Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Recent Market Conditions
Our financial condition and performance, as well as the ability of our borrowers to repay their loans, the value of collateral securing those loans, as well as demand for loans and other products and services that we offer, are all highly dependent on the business environment in the primary markets in which we operate and in the United States as a whole. As discussed further in Part I, Item 1, during the first quarter of 2020, an outbreak of a novel strain of coronavirus (COVID-19) spread around the world, including the United States. COVID-19 and its associated impacts on trade (including supply chains and export levels), travel, employee productivity and other economic activities have had, are currently having and will continue to have a destabilizing effect on financial markets and economic activity. The full extent of the impact of COVID-19 on our operational and financial performance is currently uncertain, cannot be predicted and will depend on certain developments, including, among others, the duration and spread of COVID-19, its impact on our customers, employees and vendors, and governmental, regulatory and private sector responses, which may be precautionary, to the coronavirus.
In light of the changing economic outlook as a result of COVID-19, as well as other factors, including the possibility of an oil price war in March 2020, the 10-year Treasury yield had fallen to historic lows, and the equity markets were and continue to be significantly impacted. In response, the Federal Reserve reduced the target federal funds rate by 50 basis points on March 3, 2020, and then by an additional 100 basis points on March 15, 2020. Since the assets and liabilities of the Corporation are significantly impacted by changes in interest rates, the Corporation adjusted its deposit and loan offering rates and continues to monitor them during this crisis.
Critical Accounting Policies and Estimates
Our accounting and reporting policies conform to GAAP and conform to general practices within the industry in which we operate. To prepare financial statements in conformity with GAAP, management makes estimates, assumptions and judgments based on available information. These estimates, assumptions and judgments affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions and judgements are based on information available as of the date of the financial statements and, as this information changes, actual results could differ from the estimates, assumptions and judgments reflected in the financial statements. In particular, management has identified the provision and allowance for loan and lease losses as the accounting policy that, due to the estimates, assumptions and judgements inherent in that policy, is critical in understanding our financial statements. Management has presented the application of this policy to the audit committee of our board of directors.
The JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. We have elected to take advantage of this extended transition period, which means that the financial statements included in this Annual Report, as well as any financial statements that we file in the future, will not be subject to all new or revised accounting standards generally applicable to public companies for the transition period for so long as we remain an emerging growth company or until we affirmatively and irrevocably opt out of the extended transition period under the JOBS Act. If we do so, we will prominently disclose this decision in the first periodic report filed with the SEC following our decision, and such decision is irrevocable.
The following is a discussion of the critical accounting policies and significant estimates that require us to make complex and subjective judgments. Additional information about these policies can be found in footnote 1 of the Corporation’s Consolidated Financial Statements as of and for the years ended December 31, 2020 and 2019.
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Provision and allowance for loan and lease losses
The provision for loan and lease losses reflects the amount required to maintain the allowance for loan and lease losses (“Allowance”) at an appropriate level based upon management’s evaluation of the adequacy of general and specific loss reserves.
The Allowance is maintained at a level that management believes is appropriate to provide for incurred loan and lease losses as of the date of the Consolidated Balance Sheet and we have established methodologies for the determination of its adequacy. The methodologies are set forth in a formal policy and take into consideration the need for an overall general allowance as well as specific allowances that are determined on an individual loan basis for impaired loans. We increase our Allowance by charging provisions for losses against our income and decreased by charge-offs, net of recoveries.
The evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. While management uses available information to recognize losses on loans and leases, changes in economic or other conditions may necessitate revision of the estimate in future periods.
The Allowance is maintained at a level sufficient to provide for probable losses based upon an ongoing review of the originated loan and lease portfolios by portfolio category, which include consideration of actual loss experience, peer loss experience, changes in the size and risk profile of the portfolio, identification of individual problem loan and lease situations which may affect a borrower’s ability to repay, and evaluation of prevailing economic conditions.
Results of operations – Years ended December 31, 2020 and 2019
Overview
Our reported net income for the year ended December 31, 2020, was $26.4 million or $4.27 per diluted common share compared to $10.5 million or $1.63 per diluted common share for the same period in 2019. The increase was driven by growth in earning assets, which contributed $9.8 million in increased interest income, as well as growth in non-interest fee producing divisions such as mortgage, wealth and SBA. The increase in net income was also driven by a $2.9 million decrease in interest expense, while the provision for loan losses increased $7.4 million. Total net non-interest income (non-interest income less non-interest expense) improved $15.8 million.
Net interest income
Our earnings are derived from net interest income, which is our interest income less interest expense. Changes in our balance sheet composition, including interest-earning assets, deposits, and borrowings, combined with changes in market interest rates, impact our net interest income. Net interest margin is net interest income divided by average interest-earning assets. We manage our interest-earning assets and funding sources, including non-interest and interest-bearing liabilities, in order to maximize this margin. Net interest income on a tax equivalent yield basis (“TEY”) increased by $12.8 million, or 35.1%, to $49.2 million for the year ended December 31, 2020 from $36.4 million for the same period in 2019. Our net interest margin was 3.40% on a TEY for the year ended December 31, 2020 as compared to 3.65% for the same period in 2019. The decrease in net interest margin, year-over-year, reflects the declining yield on certain interest earnings assets, somewhat offset by the declining cost of funds.
