison periods presented.

Three Months Ended June 30,

Three Months Ended

September 30,

Net interest income as presented

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Net interest income, tax equivalent

Six Months Ended June 30,

Nine Months Ended

September 30,

Net interest income as presented

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Interest income (excluding interest on non-accrual loans) is expressed on a tax equivalent basis, both in dollars and as a rate/yield for the comparison periods presented.

Three Months Ended June 30,

Three Months Ended September 30,

Interest-Earning Assets

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Net interest margin (4)

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Included in gross loans are non-accrual loans with average balances of $3,803,807 and $4,677,752 for the three months ended June 30, 2021 and 2020, respectively.

Loans are stated before deduction of unearned discount and ALL, less loans held-for-sale and include tax-exempt loans to local municipalities with average balances of $51,534,733 and $59,360,944 for the three months ended June 30, 2021 and 2020, respectively.

Included in other investments is the Company’s FHLBB Stock with average balances of $768,796 and $786,534 for the three months ended June 30, 2021 and 2020, respectively, and a dividend rate of approximately 1.54% and 5.06%, respectively, per quarter.

Included in gross loans are non-accrual loans with average balances of $5,274,531 and $4,677,752 for the three months ended September 30, 2021 and 2020, respectively.

Loans are stated before deduction of unearned discount and ALL, less loans held-for-sale and include tax-exempt loans to local municipalities with average balances of $52,546,634 and $56,337,312 for the three months ended September 30, 2021 and 2020, respectively.

Included in other investments is the Company’s FHLBB Stock with average balances of $769,000 and $734,700 for the three months ended September 30, 2021 and 2020, respectively, with a dividend rate of approximately 1.52% and 4.12%, respectively, per quarter.

Net interest spread is the difference between the average yield on average interest-earning assets and the average rate paid on average interest-bearing liabilities.

Net interest margin is net interest income divided by average earning assets.

Six Months Ended June 30,

Nine Months Ended September 30,

Interest-Earning Assets

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Net interest margin (4)

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Included in gross loans are non-accrual loans with average balances of $3,945,577 and $4,706,338 for the six months ended June 30, 2021 and 2020, respectively.

Loans are stated before deduction of unearned discount and ALL, less loans held-for-sale and include tax-exempt loans to local municipalities with average balances of $51,881,498 and $58,970,429 for the six months ended June 30, 2021 and 2020, respectively.

Included in other investments is the Company’s FHLBB Stock with average balances of $768,599 and $806,451, respectively, and a dividend rate of approximately 1.54% and 4.94%, respectively, for the six months ended June 30, 2021 and 2020, respectively.

Included in gross loans are non-accrual loans with average balances of $4,388,561 and $4,706,338 for the nine months ended September 30, 2021 and 2020, respectively.

Loans are stated before deduction of unearned discount and ALL, less loans held-for-sale and include tax-exempt loans to local municipalities with average balances of $52,105,647 and $58,086,317 for the nine months ended September 30, 2021 and 2020, respectively.

Included in other investments is the Company’s FHLBB Stock with average balances of $768,734 and $782,359, respectively, with a dividend rate of approximately 1.52% and 4.37%, respectively, for the nine months ended September 30, 2021 and 2020, respectively.

Net interest spread is the difference between the average yield on average interest-earning assets and the average rate paid on average interest-bearing liabilities.

Net interest margin is net interest income divided by average earning assets.

The average volume of interest-earning assets for the three- and six-month periods ended June 30, 2021 increased 13.1% and 21.0%, respectively, compared to the same periods last year, while the average yield on interest-earning assets decreased 49 bps and 57 bps, respectively.

The decrease in the average yield in most categories reflects the decrease in the federal funds rate, with taxable investment securities reporting a decrease of 101 bps and 109 bps, respectively, and other investments reporting a decrease of 137 bps and 210 bps, respectively, for the three- and six-month periods ended June 30, 2021, compared to the same periods in 2020.

The average volume of loans increased over the three- and six-month comparison periods of 2021 versus 2020 by 3.0% and 9.6%, respectively, while the average yield on loans decreased 14 bps and 16 bps, respectively.

Loans accounted for 83.5% and 82.6%, respectively, of the average interest-earning asset portfolio for the three- and six- month periods ended June 30, 2021 compared to 91.6% and 91.1%, respectively, for the same periods last year.

Interest earned on the loan portfolio as a percentage of total interest income was 95.3% and 95.6%, respectively for the three- and six-month periods in 2021 compared to 95.6% and 95.3%, respectively for the same periods in 2020.

The average volume of the taxable investment portfolio (classified as AFS) increased 102.7% and 85.2% during the three- and six-month periods ended June 30, 2021, compared to the same periods last year, while the average yield decreased 101 bps and 109 bps, respectively, between periods.

The average volume of sweep and interest-earning accounts, which consists primarily of interest-bearing accounts at the FRBB and two correspondent banks, increased $35.1 million, or 176.0% during the three-month period ended June 30, 2021, compared to the same period last year, and $51.7 million, or 266.8%, for the six-month period ended June 30, 2021, while the average yield on these funds decreased 92 bps and 130 bps, respectively.

The average volume of interest-earning assets for the three- and nine-month periods ended September 30, 2021 increased 9.8% and 17.3%, respectively, compared to the same periods last year, while the average yield on interest-earning assets increased 12 bps and decreased 34 bps, respectively.

The increase in average yield in the three-month comparison periods is primarily due to activity within the PPP loan portfolio.

When these loans are paid off, as part of the SBA forgiveness program, the remainder of the deferred loan fee associated with each loan is taken into income.

These fees for the third quarter of 2021 amounted to $1.6 million, compared to $453,505 for the third quarter of 2020.

The decrease in the average yield in all other categories reflects the persistent low federal funds rate.

The average volume of loans decreased 4.0% over the three-month comparison periods of 2021 versus 2020 and increased 4.7% over the nine-month comparison periods of 2021 versus 2020, while the average yield on loans increased 73 bps and 15 bps, respectively.

Loans accounted for 80.3% and 81.6%, respectively, of the average interest-earning asset portfolio for the three- and nine- month periods ended September 30, 2021 down from 91.8% and 91.4%, respectively, for the same periods last year.

This percentage decline occurred despite the increase in the average volume of the loan portfolio and reflects the overall growth in the balance sheet, including in the significant increase in average volume of the taxable investment portfolio as a percentage of total assets between periods, as described below.

Interest earned on the loan portfolio as a percentage of total interest income was 95.3% and 95.5%, respectively for the three- and nine-month periods in 2021 compared to 95.8% and 95.5%, respectively for the same periods in 2020.

The average volume of the taxable investment portfolio (classified as AFS) increased 109.1% and 98.7% during the three- and nine-month periods ended September 30, 2021, compared to the same periods last year, while the average yield decreased 86 bps and 105 bps, respectively, between periods.

The increase in volume for both periods reflects the excess liquidity resulting from the PPP loan program and other government mitigation measures adopted in response to the pandemic.

The average volume of sweep and interest-earning accounts, which consists primarily of interest-bearing accounts at the FRBB and two correspondent banks, increased $59.9 million, or 293.0% during the three-month period ended September 30, 2021, compared to the same period last year, and $54.6 million, or 281.5%, for the nine-month period ended September 30, 2021, while the average yield on these funds decreased 104 bps and 124 bps, respectively.

This increase in cash volume is attributable to significant increases in core deposits which were driven in part by PPP loan funds that were deposited in business checking accounts as well as increases in customer checking accounts likely from stimulus payments, unemployment benefits and deferral or forbearance agreements on residential mortgage and student loans.

The average volume of interest-bearing liabilities for the three- and six-month periods ended June 30, 2021 increased 14.4% and 17.2%, respectively, compared to the same periods last year, while the average rate paid on interest-bearing liabilities decreased 38 bps and 47 bps, respectively, reflecting the decrease in the federal funds rate beginning in March 2020.

The average volume of interest-bearing liabilities for the three- and nine month periods ended September 30, 2021 increased 13.5% and 15.8%, respectively, compared to the same periods last year, while the average rate paid on interest-bearing liabilities decreased 28 bps and 40 bps, respectively, reflecting the decrease in the federal funds rate beginning in March 2020.

Customer deposits of PPP loan proceeds and stimulus payments were contributing factors to the increase in average volume.

The average volume of interest-bearing transaction accounts increased 16.6% and 21.9%, respectively, during the three- and six-month periods ended June 30, 2021 compared to the same periods last year, while the average rate paid on these accounts decreased 27 bps and 42 bps, respectively.

The average volume of interest-bearing transaction accounts increased 19.0% and 25.1%, respectively, during the three- and nine-month periods ended September 30, 2021 compared to the same periods last year, while the average rate paid on these accounts decreased 20 bps and 37 bps, respectively.

Contributing factors to the increase in average volume were increases of $8.0 million, or 19.7%, and $9.8 million, or 23.6%, respectively, in the average volume of ICS DDAs, and $21.9 million or 24.0%, and $25.1 million, or 31.1%, respectively, in the average volume of other interest-bearing DDAs.

Interest-bearing transaction accounts comprised 35.8% and 35.7%, respectively, of the interest-bearing liabilities for the three- and six-month periods ended June 30, 2021 compared to 35.0% and 34.3%, respectively, for the same periods last year.

The average volume of money market accounts increased 17.8% and 20.4%, respectively, during the three- and six-month periods ended June 30, 2021 compared to the same periods in 2020, while the average rate paid decreased 61 bps and 76 bps, respectively.

The average volume of savings accounts increased 27.3% and 29.1%, respectively, for the three- and six-month periods ended June 30, 2021 versus the same periods in 2020, while the average rate paid decreased four bps and five bps, respectively.

The average volume of time deposits decreased 1.3% and 0.7%, respectively, during the three- and six-month periods ended June 30, 2021, compared to the same periods last year, and the average rate paid on these accounts decreased 49 bps and 44 bps, respectively, between periods.

The decrease in the average volume of time deposits between periods reflects the maturity of brokered deposits throughout the first three months of 2021 that had not been replaced as of June 30, 2021.

Time deposits represented 16.6% and 16.9%, respectively, of average interest-bearing liabilities for the three- and six-month periods ended June 30, 2021, compared to 19.2% and 20.0%, respectively, for the same periods last year.

Interest paid on time deposits represented 39.5% and 40.5%, respectively, of total interest expense for the three- and six-month period in 2021, compared to 36.6% and 33.7%, respectively, for the same periods in 2020.

The average volume of retail time deposits increased 0.5% for the three-month period from $102.1 million at June 30, 2020 to $102.6 million at June 30, 2021, and 1.8% for the six-month period from $101.3 million at June 30, 2020 to $103.2 million at June 30, 2021.

The average volume of wholesale time deposits decreased 24.7% from an average volume of $8.0 million to $6.0 million for the three-month periods ended June 30, 2021 and 2020, respectively, and 27.9% for the six-month periods from an average volume of $9.4 million at June 30, 2020 to $6.8 million at June 30, 2021.

Interest-bearing transaction accounts comprised 33.8% and 35.0%, respectively, of the average interest-bearing liabilities for the three- and nine-month periods ended September 30, 2021 compared to 32.1% and 32.4%, respectively, for the same periods last year.

The average volume of money market accounts increased 19.4% and 20.1%, respectively, during the three- and nine-month periods ended September 30, 2021 compared to the same periods in 2020, while the average rate paid decreased 34 bps and 62 bps, respectively.

The average volume of savings accounts increased 24.6% and 20.7%, respectively, for the three- and nine-month periods ended September 30, 2021 versus the same periods in 2020, while the average rate paid increased one bps and decreased three bps, respectively.

Savings accounts comprised 24.6% and 22.1% respectively, of the average interest-bearing liabilities for the three- and nine-month periods ended September 30, 2021 compared to 22.3% and 21.2%, respectively, for the same periods last year.

The average volume of time deposits decreased 5.4% and 2.3%, respectively, during the three- and nine-month periods ended September 30, 2021, compared to the same periods last year, and the average rate paid on these accounts decreased 50 bps and 46 bps, respectively, between periods.

Time deposits represented 16.2% and 16.7%, respectively, of average interest-bearing liabilities for the three- and nine-month periods ended September 30, 2021, compared to 19.4% and 19.8%, respectively, for the same periods last year.

Interest paid on time deposits represented 36.7% and 39.3%, respectively, of total interest expense for the three- and nine-month period in 2021, compared to 40.3% and 35.6%, respectively, for the same periods in 2020.

The average volume of retail time deposits decreased 1.1% for the three-month period from $103.0 million at September 30, 2020 to $101.9 million at September 30, 2021, and increased 0.9% for the nine-month period from $101.9 million at September 30, 2020 to $102.8 million at September 30, 2021.

The average volume of wholesale time deposits decreased 48.7% from an average volume of $10.3 million to $5.3 million for the three-month periods ended September 30, 2021 and 2020, respectively, and 35.3% for the nine-month periods from an average volume of $9.7 million at September 30, 2020 to $6.3 million at September 30, 2021.

Refer to the “Liquidity and Capital Resources” section for more discussion on these changes.

The average volume of borrowed funds decreased $3.2 million and $4.2 million, respectively, between the three- and six-month comparison periods of 2021 and 2020, and the average rate paid on these borrowings decreased 16 bps and 40 bps, respectively, between periods.

The average volume of borrowed funds decreased $1.4 million and $3.3 million, respectively, between the three- and nine-month comparison periods of 2021 and 2020, and the average rate paid on these borrowings decreased 6 bps and 33 bps, respectively, between periods.

The average balances are reflective of the influx of cash throughout 2020 and into 2021 resulting from PPP lending activity, COVID stimulus payments and other government mitigation measures.

The balance of borrowed funds at June 30, 2021 consists of only JNE funds at zero percent interest.

The average volume of repurchase agreements increased .04% and 20.4%, respectively, for the three- and six-month comparison periods of 2021 versus 2020, while the average rate paid decreased 54 bps and 52 bps, respectively.

In summary, between the three- and six month periods ended June 30, 2021 and 2020, the average yield on interest-earning assets decreased 49 bps and 57 bps, respectively, and the average rate paid on interest-bearing liabilities decreased 38 bps and 47 bps, respectively.

Net interest spread decreased 11 bps for the second quarter of 2021 versus 2020, and 10 bps for the six-month period of 2021 versus 2020.

Net interest margin decreased 21 bps and 20 bps, respectively, between the same comparison periods.

The reductions in the target federal funds rate, in response to the pandemic have placed pressure on the Company’s net interest margin and net interest spread and may continue to adversely affect them in future periods, although the extent and duration of such impacts cannot be predicted at this time.

The balance of borrowed funds at September 30, 2021 consists of only JNE funds at zero percent interest.

The average volume of repurchase agreements decreased 22.5% for the three-month comparison periods and increased 5.0%, for the nine-month comparison periods of 2021 versus 2020, while the average rate paid decreased 60 bps and 55 bps, respectively.

In summary, between the three- and nine month periods ended September 30, 2021 and 2020, the average yield on interest-earning assets increased 12 bps and decreased 34 bps, respectively, and the average rate paid on interest-bearing liabilities decreased 28 bps and 40 bps, respectively.

Net interest spread increased 40 bps for the third quarter of 2021 versus 2020, and net interest margin increased 32 bps for the same comparison periods.

Net interest spread increased six bps for the nine-month period of 2021 versus 2020, and net interest margin decreased three bps for the same comparison periods.

While the Company’s net interest margin and net interest spread for the three month period ended September 30, 2021 increased compared to the same period last year, the prevailing low rate environment has continued to place pressure on both the net interest margin and spread and may continue to adversely affect them in future periods, although the extent and duration of such impacts cannot be predicted at this time.

The following table summarizes the variances in interest income and interest expense on a fully tax-equivalent basis for the interim periods presented for 2021 and 2020 resulting from volume changes in average assets and average liabilities and fluctuations in average rates earned and paid.

Three Months Ended June 30,

Six Months Ended June 30,

Three Months Ended September 30,

Nine Months Ended September 30,

Average Interest-Earning Assets

2 unchanged sentences

Other investments

$ (1,543,148 )

Average Interest-Bearing Liabilities

7 unchanged sentences

Junior subordinated debentures

$ (1,455,463 )

$ (1,062,913 )

Changes in net interest income

9 unchanged sentences

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

Income from sold loans

6 unchanged sentences

Total non-interest income

Total non-interest income increased $6,433, or 0.4%, for the second quarter of 2021 and $224,957, or 7.2% for the first six months of 2021 compared to the same periods in 2020, with significant changes noted in the following:

The increase in service fees during both comparison periods is mostly due to an increase in VISA check interchange income of $76,576, or 22.9% for the second quarter of 2021 compared to the same quarter of 2020, and $148,502, or 23.9%, year over year.

The decrease in income from sold loans is due to a lower volume of loans sold into the secondary market during the second quarter of 2021 versus 2020.

A decrease in CRE and residential mortgage loan volume resulted in decreases in documentation fees collected at origination accounting for the decrease in other income from loans .

There were no sales from the Company’s securities AFS portfolio during the first six months of 2021, resulting in no net realized gains on sale of securities AFS during 2021 compared to the same period in 2020.

Income from CFS Partners increased significantly between periods due in part to the impact of more favorable stock market valuations on the fee income of its trust and asset management subsidiary, as well as an increase in managed assets.

Total non-interest income decreased $240,709, or 12.4%, for the third quarter of 2021 and $15,752, or 0.3% for the first nine months of 2021 compared to the same periods in 2020, with significant changes noted in the following:

The increase in service fees during both comparison periods is mostly due to an increase in VISA check interchange income of $52,860, or 15.2% for the third quarter of 2021 compared to the same quarter of 2020, and $201,362, or 20.8%, year over year.

The decrease in income from sold loans is due to a lower volume of loans sold into the secondary market during the first nine months of 2021 versus 2020.

The decrease is partly due to lower volume of applications for residential mortgages and the strategic decision to hold some 15 and 30 year mortgages in portfolio.

A decrease in CRE and residential mortgage loan volume resulted in decreases in documentation fees collected at origination, accounting for the decrease in other income from loans in both comparison periods.

There were no sales from the Company’s securities AFS portfolio during the first nine months of 2021, resulting in no net realized gains on sale of securities AFS during 2021 compared to a gain of $39,086 for the same period in 2020.

Also, CFS Partners has a small portion of its equity capital invested in the stock market.

It was necessary to mark-to-market the portfolio to reflect the stock market decline during the first quarter of 2020 at the outset of the COVID-19 pandemic, resulting in a $106,000 mark down.

The shutdown of the US/Canadian border to all non-essential travel created less demand for an exchange of Canadian cash in the first half of 2020, accounting for the lack of exchange income .

After the shutdown, as the border opened to commerce related travel, the exchange of Canadian cash resumed but had not yet returned to normal levels by June 30, 2021.

In July 2021, the US/Canadian border was again shut down to all non-essential travel.

The shutdown of the US/Canadian border to all non-essential travel created less demand for an exchange of Canadian currency in the first half of 2020, accounting for the lack of exchange income .

Although the border has re-opened to commerce related travel, subject to certain restrictions, the exchange of Canadian currency has not yet returned to normal levels.

The increase in VISA card commission is attributable to an increase in transaction volume in the VISA card program.

2 unchanged sentences

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

Salaries and wages

2 unchanged sentences

Other expenses

Directors Fees

Investor relations and shareholder services

Outsourcing expense

3 unchanged sentences

Collection & non-accruing loan expense

Expense on OREO

State deposit tax

1 unchanged sentence

Total non-interest expense

Total non-interest expense increased $281,943, or 5.7% for the second quarter of 2021 and $553,774, or 5.5%, for the six months ended June 30, 2021 compared to the same periods in 2020, with significant changes noted in the following:

Total non-interest expense increased $427,140, or 8.4% for the third quarter of 2021 and $980,914, or 6.5%, for the first nine months of 2021 compared to the same periods in 2020, with significant changes noted in the following:

The increase in employee benefits in both periods was attributable to the increased cost of health insurance premiums.

The moderate increase in occupancy expense is primarily attributable to an increase in capital lease expense.

A moderate increase is also noted in outsourcing expense due to a combination of annual increases in contract pricing and an increase in transactions.

Telephone expense decreased as a result of a renegotiated contract with the Company’s main connectivity vendor that was effective mid-year 2020.

The increase in Consultant services year over year is attributable in part to recruitment of a senior management position.

The increase in occupancy expense is primarily attributable to an increase in capital lease expense, which includes a write down of $63,125 at maturity of a capital lease during the third quarter of 2021.

The increase in Directors fees is attributable to a change to the Director’s fee schedule as well as an additional Director for 2021 whose compensations totaled $9,624 for the third quarter of 2021 and $28,872 for the first nine months of 2021.

The increase in Investor relations and shareholder services is due to a combination of engaging a new investor relations firm during the second half of 2020, a new service contract with the vendor that processes the Company’s SEC filings and the timing of the Company’s Annual Shareholder Meeting which was held in October, 2020 versus May, 2021.

A moderate increase is noted in outsourcing expense due to a combination of annual increases in contract pricing and an increase in transactions.

Telephone expense increased in the third quarter of 2021, but decreased for the first nine months of 2021 as a result of a renegotiated contract with the Company’s main connectivity vendor that was effective mid-year 2020.

The increase in c onsultant services year over year is attributable in part to recruitment of a senior management position.

FDIC insurance increased due primarily to an increase in assets as well as an increase in the assessment multiplier year over year.

Collection & non-accruing loan expense are lower in all periods compared to historical activity, due primarily to the impact of a legislative moratorium on ejectment and foreclosure actions during the COVID-19 emergency.

Collection & non-accruing loan expense are lower in all periods compared to historical activity, due primarily to the impact of a legislative moratorium on eviction and foreclosure actions during the COVID-19 emergency combined with borrowers seeking assistance through the Vermont COVID Emergency Mortgage Assistance Program funded through the CARES Act in order to bring their mortgages up to date and avoid foreclosure.

ATM fees increased due to the ongoing cost to support the upgraded and enhanced technology being utilized for deposit automation.

1 unchanged sentence

State deposit tax increased year over year due primarily to a significant increase in deposits.

The increase in o ther miscellaneous expense in both periods is attributable to fraudulent checks totaling $66,004 that were charged off during the third quarter of 2021.

APPLICABLE INCOME TAXES

The provision for income taxes increased in both comparison periods, with an increase of $87,034, or 14.3% for the second quarter of 2021, and $445,000, or 48.0%, for the first six months of 2021 compared to the respective periods in 2020.

These increases are proportional to the increases in income before income taxes totaling $291,129 for the second quarter of 2021 versus 2020, and $1.8 million for the first six months of 2021 versus 2020.

Tax credits related to limited partnership investments amounted to $117,015 and $108,492, respectively, for the second quarters of 2021 and 2020, and $234,030 and $216,984, respectively, for the first six months of 2021 and 2020.

Amortization expense related to limited partnership investments is included as a component of income tax expense and amounted to $90,762 and $84,171, respectively, for the second quarters of 2021 and 2020, and $181,524 and $168,342, respectively, for the first six months of 2021 and 2020.

The provision for income taxes increased in both comparison periods, with an increase of $232,707, or 37.0% for the third quarter of 2021, and $677,707, or 43.5%, for the first nine months of 2021 compared to the respective periods in 2020.

These increases are proportional to the increases in income before income taxes totaling $1.1 million for the third quarter of 2021 versus 2020, and $2.9 million for the first nine months of 2021 versus 2020.

Tax credits related to limited partnership investments amounted to $117,015 and $108,492, respectively, for the third quarters of 2021 and 2020, and $351,045 and $325,476, respectively, for the first nine months of 2021 and 2020.

Amortization expense related to limited partnership investments is included as a component of income tax expense and amounted to $90,762 and $84,171, respectively, for the third quarters of 2021 and 2020, and $272,286 and $252,513, respectively, for the first nine months of 2021 and 2020.

These investments provide tax benefits, including tax credits, and are designed to provide a targeted effective annual yield between 7% and 10%.

1 unchanged sentence

The following table reflects the composition of the Company’s major categories of assets and liabilities as a percentage of total assets or liabilities and shareholders’ equity, as the case may be, as of the balance sheet dates:

June 30, 2021

September 30, 2021

December 31, 2020

1 unchanged sentence

$ 709,355,330

Securities AFS

AFS securities

Demand deposits

8 unchanged sentences

$ (16,716,955)

Securities AFS

AFS securities

Demand deposits

Interest-bearing transaction accounts

(10,768,660 )

Money market accounts

2 unchanged sentences

Long-term advances

The decrease in loan growth during the first six months of 2021 was attributable to the seasonal maturities of municipal loans, which was offset in part by an increase in PPP loans and CRE loans.

The Company booked a total of $58.6 million of PPP loans during the first six months of 2021, which was offset in part by paydowns or payoffs of certain PPP loans through the SBA’s forgiveness program totaling $47.4 million.

Also included in the commercial loan growth were originations of $2.4 million in commercial loans purchased through BHG.

This portfolio has served well to support asset growth and provide geographic diversification, and with average duration expected to be slightly longer than the Company’s loan portfolio average, it is expected to reduce exposure to falling rates in the near term.

The Company has established conservative credit parameters and expects a low risk of default in this portfolio.

The increase in the securities AFS portfolio is attributable to the purchase of $41.6 million in securities AFS during the first six months of 2021, consisting of $5.6 million in US Treasuries, $3.0 million in US Government Bonds, $32.1 million in MBS and $1.0 million in CMOs.

The decrease in the loan portfolio during the first nine months of 2021 was attributable to the paydowns or payoffs of certain PPP loans through the SBA’s forgiveness program totaling $125.3 million, which was offset in part by originations of new PPP loans and an increase in CRE loans.

The Company booked a total of $58.6 million of PPP loans during the first six months of 2021.

This program ended during the second quarter of 2021, so this portfolio will continue to decrease throughout the remainder of 2021.

The increase in the securities AFS portfolio is attributable to the purchase of $66.0 million in securities AFS during the first nine months of 2021, consisting of $10.1 million in US Treasuries, $4.0 million in US Government Bonds, $50.4 million in MBS, $1.0 million in CMOs, and $0.5 million in Investment CDs.

These purchases were reduced in part by maturities and calls exercised amounting to $3.7 million, as well as principal payments on MBS totaling $10.4 million, accounting for the year to date increase in the AFS portfolio noted in the tables above.

1 unchanged sentence

Most of the fluctuation in demand deposits is due to a year to date increase in business checking accounts of $14.9 million, or 10.7%, which the Company believes is a result of the distribution of funds generated through the PPP loans.

The overall decrease in interest-bearing transaction accounts reflects the combined effect of an increase of $10.2 million, or 10.0%, in consumer interest-bearing transaction accounts, and $4.4 million, or 30.7% in ATS accounts, offset by a decrease of $19.1 million, or 46.4%, in municipal deposit accounts and $5.5 million, or 16.8% in the deposit account of the Company’s affiliate, CFSG.

The increase of $16.9 million, or 22.0%, in consumer and business money market accounts year to date was offset, in part by decreases in the ICS money market accounts of $8.3 million, or 35.9% and non-arbitrage borrowing accounts of $12.9 million, or 84.6%.

The increase in savings deposits of $19.2 million, or 15.4%, is attributable in part to parked funds as customers await more favorable rates for time deposits, as well as deposits through the stimulus payments and tax credits from the U.S.

The increase in interest-bearing transaction accounts reflects an increase of $17.2 million, or 17.2%, in consumer interest-bearing transaction accounts, offset by a decrease of $3.7 million, or 11.2% in the deposit account of the Company’s affiliate, CFSG, as well as a decrease of $3.3 million, or 6.2% in ICS deposit accounts, and $1.8 million, or 4.3%, in municipal deposit accounts.

The increase of $20.8 million, or 26.9%, in consumer and business money market accounts year to date was offset, in part by decreases in ICS money market accounts of $7.9 million, or 34.0% and non-arbitrage borrowing accounts of $3.6 million, or 23.9%.

The increase in savings deposits of $30.2 million, or 21.8%, is likely attributable in part to parked funds as customers await more favorable rates for time deposits, as well as deposits of stimulus payments and tax credits from the U.S.

During the third quarter of 2021, the Company chose to reclassify its ATS deposits from interest-bearing transactions accounts into savings deposits, resulting in a change between deposit categories of approximately $18.5 million at September 30, 2021 and approximately $14.2 million at December 31, 2020.

All appropriate sections of this quarterly report have been adjusted, including the Consolidated Balance Sheet found in the accompanying unaudited interim consolidated financial statements.

The decrease in time deposits was split between a decrease in wholesale time deposits of $4.0 million, or 43.9%, and a decrease in retail time deposits of $1.7 million, or 1.6%.

25 unchanged sentences

The slope of the yield curve will be very important to the Company’s margins going forward.

The following table summarizes the estimated impact on the Company’s NII over a twelve month period, assuming a gradual parallel shift of the yield curve beginning June 30, 2021:

Change in NII

The following table summarizes the estimated impact on the Company’s NII over a twelve month period, assuming a gradual parallel shift of the yield curve beginning September 30, 2021:

Percent Change

The amounts shown in the table above are well within the ALCO Policy limits.

1 unchanged sentence

While assumptions used in the ALCO process, including the interest rate simulation analyses, are developed based upon current economic and local market conditions, and expected future conditions, the Company cannot provide any assurances as to the predictive nature of these assumptions, including how customer preferences or competitor influences might change, or the measures that the FRB may take in managing monetary policy in response to external events such as the COVID-19 pandemic or emerging threats from variants of the virus.

As of June 30, 2021, the Company had outstanding $12,887,000 in principal amount of Junior Subordinated Debentures due December 15, 2037, which bear a quarterly floating rate of interest equal to the 3-month London Interbank Offered Rate (LIBOR), plus 2.85%.

As of September 30, 2021, the Company had outstanding $12,887,000 in principal amount of Junior Subordinated Debentures due December 15, 2037, which bear a quarterly floating rate of interest equal to the 3-month London Interbank Offered Rate (LIBOR), plus 2.85%.

During 2017, the Financial Conduct Authority (FCA) in the United Kingdom that administers LIBOR announced that LIBOR reference rates will be phased out, beginning at the end of 2021.

16 unchanged sentences

Loans are reviewed periodically by an independent loan review firm to help ensure accuracy of the Company’s internal risk ratings and compliance with various internal policies, procedures and regulatory guidance.

Residential mortgages represented 29.3% of the Company’s loan balances as of June 30, 2021, a level that has been on a gradual decline in recent years, consistent with the Company’s strategic shift to commercial lending.

The Company maintains a mortgage loan portfolio of traditional mortgage products and does not engage in higher risk loans such as option adjustable rate mortgage products, high loan-to-value products, interest only mortgages, subprime loans and products with deeply discounted teaser rates.

Residential mortgages represented 30.3% of the Company’s loan balances as of September 30, 2021, a level that has historically been on a gradual annual decline in recent years, consistent with the Company’s strategic shift to commercial lending.

The Company maintains a residential mortgage loan portfolio of traditional mortgage products and does not engage in higher risk loans such as option adjustable rate mortgage products, high loan-to-value products, interest only mortgages, subprime loans and products with deeply discounted teaser rates.

Residential mortgages with loan-to-values exceeding 80% are generally covered by PMI.

3 unchanged sentences

Consistent with the strategic focus on commercial lending, the commercial & industrial and CRE loan portfolios have seen solid growth over recent years.

Commercial & industrial and CRE loans together comprised 70.1% of the Company’s loan portfolio at June 30, 2021, compared to 70.0% at December 31, 2020.

Those percentages included the Company’s portfolio of PPP loans which was $71.6 million at June 30, 2021, compared to $64.4 at December 31, 2020.

Commercial & industrial and CRE loans together comprised 69.1% of the Company’s loan portfolio at September 30, 2021, compared to 70.0% at December 31, 2020.

Those percentages included the Company’s portfolio of PPP loans which was $35.7 million at September 30, 2021, compared to $64.4 million at December 31, 2020.

As of September 30, 2021, the Company had originated 1,843 PPP loans totaling $163.6 million, and expects to earn approximately $7.0 million in loan fees over the life of the related loans, of which $5.8 million had been recognized.

These loans are eligible to be forgiven to the extent that the funds are used for payroll costs and other permissible expenses.

Borrowers can apply for forgiveness after a specified covered period.

PPP loan forgiveness applications are processed by the lender, with forgiveness requests for loans in excess of $2.0 million reviewed by the SBA.

Neither the government nor lenders are permitted to charge the borrowers any fees on PPP loans.

These loans carry a fixed rate of 1.00% and are 100% guaranteed by the SBA, subject to borrower eligibility requirements.

The SBA pays the originating bank a processing fee ranging from 1% to 5%, based on the size of the loan.

As of September 30, 2021, the Company had reviewed and submitted 1,438 PPP loans with total balances of $125.6 million to the SBA for forgiveness consideration, with 33 loans with total balances of $1.5 million pending forgiveness.

One loan in the amount of $965 thousand was delinquent as of September 30, 2021.

A claim was processed with the SBA and full payment was received on October 5, 2021.

Growth in the CRE portfolio in recent years has enhanced the geographic diversification of the loan portfolio as it has been driven by new loan volume outside the Company’s primary market area, principally in Chittenden County and in northern Windsor County around the White River Junction, Vermont I91-I93 interchange area.

3 unchanged sentences

The types of transactions driving the growth in the CRE portfolio have been a mix of construction, land and development, multifamily, and other non-owner occupied CRE properties including hotels, retail, office, and industrial properties.

The largest components of the $284.9 million CRE portfolio at June 30, 2021 were approximately $98.0 million in owner-occupied CRE and $97.3 million in non-owner occupied CRE.

The largest components of the $285.9 million CRE portfolio at September 30, 2021 were approximately $101.0 million in owner-occupied CRE and $100.7 million in non-owner occupied CRE.

The following table reflects the composition of the Company’s loan portfolio, by portfolio segment, as a percentage of total loans as of the dates indicated:

June 30, 2021

September 30, 2021

December 31, 2020

9 unchanged sentences

Risk in the Company’s commercial & industrial and CRE loan portfolios is mitigated in part by government guarantees issued by federal agencies such as the SBA and RD.

At June 30, 2021, the Company had $101.1 million in guaranteed loans with guaranteed balances of $99.7 million, compared to $93.4 million in guaranteed loans with guaranteed balances of $86.1 million at December 31, 2020.

Included in the totals are the PPP loans disclosed earlier in this discussion, all of which carry a 100% guarantee through the SBA, subject to borrower eligibility requirements.

At June 30, 2021, loan balances in the retail, restaurant and bars, hotels and lodging, and breweries totaled $31.7 million, $5.9 million, $28.0 million, and $16.6 million, respectively.

These segments of the economy have been particularly impacted by the COVID-19 business shutdowns and re-opening restrictions.

At September 30, 2021, the Company had $64.7 million in guaranteed loans with guaranteed balances of $57.2 million, compared to $93.4 million in guaranteed loans with guaranteed balances of $86.1 million at December 31, 2020.

PPP loans are included in these totals, all of which carry a 100% guarantee through the SBA, subject to borrower eligibility requirements.

At September 30, 2021, loan balances in the retail, restaurant and bars, hotels and lodging, and breweries totaled $30.4 million, $6.0 million, $28.3 million, and $16.4 million, respectively.

Breweries have weathered well, but the other three segments of the economy have been particularly impacted by the COVID-19 business shutdowns and re-opening restrictions.

While the Company has performed additional stress testing and oversight of these loan portfolios, the credit quality may deteriorate in future periods should COVID-19 business restrictions persist or be reimposed in response to the emergence of variants of the virus.

7 unchanged sentences

Interest payments received on non-accrual or impaired loans are generally applied as a reduction of the loan book balance.

The Company’s non-performing assets decreased $281,467 or 5.5%, during the first six months of 2021.

Increases in CRE and residential mortgage loan delinquencies in the 90 days or more past due, were offset in part by decreases in the same loan segments within the non-accrual loan portfolio.

There were no claims receivable on related government guaranteed loans at June 30, 2021 compared to claims of $1,939 at December 31, 2020.

Non-performing loans as of June 30, 2021 carried RD and SBA guarantees totaling $274,162, compared to $316,752 at December 31, 2020.

The Company’s non-performing assets increased $754,679 or 14.6%, during the first nine months of 2021.

An increase in residential mortgage loan delinquencies in the 90 days or more past due, together with a substantial increase in CRE non-accrual loans was partially offset by decreases in the commercial & industrial and residential mortgage loan portfolios within the non-accrual loan portfolio.

There were no claims receivable on related government guaranteed loans at September 30, 2021 compared to claims of $1,939 at December 31, 2020.

Non-performing loans as of September 30, 2021 carried RD and SBA guarantees totaling $274,162, compared to $316,752 at December 31, 2020.

The following table reflects the composition of the Company’s non-performing assets, by portfolio segment, as a percentage of total non-performing assets as of the dates indicated:

June 30, 2021

September 30, 2021

December 31, 2020

Loans past due 90 days or more and still accruing (1)

Commercial real estate

Loans past due 90 days or more

and still accruing (1)

Residential real estate - 1st lien

6 unchanged sentences

Total Non-Performing Assets

No commercial and industrial loans, municipal loans or consumer loans were past due 90 days or more and accruing, and no municipal loans or consumer loans were in non-accrual status as of the consolidated balance sheet dates presented.

No commercial and industrial loans, CRE loans, municipal loans or consumer loans were past due 90 days or more and accruing, and no municipal loans or consumer loans were in non-accrual status as of the consolidated balance sheet dates presented.

In accordance with Company policy, delinquent consumer loans are charged off at 120 days past due.

5 unchanged sentences

The non-performing assets in the table above include the following TDRs that were past due 90 days or more or in non-accrual status as of the dates presented:

June 30, 2021

September 30, 2021

December 31, 2020

4 unchanged sentences

The remaining TDRs were performing in accordance with their modified terms as of the dates presented and consisted of the following:

June 30, 2021

September 30, 2021

December 31, 2020

2 unchanged sentences

Residential real estate - Jr lien

During 2020 and the first nine months of 2021, the Company navigated through the new challenges presented by the COVID-19 pandemic, including the granting of loan payment deferrals to customers impacted by the pandemic.

As of September 30, 2021, 593 business and retail customer portfolio loans, with unpaid principal balances of $109.5 million, were granted loan payment deferrals to provide temporary debt relief to those customers impacted by the COVID-19 pandemic.

Of these total loan payment deferrals, only 6 loans totaling $3.4 million are still in deferral as of September 30, 2021.

As of the balance sheet dates, the Company evaluates whether it is contractually committed to lend additional funds to debtors with impaired, non-accrual or modified loans.

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The following table summarizes the Company’s loan loss experience for the periods presented:

As of or for the Six Months Ended June 30,

As of or for the Nine Months Ended September 30,

Loans outstanding, end of period

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Commercial & industrial

Commercial real estate

Residential real estate - 1st lien

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ALL to non-accruing loans net of government guarantees

The ALL increased $1.2 million, or 18.5%, as of June 30, 2021 compared to June 30, 2020, while the provision for loan losses decreased $149,004, or 21.8%, for the six months ended June 30, 2021, compared to the same period last year.

The decrease in the provision between periods reflects the growth during the first six months of 2020 in the loan portfolio and higher than anticipated charge off activity, compared to a decrease of $12.4 million in the loan portfolio other than SBA guaranteed PPP loans and negligible charge off activity during the first six months of 2021.

The ALL increased $1.0 million, or 15.2%, as of September 30, 2021 compared to September 30, 2020, while the provision for loan losses decreased $422,336, or 40.4%, for the nine months ended September 30, 2021, compared to the same period last year.

The decrease in the provision between periods reflects the growth during the first nine months of 2020 in the loan portfolio and higher than anticipated charge off activity, compared to a decrease of $17.3 million in the loan portfolio and negligible charge off activity during the first nine months of 2021.

Increases in the provision in future periods may be necessary if economic conditions and credit quality continue to deteriorate due to the continuing impacts of the COVID-19 pandemic.

The Company has an experienced collections department that continues to work actively with borrowers to resolve problem loans and manage the OREO portfolio, and management continues to monitor the loan portfolio closely.

Based on the six month ALL analysis, in management’s view the reserve balance of $7.7 million at June 30, 2021 is appropriate to cover losses that are probable and estimable as of the measurement date, with an unallocated reserve of $912,420 compared to $398,913 at December 31, 2020.

Based on the nine month ALL analysis, in management’s view the reserve balance of $7.8 million at September 30, 2021 is appropriate to cover losses that are probable and estimable as of the measurement date, with an unallocated reserve of $1.0 million compared to $398,913 at December 31, 2020.

The reserve balance and unallocated amount continue to be directionally consistent with the overall risk profile of the Company’s loan portfolio and credit risk appetite.

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The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.

During the first six months of 2021, the Company did not engage in any activity that created any additional types of off-balance sheet risk.

During the first nine months of 2021, the Company did not engage in any activity that created any additional types of off-balance sheet risk.

LIQUIDITY AND CAPITAL RESOURCES

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One-way deposits acquired through the CDARS program provide an alternative funding source when needed.

At June 30, 2021 and December 31, 2020, the Company had no one-way CDARS outstanding.

At September 30, 2021 and December 31, 2020, the Company had no one-way CDARS outstanding.

In addition, two-way (that is, reciprocal) CDARS deposits, as well as reciprocal ICS money market and demand deposits, allow the Company to provide FDIC deposit insurance to its customers in excess of account coverage limits by exchanging deposits with other participating FDIC-insured financial institutions.

At June 30, 2021 and December 31, 2020, the Company reported $5.1 million and $4.9 million, respectively, in reciprocal CDARS deposits.

The balance in ICS reciprocal money market deposits was $14.8 million at June 30, 2021, compared to $23.1 million at December 31, 2020, and the balance in ICS reciprocal demand deposits as of those dates was $52.3 million and $53.1 million, respectively.

At September 30, 2021 and December 31, 2020, the Company reported $4.6 million and $4.9 million, respectively, in reciprocal CDARS deposits.

The balance in ICS reciprocal money market deposits was $15.2 million at September 30, 2021, compared to $23.1 million at December 31, 2020, and the balance in ICS reciprocal demand deposits as of those dates was $49.8 million and $53.1 million, respectively.

During July, 2020, the Company issued $5.0 million of DTC Brokered CDs in three blocks of $1.3 million, $2.3 million, and $1.4 million with maturities in October, 2020, January, 2021 and April, 2021, respectively.

The block that matured in October, 2020 was not replaced, leaving a total outstanding at December 31, 2020 of $3.7 million.

The blocks that matured in January and April of 2021 were also not replaced, leaving no DTC Brokered CDs outstanding at June 30, 2021.

Although wholesale deposit funding through DTC is an important supplemental source of liquidity that has proven efficient, flexible and cost-effective when compared with other borrowing methods, the growth in deposits during 2020 and the first six months of 2021 has reduced the Company’s need for supplementary funding sources in the near term.

At June 30, 2021 and December 31, 2020, borrowing capacity of $96.4 million and $93.1 million, respectively, was available through the FHLBB, secured by the Company’s qualifying loan portfolio (generally, residential mortgage and commercial loans), reduced by outstanding advances and by collateral pledges securing FHLBB letters of credit collateralizing public unit deposits.

The blocks that matured in January and April of 2021 were also not replaced, leaving no DTC Brokered CDs outstanding at September 30, 2021.

Although wholesale deposit funding through DTC is an important supplemental source of liquidity that has proven efficient, flexible and cost-effective when compared with other borrowing methods, the growth in deposits during 2020 and the first nine months of 2021 has reduced the Company’s need for supplementary funding sources in the near term.

At September 30, 2021 and December 31, 2020, borrowing capacity of $96.6 million and $93.1 million, respectively, was available through the FHLBB, secured by the Company’s qualifying loan portfolio (generally, residential mortgage and commercial loans), reduced by outstanding advances and by collateral pledges securing FHLBB letters of credit collateralizing public unit deposits.

The Company also has an unsecured Federal Funds credit line with the FHLBB with an available balance of $500,000 and no outstanding advances during any of the respective comparison periods.

Interest is chargeable at a rate determined daily, approximately 25 bps higher than the rate paid on federal funds sold.

The Company has a BIC arrangement with the FRBB secured by eligible commercial & industrial loans, CRE loans and home equity loans, resulting in an available credit line of $52.2 million and $50.4 million, respectively, at June 30, 2021 and December 31, 2020.

The Company has a BIC arrangement with the FRBB secured by eligible commercial & industrial loans, CRE loans and home equity loans, resulting in an available credit line of $51.7 million and $50.4 million, respectively, at September 30, 2021 and December 31, 2020.

Credit advances under this FRBB lending program are overnight advances with interest chargeable at the primary credit rate (generally referred to as the discount rate), currently 25 bps.

The Company had no outstanding advances through this facility at June 30, 2021 or December 31, 2020.

On April 20, 2020, the Company became eligible to borrow through the FRB’s PPPLF under a lending arrangement with the FRBB to support its PPP lending activities.

Under the PPPLF, advances from the FRBB carry a fixed interest rate of 35 bps and must be secured by pledges of loans to small businesses guaranteed by the SBA.

The Company had no PPPLF advances as of June 30, 2021 or December 31, 2020.

On June 25, 2021, the FRBB announced that it would extend for a final time its PPPLF by an additional month to July 30, 2021.

The Company did not exercise its right to borrow during the additional time period.

The Company had no outstanding advances through this facility at September 30, 2021 or December 31, 2020.

The following table reflects the Company’s outstanding FHLBB and FRBB advances against the respective lines as of the dates indicated:

September 30,

Long-Term Advances(1)

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Securities sold under agreements to repurchase provide another funding source for the Company.

At June 30, 2021 and December 31, 2020, the Company had outstanding repurchase agreement balances of $23.5 million and $38.7 million, respectively.

At September 30, 2021 and December 31, 2020, the Company had outstanding repurchase agreement balances of $22.4 million and $38.7 million, respectively.

These repurchase agreements mature and are repriced daily.

The following table illustrates the changes in shareholders’ equity from December 31, 2020 to June 30, 2021:

The following table illustrates the changes in shareholders’ equity from December 31, 2020 to September 30, 2021:

Balance at December 31, 2020 (book value $14.25 per common share)

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Change in AOCI on AFS securities, net of tax

Balance at June 30, 2021 (book value $14.81 per common share)

Balance at September 30, 2021 (book value $15.23 per common share)

The primary objective of the Company’s capital planning process is to balance appropriately the retention of capital to support operations and future growth, with the goal of providing shareholders an attractive return on their investment.

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Pursuant to the CARES Act, the federal banking agencies adopted an interim rule temporarily lowering the CBLR benchmark to, in excess of 8%, rather than 9%, with a phased increase of the CBLR back to the 9% level by the end of 2021.

The Company and Bank continued to qualify to utilize the CBLR framework as of June 30, 2021, but have not elected to do so.

The Company and Bank continued to qualify to utilize the CBLR framework as of September 30, 2021, but have not elected to do so.

Beginning in 2016, an additional capital conservation buffer was added to the minimum requirements for capital adequacy purposes, subject to a three year phase-in period.

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The Company and the Bank were fully compliant as of the periods presented in the table below.

As of June 30, 2021, the Bank was considered well capitalized under the regulatory capital framework for Prompt Corrective Action and the Company exceeded currently applicable consolidated regulatory guidelines for capital adequacy.

As of September 30, 2021, the Bank was considered well capitalized under the regulatory capital framework for Prompt Corrective Action and the Company exceeded currently applicable consolidated regulatory guidelines for capital adequacy.

While we believe that the Company has sufficient capital to withstand an extended economic downturn in the wake of the COVID-19 pandemic, our regulatory capital ratios could be adversely impacted by future credit losses and other operational impacts related to COVID-19 or emerging variants of the virus.

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(Dollars in Thousands)

June 30, 2021

September 30, 2021

Common equity tier 1 capital

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Tier 1 capital (to average assets)

_________________

Conservation Buffer is calculated based on risk-weighted assets and does not apply to calculations of average assets.

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

What changed 10-Q

Item 2. Management’s Discussion and Analysis