The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), enacted in 2010, substantially increased regulatory oversight and enforcement and imposed additional costs and risks on the operations

Table of ~~financial holding companies and banks.~~Contents

The Dodd-Frank Act materially changed the regulation of financial institutions and the financial services industry and created a framework for regulatory reform. The Dodd-Frank Act and the regulations thereunder, some of which are still being drafted and implemented,include provisions affecting large and small financial institutions alike, including several provisions that affect the regulation of community banks and bank holding companies.

The Dodd-Frank Act, among other things, imposed new capital requirements on bank holding companies; changed the base for FDIC insurance assessments to a bank’s average consolidated total assets minus average tangible equity, rather than upon its deposit base; permanently raised the current standard deposit insurance limit to $250,000; and expanded the FDIC’s authority to raise insurance premiums. The legislation also called for the FDIC to raise its ratio of reserves to deposits from 1.15% to 1.35% for deposit insurance purposes by September 30, 2020 and to “offset the effect” of increased assessments on insured depository institutions with assets of less than $10 billion.

The Dodd-Frank Act also included provisions that affect corporate governance and executive compensation at all publicly-traded companies and allows financial institutions to pay interest on business checking accounts. The legislation also restricts proprietary trading by banking organizations, places restrictions on the owning or sponsoring of hedge and private equity funds, and regulates the derivatives activities of banks and their affiliates. The Dodd-Frank Act established the Financial Stability Oversight Council to identify threats to the financial stability of the U.S., promote market discipline, and respond to emerging threats to the stability of the U.S. financial system.

The Dodd-Frank Act also established the Consumer Financial Protection Bureau (the "CFPB") as an independent entity funded by FRB. The CFPB has broad rulemaking, supervisory and enforcement authority over consumer financial products and services, including deposit products, residential mortgages, home-equity loans and credit cards. The CFPB’s rules contain provisions on mortgage-related matters such as steering incentives, and determinations as to a borrower’s ability to repay, loan servicing, and prepayment penalties. The CFPB has primary examination and enforcement authority over banks with over $10 billion in assets as to consumer financial products.

One of the announced goals of the CFPB is to bring greater consumer protection to the mortgage servicing market. The CFPB has defined a “qualified mortgage” for purposes of the Dodd-Frank Act, and set standards for mortgage lenders to determine whether a consumer has the ability to repay the mortgage. It has also issued regulations affording safe harbor legal protections for lenders making qualified loans that are not “higher priced.” The CFPB's regulations contain new mortgage servicing rules applicable to the Bank, which took effect in 2014. Changes affect notices to be given to consumers as to delinquency, foreclosure alternatives, modification applications, interest rate adjustments and options for avoiding “force-placed” insurance. Servicers are prohibited from processing foreclosures when a loan modification is pending, and must wait until a loan is more than 120 days delinquent before initiating a foreclosure action.

The servicer must provide direct and ongoing access to its personnel, and provide prompt review of any loss mitigation application. Servicers must maintain accurate and accessible mortgage records for the life of a loan and until one year after the loan is paid off or transferred.

The Bank presently services 5,000 or fewer mortgage loans which it owns or originated, so it is considered a “Small Servicer” and is exempt from certain parts of the mortgage servicing rules. The mortgage servicing requirements applicable to the Bank’s servicing operations under the new mortgage servicing rules are: adjustable rate mortgage interest rate adjustment notices; prompt payment crediting and payoff statements; limits on force-placed insurance; responses to written information requests and complaints of errors; and loss mitigation with regard to the first notice or filing for a foreclosure and no foreclosure proceedings if a borrower is performing pursuant to the terms of a loss mitigation agreement.

Federal Deposit Insurance

The ~~Bank’s~~FDIC's Deposit Insurance Fund provides insurance coverage for certain deposits, ~~are insured~~up to ~~applicable limits by the FDIC. The~~a standard maximum deposit insurance amount of $250,000 per depositor and is ~~$250,000 under~~funded through assessments on insured depository institutions, based on the ~~Dodd-Frank Act.~~

risk each institution poses to the Deposit Insurance Fund. The ~~FDIC, absent extraordinary circumstances, is required~~Bank accepts client deposits that are insured by the Dodd-Frank Act to return the insurance reserve ratio to a 1.35% ratio no later than September 30, 2020. Once the fund reaches 1.15%, banks larger than $10 billion in assets will be required to assume the burden of bringing the fund to 1.35%.

~~On June 30, 2016, the Federal~~ Deposit Insurance Fund ~~reached 1.15% of insured deposits. As required by~~and, therefore, must pay insurance premiums. The FDIC may increase the ~~Dodd-Frank Act, the FDIC changed the way it calculates the FDIC~~Bank’s insurance premiums ~~upon reaching that threshold. Prior to July 1, 2016, premiums were~~ based on ~~an insured institution's ranking in one~~various factors, including the FDIC’s assessment of ~~four risk categories based on their examination ratings and capital ratios. Within~~ its risk ~~category, the institution was assigned an initial base assessment rate which was then adjusted to~~profile.

reflect its level of brokered deposits, secured liabilities and unsecured debt. After July 1, 2016, institutions are assigned a base rate based on their examination ratings which is then adjusted based on their leverage ratio, net income before taxes to total assets ratio, nonperforming loans and leases to gross assets ratio, other real estate owned to gross assets ratio, loan mix index, and one-year asset growth rate. The result is then further adjusted to reflect its level of unsecured debt issued, the level of unsecured depository institution debt it owns, and the level of brokered deposits (excluding reciprocal deposits) it has issued above regulatory minimums.

If the FDIC is appointed conservator or receiver of a bank upon the bank’s insolvency or the occurrence of other events, the FDIC may sell some, part or all of a bank’s assets and liabilities to another bank or repudiate or disaffirm most types of contracts to which the bank was a party if the FDIC believes such ~~contract is~~contracts are burdensome. In resolving the estate of a failed bank, the FDIC as receiver will first satisfy its own administrative expenses, and the claims of holders of U.S. deposit liabilities also have priority over those of other general unsecured creditors.

Liability for Banking Subsidiaries

~~Under the Dodd-Frank Act and applicable FRB policy, a bank holding company such as the Parent Company~~

Orrstown is ~~expected~~required to ~~act~~serve as a source of financial and managerial strength to ~~each of its subsidiary banks~~the Bank and, under appropriate conditions, to commit resources to ~~their support.~~support the Bank. This support may be required by the Federal Reserve at times when we might otherwise determine not to provide it or when doing so is not otherwise in the interests of Orrstown or our shareholders or creditors. The Federal Reserve may require a BHC to make capital injections into a troubled subsidiary bank ~~holding company~~and may ~~not have~~charge the BHC with engaging in unsafe and unsound practices if the BHC fails to commit resources to such a subsidiary bank or if it undertakes actions that the Federal Reserve believes might jeopardize the BHC’s ability to commit resources to such subsidiary bank.

Under these requirements, Orrstown may in the future be required to provide ~~it. Similarly, under~~financial assistance to the ~~cross-guarantee provisions~~Bank should it experience financial distress. Capital loans by Orrstown to the Bank would be subordinate in right of payment to deposits and certain other debts of the ~~Federal Deposit Insurance Act (the “FDIA”),~~Bank. In the ~~FDIC can hold~~event of Orrstown's bankruptcy, any ~~FDIC-insured depository institution liable for any loss suffered or anticipated~~commitment by Orrstown to a federal bank regulatory agency to maintain the capital of the Bank would be assumed by the ~~FDIC in connection with the “default” of a commonly controlled FDIC-insured depository institution; or any assistance provided by the FDIC~~bankruptcy trustee and entitled to a ~~commonly controlled FDIC-insured depository institution “in danger~~priority of ~~default.”~~payment.

Pennsylvania Banking Law

The Pennsylvania Banking Code ~~(“Banking Code”)~~ contains detailed provisions governing the organization, location of offices, rights and responsibilities of directors, officers, and employees, as well as corporate powers, savings and investment operations and other aspects of the Bank and its affairs. The Pennsylvania Banking Code delegates extensive rule-making power and administrative discretion to the ~~PDB~~Pennsylvania Department of Banking so that the supervision and regulation of state chartered banks may be flexible and readily responsive to changes in economic conditions and in savings and lending practices.

The FDIA, however, prohibits state chartered banks from making new investments, loans, or becoming involved in activities as principal and equity investments which are not permitted for national banks unless the FDIC determines the activity or investment does not pose a significant risk of loss to the Deposit Insurance ~~Fund;~~Fund, and the bank meets all applicable capital requirements. Accordingly, the additional operating authority provided to the Bank by the Pennsylvania Banking Code is significantly restricted by the FDIA.

Dividend Restrictions

The Parent ~~Company’s funding for cash~~Company is a legal entity separate and distinct from its banking and non-banking subsidiaries. Since our consolidated net income consists largely of net income of Orrstown's subsidiaries, our ability to make capital distributions, ~~to its shareholders is derived from a variety of sources,~~ including ~~cash~~paying dividends and ~~temporary investments. One of the principal sources of those funds has historically been dividends received from the Bank. Various federal and state laws limit the amount~~repurchasing shares, depends upon our receipt of dividends from these subsidiaries. Under federal law, there are various limitations on the extent to which the Bank can declare and pay dividends to the Parent Company, ~~without~~including those related to regulatory ~~approval. In addition, federal bank~~capital requirements, general regulatory ~~agencies have authority~~oversight to ~~prohibit the Bank from engaging in an~~prevent unsafe or unsound ~~practice in conducting its business. The~~practices, and federal banking law requirements concerning the payment of dividends ~~depending upon~~out of net profits, surplus, and available earnings. Certain contractual restrictions also may limit the ~~financial condition of the bank in question, could be deemed to constitute an unsafe or unsound practice. The~~ ability of the Bank to pay dividends to the Parent Company. No assurances can be given that the Bank will, in any circumstances, pay dividends to the ~~future~~Parent Company.

Orrstown's ability to declare and pay dividends to our shareholders is similarly limited by federal banking law and Federal Reserve regulations and policy. The Bank must maintain the applicable CET1 Capital Conservation Buffer to avoid becoming subject to restrictions on capital distributions, including dividends. As of January 1, 2019, the fully phased in Capital Conservation Buffer was 2.5%.

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Federal Reserve policy provides that a BHC should not pay dividends unless (1) the BHC’s net income over the last four quarters (net of dividends paid) is sufficient to fully fund the dividends, (2) the prospective rate of earnings retention appears consistent with the capital needs, asset quality, and overall financial condition of the BHC and its subsidiaries, and (3) the BHC will continue to meet minimum required capital adequacy ratios. Accordingly, a BHC should not pay cash dividends that can only be funded in ways that weaken the BHC’s financial health, such as by borrowing. The policy also provides that a BHC should inform the Federal Reserve reasonably in advance of declaring or paying a dividend that exceeds earnings for the period for which the dividend is being paid or that could result in a material adverse change to the BHC’s capital structure. BHCs also are required to consult with the Federal Reserve before increasing dividends or redeeming or repurchasing capital instruments. Additionally, the Federal Reserve could prohibit or limit the payment of dividends by a BHC if it determines that payment of the dividend would constitute an unsafe or unsound practice.

Transactions between a Bank and its Affiliates

Federal banking laws and regulations impose qualitative standards and quantitative limitations upon certain transactions between a bank and its affiliates, including between a bank and its holding company and companies that the BHC may be ~~influenced~~deemed to control for these purposes. Transactions covered by ~~bank~~these provisions must be on arm’s-length terms and cannot exceed certain amounts which are determined with reference to the bank’s regulatory ~~policies~~capital. Moreover, if the transaction is a loan or other extension of credit, it must be secured by collateral in an amount and ~~capital guidelines.~~quality expressly prescribed by statute, and if the affiliate is unable to pledge sufficient collateral, the BHC may be required to provide it. The Dodd-Frank Act expanded the coverage and scope of these regulations, including by applying them to the credit exposure arising under derivative transactions, repurchase and reverse repurchase agreements, and securities borrowing and lending transactions. Federal banking laws also place similar restrictions on loans and other extensions of credit by FDIC-insured banks, such as the Bank, and their subsidiaries to their directors, executive officers, and principal shareholders.

Regulatory Capital Requirements

~~Information concerning the compliance of the Company and the Bank~~Compliance with respect to capital requirements is incorporated by reference from Note ~~13,~~16, Shareholders' Equity and Regulatory Capital, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data," and from the Capital Adequacy and Regulatory Matters section of Item 7, “Management’s Discussion and Analysis of Consolidated Financial Condition and Results of Operations.”

The Bank is subject to certain risk-based capital and leverage ratio requirements under the U.S. Basel III ~~Capital Rules~~

~~Effective January 1, 2015, the Company and the Bank became subject to new~~ capital rules ~~(the "Basel III Capital Rules"), which substantially revised risk-based capital requirements. The~~adopted by the Federal Reserve. These rules implement the Basel III ~~Capital Rules revised~~international regulatory capital standards in the ~~definitions and the components of regulatory capital,~~U.S., as well as ~~addressing other issues affecting~~certain provisions of the ~~numerator~~Dodd-Frank Act. These quantitative calculations are minimums, and the Federal Reserve may determine that a banking organization, based on its size, complexity, or risk profile, must maintain a higher level of capital in ~~banking institutions’ regulatory~~order to operate in a safe and sound manner. In May 2018, the Federal Reserve raised the asset-sized reporting threshold for a BHC to $3.0 billion and a company with consolidated assets under the revised limit is not subject to the FRB consolidated capital rules. A company with consolidated assets under the revised limits may continue to file reports that include capital amounts and ratios. Orrstown has elected to continue to file those reports.

Under the U.S. Basel III capital ~~ratios. They also addressed asset~~rules, Orrstown's and the Bank’s assets, exposures, and certain off-balance sheet items are subject to risk weights ~~and other matters affecting~~used to determine the ~~denominator in banking~~ institutions’ ~~regulatory~~risk-weighted assets. These risk-weighted assets are used to calculate the following minimum capital ratios for Orrstown and ~~replaced~~ the ~~existing general risk-weighting approach.~~Bank:

~~The Basel III~~

• CET1 Risk-Based Capital ~~Rules introduced a new capital measure called “Common Equity Tier 1” (“CET1”) and a related regulatory capital~~Ratio, equal to the ratio of CET1 capital to risk-weighted ~~assets; increased the minimum requirements for~~assets. CET1 capital primarily includes common shareholders’ equity subject to certain regulatory adjustments and deductions, including goodwill, intangible assets, certain deferred tax assets, and AOCI.

• Tier 1 Risk-Based Capital ~~ratio as well as~~Ratio, equal to the minimum levels to be considered well capitalized under prompt corrective action; and introduced the “capital conservation buffer,” designed to absorb losses during periods of economic stress. Institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer are subject to constraints on dividends, equity repurchases and discretionary bonuses to executive officers based on the amount of the shortfall. When fully phased-in on January 1, 2019, the capital standards applicable to the Company and the Bank will include an additional capital conservation buffer of 2.5% of CET1, effectively resulting in minimum ratios inclusive of the capital conservation buffer of (i) CET1 to risk-weighted assets of at least 7%, (ii) Tier 1 capital to risk-weighted assets. Tier 1 capital is primarily comprised of CET1 capital, perpetual preferred stock, and certain qualifying capital instruments.

• Total Risk-Based Capital Ratio, equal to the ratio of total capital, including CET1 capital, Tier 1 capital, and Tier 2 capital, to risk-weighted assets. Tier 2 capital primarily includes qualifying subordinated debt and qualifying ALL.

• Tier 1 Leverage Ratio, equal to the ratio of Tier 1 capital to quarterly average assets (net of ~~at least 8.5%,~~goodwill, certain other intangible assets, and ~~(iii) Total~~certain other deductions).

Failure to be well-capitalized or to meet minimum capital requirements could result in certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have an adverse material effect on our operations or

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financial condition. Failure to be well-capitalized or to meet minimum capital requirements could also result in restrictions on the Bank’s ability to pay dividends or otherwise distribute capital or to receive regulatory approval of applications.

In addition to meeting the minimum capital requirements, under the U.S. Basel III capital rules, the Bank must also maintain the required Capital Conservation Buffer to avoid becoming subject to restrictions on capital distributions and certain discretionary bonus payments to management. The Capital Conservation Buffer is calculated as a ratio of CET1 capital to risk-weighted assets, ~~of at least 10.5%~~

and it effectively increases the required minimum risk-based capital ratios. The ~~Basel III~~ Capital ~~Rules provide for~~Conservation Buffer requirement was phased in over a ~~number of deductions from and adjustments to CET1. These include, for example, the requirement~~three-year period that mortgage servicing rights, deferred tax assets arising from temporary differences that could not be realized from net operating loss carrybacks and significant investments in unconsolidated financial entities be deducted from CET1 to the extent that any one such category exceeds 10% of CET1 or all such categories, in the aggregate, exceed 15% of CET1.

Under the Basel III Capital Rules, the effects of certain accumulated other comprehensive income ("AOCI") items are not excluded from regulatory capital, including unrealized gains or losses on certain securities available for sale; however, certain banking organizations were able to make a one-time permanent election with the first filing of reports under the Basel III Capital Rules to continue to exclude these items. The Company and Bank made this one-time permanent election, with the result that most AOCI items will be excluded from regulatory capital.

~~Implementation of the deductions and other adjustments to CET1~~ began on January 1, ~~2015 and are being phased in over a 4-year~~2016. The phase-in period ~~(beginning at 40%~~ended on January 1, ~~2015~~2019, and ~~an additional 20% per year thereafter until~~the Capital Conservation Buffer was at its fully phased-in level of 2.5% throughout 2019. The Tier 1 Leverage Ratio is not impacted by the Capital Conservation Buffer, and a banking institution may be considered well-capitalized while remaining out of compliance with the Capital Conservation Buffer.

Orrstown has the ability to provide additional capital to the Bank to maintain the Bank’s risk-based capital ratios at ~~January 1, 2018).~~levels which would be considered well-capitalized.

~~The Basel III~~

At December 31, 2019, Orrstown's and the Bank’s regulatory capital ratios were above the well-capitalized standards and met the Capital ~~Rules prescribe~~Conservation Buffer on a ~~standardized approach for risk weightings that expands the risk-weighting categories to a larger and more risk-sensitive number of categories than previously used, depending on the nature~~fully phased-in basis.

Bank Acquisitions by Orrstown

BHCs must obtain prior approval of the ~~assets. These categories generally range from 0%, for U.S. government and agency~~Federal Reserve in connection with any acquisition that results in the BHC owning or controlling 5% or more of any class of voting securities ~~to 600%, for~~of a bank or another BHC.

Acquisitions of Ownership of Orrstown

Acquisitions of Orrstown's voting stock above certain ~~equity exposures, and result in higher risk weights for a variety of asset categories.~~

~~Other Federal Laws and Regulations~~

~~The Company’s operations~~thresholds are subject to ~~additional~~prior regulatory notice or approval under federal banking laws, including the BHC Act and ~~regulations applicable to financial institutions, including, without limitation:~~

~~Privacy provisions~~the Change in Bank Control Act of 1978. Under the ~~Gramm-Leach-Bliley~~Change in Bank Control Act, (the "GLB Act") and related regulations, which require us to maintain privacy policies intended to safeguard customer financial information, to disclose the policies to our customers and to allow customers to “opt out” of having their financial service providers disclose their confidential financial information to non-affiliated third parties, subject to certain exceptions;

~~Right to Financial Privacy Act, which imposes~~ a ~~duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records;~~

~~Consumer protection rules for the sale of insurance products by depository institutions, adopted pursuant~~person or entity generally must provide prior notice to the Federal Reserve before acquiring the power to vote 10% or more of our outstanding common stock. Investors should be aware of these requirements ~~of the~~when acquiring shares in our stock.

Data Privacy

Federal and state law contains extensive consumer privacy protection provisions. The GLB ~~Act; and the~~

~~USA PATRIOT~~ Act ~~which~~ requires financial institutions to ~~take~~periodically disclose their privacy policies and practices relating to sharing such information and enables retail clients to opt out of our ability to share information with unaffiliated third parties under certain ~~actions~~circumstances. Other federal and state laws and regulations impact our ability to share certain information with affiliates and non-affiliates for marketing and/or non-marketing purposes, or to contact clients with marketing offers. These security and privacy policies and procedures for the protection of personal and confidential information are in effect across all businesses and geographic locations as applicable. Federal law also makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain client information of a financial nature by fraudulent or deceptive means. Data privacy and data protection are areas of increasing federal and state legislative focus.

Like other lenders, the Bank uses credit bureau data in its underwriting activities. Use of such data is regulated under the Fair Credit Reporting Act, which also regulates reporting information to credit bureaus, prescreening individuals for credit offers, sharing of information between affiliates, and using affiliate data for marketing purposes. Similar state laws may impose additional requirements on us.

Cybersecurity

The GLB Act requires financial institutions to implement a comprehensive information security program that includes administrative, technical, and physical safeguards to ensure the security and confidentiality of client records and information.

The Cybersecurity Information Sharing Act is intended to improve cybersecurity in the U.S. by enhanced sharing of information about security threats among the U.S. government and private sector entities, including financial institutions. The Cybersecurity Information Sharing Act also authorizes companies to monitor their own systems notwithstanding any other provision of law and allows companies to carry out defensive measures on their own systems from cyber attacks. The law includes liability protections for companies that share cyber threat information with third parties so long as such sharing activity is conducted in accordance with Cybersecurity Information Sharing Act.

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In October 2016, the federal bank regulatory agencies issued an Advanced Notice of Proposed Rulemaking regarding enhanced cyber risk management standards which would apply to a wide range of large financial institutions and their third-party service providers. The proposed rules would expand existing cybersecurity regulations and guidance to focus on cyber risk governance and management, management of internal and external dependencies, and incident response, cyber resilience, and situational awareness. In addition, the proposal contemplates more stringent standards for institutions with systems that are critical to the financial sector. The Federal Reserve announced in May 2019 that it would revisit the Advanced Notice of Proposed Rulemaking in the future.

Community Reinvestment Act

The CRA is intended to encourage banks to help ~~prevent,~~meet the credit needs of their service areas, including low- and moderate-income neighborhoods, consistent with safe and soundness practices. The relevant federal bank regulatory agency, the FRB in the Bank’s case, examines each bank and assigns it a public CRA rating. A bank’s record of fair lending compliance is part of the resulting CRA examination report.

The CRA requires the relevant federal bank regulatory agency to consider a bank’s CRA assessment when considering the bank’s application to conduct certain mergers or acquisitions or to open or relocate a branch office. The Federal Reserve also must consider the CRA record of each subsidiary bank of a BHC in connection with any acquisition or merger application filed by the BHC. An unsatisfactory CRA record could substantially delay or result in the denial of an approval or application by Orrstown or the Bank. The Bank received a CRA rating of “Satisfactory” in its most recent examination.

Leaders of the federal banking agencies recently have indicated their support for modernizing the CRA regulatory framework to address changing delivery systems and consumer preferences, and, in December 2019, the Office of the Comptroller of the Currency and FDIC issued a joint proposed rule that would amend the CRA regulatory framework. It is too early to tell whether and to what extent any changes will be made to applicable CRA requirements.

Anti-Money Laundering

The Bank Secrecy Act and the PATRIOT Act contain anti-money laundering and financial transparency provisions intended to detect and ~~prosecute international~~prevent the use of the U.S. financial system for money laundering and terrorist financing activities. The Bank Secrecy Act, as amended by the ~~financing~~PATRIOT Act, requires depository institutions and their holding companies to undertake activities including maintaining an anti-money laundering program, verifying the identity of ~~terrorism.~~clients, verifying the identity of certain beneficial owners for legal entity clients, monitoring for and reporting suspicious transactions, reporting on cash transactions exceeding specified thresholds, and responding to requests for information by regulatory authorities and law enforcement agencies. The Bank is subject to the Bank Secrecy Act and, therefore, is required to provide its employees with anti-money laundering training, designate an anti-money laundering compliance officer, and undergo an annual, independent audit to assess the effectiveness of its anti-money laundering program. The Bank has implemented policies, procedures, and internal controls that are designed to comply with these anti-money laundering requirements. Bank regulators are focusing their examinations on anti-money laundering compliance, and we will continue to monitor and augment, where necessary, our anti-money laundering compliance programs. The federal banking agencies are required, when reviewing bank and BHC acquisition or merger applications, to take into account the effectiveness of the anti-money laundering activities of the applicant.

Office of Foreign Assets Control Regulation

The Office of Foreign Assets Control is responsible for administering economic sanctions that affect transactions with designated foreign countries, nationals, and others, as defined by various Executive Orders and in various legislation. Office of Foreign Assets Control-administered sanctions take many different forms. For example, sanctions may include: (1) restrictions on trade with or investment in a sanctioned country, including prohibitions against direct or indirect imports from and exports to a sanctioned country and prohibitions on U.S. persons engaging in financial transactions relating to, making investments in, or providing investment-related advice or assistance to, a sanctioned country; and (2) a blocking of assets in which the government or “specially designated nationals” of the sanctioned country have an interest, by prohibiting transfers of property subject to U.S. jurisdiction, including property in the possession or control of U.S. persons. The Office of Foreign Assets Control also publishes lists of persons, organizations, and countries suspected of aiding, harboring, or engaging in terrorist acts, known as Specially Designated Nationals and Blocked Persons. Blocked assets, for example property and bank deposits, cannot be paid out, withdrawn, set off, or transferred in any manner without a license from the Office of Foreign Assets Control. Failure to comply with these sanctions could have serious legal and reputational consequences.

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Transaction Account Reserves

Federal Reserve rules require depository institutions to maintain reserves against their transaction accounts, primarily NOW and regular checking accounts. For 2020, the first $16.9 million of covered balances are exempt from the reserve requirement, aggregate balances between $16.9 million and $127.5 million are subject to a 3% reserve requirement, and aggregate balances above $127.5 million are subject to a 10% reserve requirement. These reserve requirements are subject to annual adjustment by the Federal Reserve. The Bank was in compliance with these requirements as of December 31, 2019.

Consumer Protection Regulation and Supervision

We are subject to supervision and regulation by the CFPB with respect to federal consumer protection laws. We are also subject to certain state consumer protection laws, and under the Dodd-Frank Act, state attorneys general and other state officials are empowered to enforce certain federal consumer protection laws and regulations. State authorities have increased their focus on and enforcement of consumer protection rules. These federal and state consumer protection laws apply to a broad range of our activities and to various aspects of our business and include laws relating to interest rates, fair lending, disclosures of credit terms and estimated transaction costs to consumer borrowers, debt collection practices, the use of and the provision of information to consumer reporting agencies, and the prohibition of unfair, deceptive, or abusive acts or practices in connection with the offer, sale, or provision of consumer financial products and services.

The CFPB has promulgated many mortgage-related final rules since it was established under the Dodd-Frank Act, including rules related to the ability to repay and qualified mortgage standards, mortgage servicing standards, loan originator compensation standards, high-cost mortgage requirements, Home Mortgage Disclosure Act requirements, and appraisal and escrow standards for higher priced mortgages. The mortgage-related final rules issued by the CFPB have materially restructured the origination, servicing, and securitization of residential mortgages in the U.S. These rules have impacted, and will continue to impact, the business practices of mortgage lenders, including the Bank.

Future Legislation and Regulation

Changes in federal laws and regulations, as well as laws and regulations in states where the Parent Company, ~~and~~ the Bank, and Wheatland do business, can affect the operating environment of ~~the Company and the Bank~~Orrstown in substantial ways. We cannot predict whether those changes in laws and regulations will occur, and, if they occur, the ultimate effect they would have upon the financial condition or results of operations of the Company.

~~NASDAQ~~

Nasdaq Capital Market

The Company’s common stock is listed on ~~The NASDAQ~~the Nasdaq Capital Market under the trading symbol “ORRF” and is subject to ~~NASDAQ’s~~Nasdaq’s rules for listed companies.

~~Competition~~Available Information

The Bank’s principal market area consists of Berks County, Cumberland County, Dauphin County, Franklin County, Lancaster County, and Perry County, Pennsylvania, and Washington County, Maryland. The Bank serves a substantial number of depositors in this market area and contiguous counties, with the greatest concentration in Chambersburg, Shippensburg, and Carlisle, Pennsylvania and the surrounding areas.

We are subject to ~~robust competition~~the informational requirements of the Exchange Act and, in our market areas. Like other depository institutions, we compete with less heavily regulated entities such as credit unions, brokerage firms, money market funds, consumer finance and credit card companies, and with other commercial banks, many of which are larger than the Bank. The principal methods of competing effectively in the financial services industry include improving customer service through the quality and range of services provided, improving efficiencies and pricing services competitively. The Bank is competitiveaccordance with the ~~financial institutions in its service areas~~Exchange Act, we file annual, quarterly, and current reports, proxy statements, and other information with ~~respect to interest rates paid on time~~the SEC. The SEC maintains an Internet web site that contains reports, proxy statements, and ~~savings deposits, service charges on deposit accounts~~other information about issuers, like us, who file electronically with the SEC. The address of the site is www.sec.gov. The reports and ~~interest rates charged on loans.~~

~~We continue to implement strategic initiatives focused on expanding our core businesses and to explore, on an ongoing basis, acquisition, divestiture, and joint venture opportunities~~other information, including any related amendments, filed by us with, or furnished by us to, the ~~extent permitted~~SEC are also available free of charge at our Internet web site as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC. The address of the site is www.orrstown.com. Except as specifically incorporated by ~~our regulators. We analyze each~~reference into this Annual Report on Form 10-K, information on those web sites is not part of our products and businesses in the context of shareholder return, customer demands, competitive advantages, industry dynamics, and growth potential. We believe our market area will support growth in assets and deposits in the future, which we expect to contribute to our ability to maintain or grow profitability.this report.

ITEM 1A – RISK FACTORS

~~Set forth below are~~An investment in our common stock is subject to risks inherent in our business. The material risks and uncertainties that ~~could materially~~management believes affect us are described below. Before making an investment decision, you should carefully consider the risks and ~~adversely affect Orrstown's results~~uncertainties described below together with all of ~~operations, financial condition, liquidity and cash flows.~~the other information included or incorporated by reference in this report. The risks ~~set forth~~and uncertainties described below are not the only ones facing us. Additional risks ~~we face. Our~~and uncertainties that management is not aware of or focused on or that management currently deems immaterial may also impair our business operations. This report is qualified in its entirety by these risk factors.

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If any of the following risks actually occur, our business, financial condition and results of operations could ~~also~~ be ~~affected by other factors not presently known~~materially and adversely affected. If this were to ushappen, the market price of our common stock could decline significantly, and you could lose all or ~~factors that we currently do not consider to be material.~~part of your investment.

Risks Related to Credit

If our allowance for loan losses is not sufficient to cover actual losses, our earnings would decrease.

There is no precise method of predicting loan losses. The required level of reserves, and the related provision for loan losses, can fluctuate from year to year, based on charge-offs and/or recoveries, loan volume, credit administration practices, and local and national economic conditions, among other factors. ~~In 2016, we recorded a provision for loan losses of $250,000 compared with a negative provision of $630,000 in 2015.~~ The Company recorded net charge-offs of $1,043,000 in 2016 compared with net charge-offs of $576,000 in 2015. Risk elements, including nonperforming loans, troubled debt restructurings still accruing, loans greater than 90 days past due still accruing, and other real estate owned totaled $8,319,000 at December 31, 2016 compared with $18,084,000 at December 31, 2015. The allowance for loan losses,ALL, which is a reserve established through a provision for loan losses charged to expense, represents management’s best estimate of probable incurred losses within the existing portfolio of loans. The level of the allowance reflects management’s evaluation of, among other factors, the status of specific impaired loans, ~~trends in~~ historical loss experience, delinquency, credit concentrations and economic conditions within our market area. The determination of the appropriate level of the ~~allowance for loan losses~~ALL inherently involves a high degree of subjectivity and judgment and requires us to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may require us to increase our ~~allowance for loan losses.~~

ALL.

In addition, bank regulatory agencies periodically review our ~~allowance for loan losses~~ALL and may require us to increase the provision for loan losses or to recognize further loan charge-offs, based on judgments that differ from those of, or information not available to, management. If loan charge-offs in future periods exceed the ~~allowance for loan losses,~~ALL, there would be a need to record additional provisions to increase our ~~allowance for loan losses.~~ALL. Furthermore, growth in the loan portfolio would generally lead to an increase in the provision for loan losses. Generally, increases in our ~~allowance for loan losses~~ALL will result in a decrease in net income and stockholders’ equity, and may have a material adverse effect on ~~the~~our financial condition ~~of the Company,~~and results of ~~operations and cash flows.~~operations.

The allowance for loan losses was 1.45% of total loans and 160% of nonaccrual and restructured loans still accruing at December 31, 2016, compared with 1.74% of total loans and 78% of nonaccrual and restructured loans still accruing at December 31, 2015. In addition, at December 31, 2016, the top 25 lending relationships individually had commitments of $56,928,000, and an aggregate total outstanding loan balance of $198,094,000, or 29% of the loan portfolio.

The deterioration of one or more of ~~these loans~~our significant lending relationships could result in a significant increase in the nonperforming loans and the provisions for loan losses, which would negatively impact our results of operations.

Further, as a "smaller reporting company" as defined by the FASB, we have elected to delay implementation of ASU 2016-13, Measurement of Credit Losses on Financial Instruments, under the three year delay permitted by the FASB in 2019. For a more complete description of the potential impact ASU 2016-13 may have on our financial statements and ALL, please refer to the "Changes in our accounting policies or in accounting standards could materially affect how we report our financial results and condition" risk factor below and Note 1, Summary of Significant Accounting Policies, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data" appearing elsewhere in this Form 10-K.

Commercial real estate lending may expose us to a greater risk of loss and impact our earnings and profitability.

Our business strategy ~~involves~~includes making loans secured by commercial real estate. These types of loans generally have higher risk-adjusted returns and shorter maturities than other loans. Loans secured by commercial real estate properties are generally for larger amounts and may involve a greater degree of risk than other loans. Payments on loans secured by these properties are often dependent on the income produced by the underlying properties which, in turn, depends on the successful operation and management of the properties. Accordingly, repayment of these loans is subject to conditions in the real estate market or the local economy. In challenging economic conditions, these loans represent higher risk and could result in an increase in our total net charge-offs, requiring us to increase our ~~allowance for loan losses,~~ALL, which could have a material adverse effect on our financial condition or results of operations. While we seek to minimize these risks in a variety of ways, there can be no assurance that these measures will protect against credit-related losses.

~~Commercial and industrial loans comprise 10% of our loan portfolio.~~

The credit risk related to ~~these types of~~commercial and industrial loans is greater than the risk related to residential loans.

~~Our commercial and industrial loan portfolio grew by $14.8 million, or approximately 20%, during the year ended December 31, 2016 to $88.5 million.~~

Commercial and industrial loans generally carry larger loan balances and involve a greater degree of risk of nonpayment or late payment than home equity loans or residential mortgage loans.

Commercial and industrial loans include advances to local and regional businesses for general commercial purposes and include permanent and short-term working capital, machinery and equipment financing, and may be either in the form of lines of credit or term loans. Although commercial and industrial loans may be unsecured to our highest rated borrowers, the majority of these loans are secured by the borrower’s accounts receivable, inventory and machinery and equipment. In a significant number of these loans, the collateral also includes the business real estate or the business owner’s personal real estate or assets. Commercial and industrial loans are more susceptible to risk of loss during a downturn in the economy, as borrowers may have greater difficulty in meeting their debt service requirements and the value of the collateral may decline. We attempt to mitigate this risk through our underwriting standards, including evaluating the ~~credit worthiness~~creditworthiness of the borrower

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and, to the extent available, credit ratings on the business. Additionally, monitoring of the loans through annual renewals and meetings with the borrowers are typical. However, these procedures cannot eliminate the risk of loss associated with commercial and industrial lending.

Our commercial and industrial lending operations are located ~~primarily in South Central Pennsylvania and in Washington County, Maryland.~~c Our borrowers’ ability to repay these loans depends largely on economic conditions in these and surrounding areas. A deterioration in the economic conditions in these market areas could materially adversely affect our operations and increase loan delinquencies, increase problem assets and foreclosures, increase claims and lawsuits, decrease the demand for our products and services and decrease the value of collateral securing loans.

Risks Related to Interest Rates and Investments

Changes in interest rates could adversely impact the Company’s financial condition and results of operations.

Our operations are subject to risks and uncertainties surrounding our exposure to changes in the interest rate environment. Operating income, net income and liquidity depend to a great extent on our net interest margin, i.e., the difference between the interest yields we receive on interest-earning assets, such as loans and securities, and the interest rates we pay on interest-bearing liabilities, such as deposits and borrowings. These rates are highly sensitive to many factors beyond our control, including competition, general economic conditions, and monetary and fiscal policies of various governmental and regulatory authorities, including the FRB. If the rate of interest we pay on our interest-bearing liabilities increases more than the rate of

interest we receive on our interest-earning assets, our net interest income, and therefore our earnings and liquidity could be materially adversely affected. Our earnings and liquidity could also be materially adversely affected if the rates on interest-earning assets fall more quickly than those on our interest-bearing liabilities.

Changes in interest rates also can affect our ability to originate loans; the ability of borrowers to repay adjustable or variable rate loans; our ability to obtain and retain deposits in competition with other available investment alternatives; and the value of interest-earning assets, which would negatively impact stockholders’ equity, and the ability to realize gains from the sale of such assets. Based on our interest rate sensitivity analyses, an increase in the general level of interest rates will negatively affect the market value of the investment portfolio because of the relatively ~~long~~higher duration of certain securities included in the investment portfolio.

Our subordinated notes, issued in December 2018, have a 6.0% fixed interest rate through December 2023, after which the interest rate will convert to a variable rate of the London Interbank Offered Rate (“LIBOR”) plus 3.16% through maturity in December 2028. Depending on our financial condition at the time of the rate changing from fixed to variable, an increase in the interest rate on our subordinated debt could have a material adverse effect on our liquidity and results of operations.

The expected discontinuance of LIBOR presents risks to the financial instruments originated, issued or held by us that use LIBOR as a reference rate.

LIBOR is used as a reference rate for many of our transactions, which means it is the base on which relevant interest rates are determined. Transactions include those in which we lend and borrow money and issue, purchase and sell securities. LIBOR is the subject of recent national and international regulatory guidance and proposals for reform. The United Kingdom Financial Conduct Authority, which regulates the process for setting LIBOR, announced in July 2017 that it intends to stop persuading or compelling banks to submit rates for the calculation of LIBOR to the administrator of LIBOR after 2021.

While there are ongoing efforts to establish an alternative reference rate to LIBOR, such as the Secured Overnight Financing Rate or SOFR, as of the date of this report, no such rate has been accepted or is considered ready to be widely implemented.

If another rate does not achieve wide acceptance as the alternative to LIBOR, there likely will be disruption to all of the markets relying on the availability of a broadly accepted reference rate. Even if another reference rate ultimately replaces LIBOR, risks will remain for us with respect to outstanding loans, or other instruments using LIBOR. Those risks arise in connection with transitioning those instruments to a new reference rate and the corresponding value transfer that may occur in connection with that transition. Risks related to transitioning instruments to a new reference rate or to how LIBOR is calculated and its availability include impacts on the yield on loans or securities held by us and amounts paid on securities we have issued. The value of loans, securities, or borrowings tied to LIBOR and the trading market for LIBOR-based securities could also be impacted upon its discontinuance or if it is limited.

Further, it is possible that LIBOR quotes will become unavailable prior to 2021 if a sufficient number of banks decline to make submissions to the LIBOR administrator. In that case, the risks associated with the transition to an alternative reference rate would be accelerated and magnified. These risks may also be increased due to the shorter time frame for preparing for the transition.

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Risks Related to Competition and to Our Business Strategy

Difficult economic and market conditions ~~have~~can adversely ~~affected~~affect the financial services industry and may ~~continue to~~ materially and adversely affect the Company.

Our operations are sensitive to general business and economic conditions in the ~~United States.~~U.S. If the growth of the ~~United States~~U.S. economy slows, or if the economy worsens or enters into a recession, our growth and profitability could be constrained. In addition, economic conditions in foreign countries can affect the stability of global financial markets, which could impact the U.S. economy and financial markets. Weak economic conditions are characterized by deflation, fluctuations in debt and equity capital markets, including a lack of liquidity and/or depressed prices in the secondary market for mortgage loans, increased delinquencies on mortgage, consumer and commercial loans, residential and commercial real estate price declines and lower home sales and commercial activity. All of these factors are detrimental to our business. Our business is significantly affected by monetary and related policies of the U.S. federal government, its agencies and government-sponsored entities. Changes in any of these policies could have a material adverse effect on our business, financial position, results of operations and cash flows.

In particular, we may face the following risks in connection with volatility in the economic environment:

•Loan delinquencies could increase;

•Problem assets and foreclosures could increase;

•Demand for our products and services could decline; and

•Collateral for loans made by us, especially real estate, could decline in value, reducing ~~a customer’s~~client borrowing power, and reducing the value of the assets and collateral associated with our loans.

Because our business is concentrated in ~~South Central~~south central Pennsylvania, in the greater Baltimore region, and Washington County, Maryland, our financial performance could be materially adversely affected by economic conditions and real estate values in these market areas.

Our operations and the properties securing our loans are primarily located in ~~South Central~~south central Pennsylvania, in the greater Baltimore region, and in Washington County, Maryland. Our operating results depend largely on economic conditions and real estate valuations in these and surrounding areas. A deterioration in the economic conditions in these market areas could materially adversely affect our operations and increase loan delinquencies, increase problem assets and foreclosures, increase claims and lawsuits, decrease the demand for our products and services and decrease the value of collateral securing loans, especially real estate, in turn reducing ~~customers’~~clients’ borrowing power, the value of assets associated with nonperforming loans and collateral coverage.

Competition from other banks and financial institutions in originating loans, attracting deposits and providing other financial services may adversely affect our profitability and liquidity.

We experience substantial competition in originating ~~loans,~~ both commercial and consumer loans in our market area. This competition comes principally from other banks, savings institutions, credit unions, mortgage banking companies and other lenders. Some of our competitors enjoy advantages, including greater financial resources, and higher lending limits, a wider geographic presence, more accessible branch office locations, the ability to offer a wider array of services or more favorable pricing alternatives, as well as lower origination and operating costs. This competition could reduce our net income and liquidity by decreasing the number and size of loans that we originate and the interest rates we are able to charge on these loans.

As we expand our on-line lending capabilities, we will face competition, particularly in residential mortgage lending, from non-bank lenders (financial institutions that only make loans and do not offer deposit accounts such as a savings account or checking account) and financial technology companies ~~(that~~that use new technology and innovation with available resources in order to compete in the marketplace of traditional financial institutions and intermediaries in the delivery of financial ~~services).~~services. This competition could similarly reduce our net income and liquidity.

In attracting business and consumer deposits, we face substantial competition from other insured depository institutions such as banks, savings institutions and credit unions, as well as institutions offering uninsured investment alternatives, including money market funds. Some of our competitors enjoy advantages, including more ~~aggressive~~expansive marketing campaigns, better brand recognition and more branch locations. These competitors may offer higher interest rates than we do, which could decrease the deposits that we attract or require us to increase our rates to retain existing deposits or attract new deposits. Increased deposit competition could materially adversely affect our ability to generate the funds necessary for lending operations. As a result, we may need to seek other sources of funds that may be more expensive to obtain and could increase our cost of funds.

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The Company’s business strategy includes the continuation of moderate growth plans, and our financial condition and results of operations could be negatively affected if we fail to grow or fail to manage our growth effectively.

Loans grew $101,678,000, or 13.0% from $781,713,000 at December 31, 2015, to $883,391,000 at December 31, 2016, due to organic growth through increases in consumer, commercial and commercial real estate loans. Over the long term, we expect to continue to experience organic growth in loans and total assets, the level of our deposits and the scale of our operations. Achieving our growth targets requires us to successfully execute our business strategies, which includes continuing to grow our loan portfolio. Our ability to successfully grow will also depend on the continued availability of loan opportunities that meet underwriting standards. In addition, ~~our asset quality metrics have improved sufficiently that~~ we may consider the acquisition of other financial institutions and branches within or outside of our market area to the extent permitted by our regulators. The success of any such acquisition will depend on a number of factors, including our ability to integrate the acquired institutions or branches into the current operations of the Company; our ability to limit the outflow of deposits held by ~~customers~~clients of the acquired institution or branch locations; our ability to control the incremental increase in noninterest expense arising from any acquisition; and our ability to retain and integrate the appropriate personnel of the acquired institution or branches. We believe we have the resources and internal systems in place to successfully achieve and manage our future growth. If we do not manage our growth effectively, we may not be able to achieve our business plan goals and our business and prospects could be harmed.

The Company may be adversely affected by technological advances.

Technological advances impact our business. The banking industry undergoes technological change with frequent introductions of new technology-driven products and services. In addition to improving ~~customer~~client services, the effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success may depend, in part, on our ability to address the needs of our current and prospective ~~customers~~clients by using technology to provide products and services that will satisfy demands for convenience, as well as to create additional efficiencies in operations.

The Company may not be able to attract and retain skilled people.

~~The Company’s success depends, in large part, on our ability to attract and retain skilled people. We have, at times, experienced turnover among our senior officers.~~

Competition for the best people in most activities engaged in by us can be intense, and we may not be able to attract and hire sufficiently skilled people to fill open and newly created positions or to retain current or future employees. An inability to attract and retain individuals with the necessary skills to fill open positions, or the unexpected loss of services of one or more of our key personnel, could have a material adverse impact on our business due to the loss of their skills, knowledge of our markets, years of industry experience or the difficulty of promptly finding qualified replacement personnel.

~~An interruption~~

We believe that our continued growth and future success will depend in large part on the skills of our management team and our ability to motivate and retain these individuals and other key personnel. The loss of service of one or ~~breach~~more of our executive officers or key personnel could reduce our ability to successfully implement our long-term business strategy, our business could suffer, and the value of our stock could be materially adversely affected. Leadership changes will occur from time to time, and we cannot predict whether significant resignations will occur or whether we will be able to recruit additional qualified personnel. We believe our management team possesses valuable knowledge about the banking industry and that their knowledge and relationships could be very difficult to replicate. Our success also depends on the experience of our branch managers and lending officers and on their relationships with the clients and communities they serve. The loss of these key personnel could negatively impact our banking operations. The loss of key personnel, or the inability to recruit and retain qualified personnel in ~~security with respect to our information systems, or our outsourced service providers,~~the future, could ~~adversely impact the Company’s reputation and~~ have an adverse ~~impact~~effect on our business, financial condition, or ~~results~~operating results.

We face security risks, including denial of ~~operations.~~service attacks, hacking, social engineering attacks targeting our colleagues and clients, malware intrusion or data corruption attempts, and identity theft that could result in the disclosure of confidential information, adversely affect our business or reputation, and create significant legal and financial exposure.

~~Information~~Our computer systems and network infrastructure and those of third parties, on which we are ~~critical~~highly dependent, are subject to security risks and could be susceptible to cyber attacks, such as denial of service attacks, hacking, terrorist activities, or identity theft. Our business relies on the secure processing, transmission, storage, and retrieval of confidential, proprietary, and other information in our ~~business. We use various technological~~computer and data management systems ~~to manage our customer relationships, general ledger, securities investments, deposits and loans. We rely on software, communication, and information exchange on a variety of computing platforms~~ and networks, and ~~over~~in the ~~Internet.~~ computer and data management systems and networks of third parties. In addition, to access our network, products, and services, our clients and other third parties may use personal mobile devices or computing devices that are outside of our network environment and are subject to their own cybersecurity risks.

We, our clients, regulators, and other third parties, including other financial services institutions and companies engaged in data processing, have ~~established policies~~been subject to, and ~~procedures~~are likely to ~~prevent~~continue to be the target of, cyber attacks. These cyber attacks include computer viruses, malicious or ~~limit~~destructive code, phishing attacks, denial of service or information, ransomware, improper access by employees or vendors, attacks on personal email of employees, ransom demands to not expose security vulnerabilities in our systems or the ~~effect~~systems of ~~system failures, business interruptions and~~third parties or other security breaches ~~but~~that could result in the unauthorized release, gathering, monitoring, misuse, loss, or destruction of confidential, proprietary, and other information of ours, our employees, our clients,

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or of third parties, damage our systems or otherwise materially disrupt our or our clients’ or other third parties’ network access or business operations. As cyber threats continue to evolve, we ~~cannot~~may be ~~certain that all~~required to expend significant additional resources to continue to modify or enhance our protective measures or to investigate and remediate any information security vulnerabilities or incidents. Despite efforts to ensure the integrity of our systems and implement controls, processes, policies, and other protective measures, we may not be able to anticipate all security breaches, nor may we be able to implement sufficient preventive measures against such security breaches, which may result in material losses or consequences for us.

Cybersecurity risks for banking organizations have significantly increased in recent years in part because of the proliferation of new technologies, and the use of the internet and telecommunications technologies to conduct financial transactions. For example, cybersecurity risks may increase in the future as we continue to increase our mobile-payment and other internet-based product offerings and expand our internal usage of web-based products and applications. In addition, cybersecurity risks have significantly increased in recent years in part due to the increased sophistication and activities of organized crime affiliates, terrorist organizations, hostile foreign governments, disgruntled employees or vendors, activists, and other external parties, including those involved in corporate espionage. Even the most advanced internal control environment may be vulnerable to compromise. Due to increasing geopolitical tensions, nation state cyber attacks and ransomware are ~~entirely free from vulnerability~~both increasing in sophistication and prevalence. Targeted social engineering and email attacks (i.e. “spear phishing” attacks) are becoming more sophisticated and are extremely difficult to prevent. In such an attack, an attacker will attempt to fraudulently induce colleagues, clients, or other users of our systems to disclose sensitive information in order to gain access to its data or that of its clients. Persistent attackers may succeed in penetrating defenses given enough resources, time, and motive. The techniques used by cyber criminals change frequently, may not be recognized until launched, and may not be recognized until well after a breach has occurred. The speed at which new vulnerabilities are discovered and exploited often before security patches are published continues to rise. The risk of a security breach caused by a cyber attack at a vendor or by unauthorized vendor access has also increased in recent years. Additionally, the existence of cyber attacks or security breaches at third-party vendors with access to our data may not be disclosed to us in a timely manner.

We also face indirect technology, cybersecurity, and operational risks relating to the clients and other third parties with whom we do business or upon whom we rely to facilitate or enable our business activities, including, for example, financial counterparties, regulators, and providers of critical infrastructure such as internet access and electrical power. As a result of increasing consolidation, interdependence, and complexity of financial entities and technology systems, a technology failure, cyber attack, or other ~~technological difficulties~~information or ~~failures. In addition, any compromise~~security breach that significantly degrades, deletes, or compromises the systems or data of our systems could deter customers from using our products and services. Although we rely on security systems to provide security and authentication necessary to effect the secure transmission of data, these precautions may not protect our systems from security breaches.

~~We rely on the services of a variety of vendors to meet our data processing and communication needs. If these third-party providers encounter difficulties,~~one or if we have difficulty communicating with them, our ability to adequately process and account for transactions could be affected, and our business operations could be adversely affected. Threats to information security also exist in the processing of customer information through various other vendors and their personnel.

If information security is breached or other technology difficulties or failures occur, information may be lost or misappropriated, services and operations may be interrupted and we could be exposed to claims from customers. Any of these resultsmore financial entities could have a material ~~adverse~~impact on counterparties or other market participants, including us. This consolidation, interconnectivity, and complexity increases the risk of operational failure, on both individual and industry-wide bases, as disparate systems need to be integrated, often on an accelerated basis. Any third-party technology failure, cyber attack, or other information or security breach, termination, or constraint could, among other things, adversely affect our ability to effect transactions, service our clients, manage our exposure to risk, or expand our business.

Cyber attacks or other information or security breaches, whether directed at us or third parties, may result in a material loss or have material consequences. Furthermore, the public perception that a cyber attack on our ~~financial condition,~~systems has been successful, whether or not this perception is correct, may damage our reputation with clients and third parties with whom we do business. Hacking of personal information and identity theft risks, in particular, could cause serious reputational harm. A successful penetration or circumvention of system security could cause us serious negative consequences, including our loss of clients and business opportunities, costs associated with maintaining business relationships after an attack or breach; significant business disruption to our operations and business, misappropriation, exposure, or destruction of our confidential information, intellectual property, funds, and/or those of our clients; or damage to our or our clients’ and/or third parties’ computers or systems, and could result in a violation of applicable privacy laws and other laws, litigation exposure, regulatory fines, penalties or intervention, loss of confidence in our security measures, reputational damage, reimbursement or other compensatory costs, additional compliance costs, and could adversely impact our results of operations, liquidity and financial condition. In addition, we may not have adequate insurance coverage to compensate for losses from a cybersecurity event.

Cybersecurity and data privacy are areas of heightened legislative and regulatory focus.

As cybersecurity and data privacy risks for banking organizations and the broader financial system have significantly increased in recent years, cybersecurity and data privacy issues have become the subject of increasing legislative and regulatory focus. The federal bank regulatory agencies have proposed regulations that would enhance cyber risk management standards, which would apply to a wide range of large financial institutions and their third-party service providers and would focus on cyber risk governance and management, management of internal and external dependencies, and incident response, cyber resilience, and situational awareness. Several states have also proposed or ~~liquidity.~~adopted cybersecurity legislation and regulations, which require, among other things, notification to affected individuals when there has been a security breach of their personal data.

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We receive, maintain, and store non-public personal information of our clients and counterparties, including, but not limited to, personally identifiable information and personal financial information. The sharing, use, disclosure, and protection of these types of information are governed by federal and state law. Both personally identifiable information and personal financial information are increasingly subject to legislation and regulation, the intent of which is to protect the privacy of personal information and personal financial information that is collected and handled.

We may become subject to new legislation or regulation concerning cybersecurity or the privacy of personally identifiable information and personal financial information or of any other information we may store or maintain. We could be adversely affected if new legislation or regulations are adopted or if existing legislation or regulations are modified such that we are required to alter our systems or require changes to our business practices or privacy policies. If cybersecurity, data privacy, data protection, data transfer, or data retention laws are implemented, interpreted, or applied in a manner inconsistent with our current practices, we may be subject to fines, litigation, or regulatory enforcement actions or ordered to change our business practices, policies, or systems in a manner that adversely impacts our operating results.

We could be adversely affected by a failure in our internal controls.

~~A failure~~

We rely on our employees to design, manage, and operate our systems and controls to assure that we properly enter into, record and manage processes, transactions and other relationships with clients, suppliers and other parties with whom we do business. In some cases, we rely on employees of third parties to perform these tasks. We also depend on employees and the systems and controls for which they are responsible to assure that we identify and mitigate the risks that are inherent in our ~~internal~~relationships and activities. These concerns are increased when we change processes or procedures, introduce new products or services, or implement new technologies, as we may fail to adequately identify or manage operational risks resulting from such changes.

As a result of our necessary reliance on employees, whether ours or those of third parties, to perform these tasks and manage resulting risks, we are subject to human vulnerabilities. These range from innocent human error to misconduct or malfeasance, potentially leading to operational breakdowns or other failures. Our controls may not be adequate to prevent problems resulting from human involvement in our business, including risks associated with the design, operation and monitoring of automated systems.

Errors by our employees or others responsible for systems and controls on which we depend and any resulting failures of those systems and controls could ~~have a~~result in significant ~~negative impact not only~~harm to us. This could include client remediation costs, regulatory fines or penalties, litigation or enforcement actions, or limitations on our ~~earnings, but~~business activities. We could also ~~on the perception that customers, regulators~~suffer damage to our reputation, impacting our ability to attract and ~~investors may have of us.~~ retain clients and employees.

We continue to devote a significant amount of effort and resources to ~~continually~~constantly strengthening our controls and ensuring compliance with complex accounting standards and ~~banking~~ regulations. However, these efforts may not be effective in preventing a breach in or failure of our controls.

Negative public opinion could damage our reputation and adversely affect our earnings.

Reputational risk, or the risk to the Company's earnings and capital from negative public opinion, is inherent in our business. Negative public opinion can result from the actual or perceived manner in which we conduct our business activities, including banking operations and trust and investment operations, our management of actual or potential conflicts of interest and ethical issues, and our protection of confidential client information. Negative public opinion can adversely affect the Company's ability to keep and attract ~~customers~~clients and can expose the Company to litigation and regulatory action. Although we take steps to minimize reputation risk in the way we conduct our business activities and deal with our ~~customers,~~clients, communities and vendors, these steps may not be effective.

We may become subject to claims and litigation pertaining to fiduciary responsibility.

We provide fiduciary services through OFA and Wheatland. From time to time, clients may make claims and take legal action with regard to the performance of our fiduciary responsibilities. Whether such claims and legal actions are founded or unfounded, if such claims or legal actions are not resolved in a manner favorable to us, the claims or related actions may result in significant financial expense and liability to us and/or adversely affect our reputation in the marketplace, as well as adversely impact client demand for our products and services. Any financial liability or reputation damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

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Acts of terrorism, natural disasters, global climate change, pandemics and global conflicts may have a negative impact on our business and operations.

Acts of terrorism, natural disasters, global climate change, pandemics, global conflicts or other similar events could have a negative impact on our business and operations. While we have in place business continuity plans, such events could still damage our facilities, disrupt or delay the normal operations of our business (including communications and technology), result in harm to or cause travel limitations on our employees, and have a similar impact on our clients, suppliers, third-party vendors and counterparties. These events also could impact us negatively to the extent that they result in reduced capital markets activity, lower asset price levels, or disruptions in general economic activity in the U.S. or abroad, or in financial market settlement functions. In addition, these or similar events may impact economic growth negatively, which could have an adverse effect on our business and operations, and may have other adverse effects on us in ways that we are unable to predict.

Risks Related to Mergers and Acquisitions

On October 1, 2018, we completed the acquisition of Mercersburg, and on May 1, 2019, we completed the acquisition of Hamilton Bancorp, Inc.

Growing by acquisition involves risks.

We intend to pursue a growth plan consistent with our business strategy, including growth by acquisition, as well as leveraging our existing branch network and adding new branch locations in current and future markets we choose to serve.

Our ability to manage growth successfully will depend on our ability to attract qualified personnel and maintain cost controls and asset quality while attracting additional loans and deposits on favorable terms, as well as on factors beyond our control, such as economic conditions and competition. If we grow too quickly and are not able to attract qualified personnel, control costs and maintain asset quality, this continued rapid growth could materially adversely affect our financial performance.

Goodwill incurred in acquisitions may negatively affect our financial condition.

To the extent that merger consideration, consisting of cash and shares of our common stock, exceeds the fair value of the net assets acquired, including identifiable intangibles, that amount will be reported as goodwill by us. In accordance with current accounting guidance, goodwill will not be amortized but will be evaluated for impairment annually or more frequently if events or circumstances warrant. A failure to realize expected benefits of the mergers could adversely impact the carrying value of the goodwill recognized in the mergers and, in turn, negatively affect our financial results.

We may be unable to successfully integrate the operations of acquired entities over time.

Acquisitions involve the integration with Orrstown of companies that previously operated independently. The difficulties of combining the operations of the acquired companies with Orrstown include:

•integrating personnel with diverse business backgrounds;

•integrating departments, systems, operating procedures and information technologies;

•combining different corporate cultures;

•retaining existing clients and attracting new clients; and

•retaining key employees.

The process of integrating operations could cause an interruption of, or loss of momentum in, the activities of the combined company and the loss of key personnel. The diversion of management’s attention and any delays or difficulties encountered in connection with the merger and the integration process could have a material adverse effect on the business and results of operations of the combined company.

The success of acquisitions depends, in part, on our ability to realize the anticipated benefits and cost savings from combining the businesses acquired with Orrstown. If we are unable to successfully execute on integration, the anticipated earnings and cost savings to be derived from acquisitions may not be realized fully or may take longer to realize than expected. In addition, as with regard to any acquisition, a significant change in interest rates or economic conditions or decline in asset valuations may also cause us not to realize expected benefits and result in the acquisitions not meeting expectations.

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The market price of our common stock after acquisitions may be affected by factors different from those affecting our shares currently.

The businesses of the Company and acquired entities may differ and, accordingly, the results of operations of the combined company and the market price of the shares of common stock of the combined company may be affected by factors different from those currently affecting the independent results of operations and market prices of common stock of each separate entity. The market value of our common stock fluctuates based upon various factors, including changes in our business, operations or prospects, market assessments of the merger, regulatory considerations, market and economic considerations, and other factors. Further, the market price of our common stock after an acquisition may be affected by factors different from those currently affecting our common stock.

Additionally, future business acquisitions may result in the issuance and payment of additional shares of stock, which would dilute current shareholders’ ownership interests, and may involve the payment of a premium over book and market values. Therefore, dilution of our tangible book value and net income per common share could occur in connection with any future transaction.

Risks Related to Regulatory Compliance and Legal Matters

Governmental regulation and regulatory actions against us may impair our operations or restrict our growth.

The Company is subject to regulation and supervision under federal and state laws and regulations. The requirements and limitations imposed by such laws and regulations limit the manner in which we conduct our business, undertake new investments and activities and obtain financing. These regulations are designed primarily for the promotion of the safety and soundness of financial institutions and the protection of the deposit insurance funds and consumers, and not to benefit our shareholders.

Applicable laws and regulations impose capital adequacy requirements and restrict our ability to repurchase stock or to receive dividends from our subsidiaries. Our ability to service our obligations and pay dividends to shareholders is largely dependent on the receipt of dividends from our subsidiaries, primarily the Bank. The Federal Reserve requires a BHC to act as a source of financial and managerial strength for its subsidiary banks. The Federal Reserve could require us to commit resources to the Bank when doing so is not otherwise in the interests of our shareholders or creditors.

We are subject to supervision and examination by numerous governmental bodies. The results of these supervisory or examination activities could result in limitations on our ability to engage in new activities or expand geographically. These activities also could result in significant fines, penalties, or required corrective actions, some of which could be expensive and difficult to implement. As we expand our product and service offerings into additional states, there could be an increase in state regulation affecting our operations. Different approaches to regulation by different jurisdictions could increase our compliance costs or risks of non-compliance.

Financial institution regulation has been the subject of significant legislation in recent years and may be the subject of further significant legislation in the future, none of which is within our control. Federal and state regulatory agencies also frequently adopt changes to their regulations or change the manner in which existing regulations are applied or enforced. The Company cannot predict the substance or impact of pending or future legislation, regulation or the application thereof.

Compliance with such current and potential regulation and scrutiny may significantly increase our costs, impede the efficiency of our internal business processes, require us to increase our regulatory capital and limit our ability to pursue business opportunities in an efficient manner. Bank regulations can hinder our ability to compete with financial services companies that are not regulated in the same manner or are subject to less regulation.

~~The Dodd-Frank Act may affect the Company’s financial condition, results of operations, liquidity~~ A failure to comply, or to have adequate policies and ~~stock price.~~

The Dodd-Frank Act includes provisions affecting large and small financial institutions, including several provisions that affect how community banks and bank holding companies will be regulated in the future. Among other things, these provisions relax rules regarding interstate branching; allow financial institutions to pay interest on business checking accounts; change the scope of federal deposit insurance coverage; and impose new capital requirements on bank holding companies. Many of the requirements called for in the Dodd-Frank Act will be implemented over time and will be subject to implementation regulations developed over the course of several years. Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies and through regulations, the full extent of the impact such requirements will have on our operations is not certain.

The Dodd-Frank Act created the CFPB which has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The CFPB has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. Banks and savings institutions with $10 billion or less in assets are examined by their applicable bank regulators.

~~The Company may be required to invest significant management attention and resources to evaluate and make any changes necessary~~procedures designed to comply, with ~~new statutory~~regulatory requirements and expectations could expose us to damages, fines and regulatory penalties and other regulatory or enforcement actions or consequences, such as limitations on activities otherwise permissible for us or additional requirements ~~under the Dodd-Frank Act. Failure to comply~~for engaging in new activities, and could also injure our reputation with ~~the new requirements may negatively impact our results of operations~~clients and financial condition. While the Company cannot predict what effect any presently contemplated or future changes in the laws or regulations or their interpretations would have on us, these changes could be materially adverse to our investors.others with whom we do business.

Increases in FDIC insurance premiums may have a material adverse effect on our results of operations.

Market developments significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits. As the fund continues to recover, the Company may be required to pay significantly higher premiums or additional special assessments or taxes that could adversely affect earnings.

We are generally unable to control the amount of premiums that are required to be paid for FDIC insurance. If there are ~~additional~~ bank or financial institution failures, the Company may be required to pay ~~even~~significantly higher ~~FDIC~~ premiums than the levels currently ~~imposed.~~imposed or additional special assessments or taxes that could adversely affect earnings. Any future increases or required prepayments in FDIC insurance premiums may materially adversely affect the results of operations.

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Legislative, regulatory and legal developments involving income and other taxes could materially adversely affect the Company’s results of operations and cash flows.

The Company is subject to U.S. federal and U.S. state income, payroll, property, sales and use, and other types of taxes including the Pennsylvania Bank Shares Tax. Significant judgment is required in determining the Company's provisions for income taxes. Changes in tax rates, enactments of new tax laws, revisions of tax regulations, and claims or litigation with taxing authorities could result in substantially higher taxes, and therefore, could have a significant adverse effect on the Company's results of operations, financial condition and liquidity. Increases in the assessment rate for the Pennsylvania Bank Shares Tax, which is calculated on the outstanding equity of the Bank, may also materially adversely affect results of operations. At December 31, 2016, the Company had a net deferred tax asset totaling $16.3 million. Any U.S. tax reform that lowers corporate tax rates could have a significant one-time, non-cash adverse effect on results of operations as the Company's net deferred tax asset would be impacted, resulting in an increase in tax expense. We are unable to predict if, or when, any changes or proposals could be enacted.

The Company is required to use judgment in applying accounting policies and different estimates and assumptions in the application of these policies could result in a decrease in capital and/or other material changes to the reports of financial condition and results of operations.

Material estimates that are particularly susceptible to significant change relate to the determination of the ~~allowance for loan losses, accounting for income taxes and the ability to recognize deferred tax assets, and~~ALL, the fair value of certain financial instruments, particularly ~~securities.~~securities, and goodwill and purchase accounting associated with acquisitions. While we have identified those accounting policies that we consider critical and have procedures in place to facilitate the associated judgments, different assumptions in the application of these policies could have a material adverse effect on our financial condition and results of operations.

Changes in our accounting policies or in accounting standards could ~~impact~~materially affect how we report our financial results and condition.

From time to time, the ~~Company's financial condition and results of operations.~~

~~The Financial Accounting Standards Board (the "FASB"), the~~FASB, SEC and other regulatory bodies ~~periodically~~ change the financial accounting and reporting standards that govern the preparation of ~~the Company’s~~our consolidated financial statements. These changes ~~including the use of an expected loss impairment methodology in the determination of the allowance for loan losses which will be effective for the Company beginning January 1, 2020,~~ can be ~~hard~~operationally complex to ~~predict~~implement and can materially impact how ~~the Company records~~we record and ~~reports its~~report our financial condition and results of operations.

For example, in June 2016, the FASB issued Accounting Standards Update 2016-13, Measurement of Credit Losses on Financial Instruments, that will, upon adoption, substantially change the accounting for credit losses on loans and other financial assets held by banks, financial institutions and other organizations. The update replaces existing incurred loss impairment guidance and establishes a single allowance framework for financial assets carried at amortized cost. Upon adoption of ASU 2016-13, companies must recognize credit losses on these assets equal to management’s estimate of credit losses over the full remaining expected life. Companies must consider all relevant information when estimating expected credit losses, including details about past events, current conditions, and reasonable and supportable forecasts.

The changes were effective for most publicly-held companies on January 1, 2020. However, in July 2019, the FASB approved permitting “smaller reporting companies”, such as Orrstown, up to an additional 3 years to adopt ASU 2016-13. We elected not to adopt ASU 2016-13 on January 1, 2020, and have not yet determined if we will adopt its provisions prior to the extended implementation date of January 1, 2023.

In ~~some cases,~~December 2018, the Federal Reserve, OCC and FDIC released a final rule to revise their regulatory capital rules, in part to address the upcoming change to the treatment of credit expense and allowances under ASC 2016-13. The final rule provides an optional three year phase-in period for the day-one adverse regulatory capital effects upon adopting the standard. The impact of this final rule on the Company ~~could be required~~will depend on whether we elect to ~~apply new or revised guidance retrospectively, which may result~~phase in the ~~revision~~impact of ~~prior financial statements by material amounts.~~ASU 2016-13 over a three year period. The ~~implementation~~standard is likely to have a negative impact, potentially materially, to the ALL and our capital position at adoption. When we adopt ASU 2016-13, we will also determine whether we will elect the phase-in provisions for regulatory capital. It is possible that our ongoing reported earnings and lending activity will be negatively impacted in periods following adoption of ~~new or revised guidance could result in material adverse effects to our reported regulatory capital.~~ASU 2016-13.

The short-term and long-term impact of ~~the~~ changing regulatory capital requirements and new capital rules is ~~uncertain.~~uncertain.

The Basel III Capital Rules ~~which became effective for~~have targeted higher levels of base capital, certain capital buffers, and a migration toward common equity as the Company and Bank on January 1, 2015, established a new comprehensive capital framework for U.S. banking organizations, including community banks. The Basel III Capital Rules substantially revised the risk-based capital requirements applicable to bank holding companies and depository institutions. The Basel III Capital Rules define the componentskey source of ~~capital and address other issues affecting the numerator in banking institutions’~~ regulatory capital, ~~ratios, address risk weights~~as domestic and ~~other issues affecting the denominator in banking institutions’~~international bank regulatory ~~capital ratios.~~

agencies have sought to require financial institutions, including depository institutions, to maintain generally higher levels of capital. The application of more stringent capital requirements to the Company and the Bank could, among other things, result in lower returns on invested capital, result in the need for additional capital, and result in regulatory actions if we were to be unable to comply with such ~~requirements.~~requirements, including limitations on our ability to make distributions, including paying out dividends or buying back shares. Furthermore, the imposition of liquidity requirements in connection with the implementation of Basel III could result in our having to lengthen the term of our funding, ~~restructuring~~restructure our business models, and/or ~~increasing~~increase our holdings of liquid assets. ~~Implementation~~

Table of ~~changes~~Contents

Noncompliance with the Bank Secrecy Act and other anti-money laundering statutes and regulations could cause us material financial loss.

The Bank Secrecy Act and the PATRIOT Act contain anti-money laundering and financial transparency provisions intended to ~~asset risk weightings~~detect and prevent the use of the U.S. financial system for ~~risk-based capital calculations, items included~~money laundering and terrorist financing activities. The Bank Secrecy Act, as amended by the PATRIOT Act, requires depository institutions and their holding companies to undertake activities including maintaining an anti-money laundering program, verifying the identity of clients, monitoring for and reporting suspicious transactions, reporting on cash transactions exceeding specified thresholds, and responding to requests for information by regulatory authorities and law enforcement agencies. FinCEN, a unit of the Treasury Department that administers the Bank Secrecy Act, is authorized to impose significant civil money penalties for violations of those requirements and has recently engaged in coordinated enforcement efforts with the federal bank regulatory agencies, as well as the U.S. Department of Justice, Drug Enforcement Administration, and IRS.

There is also increased scrutiny of compliance with the rules enforced by the Office of Foreign Assets Control. If our policies, procedures, and systems are deemed deficient or ~~deducted~~the policies, procedures, and systems of the financial institutions that we have already acquired or may acquire in ~~calculating~~the future are deficient, we would be subject to liability, including fines and regulatory ~~capital and/or additional capital conservation buffers could result in management modifying its business strategy and could limit~~actions such as restrictions on our ability to ~~make distributions,~~pay dividends and the necessity to obtain regulatory approvals to proceed with certain planned business activities, including ~~paying out dividends or buying back shares.~~acquisition plans, which would negatively impact our business, financial condition, and results of operations. Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational consequences for us.

Pending litigation and legal proceedings and the impact of any finding of liability or damages could adversely impact the Company and its financial condition and results of operations.

As more fully described in Note ~~19,~~22, Contingencies, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statement and Supplementary Data," of this Annual Report on Form 10-K, the allegations of Southeastern Pennsylvania Transportation Authority's ("SEPTA") proposed second amended complaint disclosed the existence of a confidential, non-public, fact-finding inquiry regarding the Company being conducted by the SEC. On September 27, 2016, the Company entered into a settlement agreement with the SEC resolving the investigation of accounting and related matters at the Company for the periods ended June 30, 2010 to December 31, 2011. As part of the settlement agreement, the Company agreed to pay a civil money penalty of $1 million. In the most recent actions on the case, on January 31, 2017, the Court entered a Case Management Order establishing the schedule for the litigation. The Case Management Order, among other things, sets the deadlines for the completion of discovery, the filing of motions and various pre-trial conferences. The trial is scheduled for the month of October 2018.

~~The~~ Company believes that the allegations of ~~SEPTA's second~~the Southeastern Pennsylvania Transportation Authority's third amended complaint are without merit and it intends to vigorously defend itself against those claims. It is not possible at this time to estimate reasonably possible losses, ~~if any,~~or even a range of reasonably possible losses, in connection with the litigation. ~~However, there~~There can be no assurances, however, that the Company will not incur any losses associated with this litigation or that any losses that are incurred will not be material.

Indemnification costs associated with litigation and legal proceedings could adversely impact the Company and its financial condition and results of operations.

We are generally required, to the extent permitted by Pennsylvania law, to indemnify our current and former directors and officers who are named as defendants in lawsuits. We also have certain contractual indemnification obligations to third parties regarding litigation. Generally, insurance coverage is not available for such indemnification costs we could incur to third parties. Current or future litigation could result in indemnification expenses that could have a materially adverse impact on our financial condition and results of operations.

Risks Related to Liquidity

The Parent Company is a holding company dependent for liquidity on payments from its bank subsidiary, which is subject to restrictions.

The Parent Company is a holding company and depends on dividends, distributions and other payments from the Bank to fund dividend payments and stock repurchases, if permitted, and to fund all payments on obligations. The Bank is subject to laws that restrict dividend payments or authorize regulatory bodies to ~~block~~prohibit or reduce the flow of funds from it to us. In addition, our right to participate in a distribution of assets upon the Bank’s liquidation or reorganization is subject to the prior claims of the Bank’s ~~creditors.~~creditors, including its depositors.

The soundness of other financial institutions could adversely affect the Company.

Our ability to engage in routine funding and other transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services institutions are interrelated as a result of trading, clearing, counterparty or other relationships. As a result, defaults by, or even rumors or questions about, one or more financial services institutions, or the financial services industry generally, have historically led to market-wide liquidity problems, losses of depositor, creditor and counterparty confidence and could lead to losses or defaults by us or by other institutions. We could experience increases in deposits and assets as a result of other banks’ difficulties or failure, which would increase the capital we ~~need~~are required to maintain to support such growth.

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Risks Related to Owning our Stock

If the Company wants, ~~to,~~ or is compelled, to raise additional capital in the future, that capital may not be available when it is needed ~~and~~or on terms favorable to current shareholders.

Federal banking regulators require us and our banking subsidiary to maintain adequate levels of capital to support our operations. These capital levels are determined and dictated by law, regulation and banking regulatory agencies. In addition, capital levels are also determined by our management and board of directors based on capital levels that they believe are necessary to support our business operations. At December 31, ~~2016,~~2019, all four capital ratios for us and our banking subsidiary were above regulatory minimum levels to be deemed “well capitalized” under current bank regulatory guidelines. To be “well capitalized,” ~~banking companies~~banks generally must maintain a tier 1 leverage ratio of at least 5.0%, CET1 capital ratio of 6.5%, Tier 1 risk-based capital ratio of at least 8.0%, and a total risk-based capital ratio of at least 10.0%. The implementation of the capital conservation buffer began on January 1, 2016 at the 0.625% level and will be phased in over a four-year period (increasing by that amount on each subsequent January 1, until it reaches 2.5% on January 1, 2019).

The Company’s ability to raise additional capital will depend on conditions in the capital markets at that time, which are outside of our control, and on our financial performance. Accordingly, we cannot provide assurance of our ability to raise additional capital on terms and time frames acceptable to us or to raise additional capital at all. Additionally, the inability to raise capital in sufficient amounts may adversely affect our operations, financial condition and results of operations. Our ability to borrow could also be impaired by factors that are nonspecific to us, such as severe disruption of the financial markets or negative news and expectations about the prospects for the financial services industry as a whole. If we raise capital through the issuance of additional shares of our common stock or other securities, we would likely dilute the ownership interests of current investors by diluting earnings per share of our common stock and potentially dilute book value per share, depending on the issuance price. The price at which we issue additional shares of stock could be less than the current market price ~~of our common~~

~~stock and, thus, could dilute the per share book value and earnings per share~~ of our common stock. Furthermore, a capital raise through the issuance of additional shares may have an adverse impact on our stock price.

The market price of our common stock ~~has been~~is subject to volatility.

The market price of the Company’s common stock has been subject to fluctuations in response to numerous factors, many of which are beyond our control. These factors include actual or anticipated variations in our operational results and cash flows, changes in financial estimates by securities analysts, trading volume, large purchases or sales of our common stock, market conditions within the banking industry, the general state of the securities markets and the market for stocks of financial institutions, as well as general economic conditions.

A reduction in our credit rating could adversely affect our access to capital and could increase our cost of funds.

A credit rating agency regularly evaluates Orrstown and the Bank, and credit ratings are based on a number of factors, including our financial strength and ability to generate earnings, as well as factors not entirely within our control, including conditions affecting the financial services industry, the economy, and changes in rating methodologies. There can be no assurance that we will maintain our current credit ratings. A downgrade of the credit ratings of Orrstown or the Bank could adversely affect our access to liquidity and capital, and could significantly increase our cost of funds, trigger additional collateral or funding requirements, and decrease the number of investors and counterparties willing to lend to us or purchase our securities. This could affect our growth, profitability, and financial condition, including liquidity.

The Parent Company's primary source of income is dividends received from its bank subsidiary.

The Parent Company is a separate legal entity from the Bank and must provide for its own liquidity. In addition to its operating expenses, the Company is responsible for paying any dividends declared to its shareholders. The Company also has repurchased shares of its common stock. The Company’s primary source of income is dividends received from the Bank. Banking regulations limit the amount of dividends that may be paid from the Bank to the Company without prior approval of regulatory agencies. Restrictions on the Bank’s ability to dividend funds to the Company are included in Note ~~14, Restrictions on Dividends, Loans~~16, Shareholders' Equity and ~~Advances,~~Regulatory Capital, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data."

ITEM 1B – UNRESOLVED STAFF COMMENTS

None.

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ITEM 2 – PROPERTIES

Our principal executive offices are located at 77 East King Street, Shippensburg, Pennsylvania, with additional executive and administrative offices at 4750 Lindle Road, Harrisburg, Pennsylvania. These facilities are owned by the Bank, which also maintains its principal and additional executive and administrative offices at those locations.

We own or lease other premises for use in conducting our business activities, including bank branches, an operations center, and offices in Berks, Cumberland, Dauphin, Franklin, Lancaster, Perry, and ~~Perry~~York Counties, Pennsylvania and Anne Arundel, Baltimore, Howard, and Washington ~~County,~~Counties, Maryland, as well as Baltimore City, Maryland. We believe that the properties currently owned and leased are adequate for present levels of operation. We are constantly evaluating the best and most efficient mix of branch locations to service our ~~customers~~clients due to evolving trends in our industry and increased engagement through digital channels.

In October 2019, we announced the consolidation of five Pennsylvania branches in Franklin and Perry Counties, that average less than $20.0 million in deposits per location, into other, larger Orrstown Bank branches, as well as the sale of an operations center facility. We expect that these efforts will improve the profitability of the remaining branch locations and eliminate close to 50,000 square feet of excess back office space. The branch consolidations were completed in January 2020, and the sale of the operations center facility is anticipated to be completed in the second quarter of 2020.

ITEM 3 – LEGAL PROCEEDINGS

Information regarding legal proceedings is included in Note ~~19,~~22, Contingencies, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statement and Supplementary Data."

On March 5, 2019, Paul Parshall, a purported individual stockholder of Hamilton, filed, on behalf of himself and all of Hamilton’s stockholders other than the named defendants and their affiliates (the “Purported Class”), a derivative and putative class action complaint in the Circuit Court for Baltimore City, Maryland, captioned Paul Parshall v. Carol Coughlin et. al., naming each Hamilton director, Orrstown, and Hamilton as defendants (the “Action”). The Action alleges, among other things, that Hamilton’s directors breached their fiduciary duties to the Purported Class in connection with the merger, and that the Proxy Statement/Prospectus omitted certain material information regarding the merger. Orrstown is alleged to have aided and abetted the Hamilton directors’ alleged breaches of their fiduciary duties. The Action seeks, among other remedies, to enjoin the merger or, in the event the merger is completed, rescission of the merger or rescissory damages; unspecified damages; and costs of the lawsuit, including attorneys’ and experts’ fees. Orrstown believes that the lawsuit is without merit as there are substantial legal and factual defenses to the claims asserted and intends to vigorously defend the lawsuit. It is not possible at this time to estimate reasonably possible losses, or even a range of reasonably possible losses, in connection with the litigation.

ITEM 4 – MINE SAFETY DISCLOSURES

Not applicable.

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PART II

ITEM 5 – MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market Information

Our common stock ~~began trading~~is traded on the NASDAQ Capital Market under the symbol ~~“ORRF” on April 28, 2009, and continues to be listed there.~~“ORRF.” At the close of business on February 28, ~~2017,~~2020, there were ~~approximately 2,800~~2,984 shareholders of record.

The ~~following table sets forth, for the fiscal periods indicated, the high~~Board declared cash dividends of $0.60 and ~~low sales prices of our~~$0.51 per common ~~stock for the two most recent fiscal years. Trading prices are based on published financial sources.~~

2016 2015
Market Price
Quarterly
Dividend
Market Price
Quarterly
Dividend
High Low High Low

First quarter $ 18.11
$ 16.60
$ 0.08
$ 17.50
$ 16.31
$ 0.00
Second quarter 19.95
17.05
0.09
18.00
16.02
0.07
Third quarter 23.73
17.59
0.09
18.00
15.10
0.07
Fourth quarter 23.75
18.05
0.09
18.45
16.24
0.08
$ 0.35
$ 0.22

~~Dividends were discontinued from October 2011 through April 2015 while the Company was subject~~share in 2019 and 2018, respectively. Our management is currently committed to an order of the Federal Reserve. On April 21, 2015, the Company resumed its declaration of a quarterly dividend. Since then, the Board normally reviews the dividend and the dividend rate on a quarterly basis. There iscontinuing to pay regular cash dividends; however, there can be no assurance as to future dividends because they ~~depend~~are dependent on our future earnings, capital requirements and financial ~~conditions and other factors deemed relevant by the Board of Directors.~~condition. Restrictions on the payment of dividends are discussed in Note ~~14, Restrictions on Dividends, Loans~~16, Shareholders' Equity and ~~Advances,~~Regulatory Capital, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data." On January ~~25, 2017,~~21, 2020, the Board declared a cash dividend of ~~$0.10~~$0.17 per common share, which was paid on February ~~17, 2017.~~10, 2020, to shareholders of record as of February 3, 2020.

Securities Authorized for Issuance under Equity Compensation Plans

Information regarding the Company's equity compensation plans is included in Part III, Item 12, Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

Issuer Purchases of Equity Securities

In September 2015, the Board of Directors of the Company authorized a share repurchase program under which the Company may repurchase up to 5% of the Company's outstanding shares of common stock, or approximately 416,000 shares, in accordance with all applicable securities laws and regulations, including Rule 10b-18 of the Securities Exchange Act of 1934, as amended. When and if appropriate, repurchases may be made in open market or privately negotiated transactions, depending on market conditions, regulatory requirements and other corporate considerations, as determined by management. Share repurchases may not occur and the share repurchase program may be discontinued at any time.

No shares were repurchased from October 1, ~~2016~~2019 to December 31, ~~2016. At~~2019. As of December 31, ~~2016,~~2019, 82,725 shares had been repurchased under the program at a total cost of ~~$1,438,000,~~$1.4 million, or $17.38 per ~~share. The~~share and the maximum number of shares that may yet be purchased under the plan is 333,275 ~~shares at December 31, 2016.~~shares.

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PERFORMANCE GRAPH

The ~~following~~performance graph ~~shows a five-year comparison of~~below compares the cumulative total shareholder return on ~~the Company’s~~our common stock ~~as compared~~ with other indexes: the SNL index of banks with assets between $1$1.0 billion and $5$5.0 billion, the S&P 500 Index, and the NASDAQ Composite index. The graph assumes an investment of $100 on December 31, 2014 and reinvestment of dividends on the date of payment without commissions. Shareholder returns on ~~the Company’s~~our common stock are based ~~upon~~on trades on the NASDAQ Stock Market. The ~~shareholder returns shown in the~~performance graph ~~are~~represents past performance and should not ~~necessarily indicative~~be considered to be an indication of future performance.

Period Ending
Index 12/31/11 12/31/12 12/31/13 12/31/14 12/31/15 12/31/16
Orrstown Financial Services, Inc. 100.00
116.85
198.18
206.06
219.00
280.21
SNL Bank $1B-$5B 100.00
123.31
179.31
187.48
209.86
301.92
S&P 500 100.00
116.00
153.57
174.60
177.01
198.18
NASDAQ Composite 100.00
117.45
164.57
188.84
201.98
219.89


	Period Ending
Index	12/31/14	12/31/15	12/31/16	12/31/17	12/31/18	12/31/19
Orrstown Financial Services, Inc.	100.00	106.28	135.98	156.03	114.89	146.90
SNL Bank $1B-$5B Index	100.00	111.94	161.04	171.69	150.42	182.85
S&P 500 Index	100.00	101.38	113.51	138.29	132.23	173.86
NASDAQ Composite Index	100.00	106.96	116.45	150.96	146.67	200.49

Source : ~~SNL Financial, an offering of~~ S&P Global Market Intelligence © ~~2017~~2020

In accordance with the rules of the SEC, this section captioned “Performance Graph” shall not be incorporated by reference into any of our future filings made under the Exchange Act or the Securities ~~Act of 1933, as amended (the “Securities Act”).~~Act. The Performance Graph and its accompanying table are not deemed to be soliciting material or to be filed under the Exchange Act or the Securities Act.

Recent Sales of Unregistered Securities

The Company has not sold any equity securities within the past three years which were not registered under the Securities Act.

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ITEM 6 – SELECTED FINANCIAL DATA


	At or For The Year Ended December 31,
	2019			2018			2017			2016			2015
Summary of Operations
Interest income	$	92,994		$	65,667		$	51,453		$	42,276		$	39,013
Interest expense	23,699			13,511			7,644			5,417			4,301
Net interest income	69,295			52,156			43,809			36,859			34,712
Provision for loan losses	900			800			1,000			250			(603)
Net interest income after provision for loan losses	68,395			51,356			42,809			36,609			35,315
Investment securities gains	4,749			1,006			1,190			1,420			1,924
Noninterest income	23,792			20,018			18,759			18,005			16,876

Noninterest expenses	77,302			57,935			50,330			48,140			44,607
Income before income tax expense	19,634			14,445			12,428			7,894			9,508
Income tax expense	2,710			1,640			4,338			1,266			1,634
Net income	$	16,924		$	12,805		$	8,090		$	6,628		$	7,874
Per Share Information
Basic earning per share	$	1.63		$	1.53		$	1.00		$	0.82		$	0.97
Diluted earnings per share	1.61			1.50			0.98			0.81			0.97

Dividends paid per share	0.60			0.51			0.42			0.35			0.22
Book value per share	19.93			18.39			17.34			16.28			16.08

Weighted average shares outstanding – basic	10,362			8,360			8,070			8,059			8,106
Weighted average shares outstanding – diluted	10,514			8,537			8,226			8,145			8,142
Stock Price Statistics
Close	$	22.62		$	18.21		$	25.25		$	22.40		$	17.84
High	23.48			27.05			26.95			23.75			18.45
Low	17.30			18.10			19.05			16.60			15.10
Price earnings ratio at close	13.9			11.9			25.3			27.3			18.4
Diluted price earnings ratio at close	14.0			12.1			25.8			27.7			18.4
Price to book at close	1.1			1.0			1.5			1.4			1.1

Year-End Information
Total assets	$	2,383,274		$	1,934,388		$	1,558,849		$	1,414,504		$	1,292,816
Loans	1,644,330			1,247,657			1,010,012			883,391			781,713
Total investment securities	506,570			476,686			425,305			408,124			402,844
Deposits – noninterest-bearing	249,450			204,843			162,343			150,747			131,390
Deposits – interest-bearing	1,626,072			1,353,913			1,057,172			1,001,705			900,777
Total deposits	1,875,522			1,558,756			1,219,515			1,152,452			1,032,167
Repurchase agreements	8,269			9,069			43,576			35,864			29,156
Borrowed money	241,514			170,309			133,815			76,163			84,495
Total shareholders’ equity	223,249			173,433			144,765			134,859			133,061
Assets under management – market value	1,613,223			1,330,595			1,370,950			1,174,143			966,362
Financial Ratios
Average equity / average assets	9.26		%	8.75		%	9.49		%	10.41		%	10.66		%
Return on average equity	8.21		%	8.56		%	5.73		%	4.80		%	5.99		%

Return on average assets	0.76		%	0.75		%	0.54		%	0.50		%	0.64		%

Year Ended December 31,
(Dollars in thousands except per share data) 2016 2015 2014 2013 2012
Summary of Operations
Interest and dividend income $ 41,962
$ 38,635
$ 38,183
$ 37,098
$ 45,436
Interest expense 5,417
4,301
4,159
5,011
7,548
Net interest income 36,545
34,334
34,024
32,087
37,888
Provision for loan losses 250
(603 ) (3,900 ) (3,150 ) 48,300
Net interest income after provision for loan losses 36,295
34,937
37,924
35,237
(10,412 )
Investment securities gains 1,420
1,924
1,935
332
4,824
Noninterest income 18,319
17,254
16,919
17,476
18,438
Noninterest expenses 48,140
44,607
43,768
43,247
43,349
Income (loss) before income tax expense (benefit) 7,894
9,508
13,010
9,798
(30,499 )
Income tax expense (benefit) 1,266
1,634
(16,132 ) (206 ) 7,955
Net income (loss) $ 6,628
$ 7,874
$ 29,142
$ 10,004
$ (38,454 )
Per Share Information
Basic earning per share $ 0.82
$ 0.97
$ 3.59
$ 1.24
$ (4.77 )
Diluted earnings per share 0.81
0.97
3.59
1.24
(4.77 )
Dividends per share 0.35
0.22
0.00
0.00
0.00
Book value at December 31 16.28
16.08
15.40
11.28
10.85
Weighted average shares outstanding – basic 8,059,412
8,106,438
8,110,344
8,093,306
8,066,148
Weighted average shares outstanding – diluted 8,145,456
8,141,600
8,116,054
8,093,306
8,066,148
Stock Price Statistics
Close $ 22.40
$ 17.84
$ 17.00
$ 16.35
$ 9.64
High 23.75
18.45
17.50
18.00
11.29
Low 16.60
15.10
15.33
9.49
7.45
Price earnings ratio at close 27.3
18.4
4.7
13.2
(2.0 )
Diluted price earnings ratio at close 27.7
18.4
4.7
13.2
(2.0 )
Price to book at close 1.4
1.1
1.1
1.4
0.9
Year-End Data
Total assets $ 1,414,504
$ 1,292,816
$ 1,190,443
$ 1,177,812
$ 1,232,668
Loans 883,391
781,713
704,946
671,037
703,739
Total investment securities 408,124
402,844
384,549
416,864
311,774
Deposits – noninterest-bearing 150,747
131,390
116,302
116,371
121,090
Deposits – interest-bearing 1,001,705
900,777
833,402
884,019
963,949
Total deposits 1,152,452
1,032,167
949,704
1,000,390
1,085,039
Repurchase agreements 35,864
29,156
21,742
9,032
9,650
Borrowed money 76,163
84,495
79,812
66,077
37,470
Total shareholders’ equity 134,859
133,061
127,265
91,439
87,694
Assets under management – market value 1,174,143
966,362
1,017,013
1,085,216
992,378
Financial Ratios
Average equity / average assets 10.41 % 10.66 % 8.63 % 7.45 % 8.07 %
Return on average equity 4.80 % 5.99 % 28.78 % 11.30 % (35.22 )%
Return on average assets 0.50 % 0.64 % 2.48 % 0.84 % (2.84 )%

Table of Contents

ITEM 7 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis is intended to assist readers in understanding the consolidated financial condition and results of operations of Orrstown and should be read in conjunction with our Consolidated Financial Statements and notes thereto included in this Annual Report on Form 10-K. Certain prior period amounts presented in this discussion and analysis have been reclassified to conform to current period classifications.

Overview

The results of our operations are highly dependent on economic conditions and market interest rates. To stimulate economic activity and stabilize the financial markets, the FRB has maintained historically low market interest rates since 2009. Market conditions have improved during this period as the unemployment rate declined, and consumer confidence, GDP and average home prices have all risen. While economic conditions have improved domestically, under-employment and wage growth remain a worry amidst the backdrop of low inflation in the United States and abroad. Recent upticks in labor force participation alongside wage growth are being closely monitored by the markets for signs of sustained or expected inflation. The FRB announced a quarter point increase to short-term rates in December 2015 followed by another quarter point increase in December 2016. The resulting strength of the dollar coupled with falling oil prices has led to the continued speculation as to how likely and quickly that the FRB may further raise short-term interest rates.

~~The Company's~~Our profitability for the years ended December 31, ~~2016, 2015~~2019, 2018 and ~~2014~~2017 was ~~also~~ influenced by ~~its~~our continued organic growth and ongoing expansion into targeted markets, ~~maintained improvement in~~the acquisitions of Mercersburg and Hamilton, and a continued focus on maintaining strong asset ~~quality from prior years and, for 2014, the reversal of a deferred tax asset valuation allowance resulting in an income tax benefit of $16,204,000 recorded for that year.~~quality. These and other matters are discussed more fully below.

Critical Accounting ~~Policies~~Estimates

The Company's consolidated financial statements are prepared in accordance with ~~accounting principles generally accepted in the United States of America ("GAAP")~~GAAP, and follow general practices within the financial services industry. Application of these principles involves complex judgments and estimates by management that have a material impact on the carrying value of certain assets and liabilities. The judgments and estimates that we used are based on historical experiences and other factors, which are believed to be reasonable under the circumstances. Because of the nature of the judgments and estimates that we have made, actual results could differ from these judgments and estimates, which could have a material impact on the carrying values of assets and liabilities and the results of our operations.

The most significant accounting policies followed by the Company are presented in Note 1, Summary of Significant Accounting Policies, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data." ~~These~~In applying those accounting policies, ~~along with~~ the ~~disclosures presented~~Company's management is required to exercise judgment in determining many of the other consolidated financial statement notes, 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,methodologies, assumptions and estimates ~~underlying those amounts, the Company has identified the adequacy~~to be utilized. Certain of the ~~allowance for loan losses and accounting for income taxes as~~ critical accounting ~~policies.~~estimates are more dependent on such judgment and, in some cases, may contribute to volatility in our reported financial performance should the assumptions and estimates used change over time due to changes in circumstances. Some of the more significant areas in which the Company's management applies critical assumptions and estimates include the following.

Accounting for credit losses — The loan portfolio is the largest asset on the Company's consolidated balance sheets. The allowance for loan losses represents the amount that, in management’s ~~estimate of probable incurred~~judgment, appropriately reflects credit losses inherent in the loan portfolio at the balance sheet date. ~~Determining~~A provision for credit losses is recorded to adjust the ~~amount~~level of the ~~allowance for~~ALL as deemed necessary by management. In estimating losses inherent in the loan portfolio, assumptions and ~~lease losses is considered a complex accounting estimate because it requires significant~~ judgment ~~and the use of estimates related~~are applied to ~~the amount~~measure amounts and timing of expected future cash flows, ~~on impaired loans, estimated losses on pools of homogeneous loans based on historical~~collateral values and other factors used to determine the borrowers’ abilities to repay obligations. Historical loss ~~experience, and consideration of current~~trends are also considered, as are economic conditions, industry trends, portfolio trends and ~~conditions, all~~borrower-specific financial data. Loans acquired at a discount, that is, in part, attributable to credit quality, are initially recorded at fair value with no carry-over of ~~which may be susceptible~~an acquired entity’s previously established ALL. Cash flows expected at acquisition, in excess of estimated fair value, are recognized as interest income over the remaining lives of the loans. Subsequent decreases in the expected principal cash flows require the Company to ~~significant change. The loan portfolio~~evaluate the need for additions to the ALL. Subsequent improvements in expected cash flows result, first, in the recovery of any applicable ALL and, then, in the recognition of additional interest income over the remaining lives of the loans. Changes in the circumstances considered when determining management’s estimates and assumptions, could result in changes to those estimates and assumptions, and also ~~represents~~in adjustment of the ~~largest asset on~~ALL, or, in the ~~consolidated balance sheets.~~case of loans acquired at a discount, increases in interest income in future periods.

~~The Company recognizes deferred tax~~

Valuation methodologies — Management applies various valuation methodologies to assets and liabilities which often involve a significant degree of judgment, particularly when liquid markets do not exist for the ~~future~~particular items being valued. Quoted market prices are referred to when estimating fair values for certain assets, such as most investment securities. However, for those items for which an observable liquid market does not exist, management utilizes significant estimates and assumptions to value such items. Examples of these items include loans, deposits, borrowings, goodwill, core deposit and other intangible assets, other assets and liabilities obtained or assumed in business combinations, and capitalized servicing assets. These valuations require the use of various assumptions, including, among others, discount rates, rates of return on assets, repayment rates, cash flows, default rates, costs of servicing and liquidation values. The use of different assumptions could produce significantly different results, which could have material positive or negative effects on our results of operations, financial condition or disclosures of fair value information. In addition to valuation, we must assess whether there are any declines in value below the carrying value of assets that should be considered other than temporary ~~differences~~or otherwise require an adjustment in carrying value and ~~tax credits. Enacted tax rates are applied to cumulative temporary differences based on expected taxable income~~recognition of a loss in the ~~periods in which the deferred tax asset or liability is anticipated to be realized. Future tax rate changes could occur that would require the recognition~~consolidated statements of ~~income or expense in the statement of income in the period in which they are enacted. The Company records deferred tax~~income. Examples include investment securities, loan servicing rights, goodwill and core deposit and other intangible assets, to the extent the Company believes these assets will more likely than not be realized, utilizing a valuation allowance if all or a portion of the deferred tax assets is not so considered to be realized. In making this determination, the Company considers all available evidence, including future reversals of existing deferred tax liabilities, projected future taxable income, feasible and prudent tax planning strategies and recent financial operating results. In the event the Company was to determine that it would be able to realize deferred tax assets in the future in excess of their net recorded amount, an adjustment to the valuation allowance would be made that would impact income tax expense. Management may need to modify its judgment in this regard,among others.

from one period to another, should a material change occur in the business environment, tax legislation, or in any other business factor that could impair the Company’s ability to benefit from the asset in the future.

Readers of ~~the~~our consolidated financial statements should be aware that the estimates and assumptions used in ~~the Company’s~~our current financial statements may need to be updated in future financial presentations for changes in circumstances, business or economic conditions, in order to fairly represent the condition of the Company at that time.

Table of Contents

Economic Climate, Inflation and Interest Rates

Preliminary annual real GDP growth for 2019 was 2.3%. The pace of U.S. ~~economy continues its modest expansion following one~~economic growth weakened somewhat in 2019 versus 2018 and inflation pressures declined. In response, the Federal Reserve reduced the Fed Funds rate three times in 2019 to the rate of ~~its longest~~1.75%. Early in 2020, a novel coronavirus emerged and ~~most severe economic recessions~~spread, first in ~~history.~~China and more recently, around the globe. The ~~modest strength~~fast spread of the ~~expansion has resulted in strong competition for quality lending opportunities, which together with a relatively flat yield curve, has pressured net interest margin~~virus and the ~~ability~~fear that has occurred has created a high level of uncertainty about the near and intermediate future economic outlook. Because of this uncertainty, markets are pricing in a wide range of potential outcomes by buying sovereign government bonds, especially U.S. Treasuries, and selling stocks. In reaction to ~~leverage our overhead expenses.~~the increase in uncertainty, the Federal Reserve took the step of cutting the Fed Funds rates by 50 basis points between regularly scheduled meetings. Despite this action by the Federal Reserve, the outlook remains uncertain at this time.

The majority of the assets and liabilities of a financial institution are monetary in nature, and therefore, differ greatly from most commercial and industrial companies that have significant investments in fixed assets or inventories. However, inflation does have an impact on the growth of total assets and on noninterest expenses, which tend to rise during periods of general inflation. Inflationary pressures ~~over the last three years have been~~remain modest and ~~the outlook for~~there is great uncertainty about when, or if, inflation ~~remains so for the foreseeable future.~~will increase and pressure interest rates to move higher.

As the Company’s balance sheet consists primarily of financial instruments, interest income and interest expense isare greatly influenced by the level of interest rates and the slope of the ~~interest rate~~yield curve. During the three years presented in this financial statement review, interest rates have remained near all-time lows. In December 2015, the FRB raised short term interest rates by 25 basis points, the first increase in rates in ten years, followed by an additional 25 basis point increase in December 2016. Because of this low level of interest rates, we have notThe Company has been able to ~~lower the rate we pay~~grow its net interest income by $17.1 million from 2018 to 2019, through a combination of organic growth and merger acquisitions. Competition for ~~interest-bearing non-maturity~~quality lending opportunities and deposits remains intense, which, together with a flattening yield curve, will continue to ~~the same extent that has been experienced in the rates we have been able~~challenge our ability to ~~earn on our interest-earning assets. As a result,~~grow our net interest margin ~~was flat in 2016.~~and to leverage our overhead expenses.

Management believes that the Company is positioned to withstand challenging economic conditions that may arise because of the steps it has taken to improve its capital, liquidity position, and asset quality.

Results of Operations

Summary

~~For~~Earnings in 2019 reflected continuing increased interest income from expanding loan and investment portfolios, partially offset by the ~~years ended December 31, 2016, 2015~~impact of decreasing interest rates and ~~2014,~~an overall increase in interest expense. In addition, the comparability of operating results for 2019 with 2018 has been impacted by the Mercersburg and Hamilton acquisitions, which were completed on October 1, 2018 and May 1, 2019, respectively. Mercersburg added loans and deposits totaling $141.1 million and $160.4 million, respectively, and Hamilton added loans and deposits totaling $347.4 million and $388.2 million, respectively.

The Company recorded net income of ~~$6,628,000, $7,874,000~~$16.9 million, $12.8 million and ~~$29,142,000.~~$8.1 million for 2019, 2018 and 2017, respectively. Diluted earnings per share ~~were $0.81, $0.97~~totaled $1.61, $1.50 and ~~$3.59~~$0.98 for ~~the years 2016, 2015~~2019, 2018 and ~~2014.~~2017.

~~Each year had events~~Net interest income totaled $69.3 million, $52.2 million and ~~circumstances that affect the comparability~~$43.8 million for 2019, 2018 and 2017, respectively, principally reflecting our expanded geographic footprint, as well as organic growth in loans from an expanded sales force as we continued to take advantage of ~~results, including the impact that asset~~market opportunities. As previously noted, interest rates increased throughout 2017 and 2018 and decreased throughout 2019, contributing to fluctuations in yields on loans and investments, and, to a lesser extent, costs of interest-bearing liabilities.

Asset quality ~~had on the results~~trends continue to exhibit low levels of ~~our operations. In 2014, continuing improvements were noted in asset quality due to success in remediation~~charge-offs and ~~workout efforts. It was determined that no~~non-performing loans. The provision for loan losses ~~was needed for 2014 or 2015,~~totaled $900 thousand, $800 thousand and ~~that a recovery of amounts previously provided for or charged-off would be recognized. This resulted~~$1.0 million in ~~a negative provision of $603,000~~2019, 2018 and $3,900,000 for 2015 and 2014. In contrast, a $250,000 provision for loan losses was recorded for 2016, reflecting management's ongoing analysis of an adequate allowance for loan losses and continued growth in the loan portfolio.2017, respectively.

Noninterest expenses totaled ~~$48,140,000, $44,607,000~~$77.3 million, $57.9 million and ~~$43,768,000~~$50.3 million for ~~the years 2016, 2015~~2019, 2018 and ~~2014.~~2017, respectively. The changes in certain components of noninterest expenses between years reflect the ~~three periods are reflective of the Company's~~Mercersburg and Hamilton acquisitions, and our continued focus on investing in additional talent and ~~technology~~locations to better serve the needs of our ~~customers~~clients, particularly in Lancaster and ~~efforts to develop new relationships by taking advantage of market opportunities created by consolidation of other banks.~~Dauphin Counties, Pennsylvania, and in Maryland. Salaries and employee benefits expense increased $2.4 million from ~~$23,658,000 for 2014~~2017 to ~~$24,056,000~~2018 and ~~$26,370,000 for 2015~~$7.0 million from 2018 to 2019. Occupancy and ~~2016. Data processing~~furniture and fixture costs increased $923 thousand from ~~$1,866,000~~2017 to 2018 and $1.9 million from 2018 to 2019 as new and acquired branch locations were brought on line. In 2019, we incurred $9.0 million in pretax merger related and branch consolidation expenses, with $3.2 million incurred in 2018 for ~~2014 to $2,026,000 and $2,378,000~~pretax expense for ~~2015 and 2016. And advertising and bank promotion expense increased from $1,195,000 for 2014 to $1,564,000 and $1,717,000 for 2015 and 2016.~~merger related activity.

~~For the years ended December 31, 2016 and 2015 net income included income~~Income tax expense ~~of $1,266,000~~totaled $2.7 million, $1.6 million and ~~$1,634,000,~~$4.3 million for 2019, 2018 and 2017, or an effective tax rate of ~~16.0%~~13.8%, 11.4% and ~~17.2%, whereas~~34.9% respectively. In 2017, we remeasured our net deferred tax asset due to the enactment of the Tax Act in December 2017. The Tax Act lowered our statutory tax rate from 34% to 21% effective January 1, 2018. Remeasurement of our net deferred tax asset at the lower rate resulted in an expense of $2.6 million, which is included in income tax ~~benefit~~expense for the year ended December 31, ~~2014 totaled $16,132,000 due to the reversal~~2017.

Table of ~~the valuation allowance on deferred tax assets in that year.~~Contents

Net Interest Income

Net interest income ~~which is the difference between interest income and fees on interest-earning assets and interest expense on interest-bearing liabilities,~~ is the primary component of ~~the Company's~~Orrstown's revenue. Interest-earning assets include loans, securities and federal funds sold. Interest-bearing liabilities include deposits and borrowed funds. ~~To compare the tax-~~

exempt yields to taxable yields, amounts are adjusted to pretax equivalents based on a 34% federal corporate tax rate for 2016 and 35% for 2015 and 2014, reflective of the change in our estimated incremental tax rate.

Net interest income is affected by changes in interest rates, volumes of interest-earning assets and interest-bearing liabilities, and the composition of those assets and liabilities. ~~The “net~~“Net interest spread” and “net interest margin” are two common statistics related to changes in net interest income. ~~The net~~Net interest spread represents the difference between the yields earned on interest-earning assets and the rates paid for interest-bearing liabilities. ~~The net~~Net interest margin is ~~defined as~~ the ratio of net interest income to average earning ~~assets.~~asset balances. Through the use of noninterest-bearing demand deposits and shareholders' equity, the net interest margin exceeds the net interest spread, as these funding sources are noninterest-bearing.

The Federal Reserve influences the general market rates of interest, including the deposit and loan rates offered by many financial institutions. Our loan portfolio is affected by changes in the prime interest rate. During 2017, the prime rate increased 25 basis points in each of March, June and December to end the year at 4.50%. In 2018, the prime rate continued to rise with 25 point increases in each of March, June, September and December, ending the year at 5.50%. And in 2019, 25 basis point reductions occurred in August, September and October and the prime rate ended the year at 4.75%.

Core deposits are deposits that are stable, lower cost and generally reprice more slowly than other deposits when interest rates change. Core deposits are typically funds of local clients who also have a borrowing or other relationship with the Bank. We are primarily funded by core deposits, with noninterest-bearing demand deposits historically being a significant source of funds. This lower-cost funding base is expected to have a positive impact on our net interest income and net interest margin in a rising interest rate environment.

Net interest income totaled $69.3 million, $52.2 million and $43.8 million in 2019, 2018 and 2017, respectively. The following ~~“Analysis of Net Interest Income”~~ table presents net interest income, ~~on a tax equivalent basis,~~ net interest spread and net interest margin on a taxable-equivalent basis for 2019, 2018 and 2017. Taxable-equivalent adjustments are the ~~years 2016, 2015~~result of increasing income from tax-free loans and ~~2014. The following “Changes in Taxable Equivalent Net Interest Income” table analyzes~~investments by an amount equal to the ~~changes in net interest~~taxes that would be paid if the income were fully taxable based on a 21% federal corporate tax rate for ~~the same periods broken down by their rate~~2019 and ~~volume components.~~2018 and 34% for 2017, reflecting our statutory tax rates for those years.

~~ANALYSIS OF NET INTEREST INCOME~~

Table of Contents


																										2019										2018								2017
	2016								2015								2014									Average Balance		Taxable- Equivalent Interest		Taxable- Equivalent Rate		Average Balance		Taxable- Equivalent Interest		Taxable- Equivalent Rate		Average Balance		Taxable- Equivalent Interest		Taxable- Equivalent Rate
(Dollars in thousands)	Average Balance			Tax Equivalent Interest			Tax Equivalent Rate		Average Balance			Tax Equivalent Interest			Tax Equivalent Rate		Average Balance			Tax Equivalent Interest			Tax Equivalent Rate
Assets																									Assets
Federal funds sold and interest-bearing bank balances	$	31,452		$	208		0.66	%	$	18,901		$	81		0.43	%	$	14,137		$	35		0.25	%	Federal funds sold and interest-bearing bank balances	$	58,100	$	1,339	2.30	%	$	16,442	$	327	1.99	%	$	15,487	$	218	1.41	%
Taxable securities	303,124			6,012			1.98		348,613			6,697			1.92		399,014			8,051			2.02		Taxable securities	435,839		14,530		3.33		359,852		10,858		3.02		326,900		7,478		2.29
Tax-exempt securities	57,231			2,767			4.83		33,055			1,629			4.93		14,058			848			6.03
Tax-exempt securities ⁽¹⁾																									Tax-exempt securities ⁽¹⁾	63,443		2,600		4.10		119,665		4,873		4.07		93,683		4,748		5.07
Total securities	360,355			8,779			2.44		381,668			8,326			2.18		413,072			8,899			2.15		Total securities	499,282		17,130		3.43		479,517		15,731		3.28		420,583		12,226		2.91
Taxable loans	774,984			32,036			4.13		687,079			28,787			4.19		620,701			27,368			4.41	%
Tax-exempt loans	58,281			2,848			4.89		59,600			3,094			5.19		63,177			3,351			5.30
Taxable loans ⁽²⁾⁽³⁾																									Taxable loans ⁽²⁾⁽³⁾	1,432,951		73,201		5.11		1,053,308		49,151		4.67		893,555		39,006		4.37
Tax-exempt loans ^(1)(2)(3)																									Tax-exempt loans ^(1)(2)(3)	59,864		2,367		3.95		47,318		1,875		3.96		50,797		2,450		4.82
Total loans	833,265			34,884			4.19		746,679			31,881			4.27		683,878			30,719			4.49		Total loans	1,492,815		75,568		5.06		1,100,626		51,026		4.64		944,352		41,456		4.39
Total interest-earning assets	1,225,072			43,871			3.58		1,147,248			40,288			3.51		1,111,087			39,653			3.57		Total interest-earning assets	2,050,197		94,037		4.59		1,596,585		67,084		4.20		1,380,422		53,900		3.90
Cash and due from banks	20,803								19,155								14,161								Cash and due from banks	25,046						18,951						20,391
Bank premises and equipment	31,413								24,386								25,921								Bank premises and equipment	40,982						35,399						35,055
Other assets	61,391								56,894								41,499								Other assets	123,362						72,960						65,293
Allowance for loan losses	(13,529		)						(14,134		)						(19,268		)						Allowance for loan losses	(14,466)						(13,298)						(12,738)
Total	$	1,325,150							$	1,233,549							$	1,173,400							Total	$	2,225,121					$	1,710,597					$	1,488,423
Liabilities and Shareholders’ Equity																									Liabilities and Shareholders’ Equity
Interest-bearing demand deposits	$	565,524		1,195			0.21		$	500,474		908			0.18		$	491,046		823			0.17		Interest-bearing demand deposits	$	920,025	8,253		0.90		$	767,863	4,968		0.65		$	648,174	2,148		0.33
Savings deposits	90,272			144			0.16		85,068			136			0.16		83,941			135			0.16		Savings deposits	138,761		261		0.19		102,189		159		0.16		94,815		150		0.16
Time deposits	289,574			3,472			1.20		263,414			2,562			0.97		292,149			2,720			0.93
Time deposits ⁽⁴⁾																									Time deposits ⁽⁴⁾	549,937		10,796		1.96		324,118		5,102		1.57		292,616		3,836		1.31
Short-term borrowings	56,387			187			0.33		85,262			295			0.35		51,922			148			0.29		Short-term borrowings	32,001		623		1.95		81,172		1,577		1.94		97,814		784		0.80
Long-term debt	24,335			419			1.72		22,522			400			1.78		17,773			333			1.87		Long-term debt	80,636		1,779		2.21		83,640		1,632		1.95		36,336		726		2.00
Subordinated notes																									Subordinated notes	31,842		1,987		6.24		1,139		73		6.41		—		—		—
Total interest-bearing liabilities	1,026,092			5,417			0.53		956,740			4,301			0.45		936,831			4,159			0.44		Total interest-bearing liabilities	1,753,202		23,699		1.35		1,360,121		13,511		0.99		1,169,755		7,644		0.65
Demand deposits	147,473								134,040								123,224
Noninterest-bearing demand deposits																									Noninterest-bearing demand deposits	234,354						183,387						161,917
Other	13,612								11,316								12,095								Other	31,544						17,427						15,450
Total Liabilities	1,187,177								1,102,096								1,072,150								Total Liabilities	2,019,100						1,560,935						1,347,122
Shareholders’ Equity	137,973								131,453								101,250								Shareholders’ Equity	206,021						149,662						141,301
Total	$	1,325,150							$	1,233,549							$	1,173,400							Total	$	2,225,121					$	1,710,597					$	1,488,423
Net interest income/net interest spread				38,454			3.05	%				35,987			3.06	%				35,494			3.13	%
Net interest margin							3.14	%							3.14	%							3.20	%
Tax equivalent adjustment				(1,909		)						(1,653		)						(1,470		)
Net interest income - as reported				$	36,545							$	34,334							$	34,024
Taxable-equivalent net interest income / net interest spread																									Taxable-equivalent net interest income / net interest spread			70,338		3.24	%			53,573		3.21	%			46,256		3.25	%
Taxable-equivalent net interest margin																									Taxable-equivalent net interest margin					3.43	%					3.36	%					3.35	%
Taxable-equivalent adjustment																									Taxable-equivalent adjustment			(1,043)						(1,417)						(2,447)
Net interest income																									Net interest income			$	69,295					$	52,156					$	43,809
Ratio of average interest-earning assets to average interest-bearing liabilities																									Ratio of average interest-earning assets to average interest-bearing liabilities					117	%					117	%					118	%



~~Note:~~NOTES TO ANALYSIS OF NET INTEREST INCOME:
(1)		Yields and interest income on tax-exempt assets have been ~~adjusted to~~computed on a ~~tax equivalent~~taxable-equivalent basis ~~using~~assuming a ~~marginal federal~~
	~~income~~21% tax rate ofin 2019 and 2018, and 34% in ~~2016 and 35% in 2015 and 2014.~~2017. For yield ~~comparison~~calculation purposes, nonaccruing loans are
	included in the average loan balance.
(2)		Average balances include nonaccrual loans.
(3)		Interest income on loans includes prepayment and late fees. Where applicable, prior periods have been conformed to include these fees.
(4)		In 2019, expenses associated with the early redemption of brokered time deposits totaled $215 thousand and increased the cost of funds by 3 basis points.

~~CHANGES IN NET INTEREST INCOME - TAX EQUIVALENT BASIS~~

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2016 Versus 2015 Increase (Decrease)
Due to Change in 2015 Versus 2014 Increase (Decrease)
Due to Change in
(Dollars in thousands)
Average
Volume

Average
Rate
Total
Average
Volume

Average
Rate
Total
Interest Income
Federal funds sold & interest-bearing deposits $ 54
$ 73
$ 127
$ 12
$ 34
$ 46
Taxable securities (874 ) 189
(685 ) (1,017 ) (337 ) (1,354 )
Tax-exempt securities 1,191
(53 ) 1,138
1,146
(365 ) 781
Taxable loans 3,683
(434 ) 3,249
2,927
(1,508 ) 1,419
Tax-exempt loans (68 ) (178 ) (246 ) (190 ) (67 ) (257 )
Total interest income 3,986
(403 ) 3,583
2,878
(2,243 ) 635
Interest Expense
Interest-bearing demand deposits 118
169
287
16
69
85
Savings deposits 8
0
8
2
(1 ) 1
Time deposits 254
656
910
(268 ) 110
(158 )
Short-term borrowings (100 ) (8 ) (108 ) 95
52
147
Long-term debt 32
(13 ) 19
89
(22 ) 67
Total interest expense 312
804
1,116
(66 ) 208
142
Net Interest Income $ 3,674
$ (1,207 ) $ 2,467
$ 2,944
$ (2,451 ) $ 493
The following table presents changes in net interest income on a taxable-equivalent basis for 2019, 2018 and 2017 by rate and volume components.


	2019 Versus 2018 Increase (Decrease) Due to Change in										2018 Versus 2017 Increase (Decrease) Due to Change in
	Average Volume		Average Rate		Total		Average Volume		Average Rate		Total
Interest Income
Federal funds sold and interest-bearing bank balances	$	828	$	184	$	1,012	$	13	$	96	$	109
Taxable securities	2,292		1,380		3,672		754		2,626		3,380
Tax-exempt securities	(2,289)		16		(2,273)		1,317		(1,192)		125
Taxable loans	17,715		6,335		24,050		6,974		3,171		10,145
Tax-exempt loans	497		(5)		492		(168)		(407)		(575)
Total interest income	19,043		7,910		26,953		8,890		4,294		13,184
Interest Expense
Interest-bearing demand deposits	984		2,301		3,285		397		2,423		2,820
Savings deposits	57		45		102		12		(3)		9
Time deposits	3,555		2,139		5,694		413		853		1,266
Short-term borrowings	(955)		1		(954)		(133)		926		793
Long-term debt	(59)		206		147		945		(39)		906
Subordinated notes	1,968		(54)		1,914		73		—		73
Total interest expense	5,550		4,638		10,188		1,707		4,160		5,867
Taxable-Equivalent Net Interest Income	$	13,493	$	3,272	$	16,765	$	7,183	$	134	$	7,317

Table of ~~these statements.~~Contents

Notes to Consolidated Financial Statements

(All dollar amounts presented in the tables, except share and per share amounts, are in thousands)

NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

See the Glossary of Defined Terms at the beginning of this Report for terms used throughout the consolidated financial statements and related notes of this Form 10-K.

Nature of Operations – Orrstown Financial Services, Inc. and subsidiaries ~~(collectively the “Company”)~~ is a financial holding company that operates Orrstown Bank, ~~(the "Bank"),~~ a commercial bank with ~~25 branches~~banking and financial advisory offices in Berks, Cumberland, Dauphin, Franklin, Lancaster, Perry and ~~Perry~~York Counties, of Pennsylvania, and in Anne Arundel, Baltimore, Howard and Washington ~~County,~~Counties, Maryland, as well as Baltimore City, Maryland and ~~a Registered Investment Advisor non-bank subsidiary,~~ Wheatland Advisors, Inc. ~~("Wheatland")~~, a registered investment advisor non-bank subsidiary, headquartered in Lancaster County, Pennsylvania. The ~~Bank~~Company operates in the community banking segment and engages in lending ~~services for~~activities, including commercial, residential, commercial mortgages, construction, municipal, and various forms of consumer ~~lending. Deposit~~lending, and deposit services, ~~include~~including checking, savings, time, and money market deposits. The ~~Bank~~Company also provides fiduciary services, investment advisory, insurance and brokerage ~~services through its Orrstown Financial Advisors division.~~services. The Company isand the Bank are subject to ~~the~~ regulation ofby certain federal and state agencies and ~~undergoes~~undergo periodic examinations by such regulatory authorities.

~~The accounting and reporting policies~~

Basis of the Company conform to accounting principles generally accepted in the United States of America ("GAAP") and, where applicable, to accounting and reporting guidelines prescribed by bank regulatory authorities. The more significant accounting policies follow:

~~Principles of Consolidation~~Presentation – The accompanying consolidated financial statements include the accounts of Orrstown Financial Services, Inc. ~~(the "Parent Company")~~ and its wholly owned subsidiaries, the Bank and Wheatland. The accounting and reporting policies of the Company conform to GAAP and, where applicable, to accounting and reporting guidelines prescribed by bank regulatory authorities. All significant intercompany transactions and accounts have been ~~eliminated in consolidation.~~eliminated. Certain reclassifications have been made to prior year amounts to conform with current year classifications. In ~~December 2016,~~October 2018, the Company acquired ~~Wheatland.~~Mercersburg Financial Corporation and its wholly-owned subsidiary, First Community Bank of Mercersburg, based in Mercersburg, Pennsylvania. In May 2019, the Company acquired Hamilton Bancorp, Inc., and its wholly-owned subsidiary, Hamilton Bank, based in Towson, Maryland. The results of operations orand assets acquired and liabilities assumed from acquired entities are included only from the date of acquisition. ~~Pro forma financial information for this transaction has not been included because~~The comparability of the ~~acquisition was immaterial. The purchase price allocation~~Company's results of operations for the ~~acquisition is estimated at~~years ended December 31, ~~2016.~~2019, to 2018 and 2017 have been impacted by these acquisitions.

The Company's management has evaluated all activity of the Company and concluded that subsequent events are properly reflected in the Company's consolidated financial statements and notes as required by GAAP.

~~Use of Estimates –~~

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions ~~based on available information.~~that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ ~~significantly~~ from those estimates. Material estimates that are particularly susceptible to significant change ~~relate to~~include the determination of the ~~allowance for loan losses~~ALL and ~~accounting for income taxes.~~those used in valuation methodologies in areas with no observable market, such as loans, deposits, borrowings, goodwill, core deposit and other intangible assets, other assets and liabilities obtained or assumed in business combinations.

~~Reclassifications –~~ Certain prior year amounts have been reclassified to conform to current period classifications. The reclassifications had no effect on gross revenues, gross expenses, net income, shareholders' equity, or the net change in cash and cash equivalents and are not material to previously issued consolidated financial statements.

Concentration of Credit Risk – The Company grants commercial, residential, construction, municipal, and various forms of consumer lending to ~~customers~~clients primarily in its market area ~~of Berks, Cumberland, Dauphin, Franklin, Lancaster, and Perry Counties of~~in south central Pennsylvania and in the greater Baltimore region and Washington County, ~~Maryland.~~Maryland.. Therefore, the Company's exposure to credit risk is significantly affected by changes in the economy in ~~that area.~~those areas. Although the Company ~~believes it~~ maintains a diversified loan portfolio, a significant portion of its ~~customers’~~clients’ ability to honor their contracts is dependent upon economic sectors for commercial real estate, including office space, retail strip centers, ~~multi-family and hospitality, residential building operators,~~ sales finance, sub-dividers and ~~developers.~~developers, and multi-family, hospitality, and residential building operators. Management evaluates each ~~customer’s~~clients' creditworthiness on a case-by-case basis. The amount of collateral obtained ~~if collateral is deemed necessary by the Company~~ upon the extension of credit, is based on management’s credit evaluation of the ~~customer.~~client. Collateral held varies, but generally includes real estate and equipment.

The types of securities the Company invests in are included in Note 3, Securities Available for Sale, and the ~~type~~types of lending the Company engages in are included in Note 4, Loans and Allowance for Loan Losses.

Cash and Cash Equivalents – Cash and cash equivalents ~~include~~includes cash, balances due from banks, federal funds sold and ~~interest bearing~~interest-bearing deposits due on demand, all of which have original maturities of 90 days or less. Net cash flows are reported for ~~customer~~client loan and deposit transactions, loans held for sale, redemption (purchases) of restricted investments in bank stocks, and short-term borrowings.

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Cash and cash equivalents includes amounts that the Company is required to maintain on hand or on deposit at the Federal Reserve Bank to meet certain regulatory reserve balance requirements. At December 31, 2019 and 2018, the Company had reserve requirements of $9.2 million and $11.0 million, respectively.

Balances with correspondent banks may, at times, exceed federally insured limits. The Company considers this to be a normal business risk and reviews the financial condition of its correspondent banks on a quarterly basis.

Restricted Investments in Bank Stocks – Restricted investments in bank stocks consist of Federal Reserve Bank of Philadelphia ~~(“Federal Reserve Bank”)~~ stock, ~~Federal Home Loan Bank~~FHLB of Pittsburgh ~~(“FHLB”)~~ stock and Atlantic Community Bankers Bank stock. Federal law requires a member institution of the district Federal Reserve Bank and FHLB to hold stock according to predetermined formulas. Atlantic Community Bankers Bank requires its correspondent banking institutions to hold stock as a condition of membership. The restricted investment in bank stocks is carried at cost. ~~Quarterly,~~On a quarterly basis, management evaluates the bank stocks for impairment based on assessment of the ultimate recoverability of cost rather than by recognizing temporary declines in value. The determination of whether a decline affects the ultimate recoverability of cost is influenced by

criteria such as operating performance, liquidity, funding and capital positions, stock repurchase history, dividend history, and impact of legislative and regulatory changes.

Securities – The Company typically classifies debt ~~and marketable equity~~ securities as available for sale on the date of purchase. At December 31, ~~2016~~2019 and ~~2015~~2018, the Company had no held to maturity or trading securities. ~~Securities classified as available for sale~~AFS securities are reported at fair value. Interest income and dividends on debt securities are recognized in interest income on an accrual basis. Purchase premiums and discounts on debt securities are amortized to interest income using the interest method over the terms of the securities and approximate the level yield method.

Changes in unrealized gains and losses, net of related deferred taxes, for ~~available for sale~~AFS securities are recorded in ~~accumulated other comprehensive income.~~AOCI. Realized gains and losses on securities are recorded on the trade date using the specific identification method and are included in noninterest income on the consolidated statements of income.

~~Securities classified as available for sale~~AFS securities include investments that management intends to use as part of its asset/liability management strategy. Securities may be sold in response to changes in interest rates, changes in prepayment ~~rate~~rates and other factors. The Company does not have the intent to sell any of its ~~available for sale~~AFS securities that are in an unrealized loss position and it is more likely than not that the Company will not be required to sell these securities before recovery of their amortized cost.

Management evaluates securities for ~~other-than-temporary impairment (“OTTI”)~~OTTI on at least a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. For securities in an unrealized loss position, management considers the extent and duration of the unrealized loss, and the financial condition and near-term prospects of the issuer. Management also assesses whether it intends to sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and fair value is recognized as an impairment through earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split into two components: OTTI related to ~~credit loss, which must be recognized in the income statement; and OTTI related to~~ other factors, which is recognized in ~~other comprehensive income.~~OCI, and the remaining OTTI, which is recognized in earnings. The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. ~~For equity securities, the entire amount of impairment is recognized through earnings.~~

The Company’s securities are exposed to various risks, such as interest rate risk, market risk, and credit ~~risks.~~risk. Due to the level of risk associated with certain investments and the level of uncertainty related to changes in the value of investments, it is at least reasonably possible that changes in risks in the near term would materially affect investment assets reported in the consolidated financial statements.

Loans Held for Sale – ~~Loans~~ Effective October 1, 2019, The Company adopted the fair value option on these loans which allows the Company to record the mortgage loans held for sale portfolio at fair market value as opposed to the lower of cost or market. The Company economically hedges its residential loans held for sale portfolio with forward sale agreements which are reported at fair value. A lower of cost or market accounting treatment would not allow the Company to record the excess of the fair market value over book value but would require the Company to record the corresponding reduction in value on the hedges. Both the loans and related hedges are carried at fair value which reduces earnings volatility as the amounts more closely offset, particularly in environments when interest rates are declining. For loans held for sale for which the fair value option has been elected, the aggregate fair value exceeded the aggregate principal balance by $226 thousand. There were no loans held for sale that were nonaccrual or 90 or more days past due as of December 31, 2019. In previous periods, loans originated and intended for sale in the secondary market ~~are~~were carried at the lower of aggregate cost or fair ~~value ("LOCM").~~value. Gains and losses on ~~loans sold~~loan sales (sales proceeds minus carrying value) are ~~included~~recorded in noninterest income. Interest income on these loans is recognized in interest and fees on loans in the consolidated statements of operations.

Loans – The Company grants commercial loans; residential, commercial and construction mortgage loans; and various forms of consumer loans to its customers located principally in South Central Pennsylvania and northern Maryland. The ability of the Company’s debtors to honor their contracts is dependent largely upon the real estate and general economic conditions in this area.

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off ~~generally~~ are reported at their outstanding unpaid principal balances adjusted for charge-offs, the ~~allowance for loan losses,~~ALL, and any deferred fees or costs on

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originated loans. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and amortized as a yield adjustment over the respective term of the loan. For purchased loans that are not deemed impaired at the acquisition date, premiums and discounts are amortized or accreted as adjustments to interest income using the effective yield method.

For all classes of loans, the accrual of interest income on loans, including impaired loans, ceases when principal or interest is past due 90 days or more or immediately if, in the opinion of management, full collection is unlikely. Interest will continue to accrue on loans past due 90 days or more if the collateral is adequate to cover principal and interest, and the loan is in the process of collection. Interest accrued, but not collected, at the date of placement on nonaccrual status, is reversed and charged against ~~current~~ interest income, unless fully collateralized. Subsequent payments received are either applied to the outstanding principal balance or recorded as interest income, depending upon management’s assessment of the ultimate collectability of principal. Loans are returned to accrual status, for all loan classes, when all the principal and interest amounts contractually due are brought current, the loan has performed in accordance with the contractual terms of the note for a reasonable period of time, generally six months, and the ultimate collectability of the total contractual principal and interest is reasonably assured. Past due status is based on the contractual terms of the loan.

Loans, the terms of which are modified, are classified as ~~troubled debt restructurings ("TDRs")~~TDRs if a concession was granted in connection with the modification, for legal or economic reasons, related to athe debtor’s financial difficulties. Concessions granted under a TDR typically involve a temporary deferral of scheduled loan payments, an extension of a ~~loan’s~~loans' stated maturity date, a temporary reduction in interest rates, or granting of an interest rate below market rates given the risk of the transaction. If a modification occurs while the loan is on ~~accruing~~accrual status, it will continue to accrue interest under the modified terms. Nonaccrual TDRs may be restored to accrual status if scheduled principal and interest payments, under the modified terms, are current for six months after modification, and the borrower continues to demonstrate its ability to meet the modified terms. TDRs are evaluated individually for impairment on a quarterly basis including monitoring of performance according to their modified terms.

Allowance for Loan Losses – The ~~allowance for loan losses~~ALL is evaluated on at least a quarterly basis, as losses are estimated to be probable and incurred, and, if deemed necessary, is increased or decreased through athe provision for loan losses ~~charged to earnings.~~on the consolidated statements of income. Loan losses are charged against the ~~allowance~~ALL when management determines that all or a portion of the loan is uncollectible. Recoveries on previously charged-off loans are credited to the ~~allowance~~ALL when received. The ~~allowance~~ALL is allocated to loan portfolio classes on a quarterly basis, but the entire balance is available to cover losses from any of the portfolio classes when those losses are confirmed.

Management uses internal policies and bank regulatory guidance in periodically evaluating loans for collectability and incorporates historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

See Note 4, Loans and Allowance for Loan Losses, for additional ~~details.~~information.

Acquired Loans - Loans acquired in connection with business combinations are recorded at fair value with no carryover of any allowance for loan losses. Fair value of the loans involves estimating the amount and timing of principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest.

The excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable discount and is recognized into interest income over the remaining life of the loan. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the nonaccretable discount. These loans are accounted for under ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality ("ASC 310-30"). The nonaccretable discount includes estimated future credit losses expected to be incurred over the life of the loan. Subsequent decreases in expected cash flows will require us to evaluate the need for an addition to the allowance for loan losses. Subsequent improvement in expected cash flows will result in the reversal of a corresponding amount of the nonaccretable discount, which we will then reclassify as accretable discount to be recognized into interest income over the remaining life of the loan.

Loans acquired through business combinations that do meet the specific criteria of ASC 310-30 are individually evaluated each period to analyze expected cash flows. To the extent that the expected cash flows of a loan have decreased due to credit deterioration, the Company establishes an allowance.

Loans acquired through business combinations that do not meet the specific criteria of ASC 310-30 are accounted for under ASC 310-20, Receivables - Nonrefundable Fees and Other Costs. These loans are initially recorded at fair value, and include credit and interest rate marks associated with acquisition accounting adjustments. Purchase premiums or discounts are subsequently amortized as an adjustment to yield over the estimated contractual lives of the loans. There is no allowance for

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loan losses established at the acquisition date for acquired performing loans. An allowance for loan losses is recorded for any credit deterioration in these loans subsequent to acquisition.

Acquired loans that meet the criteria for impairment or nonaccrual of interest prior to the acquisition may be considered performing upon acquisition, regardless of whether the client is contractually delinquent if the Company expects to fully collect the new carrying value (i.e., fair value) of the loans. As such, the Company may no longer consider the loan to be nonperforming and may accrue interest on these loans, including the impact of any accretable discount. In addition, charge-offs on such loans would be first applied to the nonaccretable difference portion of the fair value adjustment.

Loan Commitments and Related Financial Instruments – Financial instruments include off-balance sheet credit ~~instruments,~~commitments issued to meet client financing needs, such as commitments to make loans and commercial letters of ~~credit, issued to meet customer financing needs. The face amount for these items represents the exposure to loss, before considering customer collateral or ability to repay.~~credit. These financial instruments are recorded when they are funded. The face amount represents the exposure to loss, before considering client collateral or ability to repay. The Company maintains a reserve for probable losses on off-balance sheet commitments which is included in ~~Other Liabilities.~~other liabilities on the consolidated balance sheets.

Loans Serviced – The Bank administers secondary market mortgage programs available through the FHLB and the Federal National Mortgage Association and offers residential mortgage products and services to ~~customers.~~clients. The Bank originates single-family residential mortgage loans for immediate sale in the secondary market and retains the servicing of those loans. At December 31, ~~2016~~2019 and ~~2015,~~2018, the balance of loans serviced for others ~~was $328,701,000~~totaled $360.1 million and ~~$317,793,000.~~$360.3 million, respectively.

Transfers of Financial Assets – Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.

Cash Surrender Value of Life Insurance – The Company has purchased life insurance policies on certain employees. Life insurance is recorded at the cash surrender value adjusted for other charges or other amounts due that are probable at settlement.

Premises and Equipment – Buildings, improvements, equipment, furniture and fixtures are carried at cost less accumulated depreciation and amortization. Land is carried at cost. Depreciation and amortization has been ~~provided~~recognized generally on the straight-line method and is computed over the estimated useful lives of the various assets as follows: buildings and improvements, including leasehold improvements – 10 to 40 years; and furniture and equipment – 3 to 15 years. Leasehold improvements are amortized over the shorter of the lease term or the indicated life. Repairs and maintenance are charged to operations as incurred, while ~~major~~ additions and improvements are typically capitalized. ~~Gain~~Gains or ~~loss~~losses on the retirement or disposal of individual assets is recorded as income or expense in the period of retirement or disposal. Premises no longer in use and held for sale are included in other assets on the consolidated balance sheets at the lower of carrying value or fair value and no depreciation is charged on them. At December 31, 2019 and 2018, premises held for sale totaled $5.2 million and $1.0 million, respectively.

Leases - The Company evaluates its contracts at inception to determine if an arrangement is,or contains, a lease. Operating leases are included in operating lease ROU assets in other assets and operating lease liabilities in accrued interest payable and other liabilities in the consolidated balance sheets. The Company had no finance leases at December 31, 2019.

ROU assets represent the right to use an underlying asset for the lease term, and lease liabilities represent an obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. The Company's leases do not provide an implicit rate, so it uses our incremental borrowing rate, which approximates its fully collateralized borrowing rate, based on the information available at commencement date in determining the present value of lease payments. The incremental borrowing rate is reevaluated upon lease modification. The operating lease ROU asset also includes any initial direct costs and prepaid lease payments made less any lease incentives. The Company's lease terms may include options to extend or terminate the lease when it is reasonably certain that it will exercise that option.

The Company adopted ASU 2016-02, “Leases (Topic 842),” on January 1, 2019, using the practical expedient transition method whereby the Company did not revise comparative period information or disclosure. The new standard requires lessees to record assets and liabilities on the balance sheet for all leases with terms longer than 12 months. The Company elected the package of practical expedients permitted under the transition guidance within the new standard, which among other things, allows the Company to carryforward the historical lease classification. The Company also elected certain optional practical expedients, including the hindsight practical expedient under which the Company considered the actual outcomes of lease renewals and terminations when measuring the lease term at adoption, and the Company made an accounting policy election to keep leases with an initial term of 12 months or less off of the balance sheet. The Company recognizes these lease payments in

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the consolidated statements of income on a straight-line basis over the lease term. The Company has lease agreements with lease and non-lease components, and has elected the practical expedient to account for these as a single lease component.

The Company's operating leases relate primarily to bank branches and office space. Upon the adoption on January 1, 2019, operating lease liabilities of $8.0 million and related lease assets of $7.5 million were recognized on the consolidated balance sheets. The difference between the lease assets and lease liabilities primarily consists of deferred rent liabilities reclassified upon adoption to reduce the measurement of the lease assets. The standard did not materially impact the Company's consolidated net income and had no impact on cash flows.

Goodwill and Other Intangible Assets – Goodwill is calculated as the purchase premium, if any, after adjusting for the fair value of net assets acquired in purchase transactions. Goodwill is not amortized but is reviewed for potential impairment on at least an annual basis, with testing between annual tests if an event occurs or circumstances change that ~~would more likely than not~~could potentially reduce the fair value of a reporting unit. Other intangible assets represent purchased assets that can be distinguished from goodwill because of contractual or other legal rights. The Company’s other intangible assets have finite lives and are amortized on aeither an accelerated amortization method or straight line basis over their estimated lives, generally 10 years for deposit premiums and 10 to 15 years for ~~customer lists.~~other client relationship intangibles.

Mortgage Servicing Rights – The estimated fair value of ~~mortgage servicing rights ("MSRs")~~MSRs related to loans sold and serviced by the Company is recorded as an asset upon the sale of such loans. MSRs are amortized as a reduction to servicing income over the estimated lives of the underlying loans. MSRs are evaluated periodically for impairment by comparing the carrying amount to estimated fair value. Fair value is determined periodically through a discounted cash ~~flows~~flow valuation

performed by a third party. Significant inputs to the valuation include expected servicing income, net of expense, the discount rate and the expected life of the underlying loans. To the extent the amortized cost of the MSRs exceeds their estimated fair values, a valuation allowance is established for such impairment through a charge against servicing income on the consolidated ~~statement~~statements of ~~operations.~~income. If the Company determines, based on subsequent valuations, that the impairment no longer exists or is reduced, the valuation allowance is reduced through a credit to earnings. ~~The balance of mortgage servicing rights was $2,835,000~~MSRs totaled $3.1 million and ~~$2,672,000~~$3.2 million at December 31, ~~2016~~2019 and December 31, ~~2015,~~2018, respectively, and isare included in ~~Other Assets.~~other assets on the consolidated balance sheets.

Foreclosed Real Estate – Real estate ~~property~~ acquired through foreclosure or other means is initially recorded at the fair value of the related real estate collateral at the transfer date less estimated selling costs, and subsequently at the lower of its carrying value or fair value less estimated costs to ~~sell through~~sell. Fair value is determined based on an independent third party appraisal of the property or, when appropriate, a ~~valuation reserve.~~recent sales offer. Costs to maintain ~~foreclosed~~such real estate are expensed as incurred. Costs that significantly improve the value of the properties are capitalized. ~~Foreclosed real~~Real estate acquired through foreclosure or other means totaled ~~$346,000~~$197 thousand and ~~$710,000~~$130 thousand at December 31, ~~2016~~2019 and ~~2015~~2018, respectively, and is included in ~~Other Assets.~~other assets on the consolidated balance sheets.

Investments in Real Estate Partnerships – The Company ~~currently~~ has a 99% limited partner interest in several real estate partnerships in central Pennsylvania. These investments are affordable housing projects, which entitle the Company to tax deductions and credits that expire through 2025. The Company accounts for its investments in affordable housing projects under the proportional amortization method when the criteria are met, which is limited to ~~one~~1 investment ~~entered into in 2015. Investments prior to 2015 did not meet the criteria, and~~at December 31, 2019. Other investments are accounted for under the equity method of accounting. The ~~recorded~~ investment in these real estate partnerships, included in ~~Other Assets,~~other assets on the consolidated balance sheets, totaled ~~$4,909,000~~$3.6 million and ~~$5,450,000~~$3.9 million at December 31, ~~2016~~2019 and ~~2015,~~2018, respectively, of which ~~$1,993,000~~$1.3 million and ~~$2,205,000~~$1.6 million are accounted for under the proportional amortization method.

~~Losses accounted for under the equity~~Equity method ~~of $350,000, $384,000~~losses totaled $55 thousand, $331 thousand and ~~$150,000 were recorded~~$277 thousand for the years ended December 31, ~~2016, 2015~~2019, 2018 and ~~2014~~2017, respectively, and are included in other noninterest ~~income. Losses~~income on the ~~investments accounted for under the proportional~~consolidated income statements. Proportional amortization method ~~of $191,000~~losses totaled $214 thousand, $214 thousand and $217 thousand for the ~~year~~years ended December 31, ~~2016 net of federal~~2019, 2018 and 2017, respectively, and are included in income tax ~~benefit, is netted against~~expense on the consolidated income ~~tax expense.~~statements. During ~~2016, 2015~~2019, 2018 and ~~2014,~~2017, the Company recognized federal tax credits from ~~the~~these projects totaling ~~$736,000, $475,000~~$460 thousand, $578 thousand and ~~$475,000,~~$1.0 million, respectively, which isare included in income tax ~~expense.~~expense on the consolidated income statements.

Advertising – The Company expenses advertising as incurred. Advertising expense ~~was $763,000, $723,000~~totaled $577 thousand, $418 thousand and ~~$540,000,~~$631 thousand for the years ended December 31, ~~2016, 2015~~2019, 2018 and ~~2014.~~2017, respectively.

~~Securities Sold Under~~Repurchase Agreements ~~to Repurchase~~ ~~(“Repurchase Agreements”)~~ – The Company enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities which are included in short-term ~~borrowings.~~borrowings on the consolidated balance sheets. Under these agreements, the Company may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Company to repurchase the assets. As a result, these ~~Repurchase Agreements~~repurchase agreements are accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as a sale and subsequent repurchase of securities. The obligation to repurchase the securities is reflected as a liability inon the Company’s consolidated balance ~~sheet,~~sheets, while the securities underlying the ~~Repurchase Agreements remain is~~repurchase agreements remaining are reflected in ~~securities available for sale; the~~AFS securities. The repurchase obligation and underlying securities are not offset or ~~netted. The~~netted as the Company does not enter into reverse ~~Repurchase Agreements, so there is no offsetting to be done with Repurchase Agreements.~~repurchase agreements.

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The right of setoff for a ~~Repurchase Agreement~~repurchase agreement resembles a secured borrowing, whereby the collateral would be used to settle the fair value of the ~~Repurchase Agreement~~repurchase agreement should the Company be in default (e.g., ~~fails~~fail to make an interest payment to the counterparty). For the ~~Repurchase Agreements,~~repurchase agreements, the collateral is held by the Company in a segregated custodial account under a third party agreement. Repurchase agreements are secured by ~~U.S. Government Sponsored Enterprises mortgage-backed securities~~GSE MBSs and mature overnight.

Share Compensation Plans – The Company has share compensation plans that cover employees and non-employee directors. Compensation expense relating to share-based payment transactions is measured based on the grant date fair value of the share award, including a Black-Scholes model for stock options. Compensation expense for all share awards is calculated and recognized over the employees’ or non-employee directors' service period, generally defined as the vesting period.

Income Taxes – ~~The income~~ Income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of ~~the~~ enacted tax law to ~~the~~ taxable income or excess of deductions over revenues. The Company determines deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.

Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term more likely than not means a likelihood of more than 50 percent; the terms examined and upon examination also include resolution of the related appeals or litigation processes, if any. A tax position that meets the

~~more-likely-than-not~~ more likely than not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the ~~more-likely-than-not~~more likely than not recognition threshold considers the facts, circumstances, and information available at the reporting date and is subject to management’s judgment. Deferred tax assets are reduced by a valuation allowance ~~if,~~when, based on the weight of available evidence, ~~available,~~ it is more likely than not that some portion or all of a deferred tax asset will not be realized. The Company recognizes interest and penalties, if any, on income taxes as a component of income tax expense.

Loss Contingencies – Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.

Treasury Stock – Common stock shares repurchased are recorded as treasury stock, at ~~cost.~~cost on the consolidated balance sheets.

Earnings Per Share – Basic earnings per share represents income available to common stockholders divided by the weighted average number of common shares outstanding during the period. Restricted stock awards are included in weighted average common shares outstanding as they are earned. Diluted earnings per share includes additional common shares that would have been outstanding if dilutive potential common shares had been issued. Potential common shares that may be issued by the Company relate solely to outstanding stock options and restricted stock awards and are determined using the treasury stock method.

Treasury shares are not deemed outstanding for earnings per share calculations.

Comprehensive Income – Comprehensive income consists of net income and ~~other comprehensive income. Other comprehensive income is limited to unrealized gains (losses) on securities available for sale for all years presented.~~OCI. Unrealized gains (losses) on securities available for sale, net of tax, was the sole component of ~~accumulated other comprehensive income~~AOCI at December 31, ~~2016~~2019 and ~~2015 and totaled ($1,165,000) and $1,199,000.~~2018.

Fair Value – Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in ~~Note 17,~~the Fair ~~Value.~~Value note to the consolidated financial statements. Fair value estimates involve uncertainties and matters of significant judgment. Changes in assumptions or in market conditions could significantly affect the estimates.

Segment Reporting – The Company operates in ~~one significant~~1 segment – Community Banking. The Company’s ~~non-banking~~non-community banking activities, principally related to Wheatland, are insignificant to the consolidated financial statements.

Recent Accounting Pronouncements - ~~In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update No. ("ASU") 2014-9,~~ ~~Revenue from Contracts with Customers (Topic 606)~~. ASU 2014-9, as amended, creates a new topic, Topic 606, to provide guidance on revenue recognition for entities that enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of nonfinancial assets. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Additional disclosures are required to provide quantitative and qualitative information regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. These changes become effective for the Company on January 1, 2018. Management is evaluating the impact of this standard on the Company's financial position and results of operations.

~~In January 2016, the FASB issued ASU 2016-01,~~ ~~Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.~~ ASU 2016-01 provides updated accounting and reporting requirements for both public and non-public entities. The most significant provisions that will impact the Company are: equity securities available for sale will be measured at fair value, with the changes in fair value recognized in the income statement;the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments at amortized cost on the balance sheet has been eliminated; a provision to require the utilization of the exit price notion when measuring the fair value of financial instruments for disclosure purposes; and a requirement for separate presentation of both financial assets and liabilities by measurement category and form of financial asset on the balance sheet or accompanying notes to the financial statements. These changes become effective for the Company on January 1, 2018, using a cumulative-effect adjustment to the balance sheet. Management is evaluating the impact of this standard on the Company's financial position and results of operations.

~~In February 2016, the FASB issued ASU 2016-02,~~ ~~Leases (Topic 842)~~. ASU 2016-12 provides updated accounting and reporting requirements, which, among other things, require lessees to recognize the following for all leases (with the exception of short-term leases) at the commencement date: a lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. These changes become effective for the Company on January 1, 2019.

Earlier application is permitted. Lessees must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. The Company anticipates that the impact on its balance sheet will result in an increase in assets and liabilities for its right of use assets and related lease liabilities for those leases that are outstanding at the date of adoption, however, it does not anticipate it will have a material impact on its results of operations. Management is evaluating other effects of this standard on the Company's financial position and regulatory capital.

~~In March 2016, the FASB issued ASU 2016-09,~~ ~~Compensation - Stock Compensation: Improvements to Employee Share-Based Payment Accounting (Topic 718).~~ ASU 2016-09 requires recognition of the income tax effects of share-based awards in the income statement when the awards vest or are settled, eliminating additional paid-in capital pools. The adoption of these changes by the Company on January 1, 2017 will not have a material impact on its financial position or results of operations.

~~In June 2016, the FASB issued~~ ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial ~~Instruments.~~ Instruments ("ASU ~~2016-13 replaces~~2016-13"). The amendments in this update require an organization to measure all expected credit losses for financial assets held at the existing incurred loss impairment methodology in current GAAP with an expected loss impairment methodology, which considers a broader range of reasonable and supportable information to support credit loss estimates, includingreporting date based on historical ~~loss~~ experience, current conditions, and reasonable and ~~foreseeable~~supportable forecasts. ~~ASU 2016-13 also requires enhanced~~Financial institutions and ~~greater disclosure pertaining~~other organizations will use forward-looking information to ~~significant estimates and judgments used~~better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. Additionally, the amendments in ~~estimating~~this update amend the accounting for credit losses ~~as well as the~~on available-for-sale debt securities and purchased financial assets with credit ~~quality and underwriting standards~~

Table of ~~the Company’s financial instrument portfolio, including loans and securities. These changes become~~Contents

deterioration. For certain public companies, this update will be effective for interim and annual periods beginning after December 15, 2019. ASU No. 2019-10, Financial Instruments—Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842): Effective Dates, extended the implementation deadline for smaller reporting and other companies until the fiscal year and interim periods beginning after December 15, 2022. The Company meets the requirements to be considered a smaller reporting company under SEC Regulation S-K and SEC Rule 405, and did not adopt ASU 2016-13 on January 1, ~~2020 with adoption permitted one year earlier. Management~~2020. The Company is evaluating the impact of ~~this standard on~~ the ~~Company's financial position, results~~delay for adoption of ~~operations~~ASU 2016-13.

The Company is working with a third party vendor solution to assist with the application of ASU 2016-13 and ~~regulatory capital.~~

~~In August 2016,~~finalizing the ~~FASB issued ASU 2016-15,~~ ~~Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 makes eight target changes~~loss estimation models to ~~how cash receipts and cash payments are presented and classified in the consolidated statement of cash flows. These changes become effective for~~be used. Once management determines which methods will be utilized, a third party will be contracted to perform a model validation prior to adoption. While the Company ~~on January 1, 2018 with~~anticipates the allowance for loan losses will increase under its current assumptions, it expects the impact of adopting ASU 2016-13 will be influenced by the composition, characteristics and quality of its loan and securities portfolios, as well as general economic conditions and forecasts at the adoption ~~on a retrospective basis. Management does not anticipate this update will have a material impact on the Company's financial position or results of operations.~~date.

~~In January 2017, the FASB issued~~

ASU 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill ~~Impairment. ASU 2017-04~~Impairment. The update simplifies how all entities assess goodwill for impairment by eliminating Step 2 from the goodwill impairment test. As amended, the goodwill impairment test will consist of one step comparing the fair value of a reporting unit with its carrying amount. An entity should recognize a goodwill impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. ~~These changes become~~The adoption of this guidance, effective ~~for the Company on~~ January 1, 2020, ~~with early adoption permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. Management does~~will not ~~anticipate this update will~~ have a material impact on the Company's consolidated financial ~~position or results of operations.~~statements.

NOTE 2. ~~RESTRICTIONS ON CASH~~MERGERS AND ~~DUE FROM BANKS~~ACQUISITIONS AND BRANCH CONSOLIDATIONS

Mercersburg Financial Corporation

On October 1, 2018, the Company acquired 100% of the outstanding common shares of Mercersburg Financial Corporation and its wholly-owned subsidiary, First Community Bank of Mercersburg, headquartered in Mercersburg, Pennsylvania. The Company issued 1,052,635 shares of its common stock and paid $4.9 million in cash for all outstanding shares of Mercersburg stock. Based on the Company's $23.80 closing stock price on Friday, September 28, 2018, the consideration paid to acquire Mercersburg totaled $29.9 million.

The fair value of assets acquired, excluding goodwill, totaled $181.4 million, including loans totaling $141.1 million and investment securities available for sale totaling $7.4 million. The fair value of liabilities assumed totaled $163.4 million, including deposits totaling $160.4 million. The Company recognized $11.9 million in initial goodwill, representing consideration transferred in excess of the fair value of the net assets acquired in the Mercersburg acquisition. The goodwill resulting from the acquisition represents the value expected from the expansion of our market in south central Pennsylvania and the enhancement of our operations through client synergies and efficiencies, thereby providing enhanced client service.

The Mercersburg acquisition was accounted for using the acquisition method of accounting and, accordingly, purchased assets, including identifiable intangible assets, and assumed liabilities were recorded at their respective acquisition date fair values. The fair value measurements of assets acquired and liabilities assumed were subject to refinement for up to one year after the closing date of the acquisition as additional information relative to closing date fair values became available. No material measurement period adjustments were made in the year ended December 31, 2019. The results of operations for the Company include Mercersburg's results from and after October 1, 2018.

Hamilton Bancorp, Inc.

On May 1, 2019, the Company acquired 100% of the outstanding common shares of Hamilton Bancorp, Inc., and its wholly-owned subsidiary, Hamilton Bank, based in Towson, Maryland. The Company acquired Hamilton to introduce our banking and financial services into the greater Baltimore area of Maryland.

Pursuant to the merger agreement, the Company issued 1,765,704 shares of its common stock and paid $14.2 million in cash for all outstanding shares of Hamilton stock and options vesting upon acquisition. Based on the Company's closing stock price of $20.74 on Tuesday, April 30, 2019, the consideration paid to acquire Hamilton totaled $50.8 million.

The fair value of assets acquired, excluding goodwill, totaled $492.8 million, including loans totaling $347.4 million. The fair value of liabilities assumed totaled $449.4 million, including deposits totaling $388.2 million. Goodwill represents consideration transferred in excess of the fair value of the net assets acquired. At May 1, 2019, the Company recognized $7.3 million in goodwill associated with the Hamilton acquisition. The goodwill resulting from the acquisition represents the value expected from the expansion of our market in the greater Baltimore area and the enhancement of our operations through client

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synergies and efficiencies, thereby providing enhanced client service. Goodwill acquired in the Hamilton acquisition is not deductible for tax purposes.

The Hamilton acquisition was accounted for using the acquisition method of accounting and, accordingly, purchased assets, including identifiable intangible assets, and assumed liabilities were recorded at their respective acquisition date fair values. The fair value measurements of assets acquired and liabilities assumed are subject to refinement for up to one year after the closing date of the acquisition as additional information relative to closing date fair values become available. The Company continues to finalize the fair values of loans, intangible assets, other assets, income taxes and liabilities. As a result, the recorded fair value adjustments are preliminary and may change as additional information becomes available. Fair value adjustments will be finalized no later than May 2020. No material measurement period adjustments were made from the date of acquisition through December 31, 2019. The results of operations for the Company include Hamilton's results from and after May 1, 2019.

The following table summarizes the consideration paid for Hamilton and the estimated fair values of the assets acquired and liabilities assumed at the acquisition date.



