CSB Bancorp, Inc. 10-Q

ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following management’s discussion and analysis focuses on the consolidated financial condition of the Company at March 31, 2022 as compared to December 31, 2021, and the consolidated results of operations for the three months ended March 31, 2022 compared to the same period in 2021. The purpose of this discussion is to provide the reader with a more thorough understanding of the Consolidated Financial Statements. This discussion should be read in conjunction with the interim condensed Consolidated Financial Statements and related footnotes contained in Part I, Item 1 of this Quarterly Report. FORWARD-LOOKING STATEMENTS Certain statements contained in this Quarterly Report are not historical facts but rather are forward-looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates”, “plans”, “expects”, “believes”, and similar expressions as they relate to the Company or its management are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The Company’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions, interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services. Other factors not currently anticipated may also materially and adversely affect the Company’s results of operations, cash flows, and financial position. There can be no assurance that future results will meet expectations. While the Company believes that the forward-looking statements in this report are reasonable, the reader should not place undue reliance on any forward-looking statement. The Company does not undertake, and specifically disclaims any obligation, to publicly revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events, except as may be required by applicable law. FINANCIAL CONDITION Total assets remained constant at $1.1 billion at March 31, 2022 as compared to December 31, 2021. During the three months ended March 31, 2022, securities increased $83 million, net loans increased $19 million, and cash and cash equivalents decreased $113 million. Deposits and short-term borrowings decreased $5 million. Net loans increased $19 million, or 3%, as construction loans increased $16 million, or 35%, residential real estate loans increased $5 million, or 3%, and commercial real estate loans decreased $5 million, or 3% from December 31, 2021. Commercial loans increased $3 million, or 3%. PPP loans outstanding at March 31, 2022 were $2 million after the bank originated $129 million during 2020 and 2021. Consumer refinance activity slowed significantly on mortgage loans, home purchase activity remained stable despite limited inventory through the first three months of 2022, and home equity line originations increased by $3 million. Residential mortgage loan originations for the three months ended March 31, 2022 totaled $17 million, a decrease from $30 million in originations during the three months ended March 31, 2021. Originations sold into the secondary market were $3 million and $13 million, respectively during the three months ended March 31, 2022 and March 31, 2021. The Bank originates and sells primarily fixed rate thirty-year mortgages into the secondary market. The allowance for loan losses decreased $1 million from the year ago quarter to $7.3 million. The Company has not early adopted CECL which has been delayed for smaller reporting companies. Year over year outstanding loan balances decreased 3% to $567 million at March 31, 2022. Net charge-offs were $13 thousand, or an annualized 0.01% of average loans, in the current three-month period compared to a net recoveries of $34 thousand net recovery, or -0.02% of average loans in the year-ago three-month period. At March 31, 2022, the allowance for total loans was 1.29%. We believe the allowance level is appropriate given the low level of problem loans and current composition of the overall loan portfolio in the current economic environment. 24 CSB BANCORP, INC. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Non performing loans in creased $ 9 3 thousand to $ 1. 2 million , or 0. 2 1 % , of total loans from $ 1.1 million, or 0. 