What changed in this filing

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Item 2. Management’s Discussion and Analysis

2023-08-09 compared with 2023-05-12 · 181 added, 95 removed, 364 unchanged (43% of the section changed)

18 unchanged sentences

First United Corporation is a Maryland corporation chartered in 1985 and a financial holding company registered with the Board of Governors of the Federal Reserve System (the “FRB”) under the Bank Holding Company Act of 1956, as amended, that elected financial holding company status in 2021.

The Corporation’s primary business is serving as the parent company of First United Bank & Trust, a Maryland trust company (the “Bank”), First United Statutory Trust I (“Trust I”) and First United Statutory Trust II (“Trust II” and together with Trust I, “the Trusts”), both Connecticut statutory business trusts, and First United Legacy Advisors, LLC, a Maryland limited liability company (“FULA”).

The Trusts were formed for the purpose of selling trust preferred securities that qualified as Tier 1 capital.

FULA was formed to provide investment advice and related services, but it is not yet active.

The Bank has two consumer finance company subsidiaries- OakFirst Loan Center, Inc., a West Virginia corporation, and OakFirst Loan Center, LLC, a Maryland limited liability company – and two subsidiaries that it uses to hold real estate acquired through foreclosure or by deed in lieu of foreclosure – First OREO Trust, a Maryland statutory trust, and FUBT OREO I, LLC, a Maryland limited liability company.

In addition, the Bank owns 99.9% of the limited partnership interests in Liberty Mews Limited Partnership, a Maryland limited partnership formed for the purpose of acquiring, developing and operating low-income housing units in Garrett County, Maryland (“Limited Mews”), and a 99.9% non-voting membership interest in MCC FUBT Fund, LLC, an Ohio limited liability company formed for the purpose of acquiring, developing and operating low-income housing units in Allegany County, Maryland (the “MCC Fund”).

At March 31, 2023, the Corporation’s total assets were $1.9 billion, net loans were $1.3 billion, and deposits were $1.6 billion.

Shareholders’ equity at March 31, 2023 was $152.9 million.

In addition, the Bank owns 99.9% of the limited partnership interests in Liberty Mews Limited Partnership, a Maryland limited partnership formed for the purpose of acquiring, developing and operating low-income housing units in Garrett County, Maryland, and a 99.9% non-voting membership interest in MCC FUBT Fund, LLC, an Ohio limited liability company formed for the purpose of acquiring, developing and operating low-income housing units in Allegany County, Maryland.

At June 30, 2023, the Corporation’s total assets were $1.9 billion, net loans were $1.3 billion, and deposits were $1.6 billion.

Shareholders’ equity at June 30, 2023 was $155.2 million.

The Corporation maintains an Internet site at www.mybank.com on which it makes available, free of charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to the foregoing as soon as reasonably practicable after these reports are electronically filed with, or furnished to, the SEC.

SELECTED FINANCIAL DATA

The following table sets forth certain selected financial data for the three month periods ended March 31, 2023 and 2022 and is qualified in its entirety by the detailed information and unaudited financial statements, including the notes thereto, included elsewhere in this quarterly report.

As of the three months ended

The following table sets forth certain selected financial data for the six month periods ended June 30, 2023 and 2022 and is qualified in its entirety by the detailed information and unaudited financial statements, including the notes thereto, included elsewhere in this quarterly report.

As of the six months ended

Per Share Data

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RESULTS OF OPERATIONS

Consolidated net income was $4.4 million for the first quarter of 2023 compared to $5.7 million for the first quarter of 2022 and $7.0 million for the fourth quarter of 2022.

Basic net income was $0.66 per share and diluted net income was $0.65 per share for the first quarter of 2023, compared to basic and diluted net income per share of $0.86 for the first quarter of 2022.

The decrease in net income year-over-year was primarily driven by a $1.3 million increase in salaries and employee benefits due to an increase in health insurance costs related to increased claims, as well as increased salary expense for new hires, merit increases effective April 1, 2022, and increased incentive compensation.

Provision for credit losses increased by $1.0 million due to increased qualitative factors related to the potential impact of inflation and rising rates on the cash flows of borrowers.

Data processing expenses increased by $0.1 million, equipment and occupancy expenses increased by $0.1 million and miscellaneous expenses increased by $0.5 million primarily due to increased pension costs.

These increases were partially offset by an increase in net interest income of $1.2 million and a decrease in income tax expense of $0.5 million.

Other operating income, including gains, for the first quarter of 2023 was stable when compared to the same period of 2022.

Increases in service charges and debit card income were offset by a decrease in wealth management income attributable to the decline in market values of assets under management.

