Item 7. Management’s Discussion and Analysis
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Cautionary Note Regarding Forward-Looking Statements
Certain matters in this Form 10-K may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use of words such as “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would,” and “could.” These forward-looking statements include, but are not limited to:
• statements of our goals, intentions and expectations;
• statements regarding our business plans, prospects, growth and operating strategies;
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• statements regarding the quality of our loan and investment portfolios; and
• estimates of our risks and future costs and benefits.
You are cautioned not to place undue reliance on any forward-looking statements, which speak only as of the date made. These forward-looking statements are based on our current beliefs and expectations and, by their nature, are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.
Important factors that could cause our actual results to differ materially from the results anticipated or projected, include, but are not limited to, the following:
• potential adverse impacts to economic conditions in our local market areas, other markets where the Company has lending relationships, or other aspects of the Company's business operations or financial markets, including, without limitation, as a result of employment levels, labor shortages and the effects of inflation, a potential recession or slowed economic growth caused by increasing political instability from acts of war including Russia’s invasion of Ukraine, as well as increasing prices and supply chain disruptions, and any governmental or societal responses to the COVID-19 pandemic, including new COVID-19 variants;
• general economic conditions, either nationally or in our market areas, that are worse than expected;
• changes in the level and direction of loan or lease delinquencies and write-offs and changes in estimates of the adequacy of the allowance for loan and lease losses;
• our ability to access cost-effective funding;
• fluctuations in real estate values, and residential, commercial and multifamily real estate market conditions;
• demand for loans and deposits in our market area;
• our ability to implement and change our business strategies;
• competition among depository and other financial institutions and equipment financing companies;
• inflation and changes in the interest rate environment that reduce our margins and yields, our mortgage banking revenues, the fair value of financial instruments or our level of loan originations, or increase the level of defaults, losses and prepayments on loans and leases we have made and make;
• adverse changes in the securities or secondary mortgage markets;
• changes in the quality or composition of our loan, lease or investment portfolios;
• our ability to keep pace with technological changes, including our ability to identify and address cyber-security risks such as data security breaches, "denial of service" attacks, "hacking" and identity theft, and other attacks on our information technology systems or on the third-party vendors who perform several of our critical processing functions;
• the inability of third-party providers to perform as expected;
• our ability to manage market risk, credit risk and operational risk in the current economic environment;
• the transition away from LIBOR toward new interest rate benchmarks;
• our ability to enter new markets successfully and capitalize on growth opportunities;
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• our ability to retain key employees;
• our compensation expense associated with equity allocated or awarded to our employees;
• changes in the financial condition, results of operations or future prospects of issuers of securities that we own;
• our ability to successfully integrate into our operations any assets, liabilities, customers, systems and management personnel we may acquire and our ability to realize related revenue synergies and cost savings within expected time frames, and any goodwill charges related thereto;
• changes in consumer spending, borrowing and savings habits;
• changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission or the Public Company Accounting Oversight Board, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods;
• legislative or regulatory changes such as the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") and its implementing regulations that adversely affect our business, and the availability of resources to address such changes;
• our ability to pay dividends on our common stock;
• other economic, competitive, governmental, regulatory, and technical factors affecting our operations, pricing, products and services; and
• the other risks described elsewhere in this Form 10 K and our other reports filed with the U.S. Securities and Exchange Commission (“SEC”).
We undertake no obligation to publicly update or revise any forward-looking statements included in this report or to update the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur and you should not put undue reliance on any forward-looking statements.
Additional factors that may affect our results are discussed under Part I, Item 1A in this document under the heading “Risk Factors.”
General
Our principal business consists of attracting deposits from the general public, as well as brokered deposits, and investing those funds primarily in loans secured by first mortgages on owner-occupied, one- to four-family residences, a variety of consumer loans, direct financing leases, commercial and industrial loans, and loans secured by commercial and multi-family real estate. We also obtain funds by utilizing FHLB advances. Funds not invested in loans generally are invested in investment securities, including mortgage-backed and mortgage-related securities and agency and municipal bonds.
Our results of operations are primarily dependent on net interest income. Net interest income is the difference between interest income, which is the income that is earned on loans and investments, and interest expense, which is the interest that is paid on deposits and borrowings. Other significant sources of pre-tax income are service charges (mostly from service charges on deposit accounts and loan servicing fees), and fees from the sale of residential mortgage loans originated for sale in the secondary market. We may also recognize income from the sale of investment securities.
At December 31, 2022, on a consolidated basis, we had $1.3 billion in assets, $961.7 million in loans, $1.0 billion in deposits and $133.0 million in stockholders’ equity. First Bank Richmond’s risk-based capital ratio at December 31, 2022 was 14.3%, exceeding the 10.0% requirement for a well-capitalized institution. For the year ended December 31, 2022, we reported net income of $ 13.0 million, compared with net income of $11.1 million for 2021.
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Critical Accounting Estimates
We prepare our consolidated financial statements in accordance with GAAP. In doing so, we have to make estimates and assumptions. Our critical accounting estimates are those estimates that involve a significant level of uncertainty at the time the estimate was made, and changes in the estimate that are reasonably likely to occur from period to period, or use of different estimates that we reasonably could have used in the current period, would have a material impact on our financial condition or results of operations. Accordingly, actual results could differ materially from our estimates. We base our estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis. We have reviewed our critical accounting estimates with the audit committee of our Board of Directors.
See Note 1 of the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K for a summary of significant accounting policies and the effect on our financial statements.
