What changed in this filing

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Item 2. Management’s Discussion and Analysis

2024-08-06 compared with 2024-05-10 · 250 added, 141 removed, 435 unchanged (47% of the section changed)

65 unchanged sentences

GLS primarily provides services in connection with the settlement, accounting, and securitization processes for government guaranteed loans, including loans originated under the SBA 7(a) loan programs and USDA guaranteed loans.

The Grove provides Company employees and business visitors an on-site restaurant location.

The Grove provides Company employees and business visitors with on-site dining.

Live Oak Ventures’ purpose is investing in businesses that align with the Company's strategic initiative to be a leader in financial technology.

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Live Oak Private Wealth provides high-net-worth individuals and families with strategic wealth and investment management services.

During the first quarter of 2022, Jolley Asset Management, LLC (“JAM”) was merged into Live Oak Private Wealth.

JAM was previously a wholly owned subsidiary of Live Oak Private Wealth.

TLH was formed in the third quarter of 2022 to hold land adjacent to the Bank's headquarters consisting of wetlands and other protected property for the use and enjoyment of the Bank's employees and customers.

The Company generates revenue primarily from net interest income and secondarily through origination and sale of government guaranteed loans.

TLH holds land adjacent to the Bank's headquarters consisting of wetlands and other protected property for the use and enjoyment of the Bank's employees and customers.

The Company generates revenue primarily from net interest income and secondarily through the origination and sale of government guaranteed loans.

Income from the retention of loans is comprised principally of interest income.

Income from the sale of loans is comprised of loan servicing revenue and revaluation of related servicing assets along with net gains on sales of loans.

Offsetting these revenues are the cost of funding sources, provision for loan and lease credit losses, any costs related to foreclosed assets and other operating costs such as salaries and employee benefits, travel, professional services, advertising and marketing and tax expense.

Offsetting these revenues are the cost of funding sources, provision for credit losses, any costs related to foreclosed assets and other operating costs such as salaries and employee benefits, travel, professional services, advertising and marketing and tax expense.

The Company also has less routinely generated gains and losses arising from its financial technology investments predominantly in its Fintech segment, as discussed more fully later in this section under the caption “Results of Segment Operations.”

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Performance Summary

Three months ended March 31, 2024 compared with three months ended March 31, 2023

For the three months ended March 31, 2024, the Company reported net income of $27.6 million, or $0.60 per diluted share, compared to net income of $398 thousand, or $0.01 per diluted share, for the first quarter of 2023.

Three months ended June 30, 2024 compared with three months ended June 30, 2023

For the three months ended June 30, 2024, the Company reported net income of $27.0 million, or $0.59 per diluted share, compared to net income of $17.5 million, or $0.39 per diluted share, for the second quarter of 2023.

The increase in net income was principally due to the following items:

• Increase in net interest income of $8.1 million, or 9.9%, driven by increases in loan volumes, partially mitigated by a decrease in net interest margin arising from an increase in interest-bearing deposits combined with the increase in average cost of funds outpacing the average yield on interest-earning assets;

• Provision for loan and lease credit losses decreased by $2.7 million to $16.4 million, compared to $19.0 million for the first quarter of 2023;

• A $4.3 million decrease in the net loss on loans accounted for under the fair value option;

• Increased other noninterest income of $5.7 million, or 140.1%, largely related to a gain arising from increased fair value of equity warrant assets associated with the Company’s wine & craft beverage vertical.

• Decrease in income tax expense of $8.7 million, from $3.2 million in the first quarter of 2023, to an income tax benefit of $5.5 million for the first quarter of 2024.

This decrease was largely the result of an additional $10.6 million in investment tax credits related to the Company's fourth quarter of 2023 renewable energy investment that became eligible for an extra 10% in tax credits in the first quarter of 2024.

Key factors partially offsetting the increase in net income for the first quarter of 2024 were decreased loan servicing asset revaluation income of $3.1 million, increased equity method investment losses of $2.1 million and increased salaries and employee benefits of $2.5 million.

• Increase in net interest income of $7.0 million, or 8.3%, driven by increases in loan volumes, partially mitigated by a decrease in net interest margin arising from an increase in interest-bearing deposits and borrowings combined with the increase in average cost of funds outpacing the increase in average yield on interest-earning assets;

• Increased other noninterest income of $7.1 million, largely related to a $6.7 million gain arising from the sale of one of the Company’s aircraft in the second quarter of 2024.

The key factor partially offsetting the increase in net income for the second quarter of 2024 was increased income tax expense of $7.7 million, primarily the result of the combination of increased pretax income and lower levels of anticipated investment tax credits in 2024 as compared to the prior year.

Six months ended June 30, 2024 compared with six months ended June 30, 2023

For the six months ended June 30, 2024, the Company reported net income of $54.5 million, or $1.20 per diluted share, compared to net income of $17.9 million, or $0.40 per diluted share, for the first half of 2023.

The increase in net income was largely due to the following items:

• Increase in net interest income of $15.1 million, or 9.1%, principally the result of the above discussed drivers of the quarter over quarter increase;

• Increased net gains on sales of loans of $4.9 million, or 23.4%, principally the result of higher loan sale volumes combined with improving premiums in the first half of 2024;

• Increased other noninterest income of $12.8 million, largely related to above mentioned gain arising from the sale of one of the Company’s aircraft in the second quarter of 2024 combined with the $5.7 million first quarter of 2024 gain arising from the increased fair value of a certain equity warrant asset.

The key factor partially offsetting the increase in net income for the first half of 2024 was increased salaries and employee benefits of $5.7 million.

Net Interest Income and Margin

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Due to the nature of a branchless bank and the relatively low overhead required for deposit gathering, the rates that the Bank offers are generally above the industry average.

Three months ended March 31, 2024 compared with three months ended March 31, 2023

For the three months ended March 31, 2024, net interest income increased $8.1 million, or 9.9%, to $90.1 million compared to $82.0 million for the three months ended March 31, 2023.

Three months ended June 30, 2024 compared with three months ended June 30, 2023

For the three months ended June 30, 2024, net interest income increased $7.0 million, or 8.3%, to $91.3 million compared to $84.3 million for the three months ended June 30, 2023.

This increase was principally due to the growth in the held for investment loan and lease portfolio outpacing growth in interest-bearing liabilities offset by an increase in average cost of funds which exceeded the increase in average yield on interest-earning assets.

Average interest-earning assets increased by $1.28 billion, or 13.4%, to $10.89 billion for the first quarter of 2024, compared to $9.61 billion for the first quarter of 2023, while the yield on average interest-earning assets increased 72 basis points to 7.11%.

The cost of funds on interest-bearing liabilities for the first quarter of 2024 increased 96 basis points to 4.07% and the average balance of interest-bearing liabilities increased by $1.06 billion, or 11.8%, over the first quarter of 2023.

As indicated in the rate/volume table below, the overall increase discussed above is reflected in increased interest income of $41.0 million outpacing growth in interest expense of $32.9 million for the first quarter of 2024 compared to the first quarter of 2023.

The net interest margin decreased from 3.46% for the first quarter of 2023 to 3.33% for the first quarter of 2024.

During the three months ended March 31, 2024, the Federal Reserve decided to maintain the federal funds upper target rate at 5.5%.

