What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-05-07 compared with 2020-11-06 · 231 added, 288 removed, 709 unchanged (42% of the section changed)

27 unchanged sentences

The allowance for loan losses is based on Management's evaluation of the level of the allowance required in relation to the estimated loss exposure in the loan portfolio.

Management believes the allowance for loan losses is a significant estimate and therefore regularly evaluates it to determine the appropriate level by taking into consideration factors such as prior loan loss experience, the character and size of the loan portfolio, business and economic conditions and Management's estimation of potential losses.

Management regularly evaluates the allowance, typically monthly, to determine the appropriate level by taking into consideration factors such as the size and growth trajectory of the portfolio, quality trends as measured by key indicators, prior loan loss experience in major portfolio segments, local and national business and economic conditions, the results of any stress testing undertaken during the period, and Management's estimation of potential losses.

The use of different estimates or assumptions could produce different provisions for loan losses.

Management utilizes numerous techniques to estimate the value of various assets held by the Company, including methods to determine the appropriate carrying value of goodwill as required under FASB ASC Topic 350 "Intangibles – Goodwill and Other." In addition, goodwill from a purchase acquisition is subject to ongoing periodic impairment tests, which include an evaluation of the ongoing assets, liabilities and revenues from the acquisition and an estimation of the impact of business conditions.

impairment tests, which include an evaluation of the ongoing assets, liabilities and revenues from the acquisition and an estimation of the impact of business conditions.

Mortgage Servicing Rights.

10 unchanged sentences

All of the assumptions are based on standards the Company believes would be utilized by market participants in valuing mortgage servicing rights and are consistently derived and/or benchmarked against independent public sources.

Fair Value of Securities.

Determining a market price for securities carried at fair value is a critical accounting estimate in the Company's financial statements.

Pricing of individual securities is subject to a number of factors including changes in market interest rates, changes in prepayment speeds and assumptions, changes in market tolerance for risk, and any changes in the risk profile of the security.

The Company subscribes to a widely recognized, independent pricing service and updates carrying values no less frequently than monthly.

It also validates the values provided by the pricing service no less frequently than quarterly by measuring against security prices provided by a secondary source.

Results of the validation are reported to the Bank's Asset Liability Committee each quarter and any variances between the two sources above defined thresholds are investigated by management.

Other-Than-Temporary Impairment on Securities.

One of the significant estimates related to investment securities is the evaluation of other-than-temporary impairments.

Another significant estimate related to investment securities is the evaluation of other-than-temporary impairments.

The evaluation of securities for other-than-temporary impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings.

3 unchanged sentences

(a) the length of time and extent to which the fair value has been less than cost or amortized cost and the expected recovery period of the security, (b) the financial condition, credit rating and future prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments, (d) the volatility of the securities' market price, (e) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery, which may be at maturity and (f) any other information and observable data considered relevant in determining whether other-than-temporary impairment has occurred, including the expectation of receipt of all principal and interest when due.

Derivative Financial Instruments.

The Bank recognizes all derivatives in the consolidated balance sheets at fair value.

On the date the Bank enters into the derivative contract, the Bank designates the derivative as a hedge of either a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow hedge”), a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value hedge”), or a held for trading instrument (“trading instrument”).

The Bank formally documents relationships between hedging instruments and hedged items, as well as its risk management objectives and strategy for undertaking various hedge transactions.

The Bank also assesses, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are effective in offsetting changes in cash flows or fair values of hedged items.

Derivative Financial Instruments Designated as Hedges.

The Company recognizes all derivatives in the consolidated balance sheets at fair value.

On the date the Company enters into the derivative contract, the Company designates the derivative as a hedge of either a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow hedge”), a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value hedge”), or a held for trading instrument (“trading instrument”).

The Company formally documents relationships between hedging instruments and hedged items, as well as its risk management objectives and strategy for undertaking various hedge transactions.

The Company also assesses, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are effective in offsetting changes in cash flows or fair values of hedged items.

Changes in fair value of a derivative that is effective and that qualifies as a cash flow hedge are recorded in other comprehensive income (loss) and are reclassified into earnings when the forecasted transaction or related cash flows affect earnings.

Changes in fair value of a derivative that qualifies as a fair value hedge and the change in fair value of the hedged item are both recorded in earnings and offset each other when the transaction is effective.

Those derivatives that are classified as trading instruments, including customer loan swaps, are recorded at fair value with changes in fair value recorded in earnings.

The Bank discontinues hedge accounting when it determines that the derivative is no longer effective in offsetting changes in the cash flows of the hedged item, that it is unlikely that the forecasted transaction will occur, or that the designation of the derivative as a hedging instrument is no longer appropriate.

Those derivatives that are classified as trading instruments include customer loan swaps, are recorded at fair value with changes in fair value recorded in earnings.

The Company discontinues hedge accounting when it determines that the derivative is no longer effective in offsetting changes in the cash flows of the hedged item, that it is unlikely that the forecasted transaction will occur, or that the designation of the derivative as a hedging instrument is no longer appropriate.

Risks & Uncertainties.

As of March 31, 2021, local, U.S., and world governments have begun to ease restrictions imposed to curtail the spread of the global pandemic, coronavirus disease (COVID-19), however limitations in many sectors remain in

place and are expected to remain in place in some form subsequent to March 31, 2021.

There continues to be uncertainty surrounding the duration of the pandemic, its potential economic ramifications, and any further government actions to mitigate them.

Accordingly, while management has considered the effect of the pandemic on collectability of loans receivable and other business impacts, it is possible that this matter may have a further financial impact on the Company's financial position and results of future operations, such potential impact of which cannot be reasonably estimated.

Use of Non-GAAP Financial Measures

15 unchanged sentences

A Federal Income Tax rate of 21.0% was used in 2021 and 2020.

For the nine months ended September 30, For the quarter ended September 30,

For the three months ended March 31,

Dollars in thousands

2020 2019 2020 2019

Net interest income as presented $ 15,873 $ 14,918

5 unchanged sentences

The following table provides a reconciliation between the GAAP and non-GAAP efficiency ratio:

For the nine months ended September 30, For the quarter ended September 30,

For the three months ended March 31,

Dollars in thousands

2020 2019 2020 2019

Non-interest expense, as presented $ 9,874 $ 11,043

11 unchanged sentences

The following table provides a reconciliation of average tangible shareholders' common equity to the Company's consolidated financial statements, which have been prepared in accordance with GAAP:

For the nine months ended September 30, For the quarter ended September 30,

For the three months ended March 31,

Dollars in thousands

2020 2019 2020 2019

Average shareholders' equity as presented $ 228,276 $ 217,130

3 unchanged sentences

The following table provides a reconciliation to Net Income:

For the nine months ended September 30, For the quarters ended September 30,

For the three months ended March 31,

Dollars in thousands 2021 2020

4 unchanged sentences

Executive Summary

Net income for the nine months ended September 30, 2020 was $20.2 million, up $1.3 million or 7.0% from the same period in 2019.

Earnings per common share on a fully diluted basis were $1.84 for the nine months ended September 30, 2020, up $0.11 or 6.4% from the $1.73 posted for the same period in 2019.

For the quarter ended September 30, 2020, net income was $7.1 million, up $807,000 or 12.8% from the same period in 2019.

Earnings per common share on a fully diluted basis were $0.65 for the quarter ended September 30, 2020, up $0.07 or 12.1% from the $0.58 posted in 2019.

Compared to the second quarter of 2020, net income was up $526,000 or 8.0% and earnings per common share on a fully diluted basis were $0.65, up $0.05 from the prior quarter.

The Company posted record operating results during the third quarter of 2020 despite the continued operational and business climate challenges brought about by the coronavirus disease (COVID-19).

Net income of $7.1 million was achieved via an increase in net interest income before loan loss provision, continued strong non-interest revenue and controlled operating expenses.

Asset quality remained stable as improvements noted over the first two quarters of 2020 were sustained.

Based upon the strength of the Company's earnings, a dividend of 31 cents per share was declared in the third quarter, representing a payout to our shareholders of 47.69 o f net income for the period.

Net interest income on a tax-equivalent basis was up $5.1 million or 12.5% in the nine months ended September 30, 2020 compared to the same period in 2019.

This increase is attributable to growth in earning assets, stable interest rate margins and the recovery of interest on resolved problem loans during the first quarter of 2020.

The tax equivalent net interest margin for the nine months ended September 30, 2020, was 2.93%, up from 2.90% for the same period in 2019.

For the quarter ended September 30, 2020, net interest income on a tax-equivalent basis increased $1.5 million or 11.1% compared to the same period in 2019, with the net interest margin down six basis points to 2.82%.

Non-interest income for the nine months ended September 30, 2020 was $13.6 million, up $3.3 million or 32.5%, from the nine months ended September 30, 2019.

Strong demand for both purchase and refinance loans led to mortgage banking revenue increasing $2.6 million or 209.9%.

Revenue at First National Wealth Management increased $253,000 and net gains on securities added $1.2 million, while service charge income and other income were both negatively impacted by lower transaction volume related to COVID-19.

Non-interest expense for the nine months ended September 30, 2020 was $29.2 million, up $3.1 million or 11.7% from the nine months ended September 30, 2019.

The year-to-year change was impacted by charges taken during the first quarter of 2020, to restructure interest rate swap positions, as well as increases in employee expenses and furniture and equipment expense.

Asset quality held steady in the third quarter.

Non-performing assets stood at 0.43% of total assets as of September 30, 2020, down from 0.84% of total assets as of September 30, 2019 and 0.82% as of December 31, 2019.

Total past-due loans

were 0.89% of total loans as of September 30, 2020, down from 1.16% of total loans as of December 31, 2019 and up from 0.78% as of September 30, 2019.

The provision for loan losses for the first nine months of 2020 was $4.6 million, up from the $875,000 provisioned in the same period in 2019.

Despite year-to-date improvement in non-performing asset levels, continued positive charge-off metrics, and stable levels of past due loans, the uncertainties resulting from COVID-19 led management to provision at elevated levels in the second and third quarters based upon the potential impact of current economic conditions to borrowers.

Net loan chargeoffs for the nine months ended September 30, 2020 were $817,000 or 0.08% of average loans on an annualized basis.

This was up from net chargeoffs of $342,000 or 0.04% of average loans on an annualized basis for the nine months ended September 30, 2019.

The allowance for loan losses increased $3.7 million between December 31, 2019 and September 30, 2020, and now stands at 1.07% of loans outstanding as of September 30, 2020, up from 0.90% and 0.93% of loans outstanding at December 31, 2019 and September 30, 2019, respectively.

The Company's balance sheet continued to expand in the first nine months of 2020 as total assets increased $227.8 million or 11.0% year-to-date.

The loan portfolio increased $139.6 million or 10.8% in the nine months ended September 30, 2020 and $173.2 million or 13.7% from a year ago.

Loan growth year to date has been centered in commercial real estate and construction loans, up $48.3 million, and other commercial loans, up $90.5 million.

Other commercial loans include Payroll Protection Program (PPP) loan balances of $97.3 million.

Overall loan balances were down $15.0 million in the third quarter, the result of payoffs of large individual credits in the other commercial loans segment of the portfolio.

The investment portfolio has increased $31.5 million year-to-date and increased $48.1 million or 7.6% from a year ago.

Net income for the three months ended March 31, 2021 was $8.9 million, up $2.4 million or 37.4% from the same period in 2020.

Earnings per common share on a fully diluted basis were $0.81 for the three months ended March 31, 2021, up $0.21 or 35.0% from the $0.60 posted for the same period in 2020.

The Company posted record operating results during the first quarter of 2021.

Net income of $8.9 million was achieved from a combination of increased net interest income before loan loss provision, continued strong non-interest revenue and controlled operating expenses.

Asset quality continues to trend positively as improvements noted over the course of 2020 have been sustained and are ongoing.

Based upon the strength of the Company's earnings, a dividend of 31 cents per share was declared in the first quarter, representing a payout to our shareholders of 37.80% of net income for the period.

Net interest income on a tax-equivalent basis was up $1.0 million or 6.3% in the three months ended March 31, 2021 compared to the same period in 2020.

This increase is attributable to growth in earning assets and recognition of origination fees on PPP loans.

The tax equivalent net interest margin for the three months ended March 31, 2021, was 2.99%, down from 3.12% for the same period in 2020.

Non-interest income for the three months ended March 31, 2021 was $5.3 million, up $1.1 million or 25.5%, from the three months ended March 31, 2020.

Strong demand for both purchase and refinance loans, along with a favorable mortgage servicing right valuation, led to mortgage banking revenue increasing $1.5 million or 290.3% in the first quarter of 2021 versus the prior year.

Revenue at First National Wealth Management increased $171,000 or 19.1% over the same period, while other income was up $316,000 or 21.2%, centered in debit card revenue.

Non-interest expense for the three months ended March 31, 2021 was $9.9 million, down $1.2 million or 10.6% from the three months ended March 31, 2020.

The year-to-year change is primarily the result of charges taken during the first quarter of 2020, to restructure interest rate swap positions, partially offset by increases in employee expenses and furniture and equipment expense.

Asset quality continued to trend positively in the first quarter.

Non-performing assets stood at 0.30% of total assets as of March 31, 2021, down from 0.49% of total assets as of March 31, 2020 and 0.32% as of December 31, 2020.

Total past-due loans were 0.37% of total loans as of March 31, 2021, down from 0.66% of total loans as of December 31, 2020 and 1.62% as of March 31, 2020.

The provision for loan losses for the first three months of 2021 was $525,000, up from the $400,000 provisioned in the same period in 2020.

The Company continues to view it prudent to consider the uncertainties brought about by COVID-19 and the potential impact to borrowers in its provision analysis.

Net loan chargeoffs for the three months ended March 31, 2021 were $184,000 or 0.05% of average loans on an annualized basis.

This was up slightly from net chargeoffs of $181,000 for the three months ended March 31, 2020.

The allowance for loan losses increased $341,000 between December 31, 2020 and March 31, 2021, and now stands at 1.09% of loans outstanding as of March 31, 2021, down slightly from 1.10% at December 31, 2020 and up from 0.88% of loans outstanding March 31, 2020.

The Company's balance sheet continued to expand in the first three months of 2021 as total assets increased $75.6 million or 3.2% year-to-date.

The loan portfolio increased $40.0 million or 2.7% in the three months ended March 31, 2021 and $172.6 million or 12.8% from a year ago.

Loan growth in the first quarter was centered in commercial real estate and construction loans, up $24.7 million, and other commercial loans, up $12.5 million.

Other commercial loans include Payroll Protection Program (PPP) loan balances of $62.7 million, an increase of $2.5 million in the first quarter.

The investment portfolio has increased $460,000 year-to-date and increased $25.5 million or 3.8% from a year ago.

On the liability side of the balance sheet, low-cost deposits have increased $68.1 million or 6.3% year-to-date, with much of the growth attributable to various economic stimulus programs, including proceeds of PPP loans, being deposited back to the Bank.

Year-over-year, low-cost deposits increased $203.4 million or 25.0%.

Local certificates of deposit ("CDs") decreased $29.3 million and wholesale CDs decreased $70.8 million year-to-date.

Year-over-year, low-cost deposits have increased $370.9 million or 48.0%.

Local certificates of deposit ("CDs") decreased $3.3 million and wholesale CDs increased $32.0 million year-to-date.

Remaining well capitalized is a top priority for The First Bancorp, Inc.

The Company's total risk-based capital ratio was 15.44% as of September 30, 2020, solidly above the well-capitalized threshold of 10.0% set by the Federal Deposit Insurance Corporation, the Federal Reserve Board, and the Office of the Comptroller of the Currency.

The Company's operating ratios remain good, with a return on average tangible common equity of 14.27% for the nine months ended September 30, 2020 compared to 14.67% for the same period in 2019.

Based upon June 30, 2020 data, our return on average tangible common equity was in the top 17% of all banks in the UBPR peer group, which had an average return on equity of 9.79%.

Our non-GAAP efficiency ratio continues to be an important component in our overall performance and stood at 50.00% for the nine months ended September 30, 2020 compared to 51.12% for the same period in 2019.

The Company's total risk-based capital ratio was 14.83% as of March 31, 2021, solidly above the well-capitalized threshold of 10.0% set by the Federal Deposit Insurance Corporation, the Federal Reserve Board, and the Office of the Comptroller of the Currency.

The Company's operating ratios were strong in the first quarter, with a return on average tangible common equity of 18.34% for the three months ended March 31, 2021 compared to 13.95% for the same period in 2020.

Our non-GAAP efficiency ratio continues to be an important component in our overall performance and stood at 45.52% for the three months ended March 31, 2021 compared to 58.12% for the same period in 2020.

The Company's efficiency ratio was elevated in the first quarter of 2020 due to charges taken to restructure several interest rate swap positions.

In the absence of these charges, the non-GAAP efficiency ratio for the first nine months of 2020 would have been 46.87%.

In the absence of these charges, the non-GAAP efficiency ratio for the first three months of 2020 would have been 48.49%.

Net Interest Income

Total interest income of $58.0 million for the nine months ended September 30, 2020 was a decrease of $1.0 million or 1.7% compared to total interest income of $59.0 million for the same period of 2019.

Total interest expense of $13.8 million for the nine months ended September 30, 2020 was a decrease of $6.1 million or 30.6% compared to total interest expense for the nine months ended September 30, 2019.

As a result, net interest income of $44.2 million for the nine months ended September 30, 2020 was an increase of $5.1 million or 13.0% compared to net interest income of $39.1 million for the same period ended September 30, 2019.

This increase is attributable to growth in earning assets, stable margins, and the recovery of interest on resolved problem loans during the first quarter of 2020.

The Company's net interest margin on a tax-equivalent basis for the nine months ended September 30, 2020 was 2.93%, up from 2.90% for the first nine months of 2019.