20 %, at December 31, 202 1 . For the three months ended March 31, 2022 no loans were placed on n onaccrual status , $ 22 thousand in paydowns were received , and the bank charged off $2 thousand in personal loans due to non-payment . March 31, December 31, March 31, (Dollars in thousands) 2022 2021 2021 Non-performing loans $ 1,181 $ 1,088 $ 3,089 Other real estate — — — Repossessed assets — — — Allowance for loan losses 7,305 7,618 8,338 Total loans $ 567,375 $ 549,154 $ 582,714 Allowance for loan losses as a percentage of total loans 1.29 % 1.39 % 1.43 % Allowance for loan losses to total nonperforming loans 6.2X 7.0X 2.7X The ratio of gross loans to deposits was 57.0% at March 31, 2022, compared to 54.8% at December 31, 2021. The Company has no exposure to government-sponsored enterprise preferred stocks, collateralized debt obligations, or trust preferred securities. Management has considered industry analyst reports, sector credit reports, and the volatility within the bond market in concluding that the gross unrealized losses of $20.9 million within the available-for-sale and held-to-maturity portfolios as of March 31, 2022, was primarily the result of current market yields compared to the yields at the time the investments were purchased by the Company and not due to credit quality. As a result, all embedded security losses on March 31, 2022, are considered temporary and no impairment loss relating to these securities has been recognized. Deposits decreased $7.8 million, or less than 1%, from December 31, 2021 with noninterest-bearing deposits increasing approximately $1.6 million, or less than 1%, and interest-bearing deposit accounts decreasing approximately $9.4 million, or 11%. Total deposits as of March 31, 2022 are $995 million, or 3%, greater than March 31, 2021 deposit balances. On a year over year comparison, increases were recognized in noninterest-bearing demand deposits of $32 million, money market accounts of $17 million, savings of $25 million, and a decline in interest-bearing demand deposits of $42 million and time deposits by $6 million. Deposit growth has normalized following the Bank’s customers increasing deposits through stimulus payments and cash conservation as a result of the COVID-19 pandemic. Short-term borrowings consisting of overnight repurchase agreements with retail customers increased $2.4 million, or 6%, to $39 million at March 31, 2022 as compared to December 31, 2021 and other borrowings decreased $82 thousand as the Company repaid FHLB advances. Total shareholders’ equity amounted to $94.9 million, or 8.4%, of total assets at March 31, 2022, a decrease of $2.4 million, or 2%, from $97.3 million December 31, 2021. The decrease in shareholders’ equity during the three months ended March 31, 2022 was due to accumulated other comprehensive loss (“AOCL”) of $5.1 million, that was partially offset by net income of $2.7 million. Rapidly rising interest rates during first quarter 2022 have caused the AOCL to increase as AFS securities are marked to fair market value. As interest rates rise, the fair value of AFS fixed rate securities decline with a corresponding net of tax decline recorded in the AOCL portion of equity. This unrealized loss in securities is temporary and is adjusted monthly for additional interest rate fluctuations, principal paydowns, calls, and maturities. The Company and the Bank met all regulatory capital requirements at March 31, 2022. RESULTS OF OPERATIONS Three months ended March 31, 2022 and 2021 For the quarters ended March 31, 2022 and 2021, the Company recorded net income of $2.7 million and $2.9 million and $0.99 and $1.05 per share, respectively. The $184 thousand decrease in net income for the period was primarily the result of a $236 thousand decrease in noninterest income, an increase in noninterest expenses of $187 thousand, and a decrease of $143 thousand in net interest income. The decreases were partially offset by a recovery of provision for loan losses of $300 thousand and a $52 thousand decrease in the federal income tax provision. Return on average assets and return on average equity were 0.96% and 11.26%, respectively, for the three-month period of 2022, compared to 1.10% and 12.33%, respectively for the same quarter in 2021. 25 CSB BANCORP, INC. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Average Balance Sheets and Net Interest Margin Analysis For the Three Months Ended March 31, 2022 2021 (Dollars in thousands) Average balance 1 Interest Average rate 2 Average balance 1 Interest Average rate 2 ASSETS Interest-earning deposits $ 158,161 $ 74 0.19 % $ 203,200 $ 46 0.09 % Taxable securities 334,357 1,281 1.55 181,634 559 1.25 Tax-exempt securities 4 25,311 140 2.24 23,368 141 2.45 Loans 3,4 560,440 5,784 4.19 596,319 6,873 4.67 Total interest-earning assets 1,078,269 7,279 2.74 % 1,004,521 7,619 3.08 % Noninterest-earning assets 60,329 55,964 TOTAL ASSETS $ 1,138,598 $ 1,060,485 LIABILITIES AND SHAREHOLDERS' EQUITY Interest-bearing