In March 2024, the Federal Reserve released its most current federal funds target rate midpoint projections which maintained a median Federal Funds rate of 4.6% by the end of 2024 and a decrease of approximately 70 basis points to 3.9% by the end of 2025.

Average interest-earning assets increased by $930.3 million, or 9.1%, to $11.20 billion for the second quarter of 2024, compared to $10.27 billion for the second quarter of 2023, while the yield on average interest-earning assets increased 49 basis points to 7.12%.

The cost of funds on interest-bearing liabilities for the second quarter of 2024 increased 56 basis points to 4.15% and the average balance of interest-bearing liabilities increased by $859.8 million, or 9.0%, over the second quarter of 2023.

The increase in cost of funds was partially driven by a full quarter’s worth of interest expense on the $100.0 million incremental borrowing added in late first quarter of 2024.

As indicated in the rate/volume analysis below, the overall increase discussed above is reflected in increased interest income of $28.7 million outpacing growth in interest expense of $21.7 million for the second quarter of 2024 compared to the second quarter of 2023.

The net interest margin decreased from 3.29% for the second quarter of 2023 to 3.28% for the second quarter of 2024.

Six months ended June 30, 2024 compared with six months ended June 30, 2023

For the six months ended June 30, 2024, net interest income increased $15.1 million, or 9.1%, to $181.4 million compared to $166.3 million for the six months ended June 30, 2023.

Average interest-earning assets increased by $1.05 billion, or 10.5%, to $11.05 billion for the first half of 2024, compared to $9.99 billion for the first half of 2023, while the yield on average interest-earning assets increased 63 basis points to 7.11%.

The cost of funds on interest-bearing liabilities for the first half of 2024 increased 75 basis points to 4.11%, and the average balance of interest-bearing liabilities increased by $959.6 million, or 10.3%, over the first half of 2023.

The increase in cost of funds was largely influenced by repricing of short-term certificates of deposit with the average cost of funds increasing from 3.02% for the first half of 2023 to 4.12% for the first half of 2024.

The increase in average interest-bearing liabilities was largely driven by funding for significant loan originations and growth as well as maintenance of the Company's target liquidity profile.

As indicated in the rate/volume analysis below, the overall increase discussed above is reflected in increased interest income of $69.7 million outpacing growth in interest expense of $54.6 million for the first half of 2024 compared to the first half of 2023.

The net interest margin decreased from 3.36% for the first half of 2023 to 3.30% for the first half of 2024.

During the six months ended June 30, 2024 and in July 2024, the Federal Reserve decided to maintain the federal funds upper target rate at 5.5%.

In June 2024, the Federal Reserve released its most current federal funds target rate midpoint projections which implied an increase of the median Federal Funds rate to 5.1% by the end of 2024 and a decrease of approximately 100 basis points to 4.1% by the end of 2025.

There can be no assurance that any further increases or decreases in the Federal Funds rate will occur, and if they do, the amount and timing of actual adjustments are subject to change.

4 unchanged sentences

Loan fees are included in interest income on loans.

Three Months Ended March 31,

Three Months Ended June 30,

Balance Interest Average

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Interest-earning balances in other banks $ 555,570 $ 7,389 5.35 % $ 731,427 $ 8,847 4.85 %

Investment securities 1,263,675 9,219 2.93 1,252,320 8,503 2.72

Loans held for sale 387,824 9,329 9.67 516,378 12,153 9.44

Loans and leases held for investment (1)

8,997,164 172,511 7.71 7,773,816 140,209 7.23

Total interest-earning assets 11,204,233 198,448 7.12 10,273,941 169,712 6.63

Allowance for credit losses on loans and leases

(136,668) (108,552)

Noninterest-earning assets 562,488 499,661

Total assets $ 11,630,053 $ 10,665,050

Interest-bearing liabilities:

Interest-bearing checking $ 304,505 $ 4,267 5.64 % $ 300,046 $ 3,968 5.30 %

Savings 4,804,037 48,617 4.07 4,277,850 41,930 3.93

Money market accounts 128,625 186 0.58 121,382 184 0.61

Certificates of deposit 5,032,856 52,288 4.18 4,792,289 38,921 3.26

Total deposits 10,270,023 105,358 4.13 9,491,567 85,003 3.59

Borrowings 119,321 1,770 5.97 37,997 407 4.30

Total interest-bearing liabilities 10,389,344 107,128 4.15 9,529,564 85,410 3.59

Noninterest-bearing deposits 223,026 205,741

Noninterest-bearing liabilities 70,667 80,427

Shareholders' equity 947,016 849,318

Total liabilities and shareholders' equity

$ 11,630,053 $ 10,665,050

Net interest income and interest rate spread

$ 91,320 2.97 % $ 84,302 3.04 %

Net interest margin 3.28 % 3.29 %

Ratio of average interest-earning assets to average interest-bearing liabilities

107.84 % 107.81 %

(1) Average loan and lease balances include non-accruing loans and leases.

Six Months Ended June 30,

Interest Average

Interest-earning assets:

Interest-earning balances in other banks $ 550,608 $ 14,845 5.42 % $ 530,205 $ 12,040 4.58 %

Federal funds sold — — — 69,629 1,624 4.70

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For purposes of this table, increases or decreases attributable to changes in both rate and volume that cannot be segregated have been allocated proportionally based on the changes due to rate and the changes due to volume.

Three Months Ended March 31,

Increase (Decrease) Due to

Rate Volume Total

Three Months Ended June 30, Six Months Ended June 30,

2023 2024 vs.

Increase (Decrease) Due to Increase (Decrease) Due to

Rate Volume Total Rate Volume Total

Interest income:

13 unchanged sentences

Net interest income $ (1,951) $ 8,969 $ 7,018 $ (3,174) $ 18,286 $ 15,112

Provision for Loan and Lease Credit Losses

The provision for loan and lease credit losses represents the amount necessary to be charged against the current period’s earnings to maintain the allowance for credit losses (“ACL”) on loans and leases at a level that the Company believes is appropriate in relation to the estimated losses inherent in the loan and lease portfolio.

Provision for Credit Losses

The provision for credit losses represents the amount necessary to be charged against the current period’s earnings to maintain the allowance for credit losses (“ACL”) on loans and leases at a level that the Company believes is appropriate in relation to the estimated losses inherent in the loan and lease portfolio.

Losses inherent in loan relationships are mitigated if a portion of the loan is guaranteed by the SBA or USDA.

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The Company believes that its focus on compliance with regulations and guidance from the SBA and USDA are key factors to managing this risk.

For the first quarter of 2024, there was a provision for loan and lease credit losses of $16.4 million compared to $19.0 million for the same period in 2023, a decrease of $2.7 million.

The decrease in provision expense as compared to the first quarter of 2023 was primarily the result of moderating effects arising from the combination of lower comparative levels of loan growth and charge-off impacts.

Loans and leases held for investment at historical cost were $8.53 billion as of March 31, 2024, increasing by $1.31 billion, or 18.2%, compared to March 31, 2023.

Net charge-offs for loans and leases carried at historical cost were $3.2 million, or 0.15% of average quarterly loans and leases held for investment, carried at historical cost, on an annualized basis, for the three months ended March 31, 2024, compared to net charge-offs of $6.7 million, or 0.38%, for the three months ended March 31, 2023.

For the second quarter of 2024, there was a provision for credit losses of $11.8 million compared to $13.0 million for the same period in 2023, a decrease of $1.3 million.

For the first six months of 2024, there was a provision for credit losses of $28.1 million compared to $32.0 million for the same period in 2023, a decrease of $3.9 million.

The decrease in provision expense as compared to the second quarter and first six months of 2023 was primarily the result of decreased specific reserves required for loans individually evaluated for impairment.

Beginning in the second quarter of 2024 and prospectively, the reserve for unfunded commitments was classified in the provision for credit losses.

This expense has historically been classified in other expense and that classification remains unchanged for prior periods.

The reclassification to provision aligns with industry practices.

Commitments and Contingencies in the accompanying Notes to the Unaudited Condensed Consolidated Financial Statements for the amount of expense recognized in comparative periods.

Loans and leases held for investment at historical cost were $8.81 billion as of June 30, 2024, increasing by $1.41 billion, or 19.1%, compared to June 30, 2023.

Net charge-offs for loans and leases carried at historical cost were $8.3 million, or 0.38% of average quarterly loans and leases held for investment, carried at historical cost, on an annualized basis, for the three months ended June 30, 2024, compared to net charge-offs of $1.2 million, or 0.06%, for the three months ended June 30, 2023, an increase of $7.1 million, or 615.2%.

The increase in net charge-offs compared to the second quarter of 2023 was primarily related to the confirmation of impairments identified in the first quarter of 2024, largely concentrated to the Company's Small Business Banking class.

For the six months ended June 30, 2024 , net charge-offs totaled $11.4 million compared to $7.8 million for the six months ended June 30, 2023 , an increase of $3.6 million, or 45.9%.

Net charge-offs are a key element of historical experience in the Company's estimation of the allowance for credit losses on loans and leases.

In addition, nonperforming loans and leases not guaranteed by the SBA or USDA, excluding $7.9 million and $8.2 million accounted for under the fair value option at March 31, 2024 and 2023, respectively, totaled $43.1 million, which was 0.51% of the held for investment loan and lease portfolio carried at historical cost at March 31, 2024, compared to $22.0 million, or 0.30% of loans and leases held for investment carried at historical cost at March 31, 2023.

In addition, nonperforming loans and leases not guaranteed by the SBA or USDA, excluding $9.6 million and $8.6 million accounted for under the fair value option at June 30, 2024 and 2023, respectively, totaled $37.3 million, which was 0.42% of the held for investment loan and lease portfolio carried at historical cost at June 30, 2024, compared to $44.9 million, or 0.61% of loans and leases held for investment carried at historical cost at June 30, 2023.

Noninterest Income

2 unchanged sentences

In addition, the loan servicing revaluation is significantly impacted by changes in market rates and other underlying assumptions such as prepayment speeds and default rates.

Net (loss) gain on loans accounted for under the fair value option is also significantly impacted by changes in market rates, prepayment speeds and inherent credit risk.

Net gain (loss) on loans accounted for under the fair value option is also significantly impacted by changes in market rates, prepayment speeds and inherent credit risk.

Other less consistent elements of noninterest income include gains and losses on investments.

The following table shows the components of noninterest income and the dollar and percentage changes for the periods presented.

Three Months Ended March 31, 2024/2023 Increase (Decrease)

Three Months Ended June 30, 2024/2023 Increase (Decrease)

2024 2023 Amount Percent

3 unchanged sentences

Net gains on sales of loans 14,395 10,804 3,591 33.2

Net gain on loans accounted for under the fair value option

172 1,728 (1,556) (90.0)

Equity method investments (loss) income (1,767) (2,055) 288 14.0

Equity security investments gains (losses), net 161 121 40 33.1

Lease income 2,423 2,535 (112) (4.4)

Management fee income 3,271 3,266 5 0.2

Other noninterest income 11,035 3,901 7,134 182.9

Total noninterest income $ 34,159 $ 24,156 $ 10,003 41.4 %

Six Months Ended June 30, 2024/2023 Increase (Decrease)

2024 2023 Amount Percent

Noninterest income

Loan servicing revenue $ 14,971 $ 13,067 $ 1,904 14.6 %

Loan servicing asset revaluation (5,622) (2,475) (3,147) (127.2)

Net gains on sales of loans 25,897 20,979 4,918 23.4

Net loss on loans accounted for under the fair value option

(47) (2,801) 2,754 98.3

Equity method investments (loss) income (6,789) (5,007) (1,782) (35.6)

Equity security investments (losses) gains, net (529) 77 (606) (787.0)

Equity security investments gains (losses), net (368) 198 (566) (285.9)

Lease income 4,876 5,070 (194) (3.8)

2 unchanged sentences

Total noninterest income $ 60,256 $ 43,735 $ 16,521 37.8 %

For the three months ended March 31, 2024, noninterest income increased by $6.5 million, or 33.3%, compared to the three months ended March 31, 2023.

The increase over the prior year is primarily a result of a $4.3 million decrease in the net loss on loans accounted for under the fair value option combined with increased other noninterest income of $5.7 million, largely related to a gain arising from increased fair value of equity warrant assets associated with the Company’s wine & craft beverage vertical.

Partially offsetting the increase over the first quarter of 2023 was a $3.1 million incremental net loss related to the loan servicing asset revaluation combined with increased equity method investment losses of $2.1 million, principally related to heightened levels of underlying losses in several of the Company’s equity method investees.

The following table reflects loan and lease production, sales of guaranteed loans and the aggregate balance in guaranteed loans sold.

For the three months ended June 30, 2024, noninterest income increased by $10.0 million, or 41.4%, compared to the three months ended June 30, 2023.

The increase over the prior year is primarily a result of higher net gains on sales of loans of $3.6 million combined with increased other noninterest income of $7.1 million, largely related to a $6.7 million gain arising from the sale of one of the Company’s aircraft in the second quarter of 2024.

For the six months ended June 30, 2024, noninterest income increased by $16.5 million, or 37.8%, compared to the six months ended June 30, 2023.

The increase over the prior year is primarily a result of of higher net gains on sales of loans of $4.9 million combined with a $2.8 million decrease in the net loss on loans accounted for under the fair value option and increased other noninterest income of $12.8 million.

The increase in other noninterest income was largely related to the above mentioned gain arising from the sale of one of the Company’s aircraft combined with the $5.7 million first quarter of 2024 gain arising from the increased fair value of a certain equity warrant asset.

Partially offsetting the increase over the prior year to date period was higher losses of $3.1 million related to the servicing asset revaluation.

The following tables reflects loan and lease production, sales of guaranteed loans and the aggregate balance in guaranteed loans sold.

These components are key drivers of the Company's noninterest income.