Fair value of consideration transferred:
Cash	$	14,197
Common stock issued	36,622
Total consideration transferred	$	50,819

Estimated fair values of assets acquired and liabilities assumed:
Cash and cash equivalents	$	43,140
Securities available for sale	60,882
Restricted investments in bank stocks	2,658
Loans	347,361
Premises and equipment	3,749
Core deposit intangible	4,550
Goodwill	7,333
Cash surrender value of life insurance	17,948
Deferred tax asset, net	5,838
ROU lease asset	2,793
Other assets	3,925
Total assets acquired	$	500,177

Deposits	$	(388,246)
Borrowings	(51,393)
Other liabilities	(9,719)
Total liabilities assumed	$	(449,358)

The determination of estimated fair values of the acquired loans required the Company to make certain estimates about discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature. Based on such factors as past due status, nonaccrual status, bankruptcy status, and credit risk ratings, the acquired loans were divided into loans with evidence of credit quality deterioration, which are accounted for under ASC 310-30 (purchased credit impaired), and loans that do not meet this criteria, which are accounted for under ASC 310-20 (purchased non-impaired). Expected cash flows, both principal and interest, were estimated based on key assumptions covering such factors as prepayments, default rates and severity of loss given default. These assumptions were developed using both Hamilton's historical experience and the portfolio characteristics as of the acquisition date as well as available market research. The fair value estimates for acquired loans were based on the amount and timing of expected principal, interest and other cash flows, including expected prepayments, discounted at prevailing market interest rates applicable to the types of acquired loans, which the Company considered to be level 3 fair value measurements. Deposit liabilities assumed in the Hamilton acquisition were segregated into two categories: time-deposits (i.e., deposit accounts with a stated maturity) and demand deposits, both using level 2 fair value measurements. In determining fair value of time deposits, the Company discounted the contractual cash flows of the deposit accounts using prevailing market interest rates for time deposit accounts of similar type and duration. For demand deposits, the

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acquisition date outstanding balance of the assumed demand deposit accounts approximates fair value. Acquisition date fair values for securities available for sale were determined using Level 1 or Level 2 inputs consistent with the methods discussed further in Note 19 - Fair Value. The remaining acquisition date fair values represent either Level 2 or Level 3 fair value measurements (premises and equipment and core deposit intangible).

The Company ~~maintains~~recognized a core deposit ~~balances~~intangible of $4.6 million, which is being amortized using an accelerated method over a 10-year amortization period, consistent with expected future cash flows.

Loans acquired from Hamilton were measured at ~~two correspondent banks which provide check collection~~fair value at the acquisition date with no carryover of any ALL. Loans were segregated into those loans considered to be performing and ~~item processing services~~those considered PCI. The following table presents performing and PCI loans acquired, by loan class, at May 1, 2019.

Upon completion of the Hamilton acquisition, the Company sold the acquired investment portfolio and paid off acquired borrowings at the indicated fair value amounts in conjunction with its asset/liability management strategies.


	Performing		PCI		Total
Commercial real estate:
Owner-occupied	$	42,148	$	6,324	$	48,472
Non-owner occupied	45,401		770		46,171
Multi-family	10,773		—		10,773

Acquisition and development:
1-4 family residential construction	7,450		—		7,450
Commercial and land development	4,528		—		4,528
Commercial and industrial	32,316		1,702		34,018

Residential mortgage:
First lien	152,657		10,494		163,151
Home-equity - term	4,478		1		4,479
Home equity - lines of credit	13,657		—		13,657
Installment and other loans	14,467		195		14,662
Total loans acquired	$	327,875	$	19,486	$	347,361

The following table presents the fair value adjustments made to the amortized cost basis of loans acquired at May 1, 2019.



Gross amortized cost basis at acquisition	$	362,125
Market rate adjustment	(5,309)
Credit fair value adjustment on non-credit impaired loans	(3,947)
Credit fair value adjustment on impaired loans	(5,508)
Estimated fair value of acquired loans	$	347,361

The market rate adjustment represents the movement in market interest rates, irrespective of credit adjustments, compared to the contractual rates of the acquired loans. The credit fair value adjustment made on non-credit impaired loans represents the changes in credit quality of the underlying borrowers from loan inception to the acquisition date. The credit fair value adjustment on PCI loans is derived in accordance with ASC 310-30 and represents the portion of the loan balance that has been deemed uncollectible based on our expectations of future cash flows for each respective loan.

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The following table provides information about acquired PCI loans at May 1, 2019.



Contractually required principal and interest at acquisition	$	31,599
Contractual cash flows not expected to be collected (nonaccretable discount)	(8,616)
Expected cash flows at acquisition	22,983
Interest component of expected cash flows (accretable discount)	(3,497)
Estimated fair value of acquired PCI loans	$	19,486

Unaudited pro forma net income for the ~~Company.~~year ended December 31, 2019 would have totaled $20.9 million, and revenues would have totaled $102.5 million for the same period had the Hamilton acquisition occurred January 1, 2019. Unaudited pro forma net income for the year ended December 31, 2018, would have totaled $12.2 million, and revenues would have totaled $95.3 million for the same period had the Mercersburg and Hamilton acquisitions occurred January 1, 2018.

In connection with the Mercersburg and Hamilton acquisitions, the Company incurred merger related expenses. Mercersburg related merger expenses totaled $280 thousand and $2.9 million during the years ended December 31, 2019 and 2018, respectively, which are included in merger related and branch consolidation expenses on the consolidated statements of income. For December 31, 2019 and 2018, the expenses consisted primarily of $81 thousand and $1.2 million of investment banking, legal and consulting fees; $199 thousand and $1.1 million of information systems expense, including canceling of contracts; and 0 and $617 thousand, respectively, of other expenses, including payout of employee termination contracts. Hamilton related merger expenses totaled $7.7 million and $267 thousand for the years ended December 31, 2019 and 2018, respectively, which are included in merger related and branch consolidation expenses on the consolidated statements of income. For December 31, 2019 and 2018, these expenses consisted primarily of $1.9 million and $254 thousand of investment banking, legal and consulting fees; $3.7 million and 0 of information systems expense, including canceling of contracts; and $2.2 million and $13 thousand, respectively, of other expenses, including payout of employee termination contracts.

Branch Consolidation

In October, 2019, the Company announced the consolidation of 5 branches in Franklin and Perry Counties, Pennsylvania, into other, larger branches of the Bank, as part of its ongoing evaluation of branch profitability. The ~~average balances that are~~Company also announced the sale/leaseback of an operations center facility to eliminate approximately 50,000 square feet of excess back office space. The branch consolidations were completed in January 2020, and the sale of the operations center facility is anticipated to be ~~maintained either on hand or~~completed in the second quarter of 2020.

In conjunction with the ~~correspondent banks totaled $4,371,000~~consolidation and ~~$1,265,000 at~~operations center facility sale/leaseback, the Company recorded $988 thousand in expenses in the fourth quarter of 2019, consisting of $762 thousand in fixed asset writedowns, $126 thousand in lease termination costs, and $100 thousand in severance and other costs. At December 31, ~~2016~~2019, fixed assets included in this consolidation, with an estimated fair value of $4.9 million, were held for sale and ~~2015.~~carried in other assets on the consolidated balances sheets.

The balances with these correspondent banks, at times, exceed federally insured limits; however the Company considers this to be a normal business risk. The Company reviews the correspondent banks' financial condition on a quarterly basis.

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NOTE 3. SECURITIES AVAILABLE FOR SALE

At December 31, 2019 and 2018, all investment securities were classified as AFS. The following table summarizes amortized cost and fair value of AFS securities, ~~available for sale at December 31, 2016 and 2015~~ and the corresponding amounts of gross unrealized gains and losses recognized in ~~accumulated other comprehensive income (loss). At~~AOCI at December 31, ~~2016~~2019 and ~~2015 all investment securities were classified as available for sale.~~2018.

(Dollars in thousands)
Amortized
Cost

Gross
Unrealized
Gains

Gross
Unrealized
Losses
Fair Value
December 31, 2016
U.S. Government Agencies $ 39,569
$ 147
$ 124
$ 39,592
States and political subdivisions 163,677
1,782
1,177
164,282
U.S. Government Sponsored Enterprises (GSE) residential mortgage-backed securities 116,022
928
6
116,944
GSE residential collateralized mortgage obligations (CMOs) 72,411
240
3,268
69,383
GSE commercial CMOs 5,148
0
292
4,856
Private label CMOs 5,042
0
36
5,006
Total debt securities 401,869
3,097
4,903
400,063
Equity securities 50
41
0
91
Totals $ 401,919
$ 3,138
$ 4,903
$ 400,154
December 31, 2015
U.S. Government Agencies $ 47,209
$ 200
$ 182
$ 47,227
States and political subdivisions 124,421
2,483
943
125,961
GSE residential mortgage-backed securities 132,389
229
269
132,349
GSE residential CMOs 15,668
215
40
15,843
GSE commercial CMOs 63,598
735
563
63,770
Private label CMOs 8,944
0
43
8,901
Total debt securities 392,229
3,862
2,040
394,051
Equity securities 50
23
0
73
Totals $ 392,279
$ 3,885
$ 2,040
$ 394,124


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
December 31, 2019


States and political subdivisions	$	83,607	$	4,288	$	32	$	87,863

GSE residential CMOs	67,928		1,000		774		68,154
Non-agency CMOs	17,210		—		123		17,087


Private label commercial CMOs	86,704		156		231		86,629
Asset-backed and other	235,544		138		5,029		230,653
Totals	$	490,993	$	5,582	$	6,189	$	490,386
December 31, 2018


States and political subdivisions	$	144,596	$	1,919	$	1,511	$	145,004


GSE residential CMOs	110,421		332		2,689		108,064


Private label residential CMOs	144		—		1		143
Private label commercial CMOs	75,911		55		921		75,045
Asset-backed and other	138,535		126		1,073		137,588
Totals	$	469,607	$	2,432	$	6,195	$	465,844

The following table summarizes AFS securities ~~available for sale~~ with unrealized losses at December 31, ~~2016~~2019 and ~~2015,~~2018, aggregated by major security type and length of time in a continuous unrealized loss position.

Less Than 12 Months 12 Months or More Total
(Dollars in thousands)
Fair
Value

Unrealized
Losses

Fair
Value

Unrealized
Losses

Fair
Value

Unrealized
Losses
December 31, 2016
U.S. Government Agencies $ 10,710
$ 23
$ 13,531
$ 101
$ 24,241
$ 124
States and political subdivisions 58,924
610
5,075
567
63,999
1,177
GSE residential mortgage-backed securities 5,034
6
0
0
5,034
6
GSE residential CMOs 59,534
3,264
634
4
60,168
3,268
GSE commercial CMOs 4,856
292
0
0
4,856
292
Private label CMOs 0
0
5,005
36
5,005
36
Totals $ 139,058
$ 4,195
$ 24,245
$ 708
$ 163,303
$ 4,903
December 31, 2015
U.S. Government Agencies $ 27,640
$ 182
$ 0
$ 0
$ 27,640
$ 182
States and political subdivisions 30,252
373
14,139
570
44,391
943
GSE residential mortgage-backed securities 82,911
269
0
0
82,911
269
GSE residential CMOs 0
0
4,237
40
4,237
40
GSE commercial CMOs 33,606
563
0
0
33,606
563
Private label CMOs 8,901
43
0
0
8,901
43
Totals $ 183,310
$ 1,430
$ 18,376
$ 610
$ 201,686
$ 2,040


	Less Than 12 Months								12 Months or More							Total
	# of Securities	Fair Value		Unrealized Losses		# of Securities	Fair Value		Unrealized Losses		# of Securities	Fair Value		Unrealized Losses
December 31, 2019


States and political subdivisions	1	$	6,173	$	32	—	$	0	$	0	1	$	6,173	$	32

GSE residential CMOs	5	37,158		309		1	11,602		465		6	48,760		774
Non-agency CMOs	1	17,087		123		—	—		—		1	17,087		123


Private label commercial CMOs	6	26,079		67		8	39,726		164		14	65,805		231
Asset-backed and other	9	92,189		1,145		9	121,399		3,884		18	213,588		5,029
Totals	22	$	178,686	$	1,676	18	$	172,727	$	4,513	40	$	351,413	$	6,189
December 31, 2018


States and political subdivisions	27	$	46,585	$	662	6	$	23,036	$	849	33	$	69,621	$	1,511

GSE residential CMOs	1	18,037		122		7	46,168		2,567		8	64,205		2,689


Private label residential CMOs	1	143		1		—	—		—		1	143		1
Private label commercial CMOs	11	56,499		712		2	6,349		209		13	62,848		921
Asset-backed and other	6	78,900		859		3	10,808		214		9	89,708		1,073
Totals	46	$	200,164	$	2,356	18	$	86,361	$	3,839	64	$	286,525	$	6,195

The Company determines whether unrealized losses are temporary in nature in accordance with FASB ASC 325-40, when applicable, and FASB ASC 320-10, Investments - Overall, (“FASB ASC 320-10”). The evaluation is based upon factors such as the creditworthiness of the underlying borrowers, performance of the underlying collateral, if applicable, and the level of credit support in the security structure. Management also evaluates other factors and circumstances that may be indicative of an OTTI condition. This includes, but is not limited to, an evaluation of the type of security, length of time and extent to which the fair value has 46been less than cost and near-term prospects of the issuer.

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FASB ASC 320-10 requires the Company to assess if an OTTI exists by considering whether the Company has the intent to sell the security or it is more likely than not that it will be required to sell the security before recovery. If either of these situations applies, the guidance requires the Company to record an OTTI charge to earnings on debt securities for the difference between the amortized cost basis of the security and ~~53 securities at~~the fair value of the security. If neither of these situations applies, the Company is required to assess whether it is expected to recover the entire amortized cost basis of the security. If the Company is not expected to recover the entire amortized cost basis of the security, the guidance requires the Company to bifurcate the identified OTTI into a credit loss component and a component representing loss related to other factors. A discount rate is applied which equals the effective yield of the security. The difference between the present value of the expected flows and the amortized book value is considered a credit loss, which would be recorded through earnings as an OTTI charge. When a market price is not readily available, the market value of the security is determined using the same expected cash flows; the discount rate is a rate the Company determines from the open market and other sources as appropriate for the security. The difference between the market value and the present value of cash flows expected to be collected is recognized in accumulated other comprehensive loss on the consolidated statements of financial condition.

As of December 31, ~~2016 and 2015 for which amortized cost exceeds fair value, as discussed below.~~

~~U.S. Government Agencies and GSE Securities.~~ At December 31, 2016, a total of 17 U.S. Government Agencies and GSE securities, including mortgage-backed and CMOs have unrealized losses, 14 of which were in the less than 12 months category, and 3 which were in the 12 months or more category. At December 31, 2015,2019, the Company had ~~29 such securities with~~no cumulative OTTI. There were no OTTI charges recognized in earnings as a result of credit losses on investments in the years ended December 31, 2019, 2018 and 2017.

State and Political Subdivisions. The unrealized losses ~~25 of which were~~presented in the ~~less than 12 months category, and 4 of which were in the 12 months or more category. These unrealized losses~~table above have been caused by a widening of spreads and/or a rise in interest rates from the time the securities were purchased. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the par value basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider these ~~investments to be other-than-temporarily impaired at December 31, 2016 or 2015.~~

~~State and Political Subdivisions.~~ At December 31, 2016, a total of 26 state and political subdivision securities have unrealized losses, 25 of which were in the less than 12 months category, and 1 which was in the 12 months or more category. At December 31, 2015, the Company had 21 such securities with unrealized losses, 16 of which were in the less than 12 months category, and 5 of which were in the 12 months or more category. These unrealized losses have been caused by a widening of spreads or a rise in interest rates from the time the securities were purchased. Management considers the investment rating, the state of the issuer of the security and other credit support in determining whether the security is ~~other-than-temporarily impaired. Because~~OTTI. As of December 31, 2019 and 2018, management concluded that an OTTI did not exist on any of the ~~Company~~aforementioned securities based upon its assessment. Management also concluded that it does not intend to sell ~~the investments and~~nor will it ~~is not more likely than not that the Company will~~ be required to sell the ~~investments~~securities, before ~~recovery of~~ their ~~amortized cost basis,~~recovery, which may be maturity, and management expects to recover the ~~Company does not consider~~entire amortized cost basis of these ~~investments to be other-than-temporarily impaired at December 31, 2016 or 2015~~.securities.

~~Private Label CMOs.~~ ~~At December 31, 2016, a total of 3 private label~~GSE Residential CMOs ~~have~~. The unrealized losses ~~all 3 of which were~~presented in the ~~12 months or more category. At December 31, 2015, the Company had 3 such securities with unrealized losses, all 3 of which were in the less than 12 months category. These unrealized losses~~table above have been caused by a widening of spreads and/or a rise in interest rates from the time these securities were purchased. The contractual terms of these securities do not permit the issuer to settle the securities at a price less than its par value basis. As of December 31, 2019 and 2018, management concluded that an OTTI did not exist on any of the aforementioned securities based upon its assessment. Management also concluded that it does not intend to sell nor will it be required to sell the securities, before their recovery, which may be maturity, and management expects to recover the entire amortized cost basis of these securities.

Non-agency CMOs. The unrealized losses presented in the table above have been caused by a widening of spreads and/or a rise in interest rates from the time the securities were purchased. ~~Because~~As of December 31, 2019, management concluded that an OTTI did not exist on any of the ~~Company~~aforementioned securities based upon its assessment. Management also concluded that it does not intend to sell ~~the investments and~~nor will it ~~is not more likely than not that the Company will~~ be required to sell the ~~investments~~securities, before ~~recovery of~~ their ~~amortized cost basis,~~recovery, which may be maturity, and management expects to recover the ~~Company~~entire amortized cost basis of these securities.

Private Label Residential CMOs, Private Label Commercial CMOs and Asset-backed and Other. The unrealized losses presented in the table above have been caused by a widening of spreads and/or a rise in interest rates from the time the securities were purchased. As of December 31, 2019 and 2018, management concluded that an OTTI did not exist on any of the aforementioned securities based upon its assessment. Management also concluded that it does not ~~consider~~intend to sell nor will it be required to sell the securities, before their recovery, which may be maturity, and management expects to recover the entire amortized cost basis of these ~~investments to be other-than-temporarily impaired at December 31, 2016.~~

securities.

The following table summarizes amortized cost and fair value of AFS securities ~~available for sale~~by contractual maturity at December 31, ~~2016 by contractual maturity.~~2019. Expected maturities may differ from contractual maturities if borrowers have the right to call or prepay obligations with or without call or prepayment penalties. Securities not due at a single maturity date are shown separately.


	Available for Sale
	Amortized Cost		Fair Value
Due in one year or less	$	230	$	230
Due after one year through five years	—		—
Due after five years through ten years	26,346		27,631
Due after ten years	57,031		60,002
CMOs	171,842		171,870
Asset-backed and other	235,544		230,653
	$	490,993	$	490,386

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Available for Sale
(Dollars in thousands) Amortized Cost Fair Value

Due in one year or less $ 15
$ 15
Due after one year through five years 7,157
7,258
Due after five years through ten years 72,205
72,817
Due after ten years 123,869
123,784
Mortgage-backed securities and CMOs 198,623
196,189
Total debt securities 401,869
400,063
Equity securities 50
91
Totals $ 401,919
$ 400,154

~~Proceeds~~The following table summarizes proceeds from sales of AFS securities ~~available for sale~~and gross gains and gross losses for the years ended December 31, ~~2016, 2015~~2019, 2018 and ~~2014 totaled $64,742,000, $65,611,000 and $169,573,000. Gross gains on the sales of~~2017.


	2019		2018		2017
Proceeds from sale of AFS securities	$	199,928	$	156,364	$	162,320
Gross gains	4,974		1,681		1,477
Gross losses	225		675		287

AFS securities totaled $1,468,000, $1,948,000 and $2,301,000 for the years ended December 31, 2016, 2015 and 2014. Gross losses on sales of securities available for sale totaled $48,000, $24,000 and $366,000 for the years ended December 31, 2016, 2015 and 2014.

~~Securities pledged at December 31, 2016 and 2015 had~~with a fair value of ~~$317,282,000~~$158.7 million and ~~$250,397,000~~$164.2 million at December 31, 2019 and 2018, respectively, were pledged to secure public funds and for other purposes as required or permitted by law.

NOTE 4. LOANS AND ALLOWANCE FOR LOAN LOSSES

The Company’s loan portfolio is grouped into classes to allow management to monitor the performance by the borrower and to monitor the yield on the portfolio. Consistent with ASU 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Loan Losses, the segments are further broken down into classes to allow for differing risk characteristics within a segment.

The risks associated with lending activities differ among the various loan classes and are subject to the impact of changes in interest rates, market conditions of collateral securing the loans, and general economic conditions. All of these factors may adversely impact both the borrower’s ability to repay its loans and associated collateral.

The Company has various types of commercial real estate loans, which have differing levels of credit risk. ~~Owner-occupied~~Owner occupied commercial real estate loans are generally dependent upon the successful operation of the borrower’s business, with the cash flows generated from the business being the primary source of repayment of the loan. If the business suffers a downturn in sales or profitability, the borrower’s ability to repay the loan could be in jeopardy.

Non-owner occupied and multi-family commercial real estate loans and non-owner occupied residential loans present a different credit risk to the Company than ~~owner-occupied~~owner occupied commercial real estate loans, as the repayment of the loan is dependent upon the borrower’s ability to generate a sufficient level of occupancy to produce rental income that exceeds debt service requirements and operating expenses. Lower occupancy or lease rates may result in a reduction in cash flows, which hinders the ability of the borrower to meet debt service requirements, and may result in lower collateral values. The Company generally recognizes that greater risk is inherent in these credit relationships as compared to ~~owner-occupied loans.~~owner occupied loans mentioned above.

Acquisition and development loans consist of 1-4 family residential construction and commercial and land development loans. The risk of loss on these loans is largely dependent on the Company’s ability to assess the property’s value at the completion of the project, which should exceed the property’s construction costs. During the construction phase, a number of factors could potentially negatively impact the collateral value, including cost overruns, delays in completing the project, competition, and real estate market conditions which may change based on the supply of similar properties in the area. In the event the collateral value at the completion of the project is not sufficient to cover the outstanding loan balance, the Company must rely upon other repayment sources, if any, including the guarantors of the project or other collateral securing the loan.

Commercial and industrial loans present credit exposure to the Company, as they are more susceptible to risk of loss during a downturn in the economy as borrowers may have greater difficulty in meeting their debt service requirements and the value of the collateral may decline. The Company attempts to mitigate this risk through its underwriting standards, including evaluating the ~~credit worthiness~~creditworthiness of the borrower and, to the extent available, credit ratings onof the business. Additionally, monitoring of the loans through annual renewals and meetings with the borrowers are typical. However, these procedures cannot eliminate the risk of loss associated with commercial and industrial lending.

Municipal loans consist of extensions of credit to municipalities and school districts within the Company’s market area. These loans generally present a lower risk than commercial and industrial loans, as they are generally secured by the municipality’s full taxing authority, by revenue obligations, or by its ability to raise assessments on its ~~customers~~clients for a specific utility.

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The Company originates loans to its retail ~~customers,~~clients, including fixed-rate and adjustable first lien mortgage loans with the underlying 1-4 family ~~owner-occupied~~owner occupied residential property securing the loan. The Company’s risk exposure is minimized in these types of loans through the evaluation of the ~~credit worthiness~~creditworthiness of the borrower, including credit scores and debt-to-income ratios, and underwriting standards which limit the loan-to-value ratio to generally no more than 80% upon loan origination, unless the borrower obtains private mortgage insurance.

Home equity loans, including term loans and lines of credit, present a slightly higher risk to the Company than 1-4 family first liens, as these loans can be first or second liens on 1-4 family owner occupied residential property, but can have loan-to-value ratios of no greater than 90% of the value of the real estate taken as collateral. The ~~credit worthiness~~creditworthiness of the borrower is considered including credit scores and debt-to-income ~~ratios, which generally cannot exceed 43%.~~ratios.

Installment and other loans’ credit risk are mitigated through ~~conservative~~prudent underwriting standards, including ~~the~~ evaluation of the ~~credit worthiness~~creditworthiness of the borrower through credit scores and debt-to-income ratios and, if secured, the collateral value of the assets. ~~As these~~These loans can be unsecured or secured by assets the value of which may depreciate quickly or may fluctuate, ~~they typically~~and may present a greater risk to the Company than 1-4 family residential loans.

The following table presents the loan portfolio by segment and class, excluding residential ~~loans held for sale, broken out by classes~~LHFS, at December 31, ~~was as follows:~~2019 and 2018.


						2019		2018
(Dollars in thousands)	2016		2015
Commercial real estate:					Commercial real estate:
Owner-occupied	$	112,295	$	103,578	Owner-occupied	$	170,884	$	129,650
Non-owner occupied	206,358		145,401		Non-owner occupied	361,050		252,794
Multi-family	47,681		35,109		Multi-family	106,893		78,933
Non-owner occupied residential	62,533		54,175		Non-owner occupied residential	120,038		100,367
Acquisition and development:					Acquisition and development:
1-4 family residential construction	4,663		9,364		1-4 family residential construction	15,865		7,385
Commercial and land development	26,085		41,339		Commercial and land development	41,538		42,051
Commercial and industrial	88,465		73,625		Commercial and industrial	214,554		160,964
Municipal	53,741		57,511		Municipal	47,057		50,982
Residential mortgage:					Residential mortgage:
First lien	139,851		126,022		First lien	336,372		235,296
Home equity – term	14,248		17,337		Home equity – term	14,030		12,208
Home equity – lines of credit	120,353		110,731		Home equity – lines of credit	165,314		143,616
Installment and other loans	7,118		7,521		Installment and other loans	50,735		33,411
	$	883,391	$	781,713
Total loans ⁽¹⁾					Total loans ⁽¹⁾	$	1,644,330	$	1,247,657

(Dollars in thousands)
Carrying
Amount
Fair Value Level 1 Level 2 Level 3
December 31, 2016
Financial Assets
Cash and due from banks $ 16,072
$ 16,072
$ 16,072
$ 0
$ 0
Interest-bearing deposits with banks 14,201
14,201
14,201
0
0
Restricted investments in bank stock 7,970
n/a
n/a
n/a
n/a
Securities available for sale 400,154
400,154
0
400,154
0
Loans held for sale 2,768
2,843
0
2,843
0
Loans, net of allowance for loan losses 870,616
870,470
0
0
870,470
Accrued interest receivable 4,672
4,672
0
2,643
2,029
Financial Liabilities
Deposits 1,152,452
1,149,727
0
1,149,727
0
Short-term borrowings 87,864
87,864
0
87,864
0
Long-term debt 24,163
24,966
0
24,966
0
Accrued interest payable 437
437
0
437
0
Off-balance sheet instruments 0
0
0
0
0
December 31, 2015
Financial Assets
Cash and due from banks $ 11,412
$ 11,412
$ 11,412
$ 0
$ 0
Interest-bearing deposits with banks 16,928
16,928
16,928
0
0
Restricted investments in bank stock 8,720
n/a
n/a
n/a
n/a
Securities available for sale 394,124
394,124
0
394,124
0
Loans held for sale 5,917
6,045
0
6,045
0
Loans, net of allowance for loan losses 768,145
776,067
0
0
776,067
Accrued interest receivable 3,845
3,845
0
2,257
1,588
Financial Liabilities
Deposits 1,032,167
1,032,265
0
1,032,265
0
Short-term borrowings 89,156
89,156
0
89,156
0
Long-term debt 24,495
25,357
0
25,357
0
Accrued interest payable 366
366
0
366
0
Off-balance sheet instruments 0
0
0
0
0

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NOTE ~~18.~~20. REVENUE FROM CONTRACTS WITH CLIENTS

On January 1, 2018, the Company adopted ASU 2014-09, Revenue from Contracts with Customers (Topic 606) and all subsequent amendments (collectively “ASC 606”). The update implements a common revenue standard that clarifies the principles for recognizing revenue. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods or services to clients in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The majority of the Company's revenue comes from interest income, including loans and securities, that are outside the scope of ASC 606. The Company's services that fall within the scope of ASC 606 are presented within noninterest income on the consolidated statements of income and are recognized as revenue as the Company satisfies its obligation to the client. Services within the scope of ASC 606 include service charges on deposit accounts, income from fiduciary investment management and brokerage activities and interchange fees from service charges on ATM and debit card transactions. ASC 606 did not result in a change to the accounting for any in-scope revenue streams; as such, no cumulative effect adjustment was recorded.

Descriptions of revenue generating activities that are within the scope of ASC 606 are as follows:

Service Charges on Deposit Accounts - The Company earns fees from its deposit clients for transaction-based, account maintenance, and overdraft services. Transaction-based fees, which include services such as ATM use fees, stop payment charges, statement rendering, and ACH fees, are recognized at the time the transaction is executed as that is the point in time the Company fulfills the client's request. Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of a month, representing the period over which the Company satisfies the performance obligation. Overdraft fees are recognized at the point in time that the overdraft occurs. Service charges on deposits are withdrawn from the client's account balance.

Interchange Income - The Company earns interchange fees from debit/credit cardholder transactions conducted through the MasterCard payment network. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services provided to the cardholder. Interchange income is presented net of cardholder rewards.

Loan swap referral fees - The Company earns fees from a third-party service provider for loan hedging referrals provided to lending clients. The Company acts as an agent in arranging the relationship between our client and the third-party service provider. The company is paid and recognizes income upon completion of the loan hedge between our client and the third-party service provider.

Trust and Investment Management Income - The Company earns wealth management and investment brokerage fees from its contracts with trust and wealth management clients to manage assets for investment, and/or to transact on their accounts. These fees are primarily earned over time as the Company provides the contracted services and are generally assessed based on a tiered scale of the market value of assets under management. Fees that are transaction based, including trade execution services, are recognized at the point in time that the transaction is executed, i.e., the trade date. Other related services provided included financial planning services and the associated fees the Company earns, which are based on a fixed fee schedule, are recognized when the services are rendered. Services are generally billed in arrears and a receivable is recorded until fees are paid.

Brokerage Income - The Company earns fees from investment management and brokerage services provided to its clients through a third-party service provider. The Company receives commissions from the third-party service provider and recognizes income on a weekly basis based upon client activity. As the Company acts as an agent in arranging the relationship between the client and the third-party service provider and does not control the services rendered to the clients, brokerage income is presented net of related costs.

Gains/Losses on Sales of OREO - The Company records a gain or loss on the sale of OREO when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. If the Company finances the sale of OREO to the buyer, the Company assesses whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the OREO asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer. In determining the gain or loss on the sale, the Company adjusts the transaction price and related gain or loss on sale if a significant financing component is present.

At December 31, 2019 and December 31, 2018, the Company had receivables from trust and wealth management clients totaling $719 thousand and $640 thousand, respectively.

111

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The following table presents the Company's noninterest income disaggregated by revenue source for the years ended December 31, 2019, 2018 and 2017.