demand deposits $ 237,680 $ 49 0.08 % $ 252,061 87 0.14 % Savings deposits 309,094 68 0.09 262,828 70 0.11 Time deposits 119,912 232 0.78 122,723 381 1.26 Borrowed funds 44,027 28 0.26 43,311 35 0.33 Total interest-bearing liabilities 710,713 377 0.22 % 680,923 573 0.34 % Noninterest-bearing demand deposits 326,725 280,451 Other liabilities 3,918 4,182 Shareholders' Equity 97,242 94,929 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 1,138,598 $ 1,060,485 Taxable equivalent net interest income, (Non-GAAP) $ 6,902 $ 7,046 Tax equivalent adjustment 4 (37 ) (38 ) Net interest income, (GAAP) $ 6,865 $ 7,008 Net interest margin, (GAAP) 2.58 % 2.83 % Tax equivalent adjustment 4 0.02 0.02 Net interest margin-taxable equivalent, (Non-GAAP) 2.60 % 2.85 % Taxable equivalent net interest spread 2.52 % 2.74 % 1 Average balances have been computed on an average daily basis. 2 Average rates have been computed based on the amortized cost of the corresponding asset or liability. 3 Average loan balances include nonaccrual loans. 4 Interest income is shown on a fully tax-equivalent basis, which is a Non-GAAP measure and is reconciled to the GAAP measure at the bottom of the table. Interest income for the quarter ended March 31, 2022, was $7.2 million representing a $339 thousand decrease, or 4%, compared to the same period in 2021. This decrease was primarily due to the decrease in loan interest and fee rate offset by an increase in securities balance volume in the comparable periods. Average loan rates decreased 48 basis points for the quarter ended March 31, 2022 as compared to the same period in 2021. Interest expense for the quarter ended March 31, 2022 was $377 thousand, a decrease of $196 thousand, or 34%, from the same quarter in 2021. The decrease in interest expense occurred primarily due to a decrease on all rates on interest-bearing liabilities for the quarter ended March 31, 2022, partially offset by increases in the average deposit balances. 26 CSB BANCORP, INC. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS For the quarter ended March 31, 2022, with strengthening economic conditions and improving credit quality, the bank recognized a recovery for loan losses of $300 thousand to the provision for loan losses, compared to a provision for loan losses of $30 thousand for the same quarter in 2021. The recapture of provision for loan losses for the current quarter primarily reflects the sustained improvement in credit quality including the increase in loans graded as pass as well as a reduction of impaired and adversely classified loans. Economic indicators reflect improvement in residential real estate prices and low unemployment. The provision for loan losses is determined based on management’s calculation of the adequacy of the allowance for loan losses, which includes provisions for classified loans as well as for the remainder of the portfolio based on historical data, including past charge-offs and current economic trends. Noninterest income for the quarter ended March 31, 2022, was $1.6 million, a decrease of $236 thousand, or 13%, compared to the same quarter in 2021. The gain on the sale of mortgage loans into the secondary market decreased by $369 thousand, or 76%, for the quarter ended March 31, 2022 as fewer loans were sold into the secondary market due to decreasing demand for mortgage refinancing and declining inventories of homes available for sale. Fees from trust and brokerage services amounted to $264 thousand for the first quarter 2022, a decrease of $18 thousand, or 6%, as compared to the same quarter in 2021. Service charges on deposit accounts increased $58 thousand, or 28%, compared to the same quarter in 2021. Debit card interchange income increased $24 thousand, or 5%, with greater fees generated from usage in the first quarter 2022. Earnings on bank owned life insurance increased $16 thousand, or 11%, for the first quarter 2022, a result of adding policies in 2021. Noninterest expenses for the quarter ended March 31, 2022 increased $187 thousand, or 4%, compared to the first quarter 2021. Salaries and employee benefits increased $126 thousand, or 4%, a result of decreases recognized in salary expense through the capitalization of salary expense assigned to loan origination that occurred during the first quarter of 2021. Additional increases in base wages and retirement accruals were recognized in first quarter 2022 as compared to first quarter 2021. The provision for unfunded loan commitments increased $13 thousand over the prior year’s quarter with