Three Months Ended March 31, For years ended December 31,

Three months ended June 30, Three months ended March 31,

2024 2023 2024 2023

Amount of loans and leases originated $ 1,171,141 $ 861,033 $ 805,129 $ 1,030,882

Guaranteed portions of loans sold 250,466 245,074 186,654 167,826

Outstanding balance of guaranteed loans sold (1)

3,177,629 2,808,200 3,057,641 2,695,757

Six Months Ended June 30, For years ended December 31,

2024 2023 2023 2022 2021 2020

Amount of loans and leases originated

$ 1,976,270 $ 1,891,915 $ 3,946,873 $ 4,007,621 $ 4,480,725 $ 4,450,198

Guaranteed portions of loans sold

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The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as adequate compensation for servicing, the discount rate, the custodial earnings rate, ancillary income, prepayment speeds and default rates and losses, with the prepayment speeds and default rates and losses, with prepayment speed and discount rate being the most sensitive assumptions.

For the three months ended March 31, 2024, there was a net loss on loan servicing asset revaluation of $2.7 million, compared to a net gain of $356 thousand for the three months ended March 31, 2023, resulting in a negative comparative quarter change of $3.1 million.

The decrease in the valuation of the servicing asset compared to the three months ended March 31, 2023 was principally the result of increasing market prepayment speeds in the first quarter of 2024 while the net gain in the first quarter of 2023 was the result of positive movements in market premiums.

In the third-quarter of 2023, the Company changed its valuation techniques in the estimation of fair value for servicing assets and loans accounted for under the fair value option.

Net Loss on Loans Accounted for Under the Fair Value Option :

For the three months ended March 31, 2024, the Company had a net loss on loans accounted for under the fair value option of $219 thousand compared to a net loss of $4.5 million for the first quarter of 2023, a positive change of $4.3 million, or 95.2%.

The carrying amount of loans accounted for under the fair value option at March 31, 2024 and 2023 was $379.2 million (all classified as held for investment) and $467.0 million (all classified as held for investment), respectively, a decrease of $87.7 million, or 18.8%.

The net loss in the valuation of loans accounted for under the fair value option in the first quarter of 2024 was largely the result of the above discussed increased levels of market prepayment speeds while the net loss in the first quarter of 2023 was the result of negative market impacts related to rising interest rates.

For the three months ended June 30, 2024, there was a net loss on loan servicing asset revaluation of $2.9 million, compared to a net loss of $2.8 million for the three months ended June 30, 2023.

For the six months ended June 30, 2024, there was a net loss on loan servicing asset revaluation of $5.6 million compared to a net loss of $2.5 million for the six months ended June 30, 2023, resulting in a negative change of $3.1 million.

The increase in the net loss in valuation of the servicing asset compared to the first half of 2023 was principally the result of the third quarter of 2023 change in valuation techniques used to estimate the fair value of servicing rights.

Net Gains on Sales of Loans:

For the three months ended June 30, 2024, net gains on sales of loans increased $3.6 million, or 33.2%, compared to the three months ended June 30, 2023.

The volume of guaranteed loans sold increased $5.4 million, or 2.2%, for the three months ended June 30, 2024 to $250.5 million from $245.1 million in the three months ended June 30, 2023.

For the six months ended June 30, 2024, net gains on sales of loans increased $4.9 million, or 23.4%, compared to the six months ended June 30, 2023.

For the six months ended June 30, 2024, the volume of guaranteed loans sold increased $24.2 million, or 5.9%, to $437.1 million from $412.9 million for the six months ended June 30, 2023.

The average net gain on loan sale premium increased from 105% to 106% in the second quarters of 2023 and 2024, respectively, and remained relatively stable at 106% in the first half of both 2023 and 2024.

The increase in net gains on sales of loans over the second quarter of 2023 was principally the result of higher premiums while the increase over the first half of 2023 was principally related to a higher loan sale volume combined with, to a lesser extent, improving premiums in the first half of 2024 .

Net Gain (Loss) on Loans Accounted for Under the Fair Value Option :

For the three months ended June 30, 2024, the Company had a net gain on loans accounted for under the fair value option of $172 thousand compared to a net gain of $1.7 million for the second quarter of 2023, a negative change of $1.6 million, or 90.0%.

For the six months ended June 30, 2024, the Company had a net loss on loans accounted for under the fair value option of $47 thousand compared to a net loss of $2.8 million for the same period of 2023, a positive change of $2.8 million, or 98.3%.

The carrying amount of loans accounted for under the fair value option at June 30, 2024 and 2023 was $363.0 million (all classified as held for investment) and $441.8 million (all classified as held for investment), respectively, a decrease of $78.8 million, or 17.8%.

The decrease in net loss in the valuation of loans accounted for under the fair value option in the first half of 2024 was largely the result of improvement in market conditions combined with the third quarter 2023 change in valuation techniques used to estimate the fair value of loans.

Noninterest Expense

1 unchanged sentence

The following table shows the components of noninterest expense and the related dollar and percentage changes for the periods presented.

Three Months Ended March 31, 2024/2023 Increase (Decrease)

Three Months Ended June 30, 2024/2023 Increase (Decrease)

2024 2023 Amount Percent

9 unchanged sentences

Other loan origination and maintenance expense 3,659 3,442 217 6.3

Renewable energy tax credit investment (recovery) impairment (927) 69 (996) (1,443.5)

Renewable energy tax credit investment impairment (recovery) 170 — 170 100.0

FDIC insurance 2,649 5,061 (2,412) (47.7)

2 unchanged sentences

Total noninterest expense $ 77,656 $ 76,457 $ 1,199 1.6 %

Total noninterest expense for the three months ended March 31, 2024, decreased $1.2 million, or 1.6%, compared to the three months ended March 31, 2023.

The decrease in noninterest expense for the comparable three month period was largely driven by various components, as discussed below.

Six Months Ended June 30, 2024/2023 Increase (Decrease)

2024 2023 Amount Percent

Noninterest expense

Salaries and employee benefits $ 93,530 $ 87,831 $ 5,699 6.5 %

Total personnel expense for the three months ended March 31, 2024 increased $2.5 million, or 5.6%, compared to the same period in 2023.

The increase over the first three months of 2023 is principally related to continued investment in human resources to support strategic and growth initiatives.

Total full-time equivalent employees decreased from 968 at March 31, 2023, to 962 at March 31, 2024.

Salaries and employee benefits expense included $6.4 million of stock-based compensation for the three months ended March 31, 2024, compared to $6.2 million for the three months ended March 31, 2023.

Non-employee expenses:

Travel expense 4,766 5,181 (415) (8.0)

Professional services expense 4,939 2,923 2,016 69.0

Advertising and marketing expense 6,696 6,612 84 1.3

Occupancy expense 4,635 4,130 505 12.2

Technology expense 15,719 15,734 (15) (0.1)

Equipment expense 6,585 7,841 (1,256) (16.0)

Other loan origination and maintenance expense 7,570 7,369 201 2.7

Renewable energy tax credit investment impairment (recovery) (757) 69 (826) (1,197.1)

FDIC insurance 5,849 8,464 (2,615) (30.9)

Other expense 5,861 9,265 (3,404) (36.7)

Total non-employee expenses 61,863 67,588 (5,725) (8.5)

Total noninterest expense $ 155,393 $ 155,419 $ (26) — %

Total noninterest expense for the three and six months ended June 30, 2024, increased $1.2 million, or 1.6%, and decreased $26 thousand, respectively, compared to the same periods in 2023.

The changes within noninterest expense for the comparable three and six month periods was largely driven by various components, as discussed below.

Salaries and employee benefits :

Total personnel expense for the three and six months ended June 30, 2024 increased by $3.2 million, or 7.4%, and increased by $5.7 million, or 6.5%, respectively, compared to the same periods in 2023.

The increase over both comparative periods of 2023 is principally related to continued investment in human resources to support strategic and growth initiatives.

Total full-time equivalent employees increased from 984 at June 30, 2023, to 987 at June 30, 2024.

Salaries and employee benefits expense included $6.8 million and $13.2 million of stock-based compensation for the three and six months ended June 30, 2024, respectively, compared to $6.3 million and $12.5 million for the three and six months ended June 30, 2023, respectively.

Expenses related to the employee stock purchase program, stock grants, stock option compensation and restricted stock expense are all considered stock-based compensation.

Professional services expense:

For the three and six months ended June 30, 2024, professional services expense increased $1.1 million, or 53.4%, and $2.0 million, or 69.0%, respectively, compared to the same periods in 2023.

The increase compared to the prior periods was due to higher levels of legal fees partially offset by an insurance recovery of $1.3 million in the first quarter of 2023.

FDIC insurance:

For the three and six months ended June 30, 2024, FDIC insurance decreased $2.4 million, or 47.7%, and $2.6 million, or 30.9%, respectively, compared to the same periods in 2023.

This decrease is largely the the product of favorable changes in the Company’s FDIC assessment rates.

Other expense :

For the three months ended March 31, 2024, other expense decreased $3.2 million, or 49.5%, compared to the same period in 2023, largely related to $1.8 million in higher levels of reserves on unfunded commitments in the three months ended March 31, 2023.

This increase in the reserve for unfunded commitments in the first quarter of 2023 was largely a result of refinements to the estimation assumptions.

For the six months ended June 30, 2024, other expense decreased $3.4 million, or 36.7%, compared to the same period in 2023.

This decrease was largely related to reserves for unfunded commitments, historically being recorded in other expense.

Beginning in the second quarter of 2024, this expense was classified in the provision for credit losses.

See above section captioned “Provision for Credit Losses” for more information related to this change.

Income Tax Expense

For the three months ended March 31, 2024, income tax benefit was $5.5 million compared to income tax expense of $3.2 million in the first quarter of 2023, and the Company’s effective tax rates were (24.8%) and 89.0%, respectively.

The lower level of income tax expense for the first quarter of 2024 as compared to the first quarter of 2023 was largely the result of an additional $10.6 million in investment tax credits related to the Company's fourth quarter of 2023 renewable energy investment that became eligible for an extra 10% in tax credits in the first quarter of 2024.

The trigger for this first quarter 2024 additional eligibility was the result of the March 22, 2024 Internal Revenue Service (“IRS”) Notice 2024-30, which expanded the list of geographic areas which qualify for increased investment tax credit levels.

The location of the underlying renewable energy project was an addition to the recent IRS Notice.

Partially offsetting this decrease was increased pretax income during the current period.

For the three months ended June 30, 2024, income tax expense was $9.1 million compared to income tax expense of $1.4 million in the second quarter of 2023, and the Company’s effective tax rates were 25.2% and 7.5%, respectively.

For the six months ended June 30, 2024, income tax expense was $3.6 million compared to $4.6 million for the first half of 2023, and the Company’s effective tax rates were 6.2% and 20.6%, respectively.

The higher level of income tax expense for the second quarter of 2024 as compared to the second quarter of 2023 was primarily the result of the combination of increased pretax income and lower levels of anticipated investment tax credits in 2024 as compared to the prior year.

The lower level of income tax expense in the first half of 2024 compared to the same period in 2023 was principally related to $10.6 million in increased levels of investment tax credits in the first quarter of 2024, arising from the Internal Revenue Service’s expansion of qualifying energy communities during that quarter in combination with discrete items in the first quarter of 2023 related to stock compensation.

Results of Segment Operations

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Net income (loss) by operating segment is presented below:

Three Months Ended March 31,

Three Months Ended June 30, Six Months Ended June 30,

2024 2023 2024 2023

Banking $ 30,190 $ 19,623 $ 59,897 $ 22,011

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Consolidated net income $ 26,963 $ 17,544 $ 54,549 $ 17,942

For the three months ended March 31, 2024, net income increased $27.3 million compared to the same period of 2023.

For the three and six months ended June 30, 2024, net income increased $10.6 million and $37.9 million, respectively, compared to the same periods of 2023.

Key factors influencing these changes are discussed below.

For the three months ended March 31, 2024, net interest income increased $8.1 million, or 9.8% compared to the same period of 2023.

For the three and six months ended June 30, 2024, net interest income increased $8.5 million, or 10.1%, and $16.6 million, or 10.0%, respectively, compared to the same periods of 2023.

See above section captioned “Net Interest Income and Margin” as it is principally related to the Banking segment.

The provision for loan and lease credit losses for the three months ended March 31, 2024, decreased $2.7 million.

See the analysis of provision for loan and lease credit losses included in the above section captioned “Provision for Loan and Lease Credit Losses” as it is entirely related to the Banking segment.

For the three months ended March 31, 2024, noninterest income increased $8.2 million, or 48.0%, compared to the same period of 2023.

The increase for the three month comparative period was principally driven by an incremental decline in the net loss on loans accounted for at fair value of $4.3 million combined with the previously discussed gain of $5.7 million included in other noninterest income arising from increased fair value of equity warrant assets.

Partially offsetting these three month contributors to increased noninterest income was incremental net losses on the loan servicing asset revaluation of $3.1 million.

The provision for credit losses for the three and six months ended June 30, 2024, decreased $1.3 million, or 9.7%, and $3.9 million, or 12.2%, respectively.

See the analysis of provision for credit losses included in the above section captioned “Provision for Credit Losses” as it is entirely related to the Banking segment.

For the three and six months ended June 30, 2024, noninterest income increased $10.7 million, or 49.8%, and $18.9 million, or 49.0%, respectively, compared to the same periods of 2023.

The increase for the three and six month comparative periods was principally driven by increased net gains on sales of loans combined with increased levels of other noninterest income.

Also contributing to the comparative change over the first half of 2023 was decreased net losses on loans accounted for under the fair value option and higher levels of losses on the loan servicing asset revaluation.

See the analysis of these categories of noninterest income included in the above section captioned “Noninterest Income” for additional discussion.

For the three months ended March 31, 2024, income tax expense decreased $7.0 million compared to the same period of 2023.

The decrease compared to the first quarter of 2023 was largely the result of an additional $10.6 million in investment tax credits related to the Company's fourth quarter of 2023 renewable energy investment that became eligible for increased tax credits in the first quarter of 2024.

See the above section captioned “Income Tax Expense” for further discussion around the increased investment tax credits.

For the three months ended March 31, 2024, net income decreased by $1.0 million compared to same period of 2023.

For the three and six months ended June 30, 2024, income tax expense increased $8.8 million and $1.8 million, respectively, compared to the same periods of 2023.

The increase compared to the three months ended June 30, 2023 was largely the result of increased pretax income and lower levels of anticipated investment tax credits in 2024 as compared to the prior year.

See the above section captioned “Income Tax Expense” for further discussion.

For the three and six months ended June 30, 2024, net income decreased by $452 thousand and $1.5 million, respectively, compared to same periods of 2023.