Operating expenses increased by $2.1 million when comparing the first quarter of 2023 to the first quarter of 2022.

This increase was driven largely by a $1.3 million increase in salaries and employee benefits attributable to increased salary expense related to new hires and merit increases effective April 1, 2022, increased health insurance costs associated with unusually high claims and increased incentive payouts.

Occupancy, equipment and data processing expenses increased $0.3 million.

Other miscellaneous expenses increased $0.5 million due to increases in charitable contributions, consulting fees, Visa processing fees, continuing education fees, mileage reimbursements, fraud related expense, and pension costs, offset by slight reductions in contract labor, legal and professional, telephone expense, investor relations, debit card expense, and miscellaneous loan fees.

The effective income tax rates as a percentage of income for the three-month period ended March 31, 2023 and March 31, 2022 were 23.6% and 25.0%, respectively.

The decrease in the tax rate for the period was primarily related to a new low-income housing tax credit investment in 2022 that began generating tax credits during the fourth quarter of 2022 and will continue to generate tax credits in 2023 and future years.

Consolidated net income was $4.4 million for the second quarter of 2023, compared to $5.4 million for the second quarter of 2022 and $4.4 million for the first quarter of 2023.

Basic and diluted net income was $0.66 per share for the second quarter of 2023, compared to basic and diluted net income per share of $0.82 for the second quarter of 2022.

For the first quarter of 2023, basic net income was $0.66 per share and diluted net income was $0.65 per share.

The decrease in quarterly net income year-over-year was primarily driven by a $1.1 million increase in salaries and employee benefits due to an increase in health insurance costs related to unusually high claims, as well as increased salary expense for new hires, merit increases effective April 1, 2023, increased incentive compensation, and decreases in deferred loan costs due to decrease in loan reductions.

Data processing expenses increased by $0.1 million, FDIC premiums increased by $0.1 million and miscellaneous expenses increased by $0.7 million primarily attributable to increased pension plan of $0.3 million, check fraud related expenses of $0.2 million, and increases in membership dues and licenses, mortgage escrow, debit card expense, and miscellaneous loan fees, partially offset by decreases in personnel related expense and loan service fees.

An increase in net interest income of $0.2

million and a decrease in income tax expense of $0.3 million also partially offset the decrease.

The provision for credit losses was $0.4 million for the second quarter of 2023, compared to provision for loan loss of $0.6 million for the second quarter of 2022.

Year-to-date net income for the first six months of 2023 was $8.8 million compared to $11.1 million for the same period in 2022.

The year-over-year decrease was primarily driven by a $2.4 million in salaries and employee benefits due primarily to increased salary expense of $1.1 million related to new hires and merit increases effective April 1, 2023, increased health insurance costs of $0.8 million associated with unusually high claims and increased incentive payouts of $0.2 million.

Occupancy and equipment expense increased by $0.2 million, data processing expense increased by $0.3 million, and FDIC assessments increased by $0.1 million.

Other miscellaneous expenses, such as loan service fees, dues and licenses, check fraud expenses, employee benefit plan expense, and miscellaneous expenses increased by $1.1 million.

Provision for credit losses increased by $0.7 million when compared to the prior year period.

These increases were partially offset by an increase in net interest income of $1.4 million, gains on sales of mortgages of $0.1 million, service charges on deposit accounts of $0.1 million, and debit card income of $0.1 million.

Other operating income, including gains, for the second quarter of 2023 increased slightly by $0.1 million when compared to the same period of 2022.

Increases in service charges, debit card income, and gains on sales of mortgages were partially offset by decreases in wealth management income attributable to the decline in market values of assets under management.

Other operating income for the six months ended June 30, 2023 remained stable when compared to the same period of 2022.

This increase was primarily due to the increase in gains on sales of residential mortgage loans of $0.1 million, service charges on deposit accounts of $0.1 million, and debit card income of $0.1 million, which was partially offset by decreases in wealth management income attributable to the decline in market values of assets under management.

Operating expenses increased by $1.9 million when comparing the second quarter of 2023 to the second quarter of 2022.

This increase was primarily driven by a $1.1 million increase in salaries and employee benefits due to an increase in health insurance costs related to unusually high claims, as well as increased salary expense for new hires, merit increases effective April 1, 2023, and increased incentive compensation.

Data processing expenses increased by $0.1 million, FDIC premiums increased by $0.1 million and miscellaneous expenses increased by $0.7 million primarily attributable to increased employee benefit plan costs of $0.3 million, check fraud related expenses of $0.2 million, and increases in membership dues and licenses, mortgage escrow interest expense, debit card expense, and miscellaneous loan fees, partially offset by decreases in personnel related expense and loan service fees.

For the six months ended June 30, 2023, non-interest expenses increased by $3.9 million when compared to the six months ended June 30, 2022.

Salaries and employee benefits increased by $2.4 million year-over-year due primarily to increased salary expense of $1.1 million related to new hires and merit increases effective April 1, 2023, increased health insurance costs of $0.8 million associated with unusually high claims and increased incentive payouts of $0.2 million.

Occupancy and equipment expense increased by $0.2 million, data processing expense increased by $0.3 million, and FDIC assessments increased by $0.1 million.

Other miscellaneous expenses, such as loan service fees, dues and licenses, check fraud expenses, employee benefit plan expense, and miscellaneous expenses increased by $1.1 million.

Net Interest Income

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Net interest income is the difference between the interest that we earn on our interest-earning assets and the interest expense we incur on our interest-bearing liabilities.

For analytical and discussion purposes, net interest income is adjusted to a FTE basis to facilitate performance comparisons between taxable and tax-exempt assets by increasing tax-exempt income by an amount equal to the federal income taxes that would have been paid if this income were taxable at the statutorily applicable rate.

For analytical and discussion purposes, net interest income is adjusted to a fully tax equivalent (“FTE”) basis to facilitate performance comparisons between taxable and tax-exempt assets by increasing tax-exempt income by an amount equal to the federal income taxes that would have been paid if this income were taxable at the statutorily applicable rate.

This is a non-GAAP disclosure and management believes it is not materially different than the corresponding GAAP disclosure.

The tables below summarizes net interest income for the three month periods ended March 31, 2023 and 2022.

The tables below summarizes net interest income for the three month periods ended June 30, 2023 and 2022.

Six Months Ended

(dollars in thousands)

Interest income

Interest expense

Net interest income

Net interest margin %

Three Months Ended

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Net interest margin %

The following tables set forth the average balances, net interest income and expense, and average yields and rates of our interest-earning assets and interest-bearing liabilities for the three month period ended March 31 , 2023 and 2022:

Six Months Ended

(dollars in thousands)

Investment Securities:

Federal funds sold

Interest-bearing deposits with other banks

Other interest earning assets

Total earning assets

Allowance for loan losses

Non-earning assets

Liabilities and Shareholders’ Equity

Interest-bearing demand deposits

Interest-bearing money markets

Savings deposits

Time deposits - Retail

Time deposits - Brokered

Short-term borrowings

Long-term borrowings

Total interest-bearing liabilities

Non-interest-bearing deposits

Other liabilities

Shareholders’ Equity

Total Liabilities and Shareholders’ Equity

Net interest income and spread

Net interest margin

(1) The above table reflects the average rates earned or paid stated on an FTE basis assuming a 21% tax rate for 2023 and 2022.

Non-GAAP interest income on a fully taxable equivalent was $452 and $477, respectively.

(2) Net interest margin is calculated as net interest income divided by average earning assets.

(3) The average yields on investments are based on amortized cost.

Three Months Ended

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(3) The average yields on investments are based on amortized cost.

Net interest income, on a non-GAAP, FTE basis, increased by $1.2 million for the first quarter of 2023 when compared to the first quarter of 2022.

Net interest income, on a non-GAAP, FTE basis, increased by $0.2 million for the second quarter of 2023 when compared to the second quarter of 2022.

This increase was driven by an increase of $5.2 million in interest income from an overall increase in yield of 86 basis points on interest earning assets and an increase in average balances of $152.7 million.

1 unchanged sentence

Investment income increased by $0.2 million.

The increase of $2.5 million in interest expense was driven by the increase of 82 basis points on interest paid on deposit accounts as well as an increase of $89.3 million in average balances of interest-bearing deposit accounts when compared to 2022.

Increased deposit pricing is a result of the continued pressure on deposits as well as a shift of balances from non-interest-bearing deposits to the interest bearing Insured Cash Sweep (“ICS”) product to ensure full FDIC insurance coverage.

The following table sets forth an analysis of volume and rate changes in interest income and interest expense for our average interest-earning assets and average interest-bearing liabilities for the three month periods ended March 31, 2023 and 2022:

For the Three months ended March 31, 2023

compared to the three months ended March 31, 2022

The increase of $5.0 million in interest expense was driven by an increase of 142 basis points on interest paid on deposit accounts as well as an increase of $126.1 million in average balances of interest-bearing deposit accounts when compared to the same period of 2022.

Increased deposit pricing is a result of the continued pressure on deposits as well as a shift in the deposit portfolio mix from non-interest-bearing deposits to interest-bearing accounts including the Insured Cash Sweep (“ICS”) product to ensure full FDIC insurance coverage.

The net interest margin for the three months ended June 30, 2023 was 3.26%, compared to 3.52% for the three months ended June 30, 2022.

Comparing the six months ended June 30, 2023 to the six months ended June 30, 2022, net interest income, on a non-GAAP, FTE basis, increased by $1.4 million.

Interest income increased by $8.9 million and interest expense increased by $7.5 million.

The yield on earning assets increased 79 basis points to 4.45% in 2023 compared to 3.66% in 2022 in correlation with the rising interest rate environment and new loans booked at higher rates.

Interest expense on deposits increased $6.2 million while the average balances increased $100.0 million and interest on long-term borrowings increased $1.4 million relating to $80.0 million in Federal Home Loan Bank (“FHLB”) borrowings obtained during the first quarter of 2023 and an increase of interest rates on variable rate trust preferred borrowings.

The increased interest expense resulted in an overall increase of 122 basis points on interest bearing liabilities.

The net interest margin for the six months ended June 30, 2023 was 3.39%, compared to 3.46% for the six months ended June 30, 2022.

For the Six months ended June 30, 2023

compared to the Six months ended June 30, 2022

(in thousands and tax equivalent basis)

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(1) The change in interest income/expense due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.

For the Three months ended June 30, 2023 compared to the Three months ended June 30, 2022

(in thousands and tax equivalent basis)

Interest Income:

Taxable Investments

Non-taxable Investments

Federal funds sold

Interest-bearing deposits

Other interest earning assets

Total interest income

Interest Expense:

Interest-bearing demand deposits

Interest-bearing money markets

Savings deposits

Time deposits - Retail

Time deposits - Brokered

Short-term borrowings

Long-term borrowings

Total interest expense

Net interest income

Provision for Credit Losses

Specific allocations have been made for loans where management has determined that the collateral supporting the loans is not adequate to cover the loan balance, and the qualitative factors affecting the ACL/ALL have been adjusted based on the current economic environment and the characteristics of the loan portfolio.

The composition of other operating income for the three month periods ended March 31, 2023 and 2022 is illustrated in the following table:

Specific allocations have been made for loans where management has determined that the collateral supporting the loans is not adequate to cover the loan balance, and the qualitative factors affecting the allowance for credit losses (“ACL”) and allowance for loan losses (“ALL”) have been adjusted based on the current economic environment and the characteristics of the loan portfolio.

The composition of other operating income for the six and three month periods ended June 30, 2023 and 2022 is illustrated in the following table:

Income as % of

Total Other Income

Six Months Ended

Three Months Ended

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Other Operating Expenses

The composition of other operating expenses for the three month periods ended March 31, 2023 and 2022 is illustrated in the following table:

The composition of other operating expenses for the six and three month periods ended June 30, 2023 and 2022 is illustrated in the following table:

Expense as % of

Total Other Operating Expenses

Six Months Ended

Three Months Ended

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In arriving at this effective tax rate, however, no effect should be included for the tax related to significant, unusual or extraordinary items that will be separately reported or reported net of their related tax effect in reports for the interim period or for the fiscal year.

The effective income tax rates as a percentage of income for the six-month periods ended June 30, 2023 and June 30, 2022 were 24.0% and 24.5%, respectively.

The decrease in the tax rate for the 2023 period was primarily related to a new low-income housing tax credit investment in 2022 that began generating tax credits during the fourth quarter of 2022.

This tax credit is expected to continue through 2032.

FINANCIAL CONDITION

Balance Sheet Overview

Total assets at March 31, 2023 were $1.9 billion, representing a $89.3 million increase since December 31, 2022.

During the first quarter of 2023, cash and interest-bearing deposits in other banks increased by $81.6 million as a result of the implementation of the contingency funding plan and obtaining $61.1 million of brokered certificates of deposit and $80.0 million in FHLB borrowings.

Implementing the contingency funding plan and the increase in on-balance sheet liquidity was a precautionary move given the market disruptions associated with the volatile banking environment and the near-term uncertainties regarding growth in the deposit portfolio.

Total assets at June 30, 2023 were $1.9 billion, representing an $80.2 million increase since December 31, 2022.

During the first six months of 2023, cash and interest-bearing deposits in other banks increased by $14.2 million resulting from implementation of the contingency funding plan and obtaining $61.1 million of brokered certificates of deposit and $80.0 million in FHLB borrowings.

Implementing the contingency funding plan and the increase in on-balance sheet liquidity was a precautionary move given the market disruption associated with the volatile banking environment and the near-term uncertainties regarding growth in the deposit portfolio.

The increase in cash obtained from contingency funding was partially offset by the funding of loan growth during 2023.

The investment portfolio decreased by $10.7 million associated with normal principal amortization and gross loans increased by $70.5 million.

Other assets, including deferred taxes, premises and equipment, and accrued interest receivable, remained stable.

Total liabilities at March 31, 2023 were $1.8 billion, representing an $88.2 million increase since December 31, 2022.

Other assets, including deferred taxes, premises and equipment, and accrued interest receivable,

increased by $4.0 million as pension assets increased by $0.6 million, equity investments increased by $0.7 million, and deferred tax assets increased by $1.2 million.

Total liabilities at June 30, 2023 were $1.8 billion, representing a $76.9 million increase since December 31, 2022.

Total deposits increased by $9.2 million since December 31, 2022.

The increase in deposits during the first quarter was primarily attributable to $61.1 million in new brokered deposits, which was partially offset by a decrease of approximately $38.1 million in non-interest deposits from a shift to interest bearing accounts, the effects of consumer and commercial spending and the competitive market for deposits.

Short term borrowings decreased by $12.5 million since December 31, 2022 due to municipalities in our Treasury management product utilizing cash for normal spending.

Long term borrowings increased by $80.0 million in the first

quarter of 2023 when compared to December 31, 2022 due to the acquisition of $80.0 million in FHLB borrowings related to the implementation of our Contingency Funding Plan.

The increase in deposits during the first six months of 2023 was primarily attributable to $61.1 million in new brokered deposits, which was partially offset by a decrease of approximately $40.0 million in non-interest-bearing deposits due to a shift to interest bearing accounts, two large commercial customers having large deposit withdrawals totaling $39.5 million during 2023 to fund business activity, the effects of consumer and commercial spending and the competitive market for deposits.

Short term borrowings decreased by $14.5 million since December 31, 2022 due to municipalities utilizing cash in our treasury management product for normal spending.

Long term borrowings increased by $80.0 million in the first six months of 2023 when compared to December 31, 2022 due to the advance of $80.0 million in FHLB borrowings.

The addition of brokered deposits and the FHLB borrowings was a precautionary move as described above.

Loan Portfolio

1 unchanged sentence

(dollars in thousands)

March 31, 2023

June 30, 2023

December 31, 2022

3 unchanged sentences

Residential mortgage

*Includes $0.3 million of PPP loans at March 31, 2023 and $0.4 million at December 31, 2022

Outstanding loans of $1.3 billion at March 31, 2023 reflected growth of $9.6 million for the first quarter of 2023.

Since December 31, 2022, commercial real estate loans decreased by $5.5 million and acquisition and development loans increased by $6.4 million.

Commercial and industrial loans decreased by $3.4 million since December 31, 2022, primarily due to seasonal fluctuations of floor plan lending.

Residential mortgage loans increased $11.8 million related to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio.

*Includes $0.1 million of Paycheck Protection Program loans at June 30, 2023 and $0.4 million at December 31, 2022

Outstanding loans of $1.4 billion at June 30, 2023 reflected growth of $70.5 million for the first six months of 2023.

Since December 31, 2022, commercial real estate loans increased by $24.7 million and acquisition and development loans increased by $8.4 million.

Commercial and industrial loans increased by $4.3 million since December 31, 2022.

Growth in the commercial portfolios was driven by increased activity with existing clients as well as cultivating new business relationships.

Residential mortgage loans increased by $31.1 million related to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio.

The consumer loan portfolio increased slightly by $2.1 million.

New commercial loan production for the three months ended March 31, 2023 was approximately $52.8 million.

The pipeline of commercial loans as of March 31, 2023 was $42.3 million.

At March 31, 2023, unfunded, committed commercial construction loans totaled approximately $42.6 million.

Commercial amortization and payoffs were approximately $38.9 million through March 31, 2023 due primarily to pay-offs of short-term commercial loans as well as normal amortizations of the commercial loan portfolio.

New consumer mortgage loan production for the first quarter of 2023 was approximately $19.0 million, with most of this production comprised of in-house mortgages.

The pipeline of in-house, portfolio loans as of March 31, 2023, was $20.3 million.

The residential mortgage production level normalized in the first quarter of 2023 due to the increasing interest rates that occurred throughout 2022 and 2023.

Non-accrual loans totaled $3.3 million at March 31, 2023 compared to $3.5 million at December 31, 2022.

The decrease in non-accrual balances at March 31, 2023 was related to principal reductions.

OREO balances decreased by $0.1 million since December 31, 2022 due to sales of OREO properties.

New commercial loan production for the three months ended June 30, 2023 was approximately $67.6 million.

The pipeline of commercial loans as of June 30, 2023 was $22.5 million.

At June 30, 2023, unfunded, committed commercial construction loans totaled approximately $42.6 million.

Commercial amortization and payoffs were approximately $99.3 million through June 30, 2023 due primarily to pay-offs of short-term commercial loans as well as normal amortizations of the commercial loan portfolio.

New consumer mortgage loan production for the second quarter of 2023 was approximately $32.3 million, with most of this production comprised of in-house mortgages.

The pipeline of in-house, portfolio loans as of June 30, 2023, was $6.2 million.

The residential mortgage production level normalized in the second quarter of 2023 due to the increasing interest rates that occurred throughout 2022 and 2023.

Unfunded commitments related to residential construction loans totaled $21.0 million at June 30, 2023.

Management began shifting activity toward the secondary market in the second quarter of 2023 to reduce the need for additional funding.

Non-accrual loans totaled $3.0 million at June 30, 2023, compared to $3.5 million at December 31, 2022.

The decrease in non-accrual balances at June 30, 2023 was primarily driven by principal reductions in the residential mortgage portfolio.

Other real estate owned (“OREO”) balances increased by $0.1 million since December 31, 2022 due to the addition of a new OREO property during the second quarter of 2023, which was partially offset by sale of OREO held by the Bank at December 31, 2022.

Risk Elements of Loan Portfolio

29 unchanged sentences

Management evaluates the variability of market conditions by examining the peak and trough of economic cycles.

These peaks and torughs are used to stress the base case model to develop a range of potential outcomes.

These peaks and troughs are used to stress the base case model to develop a range of potential outcomes.

Management then determines the appropriate reserve through an evaluation of these various outcomes relative to current economic conditions and known risks in the portfolio.

The following table presents a summary of the activity in the ACL and ALL for the three months ended March 31:

Management enhances its calculation with the use of Moody’s economic forecast data to provide additional support to substantiate its ACL.

The following table presents a summary of the activity in the ACL and ALL for the six month periods ended June 30:

(dollars in thousands)

20 unchanged sentences

Investment Securities

At March 31, 2023, the total amortized cost basis of the available-for-sale investment portfolio was $148.2 million, compared to a fair value of $124.0 million.

At June 30, 2023, the total amortized cost basis of the available-for-sale investment portfolio was $146.5 million, compared to a fair value of $120.1 million.

Unrealized gains and losses on securities available-for-sale are reflected in accumulated other comprehensive loss, a component of shareholders’ equity.

1 unchanged sentence

The following table presents the composition of our securities portfolio at amortized cost and fair values at the dates indicated:

March 31, 2023

June 30, 2023

December 31, 2022

16 unchanged sentences

Total held to maturity

Total fair value of investment securities available for sale decreased by $1.9 million since December 31, 2022 due to principal paydowns of the portfolio in the first quarter of 2023.

At March 31, 2023, the securities classified as available-for-sale included a net unrealized loss of $24.3 million, which represents the difference between the fair value and amortized cost of securities in the portfolio.

Total fair value of investment securities available for sale decreased by $5.8 million since December 31, 2022 due to principal paydowns of the portfolio in the first six months of 2023 and declines in the fair value of investment securities of $2.4 million.

At June 30, 2023, the securities classified as available-for-sale included a net unrealized loss of $26.4 million, which represents the difference between the fair value and amortized cost of securities in the portfolio.

As discussed in Note 6 to the consolidated financial statements presented elsewhere in this report, the Corporation measures fair market values based on the fair value hierarchy established in ASC Topic 820, Fair Value Measurements and Disclosures .

3 unchanged sentences

These Level 3 instruments are valued based on both observable and unobservable inputs derived from the best available data, some of which is internally developed, and considers risk premiums that a market participant would require.

Approximately $109.9 million of the available for sale portfolio was valued using Level 2 pricing and had net unrealized losses of $21.1 million at March 31, 2023.

The remaining $14.1 million of the securities available for sale represents the entire collateralized debt obligation (“CDO”) portfolio, which was valued using significant unobservable inputs (Level 3 assets).

The $4.5 million in net unrealized losses associated with this portfolio relates to nine pooled trust preferred securities that comprise the CDO portfolio.

Net unrealized losses of $3.3 million represent non-credit related OTTI charges on seven of the securities, while $1.2 million of unrealized losses relates to two securities which have had no OTTI related charges.

Approximately $105.9 million of the available for sale portfolio was valued using Level 2 pricing and had net unrealized losses of $21.8 million at June 30, 2023.

The remaining $14.1 million of the securities available for sale represents the entire collateralized debt obligation portfolio, which was valued using significant unobservable inputs (Level 3 assets).

The $4.6 million in net unrealized losses associated with this portfolio relates to nine pooled trust preferred securities that comprise the collateralized debt obligation portfolio.

Net unrealized losses of $1.6 million represent non-credit related impairment charges on seven of the securities, while $3.0 million of unrealized losses relates to two securities which have had no impairment-related charges.

The following table presents the composition of our deposits at the dates indicated:

(dollars in thousands)

March 31, 2023

June 30, 2023

December 31, 2022

5 unchanged sentences

Total Deposits

Total deposits at March 31, 2023 increased by $20.6 million when compared to December 31, 2022.

In 2023, non-interest-bearing deposits decreased by $38.1 million primarily due to the shift of balances into interest bearing accounts to ensure full FDIC coverage through the ICS product, consumer and commercial spending and the competitive deposit market.

Interest bearing demand deposits increased by $34.9 million and traditional savings and money market accounts decreased by $34.3 million.

Total deposits at June 30, 2023 increased by $9.2 million when compared to December 31, 2022.

During the first six months of 2023, non-interest-bearing deposits decreased by $40.0 million primarily due a shift in the deposit portfolio mix from non-interest-bearing deposits to interest-bearing accounts including the ICS product to ensure full FDIC insurance coverage, consumer and commercial spending and the competitive deposit market.

Interest bearing demand deposits increased by $65.5 million and traditional savings and money market accounts decreased by $103.0 million, which is primarily related to consumer spending habits during 2023, businesses utilizing cash, and two large customers reducing deposits by approximately $39.5 million for regular business purposes.

Total time deposits increased by $86.6 million.

This increase in time deposits was primarily driven by management’s decision to acquire $61.1 million in brokered deposits during the first quarter of 2023 as a result of the market disruption.

The following table summarizes the percentage of deposits that are insured by deposit insurance or otherwise fully collateralized by securities compared to uninsured deposits as of March 31, 2023 and December 31, 2022.

March 31, 2023

This increase in time deposits was primarily driven by management’s decision to acquire $61.1 million in brokered deposits during the first quarter of 2023 due to the heightened uncertainty in the deposit market associated with the volatile banking environment as well as increased interest rates on a promotional nine-month CD product offered in early 2023.

June 30, 2023

December 31, 2022

2 unchanged sentences

Uninsured deposits

The following table summarizes the percentage of deposit balances from retail customers compared to business customers as of March 31, 2023 and December 31, 2022.

March 31, 2023

The following table summarizes the percentage of deposit balances from retail customers compared to business customers as of June 30, 2023 and December 31, 2022.

June 30, 2023

December 31, 2022

2 unchanged sentences

Business deposits

Deposit outflows experienced in the latter half of 2022 and in January 2023 were due to the competitive pricing landscape and inflationary spending.

Changes in deposit levels were not directly related to recent market disruptions.

Deposit outflows experienced in late 2022 and January 2023 were due to the competitive pricing landscape and inflationary spending.

Changes in deposit levels were not directly related to the market disruptions during the first six months of 2023.

Borrowed Funds

7 unchanged sentences

Short term borrowings decreased $14.5 million since December 31, 2022, driven by the utilization of cash by municipalities in our Treasury Management product.

Long-term borrowings increased by $80.0 million due to management’s decision to implement the Contingency Funding plan in regards to the recent market disruption.

Two new borrowings totaling $80.0 million in FHLB advances were obtained in the first quarter of 2023.

During the first quarter of 2023, management implemented the Contingency Funding plan and borrowed $80.0 million from FHLB in two advances with 12 and 18 month maturities.

Liquidity Management

19 unchanged sentences

Bank Term Funding Program – A Federal Reserve program collateralized by government agency securities, if needed.

The following table presents sources of liquidity available to the Company as of March 31, 2023.

The following table presents sources of liquidity available to the Corporation as of June 30, 2023.

(dollars in thousands)

7 unchanged sentences

Bank Term Funding Program*

*Bank Term Funding Program ("BTFP") has been established and can be utilized if needed.

$122 million available for BTFP included in unpledged above.

*Bank Term Funding Program has been established and eligible securities with a total par balance of $87.3 million have been pledged to the program as of June 30, 2023

Management is not aware of any demands, commitments, events or uncertainties that are likely to materially affect our ability to meet our future capital requirements.

Due to the recent market disruption, management implemented the Liquidiity Contingency Plan and believes that we have adequate liquidity available to respond to current and anticipated liquidity demands and is not aware of any trends or demands, commitments, events or uncertainties that are likely to materially affect our ability to maintain liquidity at satisfactory levels.

Due to the market disruption and uncertainties, management implemented the Liquidity Contingency Plan in the first quarter and believes that we have adequate liquidity available to respond to current and anticipated liquidity demands and is not aware of any trends or demands, commitments, events or uncertainties that are likely to materially affect our ability to maintain liquidity at satisfactory levels.

Market Risk and Interest Sensitivity

10 unchanged sentences

A negative gap position would benefit us during a period of declining interest rates.

At March 31, 2023, we were asset sensitive.

At June 30, 2023, we were asset sensitive.

Our interest rate risk management goals are:

22 unchanged sentences

They do not necessarily indicate the long-term prospects or economic value of the institution.

Based on the simulation analysis performed at March 31, 2023 and December 31, 2022, management estimated the following changes in net interest income, assuming the indicated rate changes:

Based on the simulation analysis performed at June 30, 2023 and December 31, 2022, management estimated the following changes in net interest income, assuming the indicated rate changes:

(Dollars in thousands)

5 unchanged sentences

-200 basis points

-300 basis points

-400 basis points

This estimate is based on assumptions that may be affected by unforeseeable changes in the general interest rate environment and any number of unforeseeable factors.

15 unchanged sentences

These regulations are used to evaluate capital adequacy and require an analysis of an institution’s asset risk profile and off-balance sheet exposures, such as unused loan commitments and stand-by letters of credit.

Based on capital ratios at March 31, 2023, the Bank was considered to be well-capitalized.

We adopted CECL effective January 1, 2023 and elected to implement the regulatory agencies’ capital transition entirely upon implementation.

Based on capital ratios at June 30, 2023, the Bank was considered to be well-capitalized.

The following table presents the Bank’s capital ratios as of the dates indicated:

3 unchanged sentences

Tier 1 Capital (to average assets)

As of March 31, 2023 and December 31, 2022, the Bank was considered “well capitalized” under the regulatory framework for prompt corrective action.

We adopted CECL effective January 1, 2023 and elected not to implement the regulatory agencies’ capital transition and instead opted to record the impact to ouc capital ratios immediately upon implementation.

As of June 30, 2023 and December 31, 2022, the Bank was considered “well capitalized” under the regulatory framework for prompt corrective action.

We adopted CECL effective January 1, 2023 and elected not to implement the regulatory agencies’ capital transition and instead opted to record the impact to our capital ratios immediately upon implementation.

Effective with the implementation of CECL, a $2.2 million, net of tax, adjustment was made to retained earnings.

4 unchanged sentences

Among these obligations are FHLB advances and junior subordinated debentures, operating lease agreements for banking and subsidiaries’ offices and for data processing and telecommunications equipment.

Comparing March 31, 2023 to December 31, 2022, short-term borrowings decreased $12.5 million, driven by a the utilization of cash balances by municipalities related to the overnight investments product.

Comparing June 30, 2023 to December 31, 2022, short-term borrowings decreased $14.5 million, driven by a the utilization of cash balances by municipalities related to the overnight investments product.

Long-term borrowings increased by $80.0 million during the quarter due to management’s decision to obtain $80 million in FHLB advances during the first quarter of 2023.

9 unchanged sentences

Standby letters of credit

The increase of $10.4 million in commitments at March 31, 2023 when compared to December 31, 2022 was due to new business in construction commitments in the commercial portfolio as well as new home equity lines of credit.

Upon adoption of ASC 326 on January 1, 2023, the Company recorded an initial increase to the ACL for off-balance sheet exposures of $0.9 million.

Credit loss expense for off-balance sheet credit exposures totaled $0.1 million for the period ending March 31, 2023.

The increase of $8.5 million in commitments at June 30, 2023 when compared to December 31, 2022 was due to new business in construction commitments in the commercial portfolio as well as new home equity lines of credit.

Upon adoption of ASC 326 on January 1, 2023, the Corporation recorded an initial increase to the ACL for off-balance sheet exposures of $0.9 million.

Credit loss expense for off-balance sheet credit exposures totaled $0.1 million for the six-month period ended June 30, 2023.

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

What changed 10-Q

Item 2. Management’s Discussion and Analysis