Allowance for Loan and Lease Losses . We maintain an allowance for loan and lease losses to cover probable incurred credit losses at the balance sheet date. Loan and lease 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. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in our judgment, should be charged-off. A provision for loan and lease losses is charged to operations based on our periodic evaluation of the necessary allowance balance.
We have an established process to determine the adequacy of the allowance for loan and lease losses. The determination of the allowance is inherently subjective, as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on other classified loans and pools of homogeneous loans, and consideration of 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, all of which may be susceptible to significant change.
Securities . Under Financial Accounting Standards Board ("FASB") Codification Topic 320 (ASC 320), Investments-Debt, investment securities must be classified as held to maturity, available for sale or trading. Management determines the appropriate classification at the time of purchase. The classification of securities is significant since it directly impacts the accounting for unrealized gains and losses on securities. Debt securities are classified as held to maturity and carried at amortized cost when management has the positive intent and we have the ability to hold the securities to maturity. Securities not classified as held to maturity are classified as available for sale and are carried at fair value, with the unrealized holding gains and losses, net of tax, reported in other comprehensive income and which do not affect earnings until realized.
The fair values of our securities are generally determined by reference to quoted prices from reliable independent sources utilizing observable inputs. Certain of our fair values of securities are determined using models whose significant value drivers or assumptions are unobservable and are significant to the fair value of the securities. These models are utilized when quoted prices are not available for certain securities or in markets where trading activity has slowed or ceased. When quoted prices are not available and are not provided by third party pricing services, management judgment is necessary to determine fair value. As such, fair value is determined using discounted cash flow analysis models, incorporating default rates, estimation of prepayment characteristics and implied volatilities.
We evaluate all securities on a quarterly basis, and more frequently when economic conditions warrant additional evaluations, for determining if any other-than-temporary-impairments (“OTTI”) exist pursuant to guidelines established in ASC 320. In evaluating the possible impairment of securities, consideration is given to the length of time and the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, and our ability and intent to retain our investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer’s financial condition, we may consider whether the securities are issued by the federal government or its agencies or government sponsored agencies, whether downgrades by bond rating agencies have occurred, and the results of reviews of the issuer’s financial condition.
If management determines that an investment experienced an OTTI, we must then determine the amount of the OTTI to be recognized in earnings. If we do not intend to sell the security and it is more likely than not that we will not be required to sell the security before recovery of its amortized cost basis less any current period loss, the OTTI will be separated into the amount representing the credit loss and the amount related to all other factors. The amount of OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected and is recognized in earnings. The amount of the OTTI related to other factors will be recognized in other comprehensive income, net of applicable taxes. The previous
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amortized cost basis less the OTTI recognized in earnings will become the new amortized cost basis of the investment. If management intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current period credit loss, the OTTI will be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. Any recoveries related to the value of these securities are recorded as an unrealized gain (as accumulated other comprehensive income (loss) in stockholders’ equity) and not recognized in income until the security is ultimately sold.
From time to time we may dispose of an impaired security in response to asset/liability management decisions, future market movements, business plan changes, or if the net proceeds can be reinvested at a rate of return that is expected to recover the loss within a reasonable period of time.
Deferred Tax Asset . We have evaluated our deferred tax asset to determine if it is more likely than not that the asset will be utilized in the future. Our most recent evaluation has determined that we will more likely than not be able to utilize our remaining deferred tax asset.
Management Strategy
We are a community-oriented financial institution dedicated to serving the needs of customers in our primary market area. Our commitment is to offer a full array of consumer and commercial banking products and services to meet the needs of our customers. We offer mortgage lending products to qualified borrowers to give them the broadest access to home ownership in our markets. We offer commercial lending products and services tailored to complement their businesses. Our goal is to maintain asset quality while continuing to build our strong capital position while looking for growth opportunities in the markets we serve. To achieve these goals, we will focus on the following strategies:
Lending. We believe that commercial lending offers an opportunity to enhance our profitability while managing credit, interest rate and operational risk. We seek quality commercial loan opportunities in our existing markets and purchase loan participations that complement our existing portfolios. We will continue to focus our efforts on our existing markets as well as to further develop the Columbus, Ohio market through our loan production office. We anticipate that the majority of our commercial and multi-family real estate and commercial construction loan originations will range in size from $1.0 million to $8.0 million, while the majority of our commercial and industrial loan originations will range in size from $250,000 to $1.5 million. At December 31, 2022, our commercial loan portfolio, which includes commercial and multi-family real estate loans, commercial and industrial loans and construction loans, totaled $663.3 million, or 68.0% of total loans and leases, with approximately $210.1 million of these loans, or 21.6% of our total loans and leases, located in the Columbus, Ohio market.
Deposit Services. Deposits are our primary source of funds for lending and investment. We intend to continue to focus on increasing core deposits (which we define as all deposits except for certificates of deposit of $250,000 or more and brokered certificates of deposit) in our primary market area, with a particular emphasis on noninterest-bearing deposits. We will continue to enhance our offering of retail deposit products to maintain and increase our market share, while continuing to build our product offering of commercial deposit products to strengthen our relationships with our business customers. Core deposits represented 69.9% of our total deposits as of December 31, 2022.
Balance Sheet Growth . As a result of our efforts to build our management and infrastructure, we believe we are well-positioned to increase the size of our balance sheet without a proportional increase in overhead expense or operating risk. Accordingly, we intend to increase, on a managed basis, our assets and liabilities, particularly loans and deposits.
Asset Quality. We believe that strong asset quality is a key to long-term financial success. Our strategy for credit risk management focuses on an experienced team of credit professionals, well-defined credit policies and procedures, appropriate loan underwriting criteria and active credit monitoring. Our non-performing loans to total loans ratio was 0.94% at December 31, 2022.