This decrease was largely related to increased equity method and equity security investment losses.

Discussion and Analysis of Financial Condition

March 31, 2024 vs.

June 30, 2024 vs.

December 31, 2023

Total assets at March 31, 2024 were $11.51 billion, an increase of $234.1 million, or 2.1%, compared to total assets of $11.27 billion at December 31, 2023.

The growth in total assets was principally driven by the growth in total loans and leases held for investment and held for sale of $202.4 million, or 2.2%, during the first three months of 2024, from $9.02 billion at December 31, 2023, to $9.22 billion at March 31, 2024.

This growth was a result of strong origination activity during the first three months of 2024 of $805.1 million.

Total deposits were $10.38 billion at March 31, 2024, an increase of $108.3 million, or 1.1%, from $10.28 billion at December 31, 2023.

Total assets at June 30, 2024 were $11.87 billion, an increase of $597.1 million, or 5.3%, compared to total assets of $11.27 billion at December 31, 2023.

The growth in total assets was principally driven by the growth in total loans and leases held for investment of $538.3 million, or 6.2%, during the first six months of 2024, from $8.63 billion at December 31, 2023, to $9.17 billion at June 30, 2024.

This growth was a result of strong origination activity during the first six months of 2024 of $1.98 billion.

Total deposits were $10.71 billion at June 30, 2024, an increase of $432.0 million, or 4.2%, from $10.28 billion at December 31, 2023.

The increase in total deposits from the prior period was to support growth in the loan and lease portfolio as well as the Company's targeted liquidity levels.

At March 31, 2024, the Bank’s total uninsured deposits were approximately $1.47 billion, or 14.0%, of total deposits.

Borrowings increased to $120.2 million at March 31, 2024, from $23.4 million at December 31, 2023.

At June 30, 2024, the Bank’s total uninsured deposits were approximately $1.56 billion, or 14.4%, of total deposits.

Borrowings increased to $117.7 million at June 30, 2024, from $23.4 million at December 31, 2023.

This increase was principally due to entering into a new loan agreement in the first quarter of 2024 to strategically enhance Bank capital levels in order to accommodate future growth expectations.

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In the first quarter of 2023, the Company and the Bank each first exceeded $10 billion in total assets.

As of March 31, 2024, the Company and the Bank each had total assets of $11.51 billion and $11.42 billion, respectively.

As of June 30, 2024, the Company and the Bank each had total assets of $11.87 billion and $11.79 billion, respectively.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and its implementing regulations impose various additional requirements on bank holding companies and banks with $10 billion or more in total consolidated assets.

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This provision becomes applicable to a bank following the fourth consecutive quarter where the total assets of the bank, as reported in its quarterly Call Report, exceed $10 billion and afterwards remains applicable to the bank unless the bank has reported total assets of $10 billion or less in its quarterly Call Report for four consecutive quarters.

This provision is became applicable to the Bank in the first quarter of 2024.

This provision became applicable to the Bank in the first quarter of 2024.

Deposit Insurance Assessments.

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construction, land development, multifamily property and nonfarm, nonresidential real property.

The following table provides information with respect to commercial real estate loans as of March 31, 2024.

The following table provides information with respect to commercial real estate loans as of June 30, 2024.

Guaranteed Unguaranteed Total (1)

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Typically, collections of interest and principal received on a nonaccrual loan or lease are applied to the outstanding principal as determined at the time of collection of the loan or lease.

Nonperforming assets, including loans measured at fair value, at March 31, 2024 were $215.3 million, which represented a $23.1 million, or 12.0%, increase from December 31, 2023.

These nonperforming assets at March 31, 2024 were comprised of $206.7 million in nonaccrual loans and leases and $8.6 million in foreclosed assets.

Of the $206.7 million of nonperforming assets, $158.7 million carried a government guarantee, leaving an unguaranteed exposure of $56.6 million in total nonperforming assets at March 31, 2024.

This represents an increase of $5.4 million, or 10.5%, from an unguaranteed exposure of $51.2 million at December 31, 2023.

Nonperforming assets, including loans measured at fair value, at June 30, 2024 were $231.6 million, which represented a $39.4 million, or 20.5%, increase from December 31, 2023.

These nonperforming assets at June 30, 2024 were comprised of $223.6 million in nonaccrual loans and leases and $8.0 million in foreclosed assets.

Of the $223.6 million of nonperforming assets, $179.8 million carried a government guarantee, leaving an unguaranteed exposure of $51.8 million in total nonperforming assets at June 30, 2024.

This represents an increase of $646 thousand, or 1.3%, from an unguaranteed exposure of $51.2 million at December 31, 2023.

The following table provides information with respect to nonperforming assets, excluding loans measured at fair value, at the dates indicated.

March 31, 2024 (1)

June 30, 2024 (1)

December 31, 2023 (1)

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(1) Excludes loans measured at fair value.

March 31, 2024 (1)

June 30, 2024 (1)

December 31, 2023 (1)

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(1) Excludes loans measured at fair value.

Nonperforming assets, excluding loans measured at fair value, at March 31, 2024 were $157.0 million, which represented a $15.6 million, or 11.0%, increase from December 31, 2023.

These nonperforming assets at March 31, 2024 were comprised of $148.5 million in nonaccrual loans and leases and $8.6 million in foreclosed assets.

Of the $157.0 million of nonperforming assets, $110.7 million carried a government guarantee, leaving an unguaranteed exposure of $46.3 million in total nonperforming assets at March 31, 2024.

This represents an increase of $4.3 million, or 10.1%, from an unguaranteed exposure of $42.1 million at December 31, 2023.

Nonperforming assets, excluding loans measured at fair value, at June 30, 2024 were $168.1 million, which represented a $26.7 million, or 18.9%, increase from December 31, 2023.

These nonperforming assets at June 30, 2024 were comprised of $160.1 million in nonaccrual loans and leases and $8.0 million in foreclosed assets.

Of the $168.1 million of nonperforming assets, $127.6 million carried a government guarantee, leaving an unguaranteed exposure of $40.5 million in total nonperforming assets at June 30, 2024.

This represents a decrease of $1.6 million, or 3.8%, from an unguaranteed exposure of $42.1 million at December 31, 2023.

See the below discussion related to the change in potential problem and impaired loans and leases for management’s overall observations regarding growth in total nonperforming loans and leases.

As a percentage of the Bank’s total capital, nonperforming loans and leases, excluding loans measured at fair value, represented 14.1% at March 31, 2024, compared to 14.6% at December 31, 2023.

Adjusting the ratio to include only the unguaranteed portion of nonperforming loans and leases at historical cost to reflect management’s belief that the greater magnitude of risk resides in this portion, the ratios at both March 31, 2024 and December 31, 2023 were 4.1% and 4.3%, respectively.

As of March 31, 2024, and December 31, 2023, potential problem (also referred to as criticized) and classified loans and leases, excluding loans measured at fair value, totaled $908.2 million and $785.2 million, respectively.

As a percentage of the Bank’s total capital, nonperforming loans and leases, excluding loans measured at fair value, represented 14.6% at both June 30, 2024 and December 31, 2023.

Adjusting the ratio to include only the unguaranteed portion of nonperforming loans and leases at historical cost to reflect management’s belief that the greater magnitude of risk resides in this portion, the ratios at both June 30, 2024 and December 31, 2023 were 3.4% and 4.3%, respectively.

As of June 30, 2024, and December 31, 2023, potential problem (also referred to as criticized) and classified loans and leases, excluding loans measured at fair value, totaled $913.9 million and $785.2 million, respectively.

The following is a discussion of these loans and leases.

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Loans and Leases Held for Investment and Credit Quality in the Company’s 2023 Form 10-K.

At March 31, 2024 , the portion of criticized and classified loans and leases guaranteed by the SBA or USDA totaled $391.7 million and total portfolio unguaranteed exposure risk was $516.6 million , or 9.4% of total held for investment unguaranteed exposure carried at historical cost.

At June 30, 2024 , the portion of criticized and classified loans and leases guaranteed by the SBA or USDA totaled $410.6 million and total portfolio unguaranteed exposure risk was $503.3 million , or 8.7% of total held for investment unguaranteed exposure carried at historical cost.

This compares to the December 31, 2023 portion of criticized and classified loans and leases guaranteed by the SBA or USDA which totaled $344.8 million and total portfolio unguaranteed exposure risk was $440.3 million , or 8.3% of total held for investment unguaranteed exposure carried at historical cost .

As of March 31, 2024 and December 31, 2023 , loans and leases carried at historical cost within the following verticals comprise the largest portion of the total potential problem and classified loans and leases:

As of March 31, 2024 As of December 31, 2023

As of June 30, 2024 and December 31, 2023 , loans and leases carried at historical cost within the following verticals comprise the largest portion of the total potential problem and classified loans and leases:

As of June 30, 2024 As of December 31, 2023

Vertical % of Criticized and Classified Loans and Leases

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Search Fund Lending 6.9% Search Fund Lending 8.6%

Wine & Craft Beverage 5.0% Wine & Craft Beverage 5.6%

Healthcare 4.2% Healthcare 3.9%

Self Storage 4.1% Hotels 3.3%

Healthcare 6.3% Wine & Craft Beverage 5.6%

Sponsor Finance 5.5% Healthcare 3.9%

Wine & Craft Beverage 4.5% Hotels 3.3%

Senior Care 3.2% Self Storage 3.3%

Sponsor Finance 3.7% Senior Care 3.2%

Self Storage 3.1% Senior Care 3.2%

% of Total Criticized and Classified Loans 67.4% % of Total Criticized and Classified Loans 71.0%

Of the above listed verticals, Senior Housing and Sponsor Finance are within the Company’s Specialty Lending division while Bioenergy and Hot els are within the Energy & Infrastructure division, the remainder of the above listed verticals are within the Small Business Banking division.

The majority of the $123.0 million increase in potential problem and classified loans and leases in the first three months of 2024 was comprised of increased levels of Risk Grade 5 loans and leases, as discussed below.

Of the above listed verticals, Senior Housing and Sponsor Finance are within the Company’s Specialty Lending division, Bioenergy and Hotels are within the Energy & Infrastructure division, and the remainder of the above listed verticals are within the Small Business Banking division.

The majority of the $128.7 million increase in potential problem and classified loans and leases in the first six months of 2024 was comprised of increased levels of Risk Grade 5 loans and leases, as discussed below.

The Company believes that its underwriting and credit quality standards have remained high and continues to consider changing economic conditions in a rising interest rate environment.

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Credit personnel will review the request to determine if the customer is stressed and how the event has impacted the ability of the customer to repay the loan or lease long term.

During the three months ended March 31, 2024, there were no loan modifications made for borrowers experiencing financial difficult on loans held at amortized cost.

At June 30, 2024, the Company had a total of $8.8 million in loans modified in 2024 to borrowers experiencing financial difficulties, all of which remained current with $8.8 million on principal payment deferral.

Management endeavors to be proactive in its approach to identify and resolve p roblem loans and leases and is focused on working with the borrowers and guarantors of these loans and leases to provide loan and lease modifications when warranted.

Management implements a proactive approach to identifying and classifying loans and leases as special mention (also referred to as criticized), Risk Grade 5.

At March 31, 2024 , and December 31, 2023 , Risk Grade 5 loans and leases, excluding lo ans measured at fair value, totaled $669.2 million and $599.2 million, respectively, for a three month increase of $70.0 million.

Relative to total held for investment unguaranteed exposure carried at historical cost at March 31, 2024 and December 31, 2023, unguaranteed Risk Grade 5 loans and leases increased from 6.9% to 7.7%, respectively.

At June 30, 2024 , and December 31, 2023 , Risk Grade 5 loans and leases, excluding lo ans measured at fair value, totaled $673.8 million and $599.2 million, respectively, for a six month increase of $74.6 million.

Relative to total held for investment unguaranteed exposure carried at historical cost at June 30, 2024 and December 31, 2023, unguaranteed Risk Grade 5 loans and leases increased to 7.3% from 6.9%, respectively.

The largest year-to-date changes in Risk Grade 5 loans and leases carried at historical cost were within the foll owing verticals :

March 31, 2024 vs.

June 30, 2024 vs.

December 31, 2023 Increase (Decrease)

Bioenergy $ 19,694 28.1 %

Government Contracting 14,909 21.3

Sponsor Finance $ 33,734 45.2 %

Self Storage 11,412 16.3

Healthcare 25,064 33.6

Vet 7,464 10.7

Asset-Based-Lending 10,525 14.1

Veterinary 10,284 13.8

RV Parks 10,284 13.8

Bioenergy 8,988 12.0

Funeral Home & Cemetery 6,677 8.9

Senior Care 6,391 8.6

Agriculture 5,239 7.5

Restoration 4,771 6.8

Professional Services 4,575 6.5

Search Fund Lending 3,938 5.3

General Lending (4,198) (5.6)

Asset-Based Lending (5,191) (7.4)

Agriculture (6,289) (8.4)

Educational Services (8,527) (11.4)

Fitness Centers (8,812) (11.8)

Total of largest changes in RG 5 loans and leases $ 79,994 114.3%

The increase in Risk Grade 5 loans and leases, exclusive of loans measured at fair value, during the first three months of 2024 was principally confined to 13 verticals, as reflected above.

The underlying factor in this increase in Risk Grade 5 loans in 2024 was largely a result of softer than expected starts for new projects in certain verticals due to delays in both construction completion and ramp up time, stemming from downstream effects of pandemic-related impacts.

Of the above listed verticals, Sponsor Finance, Senior Housing, Asset-Based Lending and Government Contracting are within the Company’s Specialty Lending division, Bioenergy is within the Energy & Infrastructure division and the remainder of the above listed verticals are within the Small Business Banking division.

At March 31, 2024, approximately 99.1% of loans and leases classified as Risk Grade 5 are performing with no relationships having payments past due more than 30 days.

Senior Housing (13,144) (17.6)

Total of largest changes in Risk Grade 5 loans and leases $ 74,915 100.5%

The increase in Risk Grade 5 loans and leases, exclusive of loans measured at fair value, during the first half of 2024 was principally confined to 14 verticals, as reflected above.