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Average balance sheet, interest and yield/rate analysis.
The following table presents average balance sheet information, interest income, interest expense and the corresponding average yield earned, on a tax equivalent basis, and rates paid for the years ended December 31, 2020 and 2019. The average balances are principally daily averages and, for loans, include both performing and nonperforming loans.
2020
2019
Interest
Interest
For the Year Ended December 31,
Average
Income/
Yields/
Average
Income/
Yields/
(dollars in thousands)
Balance
Expense
rates
Balance
Expense
rates
Assets
Interest-earning assets
Due from banks
$
9,351
31
0.33%
$
6,429
140
2.17%
Federal funds sold
17,795
38
0.21%
930
24
2.64%
Investment securities (1)
102,285
2,408
2.35%
62,900
1,642
2.61%
Loans held for sale
127,829
3,693
2.89%
28,980
1,164
4.01%
Loans held for investment (1)
1,187,819
56,675
4.77%
898,810
49,973
5.53%
Total loans
1,315,648
60,368
4.59%
927,790
51,137
5.51%
Total interest-earning assets
1,445,079
62,845
4.35%
998,049
52,943
5.30%
Noninterest earning assets
41,400
38,320
Total assets
$
1,486,479
$
1,036,369
Liabilities and stockholders' equity
Interest bearing liabilities
Interest-bearing deposits
$
195,141
1,644
0.84%
$
92,695
1,461
1.57%
Money market and savings deposits
428,227
3,606
0.84%
303,463
5,239
1.73%
Time deposits
312,528
4,720
1.51%
310,293
7,207
2.32%
Total deposits
935,896
9,970
1.07%
706,451
13,907
1.97%
Short-term borrowings
59,322
882
1.49%
68,059
1,696
2.49%
Long-term borrowings
119,879
421
0.35%
2,328
71
3.06%
Total Borrowings
179,201
1,303
0.73%
70,387
1,767
2.51%
Subordinated Debentures
41,010
2,387
5.73%
10,704
853
7.96%
Total interest-bearing liabilities
1,156,107
13,660
1.18%
787,542
16,527
2.10%
Non-interest bearing deposits
190,209
126,001
Other non-interest bearing liabilities
16,240
7,570
Total liabilities
$
1,362,556
$
921,113
Total stockholders' equity
123,923
115,256
Total stockholders' equity and liabilities
$
1,486,479
$
1,036,369
Net interest income (1)
$
49,185
$
36,416
Net interest spread (1)
3.17%
3.21%
Net interest margin (1)
3.40%
3.65%
(1) Yields and net interest income and ratios are reflected on a tax-equivalent basis.
Rate/Volume Analysis
During 2020, net interest income increased $12.8 million or 35.1% on a tax equivalent basis. As shown in the following Rate/Volume Analysis table, this increase was primarily attributable to volume changes. Volume related changes contributed $13.3 million towards interest income which was partially offset by unfavorable changes in rate of $567 thousand.
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The favorable change in net interest income due to volume changes was driven largely from growth in total loans, which increased $387.9 million on average. This increase contributed $17.2 million to interest income. Total investment securities, cash and cash equivalents increased $59.2 million on average combined, an increase of $1 million to interest income. On the funding side, interest checking and money market accounts together rose $227.2 million on average during the year, reducing net interest income by $2.7 million. Time deposits increased $2.2 million on average year over year, causing a slightly unfavorable change of $51 thousand to net interest income. Average borrowings increased $108.8 million and had an unfavorable impact of $271 thousand on net interest income, while the increase of $30.3 million increase in average subordinated debt contributed $1.8 million unfavorably to net interest income.
The unfavorable change in net interest income due to rate changes was driven largely from the decrease in the yield on interest-earning assets which decreased net interest income $8.3 million. The unfavorable change due to cash and investments was $372 thousand. The yield on loans held for investment declined 76 basis points resulting in a $7.6 million decrease in net interest income. These unfavorable changes in net interest income were nearly offset by a reduction in the cost of funds. Most notably the decline in the cost of deposits contributed a favorable $6.7 million to net interest income as the cost of interest-bearing deposits, money market and savings deposits, and time deposits decreased 73, 89, and 81 basis points, respectively.
The following table sets forth, among other things, the extent to which changes in interest rates and changes in the average balances of interest-earning assets and interest-bearing liabilities have affected interest income and expense for the periods noted (tax-exempt yields have been adjusted to a tax equivalent basis using a 22% tax rate). For each category of interest-earning assets and interest-bearing liabilities, information is provided with respect to changes attributable to (i) changes in rate (change in rate multiplied by old volume) and (ii) changes in volume (change in volume multiplied by new rate). The net change attributable to the combined impact of rate and volume has been allocated proportionately to the change due to rate and the change due to volume.
