Item 2. Management’s Discussion and Analysis
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Unless the context clearly suggests otherwise, references to “the Company”, “we”, “our”, and “us” in the remainder of this report are to Shore Bancshares, Inc. and its consolidated subsidiaries.
Forward-Looking Information
This Quarterly Report on Form 10-Q contains forward-looking statements. These forward-looking statements reflect our current views with respect to, among other things, future events and our financial performance. These statements are often, but not always, made through the use of words or phrases such as “may,” “should,” “could,” “predict,” “potential,” “believe,” “will likely result,” “expect,” “continue,” “will,” “anticipate,” “seek,” “estimate,” “intend,” “plan,” “project,” “projection,” “forecast,” “goal,” “target,” “would,” “aim” and “outlook,” or the negative version of those words or other comparable words or phrases of a future or forward-looking nature. These forward-looking statements are not historical facts, and are based on current expectations, estimates and projections about our industry and management’s beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control. The inclusion of these forward-looking statements should not be regarded as a representation by us or any other person that such expectations, estimates and projections will be achieved. Accordingly, we caution you that any such forward-looking statements are not guarantees of future performance and are subject to risks, assumptions and uncertainties that are difficult to predict. New risks and uncertainties may emerge from time to time, and it is not possible for us to predict their occurrence. In addition, we cannot assess the impact of each risk and uncertainty on our business or the extent to which any risk or uncertainty, or combination of risks and uncertainties, may cause actual results to differ materially from those contained in any forward-looking statements.
If one or more of the factors affecting our forward-looking information and statements proves incorrect, then our actual results, performance or achievements could differ materially from those expressed in, or implied by, forward-looking information and statements contained in this Quarterly Report on Form 10-Q and other reports and registration statements filed by us with the Securities and Exchange Commission (“SEC”). For information on the factors that could cause actual results to differ from the expectations stated in the forward- looking statements, see “Risk Factors” under Part I, Item 1A of our 2022 Form 10-K and other reports filed by us with the SEC.
Any forward-looking statement speaks only as of the date of this report, and we do not undertake any obligation to publicly update or review any forward-looking statement, whether because of new information, future developments or otherwise, except as required by law.
Introduction
The following discussion and analysis is intended as a review of significant factors affecting the Company’s financial condition and results of operations for the periods indicated. This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and related notes presented elsewhere in this report, as well as the audited consolidated financial statements and related notes included in the 2022 Annual Report.
Shore Bancshares, Inc. is the largest independent financial holding company headquartered on the Eastern Shore of Maryland. It is the parent company of Shore United Bank, N.A. The Bank operates 31 full-service branches in Baltimore County, Howard County, Kent County, Queen Anne’s County, Caroline County, Talbot County, Dorchester County, Anne Arundel County and Worcester County in Maryland, Kent County and Sussex County in Delaware and in Accomack County, Virginia. The Company engages in trust and wealth management services through Wye Financial Partners, a division of Shore United Bank, N.A. The Company also engages in title work for real estate transactions through Mid-MD Title.
The shares of common stock of Shore Bancshares, Inc. are listed on the NASDAQ Global Select Market under the symbol “SHBI”.
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Shore Bancshares, Inc. maintains an Internet site at www.shorebancshares.com on which it makes available free of charge its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to the foregoing as soon as reasonably practicable after these reports are electronically filed with, or furnished to, the SEC.
Critical Accounting Policies
The Company’s consolidated financial statements are prepared in accordance with GAAP and follow general practices within the industries in which it operates. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and as such have a greater possibility of producing results that could be materially different than originally reported.
The most significant accounting policies that the Company follows are presented in Note 1 of the 2022 Annual Report along with Note 2 of the current period interim financial information. These policies, along with the disclosures presented in the notes to the financial statements and in this discussion, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has determined that the accounting policies the allowance for credit losses on loans and goodwill are critical accounting policies. These policies are considered critical because they relate to accounting areas that require the most subjective or complex judgments, and, as such, could be most subject to revision as new information becomes available.
Allowance for Credit Losses on Losses
The Company adopted ASU No. 2026-13, “Financial Instruments – Credit Losses (Topic 326)”, as amended, on January 1, 2023 and in accordance with ASC 326, has recorded an allowance for credit losses (“ACL”) on loans carried at amortized cost. The ACL represents management’s best estimate of expected lifetime credit losses within the Company's loan portfolio as of the balance sheet date. The allowance for credit losses is established through a provision for credit losses and is increased by recoveries of loans previously charged off. Loan losses are charged against the allowance when management's assessments confirm that the Company will not collect the full amortized cost basis of a loan. The calculation of expected credit losses is determined using cash flow methodology, and includes considerations of historical experience, current conditions, and reasonable and supportable economic forecasts that may affect collection of the recorded balances. The Company assesses an ACL to groups of loans which share similar risk characteristics or on an individual basis, as deemed appropriate. Changes in the ACL on loans, and as a result, the related provision for credit losses, can materially affect financial results. Although the overall balance is determined based on specific portfolio segments and individually assessed assets, the entire balance is available to absorb credit losses for loans in the portfolio.
The determination of the appropriate level of ACL on loans inherently involves a high degree of subjectivity and requires the Company to make significant judgments concerning credit risks and trends using quantitative and qualitative information, as well as reasonable and supportable forecasts of future economic conditions, all of which may undergo frequent and significant changes. Changes in conditions, including unforeseen events, changes in asset-specific risk characteristics, and other economic factors, both within and outside the Company's control, may indicate the need for an increase or decrease in the ACL on loans. While management makes every effort to utilize the best information available in making its assessment of the ACL estimate, the estimation process is inherently challenging as potential changes in any one factor or input may occur at different rates and/or impact pools of loans in different ways. Further, changes in factors and inputs may also be directionally inconsistent, such that improvement in one factor may offset deterioration in others.
The Company’s management reviews the adequacy of the ACL on loans on at least a quarterly basis. Refer to Note 2, “Adoption of Accounting Standards”, of the interim consolidated financial information for additional detail concerning the determination of the ACL on loans.
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Goodwill
Goodwill represents the excess of the cost of an acquisition over the fair value of the net assets acquired. Determining fair value is subjective, requiring the use of estimates, assumptions and management judgment. Goodwill is tested at least annually for impairment, usually during the fourth quarter, or on an interim basis if circumstances dictate. Impairment testing requires a qualitative assessment or that the fair value of each of the Company’s reporting units be compared to the carrying amount of its net assets, including goodwill. If the fair value of a reporting unit is less than book value, an expense may be required to write down the related goodwill to record an impairment loss.
OVERVIEW
The Company reported net income of $6.5 million for the first quarter of 2023, or diluted income per common share of $0.32, compared to net income of $5.6 million, or diluted income per common share of $0.28, for the first quarter of 2022. For the fourth quarter of 2022, the Company reported net income of $8.4 million, or diluted income per common share of $0.42. Net income, excluding merger related expenses, for the first quarter of 2023 was $7.0 million or $0.35 per diluted common share, compared to net income, excluding merger related expenses, of $9.1 million or $0.46 per diluted common share for the fourth quarter of 2022 and net income, excluding merger-related expenses, of $6.2 million or $0.31per diluted common share for the first quarter of 2022. When comparing net income, excluding merger related expenses, for the first quarter of 2023 to the first quarter of 2022, net income increased $803 thousand, primarily due to increases in net interest income of $3.2 million, partially offset by a decrease in noninterest income of $712 thousand, coupled with increases in both noninterest expense of $600 thousand and provision for credit losses of $613 thousand. When comparing the first quarter of 2023 to the fourth quarter of 2022, net income, excluding merger related expenses, decreased $2.2 million, due to decreases in net interest income of $1.3 million and noninterest income of $528 thousand, coupled with increases in in noninterest expense of $169 thousand and provision for credit losses of $763 thousand. Merger-related expenses recorded for the first quarter of 2023 and the fourth quarter of 2022 were $691 thousand and $967 thousand, respectively.
RESULTS OF OPERATIONS
Net Interest Income
Tax-equivalent net interest income is net interest income adjusted for the tax-favored status of income from certain loans and investments. As shown in the table below, tax-equivalent net interest income was $25.7 million for the first quarter of 2023 and $22.5 million for the first quarter of 2022. Tax-equivalent net interest income was $26.9 million for the fourth quarter of 2022. The increase in net interest income when comparing the first quarter of 2023 to the first quarter of 2022 due to increases in interest and fees on loans and income from taxable investment securities, partially offset by increases in interest expense on interest-bearing deposits and FHLB short-term borrowings. Net interest margin is tax-equivalent net interest income (annualized) divided by average earning assets. The net interest margin for the first quarter of 2023 was 3.18% which was an increase of 42bps when compared to 2.76% for the first quarter of 2022 and a decrease of 17bps when compared to 3.35% for the fourth quarter of 2022. The improvement in net interest margin in the first quarter of 2023 when compared to the first quarter of 2022 was primarily due to significantly higher volume of interest earning assets as well as improved yields on such interest earning assets. The decrease in net interest margin when compared to the fourth quarter of 2022 was primarily due to the increase in the average balance of FHLB short-term borrowings of $106.6 million and an increases rate of 98bps, resulting in $1.3 million in interest expense.
Interest Income
On a tax-equivalent basis, interest income increased $10.7 million, or 44.1%, for the first quarter of 2023 when compared to the first quarter of 2022. The improvement to interest income was the result of increases in interest and fees on loans and income from investment securities. The primary driver for the increase in interest income on loans was the higher average volume of loans of $475.9 million coupled with an increase in the average yield of 59bps. The average balance of taxable investment securities increased $122.5 million, providing $2.1 million of additional income.
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On a tax-equivalent basis, interest income increased $2.8 million, or 8.6%, for the first quarter of 2023 when compared to the fourth quarter of 2022. The primary driver for the increase in interest income growth in the average balance of $144.3 million, or 5.8% coupled with a higher average yield of 34bps.
Interest Expense
Interest expense increased $7.5 million, or 396.1%, when comparing the first quarter of 2023 to the first quarter of 2022. The increase in interest expense from the first quarter of 2022 was the result of increases in expenses on interest-bearing deposits of $5.9 million and FHLB short-term borrowings of $1.4 million, primarily a result of an increase in the average balance of FHLB short term borrowings of $114.0 million.
Interest expense increased $4.1 million, or 76.1%, when comparing the first quarter of 2023 to the fourth quarter of 2022 primarily due to increases in rates paid on interest-bearing liabilities. These interest-bearing liabilities included increases in interest bearing deposits of 52bps and FHLB short-term borrowings of 98bps.
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The following tables present the distribution of the average consolidated balance sheets, interest income/expense, and annualized yields earned and rates paid for the three months ended March 31, 2023 and 2022.
For Three Months Ended
For Three Months Ended
March 31, 2023
March 31, 2022
2020
Average
Income(1)/
Yield/
Average
Income(1)/
Yield/
(Dollars in thousands)
Balance
Expense
Rate
Balance
Expense
Rate
Earning assets
Loans (2), (3)
$
2,611,644
$
30,866
4.79
%
$
2,135,734
$
22,124
4.20
%
Investment securities:
Taxable
653,527
4,064
2.49
531,017
1,985
1.49
Tax-exempt
666
9
5.41
—
—
—
Interest-bearing deposits
13,849
163
4.77
586,798
254
0.18
Total earning assets
3,279,686
35,102
4.34
%
3,253,549
24,363
3.01
%
Cash and due from banks
28,602
(15,253)
Other assets
228,054
253,424
Allowance for credit losses
(30,006)
(14,239)
Total assets
$
3,506,336
$
3,477,481
Interest-bearing liabilities
Demand deposits
$
694,894
3,236
1.89
%
$
589,737
228
0.16
%
Money market and savings deposits
1,004,553
2,374
0.96
1,075,791
598
0.23
Certificates of deposit $100,000 or more
241,436
1,076
1.81
286,587
286
0.40
Other time deposits
207,403
595
1.16
175,683
246
0.57
Interest-bearing deposits
2,148,286
7,281
1.37
2,127,798
1,358
0.26
Securities sold under retail repurchase agreements and federal funds purchased
—
—
—
2,770
2
0.29
Advances from FHLB - short-term
113,972
1,361
4.84
—
—
—
Advances from FHLB - long-term
—
—
—
10,116
14
0.57
Subordinated debt
43,108
756
7.11
42,804
520
4.93
Total interest-bearing liabilities
2,305,366
9,398
1.65
%
2,183,488
1,894
0.35
%
Noninterest-bearing deposits
820,162
916,415
Other liabilities
19,634
24,567
Stockholders’ equity
361,174
353,011
Total liabilities and stockholders’ equity
$
3,506,336
$
3,477,481
Net interest spread
$
25,704
2.69
%
$
22,469
2.66
%
Net interest margin
3.18
%
2.76
%
Tax-equivalent adjustment
Loans
$
38
$
39
Investment securities
2
—
Total
$
40
$
39
(1) All amounts are reported on a tax-equivalent basis computed using the statutory federal income tax rate of 21.0%, exclusive of nondeductible interest expense.
(2) Average loan balances include nonaccrual loans.
(3) Interest income on loans includes accreted loan fees, net of costs and accretion of discounts on acquired loans, which are included in the yield calculations.
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Noninterest Income
Total noninterest income for the first quarter of 2023 decreased $712 thousand, or 11.8%, when compared to the first quarter of 2022. The decrease from the first quarter of 2022 was primarily due to decreases in revenue associated with the mortgage division of $890 thousand, revenue from Mid-Maryland Title Company, Inc. of $186 thousand and service charges on deposit accounts of $146 thousand partially offset by increases in interchange credits of $174 thousand, and other fees on bank services of $336 thousand. Noninterest income decreased $528 thousand, or 9.0%, when compared to the fourth quarter of 2022 primarily due to a decrease in revenue associated with the mortgage division of $590 thousand and in service charges on deposit accounts $133 thousand. Declines in noninterest income from the mortgage division are primarily attributable to the general rise in interest rates that continue to put pressure on the mortgage market, resulting in declines in home loan sales and home loan refinances.
Noninterest Expense
Total noninterest expense for the first quarter of 2023, excluding merger-related expenses, increased $600 thousand, or 3.1%, when compared to the first quarter of 2022 and increased $169 thousand, or less than 1.0%, when compared to the fourth quarter of 2022. The increase in noninterest expense when compared to the first quarter of 2022 was primarily due to other noninterest expenses, employee related benefits, data processing, legal and professional fees and furniture and equipment expense partially offset by decreases in salary expense due to deferred salaries based on loan originations in the first quarter of 2023. The increase in noninterest expense when compared to the fourth quarter of 2022 was primarily due to increases in employee benefits and legal and professional fees offset by decreases in salaries due to an increase in deferred salaries based on loan originations in the fourth quarter of 2022.
Provision for Credit Losses
The provision for credit losses was $1.2 million for the first quarter of 2023, $600 thousand for the first quarter of 2022 and $450 thousand for the fourth quarter of 2022. The increase in the provision for credit losses during the first quarter of 2022 as compared to the prior quarters was primarily a result of new loan growth of $112.6 million. The ratio of the allowance for credit losses to period-end loans was 1.07% at March 31, 2023, 0.65% at December 31, 2022 and 0.67% at March 31, 2022. The Company reported net charge offs in the first quarter of 2023 of $20 thousand, compared to net recoveries of $166 thousand for the first quarter of 2022 and net charge offs of $84 thousand for the fourth quarter of 2022. Management continually evaluates the adequacy of the allowance for credit losses as changes in the economic environment and within the portfolio become known. The provision for the three months ended March 31, 2023 was comprised of $1.05 million related to the allowance for credit losses on loans and $163 thousand for the allowance for credit losses on held to maturity securities.
Income Taxes
The Company reported income tax expense of $2.4 million for the first quarter of 2023, $1.9 million for the first quarter of 2022 and $2.9 million for the fourth quarter of 2022. Income tax expense increased when compared to the first quarter of 2022 due to higher pre-tax earnings and decreased compared to the fourth quarter of 2022 due to lower pre-tax earnings. The effective tax rate for the first quarter of 2023 was 27.4%, 26.0% for the fourth quarter of 2022, and 25.6% for the first quarter of 2022. The higher effective tax rate in the first quarter of 2023 was the result of non-deductible merger related expenses.
ANALYSIS OF FINANCIAL CONDITION
Loans Held for Sale
We originate residential mortgage loans for sale on the secondary market, which we have elected to carry at fair value. At March 31, 2023 and December 31, 2022, the fair value of loans held for sale amounted to $3.5 million and $4.2 million, respectively.
When we sell mortgage loans we make certain representations to the purchaser related to loan ownership, loan compliance and legality, and accurate documentation, among other things. If a loan is found to be out of compliance with any of the representations subsequent to the date of purchase, we may be required to repurchase the loan or indemnify the purchaser.
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Loans Held for Investment
The following tables represent the composition of the Company’s loan portfolio at March 31, 2023 and December 31, 2022.
March 31, 2023
Loans acquired from
(Dollars in thousands)
Legacy Loans
Severn acquisition
Total Loans
Construction
$
237,395
$
13,052
$
250,447
Residential real estate
748,892
117,333
866,225
Commercial real estate
919,950
176,987
1,096,937
Commercial
105,427
34,718
140,145
Consumer
314,094
666
314,760
Total loans excluding PPP loans
2,325,758
342,756
2,668,514
PPP loans
167
—
167
Total loans
$
2,325,925
$
342,756
$
2,668,681
Allowance for credit losses
(28,464)
Total loans, net
$
2,640,217
December 31, 2022
Loans acquired from
(Dollars in thousands)
Legacy Loans
Severn acquisition
Total Loans
Construction
$
226,908
$
19,411
$
246,319
Residential real estate
680,423
130,074
810,497
Commercial real estate
879,265
186,144
1,065,409
Commercial
111,826
35,843
147,669
Consumer
285,315
711
286,026
Total loans excluding PPP loans
2,183,737
372,183
2,555,920
PPP loans
187
—
187
Total loans
$
2,183,924
$
372,183
$
2,556,107
Allowance for credit losses
(16,643)
Total loans, net
$
2,539,464
The acquisition of Severn added $584.6 million in total loans as of October 31, 2021, of which $342.8 million in total loans remained outstanding as of March 31, 2023. Excluding these loans and legacy PPP loans, total legacy loans increased $142.0 million, or 6.5%, when compared to December 31, 2022. At March 31, 2023 and December 31, 2022, PPP loans accounted for $167 thousand and $187 thousand of total legacy loans, respectively. Most of our loans, excluding PPP loans, are secured by real estate and are classified as construction, residential or commercial real estate loans. The increase in legacy loans, excluding PPP loans, was comprised of increases in residential real estate loans of $68.5 million, or 10.1%, consumer loans of $28.8 million, or 10.1%, commercial real estate loans of $40.7 million or 4.6%, construction loans of $10.5 million, or 4.6%, partially offset by a decrease in commercial loans of $6.4 million, or 5.7%, at March 31, 2023 compared to December 31, 2022. At March 31, 2023, the legacy loan portfolio, excluding PPP loans, was comprised of 39.6% commercial real estate, 32.2% residential real estate, 13.5% consumer, 10.2% construction and 4.5% commercial. That compares to 40.3%, 31.2%, 13.1%, 10.4% and 5.1%, respectively, at December 31, 2022. We do not engage in foreign or subprime lending activities. See Note 5, “Loans and Allowance for Credit Losses”, in the Notes to Consolidated Financial Statements and below under the caption “Allowance for Credit Losses” for additional information.
Our loan portfolio has a commercial real estate loan concentration, which is generally defined as a combination of certain construction and commercial real estate loans. Construction loans were $250.4 million, or 9.4% of total loans, at March 31, 2023 and $246.3 million, or 9.6% of total loans, at December 31, 2022. Commercial real estate loans were $1.10 billion, or 41.1% of total loans, at March 31, 2023, compared to $1.07 billion, or 41.7% of total loans, at December 31, 2022.
