OHIO VALLEY BANC CORP 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (dollars in thousands, except share and per share data) Forward Looking Statements Certain statements contained in this report and other publicly available documents incorporated herein by reference constitute "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Act of 1934, as amended (the “Exchange Act”), and as defined in the Private Securities Litigation Reform Act of 1995. Such statements are often, but not always, identified by the use of such words as “believes,” “anticipates,” “expects,” “intends,” “plan,” “goal,” “seek,” “project,” “estimate,” “strategy,” “future,” “likely,” “may,” “should,” “will,” and other similar expressions. Such statements involve various important assumptions, risks, uncertainties, and other factors, many of which are beyond our control and which could cause actual results to differ materially from those expressed in such forward looking statements. These factors include, but are not limited to: the effects of COVID-19 on our business, operations, customers and capital position; higher default rates on loans made to our customers related to COVID-19 and its impact on our customers’ operations and financial condition; the impact of COVID-19 on local, national and global economic conditions; the effects of various governmental responses to COVID-19; unexpected changes in interest rates or disruptions in the mortgage market; the effects of various governmental responses to COVID-19; changes in political, economic or other factors, such as inflation rates, recessionary or expansive trends, taxes, the effects of implementation of legislation and the continuing economic uncertainty in various parts of the world; competitive pressures; fluctuations in interest rates; the level of defaults and prepayment on loans made by Ohio Valley Banc Corp. (“Ohio Valley”) and its direct and indirect subsidiaries (collectively, the “Company”); unanticipated litigation, claims, or assessments; fluctuations in the cost of obtaining funds to make loans; and regulatory changes. Additional detailed information concerning such factors is available in the Company’s filings with the Securities and Exchange Commission, under the Exchange Act, including the disclosure under the heading “Item 1A. Risk Factors” of Part I of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2021. Readers are cautioned not to place undue reliance on such forward looking statements, which speak only as of the date hereof. The Company undertakes no obligation and disclaims any intention to republish revised or updated forward looking statements, whether as a result of new information, unanticipated future events or otherwise. BUSINESS OVERVIEW: The following discussion on consolidated financial statements include the accounts of Ohio Valley and its wholly-owned subsidiaries, The Ohio Valley Bank Company (the “Bank”), Loan Central, Inc., a consumer finance company (“Loan Central”), Ohio Valley Financial Services Agency, LLC, an insurance agency, and OVBC Captive, Inc., a limited purpose property and casualty insurance company (the “Captive”). The Bank has two wholly-owned subsidiaries, Race Day Mortgage, Inc., an Ohio corporation that provides online consumer mortgages (“Race Day”), and Ohio Valley REO, LLC, an Ohio limited liability company. Ohio Valley and its subsidiaries are collectively referred to as the “Company.” The Company is primarily engaged in commercial and retail banking, offering a blend of commercial and consumer banking services within southeastern Ohio as well as western West Virginia. The banking services offered by the Bank include the acceptance of deposits in checking, savings, time and money market accounts; the making and servicing of personal, commercial, floor plan and student loans; the making of construction and real estate loans; and credit card services. The Bank also offers individual retirement accounts, safe deposit boxes, wire transfers and other standard banking products and services. Furthermore, the Bank offers Tax Refund Advance Loans (“TALs”) to Loan Central tax customers. A TAL represents a short-term loan offered by the Bank to tax preparation customers of Loan Central. IMPACT of COVID-19: On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") was signed into law. The CARES Act provided assistance to small businesses through the establishment of the Paycheck Protection Program ("PPP"). The PPP provided small businesses with funds to use for payroll and certain other expenses. The funds were provided in the form of loans that would be fully forgiven if certain criteria were met. In 2021, Congress amended the PPP by extending the authority of the Small Business Administration (“SBA”) to guarantee loans and the ability of PPP lenders to disburse PPP loans until May 31, 2021. The Company supported its clients who experienced financial hardship due to COVID-19 through participation in the PPP, assistance with expedited deposits of CARES Act stimulus payments, and loan modifications, as needed. 28 FINANCIAL RESULTS OVERVIEW: Net income totaled $3,690 during the third quarter of 2022, an increase of $654 over the same period of 2021. Earnings per share for the third quarter of 2022 finished at $.77 per share, compared to $.63 per share during the third quarter of 2021. Net income totaled $9,814 during the nine months ended September 30, 2022, an increase of $386 over the same period of 2021. Earnings per share during the first nine months of 2022 finished at $2.06 per share, compared to $1.97 per share during the first nine months of 2021. Earnings during both the q uarterly and yearly periods were positively impacted by growth in both net interest income and noninterest income, and decreases in provision expense, partially offset by increases in noninterest expense. The impact of higher net earnings during 2022 also had a direct impact to the Company’s annualized net income to average asset ratio, or return on assets, which increased to 1.04% for the nine months ended September 30, 2022, compared to 1.03% for the nine months ended September 30, 2021. The Company’s net income to average equity ratio, or return on equity, also increased to 9.56% for the nine months ended September 30, 2022, compared to 9.13% for the nine months ended September 30, 2021. During the three months ended September 30, 2022, net interest income increased $1,486, or 14.3%, over the same period in 2021. During the nine months ended September 30, 2022, net interest income increased $1,766, or 5.8%, over the same period in 2021. Growth in net interest income was impacted by an increase in the net interest margin and higher average earning assets. In relation to the Federal Reserve’s actions of increasing market interest rates during 2022, the net interest margin has responded positively due to the yield on earning assets increasing more than the cost of interest-bearing liabilities. Growth in earning asset yields has positively impacted interest earnings during both the quarter and year-to-date periods ended September 30, 2022. Net interest income growth was further impacted by lower interest expense on deposits, decreasing 20.8% and 31.0% during both the quarterly and year-to-date periods ended September 30, 2022, respectively, compared to the same periods in 2021. This is largely the result of a lower average cost of funds, as well as a composition shift from higher-costing time deposits to lower-costing demand and savings account balances. The increase in average earning assets came primarily from growth in average investment securities in relation to higher average deposit balances. Average loans also increased during the third quarter of 2022 by 1.6%, which helped limit the year-to-date average loan decline to just 0.6% during the year-to-date period. The quarterly increase in average loans was impacted by higher average commercial and consumer loans, while the year-to-date decrease in average loans was impacted by decreased residential real estate loans and payoffs of PPP loans. During the three months ended September 30, 2022, the Company’s provision for loan loss was negative $378, which contributed to a $285 decrease in provision expense when compared to the same period in 2021. This decrease in provision expense was impacted by the elimination of a specific reserve on a collateral dependent impaired loan due to the full collection of the loan balance. During the nine months ended September 30, 2022, the Company’s provision for loan loss was negative $691, which contributed to a $573 decrease in provision expense when compared to the same period in 2021. The decrease from the prior year was related to improved economic risk factors such as lower criticized and classified loans, as well as the partial release of the COVID-19 reserve for the pandemic environment. During the three months ended September 30, 2022, noninterest income was relatively stable, increasing $3, or 0.1%, over the same period in 2021. This increase came largely from increases in service charges on deposit accounts. During the nine months ended September 30, 2022, noninterest income increased $514, or 6.1%, from the same period in 2021. This increase came largely from increases in service charges on deposit accounts, interchange income on debit and credit card transactions, and mortgage banking income in relation to Race Day. During the three months ended September 30, 2022, noninterest expense increased $878, or 9.3%, over the same period in 2021. During the nine months ended September 30, 2022, noninterest expense increased $2,205, or 7.9%, over the same period in 2021. The increases during both periods were primarily related to higher salaries and employee benefit costs impacted by the staffing of Race Day, as well as higher annual merit expenses. The Company also experienced increases in data processing costs, professional fees, and software expense, as well as various other overhead costs from Race Day. The Company’s provision for income taxes increased $242, or 43.3%, during the three months ended September 30, 2022, and increased $262, or 14.4%, during the nine months ended September 30, 2022, compared to the same periods in 2021. This was largely due to the changes in taxable income affected by the factors mentioned above. At September 30, 2022, total assets were $1,252,474, an increase of $2,705 from year-end 2021. Higher assets were primarily impacted by increases in loans and investment securities, which were collectively up $31,914, or 3.1%, from year-end 2021. This was largely the result of the deployment of a portion of the Company’s heightened cash balance to higher yielding earning assets during the first nine months of 2022 and resulted in a decrease of $38,298 in Federal Reserve Bank balances from year-end 2021. The Company’s loan portfolio experienced increases in the commercial segment (+3.6%) and the consumer loan segment (+8.8%), partially offset by a decrease in the residential real estate segment (-0.8%). 29 At September 30, 2022, total liabilities were $1,123,854, up $15,441 from year-end 2021. Contributing most to this increase were higher deposit balances, which increased $14,417 from year-end 2021. The increase was impacted mostly from higher interest-bearing demand deposits, partially offset by lower time deposits and noninterest bearing demand deposits. At September 30, 2022, total shareholders' equity was $128,620, down $12,736 since December 31, 2021. This was largely the result of cash dividends paid and a decrease in net unrealized gains on available for sale securities, being partially offset by improved quarterly net income. Regulatory capital ratios of the Company remained higher than the "well capitalized" minimums. Comparison of Financial Condition at September 30, 2022 and December 31, 2021 The following discussion focuses, in more detail, on the consolidated financial condition of the Company at September 30, 2022 compared to December 31, 2021. This discussion should be read in conjunction with the interim consolidated financial statements and the footnotes included in this Form 10‑Q. Cash and Cash Equivalents At September 30, 2022, cash and cash equivalents were $113,111, a decrease of $38,923, or 25.6%, from December 31, 2021. The decrease in cash and cash equivalents came mostly from lower interest-bearing deposits on hand with correspondent banks. Over 86% of cash and cash equivalents consisted of the Company’s interest-bearing Federal Reserve Bank clearing account, which decreased $38,298, or 28.2%, from year-end 2021. The Company utilizes its interest-bearing Federal Reserve Bank clearing account to manage excess funds, as well as to assist in funding earning asset growth. During the first nine months of 2022, the Company utilized a portion of its clearing account balances to reinvest in higher-yielding loans and investment securities. This shift into higher-yielding earning assets helped to minimize the dilutive effect that higher clearing account balances have on the net interest margin. The interest rate paid on both the required and excess reserve balances of the Federal Reserve Bank account is based on the targeted federal funds rate established by the Federal Open Market Committee. During the first nine months of 2022, the rate associated with the Company’s Federal Reserve Bank clearing account increased 300 basis points due to rising inflationary concerns, resulting in a target federal funds rate range of 3.00% to 3.25%. Although interest-bearing deposits in the Federal Reserve Bank are the Company's lowest-yielding interest-earning asset, the investment rate is higher than the rate the Company would have received from its investments in federal funds sold. Furthermore, Federal Reserve balances are 100% secured by the U.S. Government. As liquidity levels continuously vary based on consumer activities, amounts of cash and cash equivalents can vary widely at any given point in time. The Company’s focus during periods of heightened liquidity will be to invest excess funds into longer-term, higher-yielding assets, primarily loans, when opportunities arise. Certificates of Deposit At September 30, 2022, the Company had $1,868 in certificates of deposit owned by the Captive, down from $2,329 at year-end 2021. The deposits on hand at September 30, 2022 consisted of eight certificates with remaining maturity terms ranging from less than 7 months up to 12 months. Securities The balance of total securities increased $7,192, or 3.8%, compared to year-end 2021. The increase was primarily the result of investment security purchases funded by excess funds being maintained within the Federal Reserve Bank clearing account. The Company’s investment securities portfolio is made up mostly of U.S. Government agency (“Agency”) mortgage-backed securities, which represented 63.4% of total investments at September 30, 2022. During the first nine months of 2022, the Company invested $29,470 in new Agency mortgage-backed securities, while receiving proceeds from maturities and principal repayments of $18,019. The monthly repayment of principal has been the primary advantage of Agency mortgage-backed securities as compared to other types of investment securities, which deliver proceeds upon maturity or call date. The Company also redeployed a portion of its heightened excess funds to purchase $24,633 in U.S. Government securities during the first nine months of 2022. 30 In addition, the continued increases in long-term reinvestment rates during 2022 led to a $24,567 decrease in the fair value of the Company’s available for sale securities. The fair value of an investment security moves inversely to interest rates, so as rates increased, the unrealized gain in the portfolio decreased. These changes in rates are typical and do not impact earnings of the Company as long as the securities are held to full maturity. Loans The loan portfolio represents the Company’s largest asset category and is its most significant source of interest income. Gross loan balances increased to $855,913 at September 30, 2022, representing an increase of $24,722, or 3.0%, as compared to $831,191 at December 31, 2021. The increase in loans came primarily from the commercial and consumer loan portfolios, partially offset by a decrease in the residential real estate portfolio from year-end 2021. The Company’s total commercial loan portfolio increased $15,098, or 3.6%, from year-end 2021. Contributing most to this increase were higher loan balances within the commercial and industrial portfolio, up $11,892, or 8.4%, from year-end 2021. The growth was impacted by an increase in larger loan originations for the first nine months of 2022. Commercial and industrial loans consist of loans to corporate borrowers primarily in small to mid-sized industrial and commercial companies that include service, retail and wholesale merchants. Collateral securing these loans includes equipment, inventory, and stock. The commercial and industrial segment also includes PPP loan balances that had a significant impact on average earning asset growth in 2021. The Company’s remaining PPP loans of $446 that were outstanding at year-end 2021 were paid off during the first quarter of 2022. Commercial loans were also positively impacted by an increase in the commercial real estate portfolio, which increased $3,206, or 1.1%, from year-end 2021. The commercial real estate segment comprised the largest portion of the Company’s total commercial loan portfolio at September 30, 2022 at 65.0%. The increase came from construction loans, which offset the decreases in both the owner- and nonowner-occupied loan segments from year-end 2021. While management believes lending opportunities exist in the Company’s markets, future commercial lending activities will depend upon economic and other related conditions, such as general demand for loans in the Company’s primary markets, interest rates offered by the Company, and the effects of competitive pressure and normal underwriting considerations. Management will continue to place emphasis on its commercial lending, which generally yields a higher return on investment as compared to other types of loans. Further increases in loans came from the Company’s consumer loan balances from year-end 2021, increasing $11,778, or 8.8%. This change was impacted by a $6,203, or 12.9%, increase in automobile loans, and a $4,380, or 19.6%, increase in home equity lines of credit. The remaining consumer loan portfolio increased $1,195, or 1.9%, from year-end 2021, mostly from unsecured consumer loans. The Company’s residential real estate loan portfolio decreased $2,154, or 0.8%, from year-end 2021. The residential real estate loan segment comprises the largest portion of the Company’s overall loan portfolio at 31.8% and consists primarily of one- to four-family residential mortgages and carries many of the same customer and industry risks as the commercial loan portfolio. The decrease in residential real estate loans was largely related to the principal repayments and payoffs in both long-term fixed-rate and short-term adjustable-rate mortgages. A decrease in refinancing volume and an increase in long-term reinvestment rates have led to a slower demand for mortgage loans during 2022. Allowance for Loan Losses The Company established a $4,811 allowance for loan losses at September 30, 2022, which represents a decrease from the $6,483 allowance at year-end 2021. As part of the Company’s quarterly analysis of the allowance for loan losses, management will review various factors that directly impact the general allocation needs of the allowance, which include: historical loan losses, loan delinquency levels, local economic conditions and unemployment rates, criticized/classified asset coverage levels and loan loss recoveries. During the first nine months of 2022, the Company experienced a $1,662 decrease in its general allocations of the allowance for loan losses. Contributing to this decrease were lower reserves associated with the COVID-19 risk factor. The Company added a COVID-19 risk factor in 2020 due to the negative economic outlook of the pandemic. Based on positive asset quality trends and lower net charge offs, management released $645 of the reserve related to the COVID-19 risk factor during the first nine months of 2022, resulting in a corresponding decrease in both provision expense and general allocations of the allowance for loan loss. 31 Excluding the impact from the COVID-19 risk factor, the Company experienced a $1,017 decrease in general allocations of the allowance for loan losses related to improvements in various economic risk factors, including those associated with criticized and classified assets. During the second and third quarters of 2022, the Company experienced payoffs on two commercial loan relationships that had $8,019 in loans and committed balances, which reduced classified assets and released general reserves during the first nine months of 2022. Furthermore, the Company upgraded a single commercial loan relationship during the first quarter of 2022 totaling $2,232 from a classified to a criticized loan status, which also contributed to the release of general reserves during the first nine months of 2022. The loan upgrade came as a result of improvements in the borrower’s financial performance and ability to repay their loans. Additionally, the Company’s delinquency levels decreased from year-end 2021, with nonperforming loans to total loans of 0.46% at September 30, 2022, compared to 0.56% at December 31, 2021, and lower nonperforming assets to total assets of 0.32% at September 30, 2022, compared to 0.37% at year-end 2021. Lower general allocations during the first nine months of 2022 were also impacted by higher loan recoveries. The Company’s specific allocations decreased $10 from year-end 2021. Specific allocations of the allowance for loan losses identify loan impairment by measuring fair value of the underlying collateral and the present value of estimated future cash flows. The change in specific reserves was related to the payoff on one commercial borrower during the third quarter of 2022 that led to the release of specific reserves. The Company’s allowance for loan losses to total loans ratio finished at 0.56% at September 30, 2022, and 0.78% at year-end 2021. Management believes that the allowance for loan losses at September 30, 2022 was adequate and reflected probable incurred losses in the loan portfolio. Changes in the circumstances of particular borrowers, as well as adverse developments in the economy, particularly with respect to inflation, are factors that could change, and management will make adjustments to the allowance for loan losses as needed. Asset quality will continue to remain a key focus of the Company, as management continues to stress not just loan growth, but quality in loan underwriting. Deposits Deposits continue to be the most significant source of funds used by the Company to meet obligations for depositor withdrawals, fund the borrowing needs of loan customers, and fund ongoing operations. Total deposits at September 30, 2022 increased $14,417, or 1.4%, from year-end 2021. This change in deposits came primarily from interest-bearing deposit balances, which were up by $14,643, or 2.1%, from year-end 2021, while noninterest-bearing deposits decreased $226, or 0.1%, from year-end 2021. The increase in interest-bearing deposits was primarily a result of higher interest-bearing NOW account balances from year-end 2021, which increased $34,322, or 16.7%. This increase was largely driven by higher municipal NOW product balances, particularly within the Gallia County, Ohio, and Mason County, West Virginia, market areas. Growth in interest-bearing deposits also came from savings deposits, which increased $8,642, or 5.9%, from year-end 2021, primarily from higher statement savings account balances. Interest-bearing deposit growth was further impacted by higher money market balances from year-end 2021, which increased $7,054, or 4.3%. Partially offsetting the increases in interest-bearing deposits were time deposit balances, which decreased $35,375, or 18.7%, from year-end 2021. The decrease came primarily from the Company’s retail time deposits, which decreased $22,709 from year-end 2021 due to the consumer shift to savings and money market products. Time deposits were also impacted by a $12,666 decrease in brokered and internet CD issuances, which was primarily the result of the heightened liquidity position from year-end 2021. The decrease in noninterest-bearing deposits was primarily in the Company’s business and incentive-based checking account balances from year-end 2021. While facing increased competition for deposits in its market areas, the Company will continue to emphasize growth and retention in its core deposit relationships during the remainder of 2022, reflecting the Company’s efforts to reduce its reliance on higher cost funding and improve net interest income. 32 Other Borrowed Funds Other borrowed funds were $18,085 at September 30, 2022, a decrease of $1,529, or 7.8%, from year-end 2021. The decrease was related primarily to the principal repayments applied to various FHLB advances during the first quarter of 2022. While deposits continue to be the primary source of funding for growth in earning assets, management will continue to utilize FHLB advances and promissory notes to help manage interest rate sensitivity and liquidity. Shareholders’ Equity Total shareholders' equity at September 30, 2022 decreased $12,736, or 9.0%, to $128,620, as compared to $141,356 at December 31, 2021. This decrease was primarily the result of quarterly net income being completely offset by cash dividends paid and a decrease in the fair value of available for sale securities. The after-tax change in fair value totaled $19,408 from year-end 2021, as market rate increases continued during the first nine months of 2022, causing a decrease in the fair value of the Company’s available for sale investment portfolio. Comparison of Results of Operations For the Three and Nine Months Ended September 30, 2022 and 2021 The following discussion focuses, in more detail, on the consolidated results of operations of the Company for the three and nine months ended September 30, 2022, compared to the same period in 2021. This discussion should be read in conjunction with the interim consolidated financial statements and the footnotes included in this Form 10‑Q. Net Interest Income The most significant portion of the Company's revenue, net interest income, results from properly managing the spread between interest income on earning assets and interest expense incurred on interest-bearing liabilities. During the three months ended September 30, 2022, net interest income increased $1,486, or 14.3%, compared to the same period in 2021. During the nine months ended September 30, 2022, net interest income increased $1,766, or 5.8%, compared to the same period in 2021. The improvement during both periods came from an increase in average earning assets, as well as a combination of higher earning asset yields and lower average costs paid on deposits, partially offset by lower loan fees. Total interest and fee income recognized on the Company’s earning assets increased $1,306, or 11.6%, during the third quarter of 2022, and increased $859, or 2.6%, during the first nine months of 2022, compared to the same periods in 2021. The earnings growth during both periods was impacted by interest on loans, which increased $705, or 7.3%, during the third quarter of 2022, and $45, or 0.2%, during the first nine months of 2022, compared to the same periods in 2021. This improvement was largely related to average loan yield increases impacted by the aggressive actions taken by the Federal Reserve to increase rates during