First Internet Bancorp 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this report. This discussion and analysis includes certain forward-looking statements that involve risks, uncertainties, and assumptions. You should review the “Risk Factors” sections of this report and our Annual Report on Form 10-K for the year ended December 31, 2022 for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by such forward-looking statements. See also “Cautionary Note Regarding Forward-Looking Statements” at the beginning of this report. Overview First Internet Bancorp is a financial holding company headquartered in Fishers, Indiana that conducts its primary business activities through its wholly-owned subsidiary, First Internet Bank of Indiana, an Indiana chartered bank. The Bank was the first state-chartered, Federal Deposit Insurance Corporation (“FDIC”) insured Internet bank and commenced banking operations in 1999. First Internet Bancorp was incorporated under the laws of the State of Indiana on September 15, 2005. On March 21, 2006, we consummated a plan of exchange by which we acquired all of the outstanding shares of the Bank. The Bank has three wholly-owned subsidiaries: First Internet Public Finance Corp., an Indiana corporation that provides a range of public and municipal finance lending and leasing products to governmental entities throughout the United States and acquires securities issued by state and local governments and other municipalities; JKH Realty Services, LLC, a Delaware limited liability company that manages other real estate owned properties as needed; and SPF15, Inc., an Indiana corporation that owns real estate used primarily for the Bank’s principal office. We offer a wide range of commercial, small business, consumer and municipal banking products and services. We conduct our consumer and small business deposit operations primarily through digital channels on a nationwide basis and have no traditional branch offices. Our consumer lending products are primarily originated on a nationwide basis through relationships with dealerships and financing partners. Our commercial banking products and services are delivered through a relationship banking model and include commercial and industrial (“C&I”), construction and investor commercial real estate, single tenant lease financing, public finance, healthcare finance, small business lending, franchise finance and commercial deposits and treasury management. Our C&I team provides credit solutions such as lines of credit, term loans, owner-occupied commercial real estate loans and 51 corporate credit cards on a regional basis to commercial borrowers primarily in the Midwest and Southwest regions of the United States. We primarily offer construction and investor commercial real estate loans in the Midwest and Southwest regions of the United States and single tenant lease financing on a nationwide basis. Our public finance team provides a range of public and municipal lending and leasing products to government entities on a nationwide basis. Our healthcare finance team was established in conjunction with our strategic partnership with Provide, Inc. (formerly known as Lendeavor, Inc.), a San Francisco-based technology-enabled lender to healthcare practices, which provided lending on a nationwide basis for healthcare practice finance or acquisition, acquisition or refinancing of owner-occupied commercial real estate and equipment purchases. In the third quarter 2021, Provide was acquired by a super-regional financial institution. Subsequent to Provide being acquired, the acquiring institution has retained most, if not all, of Provide’s loan origination activity and our healthcare finance loan balances have declined. Our franchise finance business was established in July 2021 in conjunction with our business relationship with ApplePie Capital, a financial technology (“fintech”) company that specializes in providing financing to franchisees in various industry segments. Our commercial deposits and treasury management team works with the other commercial teams to provide deposit products and treasury management services to our commercial and municipal lending customers as well as pursues commercial deposit opportunities in business segments where we have no credit relationships. We believe that we differentiate ourselves from larger financial institutions by providing a full suite of services to emerging small businesses and entrepreneurs on a nationwide basis. We are one of the fastest-growing lenders in the Small Business Administration (“SBA”) 7(a) program, closing more than $308.5 million in SBA 7(a) loans during the nine months ended September 30, 2023, and ranked as the 9 th largest SBA 7(a) lender for the SBA’s 2023 fiscal year. We also offer a top-ranked small business checking account product to our country’s entrepreneurs. We continue to scale up this business with the goal of driving increased earnings and profitability in future periods. We also offer payment, deposit, card and lending products and services through fintech partnerships, which we plan to grow in future periods. With the rapid evolution of technology that enables consumers and small businesses to manage their finances digitally, fintechs are addressing a significantly growing marketplace. Fintechs have created robust digital offerings, unburdened by legacy technology architecture, to address growing customer expectations. Through partnerships with selected fintechs, we believe our ability to win and retain consumer and small business relationships will be significantly enhanced. Furthermore, we believe partnering with select fintechs will allow us to further diversify our revenue sources, acquire lower-cost deposits and pursue additional asset generation capabilities. As of September 30, 2023, the Company had consolidated assets of $5.2 billion, consolidated deposits of $4.1 billion and stockholders’ equity of $347.7 million. 52 Results of Operations During the third quarter 2023, net income was $3.4 million, or $0.39 diluted earnings per share, compared to third quarter 2022 net income of $8.4 million, or $0.89 diluted earnings per share, representing a decrease in net income of $5.0 million, or 59.6%, and a decrease in diluted earnings per share of $0.50, or 56.2%. During the nine months ended September 30, 2023, net income was $4.3 million, or $0.48 per diluted share, compared to the nine months ended September 30, 2022 net income of $29.2 million, or $3.01 per diluted share, resulting in a decrease in net income of $24.9 million, or 85.4%. The $5.0 million decrease in net income for the third quarter 2023 compared to the third quarter 2022 was due primarily to a decrease of $6.6 million, or 27.6%, in net interest income, an increase of $1.8 million, or 9.8%, in noninterest expense and an increase of $1.1 million, or 118.2%, in provision for credit losses, partially offset by an increase of $3.1 million, or 71.6%, in noninterest income and a decrease of $1.3 million, or 133.0%, in income tax expense. The decrease in net income for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 was due primarily to a $20.3 million, or 27.0%, decrease in net interest income, a $10.2 million, or 355.3%, increase in provision for credit losses and a $4.6 million, or 8.4%, increase in noninterest expense, partially offset by a $6.9 million, or 171.3%, decrease in income tax expense and a $3.3 million, or 21.2%, increase in noninterest income. Due to the steep decline in consumer mortgage volumes and the negative outlook for consumer mortgage lending over the next several years, the Company decided to exit its consumer mortgage business during the first quarter 2023. This included its nationwide digital direct-to-consumer mortgage platform that originated residential loans for sale in the secondary market, as well as its local traditional consumer mortgage and construction-to-permanent business. In connection with this decision, the Company recognized $3.1 million of mortgage operations and exit costs during the first quarter 2023, which contributed to the increase in noninterest expense compared to the nine months ended September 30, 2022. The Company also recognized only $0.1 million of mortgage banking revenue during the nine months ended September 30, 2023, down from $4.5 million in the nine months ended September 30, 2022, as it immediately began winding down its existing pipeline following the decision to exit the business. Additionally, during the nine months ended September 30, 2023, the Company recognized a partial charge-off of $6.9 million related to a commercial and industrial participation loan with a balance of $9.8 million prior to the partial charge-off, that was moved to nonaccrual status late in the first quarter 2023. This action contributed to the increase in the provision for credit losses as compared to the nine months ended September 30, 2022. The Company received payment for the remaining balance of the participation loan during the second quarter 2023. During the third quarter 2023, return on average assets (“ROAA”), return on average shareholders’ equity (“ROAE”), and return on average tangible common equity (“ROATCE”) were 0.26%, 3.79%, and 3.84%, respectively, compared to 0.82%, 9.01%, and 9.13%, respectively, for the third quarter 2022. During the nine months ended September 30, 2023, ROAA, ROAE and ROATCE were 0.12%, 1.59%, and 1.61%, respectively, compared to 0.94%, 10.40%, and 10.53%, respectively, for the nine months ended September 30, 2022. During the third quarter 2022, the Company recognized a $0.1 million write-down of software. Excluding this item, adjusted net income for the third quarter 2022 was $8.5 million and adjusted diluted earnings per share was $0.90. Additionally, for the third quarter 2022, adjusted ROAA, adjusted ROAE and adjusted ROATCE were 0.83%, 9.12% and 9.24%, respectively. Excluding the impact of exiting consumer mortgage and the partial charge-off, adjusted net income for the nine months ended September 30, 2023 was $12.1 million and adjusted diluted earnings per share was $1.35. Additionally, for the nine months ended September 30, 2023, adjusted ROAA, adjusted ROAE and adjusted ROATCE were 0.34%, 4.50% and 4.56%, respectively. During the nine months ended September 30, 2022, the Company recognized a nonrecurring consulting fee associated with a special project of $0.9 million, paid a $0.5 million discretionary inflation bonus to certain employees, recognized accelerated equity compensation expense of $0.3 million related to several retirements, incurred acquisition-related expenses of $0.3 million and recognized a $0.1 million write-down of software. Excluding these items, adjusted net income for the nine months ended September 30, 2022 was $30.8 million and adjusted diluted earnings per share was $3.17. Additionally, for the nine months ended September 30, 2022, adjusted ROAA, adjusted ROAE and adjusted ROATCE were 0.99%, 11.00% and 11.13%, respectively. 53 Refer to the “Reconciliation of Non-GAAP Financial Measures” section of Part I, Item 2 of this report, Management’s Discussion and Analysis of Financial Condition and Results of Operations for additional information. 54 Consolidated Average Balance Sheets and Net Interest Income Analyses For the periods presented, the following tables provide the average balances of interest-earning assets and interest-bearing liabilities and the related yields and cost of funds. The tables do not reflect any effect of income taxes except for net interest margin - FTE, as discussed below. Balances are based on the average of daily balances. Nonaccrual loans are included in average loan balances. Three Months Ended September 30, 2023 June 30, 2023 September 30, 2022 (dollars in thousands) Average Balance Interest /Dividends Yield /Cost Average Balance Interest /Dividends Yield /Cost Average Balance Interest /Dividends Yield /Cost Assets Interest-earning assets Loans, including loans held-for-sale $ 3,701,072 $ 48,898 5.24 % $ 3,656,146 $ 46,906 5.15 % $ 3,175,854 $ 34,643 4.33 % Securities - taxable 550,208 4,301 3.10 % 531,040 3,835 2.90 % 532,470 2,701 2.01 % Securities - non-taxable 72,012 912 5.02 % 73,142 860 4.72 % 73,859 491 2.64 % Other earning assets 653,375 8,904 5.41 % 511,295 6,521 5.12 % 188,467 1,264 2.66 % Total interest-earning assets 4,976,667 63,015 5.02 % 4,771,623 58,122 4.89 % 3,970,650 39,099 3.91 % Allowance for credit losses (35,601) (36,671) (29,423) Noninterest-earning assets 196,408 192,760 164,461 Total assets $ 5,137,474 $ 4,927,712 $ 4,105,688 Liabilities Interest-bearing liabilities Interest-bearing demand deposits $ 387,517 $ 2,131 2.18 % $ 359,969 $ 1,509 1.68 % $ 342,116 $ 551 0.64 % Savings accounts 26,221 56 0.85 % 29,915 64 0.86 % 57,700 111 0.76 % Money market accounts 1,230,746 12,537 4.04 % 1,274,453 12,314 3.88 % 1,369,783 4,581 1.33 % BaaS - brokered deposits 31,891 348 4.33 % 22,918 230 4.03 % 153,936 859 2.21 % Certificates and brokered deposits 2,235,321 25,267 4.48 % 2,025,831 20,559 4.07 % 1,037,792 4,418 1.69 % Total interest-bearing deposits 3,911,696 40,339 4.09 % 3,713,086 34,676 3.75 % 2,961,327 10,520 1.41 % Other borrowed funds 719,655 5,298 2.92 % 719,577 5,301 2.95 % 637,877 4,585 2.85 % Total interest-bearing liabilities 4,631,351 45,637 3.91 % 4,432,663 39,977 3.62 % 3,599,204 15,105 1.67 % Noninterest-bearing deposits 127,540 117,496 124,067 Other noninterest-bearing liabilities 21,882 19,241 11,114 Total liabilities 4,780,773 4,569,400 3,734,385 Shareholders’ equity 356,701 358,312 371,303 Total liabilities and shareholders’ equity $ 5,137,474 $ 4,927,712 $ 4,105,688 Net interest income $ 17,378 $ 18,145 $ 23,994 Interest rate spread 1 1.11% 1.27% 2.24 % Net interest margin 2 1.39% 1.53% 2.40 % Net interest margin - FTE 3 1.49% 1.64% 2.53 % 1 Yield on total interest-earning assets minus cost of total interest-bearing liabilities. 2 Net interest income divided by total average interest-earning assets (annualized). 3 On an FTE basis assuming a 21% tax rate. Net interest income is adjusted to reflect income from assets such as municipal loans and securities that are exempt from Federal income taxes. This is to recognize the income tax savings that facilitates a comparison between taxable and tax-exempt assets. The Company believes that it is a standard practice in the banking industry to present net interest margin and net interest income on a fully-taxable equivalent basis, as these measures provide useful information to make peer comparisons. Net interest margin - FTE represents a non-GAAP financial measure. See “Reconciliation of Non-GAAP Financial Measures” for a reconciliation of this measure to its most directly comparable GAAP measure. 55 Nine Months Ended September 30, 2023 September 30, 2022 (dollars in thousands) Average Balance Interest /Dividends Yield /Cost Average Balance Interest /Dividends Yield /Cost Assets Interest-earning assets Loans, including loans held-for-sale $ 3,647,243 $ 139,647 5.12 % $ 3,057,768 $ 100,246 4.38 % Securities - taxable 531,197 11,742 2.96 % 547,759 7,489 1.83 % Securities - non-taxable 72,829 2,570 4.72 % 77,236 1,068 1.85 % Other earning assets 499,835 19,211 5.14 % 321,262 2,436 1.01 % Total interest-earning assets 4,751,104 173,170 4.87 % 4,004,025 111,239 3.71 % Allowance for credit losses (35,784) (28,671) Noninterest-earning assets 190,590 163,512 Total assets $ 4,905,910 $ 4,138,866 Liabilities Interest-bearing liabilities Interest-bearing demand deposits $ 360,573 $ 4,540 1.68 % $ 336,311 $ 1,429 0.57 % Savings accounts 31,494 202 0.86 % 61,647 232 0.50 % Money market accounts 1,293,728 37,151 3.84 % 1,416,984 8,006 0.76 % BaaS - brokered deposits 23,246 716 4.12 % 79,613 1,019 1.71 % Certificates and brokered deposits 1,971,705 59,676 4.05 % 1,122,097 12,339 1.47 % Total interest-bearing deposits 3,680,746 102,285 3.72 % 3,016,652 23,025 1.02 % Other borrowed funds 719,577 15,788 2.93 % 613,609 12,790 2.79 % Total interest-bearing liabilities 4,400,323 118,073 3.59 % 3,630,261 35,815 1.32 % Noninterest-bearing deposits 126,647 115,142 Other noninterest-bearing liabilities 19,535 18,273 Total liabilities 4,546,505 3,763,676 Shareholders’ equity 359,405 375,190 Total liabilities and shareholders’ equity $ 4,905,910 $ 4,138,866 Net interest income $ 55,097 $ 75,424 Interest rate spread 1 1.28% 2.39% Net interest margin 2 1.55% 2.52% Net interest margin - FTE 3 1.66% 2.65% 1 Yield on total interest-earning assets minus cost of total interest-bearing liabilities. 2 Net interest income divided by total average interest-earning assets (annualized). 3 On an FTE basis assuming a 21% tax rate. Net interest income is adjusted to reflect income from assets such as municipal loans and securities that are exempt from Federal income taxes. This is to recognize the income tax savings that facilitates a comparison between taxable and tax-exempt assets. The Company believes that it is a standard practice in the banking industry to present net interest margin and net interest income on a fully-taxable equivalent basis, as these measures provide useful information to make peer comparisons. Net interest margin - FTE represents a non-GAAP financial measure. See “Reconciliation of Non-GAAP Financial Measures” for a reconciliation of this measure to its most directly comparable GAAP measure. 56 Rate/Volume Analysis The following table illustrates the impact of changes in the volume of interest-earning assets and interest-bearing liabilities and interest rates on net interest income for the periods indicated. The change in interest not due solely to volume or rate has been allocated in proportion to the absolute dollar amounts of the change in each. Three Months Ended September 30, 2023 vs. June 30, 2023 Due to Changes in Three Months Ended September 30, 2023 vs. September 30, 2022 Due to Changes in Nine Months Ended September 30, 2023 vs. September 30, 2022 Due to Changes in (in thousands) Volume Rate Net Volume Rate Net Volume Rate Net Interest income Loans, including loans held-for-sale $ 822 $ 1,170 $ 1,992 $ 6,278 $ 7,977 $ 14,255 $ 20,999 $ 18,402 $ 39,401 Securities – taxable 160 306 466 93 1,507 1,600 (379) 4,632 4,253 Securities – non-taxable (75) 127 52 (84) 505 421 (105) 1,607 1,502 Other earning assets 1,979 404 2,383 5,384 2,256 7,640 2,008 14,767 16,775 Total 2,886 2,007 4,893 11,671 12,245 23,916 22,523 39,408 61,931 Interest expense Interest-bearing deposits 2,101 3,562 5,663 4,307 25,512 29,819 6,086 73,174 79,260 Other borrowed funds 4 (7) (3) 598 115 713 2,323 675 2,998 Total 2,105 3,555 5,660 4,905 25,627 30,532 8,409 73,849 82,258 Increase (decrease) in net interest income $ 781 $ (1,548) $ (767) $ 6,766 $ (13,382) $ (6,616) $ 14,114 $ (34,441) $ (20,327) Net interest income for the third quarter 2023 was $17.4 million, a decrease of $6.6 million, or 27.6%, compared to $24.0 million for the third quarter 2022. The decrease in net interest income was the result of a $30.5 million, or 202.1%, increase in total interest expense to $45.6 million for the third quarter 2023 from $15.1 million for the third quarter 2022, partially offset by a $23.9 million, or 61.2%, increase in total interest income to $63.0 million for the third quarter 2023 from $39.1 million for the third quarter 2022. Net interest income for the nine months ended September 30, 2023 was $55.1 million, a decrease of $20.3 million, or 27.0%, compared to $75.4 million for the nine months ended September 30, 2022. The decrease in net interest income was the result of an $82.3 million, or 229.7%, increase in total interest expense to $118.1 million for the nine months ended September 30, 2023 from $35.8 million for the nine months ended September 30, 2022. The increase in total interest expense was partially offset by a $61.9 million, or 55.7%, increase in total interest income to $173.2 million for the nine months ended September 30, 2023 from $111.2 million for the nine months ended September 30, 2022. The increase in total interest income for the third quarter 2023 compared to third quarter 2022 was due primarily to a $14.3 million, or 41.1%, increase in interest earned on loans, $7.6 million, or 604.4%, increase in income from other earning assets and a $2.0 million, or 63.3%, increase in interest earned on securities. The increase in income from loans was due primarily to a 91 bp increase in the yield earned on loans, including loans held-for-sale, as well as an increase of $525.2 million, or 16.5%, in the average balance of loans, including loans held-for-sale, compared to the third quarter 2022. The yield earned on other earning assets increased 275 bps and the average balance of other earning assets increased $464.9 million, or 246.7%. The increase in the average balance of other earning assets was due primarily to carrying higher cash balances. The average balance of securities increased $15.9 million, or 2.6%, while the yield earned on the securities portfolio increased 123 bps for the third quarter 2023 compared to the third quarter 2022. The increase in the yields earned on loans, other earning assets and securities was due to the continued rise in interest rates during the fourth quarter 2022 and into 2023. The yield on funded portfolio originations was 8.92% in the third quarter 2023, an increase of 362 bps compared to the third quarter 2022. 57 The increase in total interest income for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 was due primarily to an increase in interest earned on loans resulting from an increase of 74 bps in the yield on loans, including loans held-for-sale, as well as an increase of $589.5 million, or 19.3%, in the average balance of loans, including loans held-for-sale. The yield on other earning assets increased 413 bps and the average balance of other earning assets increased $178.6 million, or 55.6%. In addition, while the average balance of securities decreased $21.0 million, or 3.4%, the yield earned on the securities portfolio increased 134 bps for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022. The increase in the yields earned on loans, other earning assets and securities was due to the continued rise in interest rates during the fourth quarter 2022 and into 2023. The yield on funded portfolio originations was 8.29% for the nine months ended September 30, 2023, an increase of 324 bps compared to the nine months ended September 30, 2022. The increase in total interest expense for the third quarter 2023 compared to the third quarter 2022 was due primarily to increases of $20.8 million, or 471.9%, in interest expense associated with certificates and brokered deposits, $8.0 million, or 173.7%, in interest expense associated with money market accounts, $1.6 million, or 286.8%, in interest expense associated with interest-bearing demand deposits, and $0.7 million, or 15.6%, in interest expense associated with other borrowed funds. The increase in interest expense related to certificates and brokered deposits was driven by an increase of 279 bps in the cost of these deposits, as well as an increase of $1.2 billion, or 115.4%, in the average balance of these deposits. The increase in the average balance of these deposits was driven by strong consumer and small business demand for certificates of deposits in 2023, as well as the funding of brokered deposits earlier in 2023 to supplement on-balance sheet liquidity. The increase in interest expense related to money market accounts was driven primarily by an increase of 271 bps in the cost of these deposits, partially offset by a decrease in the average balance of these deposits of $139.0 million, or 10.2%. The increase in interest expense related to interest-bearing demand deposits was due primarily to a 154 bp increase in the cost of these deposits, as well as an increase of $45.4 million, or 13.3%, in the average balance of these deposits. The increase in interest expense related to other borrowed funds was due primarily to additional long-term FHLB advances in the second half of 2022 at rates lower than market deposit costs, as the cost of the borrowed funds increased only 7 bps while the average balance increased 12.8%. The increase in the overall cost of deposits was due primarily to the continued rise in interest rates during the fourth quarter 2022 and into 2023. However, the pace of increase in deposit costs during the third quarter was the slowest experienced by the Company in the past five quarters. The increase in total interest expense for the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022 was due primarily to increases of $47.3 million, or 383.6%, in interest expense associated with certificates and brokered deposits, $29.1 million, or 364.0%, in interest expense associated with money market accounts, $3.1 million, or 217.7%, in interest expense associated with interest-bearing demand deposits and $3.0 million, or 23.4%, in interest expense associated with other borrowed funds. The increase in interest expense related to certificates and brokered deposits was driven by an increase of 258 bps in the cost of these deposits, as well as an increase of $849.6 million, or 75.7%, in the average balance of these deposits. The increase in the average balance of these deposits was driven by strong consumer and small business demand for certificates of deposits in 2023, as well as the funding of brokered deposits during the fourth quarter 2022 and earlier in 2023 to supplement on-balance sheet liquidity. The increase in interest expense related to money market accounts was driven primarily by an increase of 308 bps in the cost of these deposits, partially offset by a decrease of $123.3 million, or 8.7%, in the average balance of these deposits. The increase in interest expense related to interest-bearing demand deposits was due primarily to a 111 bp increase in the cost of these deposits, as well as an increase of $24.3 million, or 7.2%, in the average balance of these deposits. The increase in interest expense related to other borrowed funds was due primarily to additional long-term FHLB advances in the second half of 2022 at rates lower than market deposit costs, as the cost of the borrowed funds increased only 14 bps while the average balance increased 17.3%. The increase in the overall cost of deposits was due primarily to the continued rise in interest rates during the fourth quarter 2022 and into 2023. However, as mentioned above, the pace of increase in deposit costs during the third quarter was the slowest experienced by the Company in the past five quarters. Overall, the cost of total interest-bearing liabilities for the third quarter 2023 increased 224 bps to 3.91% from 1.67% for the third quarter 2022. The cost of total interest-bearing liabilities for the nine months ended September 30, 2023 increased 227 bps to 3.59% from 1.32% for the nine months ended September 30, 2022. The increase in the cost of funds for both the three and nine months ended September 30, 2023 reflects the rapid rise in interest rates in late 2022 and 2023. Net interest margin (“NIM”) was 1.39% for the third quarter 2023 compared to 2.40% for the third quarter 2022, a decrease of 101 bps. On a fully-taxable equivalent (“FTE”) basis, NIM was 1.49% for the third quarter 2023 compared to 2.53% for the third quarter 2022, a decrease of 104 bps. NIM was 1.55% for the nine months ended September 30, 2023 compared to 2.52% for the nine months ended September 30, 2022, a decrease of 97 bps. FTE NIM was 1.66% for the nine months ended September 30, 2023 compared to 2.65% for the nine months ended September 30, 2022, a decrease of 99 bps. 58 The decrease in both the three and nine months ended September 30, 2023 NIM and FTE NIM compared to the three and nine months ended September 30, 2022 reflects the increase in the cost of interest-bearing liabilities, partially offset by the increase in earning asset yields noted above. Noninterest Income The following table presents noninterest income for the last five completed fiscal quarters and the nine months ended September 30, 2023 and 2022. Three Months Ended Nine Months Ended (in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Service charges and fees $ 208 $ 218 $ 209 $ 226 $ 248 $ 635 $ 845 Loan servicing revenue 1,064 850 785 715 653 2,699 1,858 Loan servicing asset revaluation (257) (358) (55) (539) (333) (670) (1,100) Mortgage banking activities — — 76 1,010 871 76 4,454 Gain on sale of loans 5,569 4,868 4,061 2,862 2,713 14,498 8,510 Other 823 293 370 1,533 164 1,486 883 Total noninterest income $ 7,407 $ 5,871 $ 5,446 $ 5,807 $ 4,316 $ 18,724 $ 15,450 During the third quarter 2023, noninterest income was $7.4 million, representing an increase of $3.1 million, or 71.6%, compared to $4.3 million for the third quarter 2022. The increase in noninterest income was due primarily to increases in gain on sale of loans, net loan servicing revenue and other income, partially offset by a decrease in revenue from mortgage banking activities. The increase of $2.9 million, or 105.3%, in gain on sale of loans was due to an increase in the volume of U.S. Small Business Administration (“SBA”) 7(a) guaranteed loan sales, partially offset by lower net premiums. The increase of $0.7 million, or 401.8%, in other income is due primarily to income from fund investments. The increase in loan servicing revenue reflects the growth in the Company’s SBA servicing portfolio, as origination volume has increased compared to the third quarter 2022. The decrease in mortgage banking revenue was due to the Company’s exit from the mortgage business in the first quarter 2023. During the nine months ended September 30, 2023, noninterest income was $18.7 million, an increase of $3.3 million, or 21.2%, compared to $15.5 million for the nine months ended September 30, 2022. The increase in noninterest income was due primarily to increases in gain on sale of loans, net loan servicing revenue and other income, partially offset by a decrease in mortgage banking activities. The increase of $6.0 million, or 70.4%, in gain on sale of loans was due to an increase in the volume of SBA 7(a) guaranteed loan sales, partially offset by lower net premiums. The increase in net loan servicing revenue was due to growth in the balance of the Company’s SBA 7(a) servicing portfolio, as well as slower prepayment speeds in first nine months of 2023 compared to first nine months of 2022. The increase in other income was due primarily to income from fund investments. The decrease in mortgage banking revenue was due to the Company’s exit from the mortgage business in the first quarter 2023. 59 Noninterest Expense The following table presents noninterest expense for the last five completed fiscal quarters and the nine months ended September 30, 2023 and 2022. Three Months Ended Nine Months Ended (in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Salaries and employee benefits $ 11,767 $ 10,706 $ 11,794 $ 10,404 $ 10,439 $ 34,267 $ 31,149 Marketing, advertising and promotion 500 705 844 837 1,041 2,049 2,717 Consulting and professional services 552 711 926 914 790 2,189 3,912 Data processing 701 520 659 567 483 1,880 1,422 Loan expenses 1,336 1,072 1,977 1,018 1,142 4,385 3,417 Premises and equipment 2,315 2,661 2,777 2,921 2,808 7,753 7,767 Deposit insurance premium 1,067 936 543 355 229 2,546 797 Other 1,518 1,359 1,434 1,497 1,063 4,311 3,579 Total noninterest expense $ 19,756 $ 18,670 $ 20,954 $ 18,513 $ 17,995 $ 59,380 $ 54,760 Noninterest expense for the third quarter 2023 was $19.8 million, compared to $18.0 million for the third quarter 2022. The increase of $1.8 million, or 9.8%, was due primarily to a $1.3 million increase in salaries and employee benefits, a $0.8 million increase in deposit insurance premium, a $0.5 million increase in other, a $0.2 million increase in data processing and a $0.2 million increase in loan expenses, partially offset by a $0.5 million decrease in marketing, advertising and promotion expense and a $0.5 million decrease in premises and equipment. The increase in salaries and employee benefits was due primarily to increased headcount and higher incentive compensation in small business and construction lending. The increase in deposit insurance premium was due primarily to year-over-year asset growth and changes in the composition of the loans and deposit portfolios. The increase in other expense was due to various expenses, none of which were individually significant. The increase in data processing expense was due to variable deposit activity-based expenses. The decrease in marketing, advertising and promotion expense was due primarily to cost savings from the Company’s exit from the mortgage business in the first quarter 2023. The decrease in premises and equipment was due primarily to a decrease in property tax expense. Noninterest expense for the nine months ended September 30, 2023 was $59.4 million, compared to $54.8 million for the nine months ended September 30, 2022. The increase of $4.6 million, or 8.4%, was due primarily to increases of $3.1 million in salaries and benefits, $1.7 million in deposit insurance premium, $1.0 million in loan expenses and $0.7 million in other expenses, partially offset by a $1.7 million decrease in consulting and professional fees and a $0.7 million decrease in marketing, advertising and promotion expense. During the nine months ended September 30, 2022, the Company paid a $0.5 million discretionary inflation bonus to certain employees and recognized accelerated equity compensation expense of $0.3 million related to several retirements. Excluding these items, salaries and employee benefits increased $3.9 million in 2023. The increase in salaries and employee benefits was due primarily to mortgage exit costs, as well as an increase in headcount and higher incentive compensation in small business and construction lending. The increase in deposit insurance premium was due mainly to year-over-year asset growth, as well as the composition of loans and deposits. The increase in loan expenses was due primarily to mortgage exit costs and accrued contract expenses, as well as higher third-party loan servicing fees and other miscellaneous lending costs. The increase in other expense was due to various expenses, none of which were individually significant. The decrease in consulting and professional fees was due primarily to consulting fees related to a special project that occurred in the first quarter 2022, as well as lower legal fees in 2023. The decrease in marketing, advertising and promotion expense was due primarily to cost savings from the Company’s exit from the mortgage business in the first quarter 2023. The Company recorded an income tax benefit of $0.3 million for the third quarter 2023, compared to an income tax provision of $1.0 million and an effective tax rate of 10.5% for the third quarter 2022. The Company recorded an income tax benefit of $2.9 million for the nine months ended September 30, 2023, compared to an income tax provision of $4.1 million and an effective tax rate of 12.2% for the nine months ended September 30, 2022. The income tax benefits recognized during 2023 reflect the impact of the partial charge-off of the commercial and industrial participation loan and the mortgage exit costs earlier in the year, as well as the benefit of tax exempt income relative to stated pre-tax income. 60 Financial Condition The following table presents summary balance sheet data for the last five completed fiscal quarters. (in thousands) Balance Sheet Data: September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Total assets $ 5,169,023 $ 4,947,049 $ 4,721,319 $ 4,543,104 $ 4,264,424 Loans 3,735,068 3,646,832 3,607,242 3,499,401 3,255,906 Total securities 682,755 609,999 606,594 579,552 584,622 Loans held-for-sale 31,669 32,001 18,144 21,511 23,103 Noninterest-bearing deposits 125,265 119,291 140,449 175,315 142,875 Interest-bearing deposits 3,958,280 3,735,017 3,481,841 3,265,930 3,049,769 Total deposits 4,083,545 3,854,308 3,622,290 3,441,245 3,192,644 Advances from Federal Home Loan Bank 614,933 614,931 614,929 614,928 589,926 Total shareholders’ equity 347,744 354,332 355,572 364,974 360,857 Total assets increased $625.9 million, or 13.8%, to $5.2 billion at September 30, 2023 compared to $4.5 billion at December 31, 2022. The increase was due primarily to increases in loan and cash balances, and was funded by growth in deposit balances of $642.3 million, or 18.7%. As of September 30, 2023, total shareholders’ equity was $347.7 million, a decrease of $17.2 million, or 4.7%, compared to December 31, 2022. The decrease in shareholders’ equity was due primarily to stock repurchase activity, an increase in accumulated other comprehensive loss and the day 1 CECL adjustment, partially offset by net income earned during the period. Tangible common equity totaled $343.1 million as of September 30, 2023, representing a decrease of $17.2 million, or 4.8%, compared to December 31, 2022. The ratio of total shareholders’ equity to total assets decreased to 6.73% as of September 30, 2023 from 8.03% as of December 31, 2022, and the ratio of tangible common equity to tangible assets decreased to 6.64% as of September 30, 2023 from 7.94% as of December 31, 2022. Book value per common share decreased 0.4% to $40.11 as of September 30, 2023 from $40.26 as of December 31, 2022. Tangible book value per share decreased 0.4% to $39.57 as of September 30, 2023 from $39.74 as of December 31, 2022. The slight decline in both book value per common share and tangible book value per share reflects the declines in total shareholders’ equity and tangible common equity, partially offset by the effect of stock repurchase activity during the year. Refer to the “Reconciliation of Non-GAAP Financial Measures” section of Part I, Item 2 of this report, Management’s Discussion and Analysis of Financial Condition and Results of Operations for additional information. 61 Loan Portfolio Analysis The following table presents a summary of the Company’s loan portfolio for the last five completed fiscal quarters. (dollars in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Commercial loans Commercial and industrial $ 114,265 3.1 % $ 112,423 3.1 % $ 113,198 3.1 % $ 126,108 3.6 % $ 104,780 3.2 % Owner-occupied commercial real estate 58,486 1.6 % 59,564 1.6 % 59,643 1.7 % 61,836 1.8 % 58,615 1.8 % Investor commercial real estate 129,831 3.5 % 137,504 3.8 % 142,174 3.9 % 93,121 2.7 % 91,021 2.8 % Construction 252,105 6.7 % 192,453 5.3 % 158,147 4.4 % 181,966 5.2 % 139,509 4.3 % Single tenant lease financing 933,873 25.0 % 947,466 25.9 % 952,533 26.4 % 939,240 26.8 % 895,302 27.4 % Public finance 535,960 14.3 % 575,541 15.8 % 604,898 16.8 % 621,032 17.7 % 614,139 18.9 % Healthcare finance 235,622 6.3 % 245,072 6.7 % 256,670 7.1 % 272,461 7.8 % 293,686 9.0 % Small business lending 192,996 5.2 % 170,550 4.7 % 136,382 3.8 % 123,750 3.5 % 113,001 3.5 % Franchise finance 455,094 12.2 % 390,479 10.6 % 382,161 10.6 % 299,835 8.6 % 225,012 6.8 % Total commercial loans 2,908,232 77.9 % 2,831,052 77.5 % 2,805,806 77.8 % 2,719,349 77.7 % 2,535,065 77.7 % Consumer loans Residential mortgage 393,501 10.5 % 396,154 10.9 % 392,062 10.9 % 383,948 11.0 % 337,565 10.4 % Home equity 23,544 0.6 % 24,375 0.7 % 26,160 0.7 % 24,712 0.7 % 22,114 0.7 % Other consumer 369,451 9.9 % 352,124 9.7 % 338,133 9.4 % 324,598 9.3 % 312,512 9.7 % Total consumer loans 786,496 21.0 % 772,653 21.3 % 756,355 21.0 % 733,258 21.0 % 672,191 20.8 % Net deferred loan origination costs, premiums and discounts on purchased loans and other 1 40,340 1.1 % 43,127 1.2 % 45,081 1.2 % 46,794 1.3 % 48,650 1.5 % Total loans 3,735,068 100.0 % 3,646,832 100.0 % 3,607,242 100.0 % 3,499,401 100.0 % 3,255,906 100.0 % Allowance for credit losses 2 (36,452) (36,058) (36,879) (31,737) (29,866) Net loans $ 3,698,616 $ 3,610,774 $ 3,570,363 $ 3,467,664 $ 3,226,040 1 Includes carrying value adjustments of $29.0 million, $30.5 million, $31.5 million, $32.5 million and $33.9 million related to terminated interest rate swaps associated with public finance loans as of September 30, 2023, June 30, 2023, March 31, 2023, December 31, 2022 and September 30, 2022, respectively. 2 Beginning January 1, 2023, the allowance calculation is based on the CECL methodology. Prior to January 1, 2023, the allowance calculation was based on the incurred loss methodology. Total loans were $3.7 billion as of September 30, 2023, an increase of $235.7 million, or 6.7%, compared to December 31, 2022. Total commercial loan balances were $2.9 billion as of September 30, 2023, up $188.9 million, or 7.0%, from December 31, 2022. Total consumer loan balances were $786.5 million as of September 30, 2023, an increase of $53.2 million, or 7.3%, compared to December 31, 2022. Compared to December 31, 2022, the increase in commercial loan balances was driven by growth in the franchise finance, small business lending, construction and investor commercial real estate portfolios. The increase was partially offset by planned decreases in the fixed-rate public finance and single tenant lease financing, as well as continued runoff in the healthcare finance portfolio. The increase in consumer loans was due to higher balances in the recreational vehicles and trailers loan portfolios, in addition to funded residential mortgages and draws on construction/perm loans that were in the pipeline prior to exiting the business. 62 Asset Quality Nonperforming loans are comprised of nonaccrual loans and loans 90 days past due and accruing. Nonperforming assets include nonperforming loans, other real estate owned and other nonperforming assets, which consist of repossessed assets. The following table provides a summary of the Company’s nonperforming assets for the last five completed fiscal quarters. (dollars in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Nonaccrual loans Commercial loans: Commercial and industrial $ — $ — $ 2,836 $ 51 $ 350 Owner-occupied commercial real estate — 1,405 1,441 1,570 1,622 Small business lending 1 4,443 3,729 3,797 4,764 2,958 Total commercial loans 4,443 5,134 8,074 6,385 4,930 Consumer loans: Residential mortgage 1,354 992 1,006 1,048 1,073 Other consumer 88 101 141 17 3 Total consumer loans 1,442 1,093 1,147 1,065 1,076 Total nonaccrual loans 5,885 6,227 9,221 7,450 6,006 Past Due 90 days and accruing loans Consumer loans: Residential mortgage — — — 79 — Total consumer loans — — — 79 — Total past due 90 days and accruing loans — — — 79 — Total nonperforming loans 5,885 6,227 9,221 7,529 6,006 Other real estate owned Residential mortgage 106 106 106 — — Total other real estate owned 106 106 106 — — Other nonperforming assets 78 64 19 42 — Total nonperforming assets $ 6,069 $ 6,397 $ 9,346 $ 7,571 $ 6,006 Total nonperforming loans to total loans 2 0.16 % 0.17 % 0.26 % 0.22 % 0.18 % Total nonperforming assets to total assets 2 0.12 % 0.13 % 0.20 % 0.17 % 0.14 % Allowance for credit losses to total loans 0.98 % 0.99 % 1.02 % 0.91 % 0.92 % Nonaccrual loans to total loans 0.16 % 0.17 % 0.26 % 0.22 % 0.18 % Allowance for credit losses to nonperforming loans 2 619.4 % 579.1 % 400.0 % 426.0 % 497.3 % 1 Balance of loans are partially guaranteed by the U.S. government. 2 Includes the impact of nonperforming small business lending loans, which are guaranteed by the U.S. government. Total nonperforming loans decreased $1.6 million, or 21.8%, to $5.9 million as of September 30, 2023 compared to $7.5 million as of December 31, 2022 due primarily to an owner-occupied commercial real estate loan that was returned to accrual status during the quarter. Total nonperforming assets decreased $1.5 million, or 19.8%, to $6.1 million as of September 30, 2023, compared to $7.6 million as of December 31, 2022, due primarily to the owner-occupied commercial real estate loan mentioned above, partially offset by an increase in OREO. As of September 30, 2023, the Company had one residential mortgage property in OREO with a carrying value of $0.1 million. As of December 31, 2022, the Company did not own any OREO. 63 Troubled Debt Restructurings With the adoption ASU 2022-02, effective January 1, 2023, TDR accounting was eliminated. Total TDRs as of December 31, 2022 were $5.5 million. There were two portfolio residential mortgage loans and one small business lending loan classified as new TDRs during the twelve months ended December 31, 2022 with pre-modification and post-modification balances totaling $1.6 million. The following table provides a summary of troubled debt restructurings. (in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Troubled debt restructurings – nonaccrual $ — $ — $ — $ 2,864 $ 2,342 Troubled debt restructurings – performing — — — 2,658 2,410 Total troubled debt restructurings $ — $ — $ — $ 5,522 $ 4,752 Allowance for Credit Losses - Loans The following table provides a rollforward of the allowance for credit losses for the last five completed fiscal quarters and the nine months ended September 30, 2023 and 2022. 64 Three Months Ended Nine Months Ended (dollars in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Balance, beginning of period, December 31, 2022 $ 36,058 $ 36,879 $ 31,737 $ 29,866 $ 29,153 $ 31,737 $ 27,841 Adoption of ASU 2016-13 (CECL) — — 2,962 — — 2,962 — Balance, beginning of period 36,058 36,879 34,699 29,866 29,153 34,699 27,841 Provision charged to expense 1,850 753 9,373 2,109 892 11,976 2,868 Losses charged off Commercial and industrial — — 6,965 — — 6,965 — Investor commercial real estate 591 — — — — 591 — Healthcare finance — 25 — — — 25 — Small business lending 751 1,358 60 192 130 2,169 210 Franchise finance — 331 — — — 331 — Residential mortgage 56 — — — — 56 — Other consumer 120 150 232 101 106 502 397 Tax refund advance loans — — — — — — 1,860 Total losses charged off 1,518 1,864 7,257 293 236 10,639 2,467 Recoveries Commercial and industrial 2 217 1 3 2 220 2 Single tenant lease financing — — — — — — 1,231 Small business lending 14 37 3 7 3 54 22 Residential mortgage 1 1 2 2 1 4 3 Home equity 2 2 1 2 1 5 137 Other consumer 43 33 57 41 50 133 229 Total recoveries 62 290 64 55 57 416 1,624 Balance, end of period $ 36,452 $ 36,058 $ 36,879 $ 31,737 $ 29,866 $ 36,452 $ 29,866 Net charge-offs $ 1,456 $ 1,574 $ 7,193 $ 238 $ 179 $ 10,223 $ 843 Net charge-offs (recoveries) to average loans (annualized) Commercial and industrial 0.00 % (0.46 %) 27.16 % 0.00 % 0.00 % 9.26 % 0.00 % Investor commercial real estate 0.59 % 0.00 % 0.00 % 0.00 % 0.00 % 0.63 % 0.00 % Single tenant lease financing 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % (0.19 %) Healthcare finance 0.00 % 0.02 % 0.00 % 0.00 % 0.00 % 0.01 % 0.00 % Small business lending 0.50 % 1.50 % 0.15 % 0.14 % 0.14 % 1.61 % 0.22 % Franchise finance 0.00 % 0.17 % 0.00 % 0.00 % 0.00 % 0.11 % 0.00 % Total commercial net charge-offs (recoveries) 0.06 % 0.10 % 1.02 % 0.01 % 0.01 % 0.46 % (0.06 %) Residential mortgage 0.06 % 0.00 % 0.00 % 0.00 % 0.00 % 0.02 % 0.00 % Home equity (0.01 %) (0.02 %) (0.02 %) (0.01 %) (0.01 %) (0.03 %) (0.94 %) Other consumer 0.18 % 0.21 % 0.36 % 0.18 % 0.20 % 0.25 % 0.30 % Tax refund advance loans 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 11.84 % Total consumer net charge-offs 0.02 % 0.03 % 0.09 % 0.01 % 0.01 % 0.07 % 0.44 % Total net charge-offs to average loans 0.16 % 0.17 % 0.82 % 0.03 % 0.02 % 0.38 % 0.04 % The allowance for credit losses (“ACL”) was $36.5 million as of September 30, 2023, compared to $31.7 million as of December 31, 2022. The increase in the ACL reflects the day one current expected credit losses (“CECL”) adjustment of $3.0 million, overall growth in the loan portfolio, changes in certain economic forecasts that impacted quantitative loss rates, adjustments to qualitative factors for certain portfolios, and specific reserves placed on certain loans. The ACL as a percentage of total loans was 0.98% at September 30, 2023, compared to 0.91% at December 31, 2022. The ACL as a percentage of 65 nonperforming loans increased to 619.4% as of September 30, 2023, compared to 426.0% as of December 31, 2022, due to the increase in the ACL, as well as the decline in nonperforming loans. Net charge-offs of $1.5 million were recognized during the third quarter 2023, resulting in net charge-offs to average loans of 0.16%, compared to net charge-offs to average loans of 0.02% for the third quarter 2022. The increase in net charge-offs was due primarily to an increase in charge-offs in small business lending and a loss on the sale of one investor commercial real estate participation loan executed by the lead bank. During the nine months ended September 30, 2023, the Company recorded net charge-offs of $10.2 million, compared to net charge-offs of $0.8 million during the nine months ended September 30, 2022. The increase in net charge-offs for the nine months ended September 30, 2023 was driven primarily by the $6.9 million partial charge-off of a C&I participation loan that was placed on nonaccrual status and subsequently charged off during the first quarter 2023, as well as an increase in charge-offs in small business lending and a loss on the sale of one investor commercial real estate participation loan executed by the lead bank. The provision for credit losses in the third quarter 2023 was $1.9 million, compared to $0.9 million for the third quarter 2022. During the nine months ended September 30, 2023, the provision for credit losses was $13.1 million, compared to $2.9 million during the nine months ended September 30, 2022. The increase in the provision for credit losses for the three and nine months ended September 30, 2023 was driven primarily by increases in net charge-offs, as well as increases in specific reserves and unfunded commitments, partially offset by the positive impact of economic forecasts on certain portfolios. Investment Securities Portfolio The following tables present the amortized cost and approximate fair value of our investment portfolio by security type for the last five completed fiscal quarters. (in thousands) Amortized Cost September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Securities available-for-sale U.S. Government-sponsored agencies $ 98,594 $ 41,024 $ 38,675 $ 35,606 $ 38,197 Municipal securities 69,031 68,931 69,243 68,958 71,156 Agency mortgage-backed securities - residential 235,468 239,263 249,795 252,066 259,568 Agency mortgage-backed securities - commercial 37,931 16,311 16,739 17,142 17,825 Private label mortgage-backed securities - residential 20,292 14,749 11,445 11,777 12,320 Asset-backed securities 6,713 1,000 5,000 5,000 5,000 Corporate securities 39,603 43,613 45,623 45,634 44,644 Total available-for-sale 507,632 424,891 436,520 436,183 448,710 Securities held-to-maturity, net Municipal securities 13,900 13,913 13,932 13,946 13,957 Agency mortgage-backed securities - residential 170,524 169,186 146,809 121,853 123,718 Agency mortgage-backed securities - commercial 5,782 5,795 5,806 5,818 5,828 Corporate securities 41,722 41,711 44,214 47,551 47,554 Total held-to-maturity, net 231,928 230,605 210,761 189,168 191,057 Total securities $ 739,560 $ 655,496 $ 647,281 $ 625,351 $ 639,767 66 (in thousands) Approximate Fair Value September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Securities available-for-sale U.S. Government-sponsored agencies $ 97,178 $ 39,474 $ 37,047 $ 33,809 $ 36,329 Municipal securities 62,772 67,209 68,636 67,276 63,537 Agency mortgage-backed securities - residential 193,096 204,141 216,752 215,092 219,191 Agency mortgage-backed securities - commercial 36,163 14,891 15,530 15,840 16,522 Private label mortgage-backed securities - residential 18,576 13,415 10,275 10,455 11,041 Asset-backed securities 6,703 1,000 4,998 4,960 4,884 Corporate securities 36,339 39,264 42,595 42,952 42,061 Total available-for-sale 450,827 379,394 395,833 390,384 393,565 Securities held-to-maturity Municipal securities 12,449 12,950 13,144 12,832 12,668 Agency mortgage-backed securities - residential 147,412 153,593 133,267 106,741 107,570 Agency mortgage-backed securities - commercial 4,190 4,551 4,703 4,552 4,686 Corporate securities 37,599 37,549 41,349 44,358 45,053 Total held-to-maturity 201,650 208,643 192,463 168,483 169,977 Total securities $ 652,477 $ 588,037 $ 588,296 $ 558,867 $ 563,542 The approximate fair value of available-for-sale investment securities increased $60.4 million, or 15.5%, to $450.8 million as of September 30, 2023, compared to $390.4 million as of December 31, 2022. The increase was due primarily to increases of $63.4 million U.S. Government-sponsored agencies, $20.3 million in asset-backed securities - commercial and $8.1 million in private label mortgage-backed securities - residential, partially offset by decreases of $22.0 million in agency mortgage-backed securities - residential, $6.6 million in corporate securities and $4.5 million in municipal securities. The increase was caused primarily by new purchase activity for certain available-for-sale portfolios, partially offset by a decline in fair value resulting from the continued rise in interest rates, as well as net paydown activity. Accrued Income and Other Assets Accrued income and other assets increased $8.6 million, or 19.1%, to $53.5 million at September 30, 2023 compared to $44.9 million at December 31, 2022. The increase was due primarily to increases of $6.1 million in deferred tax assets and $2.5 million in fund investments. Accrued Expenses and Other Liabilities Accrued expenses and other liabilities increased $0.6 million, or 3.9%, to $15.1 million at September 30, 2023, compared to $14.5 million at December 31, 2022. The increase was due primarily to increases of $3.6 million in the reserve for unfunded commitments resulting from the adoption of CECL in 2023, as well as new origination activity, $0.5 million in accrued salary and benefits and $0.4 million in other accrued expenses, partially offset by decreases of $2.3 million in other liabilities, $1.3 million in accrued taxes and $0.2 million in accrued property taxes. 67 Deposits The following table presents the composition of the Company’s deposit base for the last five completed fiscal quarters. (dollars in thousands) September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 Noninterest-bearing deposits $ 125,265 3.1 % $ 119,291 3.1 % $ 140,449 3.9 % $ 175,315 5.1 % $ 142,635 4.5 % Interest-bearing demand deposits 374,915 9.2 % 398,899 10.3 % 351,641 9.7 % 335,611 9.8 % 337,765 10.6 % Savings accounts 23,811 0.6 % 28,239 0.7 % 32,762 0.9 % 44,819 1.3 % 52,228 1.6 % Money market accounts 1,222,511 29.9 % 1,232,719 32.0 % 1,254,013 34.6 % 1,418,599 41.2 % 1,378,087 43.2 % BaaS - brokered deposits 41,884 1.0 % 25,549 0.7 % 25,725 0.7 % 13,607 0.4 % 96,287 3.0 % Certificates of deposits 1,624,447 39.8 % 1,366,409 35.5 % 1,170,094 32.3 % 874,490 25.4 % 773,040 24.2 % Brokered deposits 670,712 16.4 % 683,202 17.7 % 647,606 17.9 % 578,804 16.8 % 412,602 12.9 % Total deposits $ 4,083,545 100.0 % $ 3,854,308 100.0 % $ 3,622,290 100.0 % $ 3,441,245 100.0 % $ 3,192,644 100.0 % Total deposits increased $642.3 million, or 18.7%, to $4.1 billion as of September 30, 2023, compared to $3.4 billion as of December 31, 2022. This increase was due primarily to increases of $750.0 million, or 85.8%, in certificates of deposits, $91.9 million, or 15.9%, in brokered deposits, $39.3 million, or 11.7%, in interest-bearing demand deposits and $28.3 million, or 207.8%, in BaaS - brokered deposits, partially offset by decreases of $196.1 million, or 13.8%, in money market accounts, $50.1 million, or 28.6%, in noninterest-bearing deposits and $21.0 million, or 46.9%, in savings accounts. The increase in certificates of deposits and brokered deposits was due primarily to strong consumer and small business demand for certificates of deposits in 2023, as well as the funding of brokered deposits earlier in 2023 to supplement on-balance sheet liquidity. The increase in interest-bearing demand deposits was due primarily to growth in BaaS - brokered deposits. The increase in BaaS - brokered deposits was driven by higher payments volume. The decrease in money market accounts was due primarily to certain customer activity that can be periodically volatile, as well as certain higher-cost relationships that were exited during 2023. The decline in noninterest-bearing deposits was due primarily to drawdowns from commercial real estate development and construction clients contributing equity to projects the Company is financing. The decrease in savings accounts was due primarily to customer withdrawal activity. Uninsured deposit balances represented 23% of total deposits at September 30, 2023, down from 33% at December 31, 2022. These balances include Indiana-based municipal deposits, which are insured by the Indiana Board for Depositories, as well as larger balance accounts under contractual agreements that only allow withdrawal under certain conditions. After subtracting these types of deposits, the adjusted uninsured deposit balance decreases to 17%, down from 24% as of December 31, 2022. Recent Debt Offerings In August 2021, the Company issued $60.0 million aggregate principal amount of 3.75% Fixed-to-Floating Rate Subordinated Notes due 2031 (the “2031 Notes”) in a private placement. The 2031 Notes initially bear a fixed interest rate of 3.75% per year to, but excluding, September 1, 2026, and thereafter a floating rate equal to the then-current benchmark rate (initially three-month Term SOFR plus 3.11%). The 2031 Notes are scheduled to mature on September 1, 2031. The 2031 Notes are unsecured subordinated obligations of the Company and may be repaid, without penalty, on any interest payment date on or after September 1, 2026. The 2031 Notes are intended to qualify as Tier 2 capital under regulatory guidelines. Pursuant to the terms of a Registration Rights Agreement between the Company and the initial purchasers of the 2031 Notes, the Company offered to exchange the 2031 Notes for subordinated notes that are registered under the Securities Act of 1933, as amended, and have substantially the same terms as the 2031 Notes. On December 30, 2021, the Company completed an exchange of $59.3 million principal amount of the unregistered 2031 Notes for registered 2031 Notes in satisfaction of its obligations under the registration rights agreement. Holders of $0.7 million of unregistered 2031 Notes did not participate in the exchange. Regulatory Capital Requirements The Company and the Bank are subject to various regulatory capital requirements administered by state and federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weighting and other factors. 68 The Basel III Capital Rules became effective for the Company and the Bank on January 1, 2015, subject to a phase-in period for certain provisions. Quantitative measures established by the Basel III Capital Rules to ensure capital adequacy require the maintenance of minimum amounts and ratios of Common Equity Tier 1 capital, Tier 1 capital and Total capital, as defined in the regulations, to risk-weighted assets, and of Tier 1 capital to adjusted quarterly average assets (“Leverage Ratio”). The Basel III Capital Rules were fully phased in on January 1, 2019 and require the Company and the Bank to maintain: 1) a minimum ratio of Common Equity Tier 1 capital to risk-weighted assets of 4.5%, plus a 2.5% “capital conservation buffer” (resulting in a minimum ratio of Common Equity Tier 1 capital to risk-weighted assets of 7.0%); 2) a minimum ratio of Tier 1 capital to risk-weighted assets of 6.0%, plus the capital conservation buffer (resulting in a minimum Tier 1 capital ratio of 8.5%); 3) a minimum ratio of Total capital to risk-weighted assets of 8.0%, plus the capital conservation buffer (resulting in a minimum Total capital ratio of 10.5%); and 4) a minimum Leverage Ratio of 4.0%. The capital conservation buffer is designed to absorb losses during periods of economic stress. Failure to maintain the minimum Common Equity Tier 1 capital ratio plus the capital conservation buffer will result in potential restrictions on a banking institution’s ability to pay dividends, repurchase stock and/or pay discretionary compensation to its employees. The following tables present actual and required capital ratios as of September 30, 2023 and December 31, 2022 for the Company and the Bank under the Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as of September 30, 2023 and December 31, 2022, which are based on the Basel III Capital Rules. Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules. As permitted by the federal banking regulatory agencies, the Company has elected the option to delay the impact of the day one adoption of ASC 326. The transition adjustments of $4.5 million will be phased into the regulatory capital calculations over a three-year period, with 25% of the adjustment recognized in 2023, 50% of the adjustment recognized in 2024, 75% of the adjustment recognized in 2025 and 100% of the adjustment recognized in 2026. Actual Minimum Capital Required - Basel III Minimum Required to be Considered Well Capitalized (dollars in thousands) Capital Amount Ratio Capital Amount Ratio Capital Amount Ratio As of September 30, 2023: Common equity tier 1 capital to risk-weighted assets Consolidated $ 378,575 9.56 % $ 277,321 7.00 % N/A N/A Bank 463,223 11.77 % 275,523 7.00 % $ 255,843 6.50 % Tier 1 capital to risk-weighted assets Consolidated 378,575 9.56 % 336,747 8.50 % N/A N/A Bank 463,223 11.77 % 334,563 8.50 % 314,883 8.00 % Total capital to risk-weighted assets Consolidated 520,343 13.13 % 415,982 10.50 % N/A N/A Bank 500,230 12.71 % 413,284 10.50 % 393,604 10.00 % Leverage ratio Consolidated 378,575 7.32 % 206,954 4.00 % N/A N/A Bank 463,223 8.97 % 206,578 4.00 % 258,223 5.00 % 69 Actual Minimum Capital Required - Basel III Minimum Required to be Considered Well Capitalized (dollars in thousands) Capital Amount Ratio Capital Amount Ratio Capital Amount Ratio As of December 31, 2022: Common equity tier 1 capital to risk-weighted assets Consolidated $ 390,150 10.93 % $ 249,795 7.00 % N/A N/A Bank 466,257 13.10 % 249,191 7.00 % $ 231,392 6.50 % Tier 1 capital to risk-weighted assets Consolidated 390,150 10.93 % 303,323 8.50 % N/A N/A Bank 466,257 13.10 % 302,590 8.50 % 284,790 8.00 % Total capital to risk-weighted assets Consolidated 526,419 14.75 % 374,693 10.50 % N/A N/A Bank 497,994 13.99 % 373,787 10.50 % 355,988 10.00 % Leverage ratio Consolidated 390,150 9.06 % 172,330 4.00 % N/A N/A Bank 466,257 10.84 % 172,093 4.00 % 215,116 5.00 % Shareholders’ Dividends The Company’s Board of Directors declared a cash dividend of $0.06 per share of common stock payable October 16, 2023 to shareholders of record as of September 29, 2023. The Company expects to continue to pay cash dividends on a quarterly basis; however, the declaration and amount of any future cash dividends will be subject to the sole discretion of the Board of Directors and will depend upon many factors, including the Company’s results of operations, financial condition, capital requirements, regulatory and contractual restrictions (including with respect to the Company’s outstanding subordinated debt), business strategy and other factors deemed relevant by the Board of Directors. As of September 30, 2023, the Company had $107.0 million principal amount of subordinated debt outstanding evidenced by the 2029 Notes, 2030 Note and 2031 Notes. The agreements that govern our outstanding subordinated debt prohibit the Company from paying any dividends on its common stock or making any other distributions to shareholders at any time when there shall have occurred, and be continuing to occur, an event of default under the applicable agreement. If an event of default were to occur and the Company did not cure it, the Company would be prohibited from paying any dividends or making any other distributions to shareholders or from redeeming or repurchasing any common stock. Capital Resources The Company believes it has sufficient liquidity and capital resources to meet its cash and capital expenditure requirements for the next twelve months and longer. The Company may explore strategic alternatives, including additional asset, deposit or revenue generation channels that complement our small business, commercial and consumer banking platforms, which may require additional capital. If the Company is unable to secure such capital at favorable terms, its ability to take advantage of such opportunities could be adversely affected. In October 2021, the Company’s Board of Directors approved a stock repurchase program authorizing the repurchase of up to $30.0 million, which was subsequently increased to $35.0 million, of our outstanding common stock from time to time on the open market or in privately negotiated transactions. The stock repurchase authorization was scheduled to expire on December 31, 2022. Under this program, the Company repurchased 855,956 shares of common stock through December 19, 2022, at an average price of $36.31, for a total investment of $31.1 million. In December 2022, the Company’s Board of Directors approved a new stock repurchase program authorizing the repurchase of up to $25.0 million of the Company’s outstanding stock from time to time on the open market or in privately negotiated transactions. The stock repurchase program is scheduled to expire on December 31, 2023, and replaces the stock repurchase program mentioned above. Under this program, the Company repurchased 509,022 shares of common stock through September 30, 2023, at an average price of $18.92, for a total investment of $9.6 million. 70 Various factors determine the amount and timing of our share repurchases, including our capital requirements, organic growth and other strategic opportunities, economic and market conditions (including the trading price of our stock), and regulatory and legal considerations. See Part II, Item 2, of this report for information regarding recent repurchase activity and our remaining authority under the program. Liquidity Liquidity management is the process used by the Company to manage the continuing flow of funds necessary to meet its financial commitments on a timely basis and at a reasonable cost while also maintaining safe and sound operations. Liquidity, represented by cash and investment securities, is a product of the Company’s operating, investing and financing activities. The primary sources of funds are deposits, principal and interest payments on loans and investment securities, maturing loans and investment securities, access to wholesale funding sources and collateralized borrowings. While scheduled payments and maturities of loans and investment securities are relatively predictable sources of funds, deposit flows are greatly influenced by interest rates, general economic conditions and competition. Therefore, the Company supplements deposit growth and enhances interest rate risk management through borrowings and wholesale funding, which are generally advances from the Federal Home Loan Bank and brokered deposits. The Company holds cash and investment securities that qualify as liquid assets to maintain adequate liquidity to ensure safe and sound operations and meet its financial commitments. At September 30, 2023, on a consolidated basis, the Company had $972.0 million in cash and cash equivalents and investment securities available-for-sale and $31.7 million in loans held-for-sale that were generally available for its cash needs. The Company can also generate funds from wholesale funding sources and collateralized borrowings. At September 30, 2023, the Bank had the ability to borrow an additional $1.2 billion from the FHLB, the Federal Reserve and correspondent bank Fed Funds lines of credit, which when combined with cash balances, totaled $1.7 billion and represented 182% of adjusted uninsured deposit balances. The Company is a separate legal entity from the Bank and must provide for its own liquidity. In addition to its operating expenses, the Company is responsible for paying any dividends declared to its common shareholders and interest and principal on outstanding debt. The Company’s primary sources of funds are cash maintained at the holding company level and dividends from the Bank, the payment of which is subject to regulatory limits. At September 30, 2023, the Company, on an unconsolidated basis, had $10.6 million in cash generally available for its cash needs, which is in excess of its current annual regular shareholder dividend and operating expenses. The Company uses its sources of funds primarily to meet ongoing financial commitments, including withdrawals by depositors, credit commitments to borrowers, operating expenses and capital expenditures. At September 30, 2023, approved outstanding loan commitments, including unused lines of credit and standby letters of credit, amounted to $668.2 million. Certificates of deposits and brokered deposits scheduled to mature in one year or less at September 30, 2023 totaled $1.4 billion. Management is not aware of any other events or regulatory requirements that, if implemented, are likely to have a material effect on either the Company’s or the Bank’s liquidity. 71 Reconciliation of Non-GAAP Financial Measures This Management’s Discussion and Analysis contains financial information determined by methods other than in accordance with GAAP. Non-GAAP financial measures, specifically tangible common equity, tangible assets, tangible book value per common share, tangible common equity to tangible assets, average tangible common equity, return on average tangible common equity, total interest income - FTE, net interest income - FTE, net interest margin - FTE, adjusted total revenue, adjusted noninterest income, adjusted noninterest expense, adjusted income before income taxes, adjusted income tax (benefit) provision, adjusted net income, adjusted diluted earnings per share, adjusted return on average assets, adjusted return on average shareholders’ equity and adjusted return on average tangible common equity are used by the Company’s management to measure the strength of its capital and analyze profitability, including its ability to generate earnings on tangible capital invested by its shareholders. The Company also believes that it is a standard practice in the banking industry to present total interest income, net interest income and net interest margin on a fully-taxable equivalent basis, as those measures provide useful information for peer comparisons. Although the Company believes these non-GAAP financial measures provide a greater understanding of its business, they should not be considered a substitute for financial measures determined in accordance with GAAP, nor are they necessarily comparable to non-GAAP financial measures that may be presented by other companies. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures are included in the following table for the last five completed fiscal quarters and the nine months ended September 30, 2023 and 2022. (dollars in thousands, except share and per share data) Three Months Ended Nine Months Ended September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Total equity - GAAP $ 347,744 $ 354,332 $ 355,572 $ 364,974 $ 360,857 $ 347,744 $ 360,857 Adjustments: Goodwill (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) Tangible common equity $ 343,057 $ 349,645 $ 350,885 $ 360,287 $ 356,170 $ 343,057 $ 356,170 Total assets - GAAP $ 5,169,023 $ 4,947,049 $ 4,721,319 $ 4,543,104 $ 4,264,424 $ 5,169,023 $ 4,264,424 Adjustments: Goodwill (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) Tangible assets $ 5,164,336 $ 4,942,362 $ 4,716,632 $ 4,538,417 $ 4,259,737 $ 5,164,336 $ 4,259,737 Common shares outstanding 8,669,673 8,774,507 8,943,477 9,065,883 9,290,885 8,669,673 9,290,885 Book value per common share $ 40.11 $ 40.38 $ 39.76 $ 40.26 $ 38.84 $ 40.11 $ 38.84 Effect of goodwill (0.54) (0.53) (0.53) (0.52) (0.50) (0.54) (0.50) Tangible book value per common share $ 39.57 $ 39.85 $ 39.23 $ 39.74 $ 38.34 $ 39.57 $ 38.34 Total shareholders’ equity to assets 6.73 % 7.16 % 7.53 % 8.03 % 8.46 % 6.73 % 8.46 % Effect of goodwill (0.09 %) (0.09 %) (0.09 %) (0.09 %) (0.10 %) (0.09 %) (0.10 %) Tangible common equity to tangible assets 6.64 % 7.07 % 7.44 % 7.94 % 8.36 % 6.64 % 8.36 % Total average equity - GAAP $ 356,701 $ 358,312 $ 363,273 $ 364,657 $ 371,303 $ 359,405 $ 375,190 Adjustments: Average goodwill (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) (4,687) Average tangible common equity $ 352,014 $ 353,625 $ 358,586 $ 359,970 $ 366,616 $ 354,718 $ 370,503 Return on average shareholders’ equity 3.79 % 4.35 % (3.37 %) 6.91 % 9.01 % 1.59 % 10.40 % Effect of goodwill 0.05 % 0.05 % (0.04 %) 0.09 % 0.12 % 0.02 % 0.13 % Return on average tangible common equity 3.84 % 4.40 % (3.41 %) 7.00 % 9.13 % 1.61 % 10.53 % 72 (dollars in thousands, except share and per share data) Three Months Ended Nine Months Ended September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Total interest income $ 63,015 $ 58,122 $ 52,033 $ 45,669 $ 39,099 $ 173,170 $ 111,239 Adjustments: Fully-taxable equivalent adjustments 1 1,265 1,347 1,383 1,384 1,280 3,995 3,971 Total interest income - FTE $ 64,280 $ 59,469 $ 53,416 $ 47,053 $ 40,379 $ 177,165 $ 115,210 Net interest income $ 17,378 $ 18,145 $ 19,574 $ 21,669 $ 23,994 $ 55,097 $ 75,424 Adjustments: Fully-taxable equivalent adjustments 1 1,265 1,347 1,383 1,384 1,280 3,995 3,971 Net interest income - FTE $ 18,643 $ 19,492 $ 20,957 $ 23,053 $ 25,274 $ 59,092 $ 79,395 Net interest margin 1.39 % 1.53 % 1.76 % 2.09 % 2.40 % 1.55 % 2.52 % Effect of fully-taxable equivalent adjustments 1 0.10 % 0.11 % 0.13 % 0.13 % 0.13 % 0.11 % 0.13 % Net interest margin - FTE 1.49 % 1.64 % 1.89 % 2.22 % 2.53 % 1.66 % 2.65 % 1 Assuming a 21% tax rate 73 (dollars in thousands, except share and per share data) Three Months Ended Nine Months Ended September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Total Revenue- GAAP $ 24,785 $ 24,016 $ 25,020 $ 27,476 $ 28,310 $ 73,821 $ 90,874 Adjustments: Mortgage-related revenue — — (65) — — — — Adjusted total revenue $ 24,785 $ 24,016 $ 24,955 $ 27,476 $ 28,310 $ 73,821 $ 90,874 Noninterest income - GAAP $ 7,407 $ 5,871 $ 5,446 $ 5,807 $ 4,316 $ 18,724 $ 15,450 Adjustments: Mortgage-related revenue — — (65) — — (65) — Adjusted noninterest income $ 7,407 $ 5,871 $ 5,381 $ 5,807 $ 4,316 $ 18,659 $ 15,450 Noninterest expense - GAAP $ 19,756 $ 18,670 $ 20,954 $ 18,513 $ 17,995 $ 59,380 $ 54,760 Adjustments: Mortgage-related costs — — (3,052) — — (3,052) — Acquisition-related expenses — — — — — — (273) Nonrecurring consulting fee — — — — — — (875) Write-down of Software — — — — (125) — (125) Discretionary inflation bonus — — — — — — (531) Accelerated equity compensation — — — — — — (289) Adjusted noninterest expense $ 19,756 $ 18,670 $ 17,902 $ 18,513 $ 17,870 $ 56,328 $ 52,667 Income (loss) before income taxes - GAAP $ 3,083 $ 3,648 $ (5,349) $ 6,854 $ 9,423 $ 1,382 $ 33,246 Adjustments: 1 Mortgage-related revenue — — (65) — — (65) — Mortgage-related costs — — 3,052 — — 3,052 — Partial charge-off of C&I participation loan — — 6,914 — — 6,914 — Acquisition-related expenses — — — — — — 273 Nonrecurring consulting fee — — — — — — 875 Write-down of Software — — — — 125 — 125 Discretionary inflation bonus — — — — — — 531 Accelerated equity compensation — — — — — — 289 Adjusted income before income taxes $ 3,083 $ 3,648 $ 4,552 $ 6,854 $ 9,548 $ 11,283 $ 35,339 Income tax (benefit) provision - GAAP $ (326) $ (234) $ (2,332) $ 503 $ 987 $ (2,892) $ 4,056 Adjustments: 1 Mortgage-related revenue — — (14) — — (14) — Mortgage-related costs — — 641 — — 641 — Partial charge-off of C&I participation loan — — 1,452 — — 1,452 — Acquisition-related expenses — — — — — — 57 Nonrecurring consulting fee — — — — — — 184 Write-down of Software — — — — 26 — 26 Discretionary inflation bonus — — — — — — 112 Accelerated equity compensation — — — — — — 61 Adjusted income tax (benefit) provision $ (326) $ (234) $ (253) $ 503 $ 1,013 $ (813) $ 4,496 1 Assuming a 21% tax rate 74 (dollars in thousands, except share and per share data) Three Months Ended Nine Months Ended September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Net income (loss) - GAAP $ 3,409 $ 3,882 $ (3,017) $ 6,351 $ 8,436 $ 4,274 $ 29,190 Adjustments: Mortgage-related revenue — — (51) — — (51) — Mortgage-related costs — — 2,411 — — 2,411 — Partial charge-off of C&I participation loan — — 5,462 — — 5,462 — Acquisition-related expenses — — — — — — 216 Nonrecurring consulting fee — — — — — — 691 Write-down of Software — — — — 99 — 99 Discretionary inflation bonus — — — — — — 419 Accelerated equity compensation — — — — — — 228 Adjusted net income $ 3,409 $ 3,882 $ 4,805 $ 6,351 $ 8,535 $ 12,096 $ 30,843 Diluted average common shares outstanding 8,767,217 8,908,180 9,024,072 9,343,533 9,525,855 8,907,748 9,681,742 Diluted earnings (loss) per share - GAAP $ 0.39 $ 0.44 $ (0.33) $ 0.68 $ 0.89 $ 0.48 $ 3.01 Adjustments: Mortgage-related revenue — — (0.01) — — (0.01) — Mortgage-related costs — — 0.27 — — 0.27 0.02 Effect of partial charge-off of C&I participation loan — — 0.60 — — 0.61 — Effect of nonrecurring consulting fee — — — — — — 0.07 Effect of write-down of software — — — — 0.01 — 0.01 Effect of discretionary inflation bonus — — — — — — 0.04 Effect of accelerated equity compensation — — — — — — 0.02 Adjusted diluted earnings per share $ 0.39 $ 0.44 $ 0.53 $ 0.68 $ 0.90 $ 1.35 $ 3.17 Return on average assets 0.26 % 0.32 % (0.26 %) 0.59 % 0.82 % 0.12 % 0.94 % Effect of mortgage-related revenue 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % Effect of mortgage-related costs 0.00 % 0.00 % 0.21 % 0.00 % 0.00 % 0.07 % 0.00 % Effect of partial charge-off of C&I participation loan 0.00 % 0.00 % 0.48 % 0.00 % 0.00 % 0.15 % 0.00 % Effect of acquisition-related expenses 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.01 % Effect of nonrecurring consulting fee 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.02 % Effect of write-down of software 0.00 % 0.00 % 0.00 % 0.00 % 0.01 % 0.00 % 0.00 % Effect of discretionary inflation bonus 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.01 % Effect of accelerated equity compensation 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.01 % Adjusted return on average assets 0.26 % 0.32 % 0.43 % 0.59 % 0.83 % 0.34 % 0.99 % Return on average shareholders' equity 3.79 % 4.35 % (3.37 %) 6.91 % 9.01 % 1.59 % 10.40 % Effect of mortgage-related revenue 0.00 % 0.00 % (0.06 %) 0.00 % 0.00 % (0.02 %) 0.00 % Effect of mortgage-related costs 0.00 % 0.00 % 2.69 % 0.00 % 0.00 % 0.90 % 0.00 % 75 (dollars in thousands, except share and per share data) Three Months Ended Nine Months Ended September 30, 2023 June 30, 2023 March 31, 2023 December 31, 2022 September 30, 2022 September 30, 2023 September 30, 2022 Effect of partial charge-off of C&I participation loan 0.00 % 0.00 % 6.10 % 0.00 % 0.00 % 2.03 % 0.00 % Effect of acquisition-related expenses 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.08 % Effect of nonrecurring consulting fee 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.25 % Effect of write-down of software 0.00 % 0.00 % 0.00 % 0.00 % 0.11 % 0.00 % 0.04 % Effect of discretionary inflation bonus 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.15 % Effect of accelerated equity compensation 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.08 % Adjusted return on average shareholders' equity 3.79 % 4.35 % 5.36 % 6.91 % 9.12 % 4.50 % 11.00 % Return on average tangible common equity 3.84 % 4.40 % (3.41 %) 7.00 % 9.13 % 1.61 % 10.53 % Effect of mortgage-related revenue 0.00 % 0.00 % (0.06 %) 0.00 % 0.00 % (0.02 %) 0.00 % Effect of mortgage-related costs 0.00 % 0.00 % 2.73 % 0.00 % 0.00 % 0.91 % 0.00 % Effect of partial charge-off of C&I participation loan 0.00 % 0.00 % 6.18 % 0.00 % 0.00 % 2.06 % 0.00 % Effect of acquisition-related expenses 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.08 % Effect of nonrecurring consulting fee 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.25 % Effect of write-down of software 0.00 % 0.00 % 0.00 % 0.00 % 0.11 % 0.00 % 0.04 % Effect of discretionary inflation bonus 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.15 % Effect of accelerated equity compensation 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.00 % 0.08 % Adjusted return on average tangible common equity 3.84 % 4.40 % 5.44 % 7.00 % 9.24 % 4.56 % 11.13 % Critical Accounting Policies and Estimates There have been changes in the Company’s critical accounting policies or estimates from those disclosed in its Annual Report on Form 10-K for the year ended December 31, 2022. Refer to Note 1 Basis of Presentation for further details. Recent Accounting Pronouncements Refer to Note 15 to the condensed consolidated financial statements. Off-Balance Sheet Arrangements In the ordinary course of business, the Company enters into financial transactions to extend credit, interest rate swap agreements and forms of commitments that may be considered off-balance sheet arrangements. Interest rate swaps are arranged to receive hedge accounting treatment and are classified as either fair value or cash flow hedges. Fair value hedges are purchased to convert certain fixed rate assets to floating rate. Cash flow hedges are used to convert certain variable rate liabilities into fixed rate liabilities. At September 30, 2023 and December 31, 2022, the Company had interest rate swaps with notional amounts of $220 million and $260.0 million, respectively. Additionally, prior to the Company’s decision to exit its consumer mortgage business in the first quarter 2023, we entered into forward contracts related to our mortgage banking business to hedge the exposures we have from commitments to extend new residential mortgage loans to our customers and from our mortgage loans held-for-sale. At September 30, 2023, the Company did not have any commitments to sell residential real estate loans. At December 31, 2022, the Company had commitments to sell residential real estate loans of $17.0 million. Refer to Note 13 to the condensed consolidated financial statements for additional information about derivative financial instruments. 76