	2019		2018		2017
Noninterest income
Service charges on deposit accounts	$	3,793	$	3,578	$	3,392
Loan swap referral fees	1,197		—		—
Trust and investment management income	7,255		6,576		6,400
Brokerage income	2,426		2,035		1,896
Interchange income	3,281		2,821		2,618
Revenue from contracts with clients	17,952		15,010		14,306

Other service charges	416		562		235
Mortgage banking activities	3,049		2,663		2,919
Income from life insurance	2,044		1,463		1,109
Other income	331		320		190
Investment securities gains	4,749		1,006		1,190
Total noninterest income	$	28,541	$	21,024	$	19,949

NOTE 21. ORRSTOWN FINANCIAL SERVICES, INC. (PARENT COMPANY ONLY) CONDENSED FINANCIAL INFORMATION

Condensed ~~financial information at and for the years ended 12/31 follows:~~

~~Condensed~~ Balance Sheets


	December 31,
	2019		2018
Assets
Cash in Orrstown Bank	$	11,568	$	28,596



Investment in Orrstown Bank	242,041		175,299

Other assets	1,724		2,057
Total assets	$	255,333	$	205,952
Liabilities
Subordinated notes	$	31,847	$	31,859
Accrued interest and other liabilities	237		660
Total liabilities	32,084		32,519
Shareholders’ Equity
Common stock	584		491
Additional paid-in capital	188,365		151,678
Retained earnings	35,246		24,472
Accumulated other comprehensive loss	(480)		(2,972)
Treasury stock	(466)		(236)
Total shareholders’ equity	223,249		173,433
Total liabilities and shareholders’ equity	$	255,333	$	205,952

112

(Dollars in thousands) 2016 2015
Assets
Cash in Orrstown Bank $ 10,263
$ 14,032
Deposits with other banks 307
321
Total cash 10,570
14,353
Securities available for sale 91
73
Investment in Orrstown Bank 121,362
117,163
Other assets 3,519
1,561
Total assets $ 135,542
$ 133,150

Liabilities $ 683
$ 89
Shareholders’ Equity
Common stock 437
435
Additional paid-in capital 124,935
124,317
Retained earnings 11,669
7,939
Accumulated other comprehensive income (loss) (1,165 ) 1,199
Treasury stock (1,017 ) (829 )
Total shareholders’ equity 134,859
133,061
Total liabilities and shareholders’ equity $ 135,542
$ 133,150

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Condensed Statements of Income


	For the Years Ended December 31,
	2019		2018		2017
Income
Dividends from bank subsidiary	$	2,000	$	4,450	$	—
Interest income from bank subsidiary	257		7		15
Other income	55		102		61

Total income	2,312		4,559		76
Expenses
Interest on short-term borrowings	—		57		—
Interest on subordinated notes	1,987		73		—
Total interest expense	1,987		130		—
Share-based compensation	236		205		247
Management fee to bank subsidiary	1,350		1,042		501
Merger related expenses	1,574		1,545		—
Other expenses	802		656		1,116
Total expenses	5,949		3,578		1,864
(Loss) income before income tax benefit and equity in undistributed income of subsidiaries	(3,637)		981		(1,788)
Income tax benefit	(1,182)		(735)		(596)
(Loss) income before equity in undistributed income of subsidiaries	(2,455)		1,716		(1,192)
Equity in undistributed income of subsidiaries	19,379		11,089		9,282
Net income	$	16,924	$	12,805	$	8,090

113

(Dollars in thousands) 2016 2015 2014
Income
Dividends from subsidiaries $ 2,200
$ 17,900
$ 0
Other interest and dividend income 38
3
2
Other income 62
35
70
Total income 2,300
17,938
72
Expenses
Share-based compensation 216
135
17
Management fee to Bank 504
500
277
Other expenses 2,152
1,720
1,042
Total expenses 2,872
2,355
1,336
Income (loss) before income taxes and equity in undistributed income or distributions in excess of income of subsidiaries (572 ) 15,583
(1,264 )
Income tax benefit (606 ) (831 ) (474 )
Income (loss) before equity in undistributed income (distributions in excess of income) of subsidiaries 34
16,414
(790 )
Equity in undistributed income (distributions in excess of income) of subsidiaries 6,594
(8,540 ) 29,932
Net income $ 6,628
$ 7,874
$ 29,142

Table of Contents

Condensed Statements of Cash Flows


	For the Years Ended December 31,
	2019		2018		2017
Cash flows from operating activities:
Net income	$	16,924	$	12,805	$	8,090
Adjustments to reconcile net income to cash provided by (used in) operating activities:
Amortization	47		3		—
Deferred income taxes	16		22		16


Equity in undistributed income of subsidiaries	(19,379)		(11,089)		(9,282)
Share-based compensation	236		205		247
Net change in other liabilities	(423)		12		(35)
Net change in other assets	311		2,039		(377)

Net cash (used in) provided by operating activities	(2,268)		3,997		(1,341)
Cash flows from investing activities:



Capital contributed to subsidiaries	(100)		—		(6,100)
Net cash paid for acquisitions	(8,142)		(4,597)		—

Net cash used in investing activities	(8,242)		(4,597)		(6,100)
Cash flows from financing activities:
Dividends paid	(6,150)		(4,375)		(3,488)
Proceeds from issuance of subordinated notes, net of costs	—		31,857		—

Proceeds from issuance of common stock	1,463		1,448		1,276
Payments to repurchase common stock	(1,772)		(651)		—
Other, net	(59)		—		—

Net cash (used in) provided by financing activities	(6,518)		28,279		(2,212)
Net (decrease) increase in cash	(17,028)		27,679		(9,653)
Cash, beginning	28,596		917		10,570
Cash, ending	$	11,568	$	28,596	$	917

(Dollars in thousands) 2016 2015 2014
Cash flows from operating activities:
Net income $ 6,628
$ 7,874
$ 29,142
Adjustments to reconcile net income to cash used in operating activities:
Deferred income taxes 4
(53 ) (25 )
Gains on affiliate dissolution 0
0
(54 )
Equity in (undistributed income) distributions in excess of income of subsidiaries (6,594 ) 8,540
(29,932 )
Share-based compensation 216
135
17
Net change in other liabilities (6 ) 17
(26 )
Other, net (849 ) (712 ) (270 )
Net cash provided by (used in) operating activities (601 ) 15,801
(1,148 )
Cash flows from investing activities:
Other, net (500 ) 0
(72 )
Net cash used in investing activities (500 ) 0
(72 )
Cash flows from financing activities:
Dividends paid (2,898 ) (1,822 ) 0
Proceeds from issuance of common stock 847
794
105
Payments to repurchase common stock (631 ) (809 ) 0
Net cash provided by (used in) financing activities (2,682 ) (1,837 ) 105
Net increase (decrease) in cash (3,783 ) 13,964
(1,115 )
Cash, beginning balance 14,353
389
1,504
Cash, ending balance $ 10,570
$ 14,353
$ 389

NOTE ~~19.~~22. CONTINGENCIES

The nature of the Company’s business generates a certain amount of litigation involving matters arising out of the ordinary course of business. Except as described below, in the opinion of management, there are no0 legal proceedings that might have a material effect on the results of operations, liquidity, or the financial position of the Company at this time.

On May 25, 2012, SEPTA filed a putative class action complaint in the ~~United States~~U.S. District Court for the Middle District of Pennsylvania against the Company, the Bank and certain current and former directors and executive officers (collectively, the ~~“Defendants”~~“Orrstown Defendants”). The complaint alleges, among other things, that (i) in connection with the Company’s Registration Statement on Form S-3 dated February 23, 2010 and its Prospectus Supplement dated March 23, 2010, and (ii) during the purported class period of March 24, 2010 through October 27, 2011, the Company issued materially false and misleading statements regarding the Company’s lending practices and financial results, including misleading statements concerning the stringent nature of the Bank’s credit practices and underwriting standards, the quality of its loan portfolio, and the intended use of the proceeds from the Company’s March 2010 public offering of common stock. The complaint asserts claims under Sections 11, 12(a) and 15 of the Securities Act of 1933, Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, and seeks class certification, unspecified money damages, interest, costs, fees and equitable or injunctive relief. Under the Private Securities Litigation Reform Act of 1995 (“PSLRA”), motions for appointment of Lead Plaintiff in this case were due by July 24, 2012. SEPTA was the sole movant and the Court appointed SEPTA Lead Plaintiff on August 20, 2012.

Pursuant to the PSLRA and the Court’s September 27, 2012 Order, SEPTA was given until October 26, 2012 to file an amended complaint and the Orrstown Defendants until December 7, 2012 to file a motion to dismiss the amended complaint. SEPTA’s opposition to the ~~Defendant’s~~Orrstown Defendants’ motion to dismiss was originally due January 11, 2013. Under the PSLRA,

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discovery and all other proceedings in the case were stayed pending the Court’s ruling on the motion to dismiss. The September 27, 2012 Order specified that if the motion to dismiss were denied, the Court would schedule a conference to address discovery and the filing of a motion for class certification. On October 26, 2012, SEPTA filed an unopposed motion for enlargement of time to file its amended complaint in order to permit the parties and new defendants to be named in the amended complaint time to discuss plaintiff’s claims and defendants’ defenses. On October 26, 2012, the Court granted SEPTA’s motion, mooting its September 27, 2012 scheduling Order, and requiring SEPTA to file its amended complaint on or before January 16, 2013 or otherwise

advise the Court of circumstances that require a further enlargement of time. On January 14, 2013, the Court granted SEPTA’s second unopposed motion for enlargement of time to file an amended complaint on or before March 22, 2013.

On March 4, 2013, SEPTA filed an amended complaint. The amended complaint ~~expands~~expanded the list of defendants in the action to include the Company’s former independent registered public accounting firm, Smith Elliott Kearns & Company, LLC (“SEK”), and the underwriters of the Company’s March 2010 public offering of common stock. In addition, among other things, the amended complaint extends the purported 1934 Exchange Act class period from March 15, 2010 through April 5, 2012. Pursuant to the Court’s March 28, 2013 Second Scheduling Order, on May 28, 2013, all defendants filed their motions to dismiss the amended complaint, and on July 22, 2013, SEPTA filed its “omnibus” opposition to all of the defendants’ motions to dismiss. On August 23, 2013, all defendants filed reply briefs in further support of their motions to dismiss. On December 5, 2013, the Court ordered oral argument on the Orrstown Defendants’ motion to dismiss the amended complaint to be heard on February 7, 2014. Oral argument on the pending motions to dismiss SEPTA’s amended complaint was held on April 29, 2014.

The Second Scheduling Order stayed all discovery in the case pending the outcome of the motions to dismiss, and informed the parties that, if required, a telephonic conference to address discovery and the filing of SEPTA’s motion for class certification would be scheduled after the Court’s ruling on the motions to dismiss.

On April 10, 2015, pursuant to Court order, all parties filed supplemental briefs addressing the impact of the ~~United States~~U.S. Supreme Court’s March 24, 2015 decision in Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund on defendants’ motions to dismiss the amended complaint.

On June 22, 2015, in a 96-page Memorandum, the Court dismissed without prejudice SEPTA’s amended complaint against all defendants, finding that SEPTA failed to state a claim under either the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended. The Court ordered that, within 30 days, SEPTA either seek leave to amend its amended complaint, accompanied by the proposed amendment, or file a notice of its intention to stand on the amended complaint.

On July 22, 2015, SEPTA filed a motion for leave to amend under Local Rule 15.1, and attached a copy of its proposed second amended complaint to its motion. Many of the allegations of the proposed second amended complaint are essentially the same or similar to the allegations of the dismissed amended complaint. The proposed second amended complaint also alleges that the Orrstown Defendants did not publicly disclose certain alleged failures of internal controls over loan underwriting, risk management, and financial reporting during the period 2009 to 2012, in violation of the federal securities laws. On February 8, 2016, the Court granted SEPTA’s motion for leave to amend and SEPTA filed its second amended complaint that same day.

On February 25, 2016, the Court issued a scheduling Order directing: all defendants to file any motions to dismiss by March 18, 2016; SEPTA to file an omnibus opposition to defendants’ motions to dismiss by April 8, 2016; and all defendants to file reply briefs in support of their motions to dismiss by April 22, 2016. Defendants timely filed their motions to dismiss the second amended complaint and the parties filed their briefs in accordance with the Court-ordered schedule, above. The February 25, 2016 Order stays all discovery and other deadlines in the case (including the filing of SEPTA’s motion for class certification) pending the outcome of the motions to dismiss.

The allegations of SEPTA’s ~~proposed~~ second amended complaint disclosed the existence of a confidential, non-public, fact-finding inquiry regarding the Company being conducted by the ~~Commission.~~SEC. As disclosed in the Company’s Form 8-K filed on September 27, 2016, on that date the Company entered into a settlement agreement with the ~~Commission~~SEC resolving the investigation of accounting and related matters at the Company for the periods ended June 30, 2010, to December 31, 2011. As part of the settlement of the ~~Commission’s~~SEC’s administrative proceedings and pursuant to the cease-and-desist order, without admitting or denying the ~~Commission’s~~SEC’s findings, the Company, its Chief Executive Officer, its former Chief Financial Officer, isits former Executive Vice President and Chief Credit Officer, and its Chief Accounting Officer, agreed to pay civil money penalties to the ~~Commission.~~SEC. The Company agreed to pay a civil money penalty of ~~$1,000,000.~~$1.0 million. The Company had previously established a reserve for that amount which was expensed in the second fiscal quarter of 2016. In the settlement agreement with the ~~Commission,~~SEC, the Company also agreed to cease and desist from committing or causing any violations and any future violations of Securities Act Sections 17(a)(2) and 17(a)(3) and Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B), and Rules 12b-20, 13a-1 and 13a-13 promulgated thereunder.

On September 27, 2016, the Orrstown Defendants filed with the Court a Notice of Subsequent Event in Further Support of their Motion to Dismiss the Second Amended Complaint, regarding the settlement with the ~~Commission.~~SEC. The Notice attached a copy of the ~~Commission’s~~SEC’s cease-and-desist order and briefly described what the Company ~~believes are~~believed were the most salient terms of the ~~neither-admit-nor-deny~~neither-

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admit-nor-deny settlement. On September 29, 2016, SEPTA filed a Response to the Notice, in which SEPTA argued that the settlement with the ~~Commission~~SEC did not support dismissal of the second amended complaint.

On December 7, 2016, the Court issued an Order and Memorandum granting in part and denying in part defendants’ motions to dismiss SEPTA’s second amended complaint. The Court granted the motions to dismiss the ~~1933~~ Securities Act

claims against all defendants, and granted the motions to dismiss the ~~1934 Securities~~ Exchange Act ~~section~~Section 10(b) and Rule 10b-5 claims against all defendants except Orrstown Financial Services, Inc., Orrstown Bank, Thomas R. Quinn, Jr., Bradley S. Everly, and Jeffrey W. Embly. The Court also denied the motions to dismiss the ~~1934 Securities~~ Exchange Act ~~section~~Section 20(a) claims against Quinn, Everly, and Embly.

On January 31, 2017, the Court entered a Case Management Order establishing the schedule for the ~~litigation. The Case Management~~litigation and, on August 15, 2017, it entered a revised Order that, among other things, ~~sets~~set the following deadlines: all fact discovery closes on ~~November 3, 2017,~~March 1, 2018, and SEPTA’s motion for class certification is due the same day; expert merits discovery closes ~~March~~May 30, 2018; summary judgment motions are due by ~~April 27,~~June 26, 2018; the mandatory pretrial and settlement conference is set for ~~September~~December 11, 2018; and trial is scheduled to begin on January 7, 2019.

On December 15, 2017, the Orrstown Defendants and SEPTA exchanged expert reports in opposition to and in support of class certification, respectively. On January 15, 2018, the parties exchanged expert rebuttal reports. SEPTA’s motion for class certification was due March 1, 2018, with the Orrstown Defendants’ opposition due April 2, 2018, and SEPTA’s reply due April 23, 2018.

On February 9, 2018, SEPTA filed a Status Report and Request for a Telephonic Status Conference asking the Court to convene a conference to discuss the status of discovery in the case and possible revisions to the case schedule. On February 12, 2018, the Orrstown Defendants filed their status report to provide the Court with a summary of document discovery in the case to date. On February 27, 2018, SEPTA filed an unopposed motion for a continuance of the existing case deadlines pending a status conference with the Court or the issuance of a revised case schedule. On February 28, 2018, the Court issued an Order continuing all case management deadlines until further order of the Court.

On March 27, 2018, the Court held a telephonic status conference with the parties to discuss outstanding discovery issues and case deadlines. On May 2, 2018, the parties filed a joint status report. On May 10, 2018, the Court held a follow-up telephonic status conference at which the parties reported on the progress of discovery to date. Party and non-party document discovery in the case has continued. To date, SEPTA has taken a few non-party depositions.

On August 9, 2018, SEPTA filed a motion to compel the production of Confidential Supervisory Information (CSI) of non-parties the Board of Governors of the Federal Reserve System (FRB) and the Pennsylvania Department of Banking and Securities, in the possession of Orrstown and third parties. On August 23, 2018, the Orrstown Defendants filed a response to the motion to compel. On August 30, 2018, the FRB filed an unopposed motion to intervene in the Action for the ~~month~~purpose of opposing SEPTA’s motion to compel, and on September 27, 2018, the FRB filed its brief in opposition to SEPTA’s motion. On October ~~2018.~~11, 2018, SEPTA filed its reply brief in support of its motion to compel. On February 12, 2019, the Court denied SEPTA’s motion to compel the production of CSI on the ground that SEPTA had failed to exhaust its administrative remedies.

On April 11, 2019, SEPTA filed a motion for leave to file a third amended complaint. The proposed third amended complaint seeks to reassert the Securities Act claims that the Court dismissed as to all defendants on December 7, 2016, when the Court granted in part and denied in part defendants’ motions to dismiss SEPTA’s second amended complaint. The proposed third amended complaint also seeks to reassert the Exchange Act claims against those defendants that the Court dismissed from the case on December 7, 2016. Defendants’ briefs in opposition to SEPTA’s motion for leave to file a third amended complaint were filed on April 25, 2019. SEPTA filed a reply brief in further support of its motion for leave to file a third amended complaint on May 9, 2019.

On June 13, 2019, Orrstown filed a motion for protective order to stay discovery pending resolution of SEPTA’s motion for leave to file a third amended complaint. On June 19, 2019, former defendants SEK and the underwriters of the Company’s March 2010 public offering joined in Orrstown’s motion for protective order. On June 25, 2019, SEPTA filed its opposition to Orrstown’s motion. On July 9, 2019, Orrstown filed a reply brief in further support of its motion. On July 17, 2019, the Court entered an Order partially granting Orrstown’s motion for protective order, ruling that all deposition discovery in the case is stayed pending a decision on SEPTA’s motion for leave to file a third amended complaint.

On February 14, 2020, the Court issued an Order and Memorandum granting SEPTA’s motion for leave to file a third amended complaint.The third amended complaint is now the operative complaint.It reinstates the Orrstown Defendants, as well as SEK and the underwriter defendants, previously dismissed from the case on December 7, 2016.The third amended complaint also revives the previously-dismissed 1933 Securities Act claim against the Orrstown Defendants and the underwriter defendants.Under the Court-ordered briefing schedule, all defendants’ motions to dismiss the third amended complaint are due March 27, 2020, SEPTA’s oppositions are due May 1, 2020, and defendants’ reply briefs are due May 22, 2020.

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On February 24, 2020, the Orrstown Defendants, and the underwriter defendants and SEK, separately filed motions under 28 U.S.C. § 1292(b) asking the Court to certify its February 14, 2020 Order for interlocutory appeal to the Third Circuit Court of Appeals.That motion is pending.

The Company believes that the allegations of SEPTA’s ~~second~~third amended complaint are without merit and intends to ~~vigorously~~ defend itself vigorously against those claims. It is not possible at this time to estimate reasonably possible losses, or even a range of reasonably possible losses, in connection with the litigation.

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ITEM 9 – CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A – CONTROLS AND PROCEDURES

Based on the evaluation required by Securities Exchange Act ~~of 1934, as amended,~~ Rules 13a-15(b) and 15d-15(b), the Company's management, including the Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures, as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e), at December 31, ~~2016.~~2019. Based on that evaluation, ~~the~~our Chief Executive Officer and Chief Financial Officer concluded that ~~the~~our disclosure controls and procedures were effective at December 31, ~~2016.~~2019. There ~~were~~have been no changes in internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting during the fourth quarter of ~~2016.~~2019.

Management's Report on Internal Controls Over Financial Reporting is included in Part II, Item 8, "Financial Statements and Supplementary Data." The effectiveness of the Company's internal control over financial reporting at December 31, ~~2016~~2019 has been audited by Crowe ~~Horwath~~ LLP, an independent registered public accounting firm, as stated in the Report of Independent Registered Public Accounting Firm appearing in Part II, Item 8, "Financial Statements and Supplementary Data."

ITEM 9B – OTHER INFORMATION

None.

PART III

ITEM 10 – DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

The Company has adopted a code of ethics that applies to all senior financial officers (including its chief executive officer, chief financial officer, chief accounting officer, and any person performing similar functions). You can find a copy of the Code of Ethics for Senior Financial Officers by visiting our website at www.orrstown.com and following the links to “Investor Relations” and “Governance Documents.” A copy of the Code of Ethics for Senior Financial Officers may also be obtained, free of charge, by written request to Orrstown Financial Services, Inc., 77 East King Street, PO Box 250, Shippensburg, Pennsylvania 17257, Attention: Secretary. The Company intends to disclose any amendments to or waivers from a provision of the Company’s Code of Ethics for Senior Financial Officers in a timely manner.

All other information required by Item 10 is incorporated by reference from the Company’s definitive proxy statement for the ~~2017~~2020 Annual Meeting of Shareholders filed pursuant to Regulation 14A, under Section 16(a) Beneficial Ownership Reporting Compliance and Proposal 1 – Election of Directors – Biographical Summaries of Nominees and Directors; Information About Executive Officers; Involvement in Certain Legal Proceedings; and Proposal 1 – Election of Directors – Nomination of Directors, and Board Structure, Committees and Meeting Attendance.

ITEM 11 – EXECUTIVE COMPENSATION

The information required by Item 11 is incorporated by reference from the Company’s definitive proxy statement for the ~~2017~~2020 Annual Meeting of Shareholders filed pursuant to Regulation 14A, under Proposal 1 – Election of Directors – Compensation of Directors, Compensation Discussion and Analysis, Compensation Committee Report, Executive Compensation Tables, Potential Payments Upon Termination or Change in Control and Compensation Committee Interlocks and Insider Participation.

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ITEM 12 – SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The following table presents equity compensation plan information at December 31, ~~2016.~~2019.


Plan Category	Number of securities to be issued upon exercise of outstanding options, warrants and rights	Weighted average exercise price of outstanding options, warrants and rights		Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
	(a)	(b)		(c)

Equity compensation plan approved by security holders	27,767	$	21.14	455,028
Equity compensation plan not approved by security holders ⁽¹⁾	2,792	25.76		—
Total	30,559	$	21.56	455,028
⁽¹⁾ Awards from the Non-Employee Director Stock Option Plan of 2000. Certain options granted remain outstanding from this plan, however no additional options will be granted under this plan.

Plan Category
Number of securities to be
issued upon exercise of
outstanding options,
warrants and rights

Weighted
average exercise
price of outstanding
options, warrants and
rights

Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
(a) (b) (c)

Equity compensation plan approved by security holders 67,295
$ 27.15
136,951
Equity compensation plan not approved by security holders (1) 13,075
28.50
0
Total 80,370
$ 27.37
136,951


~~(1)~~	~~Awards from the Non-Employee Director Stock Option Plan of 2000. Certain options granted remain outstanding from this plan, however no additional options will be granted under this plan.~~

All other information required by Item 12 is incorporated, by reference, from the Company’s definitive proxy statement for the ~~2017~~2020 Annual Meeting of Shareholders filed pursuant to Regulation 14A, under Share Ownership of Certain Beneficial Owners and Management.

ITEM 13 – CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The information required by Item 13 is incorporated by reference from the Company’s definitive proxy statement for the ~~2017~~2020 Annual Meeting of Shareholders filed pursuant to Regulation 14A, under Proposal 1 – Election of Directors – Director Independence, and Transactions with Related Persons, Promoters and Certain Control Persons.

ITEM 14 – PRINCIPAL ~~ACCOUNTANT~~ACCOUNTING FEES AND SERVICES

The information required by Item 14 is incorporated by reference from the Company’s definitive proxy statement for the ~~2017~~2020 Annual Meeting of Shareholders filed pursuant to Regulation 14A, under Proposal 3 – Ratification of the Audit

Committee’s Selection of Crowe ~~Horwath~~ LLP as the Company’s Independent Registered Public Accounting Firm for the Fiscal Year Ending December 31, ~~2016~~2019 – Relationship with Independent Registered Public Accounting Firm.

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PART IV

ITEM 15 – EXHIBITS, ~~AND~~ FINANCIAL STATEMENT SCHEDULES


~~(a)~~	~~The following documents are filed as part of this report:~~

a.The following documents are filed as part of this report:

(1) – Financial Statements

Consolidated financial statements of the Company and subsidiaries required in response to this Item are incorporated by reference from Item 8 of this report.

(2) – Financial Statement Schedules

All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted.

(3) – Exhibits


2.1(a)		Agreement and Plan of Merger, dated May 31, 2018, by and between Orrstown Financial Services, Inc. and Mercersburg Financial Corporation, incorporated by reference to Exhibit 2.1 of the Registrant's Form 8-K filed June 1, 2018.

~~3.1~~2.1(b)		Agreement and Plan of Merger, dated October 23, 2018, by and between Orrstown Financial Services, Inc. and Hamilton Bancorp, Inc., incorporated by reference to Exhibit 2.1 of the Registrant's Form 8-K filed October 24, 2018.

3.1		Articles of Incorporation as amended, incorporated by reference to Exhibit 3.1 of the Registrant’s ~~Report on~~ Form 8-K filed on January 29, 2010.

3.2		By-laws as amended, incorporated by reference to Exhibit ~~3.1~~3.2 to the Registrant’s Report on Form 8-K filed ~~March 1, 2013.~~January 30, 2018.

4.1		Specimen Common Stock Certificate, incorporated by reference to the Registrant’s Registration Statement on Form S-3 filed February 8, 2010 (File No. 333-164780).

~~10.1(a)~~4.2		Subordinated Indenture, dated December 19, 2018, by and between Orrstown Financial Services, Inc., and U.S. Bank, National Association, incorporated by reference to Exhibit 4.1 of the Registrant's Form 8-K filed on December 20, 2018.

4.3		Form of Global Note for subordinated notes, incorporated by reference to Exhibit 4.2 of the Registrant's Form 8-K filed December 20, 2018.

4.4		Form of Registration Rights Agreement for subordinated notes, incorporated by reference to Exhibit 10.2 of the Registrant's Form 8-K filed December 20, 2018.

10.1(a)		Form of Change in Control Agreement for selected officers – incorporated by reference to Exhibit 10.1 of the Registrant’s Form 8-K filed May 14, 2008.

10.1(b)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Thomas R. Quinn, Jr. incorporated by reference to Exhibit 10.2 of the Registrant’s Form 8-K filed June 8, 2015.

10.1(c)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and ~~David Boyle,~~Thomas R. Quinn, Jr. incorporated by reference to Exhibit 10.2 to the Registrant's Form 8-K filed ~~June 2, 2015.~~September 27, 2019.

10.1(d)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Philip E. Fague, incorporated by reference to Exhibit 10.4 to the Registrant's Form 8-K filed June 2, 2015.

10.1(e)		~~Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Benjamin W. Wallace, incorporated by reference to Exhibit 10.6 to the Registrant's Form 8-K filed June 2, 2015.~~

~~10.1(f)~~	Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Robert G. Coradi, incorporated by reference to Exhibit 10.8 to the Registrant's Form 8-K filed June 2, 2015.

~~10.1(g)~~10.1(f)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Barbara E. Brobst, incorporated by reference to Exhibit 10.10 to the Registrant's Form 8-K filed June 2, 2015.

~~10.2(a)~~10.1(g)		~~Amended and Restated Salary Continuation~~ Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and ~~Kenneth R. Shoemaker,~~Adam L. Metz, incorporated by reference to Exhibit 10.2 ~~(a) of~~to the ~~Registrant’s~~Registrant's Form ~~10-K~~8-K filed March ~~15, 2010.~~14, 2017.

~~10.2(b)~~10.1(h)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Robert J. Fignar, incorporated by reference to Exhibit 10.3 to the Registrant's Form 8-K filed June 1, 2018.

10.1(i)		Change in Control Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Thomas R. Brugger, incorporated by reference to Exhibit 10.2 to the Registrant's Form 8-K filed June 25, 2019.

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10.2(a)						Amended and Restated Salary Continuation Agreement between Orrstown Bank and Phillip E. Fague, incorporated by reference to Exhibit 10.2 (b) of the Registrant’s Form 10-K filed March 15, 2010.

~~10.2(c)~~10.2(b)						Salary Continuation Agreement between Orrstown Bank and Thomas R. Quinn, Jr. – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K filed January 8, 2010.

~~10.2(d)~~10.2(c)						Salary Continuation Agreement between Orrstown Bank and Thomas R. Quinn, Jr. – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K filed September 27, 2019.

10.2(d)						Salary Continuation Agreement between Orrstown Bank and David P. Boyle – incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K filed July 17, 2015.

10.3						Officer group term replacement plan for selected officers – incorporated by reference to Exhibit 10.2 to Registrant’s Form 10-K for the year ended December 31, 1999 filed March ~~26,~~28, 2000.

10.4(a)						Director Retirement Agreement, as amended, between Orrstown Bank and Anthony F. Ceddia, incorporated by reference to Exhibit 10.4(a) to the Registrant’s Form 10-K filed March 15, 2010.

10.4(b)						Director Retirement Agreement, as amended, between Orrstown Bank and Jeffrey W. Coy, incorporated by reference to Exhibit 10.4(b) to the Registrant’s Form 10-K filed March 15, 2010.


10.4(c)
~~10.4(c)~~				Director Retirement Agreement, as amended, between Orrstown Bank and Andrea Pugh, incorporated by reference to Exhibit 10.4(c) to the Registrant’s Form 10-K filed March 15, 2010.



10.4(d)			Director Retirement Agreement, as amended, between Orrstown Bank and Gregory A. Rosenberry, incorporated by reference to Exhibit 10.4(d) to the Registrant’s Form 10-K filed March 15, 2010.

10.4(e)		~~Director Retirement Agreement, as amended, between Orrstown Bank and Kenneth R. Shoemaker, incorporated by reference to Exhibit 10.4(e) to the Registrant’s Form 10-K filed March 15, 2010.~~

~~10.4(f)~~	Director Retirement Agreement, as amended, between Orrstown Bank and Glenn W. Snoke, incorporated by reference to Exhibit 10.4(f) to the Registrant’s Form 10-K filed March 15, 2010.

~~10.4(g)~~10.4(f)		~~Director Retirement Agreement, as amended, between Orrstown Bank and John S. Ward, incorporated by reference to Exhibit 10.4(g) to the Registrant’s Form 10-K filed March 15, 2010.~~

~~10.4(h)~~	Director Retirement Agreement, as amended, between Orrstown Bank and Joel R. Zullinger, incorporated by reference to Exhibit 10.4(h) to the Registrant’s Form 10-K filed March 15, 2010.

10.5			Revenue neutral retirement plan – incorporated by reference to Exhibit 10.4 to the Registrant’s Form 10-K ~~for the year ended December 31, 1999~~ filed March 28, 2000.

10.6			Non-employee director stock option plan of 2000 – incorporated by reference to the Registrant’s registration statement on Form S-8 filed March 31, 2000.

10.7			Employee stock option plan of 2000 – incorporated by reference to the Registrant’s registration statement on Form S-8 filed March 31, 2000.

10.8			2011 Orrstown Financial Services, Inc. Stock Incentive Plan – incorporated by reference to Exhibit 10.1 of the Registrant’s registration statement on Form S-8 filed ~~June 6, 2011.~~May 24, 2018..

10.9(a)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Thomas R. Quinn, Jr. incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed June 8, 2015.

10.9(b)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and ~~David Boyle,~~Thomas R. Brugger, incorporated by reference to Exhibit 10.1 to ~~the Registrant's~~Registrant’s Form 8-K filed June ~~2, 2015.~~25, 2019.

10.9(c)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Philip E. Fague, incorporated by reference to Exhibit 10.3 to the Registrant's Form 8-K filed June 2, 2015.

10.9(d)		~~Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Benjamin W. Wallace, incorporated by reference to Exhibit 10.5 to the Registrant's Form 8-K filed June 2, 2015.~~

~~10.9(e)~~	Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Robert G. Coradi, incorporated by reference to Exhibit 10.7 to the Registrant's Form 8-K filed June 2, 2015.

~~10.9(f)~~10.9(e)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Barbara E. Brobst, incorporated by reference to Exhibit 10.9 to the Registrant's Form 8-K filed June 2, 2015.

~~10.10~~10.9(f)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Adam L. Metz, incorporated by reference to Exhibit 10.1 to the Registrant's Form 8-K filed March 14, 2017.