the first nine months of 2022. Since March 2022, the Federal Reserve has increased rates by 300 basis points, which has led to the repricing of a portion of the Company’s loan portfolio. As a result, the average interest rate yield on loans increased 25 basis points during the third quarter of 2022, and increased 3 basis points during the first nine months of 2022, compared to the same periods in 2021. Partially offsetting the growth in interest income on loans were decreases in loan fees, which were down $243 and $892 during the quarterly and year-to-date periods ended September 30, 2022, respectively, compared to the same periods in 2021. The decreases in loan fees were primarily a result of decreased PPP fees during both periods as a result of the payoffs of all PPP loans by the end of the first quarter of 2022. Average loans increased $13,106 during the third quarter of 2022, while decreasing $4,987 during the first nine months of 2022, compared to the same periods in 2021. The quarter-to-date increase was largely impacted by growth in average commercial and industrial loans, as well as average consumer automobile loans. The year-to-date decrease was primarily the result of the payoff of all of the Company’s PPP loans during 2021 and 2022, a decrease in average residential real estate loan balances impacted by principal repayments and payoffs, and a lower volume of new loan originations. 33 Total interest income from interest-bearing deposits with banks increased $466, or 932.0%, during the third quarter of 2022, and increased $691, or 622.5%, during the first nine months of 2022, compared to the same periods in 2021. The increases during both periods were largely attributable to the rate increases associated with the Company’s interest-bearing Federal Reserve Bank clearing account. As previously mentioned, the Federal Reserve took action during the first nine months of 2022 to increase the target federal funds rate by 300 basis points due to rising inflationary concerns. This had a corresponding effect on the interest rate tied to the Federal Reserve clearing account, which also increased by 300 basis points. The impact from higher rates was partially offset by lower average Federal Reserve Bank balances, which decreased $20,473 during the third quarter of 2022, and $9,115 during the first nine months of 2022, compared to the same periods in 2021. The Company utilized Federal Reserve Bank balances to help fund new loans and security purchases during the first nine months of 2022. Total interest on securities increased $346, or 58.8%, during the third quarter of 2022, and increased $981, or 61.7%, during the first nine months of 2022, compared to the same periods in 2021. Due to the surge in deposits and proceeds from PPP loan payoffs, the Company has taken opportunities to reinvest a portion of these excess funds into new U.S. Government, Agency and Agency mortgage-backed securities. This contributed to average security balance increases of $23,753 during the third quarter of 2022 and $46,699 during the first nine months of 2022, compared to the same periods in 2021. The average yield on securities also increased 52 basis points during the third quarter of 2022 and 33 basis points during the first nine months of 2022, which contributed to growth in interest income. This change was partly impacted by the Company’s decision to sell $48,732 in lower yielding securities during the fourth quarter of 2021 that carried an average yield of 0.89% and replace them with similar securities at an average yield of 1.30%. Total interest expense incurred on the Company’s interest-bearing liabilities decreased $180, or 20.8%, during the third quarter of 2022, and decreased $907, or 31.0%, during the first nine months of 2022, compared to the same periods in 2021. Interest expense decreased despite increases in average interest-bearing deposits of $5,217 during the third quarter of 2022, and $15,894 during the first nine months of 2022, compared to the same periods in 2021. The converse relationship between increasing average interest-bearing liabilities to lower interest expense is related to the repricing efforts in a lower rate environment, which drove down average costs during 2021 and 2022. Lower deposit expense was mostly impacted by the continued decline in CD rates, which contributed to a $217 decrease in time deposit interest expense during the third quarter of 2022, and an $863 decrease during the first nine months of 2022, compared to the same periods in 2021. As CD rates have repriced downward, the Company has benefited from lower interest expense on newly issued CDs at lower rates. As a result of the rate repricings on time deposits, the Company’s total weighted average costs on interest-bearing deposits has decreased by 17 basis points from 0.45% during the nine months ended September 30, 2021, to 0.28% during the nine months ended September 30, 2022. The Company’s net interest margin is defined as fully tax-equivalent net interest income as a percentage of average earning assets. During 2022, the Company’s third quarter net interest margin improved to 4.03%, compared to 2021’s third quarter net interest margin of 3.57%. The Company’s year-to-date net interest margin improved to 3.73% at September 30, 2022, compared to 2021’s year-to-date net interest margin of 3.62%. The quarterly and year-to-date margin increases were impacted by the actions taken by the Federal Reserve to increase rates by 300 basis points during the third quarter and nine months ended September 30, 2022. This had a direct impact to the rate repricings of the Federal Reserve Bank account and a portion of the loan portfolio, which had a positive impact on the margin. Margin enhancement also came from the redeployment of lower yielding Federal Reserve Bank balances into higher yielding loans and securities. This composition shift from lower yielding Federal Reserve clearing account balances has reduced the dilutive effect to the net interest margin during 2022. Partially offsetting these positive effects to the margin were decreases in PPP loan fees and lower average year-to-date loan balances. The Company’s primary focus is to invest its funds into higher yielding assets, particularly loans, as opportunities arise. However, if loan balances do not continue to expand and remain a larger component of overall earning assets, the Company will face pressure within its net interest income and margin improvement. Provision for Loan Losses For the three months ended September 30, 2022, the Company’s provision expense decreased $285 when compared to the same period in 2021. The quarterly decrease was directly related to the elimination of a specific reserve on a collateral dependent impaired loan due to the full collection of the loan balance. Upon payoff of the impaired loan, the Company reduced provision expense by $297, which represented the specific reserves that had been allocated to the collateral deficiency of the loan. For the nine months ended September 30, 2022 , the Company’s provision expense decreased $573 when compared to the same period in 2021. The year-to-date improvement came primarily from a decrease in general allocations. As previously discussed, the Company’s general allocations of the allowance for loan losses were impacted by the release of $645 in COVID-19 general reserves during the first quarter of 2022. The Company removed a portion of its COVID-19 reserves due to positive asset quality trends and lower net charge offs, which resulted in a corresponding decrease of $645 to provision expense during the first nine months of 2022. Further contributing to lower provision expense were the impacts of the Company’s other general reserve allocations. During the first nine months of 2022, the Company decreased its general allocations, excluding the COVID-19 risk factor, from $3,840 at December 31, 2021, to $2,715 at September 30, 2022. Lower general reserves were a result of various improvements within the economic risk factor calculation that included: lower criticized and classified assets, lower delinquency levels, and higher annualized level of loan recoveries. Decreases in provision expense were partially offset by increases in net charge offs during the year, which required corresponding increases to provision expense. During the first nine months of 2022, net charge offs increased $603 compared to the same period in 2021, due in large part to the charge off of two commercial and industrial loans in June 2022 totaling $613 as part of a single borrower relationship, which required a corresponding increase to provision expense. 34 Future provisions to the allowance for loan losses will continue to be based on management’s quarterly in-depth evaluation that is discussed in further detail under the caption “Critical Accounting Policies - Allowance for Loan Losses” within this Management’s Discussion and Analysis. Noninterest Income Noninterest income increased $3, or 0.1%, during the three months ended September 30, 2022, and increased $514, or 6.1%, during the nine months ended September 30, 2022, when compared to the same periods in 2021. Higher noninterest revenue was largely impacted by increases in service charges on deposit accounts, which were up $148 and $506 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. This included a higher volume of overdraft transactions during both the quarterly and year-to-date periods of 2022. Further impacting growth in noninterest revenue was interchange income, which increased $54 during the third quarter of 2022, and increased $143 during the first nine months of 2022, compared to the same periods in 2021. This was impacted by an increase in consumer spending that led to a higher volume of transactions associated with the Company’s debit and credit card products. Increases in noninterest revenue also came from mortgage banking income, which increased $6 and $96 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. Mortgage banking income increased largely due to Race Day. Race Day was formed in April 2021 and began conducting business during the third quarter of 2021. During the third quarter of 2022, Race Day experienced loan sales that yielded $108 in mortgage banking revenue, which contributed to $332 in mortgage banking revenue during the first nine months of 2022. These increases were partially offset by decreases in the Bank’s secondary market income due to less volume of mortgage refinancings. Partially offsetting increases to noninterest income were decreases in other noninterest income. During the third quarter of 2022, other noninterest income decreased $167, or 46.9%, compared to the same period in 2021. During the first nine months of 2022, other noninterest income decreased $234, or 29.1%, compared to the same period in 2021. The decreases were largely impacted by the sale of bank owned property during 2021. The property sales from 2021 resulted in a $194 non-recurring gain, which included the sales of vacant land in Lawrence County, Ohio and a branch building in Jackson, Ohio, that had been acquired as part of the merger with the Milton Banking Company in 2016. The remaining noninterest income categories decreased $38, or 11.7%, during the third quarter of 2022, and increased $3, or 0.1%, during the first nine months of 2022, compared to the same periods in 2021. The quarter-to-date decrease was largely impacted by lower earnings on bank owned life insurance and annuity assets. The year-to-date increase came primarily from growth in trust division income. Noninterest Expense Noninterest expense increased $878, or 9.3%, during the three months ended September 30, 2022, and increased $2,205, or 7.9%, during the nine months ended September 30, 2022, compared to the same periods in 2021. Contributing most to the increases in noninterest expense were salaries and employee benefits, which increased $391 and $1,095 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. The e xpense increase was largely from the staffing of Race Day employees in 2021, which led to higher salaries expense in 2022. Other expense increases in this category also came from annual merit increases and higher retirement plan costs in 2022. Higher noninterest expense also came from software costs, which increased $97 and $273 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. The increases were largely impacted by the associated software costs from Race Day, which included various software platforms and resources that were necessary to begin conducting business. 35 Further impacting higher overhead costs were data processing expenses, which increased $109 and $234 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. Higher costs in this category were the direct result of the volume increase in debit and credit card transactions, which increased processing costs. Professional fees also increased $123 during the nine months ended September 30, 2022, while decreasing $7 during the three months ended September 30, 2022, compared to the same periods in 2021. Professional fees for the year were impacted by higher accounting expenses associated with regulatory compliance. The Company also experienced a lower volume of collection costs during the third quarter of 2022. Other noninterest expense also increased $119 and $419 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. This was primarily impacted by various other overhead costs associated with Race Day, including the expense associated with purchasing mortgage loan marketing leads and employee recruiting costs. The remaining noninterest expense categories increased $169 and $61 during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. These increases were mostly a result of higher marketing costs. Efficiency The Company’s efficiency ratio is defined as noninterest expense as a percentage of fully tax-equivalent net interest income plus noninterest income. The effects from provision expense are excluded from the efficiency ratio. Management continues to place emphasis on managing its balance sheet mix and interest rate sensitivity as well as developing more innovative ways to generate noninterest revenue. Comparing the three and nine months ended September 30, 2022, to the same periods in 2021, the Company has benefited from an increase in earning asset yields and a decrease in the average costs on interest-bearing liabilities. The actions of the Federal Reserve to increase market rates have contributed to the asset yield improvement. Furthermore, the composition shift from lower yielding Federal Reserve Bank balances to higher yielding loans and securities has also had a positive impact to the net interest margin. These factors more than offset the decrease in PPP loan fees that were more impactful during 2021 than 2022. As a result, net interest income during the three and nine months ended September 30, 2022, has outperformed the net interest income results during the same periods in 2021. Increases in overhead costs associated with Race Day have contributed to higher noninterest expense, which have increased 9.3% and 7.9% during the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. The increases in overhead expense, net of noninterest revenue, during the third quarter of 2022 are only partially offsetting the benefits of higher net interest earnings. As a result, the Company’s quarterly efficiency number during the quarter decreased (improved) to 71.0% during the three months ended September 30, 2022, from 72.3% during the same period in 2021. While the margin continues to improve, increasing overhead costs has completely offset net interest earnings on a year-to-date basis. As a result, the Company’s year-to-date efficiency number increased (regressed) to 72.3% during the first nine months of 2022 from 70.9% during the same period in 2021. Provision for income taxes The Company’s income tax provision increased $242 during the three months ended September 30, 2022, and increased $262 during the nine months ended September 30, 2022, when compared to the same periods in 2021. The changes in tax expense corresponded directly to the change in associated taxable income during 2022 and 2021. Capital Resources Federal regulators have classified and defined capital into the following components: (i) Tier 1 capital, which includes tangible shareholders’ equity for common stock, qualifying preferred stock and certain qualifying hybrid instruments, and (ii) Tier 2 capital, which includes a portion of the allowance for loan losses, certain qualifying long-term debt, preferred stock and hybrid instruments which do not qualify as Tier 1 capital. 36 In September 2019, consistent with Section 201 of the Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies issued a final rule providing simplified capital requirements for certain community banking organizations (banks and holding companies). Under the rule, a qualifying community banking organization (“QCBO”) is eligible to opt into the Community Bank Leverage Ratio (“CBLR”) framework in lieu of the Basel III capital requirements if it has less than $10 billion in total consolidated assets, limited amounts of certain trading assets and liabilities, limited amounts of off-balance sheet exposure and a leverage ratio greater than 9.0%. The new rule took effect January 1, 2020, and QCBOs were allowed to opt into the new CBLR framework in their Call Report beginning the first quarter of 2020. A QCBO opting into the CBLR framework must maintain a CBLR of 9.0%, subject to a two quarter grace period to come back into compliance, provided that the QCBO maintains a leverage ratio of more than 8.0% during the grace period. A QCBO failing to satisfy these requirements must comply with the existing Basel III capital requirements as implemented by the banking regulators in July 2013. The numerator of the CBLR is Tier 1 capital, as calculated under present rules. The denominator of the CBLR is the QCBO’s average assets, calculated in accordance with the QCBO’s Call Report instructions and less assets deducted from Tier 1 capital. The Bank opted into the CBLR, and will, therefore, not be required to comply with the Basel III capital requirements. As of September 30, 2022, the Bank’s CBLR was 10.55%. Pursuant to the CARES Act, the federal banking regulators in April 2020 issued interim final rules to set the CBLR at 8.0% beginning in the second quarter of 2020 through the end of 2020. The CBLR was then increased to 8.5% in 2021 until it was returned to 9.0% for all community banks beginning January 1, 2022. Cash dividends paid by the Company were $3,717 during the first nine months of 2022. The year-to-date dividends paid totaled $0.78 per share. Liquidity Liquidity relates to the Company's ability to meet the cash demands and credit needs of its customers and is provided by the ability to readily convert assets to cash and raise funds in the market place. Total cash and cash equivalents, held to maturity securities maturing within one year, and available for sale securities, which totaled $298,314, represented 23.8% of total assets at September 30, 2022 compared to $329,264 and 26.3% of total assets at December 31, 2021. To further enhance the Bank’s ability to meet liquidity demands, the FHLB offers advances to the Bank. At September 30, 2022, the Bank could borrow an additional $96,813 from the FHLB. Furthermore, the Bank has established a borrowing line with the Federal Reserve. At September 30, 2022, this line had total availability of $55,203. Lastly, the Bank also has the ability to purchase federal funds from a correspondent bank. For further cash flow information, see the condensed consolidated statement of cash flows above. Management does not rely on any single source of liquidity and monitors the level of liquidity based on many factors affecting the Company’s financial condition. Off-Balance Sheet Arrangements As discussed in Note 5 – Financial Instruments with Off-Balance Sheet Risk, the Company engages in certain off-balance sheet credit-related activities, including commitments to extend credit and standby letters of credit, which could require the Company to make cash payments in the event that specified future events occur. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Standby letters of credit are conditional commitments to guarantee the performance of a customer to a third party. While these commitments are necessary to meet the financing needs of the Company’s customers, many of these commitments are expected to expire without being drawn upon. Therefore, the total amount of commitments does not necessarily represent future cash requirements. 