additional provision recorded for unfunded construction loans within the assisted/senior living sector that have been adversely affected by COVID-19. FDIC assessment amounted to $83 thousand as compared to $108 thousand in the first quarter 2021 due to improvement within nonperforming loans. Marketing and public relations expense increased $32 thousand, or 41%, primarily due to new opportunities and more events taking place after being cancelled due to COVID-19. Occupancy expense increased $18 thousand, or 7%, in 2022 over the first quarter 2021. The Ohio financial institutions tax increased $7 thousand, or 4%, in the first quarter due to the Company’s increased capital base. Professional and director fees decreased $19 thousand, or 6%, for the quarter ended March 31, 2022 as compared to the first quarter 2021. This decrease resulted from a reduction in outside audit fees. Federal income tax expense decreased $52 thousand, or 8%, for the quarter ended March 31, 2022 as compared to the first quarter 2021. The provision for income taxes was $638 thousand (effective rate of 19.1%) for the quarter ended March 31, 2022, compared to $690 thousand (effective rate of 19.3%) for the same quarter ended 2021. CAPITAL RESOURCES The Company maintained a strong capital position with tangible common equity to tangible assets of 8.0% at March 31, 2022 compared with 8.1% at December 31, 2021. Consistent with the Board of Director’s commitment to public confidence and safe and sound banking operations, capital targets and minimum risk-based capital ratios for CSB were established to maintain excess capital to well-capitalized standards. To be considered well-capitalized, an institution must have a total risk-based capital ratio of at least 10%, a tier 1 capital ratio of at least 8%, a leverage capital ratio of at least 5%, a common equity tier 1 (“CET1”) ratio of at least 6.5% and must not be subject to any order or directive requiring the institution to improve its capital level. An adequately capitalized institution has a total risk-based capital ratio of at least 8%, a tier 1 capital ratio of at least 6%, a CET1 ratio of at least 4.5%, and a leverage ratio of at least 4%. Failure to meet specified minimum capital requirements could result in regulatory actions by the Federal Reserve or Ohio Division of Financial Institutions that could have a material effect on the Company’s financial condition or results of operations. Management believes there were no material changes to capital resources as 27 CSB BANCORP, INC. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS presented in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021 . As of March 31, 2022 , the Company and the Bank met all capital adequacy requirements to which they were subject. Capital Ratios March 31, 2022 December 31, 2021 Common Equity Tier 1 Capital To Risk Weighted Assets Consolidated 15.4 % 16.3 % Bank 15.2 % 16.0 % Tier 1 Capital To Risk Weighted Assets Ratio Consolidated 15.4 % 16.3 % Bank 15.2 % 16.0 % Total Capital To Risk Weighted Assets Ratio Consolidated 16.6 % 17.5 % Bank 16.4 % 17.3 % Tier 1 Leverage Ratio Consolidated 8.6 % 8.3 % Bank 8.5 % 8.2 % LIQUIDITY (Dollars in thousands) March 31, 2022 December 31, 2021 Change Cash and cash equivalents $ 130,237 $ 243,657 $ (113,420 ) Available from FHLB 108,295 107,054 1,241 Unpledged AFS securities at fair market value 120,604 108,158 12,446 $ 359,136 $ 458,869 $ (99,733 ) Net deposits and short-term liabilities $ 1,012,189 $ 1,016,821 $ (4,632 ) Liquidity ratio 35.5 % 45.1 % (9.6 ) % Minimum board approved liquidity ratio 20.0 20.0 Liquidity refers to the Company’s ability to generate sufficient cash to fund current loan demand, meet deposit withdrawals, pay operating expenses, and meet other obligations. Liquidity is monitored by the Company’s Asset Liability Committee. Other sources of liquidity include, but are not limited to, purchases of federal funds, advances from the FHLB, adjustments of interest rates to attract deposits, brokered deposits, and borrowing at the Federal Reserve discount window. Management believes that its sources of liquidity are adequate to meet cash flow obligations for the foreseeable future. Off-Balance Sheet Arrangements The Company does not have any off-balance sheet arrangements (as such term is defined in applicable Securities and Exchange Commission (the “Commission”) rules) that are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures, or capital resources. 28 CSB BANCORP, INC. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK