FIVE STAR BANCORP 10-K

Item 8. Financial Statements and Supplementary Data Report of Independent Registered Public Accounting Firm The Shareholders and the Board of Directors of Five Star Bancorp and Subsidiary Opinion on the Consolidated Financial Statements We have audited the accompanying consolidated balance sheets of Five Star Bancorp and Subsidiary (the “Company”), as of December 31, 2021 and 2020, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for the years then ended, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2021 and 2020, and the consolidated results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting in accordance with the standards of the PCAOB. As part of our audits, we are required to obtain an understanding of internal control over financial reporting, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting in accordance with the standards of the PCAOB. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion. /s/ Moss Adams LLP San Francisco, California Firm ID is 659 February 25, 2022 We have served as the Company’s auditor since 2010. 77 FIVE STAR BANCORP AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS December 31, 2021 and 2020 (In thousands, except share data) 2021 2020 ASSETS Cash and due from financial institutions $ 136,074 $ 46,028 Interest-bearing deposits in banks 289,255 244,465 Cash and cash equivalents 425,329 290,493 Time deposits in banks 14,464 23,705 Securities available-for-sale, at fair value 148,807 114,949 Securities held-to-maturity, at amortized cost (fair value of $ 5,197 and $ 8,755 at December 31, 2021 and 2020, respectively) 4,946 7,979 Loans held for sale 10,671 4,820 Loans held for investment, net of allowance for loan losses of $ 23,243 and $ 22,189 at December 31, 2021 and 2020, respectively 1,911,217 1,480,970 Federal Home Loan Bank of San Francisco (“FHLB”) stock 6,723 6,232 Premises and equipment, net 1,773 1,663 Bank-owned life insurance (“BOLI”) 11,203 8,662 Interest receivable and other assets 21,628 14,292 Assets $ 2,556,761 $ 1,953,765 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits Non-interest-bearing $ 902,118 $ 701,079 Interest-bearing 1,383,772 1,082,922 Total deposits 2,285,890 1,784,001 Subordinated notes, net 28,386 28,320 Interest payable and other liabilities 7,439 7,669 Total liabilities 2,321,715 1,819,990 Commitments and contingencies (Note 15) Shareholders’ equity Preferred stock, no par value; 10,000,000 shares authorized; zero issued and outstanding at December 31, 2021 and 2020, respectively — — Common stock, no par value; 100,000,000 shares authorized; 17,224,848 shares issued and outstanding at December 31, 2021; 11,000,273 shares issued and outstanding at December 31, 2020 218,444 110,082 Retained earnings 17,168 22,348 Accumulated other comprehensive (loss) income, net ( 566 ) 1,345 Total shareholders’ equity 235,046 133,775 Liabilities and Shareholders’ Equity $ 2,556,761 $ 1,953,765 See accompanying notes to consolidated financial statements. 78 FIVE STAR BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF INCOME Years ended December 31, 2021 and 2020 (In thousands, except per share data) 2021 2020 Interest and dividend income Loans, including fees $ 78,894 $ 71,405 Taxable securities 1,321 1,287 Nontaxable securities 821 500 Interest-bearing deposits in other banks 547 1,198 Interest and dividend income 81,583 74,390 Interest expense Deposits 2,199 7,407 Subordinated notes 1,773 1,773 Interest expense 3,972 9,180 Net interest income 77,611 65,210 Provision for loan losses 1,700 9,000 Net interest income after provision for loan losses 75,911 56,210 Non-interest income Service charges on deposit accounts 424 367 Net gain on sale of securities 724 1,438 Gain on sale of loans 4,082 4,145 Loan-related fees 639 2,309 FHLB stock dividends 372 321 Earnings on BOLI 237 220 Other 802 502 Noninterest Income 7,280 9,302 Non-interest expense Salaries and employee benefits 19,825 16,084 Occupancy and equipment 1,938 1,715 Data processing and software 2,494 1,982 Federal Deposit Insurance Corporation (“FDIC”) insurance 700 1,137 Professional services 3,792 1,960 Advertising and promotional 1,300 1,102 Loan-related expenses 1,045 732 Other operating expenses 4,949 3,545 Noninterest expense 36,043 28,257 Income before provision for income taxes 47,148 37,255 Provision for income taxes 4,707 1,327 Net income $ 42,441 $ 35,928 Basic earnings per share $ 2.83 $ 3.57 Diluted earnings per share $ 2.83 $ 3.57 See accompanying notes to consolidated financial statements. 79 FIVE STAR BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME Years ended December 31, 2021 and 2020 (In thousands) 2021 2020 Net income $ 42,441 $ 35,928 Net unrealized holding (loss) gain on securities available-for-sale during the period ( 1,475 ) 2,860 Reclassification adjustment for net realized gains included in net income ( 724 ) ( 1,438 ) Income tax (benefit) expense related to other comprehensive (loss) income ( 288 ) 51 Other comprehensive (loss) income ( 1,911 ) 1,371 Total comprehensive income $ 40,530 $ 37,299 See accompanying notes to consolidated financial statements. 80 FIVE STAR BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY Years ended December 31, 2021 and 2020 (In thousands, except share and per share data) Accumulated Other Comprehensive Common Stock Retained Income (Loss), Shares Amount Earnings Net of Taxes Total Balance at December 31, 2019 9,674,875 $ 96,114 $ 12,789 $ ( 26 ) $ 108,877 Net income — — 35,928 — 35,928 Other comprehensive income — — — 1,371 1,371 Stock offering 1,250,000 12,500 — — 12,500 Stock issued under stock award plans 9,398 — — — — Stock compensation expense — 316 — — 316 Director stock compensation expense 16,000 252 — — 252 Common stock issued 50,000 900 — — 900 Cash dividends paid ($ 2.63 per share) — — ( 26,369 ) — ( 26,369 ) Balance at December 31, 2020 11,000,273 $ 110,082 $ 22,348 $ 1,345 $ 133,775 Net income — — 42,441 — 42,441 Other comprehensive loss — — — ( 1,911 ) ( 1,911 ) Stock offering 6,054,750 111,243 — — 111,243 Stock issued under stock award plans 132,707 — — — — Stock compensation expense — 594 — — 594 Director stock compensation expense 41,640 846 — — 846 Restricted stock forfeitures ( 4,522 ) — — — — Reclassification of retained deficit — ( 4,321 ) 4,321 — — Cash dividends paid ($ 4.55 per share) — — ( 51,942 ) — ( 51,942 ) Balance at December 31, 2021 17,224,848 $ 218,444 $ 17,168 $ ( 566 ) $ 235,046 See accompanying notes to consolidated financial statements. 81 FIVE STAR BANCORP AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS Years ended December 31, 2021 and 2020 (In thousands) 2021 2020 Cash flows from operating activities: Net income $ 42,441 $ 35,928 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 1,700 9,000 Loans originated for sale ( 48,169 ) ( 98,399 ) Gain on sale of loans ( 4,082 ) ( 4,145 ) Proceeds from sale of loans 43,024 108,149 Net gain on sale of securities ( 724 ) ( 1,438 ) Earnings on BOLI ( 237 ) ( 220 ) Stock compensation expense 594 316 Director stock compensation expense 846 252 Change in deferred loan fees ( 1,689 ) 2,367 Amortization and accretion of security premiums and discounts 1,561 1,138 Amortization of subordinated notes issuance costs 66 67 Depreciation and amortization 607 461 Deferred taxes ( 4,001 ) ( 143 ) Net changes in: Interest receivable and other assets ( 3,050 ) ( 3,548 ) Interest payable and other liabilities ( 230 ) 1,690 Net cash provided by operating activities 28,657 51,475 Cash flows from investing activities: Proceeds from sale of securities available-for-sale 47,096 46,406 Maturities, prepayments, and calls of securities available-for-sale 18,732 16,118 Purchases of securities available-for-sale ( 99,686 ) ( 97,571 ) Increase (decrease) in time deposits in banks 9,241 ( 3,761 ) Loan originations, net of repayments ( 426,882 ) ( 330,837 ) Purchase of premises and equipment ( 717 ) ( 833 ) Purchase of FHLB stock ( 491 ) ( 1,152 ) Purchase of BOLI ( 2,304 ) ( 1,000 ) Net cash used in investing activities ( 455,011 ) ( 372,630 ) Cash flows from financing activities: Net change in deposits 501,889 472,251 Proceeds from issuance of common stock 111,243 13,400 FHLB repayment — ( 25,000 ) Cash dividends paid ( 51,942 ) ( 26,369 ) Net cash provided by financing activities 561,190 434,282 Net change in cash and cash equivalents 134,836 113,127 Cash and cash equivalents at beginning of period 290,493 177,366 Cash and cash equivalents at end of period $ 425,329 $ 290,493 Supplemental disclosure of cash flow information: Interest paid $ 4,505 $ 9,713 Income taxes paid $ 10,450 $ 1,655 Supplemental disclosure of noncash investing and financing activities: Transfer from loans held for investment to loans held for sale $ 4,820 $ 6,527 Unrealized (loss) gain on securities $ ( 2,199 ) $ 1,422 Disposal of premises and equipment $ 515 $ — Reclassification of retained deficit $ 4,321 $ — See accompanying notes to consolidated financial statements. 82 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1: Basis of Presentation Nature of Operations and Principles of Consolidation Five Star Bank (the “Bank”) was chartered on October 26, 1999 and began operations on December 20, 1999. Five Star Bancorp (“Bancorp” or the “Company”) was incorporated on September 16, 2002 and subsequently obtained approval from the Board of Governors of the Federal Reserve System (the “Federal Reserve”) to be a bank holding company in connection with its acquisition of the Bank. The Company became the sole shareholder of the Bank on June 2, 2003 in a statutory merger, pursuant to which each outstanding share of the Bank’s common stock was exchanged for one share of common stock of the Company. The Company, through the Bank, provides a broad range of banking products and services to customers who are predominately small and medium-sized businesses, professionals, and individuals primarily in the Northern California region. Its primary loan products are commercial real estate loans, land development loans, construction loans, and operating lines of credit. Its primary deposit products are checking accounts, savings accounts, money market accounts, and term certificate accounts. The Bank currently has seven branch offices in Roseville, Natomas, Rancho Cordova, Redding, Elk Grove, Chico, and Yuba City, and two loan production offices in Santa Rosa and Sacramento. The Company terminated its status as a Subchapter S corporation as of May 5, 2021, in connection with the Company’s Initial Public Offering (“IPO”) and became a taxable C Corporation. Prior to that date, as an S Corporation, the Company had no U.S. federal income tax expense. The Company publicly filed a Registration Statement on Form S-1 with the U.S. Securities and Exchange Commission (“SEC”) in connection with its IPO (the “Registration Statement”), which was declared effective by the SEC on May 4, 2021. In connection with the IPO, the Company issued 6,054,750 shares of common stock, no par value, which included 789,750 shares sold pursuant to the underwriters’ exercise of their option to purchase additional shares. The securities were sold to the public at a price of $ 20.00 per share and began trading on the Nasdaq Global Select Market on May 5, 2021. On May 7, 2021, the closing date of the IPO, the Company received total net proceeds of $ 111,243,000 . The net proceeds less other related expenses, including audit fees, legal fees, listing fees, and other expenses, totaled $ 109,082,000 . Basis of Financial Statement Presentation and Consolidation The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) as contained within the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“ASC”) and the rules and regulations of the SEC, including the instructions to Regulation S-X. The consolidated financial statements include Five Star Bancorp and its wholly owned subsidiary, Five Star Bank. All significant intercompany transactions and balances are eliminated in consolidation. While the Company’s chief decision-makers monitor the revenue streams of the various products and services, operations are managed and financial performance is evaluated on a Company-wide basis. Discrete financial information is not available other than on a Company-wide basis. Accordingly, all of the financial service operations are considered by management to be aggregated in one reportable operating segment. The Company’s accounting and reporting policies conform to GAAP and to general practices within the banking industry. The Company qualifies as an emerging growth company as defined in the Jumpstart Our Business Startups Act of 2012, and a smaller reporting company, and, as such, may take advantage of specified reduced reporting requirements and is relieved of other significant requirements that are otherwise generally applicable to other public companies. Use of Estimates Management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates and assumptions affect the amounts reported in the consolidated financial statements and the disclosures provided, and actual results could differ. The allowance for loan losses is the most significant accounting estimate reflected in the Company’s consolidated financial statements. Other estimates include fair value measurements, valuation of servicing assets, and deferred tax asset valuation. 83 Cash and Cash Equivalents The Company defines cash and cash equivalents as cash, due from financial institutions, interest-bearing deposits in banks with short term original maturities, and federal funds sold. Generally, federal funds are sold for one-day periods, if at all. At times throughout the year, balances can exceed FDIC insurance limits. The Company has not experienced any historical losses associated with balances maintained with financial institutions in excess of FDIC insurance limits, and management continues to monitor the financial condition of the major financial institutions where these funds are held. Securities Available-for-Sale Available-for-sale securities consist of bonds, notes, and debentures not classified as trading securities or held-to-maturity securities. Securities are classified as available-for-sale if the Company intends and has the ability to hold those securities for a period of time, but not necessarily to maturity. Any decision to sell a security classified as available-for-sale would be based on various factors, including significant movements in interest rates, changes in the maturity mix of assets and liabilities, liquidity needs, regulatory capital considerations, and other similar factors. Securities available-for-sale are carried at fair value. Unrealized holding gains or losses are included in other comprehensive income as a separate component of shareholders’ equity, net of tax. Realized gains or losses, determined based on the cost of specific securities sold, are included in earnings. Premiums are amortized over the life of the security, or if a callable bond, over the earliest call date, and discounts are accreted over the life of the related investment security as an adjustment to interest income using the effective interest method. Interest income is recognized when earned. Investments with fair values that are less than amortized cost are considered impaired. Impairment may result from either a decline in the financial condition of the issuing entity or, in the case of fixed interest rate investments, from rising interest rates, or both. At each consolidated financial statement date, management assesses each investment to determine if impaired investments are temporarily impaired or if the impairment is other-than-temporary. Various factors are considered in the assessment, including the nature of the investment, the cause of the impairment, the severity and duration of the impairment, credit ratings, and other credit-related factors such as third-party guarantees and volatility of the security’s fair value. This assessment also includes a determination as to whether the Company intends to sell the security, or if it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis less any current-period credit losses. If the Company intends to sell a security or if it is more likely than not that the Company will be required to sell the security before recovery, an other-than-temporary impairment (“OTTI”) write-down is recognized in earnings equal to the entire difference between the security’s amortized cost basis and its fair value. For debt securities that are considered to be OTTI and that the Company does not intend to sell and will not be required to sell prior to recovery of the amortized cost basis, the amount of impairment is separated into the amount that is credit-related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is calculated as the difference between the security’s amortized cost basis and the present value of its expected future cash flows. The remaining difference between the security’s fair value and the present value of the future expected cash flows is deemed to be due to factors that are not credit-related and is recognized in other comprehensive income. Securities Held-to-Maturity Securities are classified as held-to-maturity if the Company has both the intent and ability to hold those securities to maturity regardless of changes in market conditions, liquidity needs, or changes in general economic conditions. These securities are carried at cost adjusted for amortization of premium to the earliest callable call date and accretion of discount, computed by the effective interest method over the life of the related investment. Loans and Allowance for Loan Losses Loans are reported at the principal amount outstanding, net of deferred loan fees and costs and the allowance for loan losses. Interest on loans is accrued daily based on the principal outstanding. Loan fees, net of certain direct costs of origination, are deferred and recognized in interest income using the level-yield method without anticipating prepayments. During the years ended December 31, 2021 and 2020, salaries and employee benefits totaling $ 5,198,000 and $ 3,194,000 , respectively, were deferred as loan origination costs. 84 Loans on which the accrual of interest has been discontinued are designated as non-accrual loans. Accrual of interest on loans is discontinued either when reasonable doubt exists as to the full and timely collection of interest or principal or when a loan becomes contractually past due by 90 days or more with respect to interest or principal. When a loan is placed on non-accrual status, all interest previously accrued, but not collected, is reversed against current period interest income. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest. The allowance for loan losses represents the estimated probable incurred loan losses in the Company’s loan portfolio. The allowance for loan losses is established through a provision for loan losses charged to operations. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Subsequent recoveries of previously charged off amounts, if any, are credited to the allowance for loan losses. The allowance for loan losses is evaluated on a regular basis by management and is based on management’s periodic review of the collectability of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. The Audit Committee of the board of directors reviews the adequacy of the allowance at least quarterly. The allowance consists of: (i) specific allowances for individually identified impaired loans (ASC 310-10, Receivables ); (ii) general allowances for pools of loans (ASC 450-20, Contingencies – Loss Contingencies ), which incorporate quantitative (e.g., historical loan loss rates) and qualitative risk factors (e.g., portfolio growth and trends, credit concentrations, economic and regulatory factors, etc.); and (iii) unallocated allowances, if any. The first component, specific allowances, results from the analysis of identified problem credits and the evaluation of sources of repayment, including collateral, as applicable. Through management’s ongoing credit monitoring process, individual loans are identified that have conditions indicating the borrower may be unable to pay all amounts due in accordance with contractual terms. These loans are evaluated for impairment individually by management. Management considers an originated loan to be impaired when it is probable that collection of all amounts due according to the contractual terms of the loan agreement is unlikely. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the facts and circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Interest income is recognized on impaired loans in the same manner as non-accrual loans. When the fair value of the impaired loan is less than the recorded investment in the loan, the difference is recorded as an impairment through the establishment of a specific allowance. For loans determined to be impaired, the extent of the impairment is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate at origination, based on the loan’s observable market price, or based on the fair value of the collateral if the loan is collateral dependent or if foreclosure is imminent. Generally, with problem credits that are collateral dependent, management obtains appraisals of the collateral at least annually. Appraisals may be obtained more frequently if management believes the collateral value is subject to market volatility, if a specific event has occurred to the collateral, or if the Company believes foreclosure is imminent. The second component, general allowances, is an estimate of the probable inherent losses in each loan pool with similar risk characteristics. This analysis encompasses the entire loan portfolio, excluding individually identified impaired loans. The model determines general allowances by loan segment based on quantitative (loss history) and qualitative risk factors. The third component, unallocated allowances, is maintained to cover other uncertainties that could affect management’s estimate of probable losses. The unallocated allowances reflect the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. While management believes the best information available is used to determine the allowance for loan losses, the results of operations could be significantly affected if circumstances differ substantially from the assumptions used in determining the allowance. A decline in local and national economic conditions, or significant changes in other assumptions, could result in a material increase in the allowance for loan losses and may adversely affect the Company’s financial condition and results of operations. While the Company believes the estimates and assumptions used in the determination of the adequacy of the allowance for loan losses are reasonable, there can be no assurance that such estimates and assumptions will not be proved incorrect in the future, that the actual amounts of future provisions will not exceed the amounts of past provisions, or that any increased provisions that may be required will not adversely impact the financial condition and results of operations of the Company. 85 The Company considers a loan to be a troubled debt restructure (“TDR”) when the Company has granted a concession and the borrower is experiencing financial difficulty. In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Company’s internal underwriting policy. A TDR loan generally is kept on non-accrual status until, among other criteria, the borrower has paid for six consecutive months with no payment defaults, at which time the TDR may be placed back on accrual status. In conjunction with the passage of the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), as well as the revised interagency guidance issued in April 2020, the “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working With Customers Affected by the Coronavirus (Revised),” banks have been provided the option, for loans meeting specific criteria, to temporarily suspend certain requirements under GAAP related to TDRs for a limited time to account for the effects of COVID-19. As a result, the Company has not recognized eligible COVID-19 loan modifications as TDRs. The CARES Act, as amended by the Consolidated Appropriations Act, specified that COVID-19 related loan modifications executed between March 1, 2020 and the earlier of: (i) 60 days after the date of termination of the national emergency declared by the President; and (ii) January 1, 2022, on loans that were current as of December 31, 2019 are not TDRs. Additionally, loans qualifying for these modifications are not required to be reported as delinquent, non-accrual, impaired, or criticized solely as a result of a COVID-19 loan modification. Federal Home Loan Bank Stock Federal Home Loan Bank stock represents the Company’s investment in the stock of the Federal Home Loan Bank of San Francisco (“FHLB”) and is carried at par value. While technically these are considered equity securities, there is no market for the FHLB stock. Therefore, the shares are considered as other investment securities. Management periodically evaluates FHLB stock for OTTI. Management’s determination of whether these investments are impaired is based on its assessment of the ultimate recoverability of cost rather than by recognizing temporary declines in value. The determination of whether a decline affects the ultimate recoverability of cost is influenced by criteria such as: (i) the significance of any decline in net assets of the FHLB as compared to the capital stock amount for the FHLB and the length of time this situation has persisted; (ii) commitments by the FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLB; (iii) the impact of legislative and regulatory changes on institutions and, accordingly, the customer base of the FHLB; and (iv) the liquidity position of the FHLB. Both cash and stock dividends are reported as non-interest income. Premises and Equipment Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are provided for in amounts sufficient to relate the cost of depreciable assets to operations over their estimated service lives using a straight-line basis. The normal estimated lives used in determining depreciation are as follows: Schedule of Useful Life of Premises and Equipment Equipment 3 - 12 years Furniture and Fixtures 5 - 10 years Leasehold Improvements 5 - 15 years Automobiles 3 - 5 years Leasehold improvements are amortized over the lesser of the useful life of the asset or the remaining term of the lease. The straight-line method of depreciation is followed for all assets for financial reporting purposes, but accelerated methods are used for tax purposes. When assets are sold or otherwise disposed of, the cost and related accumulated depreciation or amortization are removed from the accounts, and any resulting gain or loss is recognized in income for the period. The cost of maintenance and repairs is charged to expense as incurred. 86 Other Real Estate Real estate properties acquired through, or in lieu of, loan foreclosure, are classified as other real estate owned (“OREO”), are to be sold and are initially recorded at fair value of the property at the date of foreclosure less estimated selling costs. Any write-downs in value are recorded against the allowance for loan losses. Subsequent to foreclosure, valuations are periodically performed, and any revisions in the estimate of fair value are reported as adjustments to the carrying value of the real estate, provided the adjusted carrying amount does not exceed the original amount at foreclosure. Subsequent valuation adjustments are recognized as OREO write-downs. Revenues and expenses incurred from OREO property management are recorded in non-interest income and non-interest expense, respectively. During 2021 and 2020, the Bank did not foreclose on any loans. BOLI BOLI is recorded at the amount that can be realized under the insurance contract at the consolidated balance sheet date, which is the cash surrender value adjusted for other charges or other amounts due that are probable at settlement. Increases in contract value are recorded as non-interest income, and insurance proceeds received are recorded as a reduction of the contract value. Long-Term Assets Premises, equipment, and other long-term assets are reviewed for impairment when events indicate that their carrying amount may not be recoverable from future undiscounted cash flows. If impaired, the assets are adjusted to reflect their fair value. Equity Investments Equity investments with readily determinable fair values are carried at fair value, with changes in fair value reported in net income. Equity investments without readily determinable fair values are carried at cost, less impairment, if any, and adjusted for changes resulting from observable price changes in orderly transactions for the identical or similar investment. Loss Contingencies Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable, and an amount or range of loss can be reasonably estimated. Transfers of Financial Assets Transfers of an entire financial asset, a group of financial assets, or a participating interest in an entire financial asset, are accounted for as sales when control has been relinquished. Control is deemed to be surrendered when the assets have been isolated from the Company, the transferee obtains the right (free of more than trivial conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. Included in the loan portfolio are loans guaranteed by the Small Business Administration (“SBA”), the Farm Service Agency (“FSA”), the Federal Agriculture Mortgage Corporation (“Farmer Mac”) and the United States Department of Agriculture (“USDA”), of which the guaranteed portion is expected to be sold in the secondary market in exchange for a one-time premium. At the time the guaranteed portion of the loan is sold, the unguaranteed portion and related right to service the entire loan is retained with the Company, to earn future servicing income. The loans held for sale are accounted for at the lower of cost or fair value, using the aggregate method. Government guaranteed loans held for sale totaled $ 10,671,000 and $ 4,820,000 at December 31, 2021 and 2020, respectively. Servicing rights acquired through the origination of loans, which are subsequently sold with servicing rights retained, are recognized as separate assets or liabilities. Servicing assets and liabilities are initially recorded at fair value and are subsequently amortized in proportion to, and over the period of, the related net servicing income or expense. The amortized assets are assessed for impairment or increased obligations at the loan level, based on the fair value on a periodic basis. Loan Commitments and Related Financial Instruments Financial instruments include off-balance-sheet credit instruments, such as commitments to make loans, and financial standby letters of credit issued to meet customer financing needs. The face amount for these items represents the exposure to loss, before considering customer collateral or ability to repay. Such financial instruments are recorded when they are funded. The Company records an allowance for loan losses on unfunded loan commitments at the consolidated balance sheet date based on estimates of the probability that these commitments will be drawn upon according to historical utilization experience of the different types of commitments and historical loss rates determined for pooled funded loans. Reserves for unfunded commitments are included as a component of Interest payable and other liabilities on the consolidated balance sheets. 87 Stock-Based Compensation Compensation cost is recognized for stock options and restricted stock awards (“RSAs”) issued to executives, directors, and employees, based on the fair value of these awards at the date of grant. A Black-Scholes model is utilized to estimate the grant date fair value of stock options, while the fair value of the Company’s common stock at the date of grant is used for RSAs. Compensation cost is recognized over the required service period, generally defined as the vesting period. For awards with graded vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. Supplemental Executive Retirement Plan The Bank has entered into a non-qualified retirement plan for the Chief Executive Officer based on a continuation of employment. The present value of annual post-retirement payments is allocated to expense over the years of required service. Income Taxes The Company has historically elected to be taxed for U. S. federal income tax purposes as an S Corporation. In conjunction with the IPO, the Company filed consents from the requisite amount of shareholders to revoke its S Corporation election with the Internal Revenue Service (the “IRS”), resulting in the commencement of taxation as a C Corporation for U.S. federal and California state income tax purposes in the second quarter of fiscal year 2021. Upon termination of the Company’s S Corporation status, the Company commenced paying U.S. federal income tax and a higher California state income tax on taxable earnings for each year (including the short year beginning on the date the Company’s status as an S Corporation terminated). As a result of the termination of S Corporation status, deferred tax assets and liabilities were recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of the change in tax rates resulting from becoming a C Corporation was recognized in net income in the year ended December 31, 2021. The Company files its income taxes on a consolidated basis with its subsidiary. The allocation of income tax expense represents each entity’s proportionate share of the consolidated provision for income taxes. Income tax expense 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 for 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 Company accounts for uncertain tax positions in accordance with FASB ASC Topic No. 740, Accounting for Uncertainty in Income Taxes. A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that has a likelihood greater than 50% of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. Derivatives All derivative instruments are recorded at fair value. If derivative instruments are designated as hedges of fair values, both the change in the fair value of the hedge and the hedged item are included in current earnings. Fair value adjustments related to cash flow hedges, if any, are recorded in other comprehensive income or loss and reclassified to earnings when the hedged transaction is reflected in earnings. 88 Comprehensive Income or Loss Comprehensive income or loss consists of net income and other comprehensive income or loss. Other comprehensive income or loss includes unrealized gains and losses on securities available-for-sale, net of tax, which are also recognized as separate components of shareholders’ equity. Earnings Per Share (“EPS”) Basic EPS is net income divided by the weighted average number of common shares outstanding during the period less average unvested RSAs. Diluted EPS includes the dilutive effect of additional potential common shares related to unvested RSAs using the treasury stock method. During the years ended December 31, 2021 and 2020, there were no outstanding stock options. The Company has two forms of outstanding common stock: common stock and unvested RSAs. Following the Company’s IPO, holders of unvested RSAs receive non-forfeitable dividends at the same rate as common shareholders and they both share equally in undistributed earnings; therefore the RSAs are considered participating securities. However, under the two-class method, the difference in EPS is not significant for these participating securities. Schedule of Earning Per Share (in thousands, except share and per share data) 2021 2020 Net income $ 42,441 $ 35,928 Weighted average basic common shares outstanding 14,972,637 10,063,183 Add: Dilutive effects of assumed vesting of restricted stock 22,576 — Weighted average diluted common shares outstanding 14,995,213 10,063,183 Income per common share: Basic EPS $ 2.83 $ 3.57 Diluted EPS $ 2.83 $ 3.57 Anti-dilutive shares, which are excluded from the dilutive EPS calculation, were deemed to be immaterial. For the year ended December 31, 2020, pro forma EPS is calculated by applying a C Corporation effective tax rate of 29.56% to net income before provision for income taxes and using the determined pro forma net income balance to calculate EPS. For the year ended December 31, 2021, pro forma EPS is calculated by applying an effective tax rate of 19.80%, which is the actual effective tax rate, excluding the effects of the discrete deferred tax adjustment of $4,638,000, as discussed in Note 11, Income Taxes. The following reconciliation table provides a detailed calculation of pro forma EPS: Schedule of Pro forma Earning Per Share (in thousands, except share and per share data) 2021 2020 Net income before provision for income taxes - GAAP $ 47,148 $ 37,255 Actual/pro forma provision for income taxes ( 9,335 ) ( 11,013 ) Actual/pro forma net income 37,813 26,242 Weighted average basic common shares outstanding 14,972,637 10,063,183 Add: Dilutive effects of assumed vesting of restricted stock 22,576 — Weighted average diluted common shares outstanding 14,995,213 10,063,183 Income per common share: Basic EPS $ 2.53 $ 2.61 Diluted EPS $ 2.52 $ 2.61 Subordinated Notes The subordinated notes are recorded at par with related debt issuance costs reported as a direct reduction from the carrying amount. Issuance costs are amortized over the remaining maturity of the notes and reflected in interest expense. Fair Value of Financial Instruments The consolidated financial statements include various estimated fair value information as of December 31, 2021 and 2020. Such information, which pertains to the Company’s financial instruments, does not purport to represent the aggregate net fair value of the Company. Further, the fair value estimates are based on various assumptions, methodologies, and subjective considerations, which vary widely among different financial institutions, and are subject to change. 89 Fair Value Measurements The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The Company bases the fair values on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Securities available-for-sale, and derivatives, if any, are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record certain assets at fair value on a non-recurring basis, such as loans held for sale, certain collateral dependent impaired loans held for investment and held-to-maturity securities that are other-than-temporarily impaired. These non-recurring fair value adjustments typically involve write-downs of individual assets due to application of lower of cost or fair value accounting. Accounting standards require the Company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value: Level 1 : Quoted prices (unadjusted) for identical assets or liabilities in active markets that the Company has the ability to access as of the measurement date. Level 2 : Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data. Level 3 : Significant unobservable inputs that reflect the Company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability. The fair values of securities are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). As a result, if other assumptions had been used, the Company’s recorded earnings or disclosures could have been materially different from those reflected in these consolidated financial statements. Subsequent Events The Company has evaluated events and transactions subsequent to December 31, 2021 for recognition or disclosure. Reclassifications Certain amounts reported in previous consolidated financial statements have been reclassified to conform to current year presentation. These reclassifications did not affect previously reported amounts of net income, total assets, or total shareholders’ equity. Note 2: Recently Issued Accounting Standards The following reflect recent accounting standards that are pending adoption by the Company. As discussed in Note 1, Basis of Presentation, the Company qualifies as an emerging growth company, and as such, has elected to use the extended transition period for complying with new or revised accounting standards and is not subject to the new or revised accounting standards applicable to public companies during the extended transition period. The accounting standards discussed below reflect effective dates for the Company as an emerging growth company with the extended transition period. Accounting Standards Not Yet Adopted In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) . The amendments in this ASU intend to increase transparency and comparability among organizations by recognizing an asset, which represents the right to use the asset for the lease term, and a lease liability, which is a lessee’s obligation to make lease payments measured on a discounted basis. This ASU generally applies to leasing arrangements exceeding a twelve-month term. As amended by ASU 2020-05, Revenue from Contracts with Customers (Topic 606) and Leases (Topic 842): Effective Dates for Certain Entities, ASU 2016-02 is effective for annual periods, including interim periods within those annual periods beginning after December 15, 2021 and requires a modified retrospective method of adoption. In July 2018, the FASB issued two amendments to ASU 2016-02: ASU No. 2018-10, Codification Improvements to Topic 842, Leases , which provides various corrections and clarifications to ASU 2016-02; and ASU No. 2018-11, Leases (Topic 842): Targeted Improvements , which provides a new optional transition method and provides a lessor with practical expedients for separating lease and non-lease components of a lease. In July 2021, the FASB issued ASU No. 2021-05, Leases (Topic 842): Lessors- Certain Leases with Variable Lease Payments , which amends ASU 2016-02 and requires a lessor to classify a lease with variable lease payments that do not depend on an index or rate as an operating lease on the commencement date of the lease if specified criteria are met. Entities will apply a modified retrospective approach at either the beginning of the earliest period presented or at the beginning of the period of adoption through a cumulative-effect adjustment to retained earnings. The Company estimates that the adoption of this standard will result in an increase in assets of approximately $5,200,000, with a corresponding increase in liabilities, to recognize the present value of its lease obligations in accordance with the standard. The Company does not expect this to have a material impact on the Company’s results of operations or cash flows. 90 In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments . The standard will replace the “incurred loss” model with a “current expected credit loss” (“CECL”) model. The CECL model will apply to estimated credit losses on loans receivable, held-to-maturity debt securities, unfunded loan commitments, and certain other financial assets measured at amortized cost. The CECL model is based on lifetime expected losses, rather than incurred losses, and requires the recognition of credit loss expense in the consolidated statement of income and a related allowance for credit losses on the consolidated statement of condition at the time of origination or purchase of a loan receivable or held-to-maturity debt security. Likewise, subsequent changes in this estimate are recorded through credit loss expense and related allowance. The CECL model requires the use of not only relevant historical experience and current conditions, but reasonable and supportable forecasts of future events and circumstances, incorporating a broad range of information in developing credit loss estimates, which could result in significant changes to both the timing and amount of credit loss expense and allowance. Under ASU 2016-13, available-for-sale debt securities are evaluated for impairment if fair value is less than amortized cost, with any estimated credit losses recorded through a credit loss expense and an allowance, rather than a write-down of the investment. Changes in fair value that are not credit-related will continue to be recorded in other comprehensive income. The ASU also expands the disclosure requirements regarding assumptions, models, and methods for estimating the allowance for loan losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination. ASU 2016-13 is effective for the Company for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. Entities will apply a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. While the Company believes the change from an incurred loss model to a CECL model has the potential to increase the allowance for loan losses at the adoption date, the Company cannot reasonably quantify the impact of the adoption of the amendments to its financial condition or results of operations at this time due to the complexity and extensive changes resulting from these amendments. The Company is working with its third-party vendor to identify data gaps and determine the appropriate methodologies and resources to utilize in preparation for its transition to the new accounting standard, including but not limited to the use of certain tools to forecast future economic conditions that affect the cash flows of loans over their lifetime. In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The primary objective of the amendments in this update is to simplify the application of hedge accounting. More specifically, the amendments in this update better align an entity’s risk management activities and financial reporting for hedging relationships through changes to both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. Furthermore, the amendments expand and refine hedge accounting for both nonfinancial and financial risk components and align the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements. Additionally, amendments in this update require an entity to present the earnings effect of the hedging instrument in the same income statement line item in which the earnings effect of the hedged item is reported. Hedge ineffectiveness is no longer separately measured and reported. The amendments in this update will be effective for fiscal years beginning after December 15, 2020 and interim periods within fiscal years beginning after December 15, 2021. Early adoption is permitted in any interim period. The impact of adopting this ASU is expected to be immaterial to the Company’s consolidated financial statements. In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848) . The amendments in this ASU are elective and provide optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform. The amendments in this ASU provide optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions that reference the London Inter-Bank Offered Rate (“LIBOR”) or another reference rate expected to be discontinued because of reference rate reform. Additionally, in January 2021, the FASB issued ASU No. 2021-01, Reference Rate Reform (Topic 848), which refines the scope of ASC 848 and clarifies its guidance, permitting entities to elect certain optional expedients and exceptions when accounting for derivative contracts and certain hedging relationships affected by changes in the interest rates used for discounting cash flows, computing variation margin settlements, and calculating price alignment interest in connection with reference rate reform activities under way in global financial markets. The amendments in these ASUs may be elected as of March 12, 2020 through December 31, 2022. LIBOR administrators have indicated that certain LIBOR settings will continue to be published through June 30, 2023. An entity may choose to elect the amendments in these updates at an interim period subsequent to March 12, 2020, with adoption methods varying based on transaction type. The Company has not elected to apply these amendments; however, the Company is assessing the applicability of the ASUs and continues to monitor guidance for reference rate reform from FASB and its impact on the Company’s consolidated financial statements. 91 Note 3: Investment Securities The Company’s investment securities portfolio includes obligations of states and political subdivisions, securities issued by U.S. federal government agencies such as the Government National Mortgage Association (the “GNMA”) and the SBA, and securities issued by U.S. government-sponsored enterprises (“GSEs”), such as the Federal National Mortgage Association (the “FNMA”), the Federal Home Loan Mortgage Corporation (the “FHLMC”), and the FHLB. The Company also invests in residential and commercial mortgage-backed securities, collateralized mortgage obligations issued or guaranteed by the GSEs, and corporate bonds, as reflected in the following tables. A summary of the amortized cost and fair value related to securities held-to-maturity as of December 31, 2021 and 2020 is presented below. Schedule of Securities Held-To-Maturity Gross Unrealized (in thousands) Amortized Cost Gains (Losses) Fair Value 2021 Obligations of states and political subdivisions 4,946 251 — 5,197 Total held-to-maturity $ 4,946 $ 251 $ — $ 5,197 2020 Obligations of states and political subdivisions 7,979 776 — 8,755 Total held-to-maturity $ 7,979 $ 776 $ — $ 8,755 For securities issued by states and political subdivisions, for OTTI purposes, management considers: (i) issuer and/or guarantor credit ratings; (ii) historical probability of default and loss given default rates for given bond ratings and remaining maturity; (iii) whether issuers continue to make timely principal and interest payments under the contractual terms of the securities; (iv) internal credit review of the financial information; and (v) whether or not such securities have credit enhancements such as guarantees, contain a defeasance clause, or are pre-refunded by the issuers. A summary of the amortized cost and fair value related to securities available-for-sale as of December 31, 2021 and 2020 is presented below. Schedule of Securities Available-for-Sale Gross Unrealized (in thousands) Amortized Cost Gains (Losses) Fair Value 2021 U.S. government agencies $ 19,824 $ 60 $ ( 202 ) $ 19,682 Mortgage-backed securities 82,517 94 ( 1,098 ) 81,513 Obligations of states and political subdivisions 44,732 525 ( 120 ) 45,137 Collateralized mortgage obligations 537 3 — 540 Corporate bonds 2,000 — ( 65 ) 1,935 Total available-for-sale $ 149,610 $ 682 $ ( 1,485 ) $ 148,807 2020 U.S. government agencies $ 32,069 $ 111 $ ( 352 ) $ 31,828 Mortgage-backed securities 23,601 338 ( 7 ) 23,932 Obligations of states and political subdivisions 57,137 1,291 ( 8 ) 58,420 Collateralized mortgage obligations 748 21 — 769 Total available-for-sale $ 113,555 $ 1,761 $ ( 367 ) $ 114,949 92 The amortized cost and fair value of investment debt securities by contractual maturity at December 31, 2021 and 2020 are shown below. Expected maturities may differ from contractual maturities if the issuers of the securities have the right to call or prepay obligations with or without call or prepayment penalties. Schedule of Investment Securities by Contractual Maturity 2021 2020 Held-to-Maturity Available-for-Sale Held-to-Maturity Available-for-Sale (in thousands) Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Within one year $ 491 $ 516 $ — $ — $ 494 $ 543 $ — $ — After one but within five years 951 999 507 522 2,143 2,351 1,141 1,206 After five years through ten years 3,504 3,682 3,697 3,748 2,755 3,023 8,340 8,599 After ten years — — 40,528 40,867 2,587 2,838 47,656 48,615 Investment securities not due at a single maturity date: U.S. government agencies — — 19,824 19,682 — — 32,069 31,828 Mortgage-backed securities — — 82,517 81,513 — — 23,601 23,932 Collateralized mortgage obligations — — 537 540 — — 748 769 Corporate bonds — — 2,000 1,935 — — — — Total $ 4,946 $ 5,197 $ 149,610 $ 148,807 $ 7,979 $ 8,755 $ 113,555 $ 114,949 Sales proceeds of investment securities and gross realized gains and/or losses are shown in the following table: Schedule of Investment Securities Available-for-Sale Gross Realized Gain and Losses (in thousands) 2021 2020 Available-for-sale: Sales proceeds $ 47,096 $ 46,406 Gross realized gains 724 1,438 Pledged investment securities are shown in the following table: (in thousands) 2021 2020 Pledged to the State of California: Secure deposits of public funds and borrowings $ 63,363 $ 52,897 Total pledged investment securities $ 63,363 $ 52,897 93 The following table details the gross unrealized losses and fair values aggregated by investment category and length of time that individual available-for-sale securities have been in a continuous unrealized loss position at December 31, 2021 and 2020: < 12 continuous months ≥ 12 continuous months Total securities in a loss position (in thousands) Fair Value Unrealized Loss Fair Value Unrealized Loss Fair Value Unrealized Loss 2021 U.S. government agencies $ — $ — $ 13,399 $ ( 202 ) $ 13,399 $ ( 202 ) Mortgage-backed securities 73,972 ( 1,046 ) 1,400 ( 52 ) 75,372 ( 1,098 ) Obligations of states and political subdivisions 14,014 ( 112 ) 407 ( 8 ) 14,421 ( 120 ) Corporate bonds 1,935 ( 65 ) — — 1,935 ( 65 ) Total temporarily impaired securities $ 89,921 $ ( 1,223 ) $ 15,206 $ ( 262 ) $ 105,127 $ ( 1,485 ) 2020 U.S. government agencies $ 10,800 $ ( 56 ) $ 15,195 $ ( 296 ) $ 25,995 $ ( 352 ) Mortgage-backed securities 1,786 ( 7 ) — — 1,786 ( 7 ) Obligations of states and political subdivisions 3,922 ( 8 ) — — 3,922 ( 8 ) Total temporarily impaired securities $ 16,508 $ ( 71 ) $ 15,195 $ ( 296 ) $ 31,703 $ ( 367 ) There were 91 and 31 securities in unrealized loss positions at December 31, 2021 and 2020, respectively, which were all classified as available-for-sale. As of December 31, 2021, the investment portfolio included 16 investment securities that had been in a continuous loss position for twelve months or more and 75 investment securities that had been in a loss position for less than twelve months. The Company periodically evaluates each available-for-sale investment security in an unrealized loss position to determine if the impairment is temporary or other than temporary and has determined that no investment security is OTTI. The unrealized losses are due primarily to interest rate changes. The Company does not intend, and it is more likely than not that the Company will not be required, to sell the securities before the earlier of the forecasted recovery or the maturity of the underlying debt security. There were no held-to-maturity securities in a continuous loss position at December 31, 2021 or 2020. Obligations issued or guaranteed by government agencies such as the GNMA and the SBA or GSEs under conservatorship such as the FNMA and the FHLMC are guaranteed or sponsored by agencies of the U.S. government and have strong credit profiles. The Company therefore expects to receive all contractual interest payments on time and believes the risk of credit losses on these securities is remote. The Company’s investment in obligations of states and political subdivisions are deemed credit worthy after management’s comprehensive analysis of the issuers’ latest financial information, credit ratings by major credit agencies, and/or credit enhancements. Non-Marketable Securities Included in Other Assets FHLB capital stock : As a member of the FHLB, the Company is required to maintain a minimum investment in FHLB capital stock determined by the board of directors of the FHLB. The minimum investment requirements can increase in the event the Company increases its total asset size or borrowings with the FHLB. Shares cannot be purchased or sold except between the FHLB and its members at the $100 per share par value. The Company held $ 6,723,000 and $ 6,232,000 of FHLB stock at December 31, 2021 and 2020, respectively. The carrying amounts of these investments are reasonable estimates of fair value because the securities are restricted to member banks and do not have a readily determinable market value. Based on management’s analysis of the FHLB’s financial condition and certain qualitative factors, management determined that the FHLB stock was not impaired at December 31, 2021 and 2020. For the years ended December 31, 2021 and 2020, cash dividends received on FHLB capital stock in the amount of $ 372,000 and $ 321,000 , respectively, were recorded as non-interest income on the consolidated statements of income. 94 Note 4: Loans and Allowance for Loan Losses The following table presents the balance of each major product type within the Company’s portfolio as of the dates indicated. Schedule of Loan Portfolio (in thousands) 2021 2020 Real estate: Commercial $ 1,586,232 $ 1,002,497 Commercial land and development 7,376 10,600 Commercial construction 54,214 91,760 Residential construction 7,388 11,914 Residential 28,562 30,431 Farmland 54,805 50,164 Commercial: Secured 137,062 138,676 Unsecured 21,136 17,526 Paycheck Protection Program (“PPP”) 22,124 147,965 Consumer and other 17,167 4,921 Subtotal 1,936,066 1,506,454 Less: Net deferred loan fees 1,606 3,295 Less: Allowance for loan losses 23,243 22,189 Total loans, net $ 1,911,217 $ 1,480,970 Allowance for Loan Losses Management has an established methodology to determine the adequacy of the allowance for loan losses that assesses the risks and losses inherent in the loan portfolio. For purposes of determining the allowance for loan losses, the Bank has segmented certain loans in the portfolio by product type. Loans are segmented into the following pools: commercial, real estate, and consumer. The Company further sub-divides these segments into classes based on the associated risks within those segments. Commercial loans are divided into the following two classes: unsecured and secured loans. Real estate loans are divided into the following six classes: commercial real estate, commercial land and development, commercial construction, residential construction, residential real estate, and farmland. For each class of loans, management exercises significant judgment to determine the estimation method that fits the credit risk characteristics of its portfolio segment. The Company uses an internally developed model in this process. Management must use judgment in establishing additional input metrics for the modeling processes. The models and assumptions used to determine the allowance are independently validated and reviewed, at least annually, to ensure that their theoretical foundation, assumptions, data integrity, computational processes, reporting practices, and end-user controls are appropriate and properly documented. CARES Act and PPP Loans Pursuant to the CARES Act, which was passed in March 2020, the Company funded over 1,500 loans to eligible small businesses and non-profit organizations who participated in the PPP administered by the SBA. PPP loans have terms of two or five years and earn interest at 1.00%. In addition, the Bank received a fee of 1.00% to 5.00% from the SBA depending on the loan amount, which was netted with loan origination costs and amortized into interest income under the effective yield method over the contractual life of the loan. The recognition of fees and costs is accelerated when the loan is forgiven by the SBA and/or paid off prior to maturity. PPP loans are fully guaranteed by the SBA and are expected to be forgiven by the SBA if they meet the requirements of the program. The balance of PPP loans at December 31, 2021 and 2020 was $ 22,124,000 and $ 147,965,000 , respectively. The CARES Act also required the SBA to make payments on new and existing 7(a) loans for a period of six months. These were not deferments but rather full payments of principal and interest for which the borrower will not be responsible for in the future. As of December 31, 2021 and 2020, the principal outstanding on loans receiving one or more of these payments under the CARES Act was $ 46,601,000 and $ 51,237,000 , respectively. Underwriting Commercial loans : Commercial loans are underwritten after evaluating and understanding the borrower’s ability to operate profitably and prudently expand its business. Underwriting standards are designed to promote relationship banking rather than transactional banking. Once it is determined that the borrower’s management possesses sound ethics and solid business acumen, the Company’s management examines current and projected cash flows to determine the ability of the borrower to repay its obligations as agreed. Commercial loans are primarily made based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. The cash flows of borrowers, however, may not be as expected, and the collateral securing these loans may fluctuate in value. Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee; however, some short-term loans may be made on an unsecured basis. In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers. 95 Real estate loans : Real estate loans are subject to underwriting standards and processes similar to commercial loans. These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial real estate lending typically involves higher loan principal amounts, and the repayment of these loans is generally largely dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected than other loans by conditions in the real estate market or in the general economy. The properties securing the Company’s commercial real estate portfolio are diverse in terms of type. This diversity helps reduce the Company’s exposure to adverse economic events that affect any single market or industry. Management monitors and evaluates commercial real estate loans based on collateral, geography, and risk grade criteria. Construction loans : With respect to construction loans that the Company may originate from time to time, the Company generally requires the borrower to have had an existing relationship with the Company and have a proven record of success. Construction loans are underwritten utilizing feasibility studies, independent appraisal reviews, sensitivity analysis of absorption and lease rates, and financial analysis of the developers and property owners. Construction loans are generally based upon estimates of costs and value associated with the complete project. These estimates may be inaccurate. Construction loans often involve the disbursement of substantial funds with repayment substantially dependent on the ultimate success of the project. Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term lenders, sales of developed property, or an interim loan commitment from the Company until permanent financing is obtained. These loans are closely monitored by on-site inspections and are generally considered to have higher risks than other real estate loans due to their ultimate repayment being sensitive to interest rate changes, governmental regulation of real property, general economic conditions, and the availability of long-term financing. Residential real estate loans : Residential real estate loans are underwritten based upon the borrower’s income, credit history, and collateral. To monitor and manage residential loan risk, policies and procedures are developed and modified, as needed. This activity, coupled with relatively small loan amounts that are spread across many individual borrowers, minimizes risk. Underwriting standards for home loans are heavily influenced by statutory requirements, which include, but are not limited to, a maximum loan-to-value percentage, collection remedies, the number of such loans a borrower can have at one time, and documentation requirements. Farmland loans : Farmland loans are generally made to producers and processors of crops and livestock. Repayment is primarily from the sale of an agricultural product or service. Farmland loans are secured by real property and are susceptible to changes in market demand for specific commodities. This may be exacerbated by, among other things, industry changes, changes in the individual financial capacity of the business owner, general economic conditions, and changes in business cycles, as well as adverse weather conditions. Consumer loans : The Company purchased consumer loans underwritten utilizing credit scoring analysis to supplement the underwriting process. To monitor and manage consumer loan risk, policies and procedures are developed and modified, as needed. This activity, coupled with relatively small loan amounts that are spread across many individual borrowers, minimizes risk. Underwriting standards for home equity loans are heavily influenced by statutory requirements, which include, but are not limited to, a maximum loan-to-value percentage, collection remedies, the number of such loans a borrower can have at one time, and documentation requirements. Concentrations The Company’s customers are primarily located in the Greater Sacramento and North Valley regions of California. As of December 31, 2021, approximately 90% of the Company’s loans were real estate related, 9% were commercial, and less than 1% were consumer. Credit Quality Indicators The Company has established a loan risk rating system to measure and monitor the quality of the loan portfolio. All loans are assigned a risk rating from the inception of the loan until the loan is paid off. The primary loan grades are as follows: Loans rated pass : These are loans to borrowers with satisfactory financial support, repayment capacity, and credit strength. Borrowers in this category demonstrate fundamentally sound financial positions, repayment capacity, credit history, and management expertise. Loans in this category must have an identifiable and stable source of repayment and meet the Company’s policy regarding debt service coverage ratios. These borrowers are capable of sustaining normal economic, market, or operational setbacks without significant financial impacts. Financial ratios and trends are acceptable. Negative external industry factors are generally not present. The loan may be secured, unsecured, or supported by non-real estate collateral for which the value is more difficult to determine and/or marketability is more uncertain. 96 Loans rated watch : These are loans which have deficient loan quality and potentially significant issues, but losses do not appear to be imminent, and the issues are expected to be temporary in nature. The significant issues are typically: (i) a history of losses or events that threaten the borrower’s viability; (ii) a property with significant depreciation and/or marketability concerns; or (iii) poor or deteriorating credit, occasional late payments, and/or limited reserves but loan is generally kept current. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Company’s credit position at some future date. Loans rated substandard : These are loans which are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged (if any). Loans so classified exhibit a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. Loans are characterized by the distinct possibility that the Company may sustain some loss if the deficiencies are not corrected. The substandard loan category includes loans that management has determined not to be impaired, as well as loans that are impaired. Loans rated doubtful : These are loans for which the collection or liquidation of the entire debt is highly questionable or improbable. Typically, the possibility of loss is extremely high. The losses on these loans are deferred until all pending factors have been addressed. The following table summarizes the credit quality indicators related to the Company’s loans by class as of December 31, 2021: Schedule of Loan by credit quality (in thousands) Pass Watch Substandard Doubtful Total Real estate: Commercial $ 1,575,006 $ 1,970 $ 9,256 $ — $ 1,586,232 Commercial land and development 7,376 — — — 7,376 Commercial construction 48,288 5,926 — — 54,214 Residential construction 7,388 — — — 7,388 Residential 28,384 — 178 — 28,562 Farmland 54,805 — — — 54,805 Commercial: Secured 135,131 751 1,180 — 137,062 Unsecured 21,136 — — — 21,136 PPP 22,124 — — — 22,124 Consumer 17,167 — — — 17,167 Total $ 1,916,805 $ 8,647 $ 10,614 $ — $ 1,936,066 The following table summarizes the credit quality indicators related to the Company’s loans by class as of December 31, 2020: (in thousands) Pass Watch Substandard Doubtful Total Real estate: Commercial $ 950,118 $ 16,836 $ 35,543 $ — $ 1,002,497 Commercial land and development 10,600 — — — 10,600 Commercial construction 85,860 5,900 — — 91,760 Residential construction 11,914 — — — 11,914 Residential 30,248 — 183 — 30,431 Farmland 50,164 — — — 50,164 Commercial: Secured 136,992 1,552 132 — 138,676 Unsecured 17,526 — — — 17,526 PPP 147,965 — — — 147,965 Consumer 4,921 — — — 4,921 Total $ 1,446,308 $ 24,288 $ 35,858 $ — $ 1,506,454 97 Management regularly reviews the Company’s loans for accuracy of risk grades whenever new information is received. Borrowers are generally required to submit financial information at regular intervals. Typically, commercial borrowers with lines of credit are required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk, and complexity. In addition, investor commercial real estate borrowers with loans exceeding a certain dollar threshold are usually required to submit rent rolls or property income statements annually. Management monitors construction loans monthly and reviews other consumer loans based on delinquency. Management also reviews loans graded “watch” or worse, regardless of loan type, no less than quarterly. The age analysis of past due loans by class as of December 31, 2021 consisted of the following: Schedule of Age Analysis of Past Due Loan Past Due (in thousands) 30-89 Days Greater Than 90 Days Total Past Due Current Total Loans Receivable Real estate: Commercial $ — $ — $ — $ 1,586,232 $ 1,586,232 Commercial land and development — — — 7,376 7,376 Commercial construction — — — 54,214 54,214 Residential construction — — — 7,388 7,388 Residential — — — 28,562 28,562 Farmland — — — 54,805 54,805 Commercial: Secured — — — 137,062 137,062 Unsecured — — — 21,136 21,136 PPP — — — 22,124 22,124 Consumer and other 334 — 334 16,833 17,167 Total loans $ 334 $ — $ 334 $ 1,935,732 $ 1,936,066 There were no loans between 60-89 days past due, nor any loans greater than 90 days past due and still accruing as of December 31, 2021. The age analysis of past due loans by class as of December 31, 2020 consisted of the following: Past Due (in thousands) 30-89 Days Greater Than 90 Days Total Past Due Current Total Loans Receivable Real estate: Commercial $ — $ — $ — $ 1,002,497 $ 1,002,497 Commercial land and development — — — 10,600 10,600 Commercial construction — — — 91,760 91,760 Residential construction — — — 11,914 11,914 Residential — — — 30,431 30,431 Farmland — — — 50,164 50,164 Commercial: Secured — — — 138,676 138,676 Unsecured — — — 17,526 17,526 PPP — — — 147,965 147,965 Consumer and other 137 — 137 4,784 4,921 Total loans $ 137 $ — $ 137 $ 1,506,317 $ 1,506,454 There were no loans between 60-89 days past due nor any loans greater than 90 days past due and still accruing as of December 31, 2020. 98 Impaired Loans Information related to impaired loans as of December 31, 2021 and 2020 consisted of the following: Schedule of Impaired Loans by class of Loans (in thousands) Recorded Investment Unpaid Principal Balance Related Allowance Average Recorded Investment Interest Income Recognized 2021 Real estate: Commercial $ 122 $ 122 $ — $ 130 $ — Residential 178 178 — 181 — Commercial: Secured 288 288 172 306 — Total impaired loans $ 588 $ 588 $ 172 $ 617 $ — 2020 Real estate: Commercial $ 137 $ 137 $ — $ 69 $ — Residential 183 183 — 92 — Commercial: Secured 132 132 — 65 — Total impaired loans $ 452 $ 452 $ — $ 226 $ — No collateral dependent loans were in process of foreclosure at December 31, 2021 or 2020. In addition, the weighted average loan-to-value of impaired, collateral dependent loans was approximately 70.67% and 50.51% at December 31, 2021 and 2020, respectively. Non-accrual loans, segregated by class, are as follows as of December 31, 2021 and 2020: Schedule of Nonaccural Loans, segregated by class (in thousands) 2021 2020 Real estate: Commercial $ 122 $ 137 Residential 178 183 Commercial: Secured 288 132 Total non-accrual loans $ 588 $ 452 The amount of foregone interest income related to non-accrual loans was $ 33,000 and $ 35,000 for the years ended December 31, 2021 and 2020, respectively. Troubled Debt Restructuring The Company’s loan portfolio may include certain loans that have been modified in a TDR, which are loans for which concessions in terms have been granted because of the borrowers’ financial difficulties. These concessions typically result from the Company’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance, or other actions. Certain TDRs are placed on non-accrual status at the time of restructure and may only be returned to accruing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months. When a loan is modified, it is measured based upon the present value of future cash flows discounted at the effective interest rate of the original loan agreement or the fair value of collateral less selling costs if the loan is collateral dependent. If the value of the modified loan is less than the recorded investment in the loan, impairment is recognized through a specific allowance or a charge-off of the loan. There were no loans outstanding with a TDR designation at December 31, 2021 or 2020. The CARES Act, as amended, specified that to be eligible not to be considered a TDR, a loan modification must be (i) related to the COVID-19 pandemic; (ii) executed on a loan that was not more than 30 days past due as of December 31, 2019; and (iii) executed between March 1, 2020, and the earlier of: (i) 60 days after the date of termination of the federal national emergency; or (ii) January 1, 2022. The Company elected to apply the temporary accounting relief provisions for loan modifications that met certain criteria, which would otherwise be designated TDRs under existing GAAP. As of December 31, 2021, six borrowing relationships with six loans totaling $12,156,000 were continuing to benefit from payment relief. The Company accrues and recognizes interest income on loans under payment relief based on the original contractual interest rates. When payments resume at the end of the relief period, the payments will generally be applied to accrued interest due until accrued interest is fully paid. 99 The following table discloses activity in the allowance for loan losses for the periods presented. Schedule of activity in the allowance for loan losses Real Estate Commercial (in thousands) Comml Comml Land and Devel Comml Const Resid Const Resid Farm- land Secured Unsec PPP Consu Unal Total 2021 Beginning balance $ 9,358 $ 77 $ 821 $ 87 $ 220 $ 615 $ 9,476 $ 179 $ — $ 632 $ 724 $ 22,189 Charge-offs — — — — — — ( 822 ) — — ( 321 ) — ( 1,143 ) Recoveries — — — — — — 263 — — 234 — 497 Provision (recapture) 3,511 ( 27 ) ( 450 ) ( 37 ) ( 28 ) 30 ( 2,058 ) 28 — 344 387 1,700 Ending balance $ 12,869 $ 50 $ 371 $ 50 $ 192 $ 645 $ 6,859 $ 207 $ — $ 889 $ 1,111 $ 23,243 2020 Beginning balance $ 6,331 $ 109 $ 661 $ 116 $ 224 $ 1,382 $ 4,976 $ 88 $ — $ 601 $ 427 $ 14,915 Charge-offs — — — — — — ( 1,604 ) — — ( 559 ) — ( 2,163 ) Recoveries — — — — 90 — 176 — — 171 — 437 Provision (recapture) 3,027 ( 32 ) 160 ( 29 ) ( 94 ) ( 767 ) 5,928 91 — 419 297 9,000 Ending balance $ 9,358 $ 77 $ 821 $ 87 $ 220 $ 615 $ 9,476 $ 179 $ — $ 632 $ 724 $ 22,189 The following table summarizes the allocation of the allowance for loan losses by impairment methodology for the periods presented. Real Estate Commercial (in thousands) Comml Comml Land and Devel Comml Const Resid Const Resid Farm- land Secured Unsec PPP Consu Unal Total 2021 Ending allowance balance allocated to: Loans individually evaluated for impairment $ — $ — $ — $ — $ — $ — $ 172 $ — $ — $ — $ — $ 172 Loans collectively evaluated for impairment 12,869 50 371 50 192 645 6,687 207 — 889 1,111 23,071 Ending balance $ 12,869 $ 50 $ 371 $ 50 $ 192 $ 645 $ 6,859 $ 207 $ — $ 889 $ 1,111 $ 23,243 Loans: Ending balance individually evaluated for impairment $ 122 $ — $ — $ — $ 178 $ — $ 288 $ — $ — $ — $ — $ 588 Ending balance collectively evaluated for impairment 1,586,110 7,376 54,214 7,388 28,384 54,805 136,774 21,136 22,124 17,167 — 1,935,478 Ending balance $ 1,586,232 $ 7,376 $ 54,214 $ 7,388 $ 28,562 $ 54,805 $ 137,062 $ 21,136 $ 22,124 $ 17,167 $ — $ 1,936,066 2020 Ending allowance balance allocated to: Loans individually evaluated for impairment $ — $ — $ — $ — $ — $ — $ — $ — $ — $ — $ — $ — Loans collectively evaluated for impairment 9,358 77 821 87 220 615 9,476 179 — 632 724 22,189 Ending balance $ 9,358 $ 77 $ 821 $ 87 $ 220 $ 615 $ 9,476 $ 179 $ — $ 632 $ 724 $ 22,189 Loans: Ending balance individually evaluated for impairment $ 137 $ — $ — $ — $ 183 $ — $ 132 $ — $ — $ — $ — $ 452 Ending balance collectively evaluated for impairment 1,002,360 10,600 91,760 11,914 30,248 50,164 138,544 17,526 147,965 4,921 — 1,506,002 Ending balance $ 1,002,497 $ 10,600 $ 91,760 $ 11,914 $ 30,431 $ 50,164 $ 138,676 $ 17,526 $ 147,965 $ 4,921 $ — $ 1,506,454 100 Pledged Loans The Company’s FHLB line of credit is secured under terms of a collateral agreement by a pledge of certain qualifying loans with unpaid principal balances of $ 941,160,000 and $ 1,093,513,000 at December 31, 2021 and 2020, respectively. In addition, the Company pledges eligible Tenants in Common loans, which totaled $ 33,391,000 and $ 61,635,000 at December 31, 2021 and 2020, respectively, to secure its borrowing capacity with the Federal Reserve Bank of San Francisco. See Note 9, Long Term Debt and Other Borrowings, for further discussion of these borrowings. Note 5: Premises and Equipment, Net Premises and equipment, net, were as follows as of December 31, 2021 and 2020: Schedule of Premises and Equipment (in thousands) 2021 2020 Furniture, fixtures, and equipment $ 3,314 $ 3,057 Tenant improvements 1,973 2,027 Premises and Equipment, Gross 5,287 5,084 Less: Accumulated depreciation and amortization 3,514 3,421 Premises and equipment, net $ 1,773 $ 1,663 Depreciation expense for occupancy, furniture, fixtures, and equipment was $ 607,000 and $ 461,000 for the years ended December 31, 2021 and 2020, respectively. Note 6: Bank-owned Life Insurance The Company owns life insurance policies on the lives of certain current and former officers designated by the board of directors to fund our employee benefit programs. Death benefits provided under the specific terms of these insurance policies are estimated to be $ 26,956,000 at December 31, 2021. The benefits to employees’ beneficiaries are limited to each employee’s active service period. The investment in BOLI policies is reported at their cash surrender value, net of surrender charges, of $ 11,203,000 and $ 8,662,000 at December 31, 2021 and 2020, respectively. The cash surrender value includes both the original premiums paid for the life insurance policies and the accumulated accretion of policy income since inception of the policies, net of mortality costs and other fees. Income of $ 237,000 and $ 220,000 was recognized on these life insurance policies for the years ended December 31, 2021 and 2020, respectively. Note 7: Interest Receivable and Other Assets Interest receivable and other assets consisted of the following as of December 31, 2021 and 2020: (in thousands) 2021 2020 Interest receivable $ 5,332 $ 5,422 Equity investments 5,741 3,757 Servicing assets 2,215 2,083 Other assets 8,340 3,030 Interest Receivable and Other Assets $ 21,628 $ 14,292 Servicing assets represent the assets related to servicing loans for others, including collecting payments, maintaining escrow accounts, disbursing payments to investors, and conducting foreclosure proceedings. Loan servicing income is recorded on the accrual basis and includes servicing fees from investors and certain charges collected from borrowers. The Company serviced loans with unpaid principal balances of $194,649,000 and $187,834,000 as of December 31, 2021 and 2020, respectively, on behalf of others. 101 Note 8: Interest-Bearing Deposits Interest-bearing deposits consisted of the following as of December 31, 2021 and 2020: Schedule of Interest-bearing deposits (in thousands) 2021 2020 Savings $ 88,536 $ 49,714 Money market 912,558 839,053 Interest checking accounts 278,406 146,553 Time, $250 or more 77,868 7,568 Other time 26,404 40,034 Total interest-bearing deposits $ 1,383,772 $ 1,082,922 Time deposits totaled $ 104,272,000 and $ 47,602,000 as of December 31, 2021 and 2020, respectively. As of December 31, 2021, scheduled maturities of time deposits for the next five years were as follows: Schedule of Maturities of Time Deposits (in thousands) 2022 $ 103,334 2023 911 2024 26 2025 — 2026 1 Total time deposits $ 104,272 Total deposits include deposits offered through the IntraFi Network (formerly Promontory Interfinancial Network) that are comprised of Certificate of Deposit Account Registry Service® (“CDARS”) balances included in time deposits and Insured Cash Sweep® (“ICS”) balances included in money market deposits. Through this network the Company offers customers access to Federal Deposit Insurance Corporation (“FDIC”) insured deposit products in aggregate amounts exceeding current insurance limits. When funds are deposited through CDARS and ICS on behalf of a customer, the Company has the option of receiving matching deposits through the network’s reciprocal deposit program or placing deposits “one-way,” for which the Company receives no matching deposits. The Company considers the reciprocal deposits to be in-market deposits as distinguished from traditional out-of-market brokered deposits. There were no one-way deposits at December 31, 2021 and 2020. The composition of network deposits as of December 31, 2021 and 2020 was as follows: Schedule of Composition of Network Deposits (in thousands) 2021 2020 CDARS $ 22,411 $ 35,534 ICS 307,636 261,127 Total network deposits $ 330,047 $ 296,661 Interest expense recognized on interest-bearing deposits for the years ended December 31, 2021 and 2020 consisted of the following: (in thousands) 2021 2020 Savings $ 74 $ 94 Money market 1,797 5,750 Interest checking accounts 155 374 Time, $250 or more 42 797 Other time 131 392 Total interest expense on interest-bearing deposits $ 2,199 $ 7,407 102 Note 9: Long Term Debt and Other Borrowings Subordinated notes : On November 8, 2019, the Company completed a private placement of $ 3,750,000 of fixed-to-floating rate subordinated notes to certain qualified investors. All of the debt was purchased by four existing members of the board of directors or their affiliates. The notes were used for general corporate purposes, for capital management, and to support future growth. The subordinated notes have a maturity date of September 15, 2027 and bear interest, payable semi-annually, at the rate of 5.50% per annum until September 15, 2022. On that date, the interest rate will be adjusted to float at a rate equal to the three-month LIBOR rate plus 354.4 basis points (3.75% as of December 31, 2021) until maturity. The notes include a right of prepayment, on or after September 30, 2022 and, in certain limited circumstances, before that date. The indebtedness evidenced by the subordinated notes, including principal and interest, is unsecured and subordinate and junior in right to payment to general and secured creditors and depositors of the Company. The Company has $25,000,000 in principal of fixed-to-floating rate subordinated notes to certain qualified investors, of which $8,000,000 is owned by an entity that is controlled by a member of the board of directors and three principal shareholders. The notes were used for general corporate purposes, for capital management, and to support future growth. The subordinated notes have a maturity date of September 15, 2027 and bear interest, payable semi-annually, at the rate of 6.00% per annum until September 15, 2022. On that date, the interest rate will be adjusted to float at a rate equal to the three-month LIBOR rate plus 404.4 basis points (4.25% as of December 31, 2021) until maturity. The notes include a right of prepayment, on or after September 28, 2022 and, in certain limited circumstances, before that date. The indebtedness evidenced by the subordinated notes, including principal and interest, is unsecured and subordinate and junior in right to payment to general and secured creditors and depositors of the Company. The subordinated notes have been structured to qualify as Tier 2 capital for regulatory capital purposes. Debt issuance costs incurred in conjunction with the notes were $ 642,000 , of which $ 280,000 has been amortized through December 31, 2021. The Company reflects debt issuance costs as a direct deduction from the face of the note. The debt issuance costs are amortized into interest expense through the maturity period. At December 31, 2021 and 2020, the Company’s subordinated debt carrying value was $ 28,386,000 and $ 28,320,000 , respectively. Other borrowings : The Company has an agreement with the FHLB that granted the FHLB a blanket lien on all loans receivable (except for construction and agricultural loans) as collateral for a borrowing line. Based on the dollar volume of qualifying loan collateral, the Company had a total financing availability of $ 696,285,000 at December 31, 2021 and $ 519,274,000 at December 31, 2020. At December 31, 2021 and 2020, the Company had no outstanding borrowings. As of December 31, 2021 and 2020, the Company had letters of credit issued on its behalf totaling $ 420,500,000 and $ 293,500,000 , respectively, as discussed below. As of December 31, 2021, letters of credit totaling $ 80,500,000 were pledged to secure State of California deposits and $ 340,000,000 were pledged to secure local agency deposits. As of December 31, 2020, letters of credit totaling $ 13,500,000 were pledged to secure State of California deposits and $ 280,000,000 were pledged to secure local agency deposits. The letters of credit issued reduced the Company’s available borrowing capacity to $ 275,785,000 and $ 284,810,000 as of December 31, 2021 and 2020, respectively. At December 31, 2021, the Company had five unsecured federal funds lines of credit totaling $150,000,000 with five of its correspondent banks, respectively. At December 31, 2020, the Company had three unsecured federal funds lines of credit totaling $ 75,000,000 with three of its correspondent banks, respectively. There were no amounts outstanding at December 31, 2021 and 2020. At December 31, 2021 and 2020, the Company had the ability to borrow from the Federal Reserve Discount Window . At December 31, 2021 and 2020, the borrowing capacity under this arrangement was $ 16,999,000 and $ 25,881,000 , respectively. There were no amounts outstanding at December 31, 2021 and 2020. The borrowing line is secured by liens on the Company’s construction and agricultural loan portfolios. Note 10: 401(k) Benefit Plan A 401(k) benefit plan covers substantially all employees and allows voluntary employee contributions up to the lesser of 80% of compensation or the annually adjusted IRS dollar limit. These voluntary contributions are matched equal to 100% of the first 3% of the employee’s compensation contributed and 50% of contributions exceeding 3% of eligible compensation, not to exceed 5% of the total eligible compensation. The employees’ voluntary contributions and the Company’s matching contributions are 100% vested immediately. The expense related to matching employees’ contributions for 2021 and 2020 was $ 593,000 and $ 465,000 , respectively. 103 Note 11: Income Taxes The Company terminated its status as a Subchapter S corporation as of May 5, 2021, in connection with its IPO and became a taxable C Corporation. Prior to that date, as an S Corporation, the Company had no U.S. federal income tax expense. As such, any periods prior to May 5, 2021 will only reflect an effective state income tax rate and corresponding tax expense. In conjunction with the termination of the Subchapter S corporation status, the C Corporation deferred tax assets and liabilities were estimated for future tax consequences attributable to differences between the financial statement carrying amounts of the Company’s existing assets and liabilities and their respective tax bases. The deferred tax assets and liabilities were measured using tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of the change in tax rates resulting from becoming a C Corporation was recognized as a $4,638,000 increase to the net deferred tax asset to $ 5,370,000 and a reduction to the provision for income taxes of $ 4,638,000 during the year ended December 31, 2021. The provision for income tax for the years ended December 31, 2021 and 2020 differs from the statutory federal rate of 21.00% due to the following items, which relate primarily to the Company’s conversion from an S Corporation to a C Corporation: (in thousands) 2021 2020 Statutory U.S. federal income tax $ 9,901 $ 7,824 Increase (decrease) resulting from: Benefit of S Corporation status ( 4,884 ) ( 7,824 ) State taxes 4,045 1,327 Deferred tax asset adjustment ( 4,638 ) — Other 283 — Provision for income taxes $ 4,707 $ 1,327 For the year ended December 31, 2021, the Company’s effective tax rate differed from the statutory California tax rate of 3.50% used prior to May 5, 2021 and the statutory federal and state tax rate, net of federal benefit, of 29.56% used May 5, 2021 and after, as the effective tax rate primarily represents the weighted average rate between the S Corporation tax rate of 3.50% and the C Corporation tax rate of 29.56% based on the number of days the Company was each type of corporation during 2021. The components of the consolidated provision for income taxes are as follows: (in thousands) 2021 2020 Current tax expense Federal $ 6,178 $ — State 2,530 1,468 Current $ 8,708 $ 1,468 Deferred tax benefit Federal $ ( 3,561 ) $ — State ( 440 ) ( 141 ) Deferred $ ( 4,001 ) ( 141 ) Provision for income taxes $ 4,707 $ 1,327 Deferred tax assets and liabilities were due to the following as of December 31, 2021 and 2020: (in thousands) 2021 2020 Deferred tax assets: Allowance for credit losses $ 7,398 $ 777 Supplemental employee retirement plan 521 52 Gain on available-for-sale assets 151 5 Net unrealized loss on securities available-for-sale 237 — Accrual to cash adjustment — 13 Depreciation — 43 Other 562 — Deferred tax assets 8,869 890 Deferred tax liabilities: Deferred loan fees ( 2,927 ) ( 177 ) Net unrealized gain on securities available-for-sale — ( 49 ) State tax ( 379 ) — Depreciation ( 419 ) — Other ( 228 ) ( 31 ) Deferred tax liabilities ( 3,953 ) ( 257 ) Net deferred tax asset $ 4,916 $ 633 No deferred tax asset valuation allowance was established during 2021 or 2020, as management believes it is more likely than not the Company will realize the benefits of these deductible differences as of December 31, 2021 and 2020. 104 No unrecognized tax benefits were outstanding as of December 31, 2021 or 2020. The Company files tax returns in the U.S. federal and California state jurisdictions. The Company is no longer subject to examinations for years before 2017. There were no interest or penalties in 2021 and 2020. It is the Company’s policy to record such accruals in its income taxes accounts. During 2021, the Company paid approximately $27,000,000 to shareholders of record as of May 3, 2021, for the Accumulated Adjustments Account (“AAA”) payout under the Company’s Tax Sharing Agreement. The AAA represents previously taxed, but undistributed, earnings. As of December 31, 2021, the balance of the Company’s AAA was estimated to be approximately $4,877,000 and is subject to adjustment upon completion of the 2021 tax return, which could be material. The balance in the AAA account represents the remaining amount of previously taxed but undistributed earnings of the Company. Note 12: Related Party Transactions During the normal course of business, the Company may enter into transactions with related parties, including directors, executive officers, principal shareholders, and their businesses or affiliates. In accordance with applicable regulations and Bank policies, these loans are granted on substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for comparable transactions with persons not related to the Company. Likewise, these transactions do not involve more than the normal risk of collectability or present other unfavorable features. The following is a summary of loans to related parties in 2021 and 2020: Schedule of Related Party Transactions (in thousands) 2021 2020 Beginning balance $ 2,048 $ 1,348 New loans or advance 7,828 280 Loans issued in prior years to new related parties — 695 Repayments ( 458 ) ( 275 ) Ending balance $ 9,418 $ 2,048 At December 31, 2021 and 2020, deposits from related parties (directors, executive officers, and principal shareholders) totaled $ 32,410,000 and $ 42,466,000 , respectively. Property management fees totaling $ 12,000 and $ 27,000 in 2021 and 2020, respectively, were paid to an entity owned by some of the Company’s directors. During 2021, nine of the Company’s directors were each granted 4,500 fully vested shares of the Company’s stock for the payment of director fees in addition to their standard cash compensation, totaling 40,500 shares with a combined fair value of $810,000, and one director was granted 1,140 fully vested shares of the Company’s stock, with a fair value of $36,000, upon retirement. Additionally, during 2021, ten directors purchased a total of 190,071 shares for $3,985,000. During 2020, eight of the Company’s directors were each granted 2,000 fully vested shares of the Company’s stock for the payment of director fees in addition to their standard cash compensation, totaling 16,000 shares with a combined fair value of $252,000. Additionally, during 2020, two new directors purchased 50,000 shares for $900,000. Additional transactions with related parties are described in Note 15, Commitments and Contingencies. Note 13: Equity Incentive Plan In April 2021, the Company’s board of directors and shareholders approved the Five Star Bancorp 2021 Equity Incentive Plan (the “Equity Incentive Plan”). The Equity Incentive Plan provides for the grant of stock options, stock appreciation rights, performance awards, restricted stock, restricted stock units, and other stock-based awards that the Compensation Committee determines are consistent with the purpose of the Equity Incentive Plan and the interests of the Company. Awards may be granted to the Company’s executives and other key employees, directors, and other service providers, and are designed to align the interests of the Equity Incentive Plan’s participants with the interests of our shareholders. The stock options granted under the Equity Incentive Plan may be either non-statutory stock options or incentive stock options. There were no stock options outstanding at December 31, 2021 or 2020, respectively. The total number of shares of our common stock reserved and available for grant and issuance pursuant to the Equity Incentive Plan will not exceed 1,700,000 shares. Each of these shares may be issued as an incentive stock option. The Equity Incentive Plan does not contain an “evergreen” provision pursuant to which shares authorized for issuance may be automatically replenished. 105 Stock-Based Compensation The Company’s stock-based compensation consists of RSAs granted under its historical stock-based incentive arrangement (the “Historical Incentive Plan”) and RSAs issued under the Equity Incentive Plan. The Historical Incentive Plan consisted of RSAs for certain executive officers of the Company. The arrangement provided that these executive officers would receive shares of restricted common stock of the Company that vested over three years, with the number of shares granted based upon achieving certain performance objectives. These objectives included, but were not limited to, net income adjusted for the provision for loan losses, deposit growth, efficiency ratio, net interest margin, and asset quality. Compensation expense for RSAs granted under the Historical Incentive Plan is recognized over the service period, which is equal to the vesting period of the shares based on the fair value of the shares at issue date. In connection with its IPO in May 2021, the Company granted RSAs under the Equity Incentive Plan to employees, officers, executives, and non-employee directors. Shares granted to non-employee directors vested immediately upon grant, while shares granted to employees, officers, and executives vest ratably over three, five, or seven years (as defined in the respective agreements). All RSAs were granted at the fair value of common stock at the time of the award. The RSAs are considered fixed awards as the number of shares and fair value are known at the date of grant and the fair value at the grant date is amortized over the service period. The Company granted 174,347 and 11,398 restricted shares during the years ended December 31, 2021 and 2020, respectively. In addition, 4,522 and no restricted shares were forfeited during the years ended December 31, 2021 and 2020, respectively. Non-cash stock compensation expense recognized for the years ended December 31, 2021 and 2020 was $1,440,000 and $568,000, respectively. In 2021, the Company granted a total of 41,640 fully vested shares to members of the board of directors as compensation for their service. In 2020, the Company granted 2,000 fully vested shares to the Chief Executive Officer for service as a member of the board of directors and 1,250 fully vested shares to another officer as a discretionary grant. At December 31, 2021 and 2020, respectively, there were 127,751 and 11,568 unvested restricted shares. As of December 31, 2021, there was approximately $2,204,000 of unrecognized compensation expense related to the 127,751 unvested restricted shares. The holders of unvested RSAs are entitled to dividends on the same per-share ratio as holders of common stock. Tax benefits for dividends paid on unvested RSAs are recorded as tax benefits in the consolidated statements of income with a corresponding decrease to current taxes payable. The impact of tax benefits for dividends paid on unvested restricted stock on the Company’s consolidated statements of income for the years ended December 31, 2021 and 2020 was immaterial. The following table summarizes information about unvested restricted shares : 2021 2020 Shares Weighted Average Grant Date Fair Value Shares Weighted Average Grant Date Fair Value Beginning of the period balance 11,568 $ 21.25 15,794 $ 21.03 Shares granted 174,347 19.97 11,398 20.14 Shares vested ( 53,642 ) 20.35 ( 15,624 ) 20.23 Shares forfeited ( 4,522 ) 19.33 — — End of the period balance 127,751 $ 19.95 11,568 $ 21.25 Note 14: Shareholders’ Equity Dividends During the year ended December 31, 2021, the Company declared cash dividends on its common shares totaling $ 24,975,000 . On May 20, 2021, as a result of the Company’s conversion to a C Corporation, the board of directors declared an aggregate distribution of $ 26,967,000 for the AAA payout, which is described in further detail in Note 11, Income Taxes, and the Company reclassified the resulting retained deficit related to S Corporation activities to common stock. 106 Note 15: Commitments and Contingencies Financial Instruments with Off-Balance Sheet Risk Some financial instruments, such as loan commitments, credit lines, letters of credit, and overdraft protection, are issued to meet customer financing needs. These are agreements to provide credit or to support the credit of others, as long as conditions established in the contract are met, and usually have expiration dates. Commitments may expire without being used. Substantially all of these commitments are at variable interest rates, based on an index, and have fixed expiration dates. Off-balance sheet risk to loan loss exists up to the face amount of these instruments, although material losses are not anticipated. The Company uses the same credit policies in making commitments to originate loans and lines of credit as it does for on-balance sheet instruments, including obtaining collateral at exercise of the commitment. The contractual amount of unfunded loan commitments and standby letters of credit not reflected in the consolidated balance sheets are as follows: Schedule of Unfunded Loan Commitments and Standby Letter of Credit (in thousands) 2021 2020 Commercial lines of credit $ 137,354 $ 107,231 Undisbursed construction loans 46,584 50,442 Undisbursed commercial real estate loans 47,793 39,946 Agricultural lines of credit 9,955 11,553 Undisbursed agricultural real estate loans 3,427 5,945 Other 3,764 920 Total commitments and standby letters of credit $ 248,877 $ 216,037 The Company records an allowance for loan losses on unfunded loan commitments at the consolidated balance sheet date based on estimates of the probability that these commitments will be drawn upon according to historical utilization experience of the different types of commitments and historical loss rates determined for pooled funded loans. The allowance for loan losses on unfunded commitments totaled $100,000 as of December 31, 2021 and 2020, which is recorded in interest payable and other liabilities in the consolidated balance sheets. Concentrations of credit risk : The Company grants real estate mortgage, real estate construction, commercial, and consumer loans to customers primarily in Northern California. Although the Company has a diversified loan portfolio, a substantial portion is secured by commercial and residential real estate. In management’s judgment, a concentration of loans exists in real estate related loans, which represented approximately 89.31% of the Company’s loan portfolio at December 31, 2021 and 79.23% of the Company’s loan portfolio at December 31, 2020. Although management believes such concentrations have no more than the normal risk of collectability, a substantial decline in the economy in general, or a decline in real estate values in the Company’s primary market areas in particular, could have an adverse impact on the collectability of these loans. Personal and business incomes represent the primary source of repayment for the majority of these loans. Deposit concentrations : At December 31, 2021, the Company had 64 deposit relationships that exceeded $5,000,000 each, totaling $ 1,166,728,000 , or approximately 51.04 % of total deposits. The Company’s largest single deposit relationship at December 31, 2021 totaled $ 154,988,000 , or approximately 6.78 % of total deposits. Management maintains the Company’s liquidity position and lines of credit with correspondent banks to mitigate the risk of large withdrawals by the Company’s large depositors. Correspondent banking agreements : The Company maintains funds on deposit with other FDIC-insured financial institutions under correspondent banking agreements. Uninsured deposits through these agreements totaled $ 147,219,000 and $ 118,003,000 at December 31, 2021 and 2020, respectively. Leases The Company leases office space for its banking operations under non-cancelable operating leases of various terms. The leases expire at various dates through 2032 and provide for renewal options from zero to five years. In the normal course of business, it is expected that these leases will be renewed or replaced by leases on other properties. One of the leases provides for increases in future minimum annual rental payments based on defined increases in the Consumer Price Index, while the remaining leases include pre-defined rental increases over the term of the lease. The Company has a sublease agreement for space adjacent to the Redding location. The sublease has renewal terms extended to December 31, 2022. 107 The Company leases its Sacramento loan production office from a partnership comprised of some of the Company’s shareholders and certain members of the board of directors. The Sacramento loan production office lease extends through April 2023. Additionally, the Company leased its Natomas branch from the same partnership of related parties until July 13, 2021, at which time ownership of the property was transferred to an unrelated third-party landlord. Rent expense paid to the partnership was $ 140,000 and $ 225,000 for the years ended December 31, 2021 and 2020, respectively, under these leases. The following table shows the future minimum lease payments and weighted average remaining lease terms under the Company’s operating lease arrangements as of December 31, 2021. Schedule of Future Minimum Lease Payment and Weighted Average Remaining Lease (in thousands) 2022 $ 1,025 2023 978 2024 951 2025 733 2026 604 Thereafter 1,094 Total $ 5,385 Weighted average remaining term (in years) 4.64 Litigation Matters The Company is subject to legal proceedings and claims which arise in the ordinary course of business. In the opinion of management, the amount of ultimate liability with respect to such actions will not materially affect the consolidated financial position or results of operations of the Company. Note 16: Capital Requirements and Restrictions on Retained Earnings The Company and the Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and the Bank’s prompt corrective action classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action provisions are generally not applicable to bank holding companies. Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the below table) of total capital, Tier 1 capital, and common equity Tier 1 capital (as defined in the regulations) to risk-weighted assets and of Tier 1 capital to average assets. The Company operates under the Small Bank Holding Company Policy Statement, and, accordingly, is exempt from the Federal Reserve’s generally applicable risk-based capital ratio and leverage ratio requirements. The Bank is required to meet a common equity Tier 1 capital to risk-weighted assets ratio of at least 7.00% (a minimum of 4.50% plus a capital conservation buffer of 2.50%), a Tier 1 capital to risk-weighted assets ratio of at least 8.50% (a minimum of 6.00% plus a capital conservation buffer of 2.50%), a total capital to risk-weighted assets ratio of at least 10.50% (a minimum of 8.00% plus a capital conservation buffer of 2.50%), and a Tier 1 leverage ratio of at least 4.00%. Management believes that, as of December 31, 2021, the Company and the Bank met all capital adequacy requirements to which they are subject. As of December 31, 2021, the Bank was categorized as “well-capitalized” under the regulatory framework for prompt corrective action. To be categorized as well-capitalized, an institution must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the below table. There are no conditions or events since that notification that management believes have changed the Bank’s category. The principal source of cash for the Company is dividends from the Bank. Dividends from the Bank to the Company are restricted under California law to the lesser of: (a) the Bank’s retained earnings; or (b) the Bank’s net income for the latest three fiscal years, less dividends previously declared during that period. As of December 31, 2021 and 2020, the maximum amount available for dividend distribution under this restriction was approximately $15,464,000 and $15,624,000, respectively. If a proposed dividend exceeds the limit, the Bank may still pay a dividend to the Holding Company if it obtains approval from the California Department of Financial Protection and Innovation and the dividend does not exceed the greater of: (i) the retained earnings of the Bank; (ii) the net income of the Bank for its last fiscal year; or (iii) the net income of the Bank for its current fiscal year. 108 The Company’s and the Bank’s actual capital amounts and ratios as of December 31, 2021 and 2020 are presented in the following table: Capital Ratios for Bancorp Actual Ratio Required for Capital Adequacy Purposes 1 Ratio to be Well- Capitalized under Prompt Corrective Action Provisions (dollars in thousands) Amount Ratio Amount Ratio Amount Ratio 2021 Total capital (to risk-weighted assets) $ 285,128 13.98 % $ 163,177 ≥ 8.00 % N/A N/A Tier 1 capital (to risk-weighted assets) $ 233,397 11.44 % $ 122,382 ≥ 6.00 % N/A N/A Common equity tier 1 capital (to risk-weighted assets) $ 233,397 11.44 % $ 91,787 ≥ 4.50 % N/A N/A Tier 1 leverage $ 233,397 9.47 % $ 98,600 ≥ 4.00 % N/A N/A 2020 Total capital (to risk-weighted assets) $ 176,861 12.18 % $ 116,138 ≥ 8.00 % N/A N/A Tier 1 capital (to risk-weighted assets) $ 130,347 8.98 % $ 87,103 ≥ 6.00 % N/A N/A Common equity tier 1 capital (to risk-weighted assets) $ 130,347 8.98 % $ 65,327 ≥ 4.50 % N/A N/A Tier 1 leverage $ 130,347 6.58 % $ 79,204 ≥ 4.00 % N/A N/A Capital Ratios for the Bank Actual Ratio Required for Capital Adequacy Purposes Ratio to be Well- Capitalized under Prompt Corrective Action Provisions (dollars in thousands) Amount Ratio Amount Ratio Amount Ratio 2021 Total capital (to risk-weighted assets) $ 279,152 13.69 % $ 163,078 ≥ 8.00 % $ 203,848 ≥ 10.00 % Tier 1 capital (to risk-weighted assets) $ 255,807 12.55 % $ 122,309 ≥ 6.00 % $ 163,078 ≥ 8.00 % Common equity tier 1 capital (to risk-weighted assets) $ 255,807 12.55 % $ 91,731 ≥ 4.50 % $ 132,501 ≥ 6.50 % Tier 1 leverage $ 255,807 10.38 % $ 98,555 ≥ 4.00 % $ 123,193 ≥ 5.00 % 2020 Total capital (to risk-weighted assets) $ 174,002 11.99 % $ 116,114 ≥ 8.00 % $ 145,143 ≥ 10.00 % Tier 1 capital (to risk-weighted assets) $ 155,808 10.73 % $ 87,086 ≥ 6.00 % $ 116,114 ≥ 8.00 % Common equity tier 1 capital (to risk-weighted assets) $ 155,808 10.73 % $ 65,314 ≥ 4.50 % $ 94,343 ≥ 6.50 % Tier 1 leverage $ 155,808 7.87 % $ 79,199 ≥ 4.00 % $ 98,998 ≥ 5.00 % 1 Presented as if Bancorp were subject to Basel III capital requirements. The Company operates under the Small Bank Holding Company Policy Statement and therefore is not currently subject to generally applicable capital adequacy requirements. 109 Note 17: Fair Value of Assets and Liabilities The following table summarizes the Company’s assets and liabilities that were carried at fair value on a recurring basis. Schedule of Fair Value Assets and Liabilities on Recurring Basis (in thousands) Carrying Value Quoted Prices in Active Markets for Identical Assets (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Measurement Categories: Changes in Fair Value Recorded In 1 2021 Assets: Securities available-for-sale: U.S. government agencies, mortgage-backed securities, obligations of states and political subdivisions, collateralized mortgage obligations, and corporate bonds $ 148,807 $ — $ 148,807 $ — OCI Derivatives – interest rate swap 92 — 92 — NI Liabilities: Derivatives – interest rate swap 92 — 92 — NI 2020 Assets: Securities available-for-sale: U.S. government agencies, mortgage-backed securities, obligations of states and political subdivisions, and collateralized mortgage obligations $ 114,949 $ — $ 114,949 $ — OCI Derivatives – interest rate swap 149 — 149 — NI Liabilities: Derivatives – interest rate swap 149 — 149 $ — NI 1 Other comprehensive income (“OCI”) or net income (“NI”). Available-for-sale securities are recorded at fair value on a recurring basis. When available, quoted market prices (Level 1) are used to determine the fair value of available-for-sale securities. If quoted market prices are not available, management obtains pricing information from a reputable third-party service provider, who may utilize valuation techniques that use current market-based or independently sourced parameters, such as bid/ask prices, dealer-quoted prices, interest rates, benchmark yield curves, prepayment speeds, probability of default, loss severity, and credit spreads (Level 2). Level 2 securities include U.S. agencies or government-sponsored agencies’ debt securities, mortgage-backed securities, government agency issued bonds, privately issued collateralized mortgage obligations, and corporate bonds. As of December 31, 2021 and 2020, there were no Level 1 or Level 3 securities and no transfers between Level 1 and Level 2 classifications for assets or liabilities measured at fair value on a recurring basis. The Company’s investment portfolio service bureau has developed a model for pricing available-for-sale debt securities. Information such as historical and current performance of the underlying collateral, deferral/default rates, collateral coverage ratios, break-even yield calculations, cash flow projections, liquidity, and credit premiums required by a market participant, as well as financial trend analysis with respect to the individual issuing financial institutions and insurance companies, are utilized in determining individual security valuations. Due to current market conditions, as well as the limited trading activity of the securities, the market value of the securities is highly sensitive to assumption changes and market volatility. The Company’s derivative is comprised of an interest rate swap for a structured lending arrangement and is reported at fair value utilizing Level 2 inputs. The Company obtains fair values from financial institutions that utilize internal models with observable market data inputs to estimate the values of these instruments (Level 2 inputs). The fair value of collateral dependent impaired loans and other real estate is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Management also incorporates assumptions regarding market trends or other relevant factors and selling and commission costs ranging from 5.00% to 7.00%. Such adjustments and assumptions are typically significant and result in a Level 3 classification of the inputs for determining fair value. Certain financial assets may be measured at fair value on a non-recurring basis. These assets are subject to fair value adjustments that result from the application of the lower of cost or fair value accounting or write-downs of individual assets, such as impaired loans that are collateral dependent and OREO. As of December 31, 2021 and 2020, the Company did not carry any assets measured at fair value on a non-recurring basis. 110 Disclosures about Fair Value of Financial Instruments The table below is a summary of fair value estimates for financial instruments as of December 31, 2021 and 2020. These estimates are made at a specific point in time based on relevant market data and information about the financial instruments. These estimates do not reflect any premium or discount that could result from offering the Company’s entire holdings of a particular financial instrument for sale at one time, nor do they attempt to estimate the value of anticipated future business related to the instruments. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of these estimates. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the fair values presented. The carrying amounts in the following table are recorded in the consolidated balance sheets under the indicated captions. Further, management has not disclosed the fair value of financial instruments specifically excluded from disclosure requirements such as BOLI. Schedule of fair value estimates for financial instruments December 31, 2021 December 31, 2020 (in thousands) Carrying Amounts Fair Value Fair Value Hierarchy Carrying Amounts Fair Value Fair Value Hierarchy Financial assets: Cash and cash equivalents $ 425,329 $ 425,329 Level 1 $ 290,493 $ 290,493 Level 1 Time deposits in banks 14,464 14,464 Level 1 23,705 23,705 Level 1 Securities available-for-sale 148,807 148,807 Level 2 114,949 114,949 Level 2 Securities held-to-maturity 4,946 5,197 Level 3 7,979 8,755 Level 3 Loans held for sale 10,671 11,217 Level 2 4,820 5,012 Level 2 Loans held for investment 1,911,217 1,893,431 Level 3 1,480,970 1,464,794 Level 3 FHLB stock and other investments 12,464 N/A N/A 9,989 N/A N/A Interest receivable 5,332 5,332 Level 2 5,422 5,422 Level 2 Interest rate swap 92 92 Level 2 149 149 Level 2 Financial liabilities: Deposits 2,285,890 2,210,555 Level 2 1,784,001 1,785,944 Level 2 Interest payable 23 23 Level 2 75 75 Level 2 Interest rate swap 92 92 Level 2 149 149 Level 2 Subordinated notes 28,386 28,386 Level 3 28,320 28,320 Level 3 The following methods and assumptions were used by the Company to estimate the fair value of its financial instruments at December 31, 2021 and 2020: Cash and cash equivalents and time deposits in banks : The carrying amount is estimated to be fair value due to the liquid nature of the assets and their short-term maturities. Investment securities : See discussion above for the methods and assumptions used by the Company to estimate the fair value of investment securities. Loans held for sale : For loans held for sale, the fair value is based on what secondary markets are currently offering for portfolios with similar characteristics. Loans held for investment : For variable rate loans that reprice frequently with no significant change in credit risk, fair values are based on carrying values. Fair values for other loans are estimated using discounted cash flow analyses, which use interest rates being offered at each reporting date for loans with similar terms to borrowers of comparable creditworthiness without considering widening credit spreads due to market illiquidity, which approximates the exit price notion. The allowance for loan losses is considered to be a reasonable estimate of loan discount for credit quality concerns. 111 Interest receivable and payable : For interest receivable and payable, the carrying amount is estimated to be fair value. Derivatives - interest rate swap : See above for a discussion of the methods and assumptions used by the Company to estimate the fair value of derivatives. Deposits : The fair values for demand deposits are, by definition, equal to the amount payable on demand at the reporting date represented by their carrying amount. Fair values for fixed rate certificates of deposit are estimated using a discounted cash flow analysis that uses interest rates being offered at each reporting date by the Company for certificates with similar remaining maturities. For variable rate time deposits, cost approximates fair value. Commitments to extend credit : Commitments to extend credit are primarily for adjustable rate loans. For these commitments, there are no differences between the committed amounts and their fair values. Commitments to fund fixed rate loans are at rates which approximate fair value at each reporting date. Subordinated notes : The fair value is estimated by discounting the future cash flow using the current 3-month LIBOR rate. The Company’s subordinated notes are not registered securities and were issued through private placements, resulting in a Level 3 classification. The notes are recorded at carrying value. Note 18: Parent Company Only Condensed Financial Information CONDENSED BALANCE SHEETS December 31, 2021 and 2020 (In thousands) 2021 2020 ASSETS Cash and cash equivalents $ 5,636 $ 3,555 Investment in banking subsidiary 257,456 159,236 Other assets 922 291 Total assets $ 264,014 $ 163,082 LIABILITIES AND SHAREHOLDERS’ EQUITY Subordinated notes and other liabilities $ 28,968 $ 29,307 Shareholders’ equity 235,046 133,775 Total liabilities and shareholders’ equity $ 264,014 $ 163,082 CONDENSED STATEMENTS OF INCOME Years ended December 31, 2021 and 2020 (In thousands) 2021 2020 Dividends from banking subsidiary $ 27,630 $ 28,077 Interest expense 1,773 1,773 Other expense 3,559 1,023 Income before income tax and undistributed banking subsidiary income 22,298 25,281 Income tax benefit 812 10 Equity in undistributed banking subsidiary income 19,331 10,637 Net income $ 42,441 $ 35,928 112 CONDENSED STATEMENTS OF CASH FLOWS Years ended December 31, 2021 and 2020 (In thousands) 2021 2020 Cash flows from operating activities: Net income $ 42,441 $ 35,928 Adjustments to reconcile net income to net cash provided by operating activities: Stock compensation expense 594 316 Stock issued to directors 846 252 Equity in undistributed banking subsidiary income ( 19,331 ) ( 10,637 ) Amortization of subordinated notes issuance costs 66 67 Change in other assets ( 631 ) ( 203 ) Change in accrued expenses and other liabilities ( 405 ) 514 Net cash provided by operating activities 23,580 26,237 Cash flows from investing activities: Investment in subsidiary ( 80,800 ) ( 13,500 ) Net cash used in investing activities ( 80,800 ) ( 13,500 ) Cash flows from financing activities: Proceeds from sale of stock 111,243 13,400 Cash dividends paid ( 51,942 ) ( 26,369 ) Net cash provided by financing activities 59,301 ( 12,969 ) Net change in cash and cash equivalents 2,081 ( 232 ) Cash and cash equivalents at beginning of period 3,555 3,787 Cash and cash equivalents at end of period $ 5,636 $ 3,555 Note 19: Subsequent Events On January 20, 2022, the board of directors declared a $ 0.15 per common share dividend for shareholders of record as of February 7, 2022 , which was paid on February 14, 2022 in the amount of $ 2,587,000 . 113 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None.