December 31, 2020 Compared to 2019
Change in interest due to:
(dollars in thousands)
Rate
Volume
Total
Interest income:
Due from banks
$
(154)
45
(109)
Federal funds sold
(42)
56
14
Investment securities (1)
(176)
942
766
Loans held for sale
(409)
2,938
2,529
Loans held for investment (1)
(7,556)
14,258
6,702
Total loans
(7,965)
17,196
9,231
Total interest income
$
(8,337)
18,239
9,902
Interest expense:
Interest bearing deposits
$
(896)
1,079
183
Money market and savings deposits
(3,304)
1,671
(1,633)
Time deposits
(2,538)
51
(2,487)
Total interest bearing deposits
(6,738)
2,801
(3,937)
Short-term borrowings
(617)
(197)
(814)
Long-term borrowings
(118)
468
350
Total borrowings
(735)
271
(464)
Subordinated debentures
(297)
1,831
1,534
Total interest expense
(7,770)
4,903
(2,867)
Interest differential
$
(567)
13,336
12,769
(1) Yields and net interest income are reflected on a tax-equivalent basis.
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Provision for loan losses
The provision for loan losses was $8.3 million for the twelve months ended December 31, 2020, compared to a $901 thousand provision for the twelve months ended December 31, 2019. The provision for the current year period was due largely to qualitative provisioning for the continued economic uncertainty as a result of the COVID-19 pandemic and overall loan portfolio growth, combined with the impact of a $1.5 million specific reserve placed on an impaired commercial loan during the third quarter of 2020.
Non-interest income
Total non-interest income for the year ended December 31, 2020 was $ 86.9 million, up $54.0 million or 164.1%, from the year ended December 31, 2019. This increase in non-interest income came primarily from our mortgage division as mortgage banking net revenue increased $50.5 million or 194.0% over the prior year period. The significant increase in the current year period came from increased levels of mortgage loan originations due to both the expansion of the division into Maryland as well as the favorable rate environment for refinance activity. Our mortgage division originated $2.4 billion in loans during the year ended December 31, 2020, an increase of $1.8 billion, or 311.0%, from the prior year period. Refinance activity represented 60% of the total residential mortgage loans originated for the year ended December 31, 2020, compared to 30% for the year ended December 31, 2019. Overall, the margin on mortgage banking activity declined 58 basis points from 2.80% for the year ended December 31, 2019 to 2.22% for the year ended December 31, 2020. The increase in the mortgage pipeline as a result of the expansion and the refinance activity generated significant positive fair value changes in derivative instruments and loans held-for-sale. These fair value changes increased non-interest income a combined $8.7 million during the year ended December 31, 2020 compared to the year ended December 31, 2019. These changes were offset by increases in net hedging losses of $8.6 million.
Wealth management revenue increased $230 thousand, or 6.3%, year-over-year due to the more favorable market conditions that existed in the year ended December 31, 2020, compared to the prior year comparable period.
Non-interest income from the sales of investments amounted to $1.3 million for the year ended December 31, 2020, an increase of $1.2 million from the prior year period. Income from the sales of SBA 7(a) loans increased $1.2 million, or 83.5%, from the prior year period, to $2.6 million. $41.1 million in SBA 7(a) loans were sold for the year ended December 31, 2020, compared to $22.4 million in loans sold for the year ended December 21, 2019. Other fee income was up $934 thousand or 57.7% for the year ended December 31, 2020, from the year ended December 31, 2019 due largely to $319 thousand in swap fee income from customer loan swaps recorded in the current year period, an increase of $144 thousand in title fee income, a $149 thousand increase in wire fee income as well as $436 thousand in mortgage fee income, respectively, as loan closing activity increased period-over-period.
Year Ended December 31,
(dollars in thousands)
2020
2019
Non-interest income:
Mortgage banking income
$
76,461
26,009
Wealth management income
3,854
3,624
SBA loan income
2,572
1,401
Earnings on investment in life insurance
279
290
Net change in the fair value of derivative instruments
4,975
111
Net change in the fair value of loans held-for-sale
3,847
(13)
Net change in the fair value of loans held-for-investment
323
391
Net loss on hedging activity
(9,400)
(816)
Net gain on sale of investment securities available-for-sale
1,345
165
Service charges
107
110
Other
2,555
1,621
Total non-interest income
$
86,918
32,893
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Non-interest expense
Total non-interest expense for the year ended December 31, 2020 was $93.1 million, up $38.3 million or 69.8%, from the year ended December 31, 2019. The increase is largely attributable to the variable expenses from loan originations overall, particularly mortgage commissions. Total salaries and employee benefits expense was $72.1 million, an increase of $37.0 million or 105.2%, compared to the year ended December 31, 2019. Of this increase, $33.2 million relates to the mortgage division. Full-time equivalent employees, particularly in the mortgage division, increased year-over-year. As noted above, in the first quarter of 2020, we expanded our mortgage division into Maryland with the hiring of nearly 90 individuals year to date. Advertising expenses increased by $377 thousand or 15.2% during the year ended December 31, 2020, due mainly to an increase in marketing related costs from the mortgage division. Professional fees increased $499 thousand or 19.1%, compared to the prior year period due largely to an increase in consulting costs incurred on several IT related projects that Meridian has undertaken to improve efficiency and automation in processes, combined with an increase in third party valuation services related to the increased mortgage division activity. Other expenses were down year over year due largely to the impacts from stay at home orders and business restrictions brought on by the COVID-19 pandemic.
Year Ended December 31,
(dollars in thousands)
2020
2019
Non-interest expenses:
Salaries and employee benefits
$
72,147
35,157
Occupancy and equipment
4,292
3,806
Professional fees
3,113
2,614
Advertising and promotion
2,852
2,475
Data processing
1,913
1,327
Information technology
1,542
1,256
Pennsylvania bank shares tax
1,049
658
Other
6,168
7,521
Total non-interest expenses
$
93,076
54,814
Income tax expense
Income tax expense for the year ended December 31, 2020 was $8.1 million as compared to $3.0 million for the same period in 2019. The effective tax rates for the twelve-month periods ended December 31, 2020 and 2019 were 23.4% and 22.4%, respectively. For more information related to income taxes, refer to footnote 14 in the Notes to Consolidated Financial Statements.
Balance Sheet Summary
Assets
As of December 31, 2020, total assets were $1.7 billion compared with $1.2 billion as of December 31, 2019. Total assets increased $570.2 million, or 49.6%, from December 31, 2019 primarily due to strong loan growth.
Total loans, excluding mortgage loans held for sale, increased by $320.1 million, or 33.2%. Investment securities and cash and cash equivalents increased $59.8 million, or 55.4%, year-over-year. Our overall asset growth was funded largely by an increase in deposits of $390.2 million, or 45.8%, to $1.2 billion at December 31, 2020 from $851.2 million at December 31, 2019. Increases in borrowings of $145.6 million, or 114.8% year-over-year, particularly from PPPLF advances, also helped to fund the growth in our loan portfolio.
Loans
Our loan portfolio is the largest category of our interest-earning assets. As of December 31, 2020 and 2019, our total loans amounted to $1.5 billion and $1.0 billion, respectively. Our loan portfolio is comprised of loans originated to be held in
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portfolio, as well as residential mortgage loans originated for sale. Meridian engages in the origination of residential mortgages, most typically for 1-4 family dwellings, with the intention of the Corporation to principally sell substantially all of these loans in the secondary market to qualified investors. Our loans held in portfolio are originated by our commercial and consumer loan divisions. We have a strong credit culture that promotes diversity of lending products with a focus on commercial businesses. We have no particular credit concentration. Our commercial loans have been proactively managed in an effort to achieve a balanced portfolio with no unusual exposure to one industry.
Loans and leases outstanding at December 31, 2020 and 2019 are detailed by category as follows:
% of
% of
(dollars in thousands)
2020
Portfolio
2019
Portfolio
Mortgage loans held for sale
$
229,199
15.1%
33,704
3.4%
Real estate loans:
Commercial mortgage
485,103
31.9%
362,590
36.3%
Home equity lines and loans
64,987
4.3%
81,583
8.2%
Residential mortgage
52,454
3.5%
53,665
5.4%
Construction
140,246
9.2%
172,044
17.2%
Total real estate loans
742,790
48.9%
669,882
67.0%
Commercial and industrial
261,750
17.2%
273,301
27.3%
Small business loans
49,542
3.3%
21,616
2.2%
Paycheck Protection Program loans ("PPP")
203,543
13.4%
—
0.0%
Main Street Lending Program Loans ("MSLP")
580
0.0%
—
0.0%
Consumer
511
0.0%
1,003
0.1%
Leases, net
31,040
2.0%
697
0.1%
Total portfolio loans and leases
1,289,756
84.9%
966,499
96.6%
Total loans and leases
$
1,518,955
100.0%
1,000,203
100.0%
Commercial and industrial loans, commercial construction loans and commercial real estate loans increased a combined $79.2 million, or 9.8%, for the year ended December 31, 2020. The growth in the commercial portfolios continues to reflect the work of our strategically expanded lending team as well as strong local market conditions.
Commercial real estate loans . Our commercial real estate loans are secured by real estate that is both owner-occupied and investor owned. Owner-occupied commercial real estate loans generally involve less risk than an investment property and are distinctly reported from non-owner occupied commercial real estate loans for measuring loan concentrations for regulatory purposes. Our owner-occupied commercial real estate loans are originated and managed within our commercial loan department and comprised 34.4% of our total commercial real estate loan portfolio at December 31, 2020. The remaining commercial real estate loans are managed by our commercial real estate department which offer the following commercial real estate products:
● Permanent – Investor Real Estate Loans
o Purchase and refinance loan opportunities for a number of product types, including single-family rentals, multi-family residential as well as tenanted income producing properties in a variety of real estate types, including office, retail, industrial, and flex space
● Construction Loans
o Residential construction loans to finance new construction and renovation of single and 1-4 family homes located within our market area
o Commercial construction loans for investment properties, generally with semi-permanent attributes
o Construction loans for new, expanded or renovated operations for our owner occupied business clients
● Land Development Loans
o Meridian considers a limited number of strictly land development oriented loans based upon the risk, merit of the future project and strength of the borrower/guarantor relationship
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Our commercial real estate loans increased by $122.5 million, or 33.8%, to $485.1 million at December 31, 2020 from $362.6 million at December 31, 2019. Our total commercial real estate loan portfolio represented 31.9% and 36.3% of our total loan portfolio at December 31, 2020 and 2019, respectively.
Commercial and Industrial Loans
We provide a variety of variable and fixed rate commercial business loans and lines of credit. These loans and lines of credit are made to small and medium-sized manufacturers and wholesale, retail and service-related businesses. Additionally, we lend to companies in the technology, healthcare, real estate and financial service industries. Commercial business loans generally include lines of credit and term loans with a maturity of five years or less. The primary source of repayment for commercial business loans is generally operating cash flows of the business and may also include collateralization of inventory, accounts receivable, equipment and/or personal guarantees. Our commercial and industrial loans decreased by $11.5 million, or 4.2%, to $261.8 million at December 31, 2020 from $273.3 million at December 31, 2019. The total commercial portfolio represented 17.2% and 27.3% of our total loan portfolio at December 31, 2020 and 2019, respectively.
Small Business Loans
We provide financing to small businesses in various industries that include guarantees under the Small Business Administrations (SBA’s) loan programs. Our small business loans increased by $27.9 million, or 129.2%, to $49.5 million at December 31, 2020 from $21.6 million at December 31, 2019. The small business loans portfolio represented 3.3% and 2.2% of our total loan portfolio at December 31, 2020 and 2019, respectively.
Paycheck Protection Program Loans / Main Street Lending Program Loans
Meridian participated in the SBA’s Paycheck Protection Program (PPP) loan program and the Federal Reserve’s Main Street Lending Program (MSLP) to support lending to small and medium sized businesses that were impacted by the COVID-19 pandemic. At December 31, 2020 the balance of PPP loans was $203.5 million, while at December 31, 2020 the balance of MSLP loans was $580 thousand, after netting out participations. PPP loans and MSLP loans represented 13.4% and 0.0% of our total loan portfolio at December 31, 2020, respectively.
Residential loans
Our residential loans held in portfolio are primarily secured by single-family homes located in our market areas. Our loan pipeline is fed via our mortgage loan production offices (“LPOs”) and through relationships with commercial lending and through relationships with sales brokers and agents who actively refer clients to Meridian. The balance of residential loans in portfolio decreased $1.2 million, or 2.3%, to $52.5 million at December 31, 2020 from $53.7 million at December 31, 2019. The total residential loan portfolio represented 3.5% and 5.4% of our total loan portfolio at December 31, 2020 and 2019, respectively.
Consumer and Personal Loans
Our consumer-lending department principally originates home equity based products for our clients and prospects. These loans typically fund completely at closing. Additional products include smaller dollar personal loans and our newly introduced student loan refinance product, designed to provide additional flexibility in repayment terms desired in the marketplace. Our consumer credit products include home equity lines and loans, personal lines and loans, and student loan refinancing. The total consumer loan portfolio represented 0.1% of our total loan portfolio at December 31, 2020 and 2019.
Investments
Our securities portfolio is used to make various term investments, maintain a source of liquidity and serve as collateral for certain types of deposits and borrowings. We manage our investment portfolio according to written investment policies approved by our board of directors. Investments in our securities portfolio may change over time based on our funding needs and interest rate risk management objectives. Our liquidity levels take into account anticipated future cash flows
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and other available sources of funds and are maintained at levels that we believe are appropriate to provide the necessary flexibility to meet our anticipated funding requirements.
As of December 31, 2020 the fair value of our investment portfolio totaled $130.4 million, with an effective tax equivalent yield of 2.25% and an estimated duration of approximately 5.74 years. The majority of our investment portfolio, or 55.1%, consists of municipal securities, along with 19.52% in U.S. Agency asset-backed securities. The remainder of our securities portfolio is invested in other securities. We regularly evaluate the composition of our investment portfolio as the interest rate yield curve changes and may sell investment securities from time to time to adjust our exposure to interest rates or to provide liquidity to meet loan demand.
December 31, 2020
Gross
Gross
Amortized
unrealized
unrealized
Fair
(dollars in thousands)
cost
gains
losses
value
Securities available-for-sale:
U.S. asset backed securities
$
25,303
364
(75)
25,592
U.S. government agency mortgage-backed securities
3,854
192
—
4,046
U.S. government agency collateralized mortgage obligations
23,010
916
(17)
23,909
State and municipal securities
63,848
2,025
(63)
65,810
Corporate bonds
4,200
7
(2)
4,205
Total securities available-for-sale
$
120,215
3,504
(157)
123,562
Securities held-to-maturity:
State and municipal securities
6,510
347
—
6,857
Total securities held-to-maturity
$
6,510
347
—
6,857
December 31, 2019
Gross
Gross
Amortized
unrealized
unrealized
Fair
(dollars in thousands)
cost
gains
losses
value
Securities available-for-sale:
U.S. asset backed securities
$
11,967
—
(101)
11,866
U.S. government agency mortgage-backed securities
5,457
66
(26)
5,497
U.S. government agency collateralized mortgage obligations
35,096
300
(173)
35,223
State and municipal securities
6,354
—
(84)
6,270
Total securities available-for-sale
$
58,874
366
(384)
58,856
Securities held-to-maturity:
State and municipal securities
8,780
223
—
9,003
Total securities held-to-maturity
$
8,780
223
—
9,003
Asset Quality Summary
Asset quality remains strong year-over-year despite the pressures that the COVD-19 pandemic has had on businesses and the economy locally and nationally. Meridian realized net charge-offs of 0.00% of total average loans for the year ended December 31, 2020, compared with net recoveries of (0.06)% for the year ended December 31, 2019. Total non-performing assets, including loans and other real estate property, were $7.9 million as of December 31, 2020, $3.4 million as of December 31, 2019.
The increase to non-performing loans from December 31, 2019 to December 31, 2020 resulted from a $2.3 million increase in nonperforming commercial mortgages, an $864 thousand increase in nonperforming commercial loans, a $1.2 million increase in residential mortgage loans, and a $322 thousand increase in home equity lines and loans.
The ratio of non-performing assets to total assets as of December 31, 2020 was 0.46% compared to 0.29% as of December 31, 2019. The ratio of allowance for loan losses to total loans, was 1.38% as of December 31, 2020, up from the 0.99% recorded as of December 31, 2019. The ratio of allowance for loan losses to total loans held for investment,
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excluding loans at fair value and PPP loans (a non-GAAP measure), was 1.65% as of December 31, 2020, up from the 1.00% recorded as of December 31, 2019. PPP loans are excluded from calculation of this ratio as they are guaranteed by the SBA and therefore we have not provided for in the allowance for loan losses. A reconciliation of this non-GAAP measure is included in the Non-GAAP Financial Measures section below. During 2019 one residential mortgage loan was foreclosed on and the property was recorded within other real estate owned (“OREO”) in the balance sheet at the lower of cost or fair value less cost to sell of $120 thousand. There were no properties in OREO as of December 31, 2020, as the above noted property was sold during 2020 and a gain of $6 thousand was recorded on the sale.
As of December 31, 2020, the Corporation had $3.6 million of TDRs, of which $3.4 million were in compliance with the modified terms and excluded from non-performing loans and leases. As of December 31, 2019, the Corporation had $3.9 million of TDRs, of which $3.6 million were in compliance with the modified terms, and were excluded from non-performing loans and leases.
As of December 31, 2020, the Corporation had a recorded investment of $10.4 million of impaired loans and leases which included $3.6 million of TDRs. Impaired loans and leases are those for which it is probable that the Corporation will not be able to collect all scheduled principal and interest in accordance with the original terms of the loans and leases. Impaired loans and leases as of December 31, 2019 totaled $7.3 million, which included $3.9 million of TDRs. Refer to footnote 6 in the notes to the Consolidated Financial Statements for more information regarding the Corporation’s impaired loans and leases.
The Corporation continues to be diligent in its credit underwriting process and proactive with its loan review process, including the engagement of the services of an independent outside loan review firm, which helps identify developing credit issues. Proactive steps that are taken include the procurement of additional collateral (preferably outside the current
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loan structure) whenever possible and frequent contact with the borrower. The Corporation believes that timely identification of credit issues and appropriate actions early in the process serve to mitigate overall risk of loss.
As of
December 31,
December 31,
(dollars in thousands)
2020
2019
Non-performing assets:
Nonaccrual loans:
Real estate loans:
Commercial mortgage
$
3,061
733
Home equity lines and loans
859
537
Residential mortgage
2,725
1,544
Total real estate loans
$
6,645
2,814
Commercial and industrial
1,285
421
Total nonaccrual loans
$
7,930
3,235
Other real estate owned
—
120
Total non-performing loans
$
7,930
3,235
Total non-performing assets
$
7,930
3,355
Troubled debt restructurings:
TDRs included in non-performing loans
244
319
TDRs in compliance with modified terms
3,362
3,599
Total TDRs
$
3,606
3,918
Asset quality ratios:
Non-performing assets to total assets
0.46%
0.29%
Non-performing loans to:
Total loans and leases
0.52%
0.32%
Total loans held-for-investment
0.62%
0.34%
Total loans held-for-investment (excluding loans at fair value and PPP loans) (1)
0.74%
0.34%
Allowance for loan losses to:
Total loans and leases
1.17%
0.95%
Total loans held-for-investment
1.38%
0.99%
Total loans held-for-investment (excluding loans at fair value and PPP loans) (1)
1.65%
1.00%
Non-performing loans
224.04%
294.12%
Total loans and leases
$
1,513,963
998,414
Total loans and leases held-for-investment
$
1,284,764
964,710
Total loans and leases held-for-investment (excluding loans at fair value and PPP loans)
$
1,072,727
954,164
Allowance for loan and lease losses
$
17,767
9,513
(1) The allowance for loan losses to total loans held-for-investment (excluding loans at fair value and PPP loans) ratio is a non-GAAP financial measure. See “Non-GAAP Financial Measures” above for a reconciliation of this measure to its most comparable GAAP measure. PPP loans have only been excluded from this calculation as of December 31, 2020.
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Deposits and Equity
Deposits were $1.2 billion as of December 31, 2020, up $390.2 million, or 45.8%, from December 31, 2019. Non-interest bearing deposits increased $64.4 million, or 46.2%, from December 31, 2019. Interest-bearing checking accounts increased $112.2 million, or 118.8%, from December 31, 2019. Money market accounts/savings accounts increased $267.2 million, or 87.5% since December 31, 2019, driven by business money market accounts and sweep accounts. Increases in core deposits were driven from loan customers as part of new business and municipal relationships and also as a result of the PPP loan process. Certificates of deposit decreased $53.5 million, or 17.2%, from December 31, 2019, as non-term deposits were preferred by customers in this low rate environment.
The following table summarizes our deposit balances and weighted average rate paid for the periods presented.
Year ended December 31, 2020
Year ended December 31, 2019
Weighted
Weighted
Average
average
Percent of
Average
average
Percent of
(dollars in thousands)
amount
rate paid
total deposits
amount
rate paid
total deposits
Non-interest bearing deposits
$
190,209
—
16.89%
$
126,002
—
15.14%
Interest bearing deposits
623,368
0.84%
55.36%
396,158
1.69%
47.59%
Time deposits:
Under $100,000
26,445
1.80%
2.35%
19,597
2.34%
2.35%
$100,000 and greater
286,083
1.48%
25.40%
290,696
2.32%
34.92%
Total
$
1,126,105
1.07%
100.00%
$
832,453
1.97%
100.00%
Consolidated stockholders’ equity of the Corporation was $141.6 million, or 8.2% of total assets as of December 31, 2020, as compared to $120.7 million, or 10.50% of total assets as of December 31, 2019. The change in stockholders’ equity is the result of year-to-date net income of $26.4 million and an increase in unrealized gain on AFS securities of $2.6 million, partially offset by unearned compensation due to leveraged ESOP of $2 million, net of a $212 thousand payment on the ESOP loan which released 13,328 shares to the ESOP, as well as dividends paid of $1.5 million year to date.
Non-GAAP Financial Measures
Meridian believes that non-GAAP measures are meaningful because they reflect adjustments commonly made by management, investors, regulators and analysts to evaluate performance trends and the adequacy of common equity. This non-GAAP disclosure has limitations as an analytical tool, should not be viewed as a substitute for performance and financial condition measures determined in accordance with GAAP, and should not be considered in isolation or as a substitute for analysis of Meridian’s results as reported under GAAP, nor is it necessarily comparable to non-GAAP performance measures that may be presented by other companies.
The table below provides the non-GAAP reconciliation for our tangible book value per common share for Meridian Corporation:
2020
2019
Reconciliation of tangible book value per common share:
December 31
December 31
Book value per common shares
$
23.08
$
18.84
Less: Impact of goodwill and intangible assets
0.73
0.75
Tangible book value per common share
$
22.35
$
18.09
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The following is a reconciliation of the allowance for loan losses to total loans held for investment ratio for the years ended December 31, 2020 and 2019. This is considered a non-GAAP measure as the calculation excludes the impact of loans held for investment that are fair valued and the impact of PPP loans as these loan types are not included in the allowance for loan losses calculation.
2020
2019
Reconciliation of Allowance for Loan Losses / Total loans held for investment
December 31
December 31
Allowance for loan losses / Total loans held for investment
1.38%
0.99%
Less: Impact of loans held for investment - fair valued
0.00%
0.01%
Less: Impact of PPP loans
0.27%
—
Allowance for loan losses / Total loans held for investment (excl. loans at fair value and PPP loans)
1.65%
1.00%
Liquidity and Capital Resources
Management maintains liquidity to meet depositors’ needs for funds, to satisfy or fund loan commitments, and for other operating purposes. Meridian’s foundation for liquidity is a stable and loyal customer deposit base, cash and cash equivalents, and a marketable investment portfolio that provides periodic cash flow through regular maturities and amortization or that can be used as collateral to secure funding. In addition, as part of its liquidity management, Meridian maintains a segment of commercial loan assets that are comprised of shared national credits (“SNCs”), which have a national market and can be sold in a timely manner. Meridian’s primary liquidity, which totaled $408.8 million at December 31, 2020, compared to $161.5 million at December 31, 2019, includes investments, SNCs, Federal funds sold, mortgages held-for-sale and cash and cash equivalents, less the amount of securities required to be pledged for certain liabilities. Meridian also anticipates scheduled payments and prepayments on its loan and mortgage-backed securities portfolios.
In addition, Meridian maintains borrowing arrangements with various correspondent banks, the FHLB and the Federal Reserve Bank of Philadelphia to meet short-term liquidity needs. Through its relationship at the Federal Reserve, Meridian had available credit of approximately $11.6 million at December 31, 2020. At December 31, 2020, Meridian had borrowed $10 million from the Federal Reserve under its available borrowing arrangement and $153.3 million under the Federal Reserve’s PPPLF program. As a member of the FHLB, we are eligible to borrow up to a specific credit limit, which is determined by the amount of our residential mortgages, commercial mortgages and other loans that have been pledged as collateral. As of December 31, 2020, Meridian’s maximum borrowing capacity with the FHLB was $638.9 million. At December 31, 2020, Meridian had borrowed $109.1 million and the FHLB had issued letters of credit, on Meridian’s behalf, totaling $143 million against its available credit lines. At December 31, 2020, Meridian also had available $39 million of unsecured lines of credit with other financial institutions as well as $256.6 million of available short or long term funding through the Certificate of Deposit Account Registry Service (“CDARS”) program and $182.4 million of available short or long term funding through brokered CD arrangements. Management believes that Meridian has adequate resources to meet its short-term and long-term funding requirements.
At December 31, 2020, Meridian had $421.4 million in unfunded loan commitments. Management anticipates these commitments will be funded by means of normal cash flows. Certificates of deposit greater than or equal to $250 thousand scheduled to mature in one year or less from December 31, 2020 totaled $158.7 million. Management believes that the majority of such deposits will be reinvested with Meridian and that certificates that are not renewed will be funded by a reduction in cash and cash equivalents or by pay-downs and maturities of loans and investments. At December 31, 2020, Meridian had a reserve for unfunded loan commitments of $181 thousand.
Meridian meets the definition of “well capitalized” for regulatory purposes on December 31, 2020. Our capital category is determined for the purposes of applying the bank regulators’ “prompt corrective action” regulations and for determining levels of deposit insurance assessments and may not constitute an accurate representation of Meridian’s overall financial condition or prospects.
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Under federal banking laws and regulations, Meridian is required to maintain minimum capital as determined by certain regulatory ratios. Capital adequacy for regulatory purposes, and the capital category assigned to an institution by its regulators, may be determinative of an institution’s overall financial condition. Under the final capital rules that became effective as of January 1, 2019, a capital conservation buffer is fully phased in at 2.5%.
Community banks have long raised concerns with bank regulators about the regulatory burden, complexity, and costs associated with certain provisions of the Basel III Rule. In response, Congress provided an “off-ramp” for institutions, like us, with total consolidated assets of less than $10 billion. Section 201 of the Regulatory Relief Act instructed the federal banking regulators to establish a single "Community Bank Leverage Ratio" (“CBLR”) of between 8 and 10%. Under the final rule, a community banking organization is eligible to elect the new framework if it has: less than $10 billion in total consolidated assets, limited amounts of certain assets and off-balance sheet exposures, and a CBLR greater than 9%.The bank regulatory agencies temporarily lowered the CBLR to 8% as a result of the COVID-19 pandemic. During the first quarter of 2020, the Bank adopted the CBLR framework as its primary regulatory capital ratio, but reports all ratios for comparative purposes.
The following table summarizes data and ratios pertaining to our capital structure.
December 31, 2020
To Be Well Capitalized
Actual
Under CBLR Framework
(dollars in thousands)
Amount
Ratio
Amount
Ratio
Tier 1 capital (to average assets)
Corporation
$
134,564
8.96%
$
120,082
8.00%
Bank
173,231
11.54%
120,080
8.00%
December 31, 2019
To be well capitalized under
For capital adequacy
prompt corrective action
Actual
purposes
provisions *
(dollars in thousands):
Amount
Ratio
Amount
Ratio
Amount
Ratio
Total capital (to risk-weighted assets)
Corporation
$
166,471
16.10%
$
108,576
10.50%
$
103,405
10.00%
Bank
166,360
16.09%
108,571
10.50%
103,401
10.00%
Common equity tier 1 capital (to risk-weighted assets)
Corporation
115,934
11.21%
72,384
7.00%
67,214
6.50%
Bank
154,881
14.98%
72,381
7.00%
67,211
6.50%
Tier 1 capital (to risk-weighted assets)
Corporation
115,934
11.21%
87,895
8.50%
82,724
8.00%
Bank
154,881
14.98%
87,891
8.50%
82,721
8.00%
Tier 1 capital (to average assets)
Corporation
115,934
10.55%
43,973
4.00%
54,966
5.00%
Bank
154,881
14.08%
44,013
4.00%
55,017
5.00%
* Prompt corrective action requirements do not apply to Meridian Corporation but are included as information only
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