Tax-exempt interest income amounted to $6.5 million for the nine months ended September 30, 2020 and 2019.

The following tables present the amount of interest earned or paid, as well as the average yield or rate on an annualized basis, for each major category of assets or liabilities for the nine months ended September 30, 2020 and 2019.

Total interest income of $19.0 million for the three months ended March 31, 2021 was a decrease of $1.7 million or 8.4% compared to total interest income of $20.7 million for the same period of 2020.

Total interest expense of $3.1 million for the three months ended March 31, 2021 was a decrease of $2.7 million or 46.7% compared to total interest expense for the three months ended March 31, 2020.

As a result, net interest income of $15.9 million for the three months ended March 31, 2021 was an increase of $1.0 million or 6.4% compared to net interest income of $14.9 million for the same period ended March 31, 2020.

This increase is attributable to growth in earning assets.

The Company's net interest margin on a tax-equivalent basis for the three months ended March 31, 2021 was 2.99%, down from 3.12% for the first three months of 2020.

Tax-exempt interest income amounted to $2.4 million for the three months ended March 31, 2021 compared to $2.3 million for the three months ended March 31, 2020.

Tax-exempt income is calculated on a tax-equivalent basis, using a 21.0% Federal Income Tax rate.

For the nine months ended

September 30, 2020 September 30, 2019

For the three months ended

March 31, 2021 March 31, 2020

Dollars in thousands

14 unchanged sentences

Net interest margin 2.99 % 3.12 %

For the quarters ended

September 30, 2020 September 30, 2019

Dollars in thousands

interest Average

Yield/Rate Amount of

interest Average

Interest on earning assets

Interest-bearing deposits $ 8 0.12 % $ 48 2.09 %

Investments 4,898 2.88 % 5,356 3.36 %

Loans held for sale 19 1.51 % 2 1.66 %

Loans 14,167 3.88 % 15,070 4.75 %

Total interest-earning assets 19,092 3.52 % 20,476 4.27 %

Interest expense

Deposits 2,866 0.75 % 5,983 1.65 %

Other borrowings 895 1.27 % 695 1.50 %

Total interest expense 3,761 0.83 % 6,678 1.63 %

Net interest income $ 15,331 $ 13,798

Interest rate spread 2.69 % 2.64 %

Net interest margin 2.82 % 2.88 %

Interest income includes $788,000 in net origination fees recognized year-to-date attributable to PPP loans;

as of September 30, 2020, net unrecognized PPP origination fees totaled $2.7 million.

No such fees were recognized in 2019 or in the first quarter of 2020.

The following tables present changes in interest income and expense attributable to changes in interest rates and volume for interest-earning assets and liabilities for the nine months and quarters ended September 30, 2020 compared to 2019.

Interest income includes $1.2 million in net origination fees recognized in the first quarter of 2021, attributable to PPP loans;

as of March 31, 2021, net unrecognized PPP origination fees totaled $3.3 million.

No such fees were recognized in the first quarter of 2020.

The following tables present changes in interest income and expense attributable to changes in interest rates and volume for interest-earning assets and liabilities for the three months ended March 31, 2021 compared to 2020.

Tax-exempt income is calculated on a tax-equivalent basis, using a 21% Federal Income Tax rate.

For the nine months ended September 30, 2020 compared to 2019

For the three months ended March 31, 2021 compared to 2020

Dollars in thousands

12 unchanged sentences

1 Represents the change attributable to a combination of change in rate and change in volume.

For the quarter ended September 30, 2020 compared to 2019

Dollars in thousands

Volume Rate Rate/Volume 1

Interest on earning assets

Interest-bearing deposits $ 86 $ (45) $ (81) $ (40)

Investment securities 373 (777) (54) (458)

Loans held for sale 19 — (2) 17

Loans 2,327 (2,798) (432) (903)

Change in interest income 2,805 (3,620) (569) (1,384)

Interest expense

Deposits 329 (3,266) (180) (3,117)

Other borrowings 370 (111) (59) 200

Change in interest expense 699 (3,377) (239) (2,917)

Change in net interest income $ 2,106 $ (243) $ (330) $ 1,533

Average Daily Balance Sheets

The following table shows the Company's average daily balance sheets for the nine months and quarters ended September 30, 2020 and 2019.

For the nine months ended For the quarters ended

The following table shows the Company's average daily balance sheets for the three months ended March 31, 2021 and 2020.

For the three months ended

Dollars in thousands

September 30,

2020 September 30,

2019 September 30,

2020 September 30,

2021 March 31,

Cash and cash equivalents $ 23,344 $ 17,336

29 unchanged sentences

Retained earnings 163,262 148,425

Net unrealized gain (loss) on securities available for sale 6,772 (652) 6,942 3,169

Net unrealized gain on securities available for sale 3,399 5,751

Net unrealized loss on securities transferred from available for sale to held to maturity (130) (179)

Net unrealized gain (loss) on cash flow hedging derivative instruments (4,287) 569 (6,274) (98)

Net unrealized loss on cash flow hedging derivative instruments (3,807) (1,080)

Net unrealized gain on postretirement benefit costs 28 24

2 unchanged sentences

Non-Interest Income

Non-interest income of $13.6 million for the nine months ended September 30, 2020 is an increase of $3.3 million compared to the same period in 2019.

Strong purchase and refinance volume led to mortgage banking revenue increasing $2.6 million or 209.9%.

Non-interest income of $4.8 million for the quarter ended September 30, 2020 is an increase of $1.3 compared to the same period in 2019, due primarily to mortgage banking revenue.

Non-interest income of $5.3 million for the three months ended March 31, 2021 is an increase of $1.1 million compared to the same period in 2020.

Revenue at First National Wealth Management increased $171,000 or 19.1% over the same period, while other income was up $316,000 or 21.2%, centered in debit card revenue.

Non-Interest Expense

Non-interest expense of $29.2 million for the nine months ended September 30, 2020 is an increase of 11.7% or $3.1 million compared to non-interest expense of $26.2 million for the same period in 2019.

The year-to-year change was impacted by charges taken during the first quarter of 2020 to restructure interest rate swap positions, as well as increases in employee expenses and furniture and equipment expense.

The Company's non-GAAP efficiency ratio stood at 50.00% for the nine months ended September 30, 2020, down from 51.12% for the same period in 2019.

The ratio was elevated in the first quarter of 2020 due to charges taken to restructure several interest rate swap positions.

In the absence of these charges, the non-GAAP efficiency ratio for the first nine months of 2020 would have been 46.87%.

Non-interest expense of $9.3 million for the quarter ended September 30, 2020 is an increase of 2.6% compared to non-interest expense of $9.0 million for the same period in 2019 due to the reasons mentioned above along with the application of FDIC assessment credits in third quarter of 2019.

Income taxes on operating earnings were $3.8 million for the nine months ended September 30, 2020, up $362,000 from the same period in 2019.

The Company's investment portfolio increased by $31.5 million between December 31, 2019 and September 30, 2020.

As of September 30, 2020, mortgage-backed securities had a carrying value of $319.8 million and a fair value of $320.6 million.

Non-interest expense of $9.9 million for the three months ended March 31, 2021 is a decrease of 10.6% or $1.2 million compared to non-interest expense of $11.0 million for the same period in 2020.

The Company's non-GAAP efficiency ratio stood at 45.52% for the three months ended March 31, 2021, down from 58.12% for the same period in 2020.

The Company's efficiency ratio was elevated in the first quarter of 2020 due to the charges taken to restructure several interest rate swap positions.

In the absence of these charges, the non-GAAP efficiency ratio for the first three months of 2020 would have been 48.49%.

Income taxes on operating earnings were $1.9 million for the three months ended March 31, 2021, up $649,000 from the same period in 2020.

The Company's investment portfolio increased by $460,000 between December 31, 2020 and March 31, 2021.

As of March 31, 2021, mortgage-backed securities had a carrying value of $304.3 million and a fair value of $302.6 million.

Of this total, securities with a fair value of $67.6 million or 22.3% of the mortgage-backed portfolio were issued by the Government National Mortgage Association and securities with a fair value of $235.0 million or 77.7% of the mortgage-backed portfolio were issued by the Federal Home Loan Mortgage Corporation ("Freddie Mac") and the Federal National Mortgage Association ("Fannie Mae").

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The amortization of the net unrealized loss reported in accumulated other comprehensive income (loss) will offset the effect on interest income of the discount for the transferred securities.

The remaining unamortized balance of the net unrealized losses for the securities transferred from available for sale to held to maturity was $139,000 at September 30, 2020.

This compares to $182,000 and $189,000, net of taxes, at December 31, 2019 and September 30, 2019, respectively.

The remaining unamortized balance of the net unrealized losses for the securities transferred from available for sale to held to maturity was $124,000 at March 31, 2021.

This compares to $133,000 and $174,000, net of taxes, at December 31, 2020 and March 31, 2020, respectively.

These securities were transferred as a part of the Company's overall investment and balance sheet strategies.

The following table sets forth the Company's investment securities at their carrying amounts as of September 30, 2020 and 2019 and December 31, 2019.

The following table sets forth the Company's investment securities at their carrying amounts as of March 31, 2021 and 2020 and December 31, 2020.

Dollars in thousands

September 30,

2021 December 31,

2019 September 30,

2020 March 31,

Securities available for sale

2 unchanged sentences

State and political subdivisions 37,558 39,474 20,224

Asset-backed securities 7,580 7,766 —

$ 294,537 $ 313,376 $ 312,928

10 unchanged sentences

Total securities $ 689,994 $ 689,534 $ 664,514

The following table sets forth yields and contractual maturities of the Company's investment securities as of September 30, 2020.

The following table sets forth yields and contractual maturities of the Company's investment securities as of March 31, 2021.

Yields on tax-exempt securities have been computed on a tax-equivalent basis using a tax rate of 21%.

21 unchanged sentences

Total 37,558 4.21 % 251,137 4.27 %

Asset-Backed Securities

Due in 1 year or less — 0.00 % — 0.00 %

Due in 1 to 5 years — 0.00 % — 0.00 %

Due in 5 to 10 years 2,312 0.99 % — 0.00 %

Due after 10 years 5,268 0.90 % — 0.00 %

Total 7,580 0.93 % — 0.00 %

Corporate Securities

5 unchanged sentences

$ 294,537 1.91 % $ 385,352 3.54 %

Held To Maturity Sales

During the second quarter of 2020, 28 municipal securities were sold that had been designated as Held to Maturity.

Proceeds from these sales totaled $8.6 million against a cumulative book value of $8.3 million resulting in a net realized gain of $268,000.

The potential economic impact of COVID-19 is considered to be an isolated and unusual event that could not be reasonably anticipated as outlined in ASC Section 320-10-25.

Management conducted a review of its municipal bond portfolio in conjunction with risk mitigation efforts related to the onset of the COVID-19 virus;

the intent of the review was to identify investment exposures with lower relative credit ratings, locales with perceived above average economic risk, municipal entities with reliance upon sales tax or income tax revenue, or any combination of these factors.

Each of the sold positions met one or more of the criteria.

Impaired Securities

The securities portfolio contains certain securities where the amortized cost of which exceeds fair value, which at September 30, 2020 amounted to $1.4 million, or 0.21% of the amortized cost of the total securities portfolio.

The securities portfolio contains certain securities where the amortized cost of which exceeds fair value, which at March 31, 2021 amounted to $10.0 million, or 1.51% of the amortized cost of the total securities portfolio.

At December 31, 2020, this amount was $1.2 million, or 0.18% of the amortized cost of total securities portfolio.

2 unchanged sentences

The Company's evaluation of securities for impairment is a quantitative and qualitative process intended to determine whether declines in the fair value of investment securities should be recognized in current period earnings.

The primary factors

considered in evaluating whether a decline in the fair value of securities is other-than-temporary include:

(a) the length of time and extent to which the fair value has been less than cost or amortized cost and the expected recovery period of the security, (b) the financial condition, credit rating and future prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments, (d) the volatility of the securities market price, (e) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery, which may be at maturity, and (f) any other information and observable data considered relevant in determining whether other-than-temporary impairment has occurred.

The primary factors considered in evaluating whether a decline in the fair value of securities is other-than-temporary include:

(a) the length of time and extent to which the fair value has been less than cost or amortized cost and the expected recovery period of the security, (b)

the financial condition, credit rating and future prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments, (d) the volatility of the securities market price, (e) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery, which may be at maturity, and (f) any other information and observable data considered relevant in determining whether other-than-temporary impairment has occurred.

The Company's best estimate of cash flows uses severe economic recession assumptions due to market uncertainty.

2 unchanged sentences

Estimating future cash flows is a quantitative and qualitative process that incorporates information received from third party sources along with certain internal assumptions and judgments regarding the future performance of the underlying collateral.

As of September 30, 2020, the Company had temporarily impaired securities with a fair value of $120.1 million and unrealized losses of $1.4 million, as identified in the table below.

Securities in a continuous unrealized loss position more than twelve months amounted to $4.2 million as of September 30, 2020, compared with $19.0 million at December 31, 2019.

As of March 31, 2021, the Company had temporarily impaired securities with a fair value of $268.0 million and unrealized losses of $10.0 million, as identified in the table below.

Securities in a continuous unrealized loss position more than twelve months amounted to $3.7 million as of March 31, 2021, compared with $3.9 million at December 31, 2020.

The Company has concluded that these securities were not other-than-temporarily impaired.

This conclusion was based on the issuer's continued satisfaction of the securities obligations in accordance with their contractual terms and the expectation that the issuer will continue to do so, Management's intent and ability to hold these securities for a period of time sufficient to allow for any anticipated recovery in fair value which may be at maturity, the expectation that the Company will receive 100% of future contractual cash flows, as well as the evaluation of the fundamentals of the issuer's financial condition and other objective evidence.

The following table summarizes temporarily impaired securities and their approximate fair values at September 30, 2020:

The following table summarizes temporarily impaired securities and their approximate fair values at March 31, 2021:

Less than 12 months 12 months or more Total

6 unchanged sentences

State and political subdivisions 28,783 (808) — — 28,783 (808)

Corporate Securities 3,414 (86) — — 3,414 (86)

$ 264,229 $ (9,830) $ 3,744 $ (130) $ 267,973 $ (9,960)

2 unchanged sentences

Government-sponsored agencies and enterprises.

As of September 30, 2020, there were $228,000 unrealized losses on these securities compared to $128,000 unrealized losses as of December 31, 2019.

As of March 31, 2021, there were $3.6 million unrealized losses on these securities compared to $333,000 unrealized losses as of December 31, 2020.

All of these securities were credit rated "AAA" or "AA+" by the major credit rating agencies.

Management believes that securities issued by U.S.

Government-sponsored agencies and enterprises have minimal credit risk, as these agencies and enterprises play a vital role in the nation's financial markets and does not consider these securities to be other-than-temporarily impaired at September 30, 2020.

Mortgage-backed securities issued by U.S.

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Government-sponsored enterprises.

As of September 30, 2020, there were $768,000 of unrealized losses on these securities compared with $849,000 at December 31, 2019.

As of March 31, 2021, there were $5.5 million of unrealized losses on these securities compared with $812,000 at December 31, 2020.

All of these securities were credit rated "AAA" or "AA+" by the major credit rating agencies.

2 unchanged sentences

Government-sponsored enterprises have minimal credit risk, as these agencies and enterprises play a vital role in the nation's financial markets.

Management believes that the unrealized losses at September 30, 2020 were attributable to changes in current market yields and spreads since the date the underlying securities were purchased, and does not consider these securities to be other-than-temporarily impaired at September 30, 2020.

Management believes that the unrealized losses at March 31, 2021 were attributable to changes in current market yields and spreads since the date the underlying securities were purchased, and does not consider these securities to be other-than-temporarily impaired at March 31, 2021.

The Company also has the ability and intent to hold these securities until a recovery of their amortized cost, which may be at maturity.

Obligations of state and political subdivisions.

As of September 30, 2020, there were $361,000 of unrealized losses on these securities compared to $109,000 at December 31, 2019.

Municipal securities are supported by the general taxing authority of the municipality and, in the cases of school districts, are generally supported by state aid.

At September 30, 2020, all municipal bond issuers were current on contractually obligated interest and principal payments.

The Company attributes the unrealized

losses at September 30, 2020 to changes in prevailing market yields and pricing spreads since the date the underlying securities were purchased, combined with current market liquidity conditions and the disruption in the financial markets in general.

Accordingly, the Company does not consider these municipal securities to be other-than-temporarily impaired at September 30, 2020.

As of March 31, 2021, there were $808,000 of unrealized losses on these securities compared to $3,000 at December 31, 2020.

Municipal securities are supported by the general taxing authority of the municipality or a dedicated revenue stream, and, in the case of school districts, are generally supported by state aid.

At March 31, 2021, all municipal bond issuers were current on contractually obligated interest and principal payments.

The Company attributes the unrealized losses at March 31, 2021 to changes in prevailing market yields and pricing spreads since the date the underlying securities were purchased, combined with current market liquidity conditions and the disruption in the financial markets in general.

Accordingly, the Company does not consider these municipal securities to be other-than-temporarily impaired at March 31, 2021.

Corporate securities.

As of September 30, 2020 and December 31, 2019, there were no unrealized losses on these securities.

As of March 31, 2021, there were $86,000 of unrealized losses on these securities compared to $2,000 at December 31, 2020.

Corporate securities are dependent on the operating performance of the issuers.

At September 30, 2020, all corporate bond issuers were current on contractually obligated interest and principal payments.

At March 31, 2021, all corporate bond issuers were current on contractually obligated interest and principal payments.

Federal Home Loan Bank Stock

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The Bank uses the FHLB for much of its wholesale funding needs.

As of September 30, 2020, the Bank's investment in FHLB stock totaled $9.5 million.

This compares to $7.9 million as of December 31, 2019 and September 30, 2019.

As of March 31, 2021, the Bank's investment in FHLB stock totaled $9.1 million.

This compares to $9.5 million as of December 31, 2020 and $9.0 million as of March 31, 2020.

FHLB stock is a non-marketable equity security and therefore is reported at cost, subject to adjustments for any observable market transactions on the same or similar instruments of the investee.

No impairment losses have been recorded through September 30, 2020.

No impairment losses have been recorded through March 31, 2021.

The Company will continue to monitor its investment in FHLB stock.

1 unchanged sentence

Loans held for sale are carried at the lower of cost or market value.

As of September 30, 2020, the Bank had $6.4 million in loans held for sale.

This compares to $154,000 loans held for sale at December 31, 2019 and $852,000 loans held for sale at September 30, 2019.

As of March 31, 2021, the Bank had $3.5 million in loans held for sale.

This compares to $5.9 million loans held for sale at December 31, 2020 and $561,000 loans held for sale at March 31, 2020.

The Bank participates in FHLB's Mortgage Partnership Finance Program ("MPF"), selling loans with recourse.

1 unchanged sentence

therefore, there was minimum impact on the reserve.

The loan portfolio increased during the first nine months of 2020, with total loans at $1.44 billion at September 30, 2020, up $139.6 million or 10.8% from total loans of $1.30 billion at December 31, 2019.

Commercial loans increased $138.8 million or 22.0% between December 31, 2019 and September 30, 2020, municipal loans increased $2.8 million or 6.8%, residential term loans increased $5.2 million and home equity lines of credit decreased $9.4 million.

The loan portfolio increased during the first three months of 2021, with total loans at $1.52 billion at March 31, 2021, up $40.0 million or 2.7% from total loans of $1.48 billion at December 31, 2020.

Commercial loans increased $37.2 million or 4.7% between December 31, 2020 and March 31, 2021, municipal loans increased $5.7 million or 13.0%, residential term loans decreased $1.8 million and home equity lines of credit decreased $2.5 million.

Loans made under the U.S.

Small Business Administration's Payroll Protection Program (PPP) added $96.0 million to commercial loans in the second quarter of 2020, and $1.3 million in the third quarter.

Small Business Administration's PPP accounted for $62.7 million to commercial loans as of March 31, 2021.

Commercial loans are comprised of three major classes:

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Collateral values are determined based on appraisals and evaluations in accordance with established policy and regulatory guidelines.

Residential loans typically have a loan-to-value ratio of up to 80% based on appraisal information at the time the loan is made.

Residential loans typically have a loan-to-value ratio of up to 80% based on

appraisal information at the time the loan is made.

Collateral consists of mortgage liens on one- to four-family residential properties.

14 unchanged sentences

Consumer loans may be secured or unsecured.

Construction loans, both commercial and residential, at 33.4% of capital are well under the regulatory guidance of 100.0% of capital at September 30, 2020.

Construction loans and non-owner-occupied commercial real estate loans are at 129.4% of total capital, well under the regulatory guidance of 300.0% of capital at September 30, 2020.

The following table summarizes the loan portfolio, by class, at September 30, 2020 and 2019 and December 31, 2019.

Construction loans, both commercial and residential, at 36.6% of capital are well under the regulatory guidance of 100.0% of capital at March 31, 2021.

Construction loans and non-owner-occupied commercial real estate loans are at 155.2% of total capital, well under the regulatory guidance of 300.0% of capital at March 31, 2021.

The following table summarizes the loan portfolio, by class, at March 31, 2021 and 2020 and December 31, 2020.

Dollars in thousands

September 30, 2020 December 31, 2019 September 30, 2019

March 31, 2021 December 31, 2020 March 31, 2020

Real estate $ 469,974 31.0 % $ 442,121 29.9 % $ 382,753 28.5 %

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Total loans $ 1,516,772 100.0 % $ 1,476,761 100.0 % $ 1,344,208 100.0 %

The following table sets forth certain information regarding the contractual maturities of the Bank's loan portfolio as of September 30, 2020.

The following table sets forth certain information regarding the contractual maturities of the Bank's loan portfolio as of March 31, 2021.

Dollars in thousands

9 unchanged sentences

Total loans $ 9,343 $ 214,791 $ 195,850 $ 1,096,788 $ 1,516,772

The following table provides a listing of loans by class, between variable and fixed rates as of September 30, 2020.

The following table provides a listing of loans by class, between variable and fixed rates as of March 31, 2021.

Fixed-Rate Adjustable-Rate Total

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Loan Concentrations

As of September 30, 2020, the Bank did not have any concentration of loans in one particular industry that exceeded 10% of its total loan portfolio.

As of March 31, 2021, the Bank did not have any concentration of loans in one particular industry that exceeded 10% of its total loan portfolio.

Credit Risk Management and Allowance for Loan Losses

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A specific reserve is allocated to an individual loan when that loan has been deemed impaired and when the amount of a probable loss is estimable on the basis of its collateral value, the present value of anticipated future cash flows, or its net realizable value.

At September 30, 2020, impaired loans with specific reserves totaled $5.2 million and the amount of such reserves was $890,000.

This compares to impaired loans with specific reserves of $11.1 million at December 31, 2019 and the amount of such reserves was $2.2 million.

Several impaired loans at December 31, 2019 were paid off or otherwise resolved in the nine months ended September 30, 2020, accounting for the $5.9 million decrease in impaired loans and the $1.3 million reduction in specific reserves.

At March 31, 2021, impaired loans with specific reserves totaled $4.4 million and the amount of such reserves was $900,000.

This compares to impaired loans with specific reserves of $3.9 million at December 31, 2020 and the amount of such reserves was $462,000.

All of these analyses are reviewed and discussed by the Directors' Loan Committee, and recommendations from these processes provide Management and the Board of Directors with independent information on loan portfolio condition.

Our total allowance at September 30, 2020 is considered by Management to be appropriate to address the credit losses inherent in the loan portfolio at that date.

Our total allowance at March 31, 2021 is considered by Management to be appropriate to address the credit losses inherent in the loan portfolio at that date.

However, our determination of the appropriate allowance level is based upon a number of assumptions we make about future events, which we believe are reasonable, but which may or may not prove valid.

Thus, there can be no assurance that our charge-offs in future periods will not exceed our allowance for loan losses or that we will not need to make additional increases in our allowance for loan losses.

The following table summarizes our allocation of allowance by loan class as of September 30, 2020 and 2019 and December 31, 2019.

The following table summarizes our allocation of allowance by loan class as of March 31, 2021 and 2020 and December 31, 2020.

The percentages are the portion of each loan class to total loans.

Dollars in thousands

September 30, 2020 December 31, 2019 September 30, 2019

March 31, 2021 December 31, 2020 March 31, 2020

Real estate $ 5,741 31.0 % $ 5,178 29.9 % $ 3,862 28.5 %

8 unchanged sentences

Total $ 16,594 100.0 % $ 16,253 100.0 % $ 11,858 100.0 %

The allowance for loan losses totaled $15.4 million at September 30, 2020, compared to $11.6 million as of December 31, 2019 and $11.8 million as of September 30, 2019.

The allowance for loan losses totaled $16.6 million at March 31, 2021, compared to $16.3 million as of December 31, 2020 and $11.9 million as of March 31, 2020.

Management's ongoing application of methodologies to establish the allowance include an evaluation of impaired loans for specific reserves.

These specific reserves decreased $1.3 million in the first nine months of 2020 from $2.2 million at December 31, 2019 to $890,000 at September 30, 2020.

These specific reserves increased $438,000 in the first three months of 2021 from $462,000 at December 31, 2020 to $900,000 at March 31, 2021.

The specific loans that make up those categories change from period to period.

Impairment on those loans, which would be reflected in the allowance for loan losses, might or might not exist, depending on the specific circumstances of each loan.

The portion of the reserve based

upon homogeneous pools of loans decreased by $157,000 in the first nine months of 2020.

The portion of the reserve based on qualitative factors increased $4.8 million in the first nine months of 2020 due to a mix of factors.

These included initial impacts of the COVID-19 pandemic on various macroeconomic measures used in the qualitative model, as well as top down and unit level analysis of the loan portfolio for factors such as COVID-19 related modifications and industry segments particularly vulnerable to social distancing.

Unallocated reserves of $1.2 million, or 10.2% of the total reserve at December 31, 2019, increased to $1.6 million, or 10.3% as of September 30, 2020.

After consideration of the shifts in specific, pooled and qualitative reserves, Management determined that the unallocated portion of the reserve at September 30, 2020 adequately addresses general imprecision related to loan portfolio growth, along with other underlying credit risks not yet captured in loan specific or qualitative metrics the Company uses to estimate its allowance.

A breakdown of the allowance for loan losses as of September 30, 2020, by loan class and allowance element, is presented in the following table:

The portion of the reserve based upon homogeneous pools of loans increased by $214,000 in the first three months of 2021.

The portion of the reserve based on qualitative factors increased $796,000 in the first three months of 2021 due to a mix of factors.

