FARMERS & MERCHANTS BANCORP 10-K

Item 7A. Quantitative and Qualitative Disclosures About Market Risk Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices and equity prices. Our market risk arises primarily from interest rate risk inherent in our lending and deposit taking activities. Management actively monitors and manages our interest rate risk exposure. We do not have any market-risk sensitive instruments entered into for trading purposes. In monitoring interest rate risk we continually analyze and manage our earning assets and funding liabilities based on their payment streams and interest rates, the timing of their maturities and/or prepayments, and their sensitivity to actual or potential changes in market interest rates. Management uses various asset/liability strategies to manage the re-pricing characteristics of our assets and liabilities designed to ensure that exposure to interest rate fluctuations is limited within our guidelines of acceptable levels of risk-taking. Hedging strategies, including the terms and pricing of loans and deposits, and managing the deployment of our securities, are considered to reduce mismatches in interest rate re-pricing opportunities of portfolio assets and their funding sources. Since our earnings are primarily dependent on our ability to generate net interest income, we focus on actively monitoring and managing the effects of adverse changes in interest rates on our net interest income. Our Asset Liability Management Committee (“ALCO”), which is comprised of members of the Board of Directors and Executive Officers, manages market risk. ALCO monitors interest rate risk by analyzing the potential impact on net interest income from potential changes in interest rates, and considers the impact of alternative strategies or changes in balance sheet structure. ALCO manages our balance sheet in part to maintain the potential impact of changes in interest rates on net interest income within acceptable ranges despite changes in interest rates. ALCO and management utilize a third party to assist with asset liability management including the use of simulation models. Our exposure to interest rate risk is reviewed on at least a quarterly basis by ALCO. Interest rate risk exposure is measured using interest rate sensitivity analysis to determine our change in net interest income in the event of hypothetical changes in interest rates. If potential changes to net interest income resulting from hypothetical interest rate changes are not within risk tolerances determined by ALCO, and approved by the full Board of Directors, management may make adjustments to the Company’s asset and liability mix to bring interest rate risk levels within the Board approved limits. Net Interest Income Simulation. In order to measure interest rate risk, we use a simulation model to project changes in net interest income that result from forecasted changes in interest rates. This analysis calculates the difference between net interest income forecasted using a rising and a falling interest rate scenario and a net interest income forecast using a base market interest rate derived from the current Treasury yield curve. The income simulation model includes various assumptions regarding the re-pricing relationships for each of our products. Many of our assets are floating rate loans, which are assumed to re-price immediately, and to the same extent as the change in market rates according to their contracted index. Some loans and investment vehicles include the opportunity of prepayment (embedded options), and accordingly the simulation model uses various proprietary models to estimate these prepayments and assumes the reinvestment of the proceeds at current yields. Our non-term deposit products re-price more slowly, usually changing less than the change in market rates and at our discretion. This analysis indicates the impact of changes in net interest income for the given set of rate changes and assumptions. It assumes the balance sheet size remains static throughout the simulation horizon by replacing existing cash flows/amortization into similar products at current rates to try and capture the ongoing activity of the balance sheet without forecasting any level of growth. It does not account for all factors that affect this analysis, including changes by management to mitigate the effect of interest rate changes or secondary impacts such as changes to our credit risk profile as interest rates change. Furthermore, loan prepayment-rate estimates and spread relationships change regularly. Interest rate changes create changes in actual loan prepayment rates that will differ from the market estimates incorporated in this analysis. Changes that vary significantly from the assumptions may have significant effects on our net interest income. 71 Table of Contents For the rising and falling interest rate scenarios, the base market interest rate forecast was increased or decreased, on an instantaneous and sustained basis, by 100, 200 and 300 basis points. We then evaluate the simulation results using two approaches: Net Interest Income at Risk (“NII at Risk”) and Economic Value of Equity (“EVE”). Under NII at Risk, the impact on net interest income from the changes in interest rates on interest-earning assets and interest-bearing liabilities is modeled using various assumptions of assets and liabilities. EVE measures the period-end present value of assets minus the present value of liabilities. Management uses this value to measure the changes in the economic value of the Company under various interest rate scenarios. Based on our quarterly simulations, our net interest margin exposure related to these hypothetical changes in market interest rates was within the current guidelines established by us. Our simulation model highlights the fact that our balance sheet is asset sensitive, which means that our net interest income rises in a rising interest rate environment as rates earned on our interest-bearing assets reprice higher and at a faster pace than rates paid on our interest-bearing liabilities. The ratio of variable to fixed-rate loans in our loan portfolio, the ratio of short-term (maturing at a given time within 12 months) to long-term loans, and the ratio of our demand, money market and savings deposits to CDs (and their time periods), are the primary factors affecting the sensitivity of our net interest income to changes in market interest rates. Our short-term loans are typically priced at prime plus a margin, and our long-term loans are typically priced based on a specific term of the Treasury Curve for comparable maturities, plus a margin. The composition of our rate-sensitive assets or liabilities is subject to change and could result in a more unbalanced position that would cause market rate changes to have a greater impact on our net interest margin. As of December 31, 2023, our loan and lease portfolio was comprised of 58.1% fixed rate and 41.9% variable rate loans. The vast majority of our variable loans also contain interest rate floors which are designed to mitigate the impact of decreases in interest rates as index rates drop. The following table presents the projected change in the Company’s net interest income over the next twelve months and the economic value of equity at December 31, 2023, that would occur upon an immediate change in interest rates, but without giving effect to any steps that management might take to counteract that change: Estimated Change in Net Interest Income (NII) (as a % of NII) Estimated Change in Economic Value of Equity (EVE) (as a % of EVE) December 31, 2023 +300 bps 0.9 % (8.1 %) +200 bps 0.4 % (5.9 %) +100 bps 0.4 % (2.2 %) 0 bps - - -100 bps (2.0 %) (1.6 %) -200 bps (4.1 %) (5.6 %) -300 bps (6.4 %) (12.4 %) 72 Table of Contents Item 8. Financial Statements and Supplementary Data INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page Report of Independent Registered Public Accounting Firm ( Eide Bailly LLP , San Ramon, California , PCAOB ID: 286 ) Report of Independent Registered Public Accounting Firm ( Moss Adams LLP , San Francisco, California , PCAOB ID: 659 ) 75 Consolidated Financial Statements Consolidated Statements of Financial Condition as of December 31, 2023, and 2022 78 Consolidated Statements of Income for the three years ended December 31, 2023, 2022 and 2021 79 Consolidated Statements of Comprehensive Income for the three years ended December 31, 2023, 2022 and 2021 80 Consolidated Statements of Changes in Shareholders’ Equity for the three years ended December 31, 2023, 2022 and 2021 81 Consolidated Statements of Cash Flows for the three years ended December 31, 2023, 2022 and 2021 82 Notes to the Consolidated Financial Statements 83 73 Table of Contents REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders Farmers & Merchants Bancorp Lodi, California Opinions on the Consolidated Financial Statements and Internal Control Over Financial Reporting We have audited the accompanying consolidated statements of financial condition of Farmers & Merchants Bancorp and subsidiaries (the “Company”) as of December 31, 2023 and 2022, and the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for the years then ended, and the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company’s internal control over financial reporting as of December 31, 2023, based on criteria established in 2013 Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2023 and 2022, and the consolidated results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2023, based on criteria established in 2013 Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Basis for Opinions The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that responds to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. 74 Table of Contents Definition and Limitations of Internal Control Over Financial Reporting An entity’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. An entity’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the entity; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the entity are being made only in accordance with authorizations of management and directors of the entity; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the entity’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current-period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates. Allowance for Credit Losses – Loans and Leases The Company has a loan portfolio of $3.7 billion and related allowance for credit losses - loans and leases (ACL) of $75.0 million as of December 31, 2023. As discussed in Notes 1 and 4 of the Company’s consolidated financial statements, the ACL represents management’s estimate of expected credit losses over the life of the loan and lease portfolios. The ACL is estimated using relevant available information relating to past events, current economic conditions, and reasonable and supportable forecasts, as well as qualitative adjustments applied on a portfolio segment basis. The qualitative adjustments are used to bring the ACL to the level management believes is appropriate based on factors that are otherwise unaccounted for in the quantitative process. Auditing these complex judgments and assumptions involves especially challenging auditor judgment due to the nature and extent of audit evidence and effort required to address these matters, including the extent of specialized skill or knowledge needed. Our considerations and procedures performed to address this critical audit matter included: • Obtaining an understanding of the Company’s process for establishing the ACL, including the models selected by management to estimate quantitative components of the ACL and qualitative adjustments made to the ACL. This includes the process utilized by management to challenge the model results and determine the best estimate of the ACL as of the statement of financial condition date. • Evaluating the design and testing the operating effectiveness of controls relating to the development and approval of the ACL methodology, management’s identification, determination and controls related to the significant assumptions used in the models, controls around the reliability and accuracy of the data used in the models, analysis of the ACL results and management’s review and approval of the ACL. • Determining whether the loan portfolio is segmented by similar risk characteristics. • Evaluating the identification and measurement of the qualitative adjustments, including the basis for concluding an adjustment was warranted and compared the adjustments utilized by management to both internal portfolio metrics and external macroeconomic data to support the adjustments and evaluating the trends in such adjustments. We evaluated information that corroborates or contradicts management’s identification and measurement of qualitative factors. • Testing the completeness and accuracy of internal loan level data used as the basis for the calculation. • Testing the mathematical accuracy and computation of the ACL. /s/ Eide Bailly LLP We have served as the Company’s auditor since 2022. San Ramon, California March 14, 2024 75 Table of Contents Report of Independent Registered Public Accounting Firm To the Shareholders and the Board of Directors of Farmers & Merchants Bancorp Opinion on the Financial Statements We have audited the accompanying consolidated statement of financial condition of Farmers & Merchants Bancorp and subsidiaries (the Company) as of December 31, 2021 , the related consolidated statement of income, comprehensive income, changes in shareholders’ equity, and cash flows for the year ended December 31, 2021, and the related notes (collectively referred to as the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2021, and the consolidated results of its operations and its cash flows for the year ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audit s . We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audit provides a reasonable basis for our opinion. /s/ Moss Adams LLP Sacramento, California March 16, 2022 We have served as the Company’s auditor from 2013 through 2022. 76 Table of Contents Farmers & Merchants Bancorp CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION December 31, (Dollars in thousands, except share and per share amounts) 2023 2022 ASSETS Cash and due from banks $ 72,267 $ 73,358 Interest bearing deposits with banks 338,375 514,899 Total cash and cash equivalents 410,642 588,257 Securities available-for-sale, amortized cost $ 199,374 and $ 183,171 , respectively 182,512 152,864 Securities held-to-maturity, fair value $ 671,585 and $ 688,393 , respectively 817,688 845,346 Allowance for credit losses - securities held-to-maturity ( 450 ) ( 393 ) Total investment securities 999,750 997,817 Non-marketable securities 15,549 15,549 Loans and leases held-for-investment, net of unearned income 3,654,689 3,512,361 Allowance for credit losses - loans and leases ( 74,965 ) ( 66,885 ) Loans held for investment, net 3,579,724 3,445,476 Bank-owned life insurance 74,931 73,038 Premises and equipment, net 51,907 49,476 Deferred income tax assets 39,979 31,507 Accrued interest receivable 28,520 21,602 Goodwill 11,183 11,183 Other intangibles 2,236 2,809 Other real estate owned 873 873 Other assets 93,634 89,812 Total Assets $ 5,308,928 $ 5,327,399 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Non-interest bearing $ 1,482,571 $ 1,758,793 Interest bearing: Demand 933,417 1,125,014 Savings and money market 1,607,479 1,544,062 Certificates of deposit 644,628 331,400 Total interest bearing 3,185,524 3,000,476 Total deposits 4,668,095 4,759,269 Subordinated debentures 10,310 10,310 Interest payable and other liabilities 80,768 72,512 Total Liabilities 4,759,173 4,842,091 SHAREHOLDERS’ EQUITY Preferred shares, no par value, 1,000,000 shares authorized and, no ne issued or outstanding - - Common shares, $ 0.01 par value, 7,500,000 authorized, 747,971 and 768,337 issued and outstanding at December 31, 2023 and 2022, respectively 7 8 Additional paid-in capital 36,852 57,206 Retained earnings 525,360 449,932 Accumulated other comprehensive income/(loss), net of taxes ( 12,464 ) ( 21,838 ) TOTAL SHAREHOLDERS’ EQUITY 549,755 485,308 TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY $ 5,308,928 $ 5,327,399 See accompanying notes to the consolidated financial statements. 77 Table of Contents Farmers & Merchants Bancorp Consolidated Statements of Income Year Ended December 31, (Dollars in thousands, except share and per share amounts) 2023 2022 2021 Interest income Interest and fees on loans and leases $ 204,482 $ 164,022 $ 147,208 Interest and dividends on investment securities 22,400 22,289 17,158 Interest on deposits with others 26,872 12,102 902 Total interest income 253,754 198,413 165,268 Interest expense Deposits 37,523 4,349 4,017 Subordinated debentures 846 491 315 Total interest expense 38,369 4,840 4,332 Net interest income 215,385 193,573 160,936 Provision for credit losses 9,407 6,450 1,910 Net interest income after provision for credit losses 205,978 187,123 159,026 Non-interest income Card processing 6,686 7,123 6,959 Gain on BOLI death benefit 4,346 - - Net gain on deferred compensation benefits 2,974 451 2,614 Service charges on deposit accounts 2,755 2,794 2,972 Increase in cash surrender value of BOLI 2,027 2,233 2,175 Net (loss)/gain on sale of securities available-for-sale ( 8,199 ) ( 10,689 ) 2,554 Other 4,325 4,266 3,782 Total non-interest income 14,914 6,178 21,056 Non-interest expense Salaries and employee benefits 70,883 64,250 63,860 Data Processing 5,293 4,968 4,967 Occupancy 4,837 4,717 4,675 Net gain on deferred compensation benefits 2,974 451 2,614 Deposit insurance 2,769 1,771 1,498 Professional services 2,334 2,459 1,355 Marketing 1,885 1,324 1,097 Other 13,364 13,620 11,695 Total non-interest expense 104,339 93,560 91,761 INCOME BEFORE INCOME TAXES 116,553 99,741 88,321 Income tax expense 28,239 24,651 21,985 NET INCOME $ 88,314 $ 75,090 $ 66,336 Earnings per common share: Basic $ 116.61 $ 96.55 $ 84.01 Diluted $ 116.61 $ 96.55 $ 84.01 Weighted average number of common shares Basic 757,336 777,726 789,646 Diluted 757,336 777,726 789,646 See accompanying notes to the consolidated financial statements. 78 Table of Contents FARMERS & MERCHANTS BANCORP Consolidated Statements of Comprehensive Income Year Ended December 31, (Dollars in thousands) 2023 2022 2021 Net income $ 88,314 $ 75,090 $ 66,336 Other comprehensive income Unrealized gains/(losses) on available-for-sale securities 5,246 ( 39,015 ) ( 17,986 ) Reclassification adjustment for losses/(gains) on available-for-sale securities 8,199 10,689 ( 2,554 ) Amortization of unrealized loss on securities transferred to held-to-maturity ( 136 ) ( 238 ) ( 457 ) Net unrealized gains/(losses) on available-for-sale securities 13,309 ( 28,564 ) ( 20,997 ) Income tax (expense)/benefit ( 3,935 ) 8,445 6,207 Other comprehensive income/(loss), net of tax 9,374 ( 20,119 ) ( 14,790 ) Total comprehensive income $ 97,688 $ 54,971 $ 51,546 See accompanying notes to the consolidated financial statements. 79 Table of Contents Farmers & Merchants Bancorp Consolidated Statements of Changes in Shareholders’ Equity (Dollars in thousands, except share and per share amounts) Common Shares Amount Additional Paid-In Capital Retained Earnings Accumulated Other Comprehensive (Loss)/Income Total Balance as of January 1, 2021 789,646 $ 8 $ 77,516 $ 333,070 $ 13,071 $ 423,665 Net income - - - 66,336 - 66,336 Other comprehensive loss, net of tax - - - - ( 14,790 ) ( 14,790 ) Cash dividends declared ($ 15.30 per share) - - - ( 12,075 ) - ( 12,075 ) Balance as of December 31, 2021 789,646 $ 8 $ 77,516 $ 387,331 $ ( 1,719 ) $ 463,136 Net income - - - 75,090 - 75,090 Other comprehensive loss, net of tax - - - - ( 20,119 ) ( 20,119 ) Cash dividends declared ($ 16.15 per share) - - - ( 12,489 ) - ( 12,489 ) Repurchase of common stock ( 21,309 ) - ( 20,310 ) - - ( 20,310 ) Balance as of December 31, 2022 768,337 $ 8 $ 57,206 $ 449,932 $ ( 21,838 ) $ 485,308 Net income - - - 88,314 - 88,314 Other comprehensive income, net of tax - - - - 9,374 9,374 Cash dividends declared ($ 17.10 per share) - - - ( 12,886 ) - ( 12,886 ) Repurchase of common stock ( 20,366 ) ( 1 ) ( 20,354 ) - - ( 20,355 ) Balance as of December 31, 2023 747,971 $ 7 $ 36,852 $ 525,360 $ ( 12,464 ) $ 549,755 See accompanying notes to the consolidated financial statements. 80 Table of Contents Farmers & Merchants Bancorp Consolidated Statements of Cash Flows Year Ended December 31, (Dollars in thousands) 2023 2022 2021 Cash flows from operating activities: Net income $ 88,314 $ 75,090 $ 66,336 Adjustments to reconcile net income to net cash provided by operating activities: Provision for credit losses 9,407 6,450 1,910 Depreciation and amortization 2,491 2,428 2,632 Net amortization of securities premiums and discounts ( 109 ) 376 1,446 Increase in cash surrender value of BOLI ( 2,027 ) ( 2,233 ) ( 2,175 ) Gain on BOLI death benefit ( 4,346 ) - - (Increase)/decrease in deferred income taxes, net ( 5,603 ) 4,330 ( 880 ) Losses/(gains) on sale of securities available-for-sale 8,199 10,689 ( 2,554 ) Net changes in: Other assets ( 16,792 ) ( 8,262 ) ( 12,432 ) Other liabilities 13,814 12,910 5,680 Net cash provided by operating activities 93,348 101,778 59,963 Cash flows from investing activities: Net change in loans and leases held-for-investment ( 156,433 ) ( 275,061 ) ( 137,216 ) Purchase of available-for-sale securities ( 84,114 ) ( 10,217 ) ( 257,231 ) Purchase of held-to-maturity securities ( 6,850 ) ( 173,907 ) ( 395,176 ) Purchase of non-marketable securities - - ( 2,856 ) Proceeds from sales, maturities, calls and pay downs of available-for-sale securities 59,557 88,504 458,855 Proceeds from maturities, calls and pay downs of held-to-maturity securities 49,063 65,493 43,287 Purchase of bank-owned life insurance ( 7,271 ) - - Purchase of premises and equipment ( 4,972 ) ( 4,190 ) ( 2,069 ) Purchase of other investments ( 7,306 ) ( 6,600 ) ( 8,192 ) Redemption of other investments - - 2,752 Proceeds from bank-owned life insurance 11,751 606 - Proceeds from sale of assets 27 73 1,696 Net cash used in investing activities ( 146,548 ) ( 315,299 ) ( 296,150 ) Cash flows from financing activities: Net (decrease)/increase in deposits ( 91,174 ) 119,117 579,885 Cash dividends paid ( 12,886 ) ( 12,489 ) ( 12,075 ) Net cash used in share repurchase of common stock ( 20,355 ) ( 20,310 ) - Net cash used in/provided by financing activities ( 124,415 ) 86,318 567,810 Net change in cash and cash equivalents ( 177,615 ) ( 127,203 ) 331,623 Cash and cash equivalents, beginning of year 588,257 715,460 383,837 Cash and cash equivalents, end of year $ 410,642 $ 588,257 $ 715,460 Supplemental disclosures of cash flow information: Cash paid for interest $ 29,280 $ 5,785 $ 4,369 Income taxes paid $ 12,662 $ 12,469 $ 29,941 Supplemental disclosures of non-cash transactions: Investment securities available-for-sale transferred to held-to-maturity $ - $ - $ 316,925 Net change in unrealized gains/(losses) on securities available-for-sale $ ( 13,445 ) $ 28,326 $ 20,540 Lease liabilities arising from obtaining right-of-use assets $ - $ - $ 295 See accompanying notes to the consolidated financial statements. 81 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies Nature of Operations and basis of consolidation — Farmers & Merchants Bancorp (“FMCB”) is a Delaware corporation headquartered in Lodi, California and is the bank holding company for Farmers & Merchants Bank of Central California (the “Bank” or “F&M Bank” and together with FMCB, the “Company”). The Company operates all business activities through the Bank, which was organized in 1916. F&M Bank is a California state-chartered bank. F&M Bank operates under the supervision of the California Department of Financial Protection and Innovation (“DFPI”), and its deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”). F&M Bank is not a member of the Federal Reserve System; however, FMCB operates as a bank holding company under the Federal Bank Holding Company Act of 1956, subject to and under the supervision of and examination by the Federal Reserve and is the sole shareholder of F&M Bank. Both FMCB and F&M Bank are subject to periodic examination by these applicable federal and state regulatory agencies and file periodic reports and other information with the agencies. The Company considers F&M Bank to be its sole operating segment. The Company’s other wholly-owned subsidiaries include F & M Bancorp, Inc. and FMCB Statutory Trust I. F & M Bancorp, Inc. was created in March 2002 to protect the name F & M Bank. During 2002, the Company completed a fictitious name filing in California to begin using the streamlined name “F & M Bank” as part of a larger effort to enhance the Company’s image and build brand name recognition. In December 2003, the Company formed a wholly owned subsidiary, FMCB Statutory Trust I, for the sole purpose of issuing Trust Preferred Securities and related subordinated debentures. In accordance with generally accepted accounting principles in the United States (“GAAP”), FMCB Statutory Trust I is a non-consolidated subsidiary. Through its network of 29 banking offices and 3 free-standing ATMs, F&M Bank emphasizes personalized service along with a broad range of banking services to businesses and individuals located in the service areas of its offices. Although the Company focuses on marketing its services to small and medium-sized businesses, a broad range of retail banking services are also made available to the local consumer market. F&M Bank branches are located through the mid Central Valley of California, including Sacramento, San Joaquin, Solano, Stanislaus and Merced counties and the east region of the San Francisco Bay Area including Napa, Alameda and Contra Costa counties. F&M Bank provides a broad complement of lending products, including commercial, commercial real estate, real estate construction, agribusiness, consumer, credit card, residential real estate loans, and equipment leases. Commercial products include term loans, leases, lines of credit and other working capital financing and letters of credit. Financing products for individuals include automobile financing, lines of credit, residential real estate, home improvement and home equity lines of credit. F&M Bank also offers a wide range of deposit products. These include checking, savings, money market, time certificates of deposit, individual retirement accounts and online banking services for both business and personal accounts. F&M Bank offers a wide range of specialized services designed for the needs of its commercial accounts. These services include a credit card program for merchants, lockbox and other collection services, account reconciliation, investment sweep, on-line account access, and electronic funds transfers by way of domestic and international wire and automated clearinghouse. F&M Bank makes investment products available to customers, including mutual funds and annuities. These investment products are offered through a third-party, which employs investment advisors to meet with and provide investment advice to the Company’s customers. 82 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued The consolidated financial statements of the Company include the accounts of FMCB together with the Bank. All intercompany transactions and balances have been eliminated. Use of estimates — The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for credit losses (“ACL”), the determination of the fair value of certain financial instruments, and deferred income tax assets. Reclassifications — Certain amounts in the prior years’ financial statements have been reclassified to conform to the current year’s presentation. There was no impact on net income or retained earnings as a result of any reclassification. Cash and cash equivalents — Cash and cash equivalents consist of cash on hand, amounts due from banks, interest bearing deposits, and federal funds sold, all of which have original maturities of three months or less. The Company places its cash with high credit quality institutions. The amounts on deposit fluctuate and, at times, exceed the insured limit by the FDIC, which potentially subjects the Company to credit risk. For these instruments, the carrying amount is a reasonable estimate of fair value. Statement of cash flows — For purposes of presentation on the consolidated statements of cash flows, "cash and cash equivalents" are defined as those amounts included in "Cash and cash equivalents" on the consolidated balance sheets . Investment securities — Investment securities are classified as held-to-maturity (“HTM”) when the Company has the positive intent and ability to hold the securities to maturity. Investment securities are classified as available-for-sale (“AFS”) when the Company has the intent of holding the security for an indefinite period of time, but not necessarily to maturity. The Company determines the appropriate classification at the time of purchase, and periodically thereafter. Investment securities classified at HTM are carried at amortized cost. Investment securities classified at AFS are reported at fair value. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Debt securities classified as HTM are carried at cost, net of the allowance for credit losses – securities, adjusted for amortization of premiums and discounts to the earliest callable date. Debt securities classified as AFS are measured at fair value. Unrealized holding gains and losses on debt securities classified as AFS are excluded from earnings and are reported net of tax as accumulated other comprehensive income (or loss) (“AOCI”), a component of shareholders’ equity, until realized. When AFS securities, specifically identified, are sold, the unrealized gain or loss is reclassified from AOCI to non-interest income. Allowance for Credit Losses – Securities — Management measures expected credit losses on held-to- maturity debt securities on a collective basis by major security type. The Company’s HTM portfolio contains securities issued by U.S. government entities and agencies and municipalities. The Company uses industry historical credit loss information adjusted for current conditions to establish the allowance for credit losses on its HTM municipal bond portfolio. Further information regarding our policies and methodology used to estimate the allowance for credit losses on HTM securities is presented in Note 2 – Investment Securities. 83 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued For AFS investment securities in an unrealized loss position, the Company first assesses whether it intends to sell, or is more likely than not that it will be required to sell the security before recovery of its amortized cost basis. If the Company intends to sell the security or it is more likely than not that, the Company will be required to sell the security before recovering its cost basis, the entire impairment loss would be recognized in earnings. If the Company does not intend to sell the security and it is not more likely than not that, the Company will be required to sell the security, the Company evaluates whether the decline in fair value has resulted from credit losses or other factors. In making this assessment, management considers the extent to which fair value is less than amortized cost, any changes to the rating of the security by a rating agency, and adverse conditions specifically related to the security, among other factors. If this assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security are compared to the amortized cost basis of the security. Projected cash flows are discounted by the current effective interest rate. If the present value of cash flows expected to be collected is less than the amortized cost basis, a credit loss exists and an allowance for credit losses is recorded for the credit loss, limited by the amount that the fair value is less than the amortized cost basis. The remaining impairment related to all other factors, the difference between the present value of the cash flows expected to be collected and fair value, is recognized as a charge to AOCI. Changes in the allowance for credit losses-securities are recorded as provision for (or reversal of) credit losses. Losses are charged against the allowance when management believes the non-collectability of an AFS security is confirmed or when either criteria regarding intent of requirement to sell is met. Interest on loans is accrued based upon the principal amount outstanding. The Company has elected the practical expedient to exclude all accrued interest receivable from all required disclosures of amortized cost. Additionally, an election was made not to measure an allowance for credit losses for accrued interest receivables. The Company has also made the election that all interest accrued but ultimately not received is reversed against interest income. Non-marketable equity securities — Non-marketable equity securities primarily consist of Federal Home Loan Bank (“FHLB”) stock. FHLB stock is restricted because such stock may only be sold to the FHLB at its par value. Due to the restrictive terms, and the lack of a readily determinable market value, FHLB stock is carried at cost. The investments in FHLB stock are required investments related to the Bank’s borrowings from FHLB. FHLB obtains its funding primarily through issuance of consolidated obligations of the FHLB system. The U.S. government does not guarantee these obligations, and each of the regional FHLBs are jointly and severally liable for repayment of each other’s debt. Loans and leases held for investment — Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal balance adjusted for any charge-offs, the allowance for loan losses, any deferred fees or costs on originated loans and unamortized premiums or discounts on acquired loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the effective interest method. Non-Accrual Loans and Leases - Accrual of interest on loans and leases is generally discontinued when a loan or lease becomes contractually past due by 90 days or more with respect to interest or principal. When loans and leases are 90 days past due, but in management’s judgment are well secured and in the process of collection, they may not be classified as non-accrual. When a loan or lease is placed on non-accrual status, all interest previously accrued but not collected is reversed. Income on such loans and leases is then recognized only to the extent that cash is received and where the future collection of principal is probable. 84 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued On January 1, 2023, the Company adopted ASU 2022-02, Financial Instruments – Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures using the prospective transition method. This ASU eliminates the troubled debt restructuring recognition and measurement guidance and requires an entity to present gross write-offs by year of origination. The amendments also enhance disclosure requirements related to certain modifications of receivables made to borrowers experiencing financial difficulty. With the exception of enhanced disclosures, there was no material impact to the consolidated financial statements from adoption of this ASU. The Company’s updated accounting policy, as a result of this new ASU, is outlined below. Modifications for Borrowers Experiencing Financial Difficulty. The Company may renegotiate the terms of existing loans for a variety of reasons. When refinancing or restructuring a loan, the Company evaluates where the borrower is experiencing financial difficulty. In making this determination, the Company considers whether the borrower is currently in default on any of its debt. In addition, the Company evaluates whether it is probable that the borrower would be in payment default on any of its debt in the foreseeable future without the modification and if the borrower (without the current modification) could obtain equivalent financing from another creditor at a market rate for similar debt. Modifications of loans to borrowers in these situations may indicate that the borrower is facing financial difficulty. Modifications of loans to borrowers experiencing financial difficulty that are in the form of principal forgiveness, interest rate reductions, other-than-insignificant payment delays, or a term extension (or a combination thereof) require disclosure. The Company’s disclosures are included in Note 4 - Loans and Leases. Allowance for Credit Losses — Loans — On January 1, 2022, the Company adopted ASU 2016-13, Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments , as amended, which replaced the incurred loss methodology that delays recognition until it is probable a loss has been incurred with an expected loss methodology that is referred to as CECL. Both the FASB Staff Q&A Topic 326, No. 1 and the federal financial institution regulatory agencies (“Financial Institution Letter FIL-17-2019”), along with the Securities and Exchange Commission, have confirmed that smaller, less complex organizations are not required to implement complex models, developed by outside vendors to calculate current expected credit losses. Accordingly, in adopting ASU 2016-13 (Topic 326) Management determined that the Weighted Average Remaining Maturity (“WARM”) methodology was most appropriate given the Company’s current size and complexity. The methodology for determining the allowance for credit losses (“ACL”) on loans is considered a critical accounting policy by management because of the high degree of judgment involved. The subjectivity of the assumptions used and the potential for changes in the economic environment could result in changes to the amount of the recorded ACL. Among the material estimates required to establish the ACL are: (i) a weighted average loss estimate categorized by loan segmentation; (ii) average duration calculations in order to assess the loss factors over the life of the loan segment; (iii) an economic report to assess macro and micro-economic factors influencing loss potential; (iv) value of collateral and strength of guarantors; (v) the amount and timing of future cash flows for loans individually evaluated; and (vi) the determination of the qualitative loss factors. All of these estimates are susceptible to significant change. The Company’s methodology is set forth in a formal policy and takes into consideration the need for a valuation allowance for loans evaluated on a collective (pool) basis, which have similar risk characteristics as well as allowances to individual loans that do not share similar risk characteristics. 85 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued The ACL is a valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the loans. The provision for credit losses reflects the amount required to maintain the ACL at an appropriate level based upon management’s evaluation of the adequacy of the current expected credit losses. The Company increases its ACL by charging provisions for credit losses on its consolidated statement of income. Losses related to specific assets are applied as a reduction of the carrying value of the assets and charged against the ACL when management believes a loan balance is uncollectable. Recoveries on previously charged off loans are credited to the ACL. Management estimates the ACL using relevant available information, from internal and external sources, relating to past events, current conditions, and economic forecasts. Historical credit loss experience, either internal or peer information, provides the basis for the estimation of expected credit losses. Adjustments to historical loss information are made, using qualitative factors, when management expects current conditions and economic forecasts to differ from the conditions that existed for the period over which historical information was evaluated. The ACL is maintained at a level sufficient to provide for expected credit losses over the life of the loan based on evaluating historical credit loss experience and making adjustments to historical loss information for differences in the specific risk characteristics in the current loan portfolio. These factors include, among others, changes in the size and composition of the loan portfolio, differences in underwriting standards, delinquency rates, actual loss experience and current economic conditions. Management incorporates reasonable and supportable information in order to calculate the ACL. This includes the ability to reliably forecast and document exogenous events that may affect the credit performance of the Company’s loan portfolio. Management is confident in its ability to effectively identify historical loss information by the appropriate portfolio segmentation. In addition, management believes that it can reasonably obtain historical loss information by its respective peers to further improve historical loss information. Due to a growth cycle that has expanded the Company’s geographical service area and product mix as it has expanded into the San Francisco Bay Area, the Company’s peer group has been determined to better align with the Company’s loss profile for loans tied to the commercial real estate, commercial, industrial, real estate, and consumer segments. However, given the low concentration in agricultural industry related loans in the peer group, the Company’s own loss history in agricultural loans is more suitable. Additionally, the Company believes that it can effectively evaluate the potential impact that both macro and micro-economic conditions can have on its loan portfolio. Management is also comfortable that it can rely on weighted average maturity calculations, including estimated prepayments with its existing third party Asset/Liability Management (“ALM”) applications. Management utilizes the seventeen loan segments used in preparing regulatory Call Reports to segment its portfolio and to extract the relevant information needed to calculate its ACL. This allows management the ability to obtain historical loss information for itself as well as its peer group. Additionally, management’s ALM application also utilizes a similar loan segmentation in calculating weighted average remaining terms. 86 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued The foundation of CECL modeling is the ability to estimate expected credit losses over the lifetime of a loan. Management must use relevant available information about past events (e.g. historical losses) current conditions, and economic forecasts about future conditions. Historical annual loss rates serve as the starting point to estimate expected credit losses. Management uses a “through-the-cycle” historical credit loss experience as its baseline for historical credit losses and has determined a representative period for a full credit cycle would be from 2009 to 2023 ( fifteen-year credit cycle). Management has collected historical loss information on its own loan portfolio as well as peer group information by the seventeen loan segments over this time horizon using information available from the Federal regulators on the Uniform Bank Performance Report (“UBPR”). Federal regulators have placed the Company into a peer group of banks with assets between $ 3 billion to $ 10 billion. This peer group segmentation includes 209 banks across the nation. The model calculates the mean historical loss rate over the 15 -year economic cycle for both the Bank and its peer group. The model calculates the stressed historical loss rate over the 15-year economic cycle for both the Bank and its peer group. Management evaluates macro and micro-economic information as well as internal trends in credit performance on the Company’s loan portfolio to determine where they believe it is in an economic credit cycle. Depending upon estimations of what point in the credit cycle the current economy may exist, management adjusts, on a quantitative basis, historical loss rates either upwards or downwards from the mean. If management believes we are nearing the end on a credit cycle, the Company may adjust historical losses in increments higher from the mean. If the Company believes that we are in the recovery stage of a credit cycle, it may adjust historical losses downwards from the mean. Management understands that historical credit losses may not exactly follow a normal bell-shaped curve, but that the approach provides consistency across all loan segments as well as a measured probability of credit loss coverage. Management used the duration of each loan segment to estimate the remaining life of loans to ensure that the model covers credit losses over the expected life of such loans. 87 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued Management employs the use of qualitative factors as defined by the Interagency Policy Statement on Allowance for Credit Losses (“SR 20-12”). Management considers qualitative or environmental factors that are likely to cause estimated credit losses associated with our existing portfolio to differ from historical loss experience, as defined in the Interagency guidance, including but not limited to: ◾ Changes in lending policies and procedures, including changes in underwriting standards and collection, charge-off, and recovery practices not considered elsewhere in estimating credit losses. ◾ Changes in international, national, regional, and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments. ◾ Changes in the nature and volume of the portfolio and in the terms of loans. ◾ Changes in the experience, ability, and depth of lending management and other relevant staff. ◾ Changes in the volume and severity of past due loans, the volume of non-accrual loans, and the volume and severity of adversely classified or graded loans. ◾ Changes in the quality of the institution’s loan review system. ◾ Changes in the value of underlying collateral for collateral-dependent loans. ◾ The existence and effect of any concentrations of credit, and changes in the level of such concentrations. ◾ The effect of other external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the institution’s existing portfolio. These qualitative factors are applied primarily to our agriculture and agricultural real estate loan exposure. Fair value estimates — We measure some of our assets and liabilities on a fair value basis. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To increase consistency and comparability in fair value measurements, we prioritize valuation inputs in accordance with a three-­level hierarchy. We prioritize quoted prices in active markets and minimize reliance on unobservable inputs when possible. When observable market prices are not available, fair value is estimated using modeling techniques requiring professional judgment to estimate the appropriate fair value. We believe we use assumptions that market participants would consider in pricing the asset or the liability. Changes in market conditions may reduce the availability of quoted prices or observable data. See Note 11 for further information regarding the use of fair value estimates. Premises and equipment — Land is carried at cost. Premises and equipment are carried at cost, net of accumulated depreciation and amortization. Depreciation and amortization expense is computed using the straight-line method based on the estimated useful lives of the related assets below: Building and building improvements 30 to 40 years Leasehold improvements term of lease Furniture and equipment 3 to 7 years Computers, software and equipment 3 to 7 years Maintenance and repairs are expensed as incurred while major additions and improvements are capitalized. 88 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued Bank-owned life insurance (“BOLI”) — The Bank has purchased life insurance policies. These policies provide protection against the adverse financial effects that could result from the death of a key employee and provide tax-exempt income to offset expenses associated with certain employee benefit plans. It is the Bank’s intent to hold these policies as a long-term investment; however, there may be an income tax impact if the Bank chooses to surrender certain policies. Although the lives of individual current or former management-level employees are insured, the Bank is the owner and sole or partial beneficiary. BOLI is carried at the cash surrender value (“CSV”) of the underlying insurance contract. Changes in the CSV and any death benefits received in excess of the CSV are recognized as non-interest income. Goodwill — Goodwill represents the excess of the purchase considerations paid over the fair value of the assets acquired, net of the fair values of liabilities assumed in a business combination and is not amortized but is reviewed annually as of December 31, or more frequently as current circumstances and conditions warrant, for impairment. An assessment of qualitative factors is completed to determine if it is more likely than not that, the fair value of a reporting unit is less than its carrying amount. If the qualitative analysis concludes that further analysis is required, then a quantitative impairment test would be completed. The quantitative goodwill impairment compares the reporting unit’s estimated fair values, including goodwill, to its carrying amount. If the carrying amount exceeds its reporting unit’s fair value, then an impairment loss would be recognized as a charge to earnings but is limited by the amount of goodwill allocated to that reporting unit. Other intangible assets — Other intangible assets consist primarily of core deposit intangibles (“CDI”), which are amounts recorded in business combinations or deposit purchase transactions related to the value of transaction-related deposits and the value of the client relationships associated with the deposits. Core deposit intangibles are amortized over the estimated useful lives of such deposits. These assets are reviewed at least annually for events or circumstances that could affect their recoverability. These events could include loss of the underlying core deposits, increased competition or adverse changes in the economy. The amortization of our CDI is recorded in other non-interest expense. To the extent other identifiable intangible assets are deemed unrecoverable; impairment losses are recorded in other non-interest expense to reduce the carrying amount of the assets. Transfers of financial assets — Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. Right of use lease asset & lease liability — Accounting Standards Codification (“ASC”) 842, Leases (“ASC 842”), establishes a right of use model that requires a lessee to record a right of use asset and a lease liability for all leases with terms longer than 12 months. We record an operating lease right of use (“ROU”) asset and an operating lease liability (lease liability) for operating leases with a lease term greater than 12 months. The ROU asset and lease liability are recorded in other assets and other liabilities, respectively, in the consolidated statements of financial condition. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. ROU assets and lease liabilities are recognized at commencement date based on the present value of lease payments over the lease term. Accordingly, ROU assets are reduced by tenant improvement allowances from property owners plus any prepaid rent. We do not separate lease and non-lease components of contracts. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. 89 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued The Company leases retail space and office space under operating leases. Most leases require the Company to pay real estate taxes, maintenance, insurance and other similar costs in addition to the base rent. Certain leases also contain lease incentives, such as tenant improvement allowances and rent abatement. Variable lease payments are recognized as lease expense as they are incurred. Many of our leases contain various provisions for increases in rental rates, based either on changes in the published Consumer Price Index or a predetermined escalation schedule, which are factored into our determination of lease payments when appropriate. A majority of the leases provide the Company with the option to extend the lease term one or more times following expiration of the initial term. The ROU asset and lease liability terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term. Off-balance sheet credit related financial instruments — In the ordinary course of business, the Company has entered into commitments to extend credit, including commitments under credit card arrangements, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded when they are funded. Allowance for credit losses - unfunded loan commitments — An allowance for credit losses - unfunded loan commitments is maintained at a level that, in the opinion of management, is adequate to absorb current expected credit losses associated with the contractual life of the Banks’ commitments to lend funds under existing agreements such as letters or lines of credit. The Bank uses a methodology for determining the allowance for credit losses - unfunded loan commitments that applies the same loan segmentation and loss rate to each pool as the funded exposure adjusted for probability of funding. Draws on unfunded loan commitments that are considered uncollectible at the time funds are advanced are charged to the allowance for credit losses on off-balance sheet exposures. Provisions for credit losses - unfunded loan commitments are recognized in the provision for credit losses, and added to the allowance for credit losses - unfunded loan commitments, which is included in other liabilities in the consolidated statements of financial condition. In 2022, the provision for credit-losses – unfunded loan commitments was recognized in non-interest expense. Revenue from contracts with customers — The Company records revenue from contracts with customers in accordance with ASC Topic 606, “Revenue from Contracts with Customers” (“Topic 606”) . Under Topic 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the Company satisfies a performance obligation. Significant revenue has not been recognized in the current reporting period that results from performance obligations satisfied in previous periods. The Company’s primary sources of revenue are derived from interest and dividends earned on loans, investment securities, and other financial instruments that are not within the scope of Topic 606. The Company has evaluated the nature of its contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of Income is not necessary. The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is limited judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers. 90 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued Income taxes — Deferred income tax assets and deferred income tax liabilities represent the tax effect of temporary differences between financial reporting and tax reporting measured at enacted tax rates in effect for the year in which the differences are expected to reverse. The Company recognizes only the impact of tax positions that, based on their technical merits, are more likely than not to be sustained upon an audit by the taxing authority. Developing the provision for income taxes, including the effective tax rate and analysis of potential tax exposure items, if any, requires significant judgment and expertise in federal and state income tax laws, regulations and strategies, including the determination of deferred income tax assets and liabilities and any estimated valuation allowances deemed necessary to value deferred income tax assets. Judgments and tax strategies are subject to audit by various taxing authorities. While the Company believes it has no significant uncertain income tax positions in the consolidated financial statements, adverse determinations by these taxing authorities could have a material adverse effect on the consolidated financial positions, result of operations, or cash flows. Basic and diluted earnings per common share — Basic earnings per common share amounts are computed by dividing net income by the weighted average number of common shares outstanding for the period. There are no common stock equivalent shares. Therefore, there is no difference between presentation of diluted and basic earnings per common share. Comprehensive income — Other comprehensive income refers to revenues, expenses, gains, and losses that U.S. GAAP recognize as changes in value to an enterprise but are excluded from net income. For the Company, comprehensive income includes net income and changes in fair value of its available-for-sale investment securities and amortization of net unrealized gains or losses on securities transferred from available-for-sale to held-to-maturity, net of related taxes. Segment reporting — The Company is a holding company for a community bank, which offers a wide array of products and services to its customers. Pursuant to its banking strategy, emphasis is placed on building relationships with its customers, as opposed to building specific lines of business. The Company is not organized around discernible lines of business, but rather operates as an integrated unit to customize solutions for its customers with business line emphasis and product offerings changing over time as customer needs and demands change. As a result, the Company has only one operating segment. Loss contingencies — Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. Management does not believe there are any such loss contingencies that will have a material and adverse effect on the consolidated financial statements. Subsequent events — We evaluated events that occurred between December 31, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. 91 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued Accounting Standards Pending Adoption — The Accounting Standards Codification™ (“ASC”) is the FASB officially recognized source of authoritative GAAP applicable to all public and non-public non-governmental entities. Periodically, the FASB will issue Accounting Standard Updates (“ASU”) to its ASC. Rules and interpretive releases of the SEC under the authority of the federal securities laws are also sources of authoritative GAAP for the Company as an SEC registrant. All other accounting literature is non-authoritative. The following paragraphs provide descriptions of newly issued but not yet effective accounting standards that could have a material effect on the Company’s financial position or results of operations. In June 2022, the Financial Accounting Standards Board (“FASB”) issued guidance within ASU 2022-03, Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions . The amendments in this ASU affect all entities that have investments in equity securities measured at fair value that are subject to a contractual sale restriction. These amendments clarify that a contractual restriction on the sale of an equity security is not considered part of the unit of account of the equity security and, therefore, is not considered in measuring fair value. The amendments in this ASU are effective for fiscal years, beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted for both interim and annual financial statements that have not yet been issued or made available for issuance. The company adopted this standard on January 1, 2024, with no material impact on the Company’s Consolidated Financial Statements. In March 2023, the FASB issued ASU 2023-02, Investments – Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method . ASU 2023-02 allows reporting entities to elect to account for qualifying tax equity investments using the proportional amortization method, regardless of the program giving rise to the related income tax credits. The Amendments in ASU 2023-02 apply to all reporting entities that hold (1) tax equity investments that meet the conditions for and elect to account for them using the proportional amortization method or (2) an investment in a low income housing tax credit investments (“LIHTC”) structure through a limited liability entity that is not accounted for using the proportional amortization method and to which certain LIHTC-specific guidance removed from FASB ASC 323-740, Investments – Equity Method and Joint Ventures: Income Taxes, has been applied. ASU 2023-02 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted for any interim period within those fiscal years. The amendments in ASU 2023-02 must be applied on either a modified retrospective or a retrospective basis (except as discussed in the ASU for LIHTC investments not accounted for using the proportional amortization method). The Company adopted this standard to use the proportional amortization method on January 1, 2024, with no material impact on the Company’s Consolidated Financial Statements. In July 2023, the FASB issued ASU 2023-03, Presentation of Financial Statements (Topic 205), Income Statement—Reporting Comprehensive Income (Topic 220), Distinguishing Liabilities from Equity (Topic 480), Equity (Topic 505), and Compensation—Stock Compensation (Topic 718) . This ASU amends the FASB Accounting Standards Codification for SEC paragraphs pursuant to SEC Staff Accounting Bulletin No. 120, SEC Staff Announcement at the March 24, 2022 EITF Meeting, and Staff Accounting Bulletin Topic 6.B, Accounting Series Release 280—General Revision of Regulation S-X: Income or Loss Applicable to Common Stock. ASU 2023-03 is effective upon addition to the FASB Codification. The Company is currently evaluating the impact this ASU will have on its disclosures. In October 2023, the FASB issued ASU 2023-06, Disclosure Improvements: Codification Amendments in Response to the SEC’s Disclosure Updated and Simplification Initiative. ASU 2023-06 amends the disclosure or presentation requirements related to various subtopics in the FASB Accounting Standards Codification (the “Codification”). The ASU was issued in response to the SEC’s August 2018 final rule that updated and simplified disclosure requirements that the SEC believed were “redundant, duplicative, overlapping, outdated, or superseded.” The new guidance is intended to align U.S. GAAP requirements with those of the SEC and to facilitate the application of U.S. GAAP for all entities. For entities subject to the SEC’s existing disclosure requirements and for entities required to file or furnish financial statements with or to the SEC in preparation for the sale of or for purposes of issuing securities that are not subject to contractual restrictions on transfer, the effective date for each amendment will be the date on which the SEC removes that related disclosure from its rules. For all other entities, the amendments will be effective two years later. However, if by June 30, 2027, the SEC has not removed the related disclosure from its regulations, the amendments will be removed from the Codification and not become effective for any entity. The Company is currently evaluating the impact this ASU will have on its disclosures. 92 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 1—Summary of Significant Accounting Policies—Continued In December 2023, the FASB issued ASU 2023-07, “Segment Reporting (Topic 280), Improvements to Reportable Segment Disclosures” . ASU 2023-07 Requires public entities to disclose significant segment expenses, an amount and description for other segment items, the title and position of the entity’s chief operating decision maker (“CODM”) and an explanation of how the CODM uses the reported measures of profit or loss to assess segment performance, and, on an interim basis, certain segment related disclosures that previously were required only on an annual basis. ASU 2023-07 also clarifies that entities with a single reportable segment are subject to both new and existing segment reporting requirements and that an entity is permitted to disclose multiple measures of segment profit or loss, provided that certain criteria are met. ASU 2023-07 requires annual disclosures for fiscal years beginning January 1, 2024 and interim disclosures for fiscal years beginning January 1, 2025. Early adoption is permitted. The Company is required to apply the amendments in this update retrospectively to all prior periods presented in the financial statements. The Company will update its segment related disclosures upon adoption. In December 2023, the FASB issued ASU No. 2023-09, “Income Taxes (Topic 740): Improvements to Income Tax Disclosures.” ASU 2023-09 requires public business entities to disclose in their rate reconciliation table additional categories of information about federal, state and foreign income taxes and to provide more details about the reconciling items in some categories if items meet a quantitative threshold. ASU 2023-09 also requires all entities to disclose income taxes paid, net of refunds, disaggregated by federal, state and foreign taxes for annual periods and to disaggregate the information by jurisdiction based on a quantitative threshold, among other things. ASU 2023-09 is effective for us on January 1, 2025, though early adoption is permitted. The Company will update its income tax disclosures upon adoption. 93 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 2 — Investment Securities The amortized cost, fair values, and unrealized gains and losses of the securities available-for-sale are as follows: Gross Unrealized (Dollars in thousands) Amortized Cost Gains Losses Fair Value As of December 31, 2023 U.S. Government-sponsored securities $ 3,230 $ 12 $ 18 $ 3,224 Mortgage-backed securities (1) 180,543 3,022 19,727 163,838 Collateralized mortgage obligations (1) 548 - 13 535 Corporate securities 14,743 41 179 14,605 Other 310 - - 310 Total available-for-sale securities $ 199,374 $ 3,075 $ 19,937 $ 182,512 (1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government. Gross Unrealized (Dollars in thousands) Amortized Cost Gains Losses Fair Value As of December 31, 2022 U.S. Treasury notes $ 4,989 $ - $ 25 $ 4,964 U.S. Government-sponsored securities 4,430 21 24 4,427 Mortgage-backed securities (1) 162,314 9 29,795 132,528 Collateralized mortgage obligations (1) 1,085 - 31 1,054 Corporate securities 10,043 - 462 9,581 Other 310 - - 310 Total available-for-sale securities $ 183,171 $ 30 $ 30,337 $ 152,864 (1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government. The book values, estimated fair values and unrealized gains and losses of investments classified as held-to-maturity are as follows: Gross Unrealized (Dollars in thousands) Amortized Cost Gains Losses Fair Value Allowance for Credit Losses As of December 31, 2023 Mortgage-backed securities (1) $ 664,728 $ 30 $ 132,043 $ 532,715 $ - Collateralized mortgage obligations (1) 74,170 - 14,017 60,153 - Municipal securities 78,790 107 180 78,717 450 Total held-to-maturity securities $ 817,688 $ 137 $ 146,240 $ 671,585 $ 450 ( 1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government . 94 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 2—Investment Securities—Continued Gross Unrealized (Dollars in thousands) Amortized Cost Gains Losses Fair Value Allowance for Credit Losses As of December 31, 2022 Mortgage-backed securities (1) $ 702,858 $ 29 $ 141,121 $ 561,766 $ - Collateralized mortgage obligations (1) 80,186 - 15,701 64,485 - Municipal securities 62,302 49 209 62,142 393 Total held-to-maturity securities $ 845,346 $ 78 $ 157,031 $ 688,393 $ 393 (1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government. The allowance for credit losses on held-to-maturity securities is a contra-asset valuation account that is deducted from the amortized cost basis of held-to-maturity securities to present the net amount expected to be collected. Management measures expected credit losses on held-to-maturity securities on a collective basis by major security type with each type sharing similar risk characteristics, and considers historical credit loss information that is adjusted for current conditions and reasonable and supportable forecasts. With regard to residential mortgage-backed securities issued by the U.S. government, or agencies thereof, it is expected that the securities will not be settled at prices less than the amortized cost bases of the securities as such securities are backed by the full faith and credit of and/or guaranteed by the U.S. government. Accordingly, no allowance for credit losses has been recorded for these securities. With regard to securities issued by States and political subdivisions and other held-to-maturity securities, management considers (i) issuer bond ratings, (ii) historical loss rates for given bond ratings, (iii) whether issuers continue to make timely principal and interest payments under the contractual terms of the securities, (iv) internal forecasts and (v) whether or not such securities are guaranteed or pre-refunded by the issuers. Fair values are based on quoted market prices or dealer quotes. If a quoted market price or dealer quote is not available, fair value is estimated using quoted market prices for similar securities. 95 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 2—Investment Securities—Continued The following tables show the gross unrealized losses for available-for-sale securities, for which an allowance for credit losses has not been recorded, that are less than 12 months and 12 months or more: December 31, 2023 Less Than 12 Months 12 Months or More Total (Dollars in thousands) Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Available-for-Sale Securities U.S. Government-sponsored securities $ 33 $ - $ 1,235 $ 18 $ 1,268 $ 18 Mortgage-backed securities (1) 1,629 11 80,746 19,716 82,375 19,727 Collateralized mortgage obligations (1) - - 535 13 535 13 Corporate securities - - 9,853 179 9,853 179 Total available-for-sale securities $ 1,662 $ 11 $ 92,369 $ 19,926 $ 94,031 $ 19,937 (1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government. December 31, 2022 Less Than 12 Months 12 Months or More Total (Dollars in thousands) Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Available-for-Sale Securities U.S. Treasury notes $ 4,964 $ 25 $ - $ - $ 4,964 $ 25 U.S. Government-sponsored securities 378 1 1,326 23 1,704 24 Mortgage-backed securities (1) 35,117 1,639 96,589 28,156 131,706 29,795 Collateralized mortgage obligations 1,054 31 - - 1,054 31 Corporate securities - - 9,581 462 9,581 462 Total available-for-sale securities $ 41,513 $ 1,696 $ 107,496 $ 28,641 $ 149,009 $ 30,337 (1) All mortgage-backed securities and collateralized mortgage obligations were issued by an agency or government sponsored entity of the U.S. Government. As of December 31, 2023, the Company held 176 available-for-sale securities of which 6 were in an unrealized loss position for less than twelve months and 138 securities were in an unrealized loss position for twelve months or more without an allowance for credit losses. Because the decline in fair value is attributable to changes in interest rates and not credit quality and because the Company does not have the intent to sell these securities and it is more likely than not that it will not be required to sell the securities before their anticipated recovery, the Company does not consider these securities to be impaired. Management evaluates the available-for-sale securities in an unrealized loss position, relying primarily on industry analyst reports and observations of market conditions and interest rate fluctuations. The following table presents the activity in the allowance for credit losses for held-to-maturity securities by major type: December 31, 2023 (Dollars in thousands) Municipal securities Mortgage-backed securities Collateralized mortgage obligations Total Allowance for credit losses - securities Beginning Balance $ 393 $ - $ - $ 393 Provision for credit losses 57 - - 57 Ending Balance $ 450 $ - $ - $ 450 96 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 2—Investment Securities—Continued December 31, 2022 (Dollars in thousands) Municipal securities Mortgage-backed securities Collateralized mortgage obligations Total Allowance for credit losses - securities Beginning Balance $ - $ - $ - $ - Provision for credit losses 393 - - 393 Ending Balance $ 393 $ - $ - $ 393 The amortized cost and estimated fair values of investment securities at December 31, 2023 by contractual final maturity are shown in the following table: Available-for-Sale Held-to-Maturity (Dollars in thousands) Amortized Cost Fair Value Amortized Cost Fair Value Securities maturing in: One year or less $ 482 $ 480 $ 875 $ 875 After one year through five years 21,182 20,842 18,020 17,792 After five years through ten years 5,300 5,185 23,121 22,023 After ten years 172,410 156,005 775,672 630,895 Total $ 199,374 $ 182,512 $ 817,688 $ 671,585 Maturities are based on the final contractual payment dates, and do not reflect the impact of prepayments or early redemptions that may occur. Expected maturities of mortgage-backed and CMO securities may differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties. The Company monitors the credit quality of those held-to-maturity securities not issued by the U.S. government or one of its agencies or government sponsored entities, through the use of credit ratings. Credit ratings are reviewed and updated quarterly. The following tables summarize the amortized cost of held-to-maturity municipal securities by credit rating as of the dates indicated: Held-to-Maturity Amortized Cost (Dollars in thousands) AAA/AA/A BBB/BB/B Not Rated Total December 31, 2023 Municipal securities $ 20,203 $ 395 $ 58,192 $ 78,790 Total $ 20,203 $ 395 $ 58,192 $ 78,790 As of December 21, 2023, there were no past due principal or interest payments associated with held-to-maturity municipal securities. 97 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 2—Investment Securities—Continued Held-to-Maturity Amortized Cost (Dollars in thousands) AAA/AA/A BBB/BB/B Not Rated Total December 31, 2022 Municipal securities $ 19,380 $ 388 $ 42,534 $ 62,302 Total $ 19,380 $ 388 $ 42,534 $ 62,302 Proceeds and gross realized gains and losses from sales and calls of investment securities were as follows: (Dollars in thousands) Gross Proceeds Gross Gains Gross Losses 2023 $ 39,901 $ - $ 8,199 2022 $ 51,359 $ 2 $ 10,691 2021 $ 301,320 $ 5,570 $ 3,016 Pledged Securities As of December 31, 2023, investment securities carried at $ 794.1 million were pledged to secure public deposits, Federal Home Loan Bank (“FHLB”) and Federal Reserve Bank (“FRB”) borrowings, and other government agency deposits as required by law. This amount was $ 478.7 million at December 31, 2022. Note 3—Federal Home Loan Bank Stock and Other Non-Marketable Securities The Bank is a member of the FHLB system. Members are required to own a certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts. FHLB stock and other equity securities are carried at cost, classified as restricted securities, and periodically evaluated for impairment based on ultimate recovery of par value. Both cash and stock dividends are reported as income. FHLB stock and other equity securities are reported in Non-Marketable Securities on the Company’s consolidated statements of financial condition and totaled $ 15.5 million at both December 31, 2023 and 2022. 98 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases Loans and leases as of the dates indicated consisted of the following: December 31, (Dollars in thousands) 2023 2022 Loans and leases held-for-investment, net Real estate: Commercial $ 1,323,038 $ 1,328,691 Agricultural 742,009 726,938 Residential and home equity 399,982 387,753 Construction 212,362 166,538 Total real estate 2,677,391 2,609,920 Commercial & industrial 499,373 478,758 Agricultural 313,737 314,525 Commercial leases 169,684 112,629 Consumer and other 5,212 5,886 Total gross loans and leases 3,665,397 3,521,718 Unearned income ( 10,708 ) ( 9,357 ) Total net loans and leases 3,654,689 3,512,361 Allowance for credit losses ( 74,965 ) ( 66,885 ) Total loans and leases held-for-investment, net $ 3,579,724 $ 3,445,476 At December 31, 2023, the portion of loans that were approved for pledging as collateral on borrowing lines with the Federal Home Loan Bank (“FHLB”) and the Federal Reserve Bank (“FRB”) were $ 1.3 billion and $ 1.5 billion, respectively. The borrowing capacity on these loans was $ 758.3 million from FHLB and $ 1.1 billion from the FRB at December 31, 2023. The following tables show an aging analysis of the loan and lease portfolio, net of unearned income, by the time past due at December 31, 2023 and 2022: December 31, 2023 (Dollars in thousands) Current 30-89 Days Past Due 90+ Days Past Due Non- accrual Total Past Due Total Loans and leases held-for-investment, net Real estate: Commercial $ 1,314,928 $ - $ - $ - $ - $ 1,314,928 Agricultural 742,009 - - - - 742,009 Residential and home equity 399,946 36 - - 36 399,982 Construction 212,362 - - - - 212,362 Total real estate 2,669,245 36 - - 36 2,669,281 Commercial & industrial 499,341 32 - - 32 499,373 Agricultural 313,737 - - - - 313,737 Commercial leases 167,086 - - - - 167,086 Consumer and other 5,209 3 - - 3 5,212 Total loans and leases, net $ 3,654,618 $ 71 $ - $ - $ 71 $ 3,654,689 99 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases —Continued December 31, 2022 (Dollars in thousands) Current 30-89 Days Past Due 90+ Days Past Due Non- accrual Total Past Due Total Loans and leases held-for-investment, net Real estate: Commercial $ 1,319,911 $ - $ - $ 403 $ 403 $ 1,320,314 Agricultural 726,938 - - - - 726,938 Residential and home equity 387,753 - - - - 387,753 Construction 166,370 - - 168 168 166,538 Total real estate 2,600,972 - - 571 571 2,601,543 Commercial & industrial 478,758 - - - - 478,758 Agricultural 314,525 - - - - 314,525 Commercial leases 111,649 - - - - 111,649 Consumer and other 5,789 97 - - 97 5,886 Total loans and leases, net $ 3,511,693 $ 97 $ - $ 571 $ 668 $ 3,512,361 Non-accrual loans are summarized as follows: December 31, (Dollars in thousands) 2023 2022 Non-accrual loans and leases: Non-accrual loans and leases Real estate: Commercial $ - $ 403 Agricultural - - Residential and home equity - - Construction - 168 Total real estate - 571 Commercial & industrial - - Agricultural - - Commercial leases - - Consumer and other - - Total non-accrual loans and leases $ - $ 571 100 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases —Continued When borrowers are experiencing financial difficulty, the Company may agree to modify the contractual terms of a loan to a borrower in order to assist the borrower in repaying principal and interest owed to the Company. The Company’s modifications of loans to borrowers experiencing financial difficulty are generally in the form of term extensions, repayment plans, payment deferrals, forbearance agreements, interest rate reductions, forgiveness of interest and/or fees, or any combination thereof. Commercial loans modified to borrowers experiencing financial difficulty are primarily loans that are substandard or non-accrual, where the maturity date was extended. Modifications on personal real estate loans are primarily those placed on forbearance plans, repayment plans, or deferral plans where monthly payments are suspended for a period of time or past due amounts are paid off over a certain period of time in the future or set up as a balloon payment at maturity. Modifications to certain credit card and other small consumer loans are often modified under debt counseling programs that can reduce the contractual rate or, in certain instances, forgive certain fees and interest charges. Other consumer loans modified to borrowers experiencing financial difficulty consist of various other workout arrangements with consumer customers. The following table presents the amortized cost of loans to borrowers experiencing financial difficulty by portfolio segment and type of modification during the period presented. December 31, 2023 Amortized cost associated with the following modification types: (Dollars in thousands) Interest Rate reduction Maturity or term extension Principal foregiveness Payment deferral Multiple modification types 1 Total 2 Percentage of total loans 3 Loans and leases held-for-investment, net Real estate: Commercial $ - $ 1,600 $ - $ - $ - $ 1,600 0.12 % Agricultural - - - - - - 0.00 % Residential and home equity - - - - 121 121 0.03 % Construction - - - - - - 0.00 % Total real estate - 1,600 - - 121 1,721 0.06 % Commercial & industrial - 4,669 - - - 4,669 0.93 % Agricultural - - - - - - 0.00 % Commercial leases - - - - - - 0.00 % Consumer and other - - - - - - 0.00 % Total $ - $ 6,269 $ - $ - $ 121 $ 6,390 0.17 % During the twelve months ended December 31, 2023, we had one residential real estate loan that had the contractual interest rate decreased by 1.00 % and the contractual term was extended by 120 months . In addition, we had an additional borrower with one commercial real estate loan that the contractual term was extended by 119 months , and two commercial & industrial loans that contractual term was extended by eleven months . 101 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued We closely monitor the performance of the loans that are modified to borrowers experiencing financial difficulty to understand the effectiveness of the modification efforts. The modified loans presented in the table above were current and had no loss exposure as of December 31, 2023. A payment default is defined as a loan having a payment past due 90 days or more after a modification took place. There were no loans that were modified within the last 12 months that had a payment default during the twelve months ended December 31, 2023. The effect of modifications made to borrowers experiencing financial difficulty is already included in the ACL because of the measurement methodologies used to estimate the ACL, therefore, a change to the ACL is generally not recorded upon modification. If principal forgiveness is provided, that portion of the loan will be charged-off, resulting in a reduction of the amortized cost basis and a corresponding adjustment to the ACL. An assessment of whether the borrower is experiencing financial difficulty is made on the date of a modification. The following table lists total troubled debt restructured loans that the Company is either accruing or not accruing interest by loan category at December 31, 2022, prior to the adoption of ASU 2022-02: (Dollars in thousands) December 31, 2022 Troubled debt restructured loans and leases: Accruing TDR loans and leases Real estate: Commercial $ - Agricultural - Residential and home equity 1,305 Construction - Total real estate 1,305 Commercial & industrial 6 Agricultural - Commercial leases - Consumer and other - Subtotal 1,311 Non-accruing TDR loans and leases Accruing TDR loans and leases Real estate: $ - Commercial - Agricultural - Residential and home equity - Total real estate - Commercial & industrial - Agricultural - Commercial leases - Consumer and other - Subtotal - Total TDR loans and leases $ 1,311 102 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued The following table summarizes TDRs outstanding by year of occurrence: December 31, 2022 (Dollars in thousands) # of Accruing TDR $ of Accruing TDR # of Non-accruing TDR $ of Non- accruing TDR # of Total TDR $ of Total TDR Loan and lease TDRs 2022 - $ - - $ - - $ - 2021 - - - - - - 2020 4 257 - - 4 257 2019 - - - - - - Prior 8 1,054 - - 8 1,054 Total 12 $ 1,311 - $ - 12 $ 1,311 The following table presents the credit risk rating categories for loans and leases held-for-investment (accruing and non-accruing) net of unearned income by loan portfolio segment and class as of the dates indicated. December 31, 2023 (Dollars in thousands) Pass Special Mention Sub- standard Total Loans & Leases Total Allowance for Credit Losses Loans and leases held for investment, net Real estate: Commercial $ 1,308,717 $ 6,211 $ - $ 1,314,928 $ 26,093 Agricultural 729,135 12,329 545 742,009 7,744 Residential and home equity 399,217 - 765 399,982 7,770 Construction 212,362 - - 212,362 4,432 Total real estate 2,649,431 18,540 1,310 2,669,281 46,039 Commercial & industrial 486,439 12,458 476 499,373 13,380 Agricultural 310,496 3,236 5 313,737 8,872 Commercial leases 167,080 6 - 167,086 6,537 Consumer and other 5,036 - 176 5,212 137 Total loans and leases, net $ 3,618,482 $ 34,240 $ 1,967 $ 3,654,689 $ 74,965 December 31, 2022 (Dollars in thousands) Pass Special Mention Sub- standard Total Loans & Leases Total Allowance for Loan Losses Loans and leases held for investment, net Real estate: Commercial $ 1,314,377 $ 5,535 $ 402 $ 1,320,314 $ 18,055 Agricultural 709,927 10,891 6,120 726,938 14,496 Residential and home equity 387,371 - 382 387,753 7,508 Construction 166,370 - 168 166,538 3,026 Total real estate 2,578,045 16,426 7,072 2,601,543 43,085 Commercial & industrial 478,437 63 258 478,758 11,503 Agricultural 308,830 5,682 13 314,525 10,202 Commercial leases 111,568 81 - 111,649 1,924 Consumer and other 5,650 - 236 5,886 171 Total loans and leases, net $ 3,482,530 $ 22,252 $ 7,579 $ 3,512,361 $ 66,885 103 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases —Continued The following table presents outstanding loan and lease balances held-for-investment by segment and class, credit quality indicators, vintage year by class of financing receivable, and current period gross charge-offs by year of origination as follows : December 31, 2023 Term Loans Amortized Cost Basis by Origination Year (Dollars in thousands) 2023 2022 2021 2020 2019 Prior Revolving Loans Amortized Cost Total Net loans and leases held for investment Real estate: Commercial Pass $ 121,418 $ 169,171 $ 221,708 $ 143,502 $ 67,505 $ 261,344 $ 324,069 $ 1,308,717 Special mention - 2,395 - - - 2,216 1,600 6,211 Substandard - - - - - - - - Total Commercial $ 121,418 $ 171,566 $ 221,708 $ 143,502 $ 67,505 $ 263,560 $ 325,669 $ 1,314,928 Commercial Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Agricultural Pass $ 37,849 $ 71,367 $ 40,848 $ 50,445 $ 12,008 $ 165,267 $ 351,351 $ 729,135 Special mention - - - 594 2,020 9,715 - 12,329 Substandard - - - - - 545 - 545 Total Agricultural $ 37,849 $ 71,367 $ 40,848 $ 51,039 $ 14,028 $ 175,527 $ 351,351 $ 742,009 Agricultural Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Residential and home equity Pass $ 41,173 $ 62,505 $ 88,559 $ 78,810 $ 13,299 $ 70,339 $ 44,532 $ 399,217 Special mention - - - - - - - - Substandard - - - - - 765 - 765 Total Residential and home equity $ 41,173 $ 62,505 $ 88,559 $ 78,810 $ 13,299 $ 71,104 $ 44,532 $ 399,982 Residential and home equity Current-period gross charge-offs $ - $ - $ - $ - $ - $ 14 $ - $ 14 Construction Pass $ - $ 2,500 $ - $ - $ 1,575 $ - $ 208,287 $ 212,362 Special mention - - - - - - - - Substandard - - - - - - - - Total construction $ - $ 2,500 $ - $ - $ 1,575 $ - $ 208,287 $ 212,362 Construction Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Total Real estate $ 200,440 $ 307,938 $ 351,115 $ 273,351 $ 96,407 $ 510,191 $ 929,839 $ 2,669,281 Commercial & industrial Pass $ 49,162 $ 25,795 $ 21,695 $ 7,193 $ 4,123 $ 6,674 $ 371,797 $ 486,439 Special mention 2,500 27 4,903 466 - - 4,562 12,458 Substandard - - - - - 476 - 476 Total Commercial & industrial $ 51,662 $ 25,822 $ 26,598 $ 7,659 $ 4,123 $ 7,150 $ 376,359 $ 499,373 Commercial & industrial Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Agricultural Pass $ 3,013 $ 4,585 $ 2,296 $ 688 $ 1,026 $ 2,116 $ 296,772 $ 310,496 Special mention - 52 75 - - - 3,109 3,236 Substandard - - - - 5 - - 5 Total Agricultural $ 3,013 $ 4,637 $ 2,371 $ 688 $ 1,031 $ 2,116 $ 299,881 $ 313,737 Agricultural Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - 104 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued December 31, 2023 Term Loans Amortized Cost Basis by Origination Year (Dollars in thousands) 2023 2022 2021 2020 2019 Prior Revolving Loans Amortized Cost Total Net loans and leases held for investment Commercial leases Pass $ 81,287 $ 31,954 $ 10,786 $ 9,514 $ 4,667 $ 28,872 $ - $ 167,080 Special mention - - - - 6 - - 6 Substandard - - - - - - - - Total Commercial leases $ 81,287 $ 31,954 $ 10,786 $ 9,514 $ 4,673 $ 28,872 $ - $ 167,086 Commercial leases Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Consumer and other Pass $ 1,650 $ 930 $ 375 $ 48 $ 45 $ 1,400 $ 588 $ 5,036 Special mention - - - - - - - - Substandard 152 - - - - 24 - 176 Total Consumer and other $ 1,802 $ 930 $ 375 $ 48 $ 45 $ 1,424 $ 588 $ 5,212 Consumer and other Current-period gross charge-offs $ 41 $ 3 $ - $ - $ - $ 2 $ - $ 46 Total net loans and leases Pass $ 335,552 $ 368,807 $ 386,267 $ 290,200 $ 104,248 $ 536,012 $ 1,597,396 $ 3,618,482 Special mention 2,500 2,474 4,978 1,060 2,026 11,931 9,271 34,240 Substandard 152 - - - 5 1,810 - 1,967 Total net loans and leases $ 338,204 $ 371,281 $ 391,245 $ 291,260 $ 106,279 $ 549,753 $ 1,606,667 $ 3,654,689 Total current-period gross charge-offs $ 41 $ 3 $ - $ - $ - $ 16 $ - $ 60 105 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued December 31, 2022 Term Loans Amortized Cost Basis by Origination Year (Dollars in thousands) 2022 2021 2020 2019 2018 Prior Revolving Loans Amortized Cost Total Net loans and leases held for investment Real estate: Commercial Pass $ 194,698 $ 234,478 $ 150,203 $ 71,333 $ 85,132 $ 218,261 $ 360,272 $ 1,314,377 Special mention - - - - 3,820 1,115 600 5,535 Substandard - - - - - 402 - 402 Total Commercial $ 194,698 $ 234,478 $ 150,203 $ 71,333 $ 88,952 $ 219,778 $ 360,872 $ 1,320,314 Commercial Current-period gross charge-offs $ - $ - $ 170 $ - $ - $ - $ - $ 170 Agricultural Pass $ 67,044 $ 42,546 $ 54,893 $ 15,074 $ 50,186 $ 144,052 $ 336,132 $ 709,927 Special mention - - - 2,636 - - 8,255 10,891 Substandard - - - - 111 6,009 - 6,120 Total Agricultural $ 67,044 $ 42,546 $ 54,893 $ 17,710 $ 50,297 $ 150,061 $ 344,387 $ 726,938 Agricultural Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Residential and home equity Pass $ 66,847 $ 96,354 $ 86,545 $ 14,530 $ 6,632 $ 76,155 $ 40,308 $ 387,371 Special mention - - - - - - - - Substandard - - - - - 300 82 382 Total Residential and home equity $ 66,847 $ 96,354 $ 86,545 $ 14,530 $ 6,632 $ 76,455 $ 40,390 $ 387,753 Residential and home equity Current-period gross charge-offs $ - $ - $ - $ - $ - $ 25 $ - $ 25 Construction Pass $ 2,000 $ 1 $ - $ 1,575 $ - $ 31 $ 162,763 $ 166,370 Special mention - - - - - - - - Substandard - - - - - - 168 168 Total construction $ 2,000 $ 1 $ - $ 1,575 $ - $ 31 $ 162,931 $ 166,538 Construction Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Total Real estate $ 330,589 $ 373,379 $ 291,641 $ 105,148 $ 145,881 $ 446,325 $ 908,580 $ 2,601,543 Commercial & industrial Pass $ 34,410 $ 36,846 $ 12,325 $ 8,245 $ 7,167 $ 5,679 $ 373,765 $ 478,437 Special mention - 63 - - - - - 63 Substandard - - - - 1 5 252 258 Total Commercial & industrial $ 34,410 $ 36,909 $ 12,325 $ 8,245 $ 7,168 $ 5,684 $ 374,017 $ 478,758 Commercial & industrial Current-period gross charge-offs $ - $ - $ - $ 246 $ 78 $ - $ - $ 324 Agricultural Pass $ 5,378 $ 3,083 $ 989 $ 1,515 $ 636 $ 2,071 $ 295,158 $ 308,830 Special mention - - - - - - 5,682 5,682 Substandard - - - 11 2 - - 13 Total Agricultural $ 5,378 $ 3,083 $ 989 $ 1,526 $ 638 $ 2,071 $ 300,840 $ 314,525 Agricultural Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - 106 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued December 31, 2022 Term Loans Amortized Cost Basis by Origination Year (Dollars in thousands) 2022 2021 2020 2019 2018 Prior Revolving Loans Amortized Cost Total Net loans and leases held for investment Commercial leases Pass $ 35,689 $ 15,874 $ 13,050 $ 5,904 $ 20,560 $ 20,491 $ - $ 111,568 Special mention - - - 81 - - - 81 Substandard - - - - - - - - Total Commercial leases $ 35,689 $ 15,874 $ 13,050 $ 5,985 $ 20,560 $ 20,491 $ - $ 111,649 Commercial leases Current-period gross charge-offs $ - $ - $ - $ - $ - $ - $ - $ - Consumer and other Pass $ 1,476 $ 634 $ 275 $ 176 $ 315 $ 1,769 $ 1,005 $ 5,650 Special mention - - - - - - - - Substandard 236 - - - - - - 236 Total Consumer and other $ 1,712 $ 634 $ 275 $ 176 $ 315 $ 1,769 $ 1,005 $ 5,886 Consumer and other Current-period gross charge-offs $ 40 $ 6 $ 7 $ 1 $ 4 $ 4 $ - $ 62 Total net loans and leases Pass $ 407,542 $ 429,816 $ 318,280 $ 118,352 $ 170,628 $ 468,509 $ 1,569,403 $ 3,482,530 Special mention - 63 - 2,717 3,820 1,115 14,537 $ 22,252 Substandard 236 - - 11 114 6,716 502 $ 7,579 Total net loans and leases $ 407,778 $ 429,879 $ 318,280 $ 121,080 $ 174,562 $ 476,340 $ 1,584,442 $ 3,512,361 Total current-period gross charge-offs $ 40 $ 6 $ 177 $ 247 $ 82 $ 29 $ - $ 581 107 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases—Continued Certain directors and executive officers of the Company are defined as related parties. These related parties, including their immediate families and companies in which they are principal owners, were loan customers of the Bank during the twelve months ended December 31, 2023 and December 31, 2022. Such loans were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable loans with borrowers not related to the Company. These loans did not involve more than the normal risk of collectibility or have other unfavorable features. A summary of the changes in those loans is as follows: December 31, (Dollars in thousands) 2023 2022 Balance at beginning of the period $ 17,521 $ 18,128 New loans or advances during year 1,706 523 Repayments ( 2,192 ) ( 1,130 ) Balance at end of period $ 17,035 $ 17,521 Changes in the allowance for credit losses are as follows: Year Ended December 31, 2023 (Dollars in thousands) Commercial & Agricultural R/E Construction Residential & Home Equity Commercial & Agricultural Commercial Leases Consumer & Other Total Allowance for credit losses: Balance at beginning of year $ 32,551 $ 3,026 $ 7,508 $ 21,705 $ 1,924 $ 171 $ 66,885 Provision for/(recapture of) credit losses 1,116 1,406 211 423 4,613 ( 19 ) 7,750 Charge-offs - - ( 14 ) - - ( 46 ) ( 60 ) Recoveries 170 - 65 124 - 31 390 Net (charge-offs) / recoveries 170 - 51 124 - ( 15 ) 330 Balance at end of year $ 33,837 $ 4,432 $ 7,770 $ 22,252 $ 6,537 $ 137 $ 74,965 Year Ended December 31, 2022 (Dollars in thousands) Commercial & Agricultural R/E Construction Residential & Home Equity Commercial & Agricultural Commercial Leases Consumer & Other Total Allowance for credit losses: Balance at beginning of year $ 38,149 $ 1,456 $ 2,847 $ 16,954 $ 938 $ 663 $ 61,007 Impact of Adopting ASC 326 ( 6,190 ) 1,855 3,032 826 629 ( 152 ) - Provision for/(recapture of) credit losses 762 ( 285 ) 1,523 4,001 357 ( 301 ) 6,057 Charge-offs ( 170 ) - ( 25 ) ( 324 ) - ( 62 ) ( 581 ) Recoveries - - 131 248 - 23 402 Net (charge-offs) / recoveries ( 170 ) - 106 ( 76 ) - ( 39 ) ( 179 ) Balance at end of year $ 32,551 $ 3,026 $ 7,508 $ 21,705 $ 1,924 $ 171 $ 66,885 108 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 4—Loans and Leases —Continued A loan or lease is considered collateral dependent when the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. When management determines that foreclosure is probable, expected credit losses for collateral dependent loans or leases are based on the fair value of the collateral at the reporting date, adjusted for selling costs as appropriate. The collateral on the loans and leases is a significant portion of what secures the collateral dependent loans or leases and significant changes to the fair value of the collateral can impact the ACL. During 2023, there were no significant changes to the collateral that secures the collateral dependent loans, whether due to general deterioration or with credit quality indicators like appraisal value. The following tables present the amortized cost basis for collateral dependent loans and leases by type as of the dates indicated: December 31, 2023 (Dollars in thousands) Real Estate Vehicles and Equipment Total Collateral dependent loans and leases Real estate: Commercial $ 1,517 $ - $ 1,517 Agricultural 6,118 - 6,118 Residential and home equity 1,607 - 1,607 Construction - - - Total Real estate 9,242 - 9,242 Commercial & industrial - 473 473 Agricultural - 5 5 Commercial leases - - - Consumer and other - 164 164 Total gross loans and leases $ 9,242 $ 642 $ 9,884 December 31, 2022 (Dollars in thousands) Real Estate Vehicles and Equipment Total Collateral dependent loans and leases Real estate: Commercial $ 1,114 $ - $ 1,114 Agricultural 11,035 - 11,035 Residential and home equity 2,153 - 2,153 Construction - - - Total Real estate 14,302 - 14,302 Commercial & industrial - - - Agricultural - 13 13 Commercial leases - - - Consumer and other - 158 158 Total gross loans and leases $ 14,302 $ 171 $ 14,473 109 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 5—Premises and Equipment Premises and equipment consisted of the following: December 31, (Dollars in thousands) 2023 2022 Premises and equipment: Buildings and land $ 63,991 $ 61,274 Furniture, fixtures, and equipment 24,236 23,203 Leasehold improvements 3,982 3,982 Subtotal 92,209 88,459 Accumulated depreciation and amortization ( 40,302 ) ( 38,983 ) Total premises and equipment $ 51,907 $ 49,476 Depreciation and amortization on premises and equipment included in occupancy and equipment expense amounted to $ 2.5 million, $ 2.4 million, and $ 2.6 million for the years ended December 31, 2023, 2022 and 2021, respectively. Rental income was $ 749,000 , $ 640,000 , and $ 491,000 for the years ended December 31, 2023, 2022, and 2021, respectively, and was recorded in other income. Note 6—Other Real Estate Owned The Bank reported $ 873,000 in other real estate owned at December 31, 2023 and 2022, which includes property no longer utilized for business operations and property acquired through foreclosure proceedings. These properties are carried at fair value less selling costs determined at the date acquired. Losses, if any, arising from properties acquired through foreclosure are charged against the allowance for loan losses at the time of foreclosure. Subsequent declines in value, periodic holding costs, and net gains or losses on disposition are included in other operating expense as incurred. 110 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 7—Deposits Certificates of deposit greater than and less than or equal to the FDIC insurance limit of $250,000 are summarized as follows: December 31, (Dollars in thousands) 2023 2022 Certificates of deposit: Certificates of deposit less than or equal to $250,000 $ 325,798 $ 202,554 Certificates of deposit greater than $250,000 318,830 128,846 Total certificates of deposit $ 644,628 $ 331,400 Scheduled maturities for certificates of deposit are as follows for the years ending December 31: (Dollars in thousands) Amount 2024 $ 612,052 2025 25,996 2026 4,840 2027 687 2028 1,053 Total certificates of deposit $ 644,628 Note 8—Short-term borrowings As of December 31, 2023 and 2022, committed lines of credit arrangements totaling $ 2.3 billion and $ 1.5 billion, respectively, were available to the Company from unaffiliated banks. The average Federal Funds interest rate as of December 31, 2023 was 5.50 %. The Company is a member of the FHLB of San Francisco and has a committed credit line of $ 760.1 million, which is secured by $ 1.3 billion in various real estate loans and investment securities pledged as collateral. Borrowings generally provide for interest at the then current published rate, which was 5.64 % as of December 31, 2023. T he Company has $ 1.5 billion in pledged loans and $ 134.9 million in pledged securities at par value with the FRB. As of December 31, 2023, the Company’s overnight borrowing capacity using the primary credit facilities from the Fed account was $ 1.3 billion. The borrowing rate was 5.50 % as of December 31, 2023. There were no outstanding advances on the above borrowing facilities as of December 31, 2023 and 2022 . 111 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 9—Long-term Subordinated Debentures In 2003, the Company formed a wholly-owned Connecticut statutory business trust, FMCB Statutory Trust I (“Statutory Trust I”), which issued $ 10.0 million of guaranteed preferred beneficial interests in the Company’s junior subordinated deferrable interest debentures (the “Trust Preferred Securities”). The Company is not considered the primary beneficiary of the trust (variable interest entity), therefore the trust is not consolidated in the Company’s financial statements, but rather the subordinated debentures are shown as a liability. These debentures qualify as Tier 1 capital under current regulatory guidelines. All of the common securities of Statutory Trust I are owned by the Company. The proceeds from the issuance of the common securities and the Trust Preferred Securities were used by FMCB Statutory Trust to purchase $ 10.3 million of junior subordinated debentures of the Company, which carry a variable rate based on 3-month SOFR plus 2.85 %. The debentures represent the sole asset of Statutory Trust I. The Trust Preferred Securities accrue and pay distributions at a variable rate based on 3-month SOFR plus 2.85 % per annum of the stated liquidation value of $ 1,000 per capital security. The Company has entered into contractual arrangements which, taken collectively, fully and unconditionally guarantee payment to the extent that Statutory Trust I has funds available therefor of: (i) accrued and unpaid distributions required to be paid on the Trust Preferred Securities; (ii) the redemption price with respect to any Trust Preferred Securities called for redemption by Statutory Trust I; and (iii) payments due upon a voluntary or involuntary dissolution, winding up, or liquidation of Statutory Trust I. The Trust Preferred Securities are mandatorily redeemable upon maturity of the subordinated debentures on December 17, 2033 , or upon earlier redemption as provided in the indenture. The Company has the right to redeem the subordinated debentures purchased by Statutory Trust I, in whole or in part, on or after December 17, 2008. As specified in the indenture, if the subordinated debentures are redeemed prior to maturity, the redemption price will be the principal amount and any accrued but unpaid interest. Additionally, if the Company decided to defer interest on the subordinated debentures, the Company would be prohibited from paying cash dividends on the Company’s common stock. Note 10—Employee Benefit Plans Executive Retirement Plan The Company, through the Bank, sponsors an Executive Retirement Plan (“ERP”) for certain executive level employees. The ERP is a non-qualified deferred compensation plan and was developed to supplement the Company’s Profit Sharing Plan, which, as a qualified retirement plan, has a ceiling on benefits as set by the Internal Revenue Service. The ERP is comprised of: (1) a Performance Component which makes contributions based upon long-term cumulative profitability and increase in market value of the Company; (2) a Salary Component which makes contributions based upon participant salary levels; and (3) an Equity Component for which contributions are discretionary and subject to Board of Directors approval. The Company maintains a Rabbi Trust to fund, in part, the ERP. The Rabbi Trust is an irrevocable grantor trust to which the Company may contribute assets for the limited purpose of funding a nonqualified deferred compensation plan. The Company may not use the assets of the Rabbi Trust for any purpose other than meeting its obligations under the ERP; however, the assets of the Rabbi Trust remain subject to the claims of its creditors and are included in the consolidated financial statements. The Company contributes cash to the Rabbi Trust from time to time for the sole purpose of funding the ERP. The Rabbi Trust will use any cash the Company contributes to purchase shares of common stock of the Company, and other financial instruments, on the open market. ERP contributions are invested in a mix of financial instruments; however, the Equity Component contributions are invested primarily in common stock of the Company. 112 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 10—Employee Benefit Plans —Continued The Company expensed $ 9.1 million to the ERP during the year ended December 31, 2023, $ 7.4 million during the year ended December 31, 2022 and $ 9.0 million during the year ended December 31, 2021. The Company’s carrying value of the liability under the ERP was $ 57.5 million as of December 31, 2023 and $ 57.0 million as of December 31, 2022. The Company’s shares of common stock held as investments in the Rabbi Trust of the ERP as of December 31, 2023 and 2022 totaled 49,276 and 50,196 with an historical cost basis of $ 31.6 million and $ 31.4 million, respectively. All amounts have been fully funded into the Rabbi Trust as of December 31, 2023 and 2022. The consolidated investments held in the Rabbi Trust are recorded at fair value with changes in unrealized gains or losses recorded within non-interest income and the equal and offsetting charges in the related liability are recorded in non-interest expense in the consolidated statements of income. Net gains on ERP plan investments were $ 2.6 million in 2023 compared to net gains of $ 0.1 million in 2022 and $ 2.5 million in 2021. Balances in non-qualified deferred compensation plans may be invested in financial instruments whose market value fluctuates based upon trends in interest rates and stock prices. Senior Management Retention Plan The Company, through the Bank, sponsors a Senior Management Retention Plan (“SMRP”) for certain senior level employees. The SMRP is a non-qualified deferred compensation plan and was developed to supplement the Company’s Profit Sharing Plan, which, as a qualified retirement plan, has a ceiling on benefits as set by the Internal Revenue Service. All contributions are discretionary and subject to the Board of Directors approval. The Company maintains a Rabbi Trust to fund, in part, the SMRP. The Rabbi Trust is an irrevocable grantor trust to which the Company may contribute assets for the limited purpose of funding a nonqualified deferred compensation plan. The Company may not use the assets of the Rabbi Trust for any purpose other than meeting its obligations under the SMRP; however, the assets of the Rabbi Trust remain subject to the claims of its creditors and are included in the consolidated financial statements. The Company contributes cash to the Rabbi Trust from time to time for the sole purpose of funding the SMRP. The Rabbi Trust will use any cash the Company contributes to purchase shares of common stock of the Company, and other financial instruments, on the open market. Contributions to the SMRP are invested primarily in common stock of the Company. The Company expensed $ 4.1 million to the SMRP during the year ended December 31, 2023, $ 3.0 million during the year ended December 31, 2022 and $ 2.7 million during the year ended December 31, 2021. The Company’s carrying value of the liability under the SMRP was $ 16.9 million as of December 31, 2023 and $ 13.6 million as of December 31, 2022. The Company’s shares of stock held as investments in the Rabbi Trust of the SMRP as of December 31, 2023 and December 31, 2022 totaled 17,806 and 15,998 shares with an historical cost basis of $ 12.8 million and $ 10.8 million, respectively. All amounts have been fully funded into the Rabbi Trust as of December 31, 2023 and 2022. The consolidated investments held in the Rabbi Trust are recorded at fair value with changes recorded within non-interest income and the equal and offsetting charges in the related liability are recorded in non-interest expense in the consolidated statements of income. Net gains on SMRP plan investments were $ 0.4 million in 2023, $ 0.4 million in 2022 and $ 0.1 in 2021. Balances in non-qualified deferred compensation plans may be invested in financial instruments whose market value fluctuates based upon trends in interest rates and stock prices . 113 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 10—Employee Benefit Plans—Continued Profit Sharing Plan The Company, through the Bank, sponsors a Profit Sharing Plan for substantially all full-time employees of the Company with one or more years of service. The plan assets, reported at fair value, are primarily invested in mutual funds and other investments, which are primarily Level 2 inputs. Participants receive up to two annual employer contributions, one is discretionary and the other is mandatory. The discretionary contributions to the Profit Sharing Plan are determined annually by the Board of Directors. The discretionary contributions totaled $ 1.9 million, $ 1.8 million, and $ 1.6 million for the years ended December 31, 2023, 2022, and 2021, respectively. The mandatory contributions to the Profit Sharing Plan are made according to a predetermined set of criteria. Mandatory contributions totaled $ 2.0 million, $ 1.6 million, and $ 1.7 million for the years ended December 31, 2023, 2022, and 2021, respectively. Company employees are permitted, within limitations imposed by tax law, to make pretax contributions and after tax (Roth) contributions to the 401(k) feature of the Profit Sharing Plan. The Company does not match employee contributions within the 401(k) feature of the Profit Sharing Plan and the Company can terminate the Profit Sharing Plan at any time. Benefits pursuant to the Profit Sharing Plan vest 0 % during the first year of participation, 25 % per full year thereafter and after five years such benefits are fully vested. Life Insurance Arrangements The Company has purchased single premium life insurance policies on the lives of certain key employees of the Company. These policies provide: (1) financial protection to the Company in the event of the death of a key employee; and (2) significant income to the Company to offset the expense associated with the ERP and other employee benefit plans, since the interest earned on the cash surrender value of the policies is tax exempt as long as the policies are used to finance employee benefits. As compensation to each employee for agreeing to allow the Company to purchase an insurance policy on his or her life, split dollar agreements have been entered into with those employees. These agreements provide for a division of the life insurance death proceeds between the Company and each employee’s designated beneficiary or beneficiaries. The Company earned tax-exempt interest on the life insurance policies of $ 2.0 million, $ 2.2 million, and $ 2.2 million for the three years ended December 31, 2023, 2022, and 2021, respectively. As of December 31, 2023 and 2022, the total cash surrender value of the insurance policies was $ 74.9 million and $ 73.0 million, respectively. 114 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 11—Fair Value The Company uses fair value measurements to record fair value adjustments to certain financial and non-financial assets and liabilities and to determine fair value disclosures. Various financial instruments such as available-for-sale securities are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets and liabilities on a non-recurring basis, such as collateral dependent loans and other real estate owned. These non-recurring fair value adjustments typically involve lower of cost or fair value accounting or write-down of individual assets. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Depending on the nature of the asset or liability, the Company uses various valuation techniques and assumptions when estimating fair value. For accounting disclosure purposes, a three-level valuation hierarchy of fair value measurements has been established. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows: ● Level 1 – inputs to the valuation methodology are quoted prices for identical assets or liabilities in active markets. ● Level 2 – inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets that are not active, and inputs that are observable for the assets or liabilities, either directly or indirectly (such as interest rates, yield curves, and prepayment speeds). ● Level 3 – inputs to the valuation methodology are unobservable and significant to the fair value. These may be internally developed, using the Company’s best information and assumptions that a market participant would consider. The carrying amounts and estimated fair values of financial instruments held by the Company are set forth below. Fair value estimates are made at a specific point in time based on relevant market information. They do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for many of the Company’s financial instruments, fair value estimates are based on judgements regarding future expected loss experience, risk characteristics and economic conditions. These estimates are subjective, involve uncertainties, and cannot be determined with precision. Changes in assumptions could significantly affect the estimates. Management monitors the availability of observable market data to assess the appropriate classification of financial instruments within the fair value hierarchy. Changes in economic conditions or model-based valuation techniques may require the transfer of financial instruments from one fair value level to another. In such instances, the transfer is reported at the beginning of the reporting period. Management evaluates the significance of transfers between levels based upon the nature of the financial instrument and size of the transfer relative to total assets, total liabilities or total earnings. 115 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 11—Fair Value—Continued Securities classified as available-for-sale are reported at fair value on a recurring basis utilizing Level 1, 2 and 3 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. The Company does not record all loans and leases at fair value on a recurring basis. However, from time to time, a loan or lease is considered collateral dependent and an allowance for credit losses is established. Once a loan or lease is identified as collaterally dependent, management measures impairment in accordance FASB ASC Topic 326 . These appraisals may utilize a single valuation approach or a combination of approaches including sales comparison, cost and the income approach. Adjustments are often made in the appraisal process by the appraisers to take into account differences between the comparable sales and income and other available data. Such adjustments can be significant and typically result in a Level 3 classification of the inputs for determining fair value. The valuation technique used for Level 3 non-recurring collateral dependent loans is primarily the sales comparison approach less estimated selling costs. Other Real Estate Owned (“OREO”) is reported at fair value on a non-recurring basis. Fair values are based on recent real estate appraisals. These appraisals may use a single valuation approach or a combination of approaches including sales comparison, cost and the income approach. Adjustments are often made in the appraisal process by the appraisers to take into account differences between the comparable sales and income and other available data. Such adjustments can be significant and typically result in a Level 3 classification of the inputs for determining fair value. The valuation technique used for Level 3 non-recurring OREO is primarily the sales comparison approach less estimated selling costs. The following tables present information about the Bank’s assets and liabilities measured at fair value on a recurring and non-recurring basis and indicate the fair value hierarchy of the valuation techniques utilized by the Bank to determine such fair value for the periods indicated. December 31, 2023 Fair Value Measurements (Dollars in thousands) Carrying Amount Level 1 Level 2 Level 3 Total Fair Value Fair valued on a recurring basis: Available-for-sale securities U.S. Government-sponsored securities $ 3,224 $ - $ 3,224 $ - $ 3,224 Mortgage-backed securities 163,838 - 163,838 - 163,838 Collateralized mortgage obligations 535 - 535 - 535 Corporate securities 14,605 - 14,605 - 14,605 Other 310 - 310 - 310 Fair valued on a non-recurring basis: Collateral dependent loans $ 9,884 $ - $ - $ 9,884 $ 9,884 Other real estate owned 873 - - 873 873 116 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 11—Fair Value—Continued December 31, 2022 Fair Value Measurements (Dollars in thousands) Carrying Amount Level 1 Level 2 Level 3 Total Fair Value Fair valued on a recurring basis: Available-for-sale securities U.S. Treasury notes $ 4,964 $ 4,964 $ - $ - $ 4,964 U.S. Government-sponsored securities 4,427 - 4,427 - 4,427 Mortgage-backed securities 132,528 - 132,528 - 132,528 Collateralized mortgage obligations 1,054 - 1,054 - 1,054 Corporate securities 9,581 - 9,581 - 9,581 Other 310 - 310 - 310 Fair valued on a non-recurring basis: Collateral dependent loans $ 14,473 $ - $ - $ 14,473 $ 14,473 Other real estate owned 873 - - 873 873 Collateral dependent loans While the overall loan portfolio is not carried at fair value, the Company periodically records nonrecurring adjustments to the carrying value of loans based on fair value measurements for partial charge-offs of the uncollectible portions of those loans. Nonrecurring adjustments also include certain impairment amounts for collateral dependent loans when establishing the allowance for credit losses on loans. Such amounts are generally based on the fair value of the underlying collateral supporting the loan. In determining the value of real estate collateral, the Company relies on external and internal appraisals of property values depending on the size and complexity of the real estate collateral. The Company maintains a list of qualified property appraisers who review appraisal reports for reasonableness. In the case of non-real estate collateral, reliance is placed on a variety of sources, including external estimates of value and judgments based on the experience and expertise of internal specialists. Values of all loan collateral are regularly reviewed by credit administration. Unobservable inputs to these measurements, which include estimates and judgments often used in conjunction with appraisals, are not readily quantifiable. These measurements are classified as Level 3. 117 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 11—Fair Value—Continued The following tables summarize the carrying amount and estimated fair values of the Company’s financial assets and liabilities not carried at fair value, and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value for the periods indicated. December 31, 2023 Fair Value Measurements (Dollars in thousands) Carrying Amount Level 1 Level 2 Level 3 Total Fair Value Financial Assets: Cash and cash equivalents $ 410,642 $ 410,642 $ - $ - $ 410,642 Held-to-maturity securities 817,238 - 629,051 58,192 687,243 Non-marketable securities 15,549 - - 15,549 15,549 Loans and leases, net 3,579,724 - - 3,369,255 3,369,255 Bank-owned life insurance 74,931 74,931 - - 74,931 Financial Liabilities: Total deposits $ 4,668,095 $ - $ 4,023,467 $ 639,315 $ 4,662,782 Subordinated debentures 10,310 - 12,763 - 12,763 December 31, 2022 Fair Value Measurements (Dollars in thousands) Carrying Amount Level 1 Level 2 Level 3 Total Fair Value Financial Assets: Cash and cash equivalents $ 588,257 $ 588,257 $ - $ - $ 588,257 Held-to-maturity securities 844,953 - 661,167 42,534 703,701 Non-marketable securities 15,549 - - 15,549 15,549 Loans and leases, net 3,445,476 - - 3,335,042 3,335,042 Bank-owned life insurance 73,038 73,038 - - 73,038 Financial Liabilities: Total deposits $ 4,759,269 $ - $ 4,427,869 $ 323,572 $ 4,751,441 Subordinated debentures 10,310 - 12,211 - 12,211 118 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 12—Commitments and Contingencies In the normal course of business, the Company enters into financial instruments with off balance sheet risk in order to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These instruments include commitments to extend credit, letters of credit, and other types of financial guarantees. The Company had the following off balance sheet commitments as of the dates indicated. December 31, (Dollars in thousands) 2023 2022 Commitments to extend credit, including unsecured commitments of $ 19,858 and $ 20,401 as of December 31, 2023 and 2022, respectively $ 1,150,142 $ 1,141,036 Stand-by letters of credit, including unsecured commitments of $ 7,010 and $ 7,954 as of December 31, 2023 and 2022, respectively 16,858 17,138 The Company’s exposure to credit loss in the event of nonperformance by the other party with regard to standby letters of credit, undisbursed loan commitments, and financial guarantees is represented by the contractual notional amount of those instruments. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. The Company uses the same credit policies in making commitments and conditional obligations as it does for recorded balance sheet items. The Company may or may not require collateral or other security to support financial instruments with credit risk. Evaluations of each customer’s creditworthiness are performed on a case-by-case basis. The estimated exposure to loss from these commitments is included in the reserve for unfunded loan commitments, which amounted to $ 3.7 million and $ 2.1 million for the years ended December 31, 2023 and 2022, respectively. Standby letters of credit are conditional commitments issued by the Company to guarantee performance of or payment for a customer to a third-party. Outstanding standby letters of credit have maturity dates ranging from 1 to 60 months with final expiration in August 2028. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Company has commitments to fund investments in LIHTC partnerships and limited liability companies. At December 31, 2023 and 2022, the balance of the investments in LIHTC was $ 36.5 million and $ 37.3 million, respectively. These balances are reflected in the other assets line on the consolidated balance sheets. Total unfunded commitments related to the investments in LIHTC totaled $ 15.5 million and $ 19.7 million at December 31, 2023 and 2022, respectively. The Company expects to fulfill these commitments through 2039 . Additionally, during the years ended December 31, 2023 and 2022, the Company recognized tax credits from its investments in LIHTC of $ 3.60 million and $ 3.05 million, respectively . In the ordinary course of business, the Company becomes involved in litigation arising out of its normal business activities. Management, after consultation with legal counsel, believes that the ultimate liability, if any, resulting from the disposition of such claims would not be material in relation to the financial position of the Company. The Company may be required to maintain average reserves on deposit with the FRB primarily based on deposits outstanding. Reserve requirements are offset by the Company’s vault cash and deposit balances maintained with the FRB. 119 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 13 — Leases Lessee – Operating Leases Operating leases in which we are the lessee are recorded as operating lease right-of-use (“ROU”) assets and operating lease liabilities, included in other assets and other liabilities , respectively, on our consolidated statements of financial condition. We do not currently have any significant finance leases in which we are the lessee. Operating lease ROU assets represent our right to use an underlying asset during the lease term and operating lease liabilities represent our obligation to make lease payments arising from the lease. ROU assets and operating lease liabilities are recognized at lease commencement based on the present value of the remaining lease payments using a discount rate that represents our incremental borrowing rate at the lease commencement date. ROU assets are further adjusted for lease incentives. Operating lease expense, which is comprised of amortization of the ROU asset and the implicit interest accreted on the operating lease liability, is recognized on a straight-line basis over the lease term, and is recorded net in occupancy expense in the consolidated statements of income. Our leases relate primarily to office space and bank branches with remaining lease terms of generally nine months to 8 years. Certain lease arrangements contain extension options that typically range from 5 to 10 years at the then fair market rental rates. ASC 842 requires lessees to evaluate whether option periods, if available, will be exercised in order to determine the full life of the lease. The Company used the first option period, unless it is a relatively new lease that has a long initial lease term or other extenuating circumstances. As of December 31, 2023, operating lease ROU assets and liabilities were $ 2.7 million and $ 2.8 million, respectively. As of December 31, 2022, operating lease ROU assets and liabilities were $ 3.4 million and $ 3.5 million, respectively. Operating lease expenses totaled $ 737 ,000, $ 730 ,000 and $ 739 ,000 for the years ended December 31, 2023, 2022 and 2021, respectively. The table below summarizes the information related to our operating leases: Year Ended December 31, (in thousands except for percent and period data) 2023 2022 Cash Paid for Amounts Included in the Measurement of Lease Liabilities Operating Cash Flow from Operating Leases $ 720 $ 704 Weighted-Average Remaining Lease Term - Operating Leases, in Years 4.62 5.48 Weighted-Average Discount Rate - Operating Leases 2.6 % 2.6 % 120 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 13—Leases — Continued The table below summarizes the maturity of remaining lease liability: (Dollars in thousands) Amount 2024 $ 716 2025 714 2026 679 2027 367 2028 240 2029 and beyond 279 Total lease payments 2,995 Discount ( 162 ) Net present value of lease liabilities $ 2,833 As of December 31, 2023, we have no additional operating leases for office space that have not yet commenced or that are anticipated to commence during the first quarter of 2023. Lessor – Direct Financing Leases The Company is the lessor in direct finance lease arrangements. Leases are recorded at the principal balance outstanding, net of unearned income and charge-offs. Interest income is recognized using the interest method. Leases typically have a maturity of three to ten years , and fixed rates that are most often tied to Treasury indices with an appropriate spread based on the amount of perceived risk. Credit risks are underwritten using the same credit criteria the Company would use when making an equipment term loan. Residual value risk is managed with qualified, independent appraisers that establish the residual values the Company uses in structuring a lease. Lease payments due to the Company are typically fixed and paid in equal installments over the lease term. Variable lease payments that do not depend on an index or a rate (e.g., property taxes) that are paid directly by the Company are minimal. The majority of property taxes are paid directly by the client to third-parties and are not considered part of variable payments and therefore are not recorded by the Company. As a lessor, the Company leases certain types of agriculture equipment, solar equipment, construction equipment and other equipment to its customers. The Company’s net investment in direct financing leases was $ 167.1 million at December 31, 2023 and $ 111.6 million at December 31, 2022. 121 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 14—Income Taxes The components of income tax expense (benefit) are as follows: Year Ended December 31, (Dollars in thousands) 2023 2022 2021 Income tax expense / (benefit) Current: Federal $ 23,025 $ 10,638 $ 12,595 State 10,817 9,683 10,270 Total current expense 33,842 20,321 22,865 Deferred: Federal ( 6,546 ) 3,744 59 State 943 586 ( 939 ) Total current deferred benefit ( 5,603 ) 4,330 ( 880 ) Provision for income tax expense $ 28,239 $ 24,651 $ 21,985 The combined federal and state income tax expense differs from that computed at the federal statutory corporate tax rate as follows: Year Ended December 31, 2023 2022 2021 (Dollars in thousands) Amount Rate Amount Rate Amount Rate Effective income tax rate Federal statutory rate $ 24,476 21.00 % $ 20,946 21.00 % $ 18,548 21.00 % State taxes, net of Federal income tax benefit 9,290 7.97 % 8,112 8.13 % 7,370 8.34 % Low-income housing tax credits ( 3,528 ) ( 3.03 %) ( 3,031 ) ( 3.04 %) ( 3,116 ) ( 3.53 %) Compensation expense ( 267 ) ( 0.23 %) ( 578 ) ( 0.58 %) - - Bank owned life insurance ( 1,338 ) ( 1.15 %) ( 494 ) ( 0.49 %) ( 471 ) ( 0.53 %) Tax-exempt interest income ( 470 ) ( 0.40 %) ( 326 ) ( 0.32 %) ( 347 ) ( 0.39 %) Other, net 76 0.07 % 22 0.02 % 1 0.00 % Total provision for income tax expense and effective tax rate $ 28,239 24.23 % $ 24,651 24.72 % $ 21,985 24.89 % 122 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 14—Income Taxes—Continued The nature and components of the Company’s net deferred income tax assets are as follows: December 31, (Dollars in thousands) 2023 2022 Deferred income tax assets: Allowance for credit losses $ 23,386 $ 20,508 Deferred compensation 21,562 20,564 Unrealized losses on debt securities 5,377 9,341 Accrued liabilities 3,986 3,832 Tax credit carry forward 2,911 - State income taxes 2,271 2,034 Lease liabilities 838 1,027 Acquired net operating losses 506 584 Low-income housing tax investments 447 565 Acquired loans fair valuation 89 108 Acquired OREO fair valuation 108 108 Other 2 2 Total deferred income tax assets 61,483 58,673 Deferred income tax liabilities: Commercial leasing $ ( 16,017 ) $ ( 21,204 ) Premises and equipment ( 1,740 ) ( 1,940 ) Deferred loan and lease costs ( 1,000 ) ( 1,105 ) Right of use leasing asset ( 802 ) ( 996 ) Core deposit intangible asset ( 661 ) ( 830 ) Accretion on investment securities ( 659 ) ( 547 ) FHLB dividends ( 348 ) ( 348 ) Other ( 225 ) ( 156 ) Prepaid assets ( 52 ) ( 40 ) Total deferred income tax liabilities ( 21,504 ) ( 27,166 ) Net deferred income tax assets $ 39,979 $ 31,507 The Company believes, based on available information, that more likely than not, the net deferred income tax asset will be realized in the normal course of operations. Accordingly, no valuation allowance has been recorded at December 31, 2023 and 2022. The increase in net deferred income tax assets of $ 8.5 million was primarily due to $ 2.9 million in tax credit carry-forwards and a $ 5.2 million decrease in deferred income tax liabilities related to our commercial leasing business. The impact of a tax position is recognized in the financial statements if that position is more likely than not of being sustained on audit, based on the technical merits of the position. As of December 31, 2023 and 2022, the Company did no t have any significant uncertain tax positions. The Company includes any interest and penalties associated with unrecognized tax benefits within the provision for income taxes. The Company does not expect a material change to the total amount of unrecognized tax benefits in the next twelve months. The Company files U.S. and state income tax returns in jurisdictions with various statutes of limitations. The 2019 through 2023 tax years remain subject to selection for examination as of December 31, 2023. As of December 31, 2023 and 2022, the Company had net operating loss carryovers of $ 1.7 million and $ 1.9 million, respectively . The Company had $ 2.9 million in tax credit carry-forwards as of December 31, 2023, and no tax carry-forward as of December 31, 2022 . 123 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 15—Condensed Financial Statements of Parent Company Financial information pertaining only to Farmers and Merchants Bancorp (“FMCB”), on a parent-only basis, is as follows: December 31, (Dollars in thousands) 2023 2022 Balance Sheets Assets Cash and cash equivalents $ 130 $ 1,582 Investment in subsidiaries 561,521 495,019 Other assets 47 304 Total assets $ 561,698 $ 496,905 Liabilities and shareholders’ equity Subordinated debentures $ 10,310 $ 10,310 Other liabilities 1,633 1,287 Shareholders’ equity 549,755 485,308 Total liabilities and shareholders’ equity $ 561,698 $ 496,905 Year Ended December 31, (Dollars in thousands) 2023 2022 2021 Statements of Income Dividend and other income from subsidiaries $ 33,300 $ 34,700 $ 9,900 Interest and dividends 25 14 9 Total income 33,325 34,714 9,909 Reimbursement of expenses from subsidiaries 705 714 780 Other expenses 2,321 2,388 1,469 Total expense 3,026 3,102 2,249 Income before income taxes 30,299 31,612 7,660 Income tax benefit 887 913 660 31,186 32,525 8,320 Equity in undistributed net income of subsidiaries 57,128 42,565 58,016 Net income $ 88,314 $ 75,090 $ 66,336 124 Table of Contents FARMERS & MERCHANTS BANCORP NOTES TO CONSOLIDATED STATEMENTS Note 15—Condensed Financial Statements of Parent Company —Continued Year Ended December 31, (Dollars in thousands) 2023 2022 2021 Statements of Cash Flows Cash flows from operating activities: Net income $ 88,314 $ 75,090 $ 66,336 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed net income of the Bank ( 57,128 ) ( 42,565 ) ( 58,016 ) Change in other assets and liabilities 603 197 739 Net cash provided by operating activities 31,789 32,722 9,059 Cash flows from investing activities: Securities sold or matured - 124 - Net cash used in investing activities - 124 - Cash flows from financing activities: Common stock repurchases ( 20,355 ) ( 20,310 ) - Cash dividends paid ( 12,886 ) ( 12,489 ) ( 12,075 ) Net used in financing activities ( 33,241 ) ( 32,799 ) ( 12,075 ) Net change in cash and cash equivalents ( 1,452 ) 47 ( 3,016 ) Cash and cash equivalents, beginning of year 1,582 1,535 4,551 Cash and cash equivalents, end of year $ 130 $ 1,582 $ 1,535 125 Table of Contents Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None