Capital Position. Our policy has always been to protect the safety and soundness of First Bank Richmond through credit and operational risk management, balance sheet strength, and sound operations. The end result of these activities has been a capital ratio in excess of the well-capitalized standards set by our regulators. We believe that maintaining a strong capital position safeguards the long-term interests of First Bank Richmond.
Interest Rate Risk Management. Changes in interest rates are our primary market risk as our balance sheet is almost entirely comprised of interest-earning assets and interest-bearing liabilities. As such, fluctuations in interest rates have a significant impact not only upon our net income but also upon the cash flows related to those assets and liabilities and the market value of our assets and liabilities. In order to maintain what we believe to be acceptable levels of net interest income in
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varying interest rate environments, we actively manage our interest rate risk and assume a moderate amount of interest rate risk consistent with board policies.
Selected Consolidated Financial and Other Data
The Financial Condition Data and Operating Data as of and for the years ended December 31, 2022 and 2021 are
derived from the audited financial statements and related notes included elsewhere in this Form 10-K. The following information is only a summary and is qualified in its entirety by the detailed information included elsewhere herein and should be read along with Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” and Item 8, “Financial Statements and Supplementary Data” of this Form 10-K.
At December 31,
2022 2021
(In thousands)
Selected Financial Condition Data:
Total assets $ 1,328,620 $ 1,267,640
Loans and leases, net (1)
961,691 832,846
Securities available for sale, at fair value 284,900 357,538
Investment securities, at amortized cost 6,672 9,041
FHLB stock 9,947 9,992
Deposits 1,005,261 900,175
FHLB advances 180,000 180,000
Stockholders’ equity 132,978 180,481
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(1) Net of allowances for loan and lease losses, loans in process and deferred loan fees.
Years Ended December 31,
2022 2021
(In thousands)
Selected Operations Data:
Total interest income $ 51,858 $ 45,926
Total interest expense 10,219 7,682
Net interest income 41,639 38,244
Provision for loan and lease losses 600 1,430
Net interest income after provision for loan and lease losses 41,039 36,814
Service charges on deposit accounts 1,050 882
Card fee income 1,210 1,087
Loan and lease servicing fees 862 (84)
Gain on loan and lease sales 639 2,450
Gain on sales of securities — 56
Other income 1,105 1,025
Total non-interest income 4,866 5,416
Total non-interest expenses 30,157 28,649
Income before provision for income taxes 15,748 13,581
Provision for income taxes 2,783 2,436
Net income $ 12,965 $ 11,145
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At or For the
Years Ended December 31,
2022 2021
Selected Financial Ratios and Other Data:
Performance ratios:
Return on average assets (ratio of net income to average total assets) 1.01 % 0.94 %
Return on average equity (ratio of net income to average equity) 8.79 % 6.03 %
Yield on interest-earning assets 4.18 % 4.01 %
Rate paid on interest-bearing liabilities 1.01 % 0.89 %
Interest rate spread information:
Average during period 3.17 % 3.12 %
End of period 3.09 % 2.91 %
Net interest margin (1)
3.36 % 3.34 %
Operating expense to average total assets 2.35 % 2.42 %
Average interest-earning assets to average interest-bearing liabilities 122.34 % 131.81 %
Efficiency ratio (2)
64.85 % 65.70 %
Asset quality ratios:
Non-performing assets to total assets (3)
0.69 % 0.64 %
Non-performing loans and leases to total gross loans and leases (4)
0.94 % 0.95 %
Allowance for loan and lease losses to non-performing loans and leases (4)
135.28 % 150.76 %
Allowance for loan and lease losses to loans and leases 1.27 % 1.43 %
Net charge-offs/(recoveries) to average outstanding loans and leases during the period 0.03 % (0.01 %)
Capital ratios:
Common equity tier 1 capital (to risk weighted assets) (5)
13.23 % 16.02 %
Tier 1 leverage (core) capital (to adjusted tangible assets) (5)
11.20 % 12.53 %
Tier 1 risk-based capital (to risk weighted assets) (5)
13.23 % 16.02 %
Total risk-based capital (to risk weighted assets) (5)
14.31 % 17.25 %
Equity to total assets at end of period 10.01 % 14.27 %
Average equity to average assets 11.51 % 15.64 %
Per share data:
Basic earnings per share $ 1.20 $ 0.98
Diluted earnings per share 1.17 0.96
Cash dividends paid 0.40 0.78
Book value at year end 11.28 14.55
Tangible book value at year end (6)
11.28 14.55
Other data:
Number of full-service offices 12 12
Full-time equivalent employees 181 173
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(1) Net interest income divided by average interest earning assets.
(2) Total non-interest expenses as a percentage of net interest income and total non-interest income.
(3) Non-performing assets consist of nonaccrual loans and leases, accruing loans and leases more than 90 days past due, and foreclosed assets.
(4) Non-performing loans and leases consist of nonaccrual loans and leases and accruing loans and leases more than 90 days past due.
(5) Capital ratios are for First Bank Richmond.
(6) Tangible book value per share is a non-GAAP measure used by management and others within the financial services industry. Tangible book value per share is calculated by dividing tangible common equity by the number of shares outstanding.
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Financial Condition at December 31, 2022 Compared to December 31, 2021
General. Total assets increased $61.0 million, or 4.8%, to $1.3 billion at December 31, 2022 from December 31, 2021. This increase was driven by a $128.8 million, or 15.5%, increase in the loan and lease portfolio, net of allowance for loan and lease losses, partially offset by a $75.0 million, or 20.5% decrease in investment securities, and a $7.1 million, or 30.9% decrease in cash and cash equivalents. The increase in loans was primarily funded by a $105.1 million, or 11.7%, increase in deposits.
Loans and Leases. Our loan and lease portfolio, net of allowance for loan and lease losses, increased $128.8 million, or 15.5%, to $961.7 million at December 31, 2022 from $832.8 million at December 31, 2021. The majority of the growth occurred in construction and development loans which increased $46.2 million, or 49.4%, to $139.9 million, and in commercial real estate loans which increased $36.9 million, or 14.1%, to $298.1 million at December 31, 2022 compared to the prior year. We also experienced a $17.5 million, or 16.3%, increase in multi-family loans, a $15.8 million, or 11.2%, increase in residential real estate loans (including home equity lines of credit), a $6.7 million, or 5.3%, increase in direct financing leases, and a $5.1 million, or 32.3%, increase in consumer loans. Commercial and industrial loans increased by $700,000, or 0.7% at December 31, 2022 compared to a year ago, in spite of an $8.4 million, or 89.4%, decrease in outstanding PPP loans to $994,000 at December 31, 2022 from $9.4 million at December 31, 2021.
The following table presents information concerning the composition of our loan and lease portfolio in dollar amounts and in percentages (before deductions for loans in process, deferred fees and discounts and allowances for loan and lease losses) as of the dates indicated.
At December 31,
2022 2021
Amount Percent Amount Percent
(Dollars in thousands)
Real estate loans:
Residential mortgage (1)
$ 146,129 14.99 % $ 134,155 15.86 %
Home equity lines of credit 11,010 1.13 7,146 0.84
Multi-family 124,914 12.81 107,421 12.70
Commercial mortgage 298,087 30.57 261,202 30.88
Construction and development 139,923 14.35 93,678 11.07
Total real estate loans 720,063 73.85 603,602 71.35
Consumer loans 21,048 2.16 15,905 1.88
Commercial business loans and leases:
Commercial and industrial 100,420 10.30 99,682 11.78
Leases 133,469 13.69 126,762 14.98
Total commercial business loans and leases 233,889 23.99 226,444 26.77
Total loans and leases 975,000 100.00 % 845,951 100.00 %
Less:
Deferred fees and discounts 896 997
Allowance for loan and lease losses 12,413 12,108
Total loans and leases, net $ 961,691 $ 832,846
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(1) Includes $4.7 million and $3.2 million of loans secured by second mortgages on residential properties at December 31, 2022 and 2021, respectively.
Nonperforming loans and leases, consisting of nonaccrual loans and leases and accruing loan and leases more than 90 days past due, totaled $9.2 million, or 0.94%, of total loans and leases at December 31, 2022, compared to $8.0 million, or
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0.95% of total loans and leases at December 31, 2021. The increase in nonperforming loans was primarily attributable to a $1.3 million increase in commercial and industrial loans, primarily due to one loan of $1.3 million secured by business assets and a second mortgage past due more than 90 days and still accruing. At December 31, 2022, our largest nonperforming loan was a $4.9 million nonaccrual commercial construction and development loan that is currently subject to litigation between the developer and other parties. At the time of origination, this loan had a loan to value ratio of 73%.
At December 31, 2022, TDRs totaled $428,000 compared to $456,000 at December 31, 2021, all of which were nonaccrual loans at those dates.
Allowance for Loan and Lease Losses. Our allowance for loan and lease losses increased $305,000, or 2.5%, to $12.4 million at December 31, 2022 from $12.1 million at December 31, 2021. At December 31, 2022, the allowance for loan and lease losses totaled 1.27% of total loans and leases outstanding compared to 1.43% at December 31, 2021. Net charge-offs during the year ended 2022 were $295,000, or 0.03% of average loans and leases outstanding, compared to net recoveries of $92,000, or 0.01% of average loans and leases outstanding, during 2021. The allowance for loan and lease losses to non-performing loans and leases was 135.3% at December 31, 2022, compared to 150.8% at December 31, 2021.
Management regularly analyzes conditions within its geographic markets and evaluates its loan and lease portfolio. The Company evaluated its exposure to potential loan and lease losses as of December 31, 2022, which evaluation included consideration of a potential recession due to inflation, rising interest rates, stock market volatility, and the Russia-Ukraine conflict. Credit metrics are being reviewed and stress testing is being performed on the loan portfolio on an ongoing basis. Potentially higher risk segments of the portfolio, such as hotels and restaurants, continue to be closely monitored.
Investment Securities. Investment securities decreased $75.0 million, or 20.5%, to $291.6 million at December 31, 2022, from $366.6 million at December 31, 2021. The decrease was primarily due to a $61.4 million downward mark-to-market adjustment in the fair value of securities available for sale and proceeds from maturities and paydowns of securities of $32.2 million, partially offset by the purchase of $22.5 million in securities.
Deposits. Total deposits increased $105.1 million, or 11.7%, to $1.0 billion at December 31, 2022 from $900.2 million at December 31, 2021. This increase in deposits was primarily due to an increase in brokered deposits of $136.1 million, or 111.8%, as well as an increase in savings and money market accounts of $26.7 million, or 10.5%. These increases were partially offset by a decrease of $7.9 million, or 6.9%, in noninterest-bearing demand deposits, a $6.9 million, or 4.2%, decrease in interest-bearing demand deposits, and a $42.9 million, or 17.5%, decrease in non-brokered time deposits. At December 31, 2022, brokered deposits equaled 25.7% of total deposits compared to $121.8 million, or 13.5% of total deposits at December 31, 2021. At December 31, 2022, noninterest-bearing deposits totaled $106.4 million, or 10.6% of total deposits, compared to $114.3 million, or 12.7%, of total deposits at December 31, 2021.
Borrowings. Total borrowings, consisting solely of FHLB advances, totaled $180.0 million at both December 31, 2022 and 2021.
Stockholders’ Equity. Stockholders’ equity totaled $133.0 million at December 31, 2022, a decrease of $47.5 million, or 26.3%, from December 31, 2021. The decrease in stockholders’ equity from December 31, 2021 primarily was the result of a reduction in accumulated comprehensive income of $48.5 million due to a greater mark-to-market adjustment to the investment portfolio as a result of higher interest rates, the payment of $4.4 million in dividends to Company stockholders, and the repurchase of $9.9 million of Company common stock, partially offset by net income of $13.0 million. First Bank Richmond’s tangible common equity ratio and its risk-based capital ratios exceeded “well-capitalized” levels as defined by all regulatory standards as of December 31, 2022.
Comparison of Results of Operations for the Years Ended December 31, 2022 and 2021
General . Net income totaled $13.0 million for 2022 compared to $11.1 million in 2021, an increase of $1.8 million or 16.3%. The increase in net income was due to a $5.9 million, or 12.9%, increase in interest income, an $830,000, or 58.0%, reduction in the provision for loan losses, partially offset by a $2.5 million, or 33.0%, increase in interest expense, a $549,000, or 10.1%, decrease in non-interest income, and a $1.5 million, or 5.3%, increase in non-interest expense.
Interest Income . Total interest income for 2022 increased $5.9 million or 12.9% over 2021. The increase primarily was a result of a $111.2 million increase in the average balance of loans and leases outstanding year-over-year, partially offset by a 19 basis point decrease in average yield on loans and leases, resulting in a $4.0 million increase in interest income on loans and leases. Interest earned on investment securities, including FHLB stock, increased $1.8 million, or 34.3%, due to a 58 basis point increase in the average yield, partially offset by a $5.5 million decrease in the average balance of the portfolio. Interest on
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cash and cash equivalents increased $101,000 due to an 89 basis point increase in the average yield, partially offset by a $10.0 million decrease in average balances.
Interest Expense . Total interest expense increased $2.5 million, or 33.0%, to $10.2 million during 2022 compared to $7.7 million during 2021. The increase was the result of an increase in the average balance in all categories of interest-bearing liabilities, and a 12 basis point increase in the average rate paid on interest-bearing liabilities. The average balance of savings and money market accounts increased $37.3 million, or 15.1%, to $284.7 million in 2022 compared to $247.4 million in 2021, while the rate paid on these accounts increased 25 basis points to 0.76% in 2022 from 0.51% in 2021, resulting in a $897,000 increase in interest expense. The average balance of interest-bearing checking accounts increased $10.3 million, or 6.6%, to $165.2 million in 2022 from $154.9 million in 2021, while the average rate paid on interest-bearing checking accounts increased nine basis points to 0.32% in 2022 from 0.23% in 2021, resulting in a $172,000 increase in interest expense. Average balances of certificates of deposit increased $97.0 million, or 33.8% in 2022 from $287.1 million in 2021, while the rate paid on certificates of deposit remained the same in 2022 as 2021, resulting in a $1.1 million increase in interest expense. The growth in certificates of deposit balances was due to a $112.7 million, or 231.6% increase in brokered certificates of deposit. The average rate paid on brokered certificates of deposit increased to 1.17% in 2022 from 0.72% in 2021. Interest expense on borrowings, consisting solely of FHLB advances, increased $345,000, or 12.6%, due to an 18 basis point increase on the average rate paid to 1.72% in 2022 from 1.54% in 2021, and a $1.4 million, or 0.8%, increase in the average balance of borrowings to $180.0 million in 2022 from $178.5 million in 2021.
Net Interest Income . Net interest income before provision for loan and lease losses increased $3.4 million, or 8.9%, to $41.6 million in 2022 compared to $38.2 million in 2021, primarily due to a five basis point increase in the average interest rate spread, partially offset by the growth in average interest-bearing liabilities exceeding the growth in average interest-bearing assets. Our net interest margin in 2022 was 3.36%, an increase of two basis points compared to 2021. During the year, the recognition of deferred fees related to PPP loan forgiveness had a positive impact on the net interest margin. The average yield on PPP loans was 9.41%, including the recognition of deferred fees, resulting in a positive impact to loan yield of three basis points during 2022, compared to an average yield of 8.62% with a positive impact to loan yield of 15 basis points during 2021.
Since March 2022, in response to inflation, the Federal Open Market Committee (“FOMC”) of the Federal Reserve System has increased the target range for the federal funds rate by 425 basis points, including 125 basis points during the fourth quarter of 2022, to a range of 4.25% to 4.50%. While net interest income benefited from the repricing impact of the higher interest rate environment on earning asset yields, the benefits were offset by the higher cost of interest-bearing deposit accounts and borrowings which tend to be shorter in duration than our assets and re-price or reset faster than assets.
Provision for Loan and Lease Losses . The provision for loan and lease losses in 2022 was $600,000, an $830,000, or 58.0%, decrease compared to $1.4 million in 2021. The provision for loan and lease losses reflects the amount required to maintain the allowance for loan and leases losses at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. The provision for loan and leases losses for the current year primarily reflects loan growth and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate loan and leases losses, partially offset by an improvement in the level of adversely classified loans. Beginning in 2023, we will be required to adopt CECL, the FASB’s standard on accounting for expected credit losses. The CECL impairment model is based on expected losses rather than incurred losses, which is what we currently use. Under the new guidance, we must recognize our estimate of expected credit losses as an allowance. The CECL model incorporates forward-looking information and results in earlier loss recognition than incurred loss models do. Future assessments of the expected credit losses on loans and leases will not only be impacted by changes to the reasonable and supportable forecast, but will also include an updated assessment of qualitative factors, as well as consideration of any required changes in the reasonable and supportable forecast and the period following the reasonable and supportable forecast period through the end of the asset’s contractual life. As of the CECL adoption and day one measurement date of January 1, 2023, the Company expects to record a one-time cumulative-effect adjustment to retained earnings, net of income taxes, on the consolidated balance sheet. The allowance will increase between $2.3 million and $3.0 million from December 31, 2022. CECL also requires the establishment of a reserve for potential losses from unfunded commitments that is recorded in other liabilities, separate from the allowance for credit losses, which will be approximately $1.8 million to $2.5 million. Also, as required by CECL, the Company reviewed the held-to-maturity debt securities portfolio and determined the expected losses were immaterial.
Net charge-offs in 2022 were $295,000 compared to net recoveries of $92,000 in 2021. The allowance as a percentage of the total loan and lease portfolio was 1.27% at year-end 2022, compared to 1.43% at year-end 2021. Net charge-offs in 2022 equaled 0.03% of total average loans and leases outstanding compared to net recoveries of 0.01% of total average loans and leases outstanding in 2021.
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Non-interest Income . Total non-interest income decreased $549,000, or 10.1%, to $4.9 million for 2022 compared to $5.4 million for 2021. The decrease was primarily driven by a decrease in net gains on loan and lease sales of $1.8 million, or 73.9%, to $639,000 in 2022 from $2.5 million in 2021, as mortgage banking activity declined due to lower refinancing activity, a lower supply of houses for sale in the Bank’s market area, and increases in residential mortgage rates. Net gains on securities decreased $56,000, or 100.0%, as no securities were sold during 2022 compared to $5.3 million of securities sold in 2021. Partially offsetting these decreases were loan and lease servicing fees, including mortgage servicing right impairment, of $862,000 during 2022, an increase of $946,000 compared to a loss of $84,000 during 2021, primarily due to a recovery of mortgage servicing rights of $380,000 in 2022 as a result of continued rising interest rates increasing the expected duration of our loans compared to recording a mortgage servicing rights impairment charge of $360,000 in 2021. Service charges on deposit accounts increased $168,000, or 19.1%, to $1.0 million during 2022 compared to $882,000 during 2021 as a result of higher overdraft fees and ATM fees. In addition, card fee income increased $123,000, or 11.3%, due to an overall increase in debit card usage and other income increased $81,000, or 7.9%, primarily due to increased wealth management income during 2022 compared to 2021.
Non-Interest Expenses . Total non-interest expense increased $1.5 million, or 5.3%, to $30.2 million during 2022 compared to 2021, with increases occurring in all non-interest expense categories other than equipment expenses and other expenses.
Salaries and employee benefits increased $335,000, or 1.8%, to $18.5 million in 2022 from $18.1 million in 2021, primarily due to increases in salaries resulting from the net addition of eight full-time-equivalent hires in 2022 and annual merit increases, partially offset by a $665,000 expense recorded in 2021 to complete the termination of the Company’s defined benefit pension plan which was not required in 2022. Data processing expenses increased $532,000, or 24.4%, to $2.7 million in 2022 from $2.2 million in 2021 due to higher software expenses associated with the Company's continued investment in digital banking services. Legal and professional fees increased $193,000, or 15.8%, to $1.4 million during 2022, compared to $1.2 million during 2021 due to expenses associated with the formation of First Insurance Management, Inc. Deposit insurance expenses increased $193,000, or 64.1%, to $494,000 during 2022, compared to $301,000 during 2021 due to lower capital levels, a change in our loan composition and a greater use of wholesale certificates of deposit during 2022. Net occupancy expenses increased $188,000, or 15.2%, to $1.4 million during 2022, compared to $1.2 million during 2021, due to increased building maintenance expenses.
These increases in non-interest expense were partially offset by a $38,000, or 2.9%, decrease in equipment expenses to $1.3 million in 2022 compared to 2021 due to depreciation charges, and a $12,000 decrease in other expenses.
Income Tax Expense . Income tax expense increased $348,000 in 2022 compared to 2021. This increase in income tax expense was primarily due to pretax income increasing $2.2 million, or 16.0%, partially offset by a lower effective tax rate in 2022. The effective tax rate for the year ended 2022 was 17.7% compared to 17.9% in 2021.
Average Balances, Interest and Average Yields/Cost
The following tables set forth for the periods indicated, information regarding average balances of assets and liabilities as well as the total dollar amounts of interest income from average interest-earning assets and interest expense on average interest-bearing liabilities, resultant yields, interest rate spread, net interest margin (otherwise known as net yield on interest-earning assets), and the ratio of average interest-earning assets to average interest-bearing liabilities. Average balances have been calculated using daily balances. Average balances of loans and leases receivable include loans held for sale. Non-accruing
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loans have been included in the table as loans carrying a zero yield. Loan fees are included in interest income on loans and are not material.
Years Ended December 31,
2022 2021
Average
Balance
Outstanding Interest
Earned/
Paid Yield/
Rate Average
Balance
Outstanding Interest
Earned/
Paid Yield/
Rate
(Dollars in thousands)
Interest-earning assets:
Loans and leases receivable $ 897,918 $ 44,594 4.97 % $ 786,686 $ 40,579 5.16 %
Securities 318,917 6,712 2.10 % 324,372 5,022 1.55 %
FHLB stock 9,856 399 4.05 % 9,281 273 2.94 %
Cash and cash equivalents and other 13,739 153 1.11 % 23,750 52 0.22 %
Total interest-earning assets 1,240,430 51,858 4.18 % 1,144,089 45,926 4.01 %
Non-earning assets 40,659 38,840
Total assets 1,281,089 1,182,929
Interest-bearing liabilities:
Savings and money market accounts 284,725 2,153 0.76 % 247,431 1,256 0.51 %
Interest-bearing checking accounts 165,213 534 0.32 % 154,938 362 0.23 %
Certificate accounts 384,038 4,441 1.16 % 287,051 3,318 1.16 %
Borrowings 179,966 3,091 1.72 % 178,540 2,746 1.54 %
Total interest-bearing liabilities 1,013,942 10,219 1.01 % 867,960 7,682 0.89 %
Noninterest-bearing demand deposits 111,990 108,374
Other liabilities 7,686 22,458
Stockholders' equity 147,471 184,137
Total liabilities and stockholders' equity 1,281,089 1,182,929
Net interest income $ 41,639 $ 38,244
Net earning assets $ 226,488 $ 276,129
Net interest rate spread (1)
3.17 % 3.12 %
Net interest margin (2)
3.36 % 3.34 %
Average interest-earning assets to average interest-bearing liabilities 122.34 % 131.81 %
_____________________
(1) Net interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average rate of interest-bearing liabilities.
(2) Net interest margin represents net interest income divided by average total interest-earning assets.
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Rate/Volume Analysis
The following schedule presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and that due to the changes in interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.
Years Ended
December 31,
2022 vs. 2021
Increase/
(decrease)
due to Total
increase/ (decrease)
Volume Rate
(In thousands)
Interest-earning assets:
Loans and leases receivable $ 5,713 $ (1,698) $ 4,015
Securities (86) 1,776 1,690
FHLB stock 17 109 126
Cash and cash equivalents and other (22) 123 101
Total interest-earning assets $ 5,622 $ 310 $ 5,932
Interest-bearing liabilities:
Savings and money market accounts $ 189 $ 708 $ 897
Interest-bearing checking accounts 24 148 172
Certificate accounts 1,123 — 1,123
Borrowings 22 323 345
Total interest-bearing liabilities $ 1,358 $ 1,179 $ 2,537
Change in net interest income $ 3,395
Capital and Liquidity
Capital. Shareholders' equity totaled $133.0 million at December 31, 2022 and $180.5 million at December 31, 2021. In addition to net income of $13.0 million, other sources of capital during 2022 included $799,000 related to the allocation of ESOP shares during the year and $1.5 million related to stock-based compensation. Uses of capital during 2022 included $4.4 million of dividends paid on common stock, other comprehensive loss, net of tax, of $48.5 million and $9.9 million of stock repurchases. The accumulated other comprehensive loss component of shareholders' equity was caused by changes to the unrealized gains and losses on available-for-sale securities as a result of the increase in market interest rates during 2022.
We paid regular quarterly cash dividends of $0.10 per common share during 2022, and regular quarterly cash dividends of $0.07 per share and a special dividend of $0.50 per share during 2021. This equates to a dividend payout ratio of 34.0% in 2022 and 83.8% in 2021. We currently expect to continue the current practice of paying quarterly cash dividends on common stock subject to the Board of Directors' discretion to modify or terminate this practice at any time and for any reason without prior notice. Assuming continued payment during 2023 at the current dividend rate of $0.10 per share, our average total dividend paid each quarter would be approximately $1.2 million based on the number of our current outstanding shares at December 31, 2022. The amount of dividends, if any, we may pay may be limited as more fully discussed in "Note 17: Regulatory Capital" in the accompanying notes to consolidated financial statements contained in Item 8 of this Form 10-K.
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Stock Repurchase Plans. From time to time, our board of directors has authorized stock repurchase plans. In general, stock-repurchase plans allow us to proactively manage our capital position and return excess capital to shareholders. On May 19, 2021, the Board of Directors authorized a third stock repurchase program for up to 1,263,841 shares, or approximately 10% of its outstanding shares. This repurchase program expired on July 3, 2022 with a total of 817,984 shares being repurchased. On July 21, 2022, the Company announced that the Board of Directors authorized a fourth stock repurchase program for up to 1,184,649 shares, or approximately 10% of its then outstanding shares. The fourth stock repurchase program will expire in July 2023, unless completed sooner. See Part II, Item 5 - Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Liquidity. Liquidity measures the ability to meet current and future cash flow needs as they become due. The liquidity of a financial institution reflects its ability to meet loan requests, to accommodate possible outflows in deposits and to take advantage of interest rate market opportunities. The ability of a financial institution to meet its current financial obligations is a function of its balance sheet structure, its ability to liquidate assets and its access to alternative sources of funds. The objective of our liquidity management is to manage cash flow and liquidity reserves so that they are adequate to fund our operations and to meet obligations and other commitments on a timely basis and at a reasonable cost. We seek to achieve this objective and ensure that funding needs are met by maintaining an appropriate level of liquid funds through asset/liability management, which includes managing the mix and time to maturity of financial assets and financial liabilities on our balance sheet. Our liquidity position is enhanced by our ability to raise additional funds as needed in the wholesale markets.
Asset liquidity is provided by liquid assets which are readily marketable or pledgeable or which will mature in the near future. Liquid assets generally include cash, interest-bearing deposits in banks, securities available for sale, maturities and cash flow from securities held to maturity, sales of fixed rate residential mortgage loans in the secondary market, and federal funds sold and resell agreements. Liability liquidity generally is provided by access to funding sources which include core deposits and advances from the FHLB and other borrowing relationships with third party financial institutions.
Our liquidity position is continuously monitored and adjustments are made to the balance between sources and uses of funds as deemed appropriate. Liquidity risk management is an important element in our asset/liability management process. We regularly model liquidity stress scenarios to assess potential liquidity outflows or funding problems resulting from economic disruptions, volatility in the financial markets, unexpected credit events or other significant occurrences deemed problematic by management. These scenarios are incorporated into our contingency funding plan, which provides the basis for the identification of our liquidity needs.
As of December 31, 2022, we had approximately $5.6 million held in an interest-bearing account at the Federal Reserve. We also have the ability to borrow funds as a member of the FHLB. As of December 31, 2022, based upon available, pledgeable collateral, our total remaining borrowing capacity with the FHLB was approximately $66.7 million. Furthermore, at December 31, 2022, we had approximately $198.5 million in securities that were unencumbered by a pledge and could be used to support additional borrowings through repurchase agreements or the Federal Reserve discount window, as needed. As of December 31, 2022, management is not aware of any events that are reasonably likely to have a material adverse effect on our liquidity, capital resources or operations. In addition, management is not aware of any regulatory recommendations regarding liquidity that would have a material adverse effect on us.
In the ordinary course of business we have entered into contractual obligations and have made other commitments to make future payments. Refer to the accompanying notes to consolidated financial statements elsewhere in this report for the expected timing of such payments as of December 31, 2022. These include payments related to (i) long-term borrowings (Note 10 - Federal Home Loan Bank Advances), (ii) time deposits with stated maturity dates (Note 9 - Deposits) and (iii) commitments to extend credit and standby letters of credit (Note 13 - Commitments and Contingent Liabilities).
Richmond Mutual Bancorporation is a separate legal entity from First Bank Richmond and must provide for its own liquidity. In addition to its own operating expenses, Richmond Mutual Bancorporation is responsible for paying for any stock repurchases, dividends declared to its stockholders and other general corporate expenses. Since Richmond Mutual Bancorporation is a holding company and does not conduct operations, its primary sources of liquidity are interest on investment securities purchased with proceeds from our initial public offering, dividends up streamed from First Bank Richmond and borrowings from outside sources. Banking regulations may limit the amount of dividends that may be to us paid by First Bank Richmond. "Note 17: Regulatory Capital" in the accompanying notes to consolidated financial statements contained in Part II, Item 8 and "How We Are Regulated - Dividends" contained in Part I, Item I of this Form 10-K. At December 31, 2022, Richmond Mutual Bancorporation, on an unconsolidated basis, had $26.2 million in cash, noninterest-bearing deposits and liquid investments generally available for its cash needs.
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See also the "Consolidated Statements of Cash Flows" included in "Item 8. Financial Statements and Supplementary Data" of this Form 10-K for further information.
Regulatory Capital Requirements. First Bank Richmond is subject to minimum capital requirements imposed by the FDIC. The FDIC may require us to have additional capital above the specific regulatory levels if it believes we are subject to increased risk due to asset problems, high interest rate risk and other risks. At December 31, 2022, First Bank Richmond’s regulatory capital exceeded the FDIC regulatory requirements, and First Bank Richmond was well-capitalized under regulatory prompt corrective action standards. Consistent with our goals to operate a sound and profitable organization, our policy is for First Bank Richmond to maintain well-capitalized status.
Actual Minimum for Capital Adequacy Purposes Minimum to be Categorized as "Well-Capitalized" Under Prompt Corrective Action Provisions
Amount Ratio Amount Ratio Amount Ratio
As of December 31, 2022 (Dollars in thousands)
Total risk-based capital (to risk weighted assets) $ 164,804 14.3 % $ 92,134 8.0 % $ 115,168 10.0 %
Tier 1 risk-based capital (to risk weighted assets) 152,391 13.2 69,101 6.0 92,134 8.0
Common equity tier 1 capital (to risk weighted assets) 152,391 13.2 51,826 4.5 74,859 6.5
Tier 1 leverage (core) capital (to adjusted tangible assets) 152,391 11.2 54,421 4.0 68,026 5.0
As of December 31, 2021
Total risk-based capital (to risk weighted assets) $ 169,589 17.3 % $ 78,590 8.0 % $ 98,238 10.0 %
Tier 1 risk-based capital (to risk weighted assets) 157,481 16.0 58,943 6.0 78,590 8.0
Common equity tier 1 capital (to risk weighted assets) 157,481 16.0 44,207 4.5 63,855 6.5
Tier 1 leverage (core) capital (to adjusted tangible assets) 157,481 12.5 50,284 4.0 62,855 5.0
Pursuant to the capital regulations of the FDIC and the other federal banking agencies, First Bank Richmond must maintain a capital conservation buffer consisting of additional common equity tier 1 (“CET1”) capital greater than 2.5% of risk-weighted assets above the required minimum levels of risk-based CET1 capital, tier 1 capital and total capital in order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. At December 31, 2022, the Bank’s CET1 capital exceeded the required capital conservation buffer.
For a bank holding company with less than $3.0 billion in assets, the capital guidelines apply on a bank only basis and the Federal Reserve Board expects the holding company’s subsidiary banks to be well capitalized under the prompt corrective action regulations. If Richmond Mutual Bancorporation was subject to regulatory guidelines for bank holding companies with $3.0 billion or more in assets, at December 31, 2022, it would have exceeded all regulatory capital requirements.