These included changes in various macroeconomic measures used in the qualitative model, updated analysis of the loan portfolio in multiple stress scenarios, and

performance of COVID-19 related loan modifications.

Unallocated reserves of $2.1 million, or 13.1% of the total reserve at December 31, 2020, decreased to $1.0 million, or 6.2% as of March 31, 2021.

After consideration of the shifts in specific, pooled and qualitative reserves, Management determined that the unallocated portion of the reserve at March 31, 2021 adequately addresses general imprecision related to loan portfolio growth, along with other underlying credit risks not yet captured in loan specific or qualitative metrics the Company uses to estimate its allowance.

A breakdown of the allowance for loan losses as of March 31, 2021, by loan class and allowance element, is presented in the following table:

Dollars in thousands

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Based upon Management's evaluation, provisions are made to maintain the allowance as a best estimate of inherent losses within the portfolio.

The provision for loan losses to maintain the allowance was $4.6 million for the first nine months of 2020 and $875,000 the first nine months of 2019.

Net charge-offs were $818,000 in the first nine months of 2020, up from $342,000 in the first nine months of 2019.

Our allowance as a percentage of outstanding loans was 1.07% as of September 30, 2020, up from 0.90% as of December 31, 2019, and 0.93% as of September 30, 2019.

The following table summarizes the activities in our allowance for loan losses for the nine months ended September 30, 2020 and 2019 and for the year ended December 31, 2019:

The provision for loan losses to maintain the allowance was $525,000 for the first three months of 2021 and $400,000 the first three months of 2020.

Net charge-offs were $184,000 in the first three months of 2021, up slightly from $181,000 in the first three months of 2020.

Our allowance as a percentage of outstanding loans was 1.09% as of March 31, 2021, down slightly from 1.10% as of December 31, 2020, and up from 0.88% as of March 31, 2020.

The following table summarizes the activities in our allowance for loan losses for the three months ended March 31, 2021 and 2020 and for the year ended December 31, 2020:

Dollars in thousands

September 30, 2020 December 31, 2019 September 30, 2019

March 31, 2021 December 31, 2020 March 31, 2020

Balance at the beginning of year $ 16,253 $ 11,639 $ 11,639

4 unchanged sentences

Municipal — — —

Term 46 445 93

Construction — — —

7 unchanged sentences

Municipal — — —

Term 31 57 10

Construction — — —

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COVID-19 Impact on Loan Portfolio

The Company is actively working with borrowers impacted by the COVID-19 outbreak.

As of September 30, 2020, a total of 966 loan modification requests for interest-only payments or deferred payments have been completed in conformance with the Interagency Statement on Loan Modifications and Reporting issued March 23, 2020 and/or Section 4013 of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, representing $279.7 million in loan balances, or approximately 20.8% of the overall loan portfolio.

One of these modifications of a de minimis amount has been classified as a Troubled Debt

Restructure since being modified.

The Company continues to actively work with borrowers impacted by the COVID-19 outbreak.

As of March 31, 2021, a total of 1037 loan modification requests for interest-only payments or deferred payments have been completed in conformance with the Interagency Statement on Loan Modifications and Reporting issued March 23, 2020, Section 4013 of the Coronavirus Aid, Relief, Economic Security (CARES) Act, or H.R.

133 signed December 27, 2020, which was extended by the Supplemental Appropriations Act, representing $291.3 million in loan balances, or approximately 20.0% of the overall loan portfolio.

One of these modifications of a de minimis amount has been classified as a Troubled Debt Restructure since being

So long as modified terms are met, loans in an active modification are not included in past due loan totals and continue to accrue interest.

As of September 30, 2020, loans totaling $81.0 remained in their original modification or had had a subsequent modification, representing 6.0% of the overall portfolio.

As of March 31, 2021, loans totaling $50.6 remained in their original modification or had had a subsequent modification, representing 3.3% of the overall portfolio.

Refer to Note 3 of the financial statements for further detail.

First National Bank is a designated SBA preferred lender and had processed 1,710 Paycheck Protection Program (PPP) loan requests totaling $97.3 million in funds disbursed to qualified small businesses as of September 30, 2020.

The Bank is now actively working with these PPP borrowers to process applications for forgiveness per PPP guidelines.

First National Bank is a designated SBA preferred lender and has participated in both the 2020 (PPP1) and 2021 (PPP2) rounds of the Payroll Protection Program.

Under PPP1, 1,710 loans were granted totaling $97.3 million in funds disbursed to qualified small businesses.

The Bank has been actively working with these borrowers to process applications for forgiveness per PPP guidelines;

as of March 31, 2021, PPP1 balances had been reduced to $17.6 million.

Under PPP2, 955 loans totaling $45.1 million had been granted as of March 31, 2021.

The impact of the consequences of COVID-19 upon borrowers and ultimately the Company's loan portfolio metrics remains difficult to estimate or ascertain.

The State of Maine, where most of the Bank's customers reside and/or operate businesses has gradually re-opened its economy.

Impacts upon economic activity has been mixed with some sectors, such as residential real estate and outdoor recreation, performing strongly while others such as hospitality and indoor dining have been negatively impacted.

Quarantines for visitors from many states and limits on the size of public gatherings remain in place.

As of September 30, 2020, approximately 9% of the Company’s loan portfolio consisted of hospitality or restaurant industry borrowers, considered amongst the most impacted by COVID-19.

The Company regularly monitors activity on open credit lines and has not observed increased utilization related to COVID-19.

Commercial credit line balances decreased $19.4 million in the third quarter of 2020 following the payoff of a large participation credit.

The average utilization rate in the third quarter was 42.3%, down from an average utilization rate of 51.0% in the second quarter of 2020 and down from an average of 54.2% in the third quarter of 2019.

Home equity line of credit balances decreased $4.5 million in the third quarter of 2020 resulting in an average utilization rate for the quarter of 49.4%, down slightly from 51.1% in the second quarter of 2020 and down from 51.9% in the third quarter of 2020.

Impacts upon economic activity have been mixed with some sectors, such as residential real estate and outdoor recreation, performing strongly while others such as hospitality and indoor dining have been negatively impacted.

Quarantines for visitors from many states and limits on the size of public gatherings remain in place, but are expected to be lifted in coming months.

As of March 31, 2021, approximately 11% of the Company’s loan portfolio consisted of hospitality or restaurant industry borrowers, considered amongst the most impacted by COVID-19.

Nonperforming Loans

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All payments made on nonaccrual loans are applied to the principal balance of the loan.

Nonperforming loans, expressed as a percentage of total loans, totaled 0.63% at September 30, 2020 compared to 1.28% at December 31, 2019 and 1.33% at September 30, 2019.

The following table shows the distribution of nonperforming loans by class as of September 30, 2020 and 2019 and December 31, 2019:

Nonperforming loans, expressed as a percentage of total loans, totaled 0.46% at March 31, 2021 and December 31, 2020, and 0.75% at March 31, 2020.

The following table shows the distribution of nonperforming loans by class as of March 31, 2021 and 2020 and December 31, 2020:

Dollars in thousands

September 30,

2021 December 31,

2019 September 30,

2020 March 31,

Real estate $ 748 $ 543 $ 1,748

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These are loans for which we expect to collect all amounts due, including past-due interest.

As of September 30, 2020, loans 90 or more days past due and still accruing interest totaled $1.5 million, compared to $1.6 million at December 31, 2019 and $18,000 at September 30, 2019.

As of March 31, 2021, loans 90 or more days past due and still accruing interest totaled $85,000, compared to $1.5 million at December 31, 2020 and $3.8 million at March 31, 2020.

Troubled Debt Restructured

5 unchanged sentences

common concession types include maturity date extension, interest rate adjustments to below market pricing, and deferment of payments.

As of September 30, 2020, we had 78 loans with a balance of $13.4 million that have been restructured.

This compares to 81 loans with a balance of $21.4 million and 82 loans with a balance of $24.3 million classified as TDRs as of December 31, 2019 and September 30, 2019, respectively.

The following table shows the activity in loans classified as TDRs between December 31, 2019 and September 30, 2020:

As of March 31, 2021, we had 73 loans with a balance of $11.3 million that have been restructured.

This compares to 74 loans with a balance of $11.5 million and 81 loans with a balance of $15.0 million classified as TDRs as of December 31, 2020 and March 31, 2020, respectively.

The following table shows the activity in loans classified as TDRs between December 31, 2020 and March 31, 2021:

Balance in Thousands of Dollars Number of Loans Aggregate Balance

3 unchanged sentences

Repayments in 2021 — (127)

Total at September 30, 2020 78 $ 13,390

As of September 30, 2020, 51 loans with an aggregate balance of $9.5 million were performing under the modified terms, five loans with an aggregate balance of $703,000 were more than 30 days past due and accruing and 22 loans with an aggregate balance of $3.2 million were on nonaccrual.

As a percentage of aggregate outstanding balance, 71.2% were performing under the modified terms, 5.3% were more than 30 days past due and accruing and 23.6% were on nonaccrual.