The federal banking regulators have issued guidance for those institutions which are deemed to have concentrations in commercial real estate lending. Pursuant to the supervisory criteria contained in the guidance for identifying institutions with a potential commercial real estate concentration risk, institutions which have (1) total reported loans for construction,
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land development, and other land acquisitions which represent 100% or more of an institution’s total risk-based capital; or (2) total non-owner occupied commercial real estate loans representing 300% or more of the institution’s total risk-based capital and the institution’s non-owner occupied commercial real estate loan portfolio (including construction) has increased 50% or more during the prior 36 months are identified as having potential commercial real estate concentration risk. Institutions which are deemed to have concentrations in commercial real estate lending are expected to employ heightened levels of risk management with respect to their commercial real estate portfolios, and may be required to hold higher levels of capital. The Company, like many community banks, has a concentration in commercial real estate loans, and the Company has experienced significant growth in its commercial real estate portfolio in recent years. At March 31, 2023, non-owner-occupied commercial real estate loans (including construction, land and land development loans) represented 290.9% of total risk-based capital. At such time, construction, land and land development loans represented 69.3% of total risk-based capital.
The commercial real estate portfolio (including construction) has increased 108.0% during the prior 36 months. Management has extensive experience in commercial real estate lending, and has implemented and continues to maintain heightened risk management procedures, as well as strong underwriting criteria with respect to its commercial real estate portfolio. Monitoring practices include periodic stress testing analysis to evaluate changes to cash flows, owing to interest rate increases and declines in net operating income. We may be required to maintain higher levels of capital as a result of our commercial real estate concentrations, which could require us to obtain additional capital or be required to sell/participate portions of loans, which may adversely affect shareholder returns.
Allowance for Credit Losses on Loans
The allowance for credit losses was $28.5 million at March 31, 2023, $16.6 million at December 31, 2022 and $14.7 million at March 31, 2022. There were net charge-offs of $20 thousand for the first quarter of 2022, compared to net charge-offs of $84 thousand for the fourth quarter of 2022 and net recoveries of $166 thousand for the first quarter of 2022. The ratio of annualized net charge-offs to average loans was 0.00% for the first quarter of 2023, compared to annualized net charge-offs of 0.01% for the fourth quarter of 2022 and annualized net recoveries of 0.03% for the first quarter of 2022. Management remains focused on its efforts to dispose of problem loans and to prudently charge-off nonperforming loans to enable the Company to continue to improve its overall credit quality. The allowance for credit losses as a percentage of period-end loans was 1.07% at March 31, 2023 and 0.65% at December 31, 2022.
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The following tables present a summary of the activity in the allowance for credit losses at or for the three months ended March 31, 2023 and 2022.
March 31, 2023
March 31, 2022
Percentage of net
Percentage of net
charge-offs (recoveries)
charge-offs (recoveries)
(annualized) to
(annualized) to
average loans
average loans
Net (charge-offs)
outstanding
Net (charge-offs)
outstanding
(Dollars in thousands)
Average balances
recoveries
during the year
Average balances
recoveries
during the year
Construction
$
248,286
$
3
-
%
$
254,560
$
3
-
%
Residential real estate
835,683
31
(0.02)
650,224
46
(0.03)
Commercial real estate
1,079,490
—
-
893,158
150
(0.07)
Commercial
141,838
(54)
0.15
175,510
(24)
0.06
Consumer
301,261
—
-
162,282
(9)
0.02
Total
$
2,606,558
$
(20)
-
%
$
2,135,734
$
166
(0.03)
%
Allowance for credit losses at period end as a percentage of total period end loans (1)
1.07
%
0.67
%
Allowance for credit losses at period end as a percentage of total period end loans (2)
1.07
%
0.92
%
Allowance for credit losses at period end as a percentage of average loans (3)
1.09
%
0.69
%
Allowance for credit losses at period end as a percentage of period end nonaccrual loans
1,502.85
%
516.50
%
(1) At March 31, 2023 and March 31, 2022, these ratios included all loans held for investment, including PPP loans of $167 thousand and $14.9 million, respectively.
(2) For 2023, this ratio excludes only PPP loans given the Company’s adoption of the CECL standard. For periods in 2022, this ratio excludes PPP loans and loans acquired in the Severn and Northwest acquisition.
(3) At March 31, 2023 and March 31, 2022, these ratios included all loans held for investment, including average PPP loans of $176 thousand and $18.9 million, respectively.
Nonperforming Assets
As shown in the following table, nonperforming assets were $2.7 million at March 31, 2023 and $3.9 million at December 31, 2022. The balance of nonperforming asset decreased primarily due to a decrease in total loans 90 days or more past due and still accruing of $1.2 million, or 66.8%.
The Company continues to focus on the resolution of its nonperforming and problem assets. The efforts to accomplish this goal include frequently contacting borrowers until the delinquency is cured or until an acceptable payment plan has been agreed upon; obtaining updated appraisals; provisioning for credit losses; charging-off loans; transferring loans to other real estate owned; aggressively marketing other real estate owned. The reduction of nonperforming and problem assets is and will continue to be a high priority for the Company.
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The following table summarizes our nonperforming assets at March 31, 2023 and December 31, 2022.
(Dollars in thousands)
March 31, 2023
December 31, 2022
Nonperforming assets
Nonaccrual loans
$
1,894
$
1,908
Total loans 90 days or more past due and still accruing
611
1,841
Other real estate owned
179
197
Total nonperforming assets
$
2,684
$
3,946
As a percent of total loans:
Nonaccrual loans
0.07
%
0.07
%
As a percent of total loans and other real estate owned:
Nonperforming assets
0.10
%
0.15
%
As a percent of total assets:
Nonaccrual loans
0.05
%
0.05
%
Nonperforming assets
0.08
%
0.11
%
Investment Securities
The investment portfolio is comprised of debt and equity securities. Securities are classified as either available for sale or held to maturity. Investment securities available for sale are stated at estimated fair value based on quoted prices. They represent securities which may be sold as part of the asset/liability management strategy or in response to changing interest rates. Net unrealized holding gains and losses on these securities are reported net of related income taxes as accumulated other comprehensive income (loss), a separate component of stockholders’ equity.
Investment securities in the held to maturity category are stated at cost adjusted for amortization of premiums and accretion of discounts and the allowance for credit losses. We have the intent and ability to hold such securities until maturity. At March 31, 2023, 14.2% of the portfolio of debt securities was classified as available for sale and 85.8% was classified as held to maturity, compared to 14.5% and 85.5% respectively, at December 31, 2022. See Note 3 – “Investment Securities”, in the Notes to Consolidated Financial Statements for additional details on the composition of our investment portfolio.
Investment securities, including restricted stock, totaled $647.0 million at March 31, 2023, an $8.5 million, or 1.3%, decrease since December 31, 2022. At March 31, 2023, 75.3% of the securities available for sale were mortgage-backed, 22.5% were U.S. Government agencies and 2.3% were corporate bonds, compared to 76.0%, 21.7% and 2.3%, respectively, at year-end 2022. At March 31, 2023, 70.2% of the securities held to maturity were mortgage-backed, 27.5% were U.S. Government agencies, 2.1% were subordinated debt instruments and less than 1% were community reinvestment bonds, compared to 70.4%, 27.2%, 2.1% and less than 1%, respectively, at year-end 2022. Our investments in mortgage-backed securities are issued or guaranteed by U.S. Government agencies or government-sponsored agencies.
Deposits
Total deposits at March 31, 2023 amounted to $2.99 billion, a decrease of $15.2 million, or less than 1%, when compared to the level at December 31, 2022. The decrease in total deposits consisted of a decrease in money market and savings accounts of $58.2 million and $53.3 million in noninterest bearing deposits partially offset by an increase in time deposits of $64.2 million and an increase in interest bearing checking accounts of $32.0 million.
Total estimated uninsured deposits amounted to $839.4 million and $871.5 million at March 31, 2023 and December 31, 2022, respectively.
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Short-Term Borrowings
The Company had $131.5 million of short-term borrowings consisting of short-term advances with the FHLB as of March 31, 2023, compared to short-term borrowings consisting of advances with the FHLB of $40.0 million at December 31, 2022. This increase was due to funding needs as a result of the decrease in deposits and the increase in loans. Other short-term borrowings may consist of overnight borrowing from correspondent banks or securities sold under agreements to repurchase, primarily with commercial depositors. Short-term advances are defined as those with original maturities of one year or less. At March 31, 2023 and December 31, 2022, the Company had no securities sold under agreements to repurchase or overnight borrowings from correspondent banks.
Long-Term Debt
The Company occasionally borrows from the FHLB to meet longer term liquidity needs, specifically to fund loan growth when liquidity from deposit growth is not sufficient. There were no long-term borrowings from the FHLB outstanding at March 31, 2023 and December 31, 2022.
On August 25, 2020, the Company entered into Subordinated Note Purchase Agreements with certain purchasers pursuant to which the Company issued and sold $25.0 million in aggregate principal amount with an initial interest rate of 5.375% of Fixed-to-Floating Rate Subordinated Notes due September 1, 2030.
As a result of the Severn merger, the Company acquired Junior Subordinated Debt Securities due in 2035 which had an outstanding principal balance of $20.6 million. The debt balance of $18.4 million at March 31, 2023 and December 31, 2022 was presented net of a fair value adjustment of $2.2 million.
Liquidity and Capital Resources
We derive liquidity through increased customer deposits, non-reinvestment of the cash flow from the investment portfolio, loan repayments, borrowings and income from earning assets. As seen in the Consolidated Statements of Cash Flows in the Financial Statements, the net decrease in cash and cash equivalents was $17.8 million for the first three months of 2023 compared to a decrease of $12.6 million for the first three months of 2022. The decrease in cash and cash equivalents in 2023 was mainly due to funding net loan growth of $111.8 million.
To the extent that deposits are not adequate to fund customer loan demand, liquidity needs can be met in the short-term fund markets. The Bank has arrangements with other correspondent banks whereby it has $15 million available in federal funds lines of credit and a reverse repurchase agreement available to meet any short-term needs which may not otherwise be funded by the Bank’s portfolio of readily marketable investments that can be converted to cash. The Bank is also a member of the FHLB, which provides another source of liquidity. Through the FHLB, the Bank had collateral pledged of approximately $283.5 million and $298.9 million at March 31, 2023 and December 31, 2022, respectively. The Bank has pledged, under a blanket lien, all qualifying residential and commercial real estate loans under borrowing agreements with the FHLB.
Total stockholders’ equity decreased $2.6 million, or less than 1%, to $361.6 million at March 31, 2023 when compared to December 31, 2022 primarily due to a Day 1 CECL adjustment of ($7.8) million, partially offset by current year earnings of $6.5 million and a decrease in unrealized losses on available for sale securities of $860 thousand.
The Bank and the Company are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of its assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
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Quantitative measures established by regulation to ensure capital adequacy require the Bank and the Company to maintain minimum ratios of common equity Tier 1, Tier 1, and total capital as a percentage of assets and off-balance sheet exposures, adjusted for risk weights ranging from 0% to 1,250%. The Bank and Company are also required to maintain capital at a minimum level based on quarterly average assets, which is known as the leverage ratio. The Bank and the Company were deemed “well capitalized” under applicable regulatory capital requirements at March 31, 2023.
The following tables present the applicable capital ratios for the Company and the Bank as of March 31, 2023 and December 31, 2022.
Tier 1
Common Equity
Tier 1
Total
leverage
Tier 1
risk-based
risk-based
March 31, 2023
ratio
ratio
capital ratio
capital ratio
Shore Bancshares, Inc.
9.26
%
11.17
%
11.85
%
13.85
%
Shore United Bank
9.64
%
12.30
%
12.30
%
13.38
%
Tier 1
Common Equity
Tier 1
Total
leverage
Tier 1
risk-based
risk-based
December 31, 2022
ratio
ratio
capital ratio
capital ratio
Shore Bancshares, Inc.
9.52
%
11.62
%
12.33
%
13.91
%
Shore United Bank
9.92
%
12.82
%
12.82
%
13.47
%
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.