37 Critical Accounting Policies The most significant accounting policies followed by the Company are presented in Note A to the financial statements in the Company’s 2021 Annual Report to Shareholders. These policies, along with the disclosures presented in the other financial statement notes, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Management views critical accounting policies to be those which are highly dependent on subjective or complex judgments, estimates and assumptions, and where changes in those estimates and assumptions could have a significant impact on the financial statements. Management currently views the adequacy of the allowance for loan losses to be a critical accounting policy. Allowance for loan losses The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off. The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans generally consist of loans with balances of $200 or more on nonaccrual status or nonperforming in nature. Loans for which the terms have been modified, and for which the borrower is experiencing financial difficulties, are considered TDRs and classified as impaired. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length and reasons for the delay, the borrower’s prior payment record, and the amount of shortfall in relation to the principal and interest owed. Commercial and commercial real estate loans are individually evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Smaller balance homogeneous loans, such as consumer and most residential real estate, are collectively evaluated for impairment, and accordingly, they are not separately identified for impairment disclosure. TDRs are measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a TDR is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral. For TDRs that subsequently default, the Company determines the amount of reserve in accordance with the accounting policy for the allowance for loan losses. The general component covers non-impaired loans and impaired loans that are not individually reviewed for impairment and is based on historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the most recent three years for the consumer and real estate portfolio segment and 5 years for the commercial portfolio segment. The total loan portfolio’s actual loss experience is supplemented with other economic factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures, and practices; experience, ability, and depth of lending management and other relevant staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations. During the second quarter of 2022, the Company established a new economic risk factor for certain risks that may impact the loan portfolio, such as elevated inflation, increasing interest rates, slowing housing starts, declining GDP, and negative employment trends. The following portfolio segments have been identified: Commercial Real Estate, Commercial and Industrial, Residential Real Estate, and Consumer. 38 Commercial and industrial loans consist of borrowings for commercial purposes by individuals, corporations, partnerships, sole proprietorships, and other business enterprises. Commercial and industrial loans are generally secured by business assets such as equipment, accounts receivable, inventory, or any other asset excluding real estate and generally made to finance capital expenditures or operations. The Company’s risk exposure is related to deterioration in the value of collateral securing the loan should foreclosure become necessary. Generally, business assets used or produced in operations do not maintain their value upon foreclosure, which may require the Company to write down the value significantly to sell. Commercial real estate consists of nonfarm, nonresidential loans secured by owner-occupied and nonowner-occupied commercial real estate as well as commercial construction loans. An owner-occupied loan relates to a borrower purchased building or space for which the repayment of principal is dependent upon cash flows from the ongoing business operations conducted by the party, or an affiliate of the party, who owns the property. Owner-occupied loans that are dependent on cash flows from operations can be adversely affected by current market conditions for their product or service. A nonowner-occupied loan is a property loan for which the repayment of principal is dependent upon rental income associated with the property or the subsequent sale of the property. Nonowner-occupied loans that are dependent upon rental income are primarily impacted by local economic conditions which dictate occupancy rates and the amount of rent charged. Commercial construction loans consist of borrowings to purchase and develop raw land into one- to four-family residential properties. Construction loans are extended to individuals as well as corporations for the construction of an individual or multiple properties and are secured by raw land and the subsequent improvements. Repayment of the loans to real estate developers is dependent upon the sale of properties to third parties in a timely fashion upon completion. Should there be delays in construction or a downturn in the market for those properties, there may be significant erosion in value which may be absorbed by the Company. Residential real estate loans consist of loans to individuals for the purchase of one- to four-family primary residences with repayment primarily through wage or other income sources of the individual borrower. The Company’s loss exposure to these loans is dependent on local market conditions for residential properties as loan amounts are determined, in part, by the fair value of the property at origination. Consumer loans are comprised of loans to individuals secured by automobiles, open-end home equity loans and other loans to individuals for household, family, and other personal expenditures, both secured and unsecured. These loans typically have maturities of 6 years or less with repayment dependent on individual wages and income. The risk of loss on consumer loans is elevated as the collateral securing these loans, if any, rapidly depreciate in value or may be worthless and/or difficult to locate if repossession is necessary. During the last several years, one of the most significant portions of the Company’s net loan charge-offs have been from consumer loans. Nevertheless, the Company has allocated the highest percentage of its allowance for loan losses as a percentage of loans to the other identified loan portfolio segments due to the larger dollar balances and inherent risk associated with such portfolios. Concentration of Credit Risk The Company maintains a diversified credit portfolio, with residential real estate loans currently comprising the most significant portion. Credit risk is primarily subject to loans made to businesses and individuals in southeastern Ohio and western West Virginia. Management believes this risk to be general in nature, as there are no material concentrations of loans to any industry or consumer group. To the extent possible, the Company diversifies its loan portfolio to limit credit risk by avoiding industry concentrations. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable.