What changed in this filing

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Item 7. Management’s Discussion and Analysis

2023-03-01 compared with 2022-03-01 · 138 added, 153 removed, 539 unchanged (35% of the section changed)

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MANAGEMENT OVERVIEW

Net income for the year ended December 31, 2021 totaled $84,137,000, or $3.17 per share, an increase of $21,927,000, or approximately 35% on a per share basis, from the year ended December 31, 2020 net income of $62,210,000, or $2.34 per share.

The net income growth during 2021 compared with 2020 was driven by a number of factors including improved net interest income, lower provision for credit losses and increased non-interest revenue which was partially offset by a modestly higher level of non-interest expense.

Net income for the year ended December 31, 2020 totaled $62,210,000, or $2.34 per share, an increase of $2,988,000, or approximately 2% on a per share basis, from the year ended December 31, 2019 net income of $59,222,000, or $2.29 per share.

As previously disclosed, in March 2021, the Company commenced an operating optimization plan, pursuant to which its banking subsidiary, German American Bank, would consolidate seven branch offices and implement various staff reductions during 2021.

In making its decision to consolidate these branches, which were generally integrated with other nearby bank branches, the Company considered, among other factors, the operating costs of the branches, certain physical limitations impacting the bank facilities, and their proximity to other branch locations.

In addition, the Company’s evaluation of the branch

consolidations and the reductions in staff also took into consideration the numbers and types of transactions being conducted by its customers and the increased usage of online and mobile banking.

Also as part of the operating optimization plan, in September 2021, German American Bank sold its two branches located in Lexington, Kentucky to The Home Savings and Loan Company of Kenton, Ohio (“HSLC”).

HSLC assumed approximately $17.6 million in total deposits and purchased approximately $17.8 million in total loans as part of the sale.

Business Developments

On January 1, 2022, the Company completed the acquisition of Citizens Union Bancorp of Shelbyville, Inc.

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The Company issued approximately 2.9 million shares of its common stock, and paid approximately $50.8 million in cash, in exchange for all of the issued and outstanding shares of common stock of CUB.

For further information regarding this merger and acquisition transaction, see Note 20 (Subsequent Events) in the Notes to the Consolidated Financial Statements included in Item 8 of this Report.

On July 1, 2019, the Company completed the acquisition of Citizens First Corporation (“Citizens First”) through the merger of Citizens First with and into the Company.

Immediately following completion of the Citizens First holding company merger, Citizens First's subsidiary bank, Citizen First Bank, Inc., was merged with and into the Company’s subsidiary bank, German American Bank.

Citizens First, headquartered in Bowling Green, Kentucky operated eight retail banking offices through Citizens First Bank, Inc.

in Barren, Hart, Simpson and Warren Counties in Kentucky.

As of the closing of the transaction, Citizens First had total assets of approximately $456.0 million, total loans of approximately $364.6 million, and total deposits of approximately $370.8 million.

The Company issued approximately 1.7 million shares of its common stock, and paid approximately $15.5 million in cash, in exchange for all of the issued and outstanding shares of common stock of Citizens First.

For further information regarding this merger and acquisition transaction, see Note 18 (Business Combinations) in the Notes to the Consolidated Financial Statements included in Item 8 of this Report.

COVID-19 PANDEMIC BUSINESS UPDATE

The novel coronavirus disease 2019 (COVID-19) pandemic continued to impact our operations during 2021.

While uncertainty remains as to the future effects of the pandemic, an improving business climate, supported by unprecedented fiscal stimulus, an accommodative Federal Reserve, and modest increases in COVID-19 vaccination rates, has helped to mitigate the negative impacts of the pandemic on our financial condition and results of operations, despite the challenges presented by very low interest rates, muted loan growth, and excess liquidity.

CARES Act and the Paycheck Protection Program

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

For small businesses, eligible nonprofits and certain others, the CARES Act established a Paycheck Protection Program (“PPP”), a lending program administered by the Small Business Administration (“SBA”) that is intended to incentivize participants to retain their employees by providing them with loans that are fully guaranteed by the U.S.

government and subject to forgiveness if program guidelines are met.

The PPP was later extended and modified by the Paycheck Protection Program and Health Care Enhancement Act in April 2020 and the Paycheck Protection Program Flexibility Act in June 2020, with PPP funding under this initial round expiring on August 8, 2020.

In December 2020, the Economic Aid to Hard-Hit Small Businesses, Nonprofits, and Venues Act was signed into law as part of the Consolidated Appropriations Act, 2021 (the “CAA”).

In addition to direct stimulus payments and other aid, this Act provided for a second round of PPP loans through March 31, 2021.

Under the American Rescue Plan Act of 2021 and the PPP Extension Act of 2021, which were both enacted during March 2021, additional funds were provided for the program and the deadline for applying for PPP loans was extended through May 31, 2021 (with the SBA having been given until June 30, 2021 to process loan applications).

The Company actively participated in both rounds of the PPP, lending funds primarily to its existing loan and/or deposit customers.

The PPP loans carry an interest rate of 1.00% and included a processing fee that varied depending on the balance of the loan at origination (which fee is recognized over the life of the loan).

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

Under the first round of the PPP (i.e., the 2020 round), the Company originated loans totaling approximately $351.3 million in principal amount, with approximately $12.0 million of related net processing fees on 3,070 PPP loan relationships.

As of December 31, 2021, $349.2 million of those first round PPP loans had been forgiven by the SBA and repaid to the Company pursuant to the terms of the program or repaid by customers, with approximately $12.0 million in net processing fees having been recognized by the Company.

Under the second round of the PPP (i.e., the 2021 round), the Company originated loans totaling approximately $157.0 million in principal amount, with approximately $9.0 million of related net processing fees, on 2,601 PPP loan relationships.

As of December 31, 2021, $138.8 million of second round PPP loans had been forgiven by the SBA and repaid to the Company, with $8.1 million in net processing fees having been recognized by the Company.

As a result of the forgiveness of the first and second round PPP loans, $20.3 million of total PPP loans remain outstanding as of December 31, 2021, with approximately $0.9 million of net fees remaining deferred on that date.

For further information regarding this merger and acquisition transaction, see Note 18 (Business Combinations, Goodwill and Intangible Assets) in the Notes to the Consolidated Financial Statements included in Item 8 of this Report.

As previously disclosed, during 2021, the Company executed an operating optimization plan, pursuant to which its banking subsidiary, German American Bank, consolidated seven branch offices and implemented various staff reductions.

In addition, the Company’s evaluation of the branch consolidations and the reductions in staff also took into consideration the numbers and types of transactions being conducted by its customers and the increased usage of online and mobile banking.

HSLC assumed approximately $17.6 million in total deposits and purchased approximately $17.8 million in total loans as part of the sale.

Financial Overview

Net income for the year ended December 31, 2022 totaled $81,825,000, or $2.78 per share, a decline of $2,312,000, or approximately 12% on a per share basis, from the year ended December 31, 2021 net income of $84,137,000, or $3.17 per share.

The change in net income during 2022, compared with 2021, was largely impacted by acquisition-related expenses for the CUB transaction that closed on January 1, 2022.

The 2022 results of operations included acquisition-related expenses of $12,323,000 ($9,372,000 or $0.32 per share, on an after tax basis) and also included Day 1 provision for credit losses under the CECL model of $6,300,000 ($4,725,000 or $1.16 per share, on an after tax basis).

The decline in per share net income for the year ended December 31, 2022, as compared to 2021, was also impacted by the Company's January 1, 2022 issuance of approximately 2.9 million shares of common stock as part of the merger consideration in the CUB transaction.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

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Subsequent evaluations of the loan portfolio may result in significant changes in the allowance for credit losses in future periods.

The Company uses a number of economic variables in its scenarios to estimate the allowance for credit losses, with the most significant drivers being unemployment rate forecast, gross domestic product and agricultural producer price index as well as qualitative adjustments.

Historical loss rates from periods where the average unemployment rate, gross domestic product and agricultural producer pricing index matches the forecast range are considered when calculating the forecast period loss rate.

The impact of the changes in the unemployment and gross domestic product forecast range between December 31, 2022, and December 31, 2021, resulted in a decrease in the allowance for credit losses of approximately $600,000.

Based on sensitivity analysis of all portfolios, a 0.050% change (slight improvement or decline on the Company's scale) in all ten qualitative risk factors would have a $1,900,000 impact on the reserve allocation.

The sensitivity and related range of impact is a hypothetical analysis and is not intended to represent management's judgements or assumptions of qualitative loss factors that were utilized at December 31, 2022 in estimation of the allowance for credit losses on loans recognized on the Consolidated Balance Sheets.

SECURITIES VALUATION

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Accrued interest receivable on available-for-sale debt securities is excluded from the estimate of credit losses.

As of December 31, 2021, gross unrealized gains on the securities available-for-sale portfolio totaled approximately $36,068,000 and gross unrealized losses totaled approximately $15,649,000 net of applicable taxes is included in other comprehensive income.

As of December 31, 2022, gross unrealized gains on the securities available-for-sale portfolio totaled approximately $695,000 and gross unrealized losses totaled approximately $333,852,000.

The net amount of these two items, net of applicable taxes, is included in other comprehensive income (loss).

Equity securities that do not have readily determinable fair values are carried at cost, less impairment with observable price changes being recognized in earnings.

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Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but tested for impairment at least annually.

Company has selected December 31 as the date to perform the annual impairment test.

The Company has selected December 31 as the date to perform the annual impairment test.

Goodwill is the only intangible asset with an indefinite life on the Company’s balance sheet.

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RESULTS OF OPERATIONS

The change in net income during 2022, compared with 2021, was largely impacted by acquisition-related expenses for the CUB transaction that closed on January 1, 2022.

NET INTEREST INCOME

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Many factors affecting net interest income are subject to control by management policies and actions.

Factors beyond the control of management include the general level of credit and deposit demand, Federal Reserve Board monetary policy, and changes in tax laws.

Factors beyond the

control of management include the general level of credit and deposit demand, Federal Reserve Board monetary policy, and changes in tax laws.

During the year ended December 31, 2022, net interest income totaled $200,584,000, representing an increase of $39,754,000, or 25%, from the year ended December 31, 2021 net interest income of $160,830,000.

The increase in net interest income during 2021 compared with 2020 was largely attributable to an increase in average earning assets, a higher level of fees recognized related to PPP loans which were partially offset by a lower level of accretion of loan discounts on acquired loans, and a decreased level of interest expense on interest bearing liabilities related to lower interest rates.

The increase in net interest income during 2022 compared with 2021 was primarily attributable to a higher level of earning assets, driven in large part by the CUB acquisition, and an expansion of the Company’s net interest margin.

The increase in net interest income was partially offset by a lower level of PPP loan fee recognition.

During the year ended December 31, 2021, net interest income totaled $160,830,000, representing an increase of $5,587,000, or 4%, from the year ended December 31, 2020 net interest income of $155,243,000.

The increased level of net interest income during 2020 compared with 2019 was largely attributable to a higher level of average earning assets resulting from the acquisition of Citizens First on July 1, 2019, significant deposit growth during 2020 and participation in the PPP.

In addition, the recognition of fees related to PPP loans also contributed to higher levels of net interest income, but was partially mitigated by a lower level of accretion of discounts on acquired loans.

The net interest margin represents tax-equivalent net interest income expressed as a percentage of average earning assets.

The net interest margin for the year ended December 31, 2022 was 3.45% compared to 3.31% in 2021 and 3.63% in 2020.

Historically low market interest rates impacted the Company's net interest margin in both 2021 and 2020.

Lower market interest rates have negatively impacted earning asset yields during 2021 and 2020, with these declines being partially mitigated by a lower cost of funds.

Also contributing to the lower net interest margin has been excess liquidity the Company has carried on the balance sheet that resulted from significant deposit growth during 2021 and 2020, PPP loan forgiveness and somewhat muted loan growth.

The Company’s net interest margin in 2021 and 2020 has been impacted by fees recognized as a part of the PPP and impacted in all periods presented by the accretion of discounts on acquired loans.

The improvement in the Company’s net interest margin during 2022 compared to 2021 was largely attributable to improved yields on earning assets driven by increased market rates.