The performance status of all TDRs as of September 30, 2020, as well as the associated specific reserve in the allowance for loan losses, is summarized by type of loan in the following table.

Total at March 31, 2021 73 $ 11,306

As of March 31, 2021, 52 loans with an aggregate balance of $9.4 million were performing under the modified terms, 21 loans with an aggregate balance of $1.9 million were on nonaccrual and there were no loans more than 30 days past due and accruing.

As a percentage of aggregate outstanding balance, 83.1% were performing under the modified terms and 16.9% were on nonaccrual.

The performance status of all TDRs as of March 31, 2021, as well as the associated specific reserve in the allowance for loan losses, is summarized by type of loan in the following table.

In thousands of dollars

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Associated specific reserve $ 531 $ — $ 164 $ 695

Residential TDRs (including home equity lines of credit) as of September 30, 2020 included 54 loans with an aggregate balance of $7.9 million, and the modifications granted fell into five major categories.

Residential, HELOC and consumer TDRs as of March 31, 2021 included 52 loans with an aggregate balance of $7.1 million, and the modifications granted fell into five major categories.

Loans totaling $4.9 million had an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford.

4 unchanged sentences

Certain residential TDRs had more than one modification.

Consumer TDR's as of September 30, 2020 included one loan with a balance of $10,000 due to an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford.

Commercial TDRs as of September 30, 2020 were comprised of 23 loans with a balance of $5.5 million.

Commercial TDRs as of March 31, 2021 were comprised of 21 loans with a balance of $4.2 million.

Of this total, six loans with an aggregate balance of $1.3 million had an extended period of interest-only payments, deferring the start of principal repayment.

Five loans with an aggregate balance of $1.2 million had an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford.

Three loans with an aggregate balance of $334,000 had an extension of term, allowing the borrower to repay over an extended number of years and lowering the monthly payment to a level the borrower can afford.

Six loans with an aggregate balance of $626,000 had a deferral of payment.

2 unchanged sentences

Once a loan is classified as a TDR it remains classified as such until the balance is fully repaid, despite whether the loan is performing under the modified terms.

As of September 30, 2020, Management is aware of eight loans classified as TDRs that are involved in bankruptcy with an outstanding balance of $911,000.

There were also 22 loans with an outstanding balance of $3.2 million that were classified as TDRs and on non-accrual status, of which two loans with an outstanding balance of $430,000 were in the process of foreclosure.

As of March 31, 2021, Management is aware of six loans classified as TDRs that are involved in bankruptcy with an outstanding balance of $708,000.

There were also 21 loans with an outstanding balance of $1.9 million that were classified as TDRs and on non-accrual status, of which one loan with an outstanding balance of $92,000 was in the process of foreclosure.

Impaired Loans

2 unchanged sentences

If the measure of an impaired loan is lower than the recorded investment in the loan, a specific reserve is established for the difference.

Impaired loans totaled $19.3 million at September 30, 2020, and have decreased $9.9 million from December 31, 2019.

There were 145 impaired loans at September 30, 2020 down from 150 loans at December 31, 2019.

Impaired commercial loans decreased $7.6 million between December 31, 2019 and September 30, 2020.

The specific allowance for impaired commercial loans decreased from $1.5 million at December 31, 2019 to $282,000 as of September 30, 2020, which represented the fair value deficiencies for loans where the fair value of the collateral or net present value of expected cash flows was estimated at less than our carrying amount of the loan.

From December 31, 2019 to September 30, 2020, impaired residential loans decreased $2.3 million and impaired home equity lines of credit decreased $124,000.

The following table sets forth impaired loans as of September 30, 2020 and 2019 and December 31, 2019:

Impaired loans totaled $16.3 million at March 31, 2021, and have increased $301,000 from December 31, 2020.

There were 144 impaired loans at March 31, 2021 up from 140 loans at December 31, 2020.

Impaired commercial loans increased $613,000 between December 31, 2020 and March 31, 2021.

The specific allowance for impaired commercial loans increased from $299,000 at December 31, 2020 to $758,000 as of March 31, 2021, which represented the fair value deficiencies for loans where the fair value of the collateral or net present value of expected cash flows was estimated at less than our carrying amount of the loan.

From December 31, 2020 to March 31, 2021, impaired residential loans decreased $147,000 and impaired home equity lines of credit decreased $164,000.

The following table sets forth impaired loans as of March 31, 2021 and 2020 and December 31, 2020:

Dollars in thousands

September 30,

2021 December 31,

2019 September 30,

2020 March 31,

Real estate $ 3,201 $ 3,029 $ 6,223

8 unchanged sentences

Past Due Loans

The Bank's overall loan delinquency ratio was 0.89% at September 30, 2020 compared to 1.16% at December 31, 2019 and 0.78% at September 30, 2019.

Loans 90 days delinquent and accruing decreased from $1.6 million at December 31, 2019 to $1.5 million as of September 30, 2020.

The following table sets forth loan delinquencies as of September 30, 2020 and 2019 and December 31, 2019:

The Bank's overall loan delinquency ratio was 0.37% at March 31, 2021 compared to 0.66% at December 31, 2020 and 1.62% at March 31, 2020.

Loans 90 days delinquent and accruing decreased from $1.5 million at December 31, 2020 to $85,000 as of March 31, 2021.

The following table sets forth loan delinquencies as of March 31, 2021 and 2020 and December 31, 2020:

Dollars in thousands

September 30,

2021 December 31,

2019 September 30,

2020 March 31,

Real estate $ 469 $ 555 $ 4,234

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Based on historical experience, the credit quality of some of these loans may improve due to improvements in the economy as well as changes in collateral values or the financial condition of the borrowers, while the credit quality of other loans may deteriorate, resulting in some amount of loss.

At September 30, 2020, there were nine potential problem loans with a balance of $1.4 million or 0.09% of total loans.

This compares to nine loans with a balance of $1.3 million or 0.10% of total loans at December 31, 2019.

As of September 30, 2020, there were 19 loans in the process of foreclosure with a total balance of $2.6 million.

At March 31, 2021, there were two potential problem loans with a balance of $187,000 or 0.012% of total loans.

This compares to five loans with a balance of $195,000 or 0.010% of total loans at December 31, 2020.

As of March 31, 2021, there were 17 loans in the process of foreclosure with a total balance of $1.4 million.

The Bank's residential foreclosure process begins when a loan becomes 75 days past due at which time a Demand/Breach Letter is sent to the borrower.

If the loan becomes 120 days past due, copies of the promissory note and mortgage deed are forwarded to

the Bank's attorney for review and a complaint for foreclosure is then prepared.

If the loan becomes 120 days past due, copies of the promissory note and mortgage deed are forwarded to the

Bank's attorney for review and a complaint for foreclosure is then prepared.

An authorized Bank officer signs the affidavit certifying the validity of the documents and verification of the past due amount which is then forwarded to the court.

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Real estate acquired through foreclosure is carried at the lower of fair value less estimated cost to sell or the cost of the asset and is not included as part of the allowance for loan loss totals.

At September 30, 2020, there were five properties owned with an OREO balance of $777,000, net of an allowance for losses of $45,000, compared to December 31, 2019 and September 30, 2019 when there were two properties owned with an OREO balance of $279,000, with no allowance for loan losses.

At March 31, 2021, there were two properties owned with an OREO balance of $401,000, net of an allowance for losses of $45,000, compared to December 31, 2020 when there were four properties owned with an OREO balance of $908,000, net of an allowance for loan losses of $45,000 and March 31, 2020 when there were three properties owned with an OREO balance of $316,000, with no allowance for losses.

The following table presents the composition of other real estate owned:

Dollars in thousands

September 30,

2021 December 31,

2019 September 30,

2020 March 31,

Carrying Value

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Liquidity Management

As of September 30, 2020, the Bank had primary sources of liquidity of $938.7 million.

As of March 31, 2021, the Bank had primary sources of liquidity of $925.6 million.

It is Management's opinion this is sufficient to meet liquidity needs under a broad range of scenarios.

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Liquidity is the ability of a financial institution to meet maturing liability obligations and customer loan demand.

The Bank's primary source of liquidity is deposits, which funded 77.3% of total average assets in the first nine months of 2020.

The Bank's primary source of liquidity is deposits, which funded 79.2% of total average assets in the first three months of 2021.

While the generally preferred funding strategy is to attract and retain low-cost deposits, the ability to do so is affected by

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PPPLF offers the ability to obtain advances dollar for dollar against the value of pledged PPP loans.

The facility will be available to draw upon until December 31, 2020;

no PPPLF advances have been taken to date.

During the first nine months of 2020, total deposits increased by $112.6 million or 6.8% from December 31, 2019 levels.

Low-cost deposits (demand, NOW, and savings accounts) increased by $216.7 million or 27.1% in the first nine months of 2020, money market deposits decreased $4.1 million or 2.5%, and certificates of deposit decreased $100.0 million or 14.5%.

Between September 30, 2019 and September 30, 2020, total deposits increased by $139.8 million or 8.6%.

The facility will be available to draw upon until June 30.

no PPP loans have been pledged and no PPPLF advances have been taken to date.

During the first three months of 2021, total deposits increased by $108.9 million or 5.9% from December 31, 2020 levels.

Low-cost deposits (demand, NOW, and savings accounts) increased by $68.1 million or 6.3% in the first three months of 2021, money market deposits increased $12.1 million or 7.4%, and certificates of deposit increased $28.7 million or 4.7%.

Between March 31, 2020 and March 31, 2021, total deposits increased by $308.9 million or 18.8%.

Low-cost deposits increased by $370.9 million or 48.0%, money market accounts increased $14.7 million or 9.1%, and certificates of deposit decreased $76.6 million or 10.8%.

The increase in low-cost deposits and further utilization of borrowed funds allowed for a decrease in higher cost Certificates of Deposit.

The increase in low-cost deposits allowed for a decrease in higher cost Borrowed Funds.

Borrowed Funds

1 unchanged sentence

This funding may also be used to balance seasonal deposit flows or to carry out interest rate risk management strategies, and may be used to replace or supplement other sources of funding, including core deposits and certificates of deposit.

During the nine months ended September 30, 2020, borrowed funds increased $98.8 million or 53.4% from December 31, 2019.

Between September 30, 2019 and September 30, 2020, borrowed funds increased by $102.4 million or 56.4%.

Factors in the year-to-date and year-to-year increases include a $50 million short term advance from the FRB Discount Window in the first quarter of 2020, subsequently renewed, and an increase of $28.2 million in repurchase agreement balances over the second and third quarters of 2020.

During the three months ended March 31, 2021, borrowed funds decreased $32.4 million or 12.4% from December 31, 2020;

the reduction is centered in the paydown to zero of funds advanced from FRB.

Between March 31, 2020 and March 31, 2021, borrowed funds decreased by $18.4 million or 7.4% as maturing advances from FHLB were repaid rather than renewed.

Shareholders' Equity

Shareholders' equity as of September 30, 2020 was $219.4 million, compared to $212.5 million as of December 31, 2019 and $208.5 million as of September 30, 2019.

The Company's earnings in the first nine months of 2020, net of dividends declared, added to shareholders' equity.

The net unrealized gain on available-for-sale securities, presented in accordance with FASB ASC Topic 320 "Investments – Debt and Equity Securities" now stands at $5.5 million as of September 30, 2020 compared to $3.7 million as of December 31, 2019.

The net unrealized loss on cash flow hedging derivative instruments now stands at $5.8 million, compared to the $97,000 gain as of December 31, 2019.

A cash dividend of $0.31 per share was declared in the third quarter of 2020.

The dividend payout ratio, which is calculated by dividing dividends declared per share by diluted earnings per share, was 49.46% for the first nine months of 2020 compared to 51.15% for the same period in 2019.

Shareholders' equity as of March 31, 2021 was $228.2 million, compared to $223.7 million as of December 31, 2020 and $215.3 million as of March 31, 2020.

The Company's earnings in the first three months of 2021, net of dividends declared, added to shareholders' equity.

The net unrealized gain on available-for-sale securities, presented in accordance with FASB ASC Topic 320 "Investments – Debt and Equity Securities" now stands at $219,000 as of March 31, 2021 compared to $5.0 million as of December 31, 2020.

The net unrealized loss on cash flow hedging derivative instruments now stands at $1.5 million, compared $4.9 million as of December 31, 2020.

A cash dividend of $0.31 per share was declared in the first quarter of 2021.

The dividend payout ratio, which is calculated by dividing dividends declared per share by diluted earnings per share, was 37.80% for the first three months of 2021 compared to 50.00% for the same period in 2020.

In determining future dividend payout levels, the Board of Directors carefully analyzes capital requirements and earnings retention, as set forth in the Company's Dividend Policy.

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During the first quarter of 2015, the Company adopted the new Basel III regulatory capital framework as approved by the federal banking agencies.

The adoption of this new framework modified the calculation of the various capital ratios, added a

new ratio, common equity tier 1, and revised the adequately and well capitalized thresholds.

Additionally, under the new rule, in order to avoid limitations on capital distributions, including dividend payments, the Company must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios.

The capital conservation buffer was phased in from 0.0% for 2015 to 2.50% in 2019.

The amounts shown below as the adequately capitalized ratio plus capital conservation buffer include the fully phased-in 2.50% buffer.

The Company met each of the well-capitalized ratio guidelines at September 30, 2020.

The following tables indicate the capital ratios for the Bank and the Company at September 30, 2020 and December 31, 2019.

As of September 30, 2020 Leverage Tier 1 Common Equity Tier 1 Total Risk-Based

In order to avoid limitations on capital distributions, including dividend payments, the Company must hold a capital conservation buffer of 2.5% above the adequately capitalized risk-based capital ratios.

The Company met each of the well-capitalized ratio guidelines at March 31, 2021.

The following tables indicate the capital ratios for the Bank and the Company at March 31, 2021 and December 31, 2020.

As of March 31, 2021 Leverage Tier 1 Common Equity Tier 1 Total Risk-Based

Bank 8.49 % 13.57 % 13.57 % 14.72 %

10 unchanged sentences

The Bank maintains and annually updates a capital plan over a five year horizon;

the capital plan was updated in the second quarter of 2020.

the capital plan was last updated in the second quarter of 2020.

Based upon reasonable assumptions of growth and operating performance, the base capital plan model projects that the Bank will be well capitalized throughout the five year period.

1 unchanged sentence

In each stress scenario, the Bank maintained well capitalized status.

To further validate its internal results, the Bank engaged a third party consultant during the second quarter of 2020 to conduct credit stress tests on its loan portfolio under six scenarios.

Three of the scenarios emulated the Federal Reserve's Dodd Frank Act Stress Tests (DFAST), two were pandemic scenarios developed in response to COVID-19 by a leading forecasting firm, and a final severe Coronavirus pandemic scenario developed by the consultant.

To further validate its internal results, the Bank engaged a third party consultant during the first quarter of 2021 to conduct credit stress tests on its loan portfolio under six scenarios.

Three of the scenarios emulated the Federal Reserve's Dodd Frank Act Stress Tests (DFAST), and three were developed by a leading forecasting firm.

The consultant's report applied projected credit losses over a thirteen quarter horizon to the Bank's capital position with immediate effect.

5 unchanged sentences

Derivative instruments that Management periodically uses as part of its interest rate risk management strategy may include interest rate swap agreements, interest rate floor agreements, and interest rate cap agreements.

During the first quarter of 2020, the Bank took advantage of market opportunities to restructure several interest rate swap positions and extend funding at favorable interest rates.

At September 30, 2020, the Bank had 11 outstanding off-balance sheet, derivative instruments designated as cash flow hedges.

At March 31, 2021, the Bank had 11 outstanding off-balance sheet, derivative instruments designated as cash flow hedges.

These derivative instruments were interest rate swap agreements, with notional principal amounts totaling $260.0 million and an unrealized loss of $1.5 million, net of taxes.

2 unchanged sentences

The credit risk in derivative instruments is mitigated by entering into transactions with highly-rated counterparties that Management believes to be creditworthy and by limiting the amount of exposure to each counter-party.

At September 30,

2020, the Bank's derivative instrument counterparties were credit rated “A” by the major credit rating agencies.

At March 31, 2021, the Bank's derivative instrument counterparties were credit rated “A” by the major credit rating agencies.

The interest rate swap agreements were entered into by the Bank to limit its exposure to rising interest rates.

4 unchanged sentences

Credit risk is mitigated by prudent underwriting of the loan customer and financial institution counterparties.

As of September 30, 2020, the Bank had four loan swap agreements in place with a total notional value of $57.1 million.

As of March 31, 2021, the Bank had six loan swap agreements in place with a total notional value of $83.7 million.

Contractual Obligations

The following table sets forth the contractual obligations of the Company as of September 30, 2020:

The following table sets forth the contractual obligations of the Company as of March 31, 2021:

Dollars in thousands

5 unchanged sentences

Total loan commitments and unused lines of credit $ 247,449 $ 247,449 $ — $ — $ —

In addition to the above, on September 3, 2020 the Bank entered into a Branch Purchase & Assumption Agreement with Bangor Savings Bank (BSB) to acquire a branch location in Belfast, ME currently owned and operated by Damariscotta Bank & Trust (DB&T);

BSB has an agreement in place to purchase DB&T.

The acquisition will be the Bank's first branch location in Waldo County, and is expected to add $16.5 million in deposits and $23.5 million in loans to its balance sheet.

The final value of the transaction is estimated to be $24.8 million which includes the loans, an assignment of a ground lease, leasehold improvements, furniture and equipment, and the premium paid for the deposits.

The Bank has received regulatory approval for the purchase, and the transaction is expected to be closed in the fourth quarter.

A copy of the Agreement is included as Exhibit 10.4.

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

What changed 10-Q

Item 2. Management’s Discussion and Analysis