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Item 7. Management’s Discussion and Analysis

2022-03-01 compared with 2021-03-01 · 359 added, 642 removed, 434 unchanged (70% of the section changed)

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

CRITICAL ACCOUNTING POLICIES

The historical consolidated financial data discussed below reflects our historical results of operations and financial condition and should be read in conjunction with our financial statements and related notes thereto presented in Item 8 of this Annual Report on Form 10-K.

In addition to historical financial data, this discussion includes certain forward-looking statements regarding events and trends that may affect our future results.

Such statements are subject to risks and uncertainties that could cause our actual results to differ materially.

See our cautionary “Statement Regarding Forward-Looking Statements." For a more complete discussion of the factors that could affect our future results, see “Risk Factors” under Item 1A of this Annual Report on Form 10-K.

First Merchants Corporation (the “Corporation”) is a financial holding company headquartered in Muncie, Indiana and was organized in September 1982.

The Corporation’s common stock is traded on the Nasdaq’s Global Select Market System under the symbol FRME.

The Corporation conducts its banking operations through First Merchants Bank (the “Bank”), a wholly-owned subsidiary that opened for business in Muncie, Indiana, in March 1893.

The Bank also operates First Merchants Private Wealth Advisors (a division of First Merchants Bank).

The Bank includes 109 banking locations in Indiana, Ohio, Michigan and Illinois.

In addition to its branch network, the Corporation offers comprehensive electronic and mobile delivery channels to its customers.

The Corporation’s business activities are currently limited to one significant business segment, which is community banking.

Through the Bank, the Corporation offers a broad range of financial services, including accepting time, savings and demand deposits;

making consumer, commercial, agri-business, public finance and real estate mortgage loans;

providing personal and corporate trust services;

offering full-service brokerage and private wealth management;

and providing letters of credit, repurchase agreements and other corporate services.

HIGHLIGHTS FOR 2021

• Net income available to stockholders for the year ended December 31, 2021 was $205.5 million compared to $148.6 million for the year ended 2020, an increase of 38.3 percent.

• Earnings per fully diluted common share for 2021 totaled $3.81 compared to $2.74 for 2020, an increase of 39.1 percent.

• The Corporation experienced organic loan growth of $566.4 million, or 6.6 percent during 2021, which when offset by a $560.5 million decline in Paycheck Protection Program (“PPP”) loans (following forgiveness by the Small Business Administration), resulted in net loan growth of $5.9 million.

• As of December 31, 2021, the Corporation had $12.7 billion in total deposits, representing a $1.4 billion increase from December 31, 2020, or 12.1 percent.

• During 2021, the Corporation repurchased 646,102 of its common shares for $25.4 million at an average price of $39.38.

• During the second quarter of 2021, the Corporation completed its previously-announced banking delivery transformation strategy, which included the consolidation of seventeen banking centers across its footprint.

• On April 1, 2021, the Bank acquired 100 percent of Hoosier Trust Company (“Hoosier”) through a merger of Hoosier with and into the Bank.

The consideration paid to shareholders of Hoosier at closing was $3,225,000 in cash.

Prior to the acquisition, Hoosier was an Indiana corporate trust company, headquartered in Indianapolis, Indiana, with approximately $290 million in assets under management.

Hoosier’s sole office is now being operated by the Bank as a limited service trust office.

• On November 4, 2021, the Corporation and Level One Bancorp, Inc., a Michigan corporation (“Level One”) entered into an Agreement and Plan of Merger (the “Merger Agreement”), pursuant to which Level One will, subject to the terms and conditions of the Merger Agreement, merge with and into the Corporation (the “Merger”), whereupon the separate corporate existence of Level One will cease and the Corporation will survive.

Immediately following the Merger, Level One's wholly owned subsidiary, Level One Bank, will be merged with and into the Bank, with the Bank as the surviving bank.

Subject to the terms and conditions of the Merger Agreement, upon the Merger becoming effective, the common shareholders of Level One will be entitled to received, for each outstanding share of Level One common stock, (a) a 0.7167 share (the “Exchange Ratio”) of the Corporation’s common stock, in a tax-free exchange, and (b) a cash payment of $10.17.

The Exchange Ratio is subject to adjustments for stock splits, stock dividends, recapitalization, or similar transactions, or as otherwise described in the Merger Agreement.

Based on the number of shares of Level One common stock currently outstanding, the Corporation expects to issue approximately 5.5 million shares of its common stock, and pay approximately $77.7 million in cash, in exchange for all the issued and outstanding shares of Level One common stock.

In addition, the Corporation expects to issue 10,000 shares of a newly created 7.5% non-cumulative perpetual preferred stock, with a liquidation preference of $2,500 per share, in exchange for the outstanding Level One Series B preferred stock.

Based on the closing price of First Merchants’ common stock on November 3, 2021, of $43.50 per share, the implied value for a share of Level One common stock is $41.35.

The aggregate transaction value is estimated at approximately $323.5 million.

The Federal Reserve and the FDIC have granted approvals in connection with the transaction.

However, consummation of the Merger remains subject to the requisite approval of the holders of Level One common stock, the approval of the Indiana DFI, and satisfaction of certain customary closing conditions.

The shareholders of Level One are considering the approval of the Merger Agreement on March 1, 2022, and the Indiana DFI expects to meet during March 2022 to consider the matter.

The parties are diligently pursuing satisfaction of the other closing conditions and expect the closing to occur by early second quarter of 2022, subject to satisfaction of those conditions.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

COVID-19 AND RELATED LEGISLATIVE AND REGULATORY ACTIONS

On January 30, 2020, the World Health Organization (“WHO”) announced that the outbreak of COVID-19 constituted a public health emergency of international concern.

On March 11, 2020, WHO declared COVID-19 to be a global pandemic and, on March 13, 2020, the President of the United States declared the COVID-19 outbreak a national emergency.

In the two years since then, the pandemic has dramatically impacted global health and the economic environment, including millions of confirmed cases and deaths, business slowdowns or shutdowns, labor shortfalls, supply chain challenges, regulatory challenges, and market volatility.

In response, the U.S.

Congress, through the enactment of the CARES Act in March 2020, and the federal banking agencies, though rulemaking, interpretive guidance and modifications to agency policies and procedures, have taken a series of actions to provide emergency economic relief measures including, among others, the following:

Paycheck Protection Program.

The CARES Act established the PPP, which is administered by the Small Business Administration (“SBA”), to fund payroll and operational costs of eligible businesses, organizations and self-employed persons during the pandemic.

The Bank actively participated in assisting its customers with PPP funding during all phases of the program.

The vast majority of the Bank’s PPP loans made in 2020 have two-year maturities, while the loans made in 2021 have five-year maturities.

Loans under the program earn interest at a fixed rate of 1 percent.

As of December 31, 2021, the Corporation had $106.6 million of PPP loans outstanding compared to the December 31, 2020 balance of $667.1 million.

The Corporation will continue to monitor legislative, regulatory, and supervisory developments related to the PPP.

However, it anticipates that the majority of the Bank’s remaining PPP loans will be forgiven by the SBA in accordance with the terms of the program

Loan Modifications and Troubled Debt Restructures.

The CARES Act, as amended by the 2021 Consolidated Appropriations Act (the "2021 CAA"), allowed banks to suspend requirements under GAAP, effectively, through January 1, 2022, for certain loan modifications related to the COVID-19 pandemic.

The federal banking agencies also issued guidance to encourage banks to make loan modifications for borrowers affected by COVID-19 or offer other borrower friendly options.

In accordance with such guidance, the Bank made various short-term modifications for borrowers who were current and otherwise not past due.

These included short-term, 180 days or less, modifications in the form of payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that were insignificant.

Regulatory Capital.

The CARES Act, the 2021 CAA, and certain actions by federal banking regulators resulted in modifications to, or delays in implementation of, various regulatory capital rules applicable to banking organizations.

For additional information, see “Regulatory Capital” under the “CAPITAL” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

CRITICAL ACCOUNTING ESTIMATE

Generally accepted accounting principles require management to apply significant judgment to certain accounting, reporting and disclosure matters.

2 unchanged sentences

Because of the nature of the judgments and assumptions, actual results could differ from estimates, which could have a material effect on our financial condition and results of operations.

For a complete discussion of the Corporation’s significant accounting policies, see NOTE 1.

NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

The following policies materially affect our reported earnings and financial condition and require significant judgments and estimates.

Business Combinations

Business combinations are accounted for under the acquisition method of accounting.

Under the acquisition method, assets and liabilities of the business acquired are recorded at their estimated fair values as of the date of acquisition with any excess of the cost of the acquisition over the fair value of the net tangible and intangible assets acquired recorded as goodwill.

Results of operations of the acquired business are included in the income statement from the date of acquisition.

Investment Securities

Held to maturity securities are carried at amortized cost when the Corporation has the positive intent and ability to hold them until maturity.

Available for sale securities are recorded at fair value on a recurring basis with the unrealized gains and losses, net of applicable income taxes, recorded in other comprehensive income.

Realized gains and losses are recorded in earnings and the prior fair value adjustments are reclassified within stockholders' equity.

Gains and losses on sales of securities are determined on the specific-identification method.

Amortization of premiums and accretion of discounts are amortized to their earliest call date and are recorded as interest income from securities.

Available for sale and held to maturity securities are evaluated for OTTI at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation.

In determining OTTI, management considers many factors, including:

(1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the Corporation has the intent to sell the debt security or more likely than not, will be required to sell the debt security before its anticipated recovery.

The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time.

When OTTI occurs, the amount of OTTI recognized in the income statement depends on whether the Corporation intends to sell the security or it is more likely than not that the Corporation will be required to sell the security before recovery of its amortized cost basis, less any recognized credit loss.

If the intent is to sell, or it is more likely than not that the Corporation will be required to sell the security before recovery of its amortized cost basis, less any recognized credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis, less any recognized credit loss, and its fair value at the balance sheet date.

If the intent is not to sell the security and it is not more likely than not that the Corporation will be required to sell the security before the recovery of its amortized cost basis less any recognized credit loss, the OTTI has been separated into the amount representing the credit loss and the amount related to all other factors.

The amount of the total OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings.

The amount of the total OTTI related to other factors is recognized in other comprehensive income, net of applicable income taxes.

The previous amortized cost basis less the OTTI recognized in earnings becomes the new amortized cost basis of the investment.

For held to maturity debt securities, the amount of an OTTI recorded in other comprehensive income for the noncredit portion of a previous other-than-temporary impairment is amortized prospectively over the remaining life of the security on the basis of the timing of future estimated cash flows of the security.

The Corporation’s loan portfolio is carried at the principal amount outstanding, net of unearned income and principal charge-offs.

Certain loan fees and direct costs are being deferred and amortized as an adjustment of yield on the loans.

Interest income is accrued on the principal balances of loans.

The accrual of interest is discontinued on a loan when, in management’s opinion, the borrower may be unable to meet payments as they become due.

When the interest accrual is discontinued, all unpaid accrued interest is reversed against earnings when considered uncollectible.

Interest income accrued in the prior year, if any, is charged to the allowance for loan losses.

Interest income is subsequently recognized only to the extent cash payments are received and the loan is returned to accruing status.

Certain non-accrual, substantially delinquent and renegotiated loans classified as troubled debt restructures may be considered to be impaired in accordance with ASC 310, Receivables .

Under ASC 310-10, a loan is impaired when, based on current information or events, it is probable all amounts due (principal and interest) according to the contractual terms of the loan agreement are uncollectible.

Renegotiated consumer loans classified as troubled debt restructures are considered to be impaired.

In applying the provisions of ASC 310-10, the Corporation considers all other investments in one-to-four family residential loans and consumer installment loans to be homogeneous and therefore excluded from separate identification for evaluation of impairment.

Impaired loans are carried at the fair value of collateral if the loan is collateral dependent, or the present value of estimated future cash flows using the loan’s existing rate.

A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance.

If these allocations cause the allowance for loan losses to increase, such increase is reported as a component of the provision for loan losses.

Loan losses are charged against the allowance when management believes the uncollectability of the loan is confirmed.

The valuation would be considered Level 3, consisting of appraisals of underlying collateral and discounted cash flow analysis.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The CARES Act and the Interagency Statement on Loan Modifications encourage financial institutions to work prudently with borrowers who are or may be unable to meet their contractual payment obligations due to the effects of COVID-19.

Additionally, Section 4013 of the CARES Act further provides that a qualified loan modification is exempt by law from classification as a troubled debt restructure as defined by GAAP, from the period beginning March 1, 2020 until the earlier of December 31, 2020 or the date that is 60 days after the date on which the national emergency concerning the COVID-19 outbreak under the National Emergencies Act (50 U.S.C.

1601 et seq.) terminates.

The 2021 Consolidated Appropriations Act extended the expiration date for COVID-related loan modifications exempt from troubled debt restructuring classification under GAAP until the earlier of January 1, 2022, or 60 days after the termination of the national emergency.

Additional details of the Corporation's loan modifications under these programs are included in the "LOAN QUALITY" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

Purchased Loans

Loans acquired in a business combination with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be purchased credit impaired.

Evidence of credit quality deterioration as of purchase dates may include information such as past-due and nonaccrual status, borrower credit risk grade and recent loan to value percentages.

Purchased credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality (ASC 310-30).

These loans are initially measured at fair value based upon expected cash flows without anticipation of prepayments and includes estimated future credit losses expected to be incurred over the life of the loans.

As a result, related discounts are recognized subsequently through accretion based on the expected cash flows of the acquired loans.

For purposes of applying ASC 310-30, loans acquired in business combinations are individually evaluated for the initial fair value measurement.

Accordingly, allowances for credit losses related to these loans are not carried over at the acquisition date.

The difference between contractually required payments and the cash flows expected to be collected at acquisition is referred to as the nonaccretable portion of the fair value discount or premium.

The accretable portion of the fair value discount or premium is the difference between the expected cash flows and the net present value of expected cash flows, with such difference accreted into income over the term of the loans.

Acquired loans not accounted for under ASC 310-30 are accounted for under ASC 310-20, which allows the fair value adjustment to be accreted into income over the remaining life of the loans.

Allowance for Loan Losses

The allowance for loan losses is maintained to absorb losses inherent in the loan portfolio and is based on ongoing, quarterly assessments of the probable losses inherent in the loan portfolio.

The allowance is increased by the provision for loan losses, which is charged against current operating results.

Loan losses are charged against the allowance when management believes the uncollectability of a loan is confirmed.

Subsequent recoveries, if any, are credited to the allowance.

The Corporation’s strategy for credit risk management includes credit policies and underwriting criteria for all loans, as well as an overall credit limit for each customer significantly below legal lending limits.

The strategy also emphasizes diversification on regional geographic and industry levels, regular credit quality reviews and management reviews of large credit exposures and loans experiencing deterioration of credit quality.

The Corporation’s methodology for assessing the appropriateness of the allowance consists of three key elements – the determination of the appropriate reserves for impaired loans accounted for under ASC 310-10, probable losses estimated from historical loss rates, and probable losses resulting from economic, environmental, qualitative or other deterioration above and beyond what is reflected in the first two components of the allowance.

Where appropriate, reserves are allocated to individual loans based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flow and legal options available to the Corporation.

Loans individually evaluated for impairment are those deemed impaired in accordance with ASC 310-10, including commercial relationships greater than $500,000 that exhibit well defined credit weaknesses.

Any allowances for impaired loans are measured based on the fair value of the underlying collateral, if collateral dependent, or the present value of expected future cash flows discounted at the loan’s effective interest rate.

The Corporation evaluates the collectability of principal when assessing the need for a loss accrual.

Historical loss rates are applied to other commercial loans not subject to specific reserve allocations.

The historical allocation for commercial loans graded pass are established by loan segments using loss rates based on the Corporation’s migration analysis.

This migration analysis shows the loss rates for each segment of loans based on the loan grades at the beginning of the twelve month period.

This loss rate is then applied to the current portfolio of loans in each respective loan segment.

Homogenous loans, such as consumer installment and residential mortgage loans, are not individually risk graded.

Reserves are established for each segment of loans using loss rates based on charge-offs for the same period as the migration analysis used for commercial loans.

Historical loss allocations for commercial and consumer loans may be adjusted for significant factors that, in management’s judgment, reflect the impact of any current conditions on loss recognition.

Factors which management considers in the analysis include the effects of the national and local economies, trends in loan growth and charge-off rates, changes in mix, concentration of loans in specific industries, asset quality trends (delinquencies, charge-offs and non-accrual loans), risk management and loan administration, changes in the internal lending policies and credit standards, examination results from bank regulatory agencies and the Corporation’s internal loan review.

Effective January 1, 2021, the Corporation adopted ASU 2016-13, Financial Instruments - Measurement of Current Expected Credit Losses on Financial Instruments ("CECL"), which will modify the accounting for the allowance for loan losses from an incurred loss model to an expected loss model, as discussed more fully under NOTE 1.

For a complete discussion of the Corporation’s significant accounting policies and the adoption of ASC Topic 326, Financial Instruments – Credit Losses, see NOTE 1.

NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Goodwill and Intangibles

For acquisitions, assets acquired, including identified intangible assets, and the liabilities assumed are required to be recorded at their fair value.

These often involve estimates based on third party valuations, such as appraisals, or internal valuations based on discounted cash flow analysis or other valuation techniques that may include estimates of attrition, inflation, asset growth rates, or other relevant factors.

In addition, the determination of the useful lives over which the intangible asset will be amortized is subjective.

Intangible Assets that are subject to amortization, including core deposit intangibles, are being amortized on both the straight-line and accelerated basis over two to ten years.

Intangible assets are periodically evaluated as to the recoverability of their carrying value.

Under ASC 350, Intangibles – Goodwill and Other , the Corporation must review goodwill for impairment on an annual basis, as well as on an interim basis if events or changes indicate that the asset might be impaired.

An impairment loss must be recognized for any excess of carrying value over fair value of the goodwill.

The Corporation completed its most recent annual goodwill impairment test as of October 1, 2020 and concluded, based on current events and circumstances, goodwill is not impaired.

Details of the Corporation's goodwill impairment test are included in NOTE 8.

GOODWILL of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Derivative Instruments

Derivative instruments, which are recorded as assets or liabilities in the consolidated balance sheets, are carried at fair value of the derivatives and reflects the estimated amounts that would have been received to terminate these contracts at the reporting date based upon pricing or valuation models applied to current market information.

As part of the asset/liability management program, the Corporation will utilize, from time to time, interest rate floors, caps or swaps to reduce its sensitivity to interest rate fluctuations.

Changes in the fair values of derivatives are reported in the consolidated statements of operations or AOCI depending on the use of the derivative and whether the instrument qualifies for hedge accounting.

The key criterion for hedge accounting is that the hedged relationship must be highly effective in achieving offsetting changes in those cash flows that are attributable to the hedged risk, both at inception of the hedge and on an ongoing basis.

Derivatives that qualify for the hedge accounting treatment are designated as either:

(1) a hedge of the fair value of the recognized asset or liability, or of an unrecognized firm commitment (a fair value hedge);

or (2) a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (a cash flow hedge).

To date, the Corporation has only entered into a cash flow hedge.

For cash flow hedges, changes in the fair values of the derivative instruments are reported in AOCI to the extent the hedge is effective.

The gains and losses on derivative instruments that are reported in AOCI are reflected in the consolidated statements of income in the periods in which the results of operations are impacted by the variability of the cash flows of the hedged item.

Generally, net interest income is increased or decreased by amounts receivable or payable with respect to the derivatives, which qualify for hedge accounting.

At inception of the hedge, the Corporation establishes the method it uses for assessing the effectiveness of the hedging derivative and the measurement approach for determining the ineffective aspect of the hedge.

The ineffective portion of the hedge, if any, is recognized in the consolidated statements of income.

The Corporation excludes the time value expiration of the hedge when measuring ineffectiveness.

The Corporation offers interest rate derivative products (e.g.

interest rate swaps) to certain of its high-quality commercial borrowers.

This product allows customers to enter into an agreement with the Corporation to swap their variable rate loan to a fixed rate.

These derivative products are designed to reduce, eliminate or modify the risk of changes in the borrower’s interest rate or market price risk.

The extension of credit incurred through the execution of these derivative products is subject to the same approvals and rigorous underwriting standards as the related traditional credit product.

The Corporation limits its risk exposure to these products by entering into a mirror-image, offsetting swap agreement with a separate, well-capitalized and rated counterparty previously approved by the Credit and Asset Liability Committee.

By using these interest rate swap arrangements, the Corporation is also better insulated from the interest rate risk associated with underwriting fixed-rate loans.

These derivative contracts are not designated against specific assets or liabilities under ASC 815, Derivatives and Hedging , and, therefore, do not qualify for hedge accounting.

The derivatives are recorded on the balance sheet at fair value and changes in fair value of both the customer and the offsetting swap agreements are recorded (and essentially offset) in non-interest income.

The fair value of the derivative instruments incorporates a consideration of credit risk (in accordance with ASC 820, Fair Value Measurements and Disclosures ), resulting in some volatility in earnings each period.

Income tax expense in the consolidated statements of income is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities.

Deferred tax assets and liabilities are the expected future tax amounts from the temporary differences between carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates.

A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.

The Corporation files consolidated income tax returns with its subsidiaries.

The Corporation is generally no longer subject to U.S.

federal, state and local income tax examinations by tax authorities for tax years before 2017.

The Corporation adopted the provisions of the ASC 740, Income Taxes , which prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.

ASC 740 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

As a result of the implementation of ASC 740, the Corporation did not identify any uncertain tax positions that it believes should be recognized in the financial statements.

The Corporation reviews income tax expense and the carrying value of deferred tax assets and liabilities quarterly;

as new information becomes available, the balances are adjusted, if applicable.

The Corporation's policy is to recognize interest and penalties related to unrecognized tax benefits, if any, as a component of income tax expense.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

COVID-19, THE CARES ACT, THE 2021 CONSOLIDATED APPROPRIATIONS ACT AND RELATED REGULATORY ACTIONS

Impact of COVID-19

On January 30, 2020, the World Health Organization (“WHO”) announced that the outbreak of COVID-19 constituted a public health emergency of international concern.

On March 11, 2020, WHO declared COVID-19 to be a global pandemic and, on March 13, 2020, the President of the United States declared the COVID-19 outbreak a national emergency.

The health concerns relating to the COVID-19 outbreak and related governmental actions taken to reduce the spread of the virus have significantly impacted the global economy (including the states and local economies in which the Corporation operates), disrupted supply chains, lowered equity market valuations, and created significant volatility and disruption in financial markets.

The outbreak has resulted in authorities implementing numerous measures to try to contain the virus, such as travel bans and restrictions, quarantines, shelter in place or total lock-down orders and business limitations and shutdowns.

As a result of the shelter in place mandates in effect beginning early in the second quarter of 2020, commercial activity throughout our geographic footprint, as well as nationally, decreased significantly during 2020.

Most states have reopened, albeit under limited capacities and under other social distancing restrictions;

however, commercial activity has not returned to the levels existing prior to the outbreak of the pandemic.

Such measures have significantly contributed to rising unemployment and negatively impacted consumer and business spending.

As a result, the demand for the Corporation’s products and services has been, and will continue to be, significantly impacted.

The continued impact of COVID-19 on the Corporation will depend on numerous factors and future developments that are highly uncertain and cannot be predicted with confidence.

It is unknown how long the COVID-19 pandemic will last, or when restrictions on individuals and businesses will be fully lifted and businesses and their employees will be able to resume normal activities.

Additional information may emerge regarding the severity of COVID-19 and additional actions may be taken by federal, state and local governments to contain COVID-19 or treat its impact.

Changes in the behavior of customers, businesses and their employees as a result of COVID-19 pandemic, including social distancing practices, even after formal restrictions have been lifted and vaccination rates have increased, are also unknown.

As a result of COVID-19 and the actions taken to contain it or reduce its impact, we may experience changes in the demand for our products and services, changes in the value of collateral securing outstanding loans, reductions in the credit quality of borrowers and the inability of borrowers to repay loans in accordance with their terms.

Our commercial and consumer customers are experiencing varying degrees of financial distress, which is expected to continue in 2021, especially if positive cases increase and economic shutdowns continue.

These and similar factors and events may have substantial negative effects on the business, financial condition and results of operations of the Corporation and its customers.

While we expect nearly every industry to have some impact from COVID-19, some industries will be impacted more than others.

In particular, senior living, hotel and accommodations, and restaurants and food service have been the most affected by COVID-19 and account for approximately 7 percent of total loans.

We have taken deliberate actions to ensure that we have the balance sheet strength to serve our clients and communities, including increases in liquidity and managing our assets and liabilities in order to maintain a strong capital position.

Additionally, in response to the COVID-19 pandemic, we have taken a number of actions to offer various forms of support to our customers, employees and communities that have experienced impacts from this development.

The Corporation contributed approximately $1 million to non-profit organizations in our communities on the front lines of fighting the COVID-19 pandemic.

In response to social distancing protocols, we have modified office locations by installing protective barriers, required the use of personal protective equipment and incurred additional cleaning and janitorial expense to disinfect banking centers and office locations, which cost $1.5 million.

Additionally, we have enhanced mobile and online services, such as increased mobile deposit limits, to allow more transactions to be completed outside the banking centers.

We have also provided customer alerts focused on COVID-19 scams and fraud education and prevention.

Interest Rates

On March 3, 2020, the Federal Open Market Committee ("FOMC") reduced the target range for the federal funds rate by 50 basis points to 1.00 percent to 1.25 percent.

This rate was further reduced to a target range of 0 percent to 0.25 percent on March 16, 2020.

Additionally, there was a decline in one-month LIBOR from 1.76 percent as of December 31, 2019 to .14 percent on December 31, 2020.

These reductions in interest rates and other effects of the COVID-19 outbreak are likely to negatively impact the Corporation’s net interest income.

The CARES Act and the Paycheck Protection Program

On March 27, 2020, the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) was signed into law, providing an approximately $2 trillion stimulus package that includes direct payments to individual taxpayers, economic stimulus to significantly impacted industry sectors, emergency funding for hospitals and providers, small business loans, increased unemployment benefits, and a variety of tax incentives.

For small businesses, eligible nonprofits and certain others, the CARES Act established a Paycheck Protection Program (“PPP”), which is administered by the Small Business Administration (“SBA”).

On April 24, 2020, the Paycheck Protection Program and Health Care Enhancement Act was enacted.

Among other things, this legislation amends the initial CARES Act program by raising the appropriation level for PPP loans from $349 billion to $670 billion.

The PPP was further modified on June 5, 2020 with the adoption of the Paycheck Protection Program Flexibility Act (the Flexibility Act), which extended the maturity date for PPP loans from two years to five years for loans disbursed on or after the date of enactment of the Flexibility Act.

For PPP loans disbursed prior to such enactment, the Flexibility Act permits the borrower and lender to mutually agree to extend the term of the loan to five years.

The Bank has actively participated in assisting its customers with applications for resources through the program.

PPP loans earn interest at a fixed rate of 1 percent and primarily have a two-year term.

The Bank anticipates that the majority of these loans will ultimately be forgiven, in whole or in part, by the SBA in accordance with the terms of the program.

Under the terms of the PPP, the loans are fully guaranteed by the SBA.

As of December 31, 2020, the Bank had over 4,400 PPP loans representing $667.1 million, which is net of $12.5 million of deferred processing fee income and costs.

The weighted-average deferred processing fee on PPP loans was approximately 3.09 percent and is recognized over the term of the loan.

If a loan is forgiven by the SBA or paid off by the borrower prior to maturity, any unamortized portion of the fee will be recognized immediately.

During the year ended December 31, 2020, the Corporation recognized interest income on PPP loans of $6.2 million and $16.2 million of PPP loan related deferred processing fee income as a yield adjustment.

As discussed in NOTE 5.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, the allowance for credit losses on loans is a contra-asset valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected.

The amount of allowance represents management's best estimate of current expected credit losses on loans considering available information, from internal and external sources, relevant to assessing exposure to credit loss over the contractual term of the instrument.

Relevant available information includes historical credit loss experience, current conditions and reasonable and supportable forecasts.

While historical credit loss experience provides the basis for the estimation of expected credit losses, the Corporation qualitatively adjusts model results for risk factors that are not inherently considered in the quantitative modeling process, but are nonetheless relevant in assessing the expected credit losses within the loan portfolio.

These adjustments may increase or decrease the estimate of expected credit losses based upon the assessed level of risk for each qualitative factor.

The various risks that may be considered in making qualitative adjustments include, among other things, the impact of (i) changes in the nature and volume of the loan portfolio, (ii) changes in the existence, growth and effect of any concentrations in credit, (iii) changes in lending policies and procedures, including changes in underwriting standards and practices for collections, write-offs, and recoveries, (iv) changes in the quality of the credit review function, (v) changes in the experience, ability and depth of lending management and staff, and (vi) other environmental factors such as regulatory, legal and technological considerations, as well as competition.

While management utilizes its best judgment and information available, the ultimate adequacy of the allowance is dependent upon a variety of factors beyond management’s control, which includes, but is not limited to, the performance of the loan portfolio, the economy, changes in interest rates and the view of the regulatory authorities toward classification of assets.

RESULTS OF OPERATIONS - 2021

Net income available to stockholders for the year ended December 31, 2021 was $205.5 million compared to $148.6 million for the year ended 2020.

Earnings per fully diluted common share for 2021 totaled $3.81 compared to $2.74 for 2020.

As of December 31, 2021, total assets equaled $15.5 billion, an increase of $1.4 billion, or 9.9 percent, from December 31, 2020.

The Corporation experienced organic loan growth of $566.4 million, or 6.6 percent during 2021.

This was offset by SBA forgiveness of PPP loans of $560.5 million, resulting in net loan growth of $5.9 million from December 31, 2020.

At December 31, 2021, the Corporation's PPP loan portfolio, primarily included in the commercial and industrial loan class, totaled $106.6 million, a decrease of $560.5 million from the December 31, 2020 balance of $667.1 million.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The 2021 Consolidated Appropriations Act

On December 27, 2020, a $900 billion COVID-19 relief package, as passed by the U.S.

Congress, was signed into law as part of the 2021 Consolidated Appropriations Act (“CAA”) that provides federal government funding through the end of its 2021 fiscal year.

In addition to delivering direct stimulus payments to certain individuals, an increase in unemployment insurance benefits, an extension of the eviction moratorium, relief to the healthcare industry, and additional aid to various other businesses, the COVID-19-related provisions of the CAA provide for (i) an additional $284 billion in funding for the PPP, through March 31, 2021, (ii) an extension of the temporary delay for implementation of the CECL accounting standard, and (iii) further suspension of the troubled debt restructure assessment and reporting requirements for financial institutions under GAAP.

Main Street Business Lending Program

On April 9, 2020, the Federal Reserve announced its proposed Main Street emergency lending initiative as an additional measure to provide much-needed financial support to small and mid-sized businesses adversely impacted by the COVID-19 pandemic.

The Main Street programs are intended to provide credit flows to financial institutions so that they can provide loans to eligible small and mid-sized businesses.

The funds available through the Main Street programs amount to $600 billion.

Under this initiative, which was modified and supplemented by the Federal Reserve on April 30, 2020, three loan facilities have been established for "for profit" entities:

(i) the Main Street New Loan Facility (the “MSNLF), (ii) the Main Street Priority Loan Facility (the “MSPLF”);

and (iii) the Main Street Expanded Loan Facility (the “MSELF”), each of which was authorized by the Federal Reserve under Section 13(3) of the Federal Reserve Act.

All three facilities use the same eligible lender and eligible borrower criteria, and have many of the same features, including the same maturity, interest rate, deferral of principal and interest for one year, and ability of the borrower to prepay without penalty.

As required by the CARES Act, Main Street loans are full-recourse to the borrower and are not forgivable.

The loan types differ in amounts and other terms, including in how they interact with the eligible borrower’s existing outstanding debt.

The proposed minimum loan amounts under the MSNLF and the MSPLF were initially set at $250,000, but were lowered to $100,000 by the Federal Reserve effective October 30, 2020.

The minimum loan amount under the MSELF has been set at $10 million.

The maximum loan amount under all three programs is dependent upon the borrower's financial position.

The Bank was an approved lender for all three Main Street programs until the program's termination on January 8, 2021.

Paycheck Protection Program Liquidity Facility

To provide liquidity to small business lenders and the broader credit markets, to help stabilize the financial system, and to provide economic relief to small businesses nationwide, the Federal Reserve authorized each of the Federal Reserve Banks to participate in the Paycheck Protection Program Liquidity Facility (the “PPPL Facility”), pursuant to the Federal Reserve Act.

Under the PPPL Facility, each of the Federal Reserve Banks will extend non-recourse loans to eligible financial institutions such as the Bank to fund loans guaranteed by the SBA under the PPP.

The Bank has until March 31, 2021 to access funds under the PPPL Facility, unless further extended by the Federal Reserve and the Department of the Treasury.

At December 31, 2020, the Corporation did not have an outstanding balance with the PPPL Facility.

Loan Modifications and Troubled Debt Restructures

On March 22, 2020, a statement was issued by the Bank's banking regulators and titled the “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus” (the "Interagency Statement") that encourages financial institutions to work prudently with borrowers who are or may be unable to meet their contractual payment obligations due to the effects of COVID-19.

1601 et seq.) terminates.

The Interagency Statement was subsequently revised on April 7, 2020 to clarify the interaction of the original guidance with Section 4013 of the CARES Act, as well as setting forth the banking regulators’ views on consumer protection considerations.

In accordance with such guidance, the Bank has offered short-term modifications made in response to COVID-19 to borrowers who were current and otherwise not past due.

These included short-term, 180 days or less, modifications in the form of payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant.

The CAA, as described above, extended the expiration date for COVID-related loan modifications exempt from troubled debt restructuring classification until the earlier of January 1, 2022, or 60 days after the termination of the national emergency.

As of December 31, 2020, $120.3 million in loan balances remained in deferral.

Details of the modifications are included in the "LOAN QUALITY" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

Optional Delay of CECL Implementation

Accounting Standards Update No.

2016-13, Financial Instruments - Credit Losses (Topic 326):

Measurement of Credit losses on Financial Instruments ("CECL") had an original adoption date of January 1, 2020, which included a day 1 measurement date of January 1, 2020.

The CARES Act, passed by Congress on March 27, 2020 in response to the COVID-19 pandemic, created an optional deferral of the CECL adoption date.

Pursuant to the CARES Act and the related joint statement of federal banking regulators (which also became effective as of March 27, 2020), and consistent with guidance from the SEC and FASB, the Corporation elected to delay implementation of ASU No.

2016-13, which was set to expire on December 31, 2020.

However, the CAA amended the CARES Act by extending the temporary relief from CECL compliance to the earlier of the first day of the fiscal year that begins after the date on which the national emergency concerning COVID-19 terminates, or January 1, 2022.

The Corporation elected to delay implementation of CECL following the approval of the CARES Act and, with the enactment of the CAA, the Corporation has elected to further delay adoption of CECL to January 1, 2021.

This will allow the Corporation to utilize the CECL standard for the entire year of adoption.

As a result of the Corporation’s election, its 2020 financial statements have been prepared under the existing incurred loss model.

The largest loan classes that experienced increases from December 31, 2020 were public finance and other commercial loans, real estate construction loans and commercial real estate (owner occupied) loans.

As noted above, PPP loans, which are primarily included in the commercial and industrial loan class, decreased $560.5 million from December 31, 2020, and when coupled with organic commercial and industrial loan growth of $498.4 million, the net decrease in the commercial and industrial loan class was $62.1 million.

Other loan classes that experienced significant decreases from December 31, 2020 were commercial real estate (non-owner occupied) loans, residential real estate loans and agricultural land, production and other loans to farmers.

Additional details of the changes in the Corporation's loan portfolio are discussed within NOTE 5.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, and the "LOAN QUALITY AND PROVISION FOR CREDIT LOSSES ON LOANS" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

Total investment securities increased $1.4 billion, or 43.8 percent, from December 31, 2020.

The Corporation purchased investment securities by utilizing excess liquidity from deposit growth, which was held in interest-bearing deposits and cash and cash equivalents, in addition to liquidity from SBA forgiveness of PPP loans.

Additional details of the Corporation's investment securities portfolio are discussed within NOTE 4.

INVESTMENT SECURITIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

The Corporation’s allowance for credit losses - loans totaled $195.4 million as of December 31, 2021 and equaled 2.11 percent of total loans.

The Corporation adopted the current expected credit losses ("CECL") model for calculating the allowance for credit losses on January 1, 2021.

CECL replaces the previous "incurred loss" model for measuring credit losses, which encompassed allowances for current known and inherent losses within the portfolio, with an "expected loss" model for measuring credit losses, which encompasses allowances for losses expected to be incurred over the life of the portfolio.

The new CECL model requires the measurement of all expected credit losses for financial assets measured at amortized cost and certain off-balance sheet credit exposures based on historical experiences, current conditions, and reasonable and supportable forecasts.

CECL also requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as credit quality and underwriting standards of an organization's portfolio.

The impact of the adoption was an increase to the Allowance for Credit Losses - Loans of $74.1 million.

Additional details of the Allowance methodology are discussed within NOTE 5.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

The Corporation did not recognize any provision expense during the year ended December 31, 2021, compared to provision expense of $58.7 million for the year ended 2020.

The provision expense taken in 2020 primarily reflected the Corporation's view of increased credit risk related to the COVID-19 pandemic.

The Corporation recognized net charge-offs during 2021 of $9.3 million, compared to $8.3 million in 2020.

Non-accrual loans totaled $43.1 million, a decrease of $18.4 million from December 31, 2020, resulting in a coverage ratio of 453.8 percent.

Additional details of the Corporation's credit quality are discussed within the “LOAN QUALITY AND PROVISION FOR CREDIT LOSSES ON LOANS” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

In 2020, the Corporation announced a banking delivery transformation strategy, which included the consolidation of seventeen banking centers across its footprint by April 30, 2021.

As those consolidations finalized in the second quarter of 2021, the fair value of the closed banking centers of $4.5 million was moved from premises and equipment to assets held for sale (recorded in other assets) while they are marketed for sale.

The Corporation’s tax asset, deferred and receivable increased from $12.3 million at December 31, 2020 to $35.6 million at December 31, 2021.

The Corporation’s net deferred tax asset increased from $4.3 million at December 31, 2020 to $24.3 million at December 31, 2021.

The $20.0 million increase in the Corporation’s net deferred tax asset was due to a combination of an increase in deferred tax assets and a decrease in deferred tax liabilities.

The largest deferred tax asset increases were associated with the tax effect of the implementation and accounting for CECL of $21.1 million and accounting for unrealized gains and losses on available for sale securities of $7.5 million.

Offsetting the increases to the net deferred tax asset were net deferred tax decreases associated with accounting for loan fees and accounting for pensions and employee benefits of $2.3 million and $3.3 million, respectively.

The Corporation's other assets decreased $5.9 million from December 31, 2020.

The Corporation's derivative asset (recorded in other assets) and derivative liability (recorded in other liabilities) related to interest rate contracts decreased $33.2 million and $34.4 million, respectively, from December 31, 2020.

The decreases in valuations are due to higher yield curve rates across the entire term point spectrum.

The higher interest rates are the result of higher inflation expectations, current increases in short-term rate trajectories, Federal Reserve tapering and increases in term premiums.

Offsetting the decrease in the Corporation's derivative asset was an increase in the Corporation's prepaid pension of $12.1 million and investments in community redevelopment funds of $7.4 million.

As of December 31, 2021, total deposits equaled $12.7 billion, an increase of $1.4 billion from December 31, 2020.

The Corporation experienced increases from December 31, 2020 in demand and savings accounts of $883.0 million and $673.1 million, respectively.

A portion of the increase is due to PPP loans that have remained on deposit, in addition to consumer Economic Impact Payments from the IRS that have also remained on deposit.

Offsetting these increases were decreases in certificates of deposit and brokered deposits of $142.2 million and $42.9 million, respectively, from December 31, 2020.

The low interest rate environment has resulted in customers moving funds from maturing time deposit products into non-maturity products due to similar rates offered for both products.

Total borrowings decreased $50.7 million as of December 31, 2021, compared to December 31, 2020.

Federal Home Loan Bank advances decreased $55.4 million compared to December 31, 2020 as the Corporation utilized excess liquidity from deposit growth to pay off maturing advances.

Additionally, securities sold under repurchase agreements increased by $4.5 million.

The Corporation's other liabilities as of December 31, 2021 increased $29.2 million compared to December 31, 2020.

As part of the CECL adoption on January 1, 2021, the Corporation recorded a $20.5 million allowance for credit losses on off-balance sheet credit exposures as a liability account.

This amount represents expected credit losses over the contractual period for which the Corporation is exposed to credit risk resulting from a contractual obligation to extend credit.

The Corporation also accrued $46.1 million of trade date accounting related to loan and investment securities purchases as of December 31, 2021, of which, the accrual was $6.2 million as of December 31, 2020.

Additionally, as noted above, the derivative hedge liability decreased $34.4 million from December 31, 2020.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Regulatory Capital

As part of the March 27, 2020 joint statement of federal banking regulators discussed above, an interim final rule that allows banking organizations to mitigate the effects of the CECL accounting standard on their regulatory capital was also announced.

Banking organizations that are required under GAAP to adopt CECL during 2020 can elect to mitigate the estimated cumulative regulatory capital effects of CECL for up to two years.

This two-year delay is in addition to the three-year transition period that federal banking regulators had already made available.

While the Corporation has elected to delay implementation of ASU No.

2016-13 as described above, it expects to take advantage of the additional time permitted by this interim final rule, which will largely delay the effects of CECL on its regulatory capital through December 31, 2022.

Beginning on January 1, 2023, the Corporation will be required to phase in 25 percent of the previously deferred estimated capital impact of CECL, with an additional 25 percent to be phased in at the beginning of each subsequent year until fully phased in by January 1, 2026.

Under the interim final rule, the amount of adjustments to regulatory capital that can be deferred until the phase-in period includes both the initial impact of our adoption of CECL, and 25 percent of subsequent changes in our allowance for credit losses during each quarter following implementation of CECL until December 31, 2022.

PPP Loans and PPPL Facility.

On April 9, 2020, federal banking regulators issued an interim final rule to modify the Basel III regulatory capital rules applicable to banking organizations to allow those organizations participating in the PPP to neutralize the regulatory capital effects of participating in the program.

The interim final rule, which became effective on April 13, 2020, clarifies that PPP loans receive a zero percent risk weight for purposes of determining risk-weighted assets and the CET1, Tier 1 and Total Risk-Based capital ratios.

At December 31, 2020, risk-weighted assets included $667.1 million of PPP loans at a zero risk weight.

Additionally, in order to facilitate use of the PPPL Facility, the agencies have clarified that banking organizations, including the Corporation and the Bank, are allowed to neutralize the regulatory effects of PPP covered loans on the risk-based capital ratios, as well as PPP covered loans pledged under the PPPL Facility on the leverage capital ratios.

At December 31, 2020, the Corporation did not have an outstanding balance with the PPPL Facility;

therefore there were no adjustments to the leverage ratio for PPP loans.

The Corporation continued to maintain all regulatory capital ratios in excess of the regulatory definition of “well-capitalized.” Details of the Corporation's stock repurchase program and regulatory capital ratios are discussed within the “CAPITAL” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

RESULTS OF OPERATIONS - 2020

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Additional details of the changes in the Corporation's loans are discussed within NOTE 5.

LOANS AND ALLOWANCE of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, and the "LOAN QUALITY" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, and the "LOAN QUALITY" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

Interest-bearing deposits increased $274.0 million from December 31, 2019 due to excess liquidity from deposit growth and an increase in wholesale funding.

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Additional details of the changes in the Corporation's allowance for loan losses are discussed within NOTE 5.

LOANS AND ALLOWANCE of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, and the "PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K, and the "PROVISION EXPENSE AND ALLOWANCE FOR CREDIT LOSSES ON LOANS" section of this Management's Discussion and Analysis of Financial Condition and Results of Operations.

Accounting Standards Update No.

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As a result of the Corporation’s election, its 2020 financial statements have been prepared under the existing incurred loss model.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Non-accrual loans totaled $61.5 million at December 31, 2020, an increase of $45.6 million from the December 31, 2019 balance of $15.9 million.

1 unchanged sentence

The total reported balance of these four loans was $40.0 million.

Additional details of the Allowance for Loan Losses and non-performing loans are discussed within the “LOAN QUALITY" and "PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES” sections of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Additional details of the Allowance for Loan Losses and non-performing loans are discussed within the “LOAN QUALITY" and "PROVISION EXPENSE AND ALLOWANCE FOR CREDIT LOSSES ON LOANS” sections of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The Corporation's other assets increased $45.9 million from December 31, 2019.

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The low interest rate environment has resulted in customers migrating funds from maturing time deposit products into non-maturity products due to similar rates offered for both products.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Total borrowings decreased $47.8 million as of December 31, 2020, compared to December 31, 2019.

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The Corporation was able to maintain all regulatory capital ratios in excess of the regulatory definition of “well-capitalized.” Details of the Stock Repurchase Programs and regulatory capital ratios are discussed within the “CAPITAL” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

RESULTS OF OPERATIONS – 2019

Net income available to stockholders for the year ended December 31, 2019 was $164.5 million compared to $159.1 million during the same period in 2018.

Earnings per fully diluted common share for 2019 totaled $3.19 compared to $3.22 during the same period in 2018.

Included in the 2019 results were $13.7 million, or $0.21 per share, of acquisition-related expenses associated with the acquisition of MBT.

Details of the MBT acquisition, which occurred on September 1, 2019, are included within NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

As of December 31, 2019, total assets equaled $12.5 billion compared to $9.9 billion as of year end 2018, an increase of $2.6 billion, or 26.0 percent.

The MBT acquisition resulted in $1.5 billion of the asset increase in 2019.

The Corporation's total loan portfolio equaled $8.5 billion as of December 31, 2019, an increase of $1.2 billion, or 17.1 percent from December 31, 2018.

Excluding the MBT loans acquired of $732.6 million, the Corporation's loan portfolio grew organically in 2019 by $506.5 million, or 7 percent.

The Corporation’s allowance for loan losses totaled $80.3 million as of December 31, 2019, a slight decrease compared to $80.6 million as of December 31, 2018, due to declines in delinquent, impaired and non-accrual loans during 2019.

Non-accrual loans decreased $10.2 million, or 39 percent during 2019 and the allowance provides 503.4 percent coverage of all non-accrual loans and 0.95 percent of total loans at December 31, 2019.

Details of the Allowance for Loan Losses and non-performing loans are discussed within the “LOAN QUALITY" and "PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES” sections of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The Corporation's investment securities portfolio increased $963.5 million from December 31, 2018, and totaled $2.6 billion as of December 31, 2019.

The MBT acquisition accounted for $212.2 million of the increase and excess liquidity from deposit growth was deployed in the investment portfolio, which also contributed to the increase from December 31, 2018.

Details of the composition of the Corporation's investment securities portfolio are included within NOTE 4.

INVESTMENT SECURITIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Corporation's other assets increased $52.4 million from December 31, 2018 due in part to implementation of new lease accounting guidance in ASU 2016-02, Leases (Topic 842), associated with the Corporation's leased banking center locations.

As of December 31, 2019, the Corporation's right of use asset (recorded in other assets) was $20.7 million and the lease liability (recorded in other liabilities) was $21.4 million.

The new lease accounting guidance and lease disclosures are discussed within NOTE 1.

NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES and NOTE 10.

LEASES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Additionally, the Corporation's derivative hedge asset (recorded in other assets) and derivative hedge liability (recorded in other liabilities), related to the Corporation's interest rate swaps with commercial banking customers, which are simultaneously hedged by offsetting interest rate swaps with a third party, increased $15.8 million and $16.7 million, respectively from December 31, 2018.

The increases were primarily due to a $214.5 million increase in outstanding notional balance and yield curve rates used for valuation purposes were lower at each term point as of December 31, 2019 compared to December 31, 2018.

Details of the Corporation's derivative activity is detailed in NOTE 14.

DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITY of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Total deposits of $9.8 billion increased $2.1 billion, or 26.9 percent, from December 31, 2018.

The MBT acquisition on September 1, 2019 resulted in $1.1 billion of acquired deposits.

Organic deposit growth of $979.4 million, or 12.6 percent, also contributed to the increase in 2019.

Excluding deposits from the MBT acquisition, the largest increases were in demand, savings and time deposits.

Total borrowings as of December 31, 2019 increased $61.7 million from December 31, 2018.

FHLB advances increased $36.1 million, which included $10.9 million in FHLB advances from the MBT acquisition, while federal funds purchased decreased $49.0 million.

Securities sold under repurchase agreements increased $74.4 million from December 31, 2018, as a result of the MBT acquisition, which accounted for a $94.8 million increase.

Additional details related to the changes in deposits and borrowings are detailed within NOTE 11.

DEPOSITS and NOTE 13.

BORROWINGS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K and the “Deposits and Borrowings” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The Corporation continued to maintain all regulatory capital ratios in excess of the regulatory definition of “well-capitalized” as discussed in the “CAPITAL” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

NET INTEREST INCOME

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Net interest income and margin are influenced by many factors, primarily the volume and mix of earning assets, funding sources, and interest rate fluctuations.

Other factors include the level of accretion income on purchased loans, prepayment risk on mortgage and investment-related assets, and the composition and maturity of earning assets and interest-bearing liabilities.

Loans typically generate more interest income than investment securities with similar maturities.

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Net interest margin, on a tax equivalent basis, decreased 11 basis points to 3.18 percent for 2021 compared to 3.29 percent in 2020.

For the year ended December 31, 2020, the increase in average earning assets of $2.1 billion was primarily attributable to an increase in loans and investment securities of $1.4 billion and $635.5 million, respectively.

The earning assets from the September 1, 2019 MBT acquisition were included in the 2020 average balances for an entire year compared to only four months in 2019.

Additionally, the Bank originated over $900 million of PPP loans which averaged $601.8 million for the year.

The increase in the investment securities portfolio was the result of excess liquidity generated from growth in deposits and wholesale funding being used to invest in the bond portfolio.

For the year ended December 31, 2021, the increase in average earning assets of $1.5 billion was primarily attributable to an increase in investment securities of $1.1 billion.

Additionally, since the beginning of the PPP in April 2020, the Bank originated over $1.2 billion of PPP loans which averaged $433.7 million in 2021 and $601.8 million in 2020.

The Corporation's organic loan growth offset the decline in PPP loans and resulted in an increase in average loans of $119.5 million.

The liquidity generated from the SBA forgiveness of PPP loans, coupled with excess liquidity generated from deposit growth, resulted in the Corporation's utilization of the liquidity for organic loan growth and investment securities purchases.

Asset yields decreased 40 basis points FTE in 2021 compared to 2020.

This decrease was primarily a result of the FOMC's interest rate decreases of 50 basis points on March 3, 2020 and 100 basis points on March 16, 2020 at the Committee's special meetings related to COVID-19.

Additionally, one-month LIBOR also saw a significant decline from January 1, 2020 of 1.73 percent to December 31, 2021 of 0.10 percent.

The yield of the investment portfolio decreased 28 basis points compared to the same period in 2020 as the current year purchases had a lower yield than the historic yield of the portfolio.

The loan portfolio, which generally has an average yield higher than the investment portfolio, was 67.5 percent of earning assets in 2021 compared to 74.7 percent in 2020.

Average investment securities were 28.4 percent of total earning assets compared to 22.5 percent in 2020.

The PPP loans originated in 2021 and 2020 were recorded at an interest rate of only 1 percent, but the Corporation also recognized fee income of $26.5 million in 2021, compared to $16.2 million in 2020, which is included in interest income.

The Corporation also recognized fair value accretion income on purchased loans, which is included in interest income, of $7.3 million, which accounted for 5 basis points of net interest margin for the year ended December 31, 2021.

Comparatively, the Corporation recognized $13.5 million of fair value accretion income, which accounted for 11 basis points of net interest margin for the year ended December 31, 2020.

Interest costs decreased 35 basis points, which mitigated a majority of the decrease in asset yields and resulted in only a 5 basis point FTE decrease in net interest spread as compared to the same period in 2020.

Interest costs have decreased as management aggressively moved deposit rates down as wholesale funding rates declined and market conditions allowed.

Interest-bearing deposits and borrowing costs for the twelve months ended December 31, 2021 were 0.24 percent and 1.97 percent, respectively, compared to 0.60 percent and 1.91 percent, respectively, during the same period in 2020.

Average borrowings decreased $128 million from 2020 as excess liquidity was used to payoff maturing FHLB advances.

Average non-interest bearing deposits increased $448.2 million and equated to 20.7 percent of total deposits, compared to 19.3 percent in 2020.

This increase, combined with the decrease in interest rates on interest-bearing deposits and debt repayments, resulted in a total cost of funds of 35 basis points compared to 70 basis points in 2020.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

In 2020, the increases in net interest income and average earning assets were primarily attributable to an increase in loans and investment securities portfolio.

Asset yields decreased 94 basis point FTE and interest costs decreased 67 basis points, resulting in a 27 basis point FTE decrease in net interest spread as compared to 2019.

The decrease in asset yields was primarily a result of the FOMC's interest rate decreases of 50 basis points on March 3, 2020 and 100 basis points on March 16, 2020 at the Committee's special meetings related to COVID-19, and the decline in one-month LIBOR from December 31, 2019 to December 31, 2020 of 162 basis points.

The PPP loans originated in 2020 were recorded at an interest rate of only 1 percent, but the Corporation also recognized fee income of $16.2 million during 2020, which is included in interest income and had a positive impact to net interest margin of 2 basis points for 2020.

Average earning assets increased 2.1 billion in 2020 compared to 2019 primarily due to the September 1, 2019 MBT acquisition being included in the 2020 average balances for an entire year compared to only four months in 2019.

Additionally, the Bank originated over $900 million of PPP loans which averaged $601.8 million for the year.

The increase in the investment securities portfolio was the result of excess liquidity generated from growth in deposits and wholesale funding being used to invest in the bond portfolio.

The Corporation also recognized fair value accretion income on purchased loans, which is included in interest income, of $13.5 million, which accounted for 11 basis points of net interest margin for the year ended December 31, 2020.

Comparatively, the Corporation recognized $12.0 million of fair value accretion income, which accounted for 12 basis points of net interest margin for the year ended December 31, 2019.

Interest costs decreased 67 basis points, and when coupled with the decline in asset yields of 94 basis points, resulted in a 27 basis point FTE decrease in net interest spread as compared to 2019.

Interest costs have decreased as management aggressively moved deposit rates down in tandem with a decline in wholesale funding rates.

The Corporation also took advantage of the low interest rate environment to lock in longer term FHLB advances at low rates.

Interest-bearing deposit and borrowing costs decreased from 1.26 percent and 2.66, respectively, for the twelve months ended December 31, 2019, to .60 percent and 1.91 percent, respectively, for the twelve months ended December 31, 2020.

Additional details of the Corporation's acquisitions, remaining loan fair value discount, accretable and nonaccretable yield can be found in NOTE 2.

ACQUISITIONS and NOTE 6.

ACCOUNTING FOR CERTAIN LOANS ACQUIRED IN A PURCHASE of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

In 2019, the increases in net interest income and average earning assets were primarily attributable to the September 2019 MBT acquisition, in addition to, core organic loan and deposit growth and an increase in the investment securities portfolio.

Asset yields decreased 1 basis point FTE and interest costs increased 34 basis points, resulting in an 35 basis point FTE decrease in net interest spread as compared to 2018.

Asset yields decreased in 2019 primarily as a result of the Federal Reserve's discount rate decrease of 25 basis points at each of the Board's August, September and October 2019 meetings.

Average earning assets increased $1.3 billion in 2019 compared to 2018 primarily as a result of organic loan growth and the MBT acquisition.

In 2019, organic loan growth was $506.5 million, or 7 percent.

The Corporation recognized fair value accretion income on purchased loans, which is included in interest income, of $12.0 million and $14.1 million, respectively, for the twelve months ended December 31, 2019 and 2018.

Net interest margin, on a tax equivalent basis, decreased to 3.69 percent for 2019 compared to 4.00 percent in 2018.

Net interest margin is a function of net interest income and the level of average earning assets.

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Commercial (6)

6,818,968 276,368 4.05 6,755,215 286,773 4.25 5,631,146 306,139 5.44

Real estate mortgage 916,314 34,783 3.80 889,083 40,002 4.50 811,188 37,782 4.66

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Total earning assets 13,579,113 467,217 3.44 % 12,123,317 465,474 3.84 % 10,015,771 478,490 4.78 %

Net unrealized gain (loss) on securities available for sale 59,639 17,676 (14,790)

Allowance for loan losses (110,963) (81,000) (77,444)

Cash and cash equivalents 200,366 142,857 131,925

Premises and equipment 113,642 99,343 94,567

Other assets 1,080,268 896,673 818,432

Total non-earning assets 1,251,284 1,342,952 1,075,549

Total Assets $ 14,830,397 $ 13,466,269 $ 11,091,320

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(5) Net Interest Margin (FTE) is interest income expressed as a percentage of average earning assets minus interest expense expressed as a percentage of average earning assets.

(6) Commercial loans included $106.6 million and $667.1 million of Paycheck Protection Program ("PPP") loans at December 31, 2021 and 2020, respectively.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

NON-INTEREST INCOME

Non-interest income increased $23.2 million, or 26.8 percent, in 2020 compared to 2019.

Non-interest income totaled $109.3 million in 2021, a decrease of $0.6 million, or 0.5 percent, from 2020.

Customer related fees increased $2.6 million in 2021 compared to 2020 with the largest increase of $4.6 million attributable to fiduciary and wealth management fees of which $3.6 million was organic growth and $1.0 million resulted from the acquisition of Hoosier Trust Company.

Details of the Hoosier Trust Company acquisition can be found in NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Additionally, service charges on deposit accounts increased $2.6 million due to both continued organic growth in the deposit customer base and a lesser impact from the COVID-19 pandemic on customer activity than in 2020.

Finally, net gains and fees on sales of loans increased $1.4 million during 2021 as volume remained strong and was enhanced by a gain of $2.9 million from a $76.1 million portfolio mortgage loan sale.

The largest offsetting decreases in customer related fees, when comparing 2021 to 2020, were a $3.1 million decline in derivative hedge fees, and a $2.9 million decline in card payment fees that resulted from the first full year impact of the Durbin Amendment to the Dodd-Frank Act, which became effective for the Bank on July 1, 2020.

The largest non-customer related increase in non-interest income, when comparing 2021 to 2020, was a $2.1 million increase in gains on life insurance benefits resulting from BOLI death benefits.

Finally, the largest non-customer related decrease was $6.2 million less net realized gains on sales of available for sale securities in 2021 than 2020.

Non-interest income totaled $109.9 million in 2020, an increase of $23.2 million, or 26.8 percent, over 2019.

The low mortgage interest rate environment and larger customer base resulting from the MBT acquisition on September 1, 2019 combined to produce an increase of $10.4 million in net gains and fees on sales of loans.

Additionally, the larger customer base from the MBT acquisition, in addition to organic growth, resulted in increases in fiduciary and wealth management fees and derivative hedge fees totaling $6.2 million and $1.6 million, respectively.

Details of the Corporation's 2019 acquisition can be found in NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Finally, net realized gains on the sale of available for sale securities increased $7.5 million when compared to 2019.

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This resulted in significantly lower non-sufficient funds and overdraft fees when compared to 2019.

Additionally, card payment fee income decreased $741,000 when compared to 2019.

Additionally, card payment fee income decreased $0.7 million when compared to 2019.

While the larger customer base resulting from the MBT acquisition and organic growth resulted in increased transaction volume, the cap placed on interchange fee income as a result of the Durbin Amendment to the Dodd-Frank Act became effective for the Bank July 1, 2020 and resulted in less interchange revenue.

Non-interest income increased $10.2 million, or 13.4 percent, in 2019 compared to 2018.

On September 1, 2019, the Corporation acquired MBT, which contributed $4.1 million to the 2019 increase in non-interest income.

The increased customer base from the acquisition, in addition to organic growth, resulted in an increase in customer related line items of $10.4 million.

The largest increases were recognized in derivative hedge fees, fiduciary and wealth management fees, card payment fees and service charges on deposit accounts which accounted for $9.7 million of the customer related line items increase.

NON-INTEREST EXPENSES

Non-interest expense increased $16.6 million, or 6.7 percent, in 2020 compared to 2019.

Non-interest expense totaled $279.2 million in 2021, an increase of $15.8 million, or 6.0 percent, over 2020.

The largest contributing factor was an $11.1 million increase in salaries and employee benefits primarily due to higher salary and incentive expenses based upon current year financial results along with higher employee benefit costs primarily from rising health insurance costs.

Additionally, other outside data processing fees increased $3.9 million in 2021, when compared to 2020, primarily due to increased loan processing expense and digital platform delivery expenses in 2021, primarily due to the deployment of online account origination technology.

Also, the Corporation recorded reduced expense in 2020 from the sunsetting of a debit rewards program.

Also, professional and other outside services increased $3.0 million in 2021 as projects that were delayed in 2020 due to the onset of the COVID-19 pandemic were resumed.

The Corporation also recorded $0.5 million of expense directly related to the pending Level One Bancorp, Inc.

Details of the merger can be found in NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Finally, other expenses increased $1.3 million primarily due to a $1.4 million increase in amortization of mortgage servicing rights as the mortgage servicing portfolio increased in 2021 as a result of the $76.1 million portfolio mortgage loan sale and an increase in held for sale loans being sold with servicing rights retained.

Offsetting the increases detailed above was a decline of $3.4 million in 2021 from 2020 in net occupancy.

The decline was primarily driven by elevated expense in 2020, which included a charge of $3.8 million in net occupancy related to the consolidation of seventeen banking centers.

Non-interest expense totaled $263.4 million in 2020, an increase of $16.6 million, or 6.7 percent, over 2019.

The increase was driven by 2020 having a full-year of expense from the larger franchise and growth in customer base resulting from the MBT acquisition when compared to 2019 only containing four months of activity.

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Finally, the Corporation incurred $2.5 million of additional expense in 2020, compared to 2019, related to actions taken in response to the COVID-19 pandemic which included approximately $1.5 million in net occupancy and equipment costs incurred to enhance social distancing and cleaning protocols and $1.0 million recorded in marketing expense for donations to non-profit organizations in our communities on the front lines of the COVID-19 pandemic efforts.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The increases noted above were partially offset by the Corporation having recorded $13.7 million of acquisition-related expenses in 2019 in connection with MBT, primarily consisting of $5.3 million of contract termination and core system conversion expenses, $5.2 million of employee severance and retention expenses and $1.6 million of professional and other outside services expense.

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Finally, the Corporation also realized a decrease in other real estate owned and foreclosure expenses of $2.1 million when compared to 2019.

Non-interest expense increased $26.8 million, or 12.2 percent, in 2019 compared to 2018.

The most significant factor contributing to the increase was the acquisition of MBT, as the Corporation recorded $13.7 million of acquisition-related expenses as noted above.

In addition to the acquisition-related expenses, MBT operations, after the acquisition, resulted in non-interest expense of $6.2 million, of which $3.3 million was in salaries and employee benefits.

Additionally, increases totaling $6.1 million were noted in equipment and software, outside data processing fees, and other real estate owned and foreclosure expense.

Lastly, marketing expense increased $2.0 million, compared to 2018, primarily due to fair lending settlement expenses.

These increases were partially offset by a decrease in FDIC expense of $2.2 million in 2019 compared to 2018.

The decrease was due to assessment credits being issued as a result of the FDIC insurance fund reaching the FDIC's target minimum reserve ratio.

INCOME TAX EXPENSE

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For 2020, income tax expense was $21.4 million on pre-tax income of $170.0 million, or 12.6 percent.

The lower effective tax rate in 2020 compared to 2019 is primarily a result of the significant increase in provision expense and non-interest expenses, which reduced taxable income, coupled with an increase in tax-exempt interest income, which increased the benefit of non-taxable income.

Additionally, the net operating loss ("NOL") carryback provided in the CARES Act resulted in a favorable rate differential as noted in the effective tax rate reconciliation in NOTE 22.

The lower effective income tax rate in 2020 compared to 2021 was primarily driven by two factors.

The first factor was an abnormally high level of loan provision expense in 2020 as a result of the economic impact of the COVID-19 pandemic.

Second, the CARES Act from 2020 provided for the carryback of certain federal net operating losses to a prior period with a rate differential between the 2020 statutory rate of 21 percent and the rate in effect during the carryback year.

Additionally, an increase in state taxes in 2021 contributed to the increase in the effective tax rate.

The detailed reconciliation of federal statutory to actual tax expense is shown in NOTE 19.

INCOME TAX of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Additional income tax expense details are discussed within the “INCOME TAXES” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Stockholders' Equity

On September 1, 2019, the Corporation acquired 100 percent of MBT.

Pursuant to the merger agreement, each MBT shareholder received 0.275 shares of the Corporation's common stock for each outstanding share of MBT common stock held.

The Corporation issued approximately 6.4 million shares of common stock, which was valued at approximately $229.9 million.

Details regarding the MBT acquisition are discussed in NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

As discussed previously, the Corporation adopted the current expected credit losses ("CECL") model for calculating the allowance for credit losses on January 1, 2021.

As of the adoption and day one measurement date of January 1, 2021, the Corporation recorded a one-time cumulative-effect adjustment to retained earnings, net of income taxes, of $68.0 million.

See additional details of the Corporation's CECL adoption in NOTE 1.

NATURE OF OPERATIONS AND SUMMARY OR SIGNIFICANT ACCOUNTING POLICIES and NOTE 5.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Stock Repurchase Programs

On September 3, 2019, the Board of Directors of the Corporation approved a stock repurchase program of up to 3 million shares of the

Corporation's outstanding common stock;

On September 3, 2019, the Board of Directors of the Corporation approved a stock repurchase program of up to 3 million shares of the Corporation's outstanding common stock;

provided, however, that the total aggregate investment in shares repurchased under the program was not to exceed $75 million.

On a share basis, the amount of common stock subject to the repurchase program represented approximately 5 percent of the Corporation's outstanding shares.

During the first quarter of 2020, the Corporation repurchased 1,634,437 of its common shares for $55.9 million at an average price of $34.21, which resulted in the aggregate investment in share repurchases to equal $75.0 million, the maximum allowable under the plan.

During the first quarter of 2020, the Corporation repurchased 1,634,437 of its common shares for $55.9 million at an average price of $34.21, which resulted in the aggregate investment in share repurchases of $75.0 million, the maximum allowable under the plan.

As such, the September 2019 program terminated upon its own terms following the repurchases.

On January 27, 2021, the Board of Directors of the Corporation approved a stock repurchase program of up to 3,333,000 shares of the Corporation's outstanding common stock;

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On a share basis, the amount of common stock subject to the repurchase program represents approximately 6 percent of the Corporation's outstanding shares.

Details regarding the 2021 stock repurchase program are discussed in NOTE 27.

SUBSEQUENT EVENTS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

During 2021, the Corporation repurchased 646,102 of its common shares for $25.4 million at an average price of $39.38.

Regulatory Capital

Capital adequacy is an important indicator of financial stability and performance.

The Corporation and the Bank are subject to various regulatory

capital requirements administered by the federal banking agencies and are assigned to a capital category.

The assigned capital category is

largely determined by four ratios that are calculated according to the regulations:

total risk-based capital, tier 1 risk-based capital, CET1, and tier

1 leverage ratios.

The ratios are intended to measure capital relative to assets and credit risk associated with those assets and off-balance sheet

exposures of the entity.

The capital category assigned to an entity can also be affected by qualitative judgments made by regulatory agencies

about the risk inherent in the entity's activities that are not part of the calculated ratios.

The Corporation and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies and are assigned to a capital category.

The assigned capital category is largely determined by four ratios that are calculated according to the regulations:

total risk-based capital, tier 1 risk-based capital, CET1, and tier 1 leverage ratios.

The ratios are intended to measure capital relative to assets and credit risk associated with those assets and off-balance sheet exposures of the entity.

The capital category assigned to an entity can also be affected by qualitative judgments made by regulatory agencies about the risk inherent in the entity's activities that are not part of the calculated ratios.

There are five capital categories defined in the regulations, ranging from well capitalized to critically undercapitalized.

Classification of a bank in

any of the undercapitalized categories can result in actions by regulators that could have a material effect on a bank's operations.

measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total and tier 1

capital to risk-weighted assets, and of tier 1 capital to average assets, or leverage ratio, all of which are calculated as defined in the

Banks with lower capital levels are deemed to be undercapitalized, significantly undercapitalized or critically undercapitalized,

depending on their actual levels.

The appropriate federal regulatory agency may also downgrade a bank to the next lower capital category upon

a determination that the bank is in an unsafe or unsound practice.

Banks are required to monitor closely their capital levels and to notify their

appropriate regulatory agency of any basis for a change in capital category.

Classification of a bank in any of the undercapitalized categories can result in actions by regulators that could have a material effect on a bank's operations.

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total and tier 1 capital to risk-weighted assets, and of tier 1 capital to average assets, or leverage ratio, all of which are calculated as defined in the

Banks with lower capital levels are deemed to be undercapitalized, significantly undercapitalized or critically undercapitalized, depending on their actual levels.

The appropriate federal regulatory agency may also downgrade a bank to the next lower capital category upon a determination that the bank is in an unsafe or unsound practice.

Banks are required to monitor closely their capital levels and to notify their appropriate regulatory agency of any basis for a change in capital category.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Basel III was effective for the Corporation on January 1, 2015 and requires the Corporation and the Bank to maintain the minimum capital and

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There is no threshold for well capitalized status for bank holding companies.

As part of a March 27, 2020 joint statement of federal banking regulators, an interim final rule that allowed banking organizations to mitigate the effects of the CECL accounting standard on their regulatory capital was announced.

Banking organizations could elect to mitigate the estimated cumulative regulatory capital effects of CECL for up to two years.

This two-year delay was to be in addition to the three-year transition period that federal banking regulators had already made available.

While the 2021 CAA provided for a further extension of the mandatory adoption of CECL until January 1, 2022, the federal banking regulators elected to not provide a similar extension to the two year mitigation period applicable to regulatory capital effects.

Instead, the federal banking regulators require that, in order to utilize the additional two-year delay, banking organizations must have adopted the CECL standard no later than December 31, 2020, as required by the CARES Act.

As a result, because implementation of the CECL standard was delayed by the Corporation until January 1, 2021, it began phasing in the cumulative effect of the adoption on its regulatory capital, at a rate of 25 percent per year, over a three-year transition period that began on January 1, 2021.

Under that phase-in schedule, the cumulative effect of the adoption will be fully reflected in regulatory capital on January 1, 2024.

The Corporation's and Bank's actual and required capital ratios as of December 31, 2021 and December 31, 2020 were as follows:

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First Merchants Bank 1,309,685 8.88 589,994 4.00 $ 737,493 5.00 %

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Prompt Corrective Action Thresholds

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organizations to allow those organizations participating in the PPP to neutralize the regulatory capital effects of participating in the program.

interim final rule, which became effective April 13, 2020, clarifies that PPP loans receive a zero percent risk weight for purposes of determining

interim final rule, which became effective April 13, 2020, clarified that PPP loans receive a zero percent risk weight for purposes of determining

risk-weighted assets and the CET1, Tier 1 and Total Risk-Based capital ratios.

At December 31, 2020, risk-weighted assets included $667.1

million of PPP loans at a zero risk weight.

Additionally, in order to facilitate use of the PPPL Facility, the agencies have clarified that banking

organizations, including the Corporation and the Bank, are allowed to neutralize the regulatory effects of PPP covered loans on the risk-based

capital ratios, as well as PPP covered loans pledged under the PPPL Facility on the leverage capital ratios.

At December 31, 2020, the

Corporation did not have an outstanding balance with the PPPL Facility;

therefore there were no adjustments to the leverage ratio for PPP loans.

At December 31, 2021 and 2020, risk-weighted assets included $106.6 million and $667.1 million, respectively, of PPP loans at a zero risk weight.

Management believes that all of the above capital ratios are meaningful measurements for evaluating the safety and soundness of the Corporation.

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Tier I regulatory capital consists primarily of total stockholders’ equity and subordinated debentures issued to business trusts categorized as qualifying borrowings, less non-qualifying intangible assets and unrealized net securities gains or losses.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

A reconciliation of GAAP measures to regulatory measures (non-GAAP) are detailed in the following table for the periods indicated.

December 31, 2021 December 31, 2020

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Disallowed Goodwill and Intangible Assets (564,002) (563,554) (564,982) (564,535)

Modified CECL Transition Amount 34,542 34,542 — —

Disallowed Deferred Tax Assets (239) (219) — —

Total Tier 1 Capital (Regulatory) 1,374,240 1,309,685 1,282,070 1,283,922

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(1) Includes net unrealized gains or losses on available for sale securities, net gains or losses on cash flow hedges, and amounts resulting from the application of the applicable accounting guidance for defined benefit and other postretirement plans.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Additionally, management believes the following tables are also meaningful when considering performance measures of the Corporation.

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considered in isolation, or as a substitute for analyses of results as reported under GAAP.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Corporation had a strong capital position as evidenced by the tangible common equity to tangible assets ratio of 9.01 percent at December 31, 2021, and 9.65 percent at December 31, 2020.

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Average goodwill (GAAP) $ 545,374 $ 543,919

Average core deposit intangible (GAAP) 32,106 27,067

Average deferred tax on CDI (GAAP) (6,648) (5,588)

Average intangibles (GAAP) 27,590 32,106

Average deferred tax on intangibles (GAAP) (5,452) (6,648)

Intangible adjustment (non-GAAP) $ 567,512 $ 569,377

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Net income available to common stockholders (GAAP) $ 205,531 $ 148,600

CDI amortization, net of tax (GAAP) 4,730 4,736

Intangible amortization, net of tax (GAAP) 4,540 4,730

Tangible net income available to common stockholders (non-GAAP) $ 210,071 $ 153,330

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Diluted tangible net income available to common stockholders (non-GAAP) $ 3.89 $ 2.83

Return on average GAAP capital (ROE) 8.14 % 10.48 %

Return on average tangible capital 12.21 % 15.81 %

Return on average assets (ROA) 1.10 % 1.48 %

Return on average tangible assets 1.19 % 1.60 %

Return on average capital (ROE) (GAAP) 11.01 % 8.14 %

Return on average tangible capital (non-GAAP) 16.17 % 12.21 %

Return on average assets (ROA) (GAAP) 1.39 % 1.10 %

Return on average tangible assets (non-GAAP) 1.47 % 1.19 %

Return on average tangible capital is tangible net income available to common stockholders (annualized) expressed as a percentage of average tangible capital.

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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Corporation's primary lending focus is small business and middle market commercial, commercial real estate and residential real estate, which results in portfolio diversification.

LOAN QUALITY AND PROVISION FOR CREDIT LOSSES ON LOANS

The Corporation’s primary lending focus is small business and middle market commercial, commercial real estate, public finance and residential real estate, which results in portfolio diversification.

Commercial loans are individually underwritten and judgmentally risk rated.

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Consumer loans are typically underwritten with statistical decision-making tools and are managed throughout their life cycle on a portfolio basis.

The quality of the loan portfolio and amount of non-performing loans may increase or decrease as a result of acquisitions, organic portfolio growth, problem loan recognition and resolution through collections, sales or charge-offs.

The quality of the loan portfolio and the amount of non-performing loans may increase or decrease as a result of acquisitions, organic portfolio growth, problem loan recognition and resolution through collections, sales or charge-offs.

The performance of any loan can be affected by external factors such as economic conditions, or internal factors specific to a particular borrower, such as the actions of a customer's internal management.

At December 31, 2020, non-performing loans totaled $64.7 million, an increase of $47.9 million from the December 31, 2019 balance of $16.8 million.

Total loan delinquencies have increased $46.0 million during the twelve months ended December 31, 2020, compared to December 31, 2019.

The primary categories leading to the increase in delinquencies were the 60-89 days past due commercial and industrial category, which increased $6.4 million due primarily to one relationship, and in the 90 days or more past due commercial real estate, non-owner occupied category, which increased $30.0 million due primarily to three relationships, totaling $14.1 million, $12.8 million, and $3.7 million, respectively.

Loans not accruing interest income totaled $61.5 million at December 31, 2020, an increase of $45.6 million from the December 31, 2019 balance of $15.9 million.

The increase in non-accrual loan balances during 2020 was primarily due to three relationships involving four non-owner occupied commercial real estate properties, in the senior and assisted living industry, moving to non-accrual.

The total reported balance of these loans was $40.0 million.

The Corporation's coverage ratio of allowance for loan losses to non-accrual loans decreased from 503.4 percent at December 31, 2019 to 212.5 percent at December 31, 2020.

See additional information in the “PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Other real estate owned totaling $940,000 decreased $6.6 million during the twelve month period ending December 31, 2020 due primarily to the sale of a senior living commercial property with a carrying value of $5.9 million.

Current appraisals are obtained to determine the fair value of other real estate owned.

Management continues to aggressively market these real estate assets.

Accruing loans 90-days or more delinquent totaled $746,000 at December 31, 2020, an increase of $677,000 from the December 31, 2019 balance of $69,000.

The increase was primarily in commercial and industrial loans.

Impaired loans include loans deemed impaired according to the guidance set forth in ASC 310-10.

Commercial loans under $500,000 and consumer loans, with the exception of troubled debt restructures, are not individually evaluated for impairment.

A loan is deemed impaired when, based on current information or events, it is probable that all amounts due of principal and interest according to the contractual terms of the loan agreement will not be collected substantially within the contractual terms of the note.

At December 31, 2020, impaired loans totaled $56.2 million, an increase of $44.5 million from the December 31, 2019 balance of $11.7 million.

At December 31, 2020, a specific allowance for losses was not deemed necessary for impaired loans totaling $7.8 million as there was no identified loss on these credits.

An allowance of $12.9 million, which is discussed further in the "PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES" section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations, was recorded for the remaining balance of these impaired loans totaling $48.4 million, and is included in the Corporation’s allowance for loan losses.

The Corporation's non-performing assets plus accruing loans 90-days or more delinquent and impaired loans are presented in the table below.

December 31, December 31,

(Dollars in Thousands) 2020 2019

At December 31, 2021, non-performing loans totaled $43.4 million, a decrease of $21.3 million from December 31, 2020.

Loans not accruing interest income totaled $43.1 million at December 31, 2021, a decrease of $18.4 million from December 31, 2020.

The decrease in non-accrual loans was primarily attributed to the payoff of one senior living sector relationship totaling $23.4 million.

Other real estate owned and repossessions, totaling $558,000 at December 31, 2021, decreased $382,000 from December 31, 2020.

For other real estate owned, current appraisals are obtained to determine fair value as management continues to aggressively market these real estate assets.

According to applicable accounting guidance, loans that no longer exhibit similar risk characteristics are individually evaluated to determine if there is a need for a specific reserve.

Commercial loans under $500,000 and consumer loans, with the exception of troubled debt restructures, are not individually evaluated.

The determination for individual evaluation is made based on current information or events that may suggest it is probable that not all amounts due of principal and interest, according to the contractual terms of the loan agreement, will be substantially collected.

The Corporation's non-performing assets plus accruing loans 90 days or more delinquent and individually evaluated loans are presented in the table below.

(Dollars in Thousands) December 31, 2021 December 31, 2020

Non-Performing Assets:

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Non-performing loans (NPL) 43,391 64,711

Other real estate owned 940 7,527

OREO and Repossessions 558 940

Non-performing assets (NPA) 43,949 65,651

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NPAs and loans 90-days or more delinquent $ 44,912 $ 66,397

Impaired loans $ 56,156 $ 11,709

The non-accrual balances in the above table include troubled debt restructures totaling $1.7 million and $709,000 as of December 31, 2020 and December 31, 2019, respectively.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The non-accrual balances in the table above include troubled debt loan restructures totaling $13.7 million and $1.7 million as of December 31, 2021 and December 31, 2020, respectively.

The increase is primarily due to one relationship in the non-owner occupied commercial real estate loan class, totaling $12.5 million, that was restructured during 2021.

The composition of non-performing assets plus accruing loans 90-days or more delinquent is reflected in the following table.

December 31, December 31,

(Dollars in Thousands) 2020 2019

(Dollars in Thousands) December 31, 2021 December 31, 2020

Non-performing assets and loans 90-days or more delinquent:

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Individual's loans for household and other personal expenditures 3 55

Public finance and other commercial loans — —

Non-performing assets and loans 90-days or more delinquent $ 44,912 $ 66,397

In 2020, net charge-offs totaled $8.3 million, an increase of $5.2 million and $6.6 million from 2020 and 2019, respectively.

In 2020, the corporation incurred charge-offs exceeding $500,000 on two commercial relationships, which combined to total $7.3 million.

The largest of the two charge-offs was $6.7 million for a university apparel relationship.

There were no recoveries above $500,000 recognized during the twelve month period ending December 31, 2020.

In 2019, the corporation incurred charge-offs on two commercial relationships exceeding $500,000, which totaled $3.6 million, and had one recovery on a commercial relationship above $500,000, which amounted to $738,000.

The Corporation's loan loss experience is presented in the table below for the years indicated.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The CARES Act, as amended by the 2021 CAA, allowed banks to suspend requirements under GAAP, effectively, through January 1, 2022, for certain loan modifications related to the COVID-19 pandemic.

The federal banking agencies also issued guidance to encourage banks to make loan modifications for borrowers affected by COVID-19 or offer other borrower friendly options.

In accordance with such guidance, the Bank made various short-term modifications for borrowers who were current and otherwise not past due.

These included short-term, 180 days or less, modifications in the form of payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that were insignificant.

At December 31, 2021, the Corporation did not have any outstanding COVID modifications, compared to $120.3 million on 87 loans at December 31, 2020.

PROVISION EXPENSE AND ALLOWANCE FOR CREDIT LOSSES ON LOANS

The Corporation adopted FASB Accounting Standards Update (ASU) No.

2016-13, Financial Instruments - Credit Losses (Topic 326):

Measurement of Credit Losses on Financial Instruments ("CECL") on January 1, 2021.

CECL replaces the previous "incurred loss" model with an "expected loss" model of measuring credit losses, which encompasses allowances for losses expected to be incurred over the life of the portfolio.

The new CECL model requires the measurement of all expected credit losses for financial assets measured at amortized cost based on historical experiences, current conditions and reasonable and supportable economic forecasts.

Additional details of the Corporation's methodology for measuring expected credit losses on loans is discussed in NOTE 5.

LOANS AND ALLOWANCE FOR CREDIT LOSSES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

The CECL allowance is maintained through the provision for credit losses, which is a charge against earnings.

Based on management’s judgment as to the appropriate level of the allowance, the amount provided in any period may be greater or less than net loan losses for the same period.

The determination of the provision amount and the adequacy of the allowance in any period is based on management’s continuing review and evaluation of the loan portfolio.

The Corporation's credit loss experience is presented in the table below for the years indicated.

(Dollars in Thousands) 2021 2020 2019

Allowance for loan losses:

Beginning balance $ 80,284 $ 80,552 $ 75,032

Charge-offs 10,485 6,621 7,983

Recoveries 2,176 3,553 6,276

Allowance for loan/credit losses:

Balances, December 31, 2020 $ 130,648 $ 80,284 $ 80,552

Impact of adopting ASC 326 74,055 — —

Balances, January 1, 2021 Post-ASC 326 adoption 204,703 204703000 — —

Loans charged off 11,884 10,485 6,621

Recoveries on loans 2,578 2,176 3,553

Net charge-offs 9,306 8,309 3,068

Provision for loan losses 58,673 2,800 7,227

Ending balance $ 130,648 $ 80,284 $ 80,552

Provision for loan/credit losses — 58,673 2,800

Ending balance, December 31, 2021 $ 195,397 $ 130,648 $ 80,284

Ratio of net charge-offs during the period to average loans outstanding during the period 0.10 % 0.09 % 0.04 %

Ratio of allowance to non-accrual loans 212.5 % 503.4 % 308.1 %

The distribution of the net charge-offs by collateral classification is provided in the following table for the years indicated.

Ratio of allowance for credit losses - loans to non-accrual loans 453.8 % 212.5 % 503.4 %

Ratio of allowance for credit losses - loans to total loans outstanding 2.11 % 1.41 % 0.95 %

The Corporation’s total loan bala nce remained relatively level year over year ending December 31, 2021 at $ 9.2 billion.

PPP loans accounted for $106.6 million of the total loan balance at December 31, 2021 versus a balance of $667.1 million at December 31, 2020.

The Bank anticipates that the majority of its remaining PPP loans will be forgiven by the SBA in accordance with the terms of the program.

At December 31, 2021, the allowance for credit losses totaled $195.4 million, which represents an increase of $64.7 million from December 31, 2020.

The increase in the allowance was primarily due to the $74.1 million cumulative effect adjustment related to the adoption of CECL on January 1, 2021, offset by net charge-offs during the twelve months ended December 31, 2021 of $9.3 million.

As a percentage of loans, the allowance for credit losses was 2.11 percent at December 31, 2021, compared to 1.41 percent at December 31, 2020 and 0.95 percent at December 31, 2019.

The allowance for credit losses as a percentage of total loans less PPP loans was 2.14 percent as of December 31, 2021.

The extent to which COVID-19 continues to impact the Corporation’s loan portfolio, will depend on future developments, which are highly uncertain and are difficult to predict, including, but not limited to, the duration and severity of the pandemic, the potential for seasonal or other resurgences, actions taken by governmental authorities and other third parties to contain and treat the virus, and how quickly and to what extent normal economic and operating conditions can resume.

The Corporation deems the current estimate for loan portfolio credit exposure as appropriate.

There was no provision for credit losses for the twelve months ended December 31, 2021 compared to $58.7 million for the same period of 2020.

The provision for the twelve months ended December 31, 2020 primarily reflected the Corporation's view of increased credit risk related to the COVID-19 pandemic and the estimated impact on the economy and the credit quality of our loan portfolio.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Net charge-offs totaling $9.3 million, $8.3 million, and $3.1 million were recognized for the twelve months ended December 31, 2021, 2020, and 2019, respectively.

For the twelve months ended December 31, 2021, there were four individual charge-offs greater than $500,000 that totaled $9.0 million.

For the twelve months ended December 31, 2020, there were two individual charge-offs greater than $500,00 that totaled $7.3 million.

For the twelve months ending December 31, 2021 and 2020, there were not any individual recoveries greater than $500,000.

The distribution of the net charge-offs (recoveries) for the twelve months ended December 31, 2021, 2020, and 2019 are reflected in the following table.

(Dollars in Thousands) December 31, 2021 December 31, 2020 December 31, 2019

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Total net charge-offs $ 9,306 $ 8,309 $ 3,068

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

1601 et seq.) terminates.

In accordance with such guidance, the Bank has offered short-term modifications made in response to COVID-19 to borrowers who were current and otherwise not past due.

These included short-term, 180 days or less, modifications primarily in the form of payment deferrals.

Modifications in the form of fee waivers, extensions of repayment terms, or other delays in payment that are insignificant were also made.

On December 27, 2020, a $900 billion COVID-19 relief package, as passed by the U.S.

Congress, was signed into law as part of the CAA that provides federal government funding through the end of its 2021 fiscal year.

The following table summarizes modifications that remained in deferment as of December 31, 2020.

December 31, 2020

Recorded Balance Number of Loans

Commercial and industrial loans $ 18,143 14

Agricultural land, production and other loans to farmers 10,724 2

Real estate loans:

Construction 21,131 5

Commercial real estate, non-owner occupied 65,139 10

Commercial real estate, owner occupied 2,428 6

Residential 1,733 20

Home equity 154 4

Individuals' loans for household and other personal expenditures 893 26

Total $ 120,345 87

Of the loans still in deferment at December 31, 2020 as indicated in the table above, $66.1 million, or 55 percent of the balance, were in the hotel industry.

Although the Corporation believes its underwriting and loan review procedures are appropriate for the various kinds of loans it makes, its results of operations and financial condition could be adversely affected in the event the quality of its loan portfolio declines.

Deterioration in the economic environment including residential and commercial real estate values may result in increased levels of loan delinquencies and credit losses.

PROVISION EXPENSE AND ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses is maintained through the provision for loan losses, which is a charge against earnings.

Based on management’s judgment as to the appropriate level of the allowance for loan losses, the amount provided in any period may be greater or less than net loan losses for the same period.

The determination of the provision amount and the adequacy of the allowance in any period is based on management’s continuing review and evaluation of the loan portfolio, including an internally administered loan "watch" list and independent loan reviews.

The evaluation also takes into consideration identified credit problems, portfolio growth, management's judgment as to the impact of current economic conditions on the portfolio and the possibility of losses inherent in the loan portfolio that are not specifically identified.

Additional details are discussed in NOTE 1.

NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Management believes that the allowance for loan losses is adequate to cover incurred losses inherent in the loan portfolio at December 31, 2020.

The process for determining the adequacy of the allowance for loan losses is critical to the Corporation’s financial results.

It requires management to make difficult, subjective and complex judgments to estimate the effect of uncertain matters.

The allowance for loan losses considers current factors, economic conditions and ongoing internal and external examination processes and will increase or decrease as deemed necessary to ensure the allowance remains adequate.

In addition, the allowance as a percentage of charge-offs and nonperforming loans will change at different points in time based on credit performance, portfolio mix and collateral values.

Management continually evaluates the commercial loan portfolio by including consideration of specific borrower cash flow analysis and estimated collateral values, types and amounts on non-performing loans, past and anticipated loan loss experience, changes in the composition of the loan portfolio, and the current condition and amount of loans outstanding.

In conformance with ASC 805 and ASC 820, purchased loans are recorded at the acquisition date fair value.

Such loans are included in the allowance to the extent a specific impairment is identified that exceeds the fair value adjustment on an impaired loan.

An allowance may also be necessary if the historical loss and environmental factor analysis indicates losses inherent in a purchased portfolio exceed the fair value adjustment on the portion of the purchased portfolio not deemed impaired.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

At December 31, 2020, the allowance for loan losses was $130.7 million, an increase of $50.4 million from December 31, 2019.

During the twelve month period ending December 31, 2020, specific reserves on impaired loans increased $12.2 million, while the loss reserve for loans not deemed impaired increased $38.2 million.

As a percent of total loans, the allowance was 1.41 percent at December 31, 2020, compared to 0.95 percent at December 31, 2019.

The increase in the allowance was due to the increase in specific reserves, which relates to the four aforementioned non-owner occupied commercial real estate (senior living) properties as well as a $36.2 million increase in the national and local economic conditions qualitative factor, which reflects the Corporation's view of increased risk related to the COVID-19 pandemic.

Loans are generally secured by specific items of collateral, including real property and business assets.

Allowable methods for determining the amount of impairment include estimating fair value using the fair value of the collateral for collateral dependent loans.

If the impaired loan is identified as collateral dependent, then the fair value method of measuring the amount of impairment is utilized.

This method requires obtaining a current independent appraisal of the collateral and applying a discount factor to the value.

The fair value of real estate is determined based on appraisals by qualified licensed appraisers.

The appraisers determine the value of the real estate by utilizing an income or market valuation approach.

Updated “as is” or “liquidation value” appraisals are obtained as individual circumstances and/or market conditions warrant.

Partially charged off loans measured for impairment based on their collateral value are generally not returned to performing status subsequent to receiving updated appraisals or restructure of the loan.

If an appraisal is not available, the fair value may be determined by using a discounted

cash flow analysis.

Fair value on other collateral such as business assets is typically ascertained by assessing, either singularly or some combination of, asset appraisals, accounts receivable aging reports, inventory listings and / or customer financial statements.

Both appraised values and values based on borrower’s financial information are discounted as considered appropriate based on age and quality of the information and current market conditions.

Loans deemed impaired according to guidance set forth in ASC 310 are evaluated during problem loan meetings held within each reporting period by a special assets management team.

Loan collateral and customer financial information are reviewed and the level of impairment is assessed to determine appropriate reserve and/or charge-off amounts.

Loans or portions of loans are charged off when they are considered uncollectible.

It is the Corporation’s policy to recognize losses promptly to prevent overstatement of assets, earnings and capital.

The following table summarizes loan loss reserves by collateral segment for the periods ended December 31, 2020 and 2019.

December 31, 2020

(Dollars in Thousands) Commercial Commercial

Real Estate Consumer Residential Total

Allowance balances:

Individually evaluated for impairment $ 223 $ 12,246 $ — $ 432 $ 12,901

Collectively evaluated for impairment 46,892 38,824 9,648 22,383 117,747

Total allowance for loan losses $ 47,115 $ 51,070 $ 9,648 $ 22,815 $ 130,648

December 31, 2019

(Dollars in Thousands) Commercial Commercial

Real Estate Consumer Residential Total

Allowance balances:

Individually evaluated for impairment $ — $ 231 $ — $ 458 $ 689

Collectively evaluated for impairment 32,902 28,547 4,035 14,111 79,595

Total allowance for loan losses $ 32,902 $ 28,778 $ 4,035 $ 14,569 $ 80,284

The historical loss allocation for loans not deemed impaired according to ASC 450 is the product of the volume of loans within the non-impaired criticized and non-criticized risk grade classifications, each segmented by call code, and the historical loss factor for each respective classification and call code segment.

The historical loss factors are based upon actual loss experience within each risk and call code classification.

The historical look back period for non-criticized loans is the most recent rolling-four-quarter average and aligns with the look back period for non-impaired criticized loans.

This look back period includes all charge-offs from the most recent seven quarters.

The loss factor computation for this allocation includes a segmented historical loss migration analysis of loans, by risk grade, to charge-off.

In addition to the specific reserves and historical loss components of the allowance, consideration is given to various environmental factors to help ensure that losses inherent in the portfolio are reflected in the allowance for loan losses.

Environmental factors that management reviews in the analysis include:

National and local economic trends and conditions;

trends in growth in the loan portfolio and growth in higher risk areas;

levels of, and trends in, delinquencies and non-accruals;

experience and depth of lending management and staff;

adequacy of, and adherence to, lending policies and procedures including those for underwriting;

industry concentrations of credit;

and adequacy of risk identification systems and controls through the internal loan review and internal audit processes.

Each environmental factor receives an individual qualitative allocation that reflects losses inherent in the portfolio that are not reflected in the historical loss components of the allowance.

Given the current economic environment, management believes losses inherent in the portfolio may not be immediately apparent for specific identification.

The Corporation’s primary market areas for lending are Indiana, Illinois, Ohio, and Michigan.

When evaluating the adequacy of the allowance, consideration is given to this regional geographic concentration and the closely associated effect changing economic conditions have on the Corporation’s customers.

The allowance for loan losses at December 31, 2020 is reflective of both the banking environment within the Corporation’s footprint and the Corporation’s recent loan and loss trends.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management continually evaluates the commercial loan portfolio by including consideration of specific borrower cash flow analysis and estimated collateral values, types and amounts on non-performing loans, past and anticipated loan loss experience, changes in the composition of the loan portfolio and the current condition and amount of loans outstanding.

The determination of the provision for loan losses in any period is based on management's continuing review and evaluation of the loan portfolio, and its judgment as to the impact of current economic conditions on the portfolio.

Accounting Standards Update No.

2016-13, Financial Instruments - Credit Losses (Topic 326):

Measurement of Credit losses on Financial Instruments ("CECL") had an original adoption date of January 1, 2020, which included a Day 1 measurement date of January 1, 2020.

The CARES Act, passed by Congress on March 27, 2020 in response to the COVID-19 pandemic, created an optional deferral of the CECL adoption date.

2016-13, which would have become effective for the Corporation as of January 1, 2020.

The 2021 Consolidated Appropriations Act, signed into law on December 27, 2020, amended the CARES Act by extending the temporary relief from CECL compliance to the earlier of the first day of the fiscal year that begins after the date on which the national emergency concerning COVID-19 terminates, or January 1, 2022.

This will allow the Corporation to utilize the CECL standard for the entire year of adoption.

As a result of the Corporation’s election, its 2020 financial statements have been prepared under the existing incurred loss model.

This new CECL guidance was issued to address concerns that current generally accepted accounting principles ("GAAP") restricts the ability to record credit losses that are expected, but do not yet meet the “probable” threshold by replacing the current “incurred loss” model for recognizing credit losses with an “expected life of loan loss” model..

Under the CECL model, certain financial assets carried at amortized cost, such as loans held for investment and held-to-maturity debt securities, are required to be presented at the net amount expected to be collected.

The measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount.

This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter.

This differs significantly from the “incurred loss” model required under current GAAP, which delays recognition until it is probable a loss has been incurred.

The change could materially affect how the allowance for loan losses is determine d and cause a charge to earnings through the provision for loan losses.

Such charge could adversely affect the financial condition of the Corporation.

The Corporation developed models that satisfy the requirements of the new standard which are governed by a system of internal controls and a cross-functional working group consisting of accounting, finance, and credit administration personnel.

The loan portfolio was pooled into ten loan segments with similar risk characteristics for which the probability of default/loss given default methodology was applied.

The Corporation utilized a one-year economic forecast period then reverted to historical macroeconomic levels for the remaining life of the portfolio.

A baseline macroeconomic scenario, along with other scenarios, was used to develop a range of estimated credit losses for which to determine the best estimate within.

As of the adoption and day one measurement date of January 1, 2021, the Corporation recorded a one-time cumulative-effect adjustment to retained earnings, net of income taxes, on the consolidated balance sheet.

The allowance increased 57 percent from December 31, 2020 because it covered expected credit losses over the life of the loan portfolio, which approximates four years, and it included an allowance on all purchased loans that were previously excluded from the allowance for loan losses calculation.

CECL also requires the establishment of a reserve for potential losses from unfunded commitments that is recorded in other liabilities, separate from allowance for credit losses, which was approximately $21 million.

Goodwill is reviewed at least annually for impairment, or more frequently if events or circumstances indicate the carrying value might be impaired.

The impairment analysis compares the estimated fair value of the Corporation (the reporting unit) with the Corporation's net book value.

On January 1, 2020, the Corporation adopted ASU No.

2017-04, Intangibles-Goodwill and Other (Topic 350):

Simplifying the Test for Goodwill .

Subsequent to the October 1, 2019 impairment test and adoption of ASU 2017-04, the Corporation experienced a decline in market capitalization as a result of a decline in the share price of the Corporation's common stock.

At March 31, 2020, June 30, 2020 and September 30, 2020, the Corporation assessed the economic impact and market conditions from the COVID-19 pandemic.

Additionally, the Corporation assessed the general uncertainty as to the full extent of the COVID-19 pandemic and its effect on economic recovery and concluded goodwill was not impaired in either period.

Management continually evaluates the commercial loan portfolio by including consideration of specific borrower cash flow analysis and estimated collateral values, types and amounts on non-performing loans, past and anticipated credit loss experience, changes in the composition of the loan portfolio, and the current condition and amount of loans outstanding.

The determination of the provision for credit losses in any period is based on management’s continuing review and evaluation of the loan portfolio, and its judgment as to the impact of current economic conditions on the portfolio.

As of October 1, 2021, the Corporation performed its annual goodwill impairment testing and, in the valuation, the fair value exceeded the Corporation's carrying value;

therefore, it was concluded that goodwill was not impaired.

The Hoosier acquisition on April, 1, 2021 resulted in $1,467,000 of additional goodwill during the year.

Details regarding the Hoosier acquisition are discussed in NOTE 2.

ACQUISITIONS of these Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

As of October 1, 2020, the Corporation performed its annual goodwill impairment test which included various valuation considerations including comparable peer data, precedent transaction comparables, discounted cash flow analysis, overall financial performance, share price of the Corporation's common stock and other factors.

The testing for both periods resulted in a conclusion that it was not more likely than not that the fair value of the Corporation had declined below its carrying value and no impairment loss was recorded in 2020.

In December 2020, the Corporation's stock price increased to a value higher than its carrying value and has remained at these levels.

The Corporation considers this further support the decline in stock value was considered temporary and not an indication goodwill was impaired.

Goodwill assessments are highly sensitive to economic projections and the related assumptions used by management.

In the event of a prolonged economic downturn or further deterioration in the economic outlook, continued assessments of our goodwill balance will likely be required in future periods.

There were no changes in goodwill for the year ending December 31, 2020.

The MBT acquisition on September, 1, 2019 resulted in $98.6 million of goodwill, which includes a measurement period adjustment of $719,000 recorded in the fourth quarter of 2019.

Details regarding the MBT acquisition are discussed in NOTE 2.

ACQUISITIONS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The testing for 2020 resulted in a conclusion that it was not more likely than not that the fair value of the Corporation had declined below its carrying value and no impairment loss was recorded in 2020.

Liquidity management is the process by which the Corporation ensures that adequate liquid funds are available for the holding company and its subsidiaries.

14 unchanged sentences

The total available remaining borrowing capacity from the FHLB at December 31, 2021 was $728.5 million.

The required payments related to operating leases and borrowings at December 31, 2020 are as follows:

(Dollars in Thousands) 2021 2022 2023 2024 2025 2026 and

after ASC 805 fair value adjustments at acquisition Total

Operating leases $ 3,542 $ 3,394 $ 2,992 $ 2,921 $ 2,687 $ 7,716 $ — $ 23,252

The Corporation and the Bank receive outside credit ratings from Moody's.

Both the Corporation and the Bank currently have Issuer Ratings of Baa1 with a Rating Outlook of Stable.

Additionally, the Bank has a Baseline Credit Assessment Rating of a3.

Management considers these ratings to be indications of a sound capital base and strong liquidity and believes that these ratings would help ensure the ready marketability of its commercial paper.

Because of the Corporation's and Bank's current levels of long-term debt, management believes it could generate additional liquidity from various sources should the need arise.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following table presents the Corporation's material cash requirements from known contractual and other obligations at December 31, 2021:

Payments Due In

(Dollars in Thousands) One Year or Less Over One Year Total

Deposits without stated maturity $ 12,038,992 $ — $ 12,038,992

Certificates and other time deposits 548,203 145,382 693,585

Securities sold under repurchase agreements 181,577 — 181,577

2 unchanged sentences

Total $ 12,843,869 $ 526,352 $ 13,370,221

For further details related to the Corporation's borrowings, see NOTE 13.

For further details related to the Corporation's deposits and borrowings, see NOTE 10.

DEPOSITS and NOTE 11.

BORROWINGS of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Additionally, the Corporation has entered into a number of long-term leasing arrangements to support ongoing activities.

Details related to the Corporation's lease obligations are discussed within NOTE 10.

LEASES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report of Form 10-K.

Also, in the normal course of business, the Bank is a party to a number of other off-balance sheet activities that contain credit, market and operational risk that are not reflected in whole or in part in the consolidated financial statements.

10 unchanged sentences

Decisions regarding investment and the pricing of loan and deposit products are made after analysis of reports designed to measure liquidity, rate sensitivity, the Corporation’s exposure to changes in net interest income given various rate scenarios and the economic and competitive environments.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

It is the objective of the Corporation to monitor and manage risk exposure to net interest income caused by changes in interest rates.

3 unchanged sentences

Management believes that the Corporation's liquidity and interest sensitivity position at December 31, 2021 remained adequate to meet the Corporation’s primary goal of achieving optimum interest margins while avoiding undue interest rate risk.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following table presents the Corporation’s interest rate sensitivity analysis as of December 31, 2021.

33 unchanged sentences

These changes are immediate and parallel changes to the base case scenario.

In the current environment, many driver rates are at or near historical lows, thus total rate movements (beginning point minus ending point to each of the various driver rates) are illustrated in the table below without consideration of negative interest rates.

At December 31, 2020

RISING FALLING

Driver Rates (200 Basis Points) (100 Basis Points)

Federal Funds 200 —

One-Year CMT 200 (2)

Three-Year CMT 200 (5)

Five-Year CMT 200 (14)

CD's 200 (16)

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Results for the base, rising 200 basis points and falling 100 basis points interest rate scenarios are listed below based upon the Corporation’s rate sensitive assets and liabilities at December 31, 2020.

The net interest income shown represents cumulative net interest income over a twelve-month time horizon.

Balance sheet assumptions used for the base scenario are the same for the rising and falling simulations.

At December 31, 2020

RISING FALLING

(Dollars in Thousands) Base (200 Basis Points) (100 Basis Points)

Net Interest Income $ 354,341 $ 375,313 $ 356,848

Variance from Base $ 20,972 $ 2,507

Percent of Change from Base 5.9 % 0.7 %

The comparative rising 200 basis points and falling 100 basis points scenarios below, as of December 31, 2019, assume further interest rate changes in addition to the base simulation discussed above.

These changes are immediate and parallel changes to the base case scenario.

In addition, total rate movements (beginning point minus ending point) to each of the various driver rates utilized by management in the base simulation are as follows:

At December 31, 2019

RISING FALLING

Driver Rates (200 Basis Points) (100 Basis Points)

Prime 200 (100)

Federal Funds 200 (100)

One-Year CMT 200 (100)

Three-Year CMT 200 (100)

Five-Year CMT 200 (100)

CD's 200 (24)

FHLB 200 (89)

The net interest income shown represents cumulative net interest income over a twelve-month time horizon.

In the current rate environment, many drivers are at or near historical lows due to the FOMC's rate reductions in March 2020 in response to COVID-19.

Results for rising 200 basis points and falling 100 basis points interest rate scenarios are listed below based upon the Corporation’s rate sensitive assets and liabilities at December 31, 2021.

The change from the base case represents cumulative net interest income over a twelve-month time horizon.

Balance sheet assumptions used for the base scenario are the same for the rising and falling simulations.

At December 31, 2019

RISING FALLING

(Dollars in Thousands) Base (200 Basis Points) (100 Basis Points)

Net Interest Income $ 368,024 $ 289,367 $ 355,191

Variance from Base $ 21,343 $ (12,833)

Percent of Change from Base 5.8 % (3.5) %

December 31, 2021 December 31, 2020

Rising 200 basis points from base case 1.4% 5.9 %

Falling 100 basis points from base case (0.9)% 0.7 %

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

EARNING ASSETS

The following table presents the earning asset mix as of December 31, 2021 and December 31, 2020.

Earning assets increased by $1.6 billion during twelve months ended December 31, 2020.

Interest-bearing deposits increased $274.0 million from December 31, 2019 as a result of excess liquidity from deposit growth, primarily due to a portion of commercial PPP loan proceeds and consumer Economic Impact Payments from the IRS that have remained on deposit, and an increase in wholesale funding.

Additionally, total investment securities increased $550.7 million from December 31, 2019 as a portion of the excess liquidity from deposit growth and additional wholesale funding was used to invest in the bond portfolio.

Also contributing to the increase in investment securities was a $62.1 million increase in net unrealized gains on the available for sale portfolio.

The net increase in unrealized gains from December 31, 2019 to December 31, 2020 is primarily due to interest rate declines in 2020 as the longer term points on the yield curve have declined since year-end, which increases the fair value of securities in the portfolio.

Loans and loans held for sale increased $778.8 million from December 31, 2019.

As of December 31, 2020, the Corporation had $667.1 million of PPP loans, which were primarily included in the commercial and industrial loan class.

Additionally, other loan segments that experienced large increases from December 31, 2019 were commercial real estate, non-owner occupied and public finance and other commercial loans.

The largest loan segments that experienced decreases from December 31, 2019 were real estate construction and home equity loans.

Earning assets increased by $1.5 billion, or 11.4 percent, during the twelve months ended December 31, 2021.

Deposit growth of $1.4 billion, coupled with proceeds from SBA forgiveness of PPP loans, generated excess liquidity.

The Corporation primarily used the excess liquidity to purchase investment securities, which increased $1.4 billion from December 31, 2020.

Additionally, a portion of the excess liquidity was held in interest bearing deposits, which increased $81.8 million from December 31, 2020.

Additional details of the changes in the Corporation's investment securities portfolio are discussed within NOTE 4.

INVESTMENT SECURITIES of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

The Corporation's total loan portfolio increased $5.9 million from December 31, 2020.

At December 31, 2021, the Corporation's PPP loan portfolio, primarily in the commercial and industrial loan class, totaled $106.6 million, a decrease of $560.5 million from the December 31, 2020 balance of $667.1 million.

The Corporation experienced organic loan growth of $566.4 million, or 6.6 percent during 2021, which when offset by the decline in PPP loans, resulted in net loan growth of $5.9 million.

The largest loan classes that experienced increases from December 31, 2020 were public funds and other commercial loans, real estate construction loans and commercial real estate (owner occupied) loans.

The decline in PPP loans was offset by organic loan growth in the commercial and industrial loan class of $498.4 million, resulting in a net decrease in commercial and industrial.

Additional details of the changes in the Corporation's loan portfolio are discussed within NOTE 5.

LOANS AND ALLOWANCE of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

December 31, December 31,

7 unchanged sentences

$ 14,280,291 $ 12,814,968

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

DEPOSITS AND BORROWINGS

The table below reflects the level of deposits and borrowed funds (federal funds purchased, repurchase agreements, FHLB advances, subordinated debentures and term loans) at December 31, 2020 and 2019.

The table below reflects the level of deposits and borrowed funds (repurchase agreements, FHLB advances, subordinated debentures and term loans) at December 31, 2021 and 2020.

December 31, December 31,

(Dollars in Thousands) 2021 2020

Deposits $ 11,361,610 $ 9,839,956

Federal funds purchased — 55,000

Demand deposits $ 7,704,190 $ 6,821,152

Savings deposits 4,334,802 3,661,713

Certificates and other time deposits of $100,000 or more 273,379 346,194

Other certificates and time deposits 389,752 459,168

Brokered deposits 30,454 73,383

Total deposits 12,732,577 11,361,610

Securities sold under repurchase agreements 181,577 177,102

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Deposits increased $1.4 billion from December 31, 2020.

The Corporation experienced increases from December 31, 2019 in demand and savings deposits accounts of $1.6 billion and $765.5 million, respectively.

The Corporation experienced increases from December 31, 2020 in demand and savings deposits accounts of $883.0 million and $673.1 million, respectively.

A portion of the increase is due to PPP loans that have remained on deposit, in addition to consumer Economic Impact Payments from the IRS that have also remained on deposit.

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The low interest rate environment has resulted in customers migrating from maturing time deposit products into non-maturity products due to similar rates offered for both products.

FHLB advances increased $38.4 million, while federal funds purchased decreased $55.0 million.

Liquidity generated from an increase in deposits and FHLB advances was used to fund organic loan growth and investment securities purchases, and also to pay down wholesale funding sources.

Subordinated debentures and term loans decreased $20.3 million as compared to the same period in 2019.

The Corporation redeemed $20.0 million of subordinated debentures in 2020.

Of the redemptions, $10.0 million was for a partial redemption of debentures held by First Merchants Capital Trust II ("FMC Trust II") and the remaining $10.0 million was for a complete redemption of debentures held by Grabill Capital Trust I ("Grabill Trust").

Both FMC Trust II and Grabill Trust used the proceeds from the redemptions to concurrently redeem like amounts of their capital (preferred) securities, each with an aggregate principal redemption price of $10.0 million.

The common securities of FMC Trust II are, and the common securities of Grabill Trust were, held by the Corporation (recorded in other assets).

Subsequent to the redemption of its capital securities, Grabill Trust was dissolved.

Federal Home Loan Bank advances decreased $55.4 million compared to December 31, 2020 as the Corporation utilized excess liquidity from deposit growth to pay off maturing advances.

The Corporation has leveraged its capital position with FHLB advances, as well as repurchase agreements, which are pledged against acquired investment securities as collateral for the borrowings.

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Additionally, the interest rate risk is included as part of the Corporation’s interest simulation discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations under the heading “INTEREST SENSITIVITY AND DISCLOSURES ABOUT MARKET RISK”.

Income tax expense totaled $21.4 million for 2020 compared to $29.3 million for 2019.

The Corporation’s federal statutory income tax rate for 2020 is 21 percent and its state tax rate varies from 0 to 9.5 percent depending on the state in which the subsidiary company is domiciled.

The Corporation’s effective tax rate is lower than the blended effective statutory federal and state rates primarily due to the Corporation’s income on tax-exempt securities and loans, income generated by the subsidiaries domiciled in a state with no state or local income tax, income tax credits generated from investments in affordable housing projects, and tax-exempt earnings from bank-owned life insurance contracts.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Corporation’s federal statutory income tax rate for 2021 is 21 percent and its state tax rate varies from 0 to 9.5 percent depending on the state in which the subsidiary company operates.

The Corporation’s effective tax rate, which was 14.6 percent in 2021 and 12.6 percent in 2020, is lower than the blended effective statutory federal and state rates primarily due to the Corporation’s income on tax-exempt securities and loans, income generated by the subsidiaries operating in a state with no state or local income tax, income tax credits generated from investments in affordable housing projects, and tax-exempt earnings from bank-owned life insurance contracts.

The reconciliation of federal statutory to actual tax expense is shown in NOTE 19.

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The Corporation’s tax asset, deferred and receivable increased from $12.3 million at December 31, 2020 to $35.6 million at December 31, 2021.

The Corporation’s net deferred tax asset decreased from $8.3 million at December 31, 2019 to $4.3 million at December 31, 2020.

The $4.0 million decrease in the Corporation’s net deferred tax asset was due to an increase in deferred tax liabilities partially offset by an increase in deferred tax assets.

The largest deferred tax liability increase was associated with the tax effect of the change in unrealized gains and losses on available for sale securities of $13.1 million.

Additionally, the net change in deferred taxes associated with federal and state net operating loss carryforwards decreased the net deferred tax asset by $4.1 million.

This decrease was largely driven by the carryback of $9.1 million in federal net operating losses allowed under the CARES Act legislation.

Offsetting the decreases to the net deferred tax asset were deferred tax asset increases associated with accounting for loan losses and loan fees of $12.1 million and $3.9 million, respectively.

Changing prices of goods, services and capital affect the financial position of every business enterprise.

The level of market interest rates and the price of funds loaned or borrowed fluctuate due to changes in the rate of inflation and various other factors, including government monetary policy.

Fluctuating interest rates affect the Corporation’s net interest income and loan volume.

As the inflation rate increases, the purchasing power of the dollar decreases.

Those holding fixed-rate monetary assets incur a loss, while those holding fixed-rate monetary liabilities enjoy a gain.

The nature of a financial holding company’s operations is such that there will generally be an excess of monetary assets over monetary liabilities, and, thus, a financial holding company will tend to suffer from an increase in the rate of inflation and benefit from a decrease.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Corporation’s net deferred tax asset increased from $4.3 million at December 31, 2020 to $24.3 million at December 31, 2021.

The $20.0 million increase in the Corporation’s net deferred tax asset was due to a combination of an increase in deferred tax assets and a decrease in deferred tax liabilities.

The largest net deferred tax asset increases were associated with the tax effect of the implementation and accounting for CECL of $21.1 million and accounting for unrealized gains and losses on available for sale securities of $7.5 million.

The Corporation’s financial statements are presented in accordance with GAAP, which requires the measurement of financial position and operating results primarily in terms of historic dollar values.

Changes in the relative value of money due to inflation or recession are generally not considered.

The primary effect of inflation on the Corporation’s operations is reflected in increased operating costs.

In management’s opinion, changes in interest rates affect the financial condition of a financial institution to a far greater degree than changes in the inflation rate.

While interest rates are greatly influenced by changes in the inflation rate, they do not necessarily change at the same rate or in the same magnitude as the inflation rate.

Interest rates are highly sensitive to many factors that are beyond the Corporation’s control, including changes in the expected rate of inflation, the influence of general and local economic conditions and governmental monetary and fiscal policies.

The Corporation's sensitivity to interest rate changes are presented in this Management’s Discussion and Analysis of Financial Condition and Results of Operations under the heading “INTEREST SENSITIVITY AND DISCLOSURES ABOUT MARKET RISK”.

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-K

Item 7. Management’s Discussion and Analysis