Historically low market interest rates impacted the Company’s net interest margin in both 2021 and 2020 by reducing earning asset yields, with those declines being partially mitigated by a lower cost of funds.

Also contributing to the lower net interest margin was excess liquidity the Company had on its balance sheet that resulted from significant deposit growth during 2021 and 2020, PPP loan forgiveness and somewhat muted loan growth.

The Company’s net interest margin for all periods presented was impacted by the accretion of discounts on acquired loans.

In 2021 and 2020, the Company's net interest margin was also impacted by fees recognized as a part of the PPP.

Fees recognized on PPP loans through net interest income totaled $873,000 during 2022 and $12,196,000 during 2021.

The fees recognized related to the PPP contributed approximately 24 basis points to the net interest margin in 2021 and 18 basis points in 2020.

Accretion of discounts on acquired loans contributed approximately 7 basis points to the net interest margin during 2021, 13 basis points during 2020 and 23 basis points in 2019.

The fees recognized related to the PPP contributed approximately 1 basis point to the net interest margin in 2022 and 24 basis points to the net interest margin in 2021.

Accretion of discounts on acquired loans contributed approximately 7 basis points to the net interest margin during both 2022 and 2021, and 13 basis points during 2020.

Accretion of discounts on acquired loans totaled $4,341,000 during 2022, $3,476,000 during 2021, and $5,769,000 during 2020.

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The provision is affected by net charge-offs on loans and changes in specific and general allocations of the allowance.

During 2021, the Company recorded a negative provision for credit losses of $6,500,000 compared with a provision for credit losses of $17,550,000 during 2020 and a $5,325,000 provision for loan losses during 2019 under the incurred loss model.

During 2022, the Company recorded a provision for credit losses of $6,350,000 compared with a negative provision for credit losses of $6,500,000 during 2021 and a provision for credit losses of $17,550,000 during 2020.

During 2022, the provision for credit losses represented approximately 17 basis points of average loans.

The provision for credit losses in 2022 included $6,300,000 for the Day 1 CECL addition to the allocation for credit loss related to the CUB acquisition for the non-PCD loans.

The Company realized net charge-offs of $2,316,000 or 6 basis points of average loans during 2022.

During 2021, the negative provision for credit losses represented approximately 21 basis points of average loans.

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The Company realized net charge-offs of $3,342,000 or 11 basis points of average loans during 2021.

During 2020, the provision for credit losses represented approximately 55 basis points of average loans.

The increased level of provision during 2020 compared with 2019 was primarily due to the developments related to the COVID-19 pandemic and the resulting impact on the economic assumptions used in the Company's CECL model.

The Company realized net charge-offs of $2,622,000 or 8 basis points of average loans outstanding during 2020.

The provision for credit losses made during 2022 was made at a level deemed necessary by management to absorb expected losses in the loan portfolio.

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NON-INTEREST INCOME

During the year ended December 31, 2021, non-interest income increased $4,988,000, or 9%, from the year ended December 31, 2020.

During the year ended December 31, 2022, non-interest income declined $329,000 or 1% from the year ended December 31, 2021.

During the year ended December 31, 2021, non-interest income increased $4,988,000, or 9%, from the year ended December 31, 2020.

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2022 2021 2020 2021 2020

Trust and Investment Product Fees $ 10,321 $ 8,005 $ 7,278 29 % 10 %

Wealth Management Fees $ 10,076 $ 10,321 $ 8,005 (2) % 29 %

Service Charges on Deposit Accounts 11,457 7,723 7,334 48 5

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TOTAL NON-INTEREST INCOME $ 59,133 $ 59,462 $ 54,474 (1) 9

Trust and investment product fees increased $2,316,000, or 29%, during 2021 compared with 2020.

Trust and investment product fees increased $727,000, or 10%, during 2020 compared with 2019.

The increase in both years was largely attributable to increased assets under management in the Company's wealth management group.

Wealth management fees declined $245,000, or 2%, during 2022 compared with 2021.

Wealth management fees increased $2,316,000, or 29%, during 2021 compared with 2020.

The increase in 2021 compared to 2020 was largely attributable to increased assets under management in the Company’s wealth management group.

Service charges on deposit accounts increased $3,734,000, or 48%, during 2022 compared to 2021.

The increase during 2022 compared with 2021 was the result of the CUB acquisition as well as increased deposit customer activity.

Service charges on deposit accounts increased $389,000, or 5%, during 2021 compared with 2020.

Service charges on deposit accounts declined $1,384,000, or 16%, during 2020 compared with 2019.

The decline during 2020 compared with 2019 was largely related to the economic impacts of the COVID-19 pandemic and resulting change in deposit customer activity, partially mitigated by the acquisition of Citizens First.

Company owned life insurance revenue declined $778,000, or 34%, during 2021 compared with 2020.

Company owned life insurance revenue increased $735,000, or 48%, during 2022 compared with 2021.

The variance in both periods was largely related to death benefits received from life insurance policies during 2020.

The increase during 2022 compared with 2021 was largely related to death benefits received from life insurance policies during 2022 and to the CUB acquisition.

Company owned life insurance revenue declined $778,000, or 34%, during 2021 compared with 2020.

The decline during 2021 compared with 2020 was largely related to death benefits received from life insurance policies during 2020.

Interchange fees increased $2,704,000, or 21%, during 2022 compared with 2021.

The increased level of fees during 2022 compared with 2021 was related to the CUB acquisition as well as increased card utilization by customers.

Interchange fees increased $2,587,000, or 25%, during 2021 compared to 2020.

The increased level of fees during 2021 compared with 2020 was due to increased economic activity and increased card utilization by customers.

Interchange fees increased $1,079,000, or 11%, during 2020 compared to 2019.

The increase during 2020 compared with 2019 was largely attributable to the acquisition of Citizens First and increased card utilization by customers.

Other operating income declined $1,875,000 or 27%, during the year ended December 31, 2022 compared with 2021.

This decline was primarily attributable to the net gain of $1.4 million related to the sale of the two branch office locations in Lexington, Kentucky during the third quarter of 2021 and to a lower level of interest rate swap transaction fees with loan customers.

Other operating income increased $3,603,000, or 106%, during 2021 compared with 2020.

The increase during 2021 was largely attributable to the net gain of approximately $1.4 million related to the sale of the two branch office locations in Lexington, Kentucky and approximately $863,000 of fair value adjustments and higher transaction fees associated with interest rate swap transactions with loan customers.

The increase during 2021 was largely attributable to the net gain of approximately $1.4 million related to the aforementioned sale of the two branch office locations and approximately $863,000 of fair value adjustments and higher transaction fees associated with interest rate swap transactions with loan customers.

Also contributing to the increase in 2021, was the donation of a building and accompanying real estate to a local municipality in one of the Company’s market areas.

The estimated fair value of the property was approximately $575,000 greater than the book value which increased other operating income.

A corresponding contribution expense of $800,000 was recognized in advertising and promotion expense of the Company’s income statement related to the donation of the building and real estate.

Net gains on sales of loans declined $4,449,000, or 54%, during the year ended December 31, 2022 compared with 2021.

The decline in 2022 compared with 2021 was generally attributable to a lower volume of loans sold and lower pricing levels.

Net gains on sales of loans declined $1,641,000, or 17%, during 2021 compared with the 2020.

The decline in 2021 compared with 2020 was generally attributable to a lower level of fair value adjustments on commitments to sell loans and a modestly lower level of loans sold, which were partially offset by higher pricing levels on loans sold.

Net gains on sales of loans increased $5,275,000, or 114%, during 2020 compared with 2019.

The increase in the net gains on sales of loans during 2020 compared with 2019 was generally attributable to a higher sales volume and higher pricing levels on loans sold.

Loan sales totaled $168.1 million during 2022, $266.0 million during 2021, and $316.4 million during 2020.

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NON-INTEREST EXPENSE

During 2021, non-interest expense totaled $124,007,000, an increase of $6,884,000, or 6%, compared with 2020.

The year ended December 31, 2021 included non-recurring expenses totaling $4,100,000 related to the Company’s previously discussed operating optimization plan, $3,050,000 related to a previously disclosed litigation reserve, and $735,000 of transaction-related expenses for the acquisition of Citizens Union Bancorp of Shelbyville, Inc., which was completed on January 1, 2022.

During the year ended December 31, 2022, non-interest expense totaled $154,191,000, an increase of $30,184,000, or 24%, compared with the year ended December 31, 2021.

The 2022 non-interest expenses included approximately $12,323,000 of non-recurring acquisition-related expenses for the acquisition of CUB.

The primary drivers of the remaining increases during 2022 compared with 2021 were the operating costs for CUB.

During 2021, non-interest expense totaled $124,007,000, an increase of $6,884,000, or 6%, compared with 2020.

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TOTAL NON-INTEREST EXPENSE $ 154,191 $ 124,007 $ 117,123 24 6

Salaries and benefits were relatively stable during 2021 compared with 2020 increasing by $458,000, or less than 1%.

Salaries and benefits increased $15,575,000, or 23%, during 2022 compared with 2021.

The increase in salaries and benefits during 2020 compared with 2019 was largely attributable to an increased number of full-time equivalent employees during 2020.

Occupancy, furniture and equipment expense increased $807,000, or 6%, during 2021 compared with 2020.

The increase during 2021 was due to lease termination costs associated with the Company’s operating optimization plan that totaled approximately $1,411,000 during 2021.

The increase in salaries and benefits during 2022 compared with 2021 was largely attributable to the CUB acquisition, including approximately $1,480,000 of acquisition-related salary and benefit costs of a non-recurring nature, with the remainder of the increase due primarily to the salaries and benefits costs for the CUB employee base.

Salaries and benefits were relatively stable during 2021 compared with 2020, increasing by $458,000, or less than 1%.

Occupancy, furniture and equipment had a minimal increase of $90,000, or 1%, during 2022 compared with 2021.

Occupancy, furniture and equipment expense increased $807,000, or 6%, during 2021 compared with 2020.

FDIC premiums increased $679,000, or 92%, during 2021 compared with 2020 and increased $207,000, or 39%, during 2020 compared with 2019.

The increase during 2021 was due in large part to lease termination costs associated with the Company’s operating optimization plan.

FDIC premiums increased $441,000, or 31%, during 2022 compared with 2021.

This increase is primarily attributable to an increase in total assessable assets from the acquisition of CUB as well as organic growth.

FDIC premiums increased $679,000, or 92%, during 2021 compared with 2020.

The increase during 2021 compared with 2020 was related to credits received from the FDIC during 2020.

There were no credits received during 2021 and a lower level of credits in 2020 compared with 2019.

No credits were received during 2021.

The credits received in 2020 and prior years were due to the reserve ratio of the deposit insurance fund exceeding the FDIC targeted levels.

Data processing fees increased $7,795,000, or 102%, during the year ended December 31, 2022 compared with 2021.

The increase during 2022 compared with 2021 was largely driven by acquisition-related costs, which totaled approximately $4,982,000 during 2022, along with the CUB operating costs and costs related to continued data system enhancements.

Data processing fees increased $722,000, or 10%, during 2021 compared with 2020.

The increase was related to various software costs including expenses related to the PPP loan program as well as increased data processing fees for the branch sales during 2021.

Data processing fees declined $1,038,000, or 13%, during 2020 compared with 2019.

The decline in data processing fees during 2020 compared with 2019 was largely due to acquisition related costs during 2019.

Professional fees increased $1,286,000, or 26%, during 2022 compared with 2021.

The increase during 2022 was primarily due to professional fees associated with the CUB acquisition.

Merger and acquisition-related professional fees totaled approximately $1,802,000 during 2022 compared with $678,000 during 2021.

Professional fees increased $1,011,000, or 25%, during 2021 compared with 2020.

The increase during 2021 compared with 2020 was largely attributable to professional fees associated with the acquisition of CUB and an increase in legal fees related to non-acquisition related legal matters.

Professional fees declined $676,000, or 14%, during 2020 compared with 2019.

The decline in professional fees during 2020 compared with 2019 was largely related to higher levels of merger and acquisition related professional fees in 2019.

Advertising and promotion expense increased $219,000, or 5%, during the year ended December 31, 2022 compared with 2021.

Advertising and promotion expense increased $608,000, or 17%, during 2021 compared with 2020.

The increase during 2021 was attributable to the donation of a building and accompanying real estate to a local municipality in one of the Company’s market areas.

The estimated fair value of the property was approximately $800,000 which resulted in the increase in the contribution expense during 2021.

Advertising and promotion expense declined $641,000, or 15%, during 2020 compared with 2019.

The decline during 2020 was largely attributable to lesser marketing and sponsorship expenditures impacted by the COVID-19 pandemic.

Other operating expenses increased $3,407,000, or 21%, during 2021 compared with 2020 and increased $816,000, or 5% during 2020 compared with 2019.

The increase during 2021 was primarily attributable to the establishment of a settlement reserve for a lawsuit challenging the Company’s checking account practices associated with its assessment of overdraft fees for

certain debit card transactions.

Like many other financial institutions, the Company has been the subject of an overdraft fee related putative class action lawsuit since the third quarter of 2020.

This type of litigation is often time consuming and expensive to defend.

In order to avoid further costs associated with this type of litigation, the Company determined it was in its best interest to pursue a settlement of this lawsuit during the third quarter of 2021 and therefore accrued a $3,050,000 settlement reserve.

On October 21, 2021, the Company executed a settlement agreement for payment of that amount in connection with this lawsuit which remains subject to court approval.

Other operating expenses increased $3,798,000, or 19%, during the year ended December 31, 2022 compared with 2021.

The increase in 2022 compared to 2021 was primarily attributable to acquisition-related costs that totaled approximately $3,862,000 during 2022 and operating costs associated with CUB.

The acquisition-related costs were primarily vendor contract termination costs.

Other operating expenses increased $3,407,000, or 21%, during 2021 compared with 2020.

The increase during 2021

was primarily attributable to the establishment of a settlement reserve for a lawsuit challenging the Company’s assessment of overdraft fees for certain debit card transactions.

Settlement and dismissal of the lawsuit was approved by the court and completed in 2022.

In addition, the Company recognized $1,276,000 of charges related to various fixed asset write-downs as a part of the Company’s operating optimization plans announced in March 2021.

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CAPITAL RESOURCES

As of December 31, 2021, shareholders’ equity increased by $43.8 million to $668.5 million compared with $624.7 million at year-end 2020.

The increase in shareholders' equity was attributable to increased retained earnings of $61.9 million due to net income of $84.1 million during 2021 which was partially offset by the payment of $22.2 million in shareholder dividends.

Partially mitigating the increase in retained earnings was a decline in accumulated other comprehensive income of $19.9 million related to the decrease in value of the Company's available-for-sale securities portfolio.

As of December 31, 2022, shareholders’ equity declined by $110.1 million to $558.4 million compared with $668.5 million at year-end 2021.

The decline in shareholders’ equity was primarily attributable to a decline in accumulated other comprehensive income ("AOCI") of $278.9 million related to the decrease in value of the Company’s available-for-sale securities portfolio.

Partially offsetting the decline in shareholders’ equity was the issuance of the Company’s common shares in the acquisition of Citizens Union Bancorp of Shelbyville, Inc.

Approximately 2.9 million shares were issued to CUB shareholders resulting in an increase to shareholders’ equity of $111.7 million.

Also partially offsetting the decline in shareholders’ equity that was attributable to AOCI was the increase in retained earnings of $54.8 million due to net income of $81.8 million during 2022 which was partially offset by the payment of $27.0 million in shareholder dividends.

Shareholders’ equity represented 9.1% of total assets at December 31, 2022 and 11.9% of total assets at December 31, 2021.

Shareholders’ equity included $189.8 million of goodwill and other intangible assets at December 31, 2022 compared to $127.6 million of goodwill and other intangible assets at December 31, 2021.

This increase in goodwill and other intangible assets was primarily related to the acquisition of CUB.

On January 25, 2021, the Company’s Board of Directors approved a stock repurchase program for up to 1.0 million of its outstanding common shares.

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The Company has not repurchased any shares of common stock under the 2022 repurchase plan.

In August 2022, the Inflation Reduction Act of 2022 (the “IRA”) was enacted.

Among other things, the IRA imposes a new 1% excise tax on the fair market value of stock repurchased after December 31, 2022 by publicly traded U.S.

corporations, like the Company.

With certain exceptions, the value of stock repurchased is determined net of stock issued in the year, including shares issued pursuant to compensatory arrangements.

Federal banking regulations provide guidelines for determining the capital adequacy of bank holding companies and banks.

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On March 27, 2020, in an action related to the CARES Act, the federal banking regulators announced an interim final rule to delay the estimated impact on regulatory capital stemming from the implementation of CECL.

The interim final rule, which was finalized effective September 30, 2020, maintains the three-year transition option in the previous rule and provides banks the option to delay for two years an estimate of CECL’s effect on regulatory capital, relative to the incurred loss methodology’s effect on regulatory capital, followed by a three-year transition period (five-year transition option).

The interim final rule, which was finalized effective September 30, 2020, maintained the three-year transition option in the previous rule and provided banks the option to delay for two years an estimate of CECL’s effect on regulatory capital, relative to the incurred loss methodology’s effect on regulatory capital, followed by a three-year transition period (five-year transition option).

The Company elected to adopt the five-year transition option and, as a result, began the required three-year phase-in by reflecting 25% of the previously deferred estimated capital impact of CECL in its regulatory capital effective January 1, 2022.

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Specifically, the agencies have clarified that banking organizations, including the Company and the Bank, are permitted to assign a zero percent risk weight to PPP loans for purposes of determining risk-weighted assets and risk-based capital ratios.

While there were no outstanding PPP loans at December 31, 2022, at December 31, 2021, risk-weighted assets included $19.5 million of PPP loans (net of deferred fees) at a zero risk weight.

USES OF FUNDS

December 31, 2022 total loans increased $780.7 million, or 26%, compared with December 31, 2021.

The increase in total loans at December 31, 2022 compared with year-end 2021 was largely due to the acquisition of CUB and organic loan growth from throughout the Company’s existing market areas, partially offset by a decrease in PPP loans.

Commercial and industrial

loans increased approximately $128.1 million, or 23%, compared with year-end 2021, commercial real estate loans increased $436.2 million, or 28%, and agricultural loans increased $59.3 million, or 17%.

At December 31, 2022, as compared with year-end 2021, retail loans increased $157.1 million, or 28%.

December 31, 2021 total loans declined $84.1 million, or 3%, compared with December 31, 2020.

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PPP loans, net of deferred fees, totaled $19.5 million ($20.3 million principal balance and $0.8 million of remaining net deferred fees) at December 31, 2021 compared with $182.0 million at December 31, 2020.

Excluding PPP loans, total loans increased $86.8 million, or 3%, at December 31, 2021 compared with year-end 2020.

Commercial and industrial loans increased approximately $18.5 million, or 4%, during 2021 compared with year-end 2020, commercial real estate loans increased $69.5 million, or 5%, and agricultural loans declined $17.9 million, or 5% (excluding PPP loans).

At December 31, 2021, as compared with year-end 2020, retail loans increased $16.7 million, or 3%.

December 31, 2020 total loans increased $10.0 million, or less than 1%, compared with December 31, 2019.

The increase in loans during 2020 compared with year-end 2019 was primarily the result in the Company’s participation in the PPP.

Excluding the $182.0 million in PPP loans at December 31, 2020, total loans declined by $172.0 million, or 6%, during 2020 compared with year-end 2019.

The decline in total loans, excluding the PPP loans, was impacted by elevated pay-offs within the commercial real estate loan portfolio, reduced line utilization within the commercial loan portfolio partially attributable to the PPP loan originations during 2020, and continued pay-downs in the Company's residential and home equity loan portfolios related to a low interest rate environment.

The composition of the loan portfolio has remained relatively stable and diversified over the past several years, including 2022.

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Loans, Net $ 3,740,766 $ 2,967,247 $ 3,041,213 $ 3,060,813 $ 2,712,236

Net PPP Loans (Included in Commercial and Industrial above) — 19,450 181,984 — —

Ratio of Loans to Total Loans

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Federal Funds Sold and Other Short-term Investments $ 41,905 2 % $ 349,717 16 % $ 287,776 20 %

Treasury 64,097 3 — — — —

Obligations of State and Political Subdivisions 939,193 44 896,048 40 548,273 37

MBS/CMO - Residential 846,519 40 797,693 36 535,526 37

US Gov't Sponsored Entities & Agencies 175,457 8 88,376 6 — n/m ⁽¹⁾

US Gov't Sponsored Entities & Agencies 245,017 11 175,457 8 88,376 6

Equity Securities 353 n/m ⁽¹⁾ 353 n/m ⁽¹⁾ 353 n/m ⁽¹⁾

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(1) n/m = not meaningful

The amortized cost of investment securities, including federal funds sold and short-term investments, increased $759.0 million, or 52%, at year-end 2021 compared with year-end 2020 and increased $581.2 million, or 66%, at year-end 2020 compared with year-end 2019.

The increase over the past two years was largely attributable to increased levels of deposits during both 2021 and 2020 in addition to PPP loan forgiveness and repayment activity over those same periods.

The investment portfolio continues to be relatively balanced with agency issued mortgage related securities and collateralized and uncollateralized federal agency securities, totaling $973.2 million, or 44% of the total securities portfolio at December 31, 2021.

The amortized cost of investment securities, including federal funds sold and short-term investments, decreased $82.2 million, or 4%, at year-end 2022 compared to year-end 2021 and increased $759.0 million, or 52%, at year-end 2021 compared with year-end 2020.

The decline from year-end 2022 compared with year end 2021 was primarily attributable to the decrease in federal funds sold which is partially offset by the increase in amortized cost of obligations of state and political subdivisions, agency issued mortgage related securities and collateralized and uncollateralized federal agency securities.

The increase in the securities portfolio comparing year-end 2021 to year-end 2020 resulted from increased levels of deposits during 2021 in addition to PPP loan forgiveness and repayment activity over that same period.

The investment portfolio continues to be relatively balanced with agency issued mortgage related securities and collateralized and uncollateralized federal agency securities, totaling $1.092 billion, or 51% of the total securities portfolio at December 31, 2022.

The Company’s level of obligations of state and political subdivisions increased to $939.2 million or 44% of the portfolio at December 31, 2022.

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Securities Available-for-Sale 2022 2021 2020

Treasury $ 64,119 $ — $ —

Obligations of State and Political Subdivisions 777,852 925,706 581,247

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Total Securities $ 1,761,669 $ 1,889,617 $ 1,217,852

The decline in the available for sale portfolio during 2022 compared with 2021 was largely attributable to fair value adjustments in the portfolio caused by the rise in market interest rates.

The fair value adjustment of the available for sale portfolio totaled $333.2 million at December 31, 2022.

The increase in the available for sale portfolio comparing year-end 2021 to year-end 2020 was largely the result of additions to the portfolio resulting from increased levels of deposits, PPP loan forgiveness and repayment activity during 2021.

The Company’s $1.762 billion available-for-sale investment portfolio provides an additional funding source for the liquidity needs of the Company’s subsidiaries and for asset/liability management requirements.

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Amount Yield Amount Yield Amount Yield Amount Yield

Treasury $ 64,097 4.15 % $ — — % $ — — % $ — — %

Obligations of State and Political Subdivisions 3,266 3.98 % 15,449 4.25 % 55,747 3.46 % 864,731 3.06 %

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Other Borrowings (Subordinated Notes and Debentures) — 74,788 74,788

Federal Funds Purchased 11,200 — 11,200

Securities Sold under Repurchase Agreements 64,961 — 64,961

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CORE DEPOSITS

The Company’s overall level of average core deposits increased approximately $1.2 billion, or 27%, during 2022 compared with 2021, largely as a result of the CUB acquisition.

During 2022, average demand deposits (non-interest bearing and interest bearing) increased $778.1 million, average savings deposits increased $179.7 million, average money market demand deposits increased $187.4 million and average time deposits under $100,000 increased $36.3 million.

The Company’s overall level of average core deposits increased approximately $726.1 million, or 20%, during 2021 compared with 2020.

During 2021, average demand deposits (non-interest bearing and interest bearing) increased $593.9 million, average savings deposits increased $102.6 million, average money market demand deposits increased $92.0 million and average time deposits under $100,000 declined $62.3 million.

The Company’s overall level of average core deposits increased approximately $672.9 million, or 23%, during 2020 compared with 2019.

The increase in total average core deposits during 2021 following the increase in 2020 was largely impacted by general inflows of customers deposits generally related to the COVID-19 pandemic, participation in the PPP, stimulus payments provided by the federal government, and an increase in public funds.

The Company’s ability to attract core deposits continues to be influenced by competition and the interest rate environment, as well as the availability of alternative investment products.

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Other time deposits consist of certificates of deposits in denominations of less than $100,000.

These average deposits declined by 22% during 2021 following an increase of 1% during 2020.

These average deposits increased by 16% during 2022 following a decline of 22% during 2021.

Other time deposits comprised 5% of core deposits in 2022, 5% in 2021 and 8% in 2020.

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Certificates of deposits in denominations of $100,000 or more and brokered deposits are an additional source of other funding for the Company’s bank subsidiary.

Large denomination certificates and brokered deposits declined $92.7 million, or 33%, during 2021 following a decline of $106.4 million, or 28% during 2020.

Large denomination certificates and brokered deposits increased $25.1 million, or 13%, following a decline of $92.7 million, or 33%, during 2021.

Large certificates and brokered deposits comprised approximately 4% of average total funding sources in 2021 compared with 4% in 2021 and 7% in 2020.

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Federal Home Loan Bank advances and other borrowings represent an important source of other funding for the Company.

Average borrowed funds declined $35.1 million, or 16%, during 2021 following a decline of $57.8 million, or 21%, during

Average borrowed funds declined $27.8 million, or 15%, during 2022 and declined $35.1 million, or 16%, during 2021.

Borrowings comprised approximately 3% of average total funding sources during 2022 compared with 4% in 2021 and 5% in 2020.

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See Note 8 (Shareholders’ Equity) of the Notes to the Consolidated Financial Statements included in Item 8 of this Report, which is incorporated herein by reference.

The parent company has in recent years supplemented the dividends received from its subsidiaries with borrowings, which are discussed in detail below.

On June 25, 2019, the Company sold and issued $40.0 million in aggregate principal amount of its 4.50% Fixed-to-Floating Rate Subordinated Notes due 2029 (the “Notes”).

The Company used the proceeds from the offering to pay $15.0 million of the approximately $15.5 million of cash consideration upon closing of the Citizens First Corporation merger and the remaining balance to repay the Company’s $25.0 million term loan from U.S.

Bank National Association dated October 11, 2018.

The Notes have a ten-year term, from and including the date of issuance to but excluding June 30, 2024, and will bear interest at a fixed annual rate of 4.50%, payable semi-annually in arrears.

From and including June 30, 2024 to but excluding the maturity date or early redemption date, the interest rate shall reset quarterly to an interest rate per annum equal to the then-current three-month LIBOR (provided, however, that in the event three-month LIBOR is less than zero, three-month LIBOR shall be deemed to be zero) plus 268 basis points, payable quarterly in arrears.

The Notes are redeemable, in whole or in part, on June 30, 2024, on any scheduled interest payment date thereafter and at any time upon the occurrence of certain events.

The Purchase Agreement contains certain customary representations, warranties and covenants made by the Company, on the one hand, and the Purchasers, severally and not jointly, on the other hand.

The Notes were issued under an Indenture, dated June 25, 2019, by and between the Company and U.S.

Bank National Association, as trustee.

The Notes are not subject to any sinking fund and are not convertible into or exchangeable for any other securities or assets of the Company or any of its subsidiaries.

The Notes are not subject to redemption at the option of the holder.

The Notes are unsecured, subordinated obligations of the Company only and are not obligations of, and are not guaranteed by, any subsidiary of the Company.

The Notes rank junior in right to payment to the Company’s current and future senior indebtedness.

The Notes are intended to qualify as Tier 2 capital for regulatory capital purposes for the Company.

The parent company has, from time-to-time, supplemented the dividends received from its subsidiaries with borrowings.

For details related to borrowings, see Note 7 (FHLB Advances and Other Borrowings) of the Notes to the Consolidated Financial Statements included in Item 8 of this Report.

At year-end 2022, the Company had available to it a $15 million revolving line of credit facility that will mature on September 26, 2023.

Borrowings are available for general working capital purposes.

Interest is payable quarterly at a floating rate based upon one-month LIBOR plus a margin payable in respect of any principal amounts advanced under the revolving line of credit.

Interest is payable quarterly at a floating rate based upon term SOFR rate plus a margin payable in respect of any principal amounts advanced under the revolving line of credit.

There was no outstanding balance as of December 31, 2022.

Effective January 1, 2011, and as a result of the acquisition of American Community Bancorp, Inc., the Company assumed long-term debt obligations of American Community in the form of two junior subordinated debentures issued by American Community in the aggregate unpaid principal amount of approximately $8.3 million.

Effective March 1, 2016, and as a result of the acquisition of River Valley Bancorp, the Company assumed long-term debt obligations of River Valley in the form of a junior subordinated debenture issued by River Valley in the aggregate unpaid principal amount of approximately $7.2 million.

Effective July 1, 2019, and as a result of the acquisition of Citizens First Bancorp, the Company assumed long-term debt obligations of Citizens First in the form of a junior subordinated debenture issued by Citizens First in the aggregate unpaid principal amount of approximately $5.2 million.

The junior subordinated debentures were issued to certain statutory trusts established by River Valley, American Community, and Citizens First (in support of related issuances of trust preferred securities issued by those trusts) and mature in installments of principal payable in 2033, 2035 and 2037, respectively, and bear interest payable on a quarterly basis at a floating rate, adjustable quarterly based on the three-month LIBOR plus a specified percentage.

These debentures are of a type that are eligible (under current regulatory capital requirements) to qualify as Tier 1 capital (with certain limitations) for regulatory purposes and as of December 31, 2021 approximately $16.1 million of the junior subordinated debentures were treated as Tier 1 capital for regulatory capital purposes.

See Note 17 (Parent Company Financial Statements) of the Notes to the Consolidated Financial Statements included in Item 8 of this Report for further information regarding the parent company borrowed funds and other indebtedness.

RISK MANAGEMENT

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The purpose of this program is to evaluate loan administration, credit quality, loan documentation and the adequacy of the allowance for credit losses.

In response to requests from borrowers who had experienced pandemic-related business or personal cash flow interruptions, and in accordance with regulatory guidance, the Company began making short-term loan modifications involving both partial and full payment deferrals in April 2020.

As of December 31, 2021, the Company has just one commercial real estate loan, in the principal amount of $3.5 million, with a payment modification that is still in effect, with such credit relationship making full interest payments.

The Company tracks lending exposure by industry classification to determine potential risk associated with industry concentrations, if any, that could lead to additional credit loss exposure.

As a result of the COVID-19 pandemic, the Company identified certain loan segments that represented higher levels of credit risk, as many of the customers in these segments were expected to incur significant negative impacts to their businesses as a result of governmental stay-at-home orders and travel restrictions, limited attendance, social distancing and face mask requirements, and work-from-home and hybrid work models being used by employers.

At December 31, 2021, the Company had the following exposure to these COVID-19-impacted loan segments:

Industry Segment

(dollars in thousands) Number of Loans Outstanding Balance % of Total Loans (excludes PPP Loans) % of Industry Segment Under Deferral

Lodging / Hotels 32 $ 113,381 3.8 % 3.1 %

Retail Shopping / Strip Centers 58 89,002 3.0 % — %

Restaurants 161 62,163 2.1 % — %

The Company maintains an allowance for credit losses to cover management's estimate of all expected credit losses over the expected contractual life of the loan portfolio.

and supportable forecasts, judgmentally adjusted for economic, external and internal quantitative and qualitative factors and portfolio trends.

Management estimates the required level of allowance for credit losses using past loan loss experience, information about specific borrower situations and estimated collateral values, along with reasonable and supportable forecasts, judgmentally adjusted for economic, external and internal quantitative and qualitative factors and

portfolio trends.

Economic factors include evaluating changes in international, national, regional and local economic and business conditions that affect the collectability of the loan portfolio.

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(a) specific reserves on individual credits;

(b) general reserves for certain loan categories and industries, and overall historical loss experience;

and (c) unallocated reserves based on performance trends in the loan portfolios, current economic conditions, and other factors that influence the level of estimated credit losses.

and (b) general reserves for certain loan categories and industries, and overall historical loss experience;

based on performance trends in the loan portfolios, current economic conditions, and other factors that influence the level of estimated credit losses.

The need for specific reserves are considered for credits when:

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Net Loans Recovered (Charged-off) (2,316) (3,342) (2,622) (4,870) (1,941)

Acquisition of Citizens Union Bank of Shelbyville, KY - PCD Loans 3,117 — — — —

Additions to Allowance Charged to Expense 6,350 (6,500) 17,550 5,325 2,070

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The Company’s allowance for credit losses totaled $44.2 million at December 31, 2022 compared to $37.0 million at December 31, 2021.

The allowance for credit losses represented 1.23% of period-end loans at December 31, 2021 compared with 1.52% of period-end loans at year-end 2020.

Under the CECL model, which was adopted by the Company on January 1, 2020, certain acquired loans continue to carry a fair value discount as well as an allowance for credit losses.

As of December 31, 2021, the Company held net discounts on acquired loans of $4.9 million.

The allowance for credit losses represented 1.17% of period-end loans at December 31, 2022 compared with 1.23% of period-end loans year-end 2021.

The Company adopted ASU No.

2016-13, Financial instruments - Credit Losses (Topic 326) (“CECL”) on January 1, 2020.

The Company added $9.4 million to the allowance for credit losses in conjunction with the closing of the CUB acquisition on January 1, 2022 related to the CUB loan portfolio.

Of the increase in allowance for credit losses for the CUB portfolio, $6.3 million was recorded through the provision for credit losses on “Day 1” under the CECL model for non-PCD loans.

The Company also acquired $29.9 million in PCD loans (at time of acquisition) for which the company recorded a credit adjustment of $3.1 million which was included in the allowance for credit losses.

Under the CECL model, certain acquired loans continue to carry a fair value discount as well as an allowance for credit losses.

As of December 31, 2022, the Company held net discounts on acquired loans of $6.0 million which included $2.4 million related to the CUB loan portfolio.

The allowance for credit losses declined during 2021 as a result of the Company recording a negative $6.5 million provision for credit losses while recording modest net charge-offs.

During 2020, the allowance for credit losses increased through elevated provision for credit losses primarily due to the developments during 2020 related to the COVID-19 pandemic and the resulting impact on the economic assumptions used in the CECL model.

The Company realized net charge-offs of $2,316,000, or 0.06% of average loans outstanding during 2022 compared with net charge-offs of $3,342,000, or 0.11% of average loans outstanding during 2021 and $2,622,000, or 0.08% of average loans during 2020.

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Non-performing loans totaled $14.3 million, or 0.38% of total loans at December 31, 2022 compared with $14.8 million, or 0.49% of total loans at December 31, 2021 and $21.5 million, or 0.70% of total loans at December 31, 2020.

The decline in the level of commercial real estate non-performing loans during 2021 was largely attributable to the payoff of a commercial real estate credit in the lodging industry that was placed in non-accrual status during the third quarter of 2020.

The increase in the level of non-performing assets and non-performing loans at December 31, 2020 compared with year-end 2019 was largely attributable to the gross-up of purchased credit deteriorated loans upon the adoption of the CECL standard during 2020 and a commercial real estate credit in the lodging industry that was moved to non-performing status in the third quarter of 2020.

The decline in the level of non-performing commercial and industrial loans and leases during 2022 was primarily attributable to certain credits that were either charged-off or paid off, which were in non-accrual status.

The following tables present an analysis of the Company’s non-accrual loans and loans past due 90 days or more and still accruing.

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

What changed 10-K

Item 7. Management’s Discussion and Analysis