Of the above listed verticals, Sponsor Finance, Senior Housing, and Asset-Based Lending are within the Company’s Specialty Lending division, Bioenergy is within the Energy & Infrastructure division, and the remainder of the above listed verticals are within the Small Business Banking division.

At June 30, 2024, approximately 95.9% of loans and leases classified as Risk Grade 5 are performing with no relationships having payments past due more than 30 days.

While the level of nonperforming assets fluctuates in response to changing economic and market conditions, in light of the relative size and composition of the loan and lease portfolio and management’s degree of success in resolving problem assets, management believes that a proactive approach to early identification and intervention is critical to successfully managing a small business loan portfolio.

As government payment assistance began to expire toward the end of 2020, borrowers with continuing difficulties arising from the pandemic were provided additional relief through payment deferrals.

At March 31, 2024, the Company had $6.3 million in unguaranteed loans on SBA payment assistance.

At June 30, 2024, the Company had $8.0 million in unguaranteed loans on SBA payment assistance.

Allowance for Credit Losses on Loans and Leases

The ACL of $125.8 million at December 31, 2023, increased by $13.2 million, or 10.5%, to $139.0 million at March 31, 2024.

The ACL as a percentage of loans and leases held for investment at historical cost amounted to 1.5% and 1.6% at December 31, 2023 and March 31, 2024, respectively.

The increase in the ACL during the first three months of 2024 was primarily the result of specific reserve changes on individually evaluated loans.

See also the above section captioned “Provision for Loan and Lease Credit Losses” in “Results of Operations” for related information.

The ACL of $125.8 million at December 31, 2023, increased by $12.0 million, or 9.6%, to $137.9 million at June 30, 2024.

The ACL as a percentage of loans and leases held for investment at historical cost amounted to 1.5% and 1.6% at December 31, 2023 and June 30, 2024, respectively.

The increase in the ACL during the first six months of 2024 was primarily the result of unguaranteed loan growth.

See also the above section captioned “Provision for Credit Losses” in “Results of Operations” for related information.

Actual past due held for in vestment loans and leases, inclusive of loans measured at fair value, have increased by $65.8 million since December 31, 2023 .

Total loans and leases 90 or more days past due increased $41.0 million , or 32.9%, compared to December 31, 2023 .

This increase was comprised of a $8.0 million increase in unguaranteed exposure combined with a $26.8 million increase in the guaranteed portion of past due loans compared to December 31, 2023 .

At March 31, 2024 and December 31, 2023 , total held for investment unguaranteed loans and leases past due as a percentage of total held for investment unguaranteed loans and leases, inclusive of loans measured at fair value, was 1.0% and 0.8% , respectively.

Total ungu aranteed loans and leases past due were comprised of $45.3 million carried at historical cost, an increase of $7.7 million , and $10.2 million measured at fair value, an increase of $345 thousand , as of March 31, 2024 compared to December 31, 2023 .

This increase was comprised of a $4.3 million decrease in unguaranteed exposure combined with an offsetting $45.3 million increase in the guaranteed portion of past due loans compared to December 31, 2023 .

At June 30, 2024 and December 31, 2023 , total held for investment unguaranteed loans and leases past due as a percentage of total held for investment unguaranteed loans and leases, inclusive of loans measured at fair value, was 1.1% and 0.8% , respectively.

Total unguaranteed loa ns and leases past due were comprised of $50.0 million carried at historical cost, an in crease of $12.4 million , and $14.7 million measured at fair value, an increase of $4.8 million , as of June 30, 2024 compared to December 31, 2023 .

Management continues to actively monitor and work to improve asset quality.

Management believes the ACL of $139.0 million at March 31, 2024 is appropriate in light of the risk inherent in the loan and lease portfolio.

Management believes the ACL of $137.9 million at June 30, 2024 is appropriate in light of the risk inherent in the loan and lease portfolio.

Management’s judgments are based on numerous assumptions about current and expected events that it believes to be reasonable, but which may or may not be valid.

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A primary tool in the Company's liquidity management process is the utilization of an Outflow Coverage Ratio (“OCR”) model to stress outflows in various scenarios with targeted days of liquidity coverage.

At March 31, 2024, the total amount of these four liquidity source items was $4.11 billion, or 35.7% of total assets, a decrease of 2.1% of total assets from $4.26 billion, or 37.8% of total assets, at December 31, 2023.

At June 30, 2024, the total amount of these four liquidity source items was $4.23 billion, or 35.7% of total assets, a decrease of 2.1% of total assets from $4.26 billion, or 37.8% of total assets, at December 31, 2023.

Loans and other assets are funded primarily by loan sales, wholesale deposits, and core deposits.

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Additionally, the Company maintains a guaranteed loan portfolio that is also a contingent liquidity source, whether via pledging to the Federal Reserve Discount Window or through liquidation.

At March 31, 2024, none of the investment securities portfolio was pledged to secure public deposits or pledged to retail repurchase agreements, leaving $1.12 billion available to be pledged as collateral.

At June 30, 2024, none of the investment securities portfolio was pledged to secure public deposits or pledged to retail repurchase agreements, leaving $1.15 billion available to be pledged as collateral.

Contractual Obligations

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One method used to manage interest rate sensitivity is to measure the repricing differences, or interest rate gaps, between interest-earning assets and interest-bearing liabilities, across various time periods.

As of March 31, 2024, the balance sheet’s total cumulative gap position was 4.6%, meaning that over the entire life of the Company's assets and liabilities, more assets will reprice than liabilities.

As of June 30, 2024, the balance sheet’s total cumulative gap position was 4.9%, meaning that over the entire life of the Company's assets and liabilities, more assets will reprice than liabilities.

For further information, see Item 3.

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Therefore, management also uses an earnings simulation model to prepare, on a regular basis, earnings projections based on a range of instantaneous parallel interest rate shocks applied to a static balance sheet and non-parallel interest rate shocks applied to a dynamic balance sheet to measure interest rate risk.

As of March 31, 2024, the Company’s interest rate risk profile under the instantaneous parallel interest rate shock scenarios applied to a static balance sheet is slightly asset-sensitive.

As of June 30, 2024, the Company’s interest rate risk profile is asset-sensitive under the instantaneous parallel interest rate shock scenarios applied to a static balance sheet.

For more information, see Item 3.

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Risk-based capital ratios, which include Tier 1 Capital, Total Capital and Common Equity Tier 1 Capital, are calculated based on regulatory guidance related to the measurement of capital and risk-weighted assets.

Capital amounts and ratios as of March 31, 2024, and December 31, 2023, are presented in the table below.

Capital amounts and ratios as of June 30, 2024, and December 31, 2023, are presented in the table below.

Actual Minimum Capital

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Amount Ratio Amount Ratio Amount Ratio

Consolidated - March 31, 2024

Consolidated - June 30, 2024

Common Equity Tier 1 (to Risk-Weighted Assets) $ 1,023,186 11.85 % $ 388,402 4.50 % N/A N/A

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Tier 1 Capital (to Average Assets) 1,023,186 8.71 469,780 4.00 N/A N/A

Bank - March 31, 2024

Bank - June 30, 2024

Common Equity Tier 1 (to Risk-Weighted Assets) $ 988,720 11.84 % $ 375,921 4.50 % $ 542,997 6.50 %

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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-Q

Item 2. Management’s Discussion and Analysis