10.9(g)			Employment Agreement between Orrstown Financial Services, Inc., Orrstown Bank and Robert J. Fignar, incorporated by reference to Exhibit 10.2 to the Registrant's Form 8-K filed June 1, 2018.

10.10			Brick Plan – Deferred Income Agreement between Orrstown Bank and Joel R. Zullinger, incorporated by reference to Exhibit 10.11 to the Registrant’s Form 10-K filed March 15, 2010.

~~10.11~~10.11(a)			~~Form of Executive Employment Agreement for selected officers – incorporated by reference to Exhibit 10.1 to Registrant’s Form 8-K filed January 22, 2010.~~

~~10.12(a)~~	Director/Executive Officer Deferred Compensation Plan, incorporated by reference to Exhibit 10.13(a) to the Registrant’s Form 10-K filed March 15, 2010.

~~10.12(b)~~10.11(b)			Trust Agreement for Director/Executive Officer Deferred Compensation Plan, incorporated by reference to Exhibit 10.13(b) to the Registrant’s Form 10-K filed March 15, 2010.

121

Table of Contents


~~10.14~~10.12		~~Form of Restricted Share Grant~~	Deferred Compensation Agreement ~~issued to certain employees on August 15, 2014,~~between Orrst own Bank and Thomas R. Quinn, Jr., incorporated by reference to Exhibit 10.1 to the Registrant's Form ~~10-Q~~8-K filed ~~November 7, 2014.~~September 27, 2019.

1410.13			Form of Subordinated Note Purchase Agreement, incorporated by reference to Exhibit 10.1 of the Registrant's Report of Form 8-K filed on December 20, 2018.

14			Code of Ethics Policy for Senior Financial Officers posted on Registrant’s website.

21			Subsidiaries of the registrant

23.1			Consent of Crowe ~~Horwath~~ LLP, Independent Registered Public Accounting Firm

31.1			Rule 13a – 14(a)/15d-14(a) Certification (Chief Executive Officer)

31.2			Rule 13a – 14(a)/15d-14(a) Certifications (Chief Financial Officer)

~~32.1~~	~~Section 1350 Certifications (Chief Executive Officer)~~

~~32.2~~	~~Section 1350 Certifications (Chief Financial Officer)~~



~~101.LAB~~32.1						Section 1350 Certifications (Chief Executive Officer)

32.2						Section 1350 Certifications (Chief Financial Officer)


101.LAB						XBRL Taxonomy Extension Label Linkbase

101.PRE						XBRL Taxonomy Extension Presentation Linkbase

101.INS						XBRL Instance Document

101.SCH						XBRL Taxonomy Extension Schema

101.CAL						XBRL Taxonomy Extension Calculation Linkbase

101.DEF						XBRL Taxonomy Extension Definition Linkbase

All other exhibits for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted.


~~(b)~~	~~Exhibits – The exhibits to this Form 10-K begin after the signature page.~~


~~(c)~~	~~Financial statement schedules – None required.~~

b.Exhibits – The exhibits to this Form 10-K begin after the signature page.

c.Financial statement schedules – None required.

ITEM 16 – FORM 10-K SUMMARY

Not applicable.

122

Table of Contents

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

ORRSTOWN FINANCIAL SERVICES, INC.

(Registrant)

~~ORRSTOWN FINANCIAL SERVICES, INC.~~

~~(Registrant)~~

Dated: March ~~13, 2017~~16, 2020

By:

/s/ Thomas R. Quinn, Jr.

Thomas R. Quinn, Jr., President and Chief Executive Officer

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Signature

Title

Date

~~Signature~~

~~Title~~

~~Date~~

/s/ Thomas R. Quinn, Jr.

President and Chief Executive Officer (Principal Executive Officer) and Director

March ~~13, 2017~~16, 2020

Thomas R. Quinn, Jr.

/s/ ~~David P. Boyle~~Thomas R. Brugger

Executive Vice President and Chief Financial Officer (Principal Financial ~~and Accounting~~ Officer)

March ~~13, 2017~~16, 2020

~~David P. Boyle~~Thomas R. Brugger

/s/ Gary A. Manley

Senior Vice President and Principal Accounting Officer

March 16, 2020

Gary A. Manley

/s/ Joel R. Zullinger

Chairman of the Board and Director

March ~~13, 2017~~16, 2020

Joel R. Zullinger

/s/ ~~Jeffrey W. Coy~~Robert A. DeAlmeida

~~Vice Chairman of the Board and~~ Director

March ~~13, 2017~~16, 2020

~~Jeffrey W. Coy~~Robert A. DeAlmeida

~~/s/ Dr. Anthony F. Ceddia~~

~~Secretary of the Board and Director~~

~~March 13, 2017~~

~~Dr. Anthony F. Ceddia~~

/s/ Cindy J. Joiner

Director

March ~~13, 2017~~16, 2020

Cindy J. Joiner

/s/ Mark K. Keller

Director

March ~~13, 2017~~16, 2020

Mark K. Keller

/s/ Thomas D. Longenecker

Director

March ~~13, 2017~~16, 2020

Thomas D. Longenecker

/s/ Andrea Pugh

Director

March ~~13, 2017~~16, 2020

Andrea Pugh

/s/ ~~Gregory A. Rosenberry~~Michael J. Rice

Director

March ~~13, 2017~~16, 2020

~~Gregory A. Rosenberry~~Michael J. Rice

/s/ Eric A. Segal

Director

March ~~13, 2017~~16, 2020

Eric A. Segal

/s/ Glenn W. Snoke

Director

March ~~13, 2017~~16, 2020

Glenn W. Snoke

/s/ Floyd E. Stoner

Director

March ~~13, 2017~~16, 2020

Floyd E. Stoner

~~109~~

123


				Page
Part I

			~~Page~~
~~Part I~~

Item 1.	Business		24
Item 1A.		Risk Factors		812
Item 1B.		Unresolved Staff Comments		1523
Item 2.		Properties		1524
Item 3.		Legal Proceedings		1524
Item 4.		Mine Safety Disclosures		1524

Part II

Item 5.		Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities		1625
Item 6.		Selected Financial Data		1827
Item 7.		Management’s Discussion and Analysis of Financial Condition and Results of Operations		1928
Item 7A.		Quantitative and Qualitative Disclosures About Market Risk		4955
Item 8.		Financial Statements and Supplementary Data		5158
Item 9.		Changes in and Disagreements With Accountants on Accounting and Financial Disclosure		~~101~~118
Item 9A.		Controls and Procedures		~~101~~118
Item 9B.		Other Information		~~101~~118

Part III

Item 10.		Directors, Executive Officers and Corporate Governance		~~102~~118
Item 11.		Executive Compensation		~~102~~118
Item 12.		Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters		~~102~~119
Item 13.		Certain Relationships and Related Transactions, and Director Independence		~~102~~119
Item 14.		Principal ~~Accountant~~Accounting Fees and Services		~~102~~119

Part IV

Item 15.		Exhibits, ~~and~~ Financial Statement Schedules		~~104~~120

Item 16.		Form 10-K Summary		~~107~~122

Signatures					~~108~~123


							$ Change						% Change
	2019		2018		2017		2019-2018		2018-2017		2019-2018		2018-2017

Salaries and employee benefits	$	39,495	$	32,524	$	30,145	$	6,971	$	2,379	21.4	%	7.9	%
Occupancy	4,325		3,084		2,806		1,241		278		40.2	%	9.9	%
Furniture and equipment	4,723		4,079		3,434		644		645		15.8	%	18.8	%
Data processing	3,599		2,674		2,271		925		403		34.6	%	17.7	%

Automated teller machine and interchange fees	1,015		806		767		209		39		25.9	%	5.1	%
Advertising and bank promotions	1,967		1,592		1,600		375		(8)		23.6	%	(0.5)	%
FDIC insurance	367		681		606		(314)		75		(46.1)	%	12.4	%
Legal fees	585		413		802		172		(389)		41.6	%	(48.5)	%
Other professional services	2,369		1,434		1,571		935		(137)		65.2	%	(8.7)	%
Directors' compensation	1,003		984		996		19		(12)		1.9	%	(1.2)	%


Taxes other than income	1,018		1,012		866		6		146		0.6	%	16.9	%
Intangible asset amortization	1,570		286		102		1,284		184		449.0	%	180.4	%

Merger related and branch consolidation expenses	8,964		3,197		—		5,767		3,197		180.4	%	—	%
Insurance claim receivable write off	615		—		—		615		—		—	%	—	%
Other operating expenses	5,687		5,169		4,364		518		805		10.0	%	18.4	%
Total noninterest expenses	$	77,302	$	57,935	$	50,330	$	19,367	$	7,605	33.4	%	15.1	%


	Balance		% of Total Loans	% of Total RBC
Office space	$	147,945	9.0%	63.8%
Strip retail shopping centers	51,119		3.1%	22.1%
Multi-family commercial real estate	111,227		6.8%	48.0%



(Dollars in thousands)	Balance	% of Total Loans	% of Total RBC

Office space	$93,883	10.6%	74.3%
Strip retail shopping centers	39,775	4.5%	31.5%



x☒			ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



¨☐			TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
			For the transition period from _____ to _____


Term			Definition

ALL			Allowance for loan losses
AFS			Available for sale
AOCI			Accumulated other comprehensive income (loss)
ASC			Accounting Standards Codification
ASU			Accounting Standards Update
Bank			Orrstown Bank, the commercial banking subsidiary of Orrstown Financial Services, Inc.
BHC Act			Bank Holding Company Act of 1965
CDI			Core deposit intangible
CET1			Common Equity Tier 1
CMO			Collateralized mortgage obligation
Company			Orrstown Financial Services, Inc. and subsidiaries (interchangeable with "Orrstown” below)

CFPB			Consumer Financial Protection Bureau
CRA			Community Reinvestment Act
Dodd-Frank Act			Dodd-Frank Wall Street Reform and Consumer Protection Act
EPS			Earnings per common share
ERM			Enterprise risk management
Exchange Act			Securities Exchange Act of 1934, as amended
FASB			Financial Accounting Standards Board
FDIA			Federal Deposit Insurance Act
FDIC			Federal Deposit Insurance Corporation
FHC			Financial holding company
FHLB			Federal Home Loan Bank
FRB			Board of Governors of the Federal Reserve System
GAAP			Accounting principles generally accepted in the United States of America
GLB Act			Gramm-Leach-Bliley Act
GSE			United States government-sponsored enterprise
Hamilton			Hamilton Bancorp, Inc., and its wholly-owned banking subsidiary, Hamilton Bank (acquired May 1, 2019)
IRC			Internal Revenue Code of 1986, as amended
LHFS			Loans held for sale
MBS			Mortgage-backed securities
Mercersburg			Mercersburg Financial Corporation and its wholly-owned banking subsidiary, First Community Bank of Mercersburg (acquired October 1, 2018)
MPF Program			Mortgage Partnership Finance Program
MSR			Mortgage servicing right
NIM			Net interest margin
OCI			Other comprehensive income (loss)
OFA			Orrstown Financial Advisors, a division of the Bank that provides investment and brokerage services
OREO			Other real estate owned (foreclosed real estate)
Orrstown			Orrstown Financial Services, Inc. and subsidiaries
OTTI			Other-than-temporary impairment
Parent Company			Orrstown Financial Services, Inc., the parent company of Orrstown Bank and Wheatland Advisors, Inc.
2011 Plan			2011 Orrstown Financial Services, Inc. Stock Incentive Plan

PCI loans			Purchased credit impaired loans
Repurchase Agreements			Securities sold under agreements to repurchase
SEC			Securities and Exchange Commission
Securities Act			Securities Act of 1933, as amended
TDR			Troubled debt restructuring
U.S.			United States of America
Wheatland			Wheatland Advisors, Inc., the Registered Investment Advisor subsidiary of Orrstown Financial Services, Inc.
Unless the context otherwise requires, the terms “Orrstown,” “we,” “us,” “our,” and “Company” refer to Orrstown Financial Services, Inc. and its subsidiaries.



	2016						2015
	Market Price				Quarterly Dividend		Market Price				Quarterly Dividend
	High		Low		Quarterly Dividend		High		Low		Quarterly Dividend

First quarter	$	18.11	$	16.60	$	0.08	$	17.50	$	16.31	$	0.00
Second quarter	19.95		17.05		0.09		18.00		16.02		0.07
Third quarter	23.73		17.59		0.09		18.00		15.10		0.07
Fourth quarter	23.75		18.05		0.09		18.45		16.24		0.08
					$	0.35					$	0.22



	Period Ending
Index	12/31/11	12/31/12	12/31/13	12/31/14	12/31/15	12/31/16
Orrstown Financial Services, Inc.	100.00	116.85	198.18	206.06	219.00	280.21
SNL Bank $1B-$5B	100.00	123.31	179.31	187.48	209.86	301.92
S&P 500	100.00	116.00	153.57	174.60	177.01	198.18
NASDAQ Composite	100.00	117.45	164.57	188.84	201.98	219.89



	Year Ended December 31,
(Dollars in thousands except per share data)	2016			2015			2014			2013			2012
Summary of Operations
Interest and dividend income	$	41,962		$	38,635		$	38,183		$	37,098		$	45,436
Interest expense	5,417			4,301			4,159			5,011			7,548
Net interest income	36,545			34,334			34,024			32,087			37,888
Provision for loan losses	250			(603		)	(3,900		)	(3,150		)	48,300
Net interest income after provision for loan losses	36,295			34,937			37,924			35,237			(10,412		)
Investment securities gains	1,420			1,924			1,935			332			4,824
Noninterest income	18,319			17,254			16,919			17,476			18,438
Noninterest expenses	48,140			44,607			43,768			43,247			43,349
Income (loss) before income tax expense (benefit)	7,894			9,508			13,010			9,798			(30,499		)
Income tax expense (benefit)	1,266			1,634			(16,132		)	(206		)	7,955
Net income (loss)	$	6,628		$	7,874		$	29,142		$	10,004		$	(38,454	)
Per Share Information
Basic earning per share	$	0.82		$	0.97		$	3.59		$	1.24		$	(4.77	)
Diluted earnings per share	0.81			0.97			3.59			1.24			(4.77		)
Dividends per share	0.35			0.22			0.00			0.00			0.00
Book value at December 31	16.28			16.08			15.40			11.28			10.85
Weighted average shares outstanding – basic	8,059,412			8,106,438			8,110,344			8,093,306			8,066,148
Weighted average shares outstanding – diluted	8,145,456			8,141,600			8,116,054			8,093,306			8,066,148
Stock Price Statistics
Close	$	22.40		$	17.84		$	17.00		$	16.35		$	9.64
High	23.75			18.45			17.50			18.00			11.29
Low	16.60			15.10			15.33			9.49			7.45
Price earnings ratio at close	27.3			18.4			4.7			13.2			(2.0		)
Diluted price earnings ratio at close	27.7			18.4			4.7			13.2			(2.0		)
Price to book at close	1.4			1.1			1.1			1.4			0.9
Year-End Data
Total assets	$	1,414,504		$	1,292,816		$	1,190,443		$	1,177,812		$	1,232,668
Loans	883,391			781,713			704,946			671,037			703,739
Total investment securities	408,124			402,844			384,549			416,864			311,774
Deposits – noninterest-bearing	150,747			131,390			116,302			116,371			121,090
Deposits – interest-bearing	1,001,705			900,777			833,402			884,019			963,949
Total deposits	1,152,452			1,032,167			949,704			1,000,390			1,085,039
Repurchase agreements	35,864			29,156			21,742			9,032			9,650
Borrowed money	76,163			84,495			79,812			66,077			37,470
Total shareholders’ equity	134,859			133,061			127,265			91,439			87,694
Assets under management – market value	1,174,143			966,362			1,017,013			1,085,216			992,378
Financial Ratios
Average equity / average assets	10.41		%	10.66		%	8.63		%	7.45		%	8.07		%
Return on average equity	4.80		%	5.99		%	28.78		%	11.30		%	(35.22		)%
Return on average assets	0.50		%	0.64		%	2.48		%	0.84		%	(2.84		)%



	2016 Versus 2015 Increase (Decrease) Due to Change in									2015 Versus 2014 Increase (Decrease) Due to Change in
(Dollars in thousands)	Average Volume			Average Rate			Total			Average Volume			Average Rate			Total
Interest Income
Federal funds sold & interest-bearing deposits	$	54		$	73		$	127		$	12		$	34		$	46
Taxable securities	(874		)	189			(685		)	(1,017		)	(337		)	(1,354		)
Tax-exempt securities	1,191			(53		)	1,138			1,146			(365		)	781
Taxable loans	3,683			(434		)	3,249			2,927			(1,508		)	1,419
Tax-exempt loans	(68		)	(178		)	(246		)	(190		)	(67		)	(257		)
Total interest income	3,986			(403		)	3,583			2,878			(2,243		)	635
Interest Expense
Interest-bearing demand deposits	118			169			287			16			69			85
Savings deposits	8			0			8			2			(1		)	1
Time deposits	254			656			910			(268		)	110			(158		)
Short-term borrowings	(100		)	(8		)	(108		)	95			52			147
Long-term debt	32			(13		)	19			89			(22		)	67
Total interest expense	312			804			1,116			(66		)	208			142
Net Interest Income	$	3,674		$	(1,207	)	$	2,467		$	2,944		$	(2,451	)	$	493



Note:			The change attributed to volume is calculated by taking the average change in average balance times the prior year's
			average rate and the remainder is attributable to rate.


																	Within 1 year			After 1 year but within 5 years			After 5 years but within 10 years			After 10 years			Total
(Dollars in thousands)	Within 1 year			After 1 year but within 5 years			After 5 years but within 10 years			After 10 years			Total
U. S. Government Agencies
Book value	$	0		$	0		$	900		$	38,669		$	39,569
Yield	0.00		%	0.00		%	1.97		%	2.53		%	2.52		%
Average maturity (years)	0.0			0.0			6.7			21.9			21.6

States and political subdivisions																States and political subdivisions
Book value	15			7,157			71,305			85,200			163,677			Book value	$	230		$	—		$	26,346		$	57,031		$	83,607
Yield	7.46		%	2.82		%	3.32		%	4.68		%	4.01		%	Yield	2.00		%	—		%	3.16		%	4.11		%	3.80		%
Average maturity (years)	0.9			4.3			7.5			17.8			12.7			Average maturity (years)	0.4			—			8.5			16.7			14.0
GSE residential mortgage-backed securities
Book value	0			0			5,040			110,982			116,022
Yield	0.00		%	0.00		%	1.70		%	2.07		%	2.06		%
Average maturity (years)	0.0			0.0			9.7			46.4			44.8

GSE residential CMOs																GSE residential CMOs
Book value	0			0			0			72,411			72,411			Book value	$	—		$	—		$	—		$	67,928		$	67,928
Yield	0.00		%	0.00		%	0.00		%	1.88		%	1.88		%	Yield	—		%	—		%	—		%	2.82		%	2.82		%
Average maturity (years)	0.0			0.0			0.0			13.7			13.7			Average maturity (years)	—			—			—			23.8			23.8
GSE commercial CMOs
Non-agency CMOs																Non-agency CMOs
Book value	0			0			5,148			0			5,148			Book value	$	—		$	—		$	—		$	17,210		$	17,210
Yield	0.00		%	0.00		%	2.40		%	0.00		%	2.40		%	Yield	—		%	—		%	—		%	3.22		%	3.22		%
Average maturity (years)	0.0			0.0			8.7			0.0			8.7			Average maturity (years)	—			—			—			29.9			29.9
Private label CMOs

Private label commercial CMOs																Private label commercial CMOs
Book value																Book value	$	—		$	—		$	3,950		$	82,754		$	86,704
Yield																Yield	—		%	—		%	2.51		%	3.03		%	3.00		%
Average maturity (years)																Average maturity (years)	—			—			5.5			17.5			16.9
Asset-backed and other																Asset-backed and other
Book value	0			0			0			5,042			5,042			Book value	$	—		$	—		$	9,874		$	225,670		$	235,544
Yield	0.00		%	0.00		%	0.00		%	1.95		%	1.95		%	Yield	—		%	—		%	4.18		%	2.67		%	2.73		%
Average maturity (years)	0.0			0.0			0.0			19.6			19.6			Average maturity (years)	—			—			5.8			22.3			21.6
Total																Total
Book value	$	15		$	7,157		$	82,393		$	312,304		$	401,869		Book value	$	230		$	—		$	40,170		$	450,593		$	490,993
Yield	7.46		%	2.82		%	3.15		%	2.79		%	2.87		%	Yield	2.00		%	—		%	3.35		%	2.96		%	2.99		%
Average maturity (years)	0.9			4.3			7.7			27.5			23.1			Average maturity (years)	0.4			—			7.5			21.2			20.1



(Dollars in thousands)	December 31, 2016		December 31, 2015		December 31, 2014		December 31, 2013		December 31, 2012
Commercial real estate:
Owner-occupied	$	112,295	$	103,578	$	100,859	$	111,290	$	144,290
Non-owner occupied	206,358		145,401		144,301		135,953		120,930
Multi-family	47,681		35,109		27,531		22,882		21,745
Non-owner occupied residential	62,533		54,175		49,315		55,272		66,381
Acquisition and development:
1-4 family residential construction	4,663		9,364		5,924		3,338		2,850
Commercial and land development	26,085		41,339		24,237		19,440		30,375
Commercial and industrial	88,465		73,625		48,995		33,446		39,340
Municipal	53,741		57,511		61,191		60,996		68,018
Residential mortgage:
First lien	139,851		126,022		126,491		124,728		108,601
Home equity – term	14,248		17,337		20,845		20,131		14,747
Home equity – lines of credit	120,353		110,731		89,366		77,377		79,448
Installment and other loans	7,118		7,521		5,891		6,184		7,014
	$	883,391	$	781,713	$	704,946	$	671,037	$	703,739



							% Change
(Dollars in thousands)	2016		2015		2014		2016-2015		2015-2014

Salaries and employee benefits	$	26,370	$	24,056	$	23,658	9.6	%	1.7	%
Occupancy	2,491		2,221		2,251		12.2	%	(1.3	)%
Furniture and equipment	3,335		3,061		3,328		9.0	%	(8.0	)%
Data processing	2,378		2,026		1,866		17.4	%	8.6	%
Telephone and communication	740		692		569		6.9	%	21.6	%
Automated teller machine and interchange fees	748		798		865		(6.3	)%	(7.7	)%
Advertising and bank promotions	1,717		1,564		1,195		9.8	%	30.9	%
FDIC insurance	775		859		1,621		(9.8	)%	(47.0	)%
Legal	850		1,440		705		(41.0	)%	104.3	%
Other professional services	1,332		1,262		1,580		5.5	%	(20.1	)%
Directors' compensation	969		737		624		31.5	%	18.1	%
Collection and problem loan	238		447		729		(46.8	)%	(38.7	)%
Real estate owned	239		162		300		47.5	%	(46.0	)%
Taxes other than income	767		916		562		(16.3	)%	63.0	%
Regulatory settlement	1,000		0		0		100.0	%	0.0	%
Other operating expenses	4,191		4,366		3,915		(4.0	)%	11.5	%
Total noninterest expenses	$	48,140	$	44,607	$	43,768	7.9	%	1.9	%


										Due In
	Due In									One Year or Less		One Year Through Five Years		After Five Years		Total
(Dollars in thousands)	One Year or Less		One Year Through Five Years		After Five Years		Total
Acquisition and development:									Acquisition and development:
1-4 family residential construction									1-4 family residential construction
Fixed rate	$	103	$	0	$	3,445	$	3,548	Fixed rate	$	1,098	$	—	$	6,305	$	7,403
Adjustable and floating rate	452		0		663		1,115		Adjustable and floating rate	4,684		—		3,778		8,462
	555		0		4,108		4,663			5,782		—		10,083		15,865
Commercial and land development									Commercial and land development
Fixed rate	1,396		608		8,275		10,279		Fixed rate	64		8,243		7,559		15,866
Adjustable and floating rate	1,522		1,674		12,610		15,806		Adjustable and floating rate	1,697		1,930		22,045		25,672
	2,918		2,282		20,885		26,085			1,761		10,173		29,604		41,538
Commercial and industrial									Commercial and industrial
Fixed rate	353		16,557		15,865		32,775		Fixed rate	2,581		66,550		36,589		105,720
Adjustable and floating rate	33,434		6,975		15,281		55,690		Adjustable and floating rate	57,866		18,125		32,843		108,834
	33,787		23,532		31,146		88,465			60,447		84,675		69,432		214,554
	$	37,260	$	25,814	$	56,139	$	119,213		$	67,990	$	94,848	$	109,119	$	271,957


	2019										2018
	Nonaccrual Loans		Restructured Loans Still Accruing		Total		Nonaccrual Loans		Restructured Loans Still Accruing		Total
Commercial real estate:
Owner occupied	$	5,842	$	30	$	5,872	$	1,841	$	39	$	1,880

Multi-family	345		—		345		131		—		131
Non-owner occupied residential	235		—		235		309		—		309



Commercial and industrial	1,763		—		1,763		286		—		286
Residential mortgage:
First lien	1,659		931		2,590		1,808		1,069		2,877
Home equity – term	13		—		13		16		—		16
Home equity – lines of credit	715		18		733		774		24		798
Installment and other loans	85		—		85		—		—		—
	$	10,657	$	979	$	11,636	$	5,165	$	1,132	$	6,297



(Dollars in thousands)	# of Relationships	Recorded Investment		Partial Charge-offs to Date		Specific Reserves
December 31, 2016
Relationships greater than $1,000,000	0	$	0	$	0	$	0
Relationships greater than $500,000 but less than $1,000,000	2	1,327		620		0
Relationships greater than $250,000 but less than $500,000	2	640		120		0
Relationships less than $250,000	75	6,006		1,184		43
	79	$	7,973	$	1,924	$	43
December 31, 2015
Relationships greater than $1,000,000	1	$	6,542	$	0	$	0
Relationships greater than $500,000 but less than $1,000,000	2	1,578		475		164
Relationships greater than $250,000 but less than $500,000	7	2,659		188		0
Relationships less than $250,000	74	6,571		1,294		125
	84	$	17,350	$	1,957	$	289


	Pass		Special Mention		Non-Impaired Substandard		Impaired - Substandard		Doubtful		PCI Loans		Total
December 31, 2019
Commercial real estate:
Owner-occupied	$	151,161	$	4,513	$	3,163	$	5,872	$	—	$	6,175	$	170,884
Non-owner occupied	342,753		17,152		—		—		—		1,145		361,050
Multi-family	100,361		4,822		682		345		—		683		106,893
Non-owner occupied residential	111,697		4,534		1,115		235		—		2,457		120,038
Acquisition and development:
1-4 family residential construction	15,865		—		—		—		—		—		15,865
Commercial and land development	39,939		206		1,393		—		—		—		41,538
Commercial and industrial	198,951		1,133		8,899		1,763		—		3,808		214,554
Municipal	42,649		4,408		—		—		—		—		47,057
Residential mortgage:
First lien	323,040		978		—		2,590		—		9,764		336,372
Home equity – term	13,774		74		149		13		—		20		14,030
Home equity – lines of credit	164,469		74		38		733		—		—		165,314
Installment and other loans	50,497		—		—		85		—		153		50,735
	$	1,555,156	$	37,894	$	15,439	$	11,636	$	—	$	24,205	$	1,644,330


	Average Impaired Balance		Interest Income Recognized		Interest Earned But Not Recognized
December 31, 2019
Commercial real estate:
Owner-occupied	$	2,455	$	2	$	387
Non-owner occupied	46		—		—
Multi-family	152		—		24
Non-owner occupied residential	217		—		21
Acquisition and development:

Commercial and land development	21		—		—
Commercial and industrial	683		—		130
Residential mortgage:
First lien	2,582		50		91
Home equity – term	13		—		1
Home equity – lines of credit	750		2		64
Installment and other loans	13		—		2
	$	6,932	$	54	$	720
December 31, 2018
Commercial real estate:
Owner-occupied	$	1,495	$	2	$	156
Non-owner occupied	1,842		—		236
Multi-family	148		—		20
Non-owner occupied residential	346		—		36
Acquisition and development:
1-4 family residential construction	181		—		—
Commercial and land development	1		—		1
Commercial and industrial	322		—		29
Residential mortgage:
First lien	3,234		59		130
Home equity – term	19		—		2
Home equity – lines of credit	657		2		52
Installment and other loans	4		—		5
	$	8,249	$	63	$	667


	Commercial																		Consumer
	Commercial Real Estate		Acquisition and Development		Commercial and Industrial		Municipal		Total		Residential Mortgage		Installment and Other		Total		Unallocated		Total
December 31, 2019
Balance, beginning of year	$	6,876	$	817	$	1,656	$	98	$	9,447	$	3,753	$	244	$	3,997	$	570	$	14,014
Provision for loan losses	515		139		841		2		1,497		(347)		180		(167)		(430)		900
Charge-offs	(25)		—		(299)		—		(324)		(386)		(155)		(541)		—		(865)
Recoveries	268		3		158		—		429		127		50		177		—		606
Balance, end of year	$	7,634	$	959	$	2,356	$	100	$	11,049	$	3,147	$	319	$	3,466	$	140	$	14,655
December 31, 2018
Balance, beginning of year	$	6,763	$	417	$	1,446	$	84	$	8,710	$	3,400	$	211	$	3,611	$	475	$	12,796
Provision for loan losses	(442)		396		209		14		177		363		165		528		95		800
Charge-offs	(17)		(7)		—		—		(24)		(148)		(292)		(440)		—		(464)
Recoveries	572		11		1		—		584		138		160		298		—		882
Balance, end of year	$	6,876	$	817	$	1,656	$	98	$	9,447	$	3,753	$	244	$	3,997	$	570	$	14,014
December 31, 2017
Balance, beginning of year	$	7,530	$	580	$	1,074	$	54	$	9,238	$	2,979	$	144	$	3,123	$	414	$	12,775
Provision for loan losses	38		(167)		333		30		234		531		174		705		61		1,000
Charge-offs	(835)		—		(85)		—		(920)		(180)		(166)		(346)		—		(1,266)
Recoveries	30		4		124		—		158		70		59		129		—		287
Balance, end of year	$	6,763	$	417	$	1,446	$	84	$	8,710	$	3,400	$	211	$	3,611	$	475	$	12,796
December 31, 2016
Balance, beginning of year	$	7,883	$	850	$	1,012	$	58	$	9,803	$	2,870	$	121	$	2,991	$	774	$	13,568
Provision for loan losses	107		(270)		129		(4)		(38)		532		116		648		(360)		250
Charge-offs	(872)		—		(79)		—		(951)		(577)		(194)		(771)		—		(1,722)
Recoveries	412		—		12		—		424		154		101		255		—		679
Balance, end of year	$	7,530	$	580	$	1,074	$	54	$	9,238	$	2,979	$	144	$	3,123	$	414	$	12,775
December 31, 2015
Balance, beginning of year	$	9,462	$	697	$	806	$	183	$	11,148	$	2,262	$	119	$	2,381	$	1,218	$	14,747
Provision for loan losses	(1,020)		(440)		249		(125)		(1,336)		1,122		55		1,177		(444)		(603)
Charge-offs	(711)		(22)		(115)		—		(848)		(592)		(62)		(654)		—		(1,502)
Recoveries	152		615		72		—		839		78		9		87		—		926
Balance, end of year	$	7,883	$	850	$	1,012	$	58	$	9,803	$	2,870	$	121	$	2,991	$	774	$	13,568


	Total

Three months or less	$	18,738
Over three months through six months	12,734
Over six months through one year	19,204
Over one year	18,402
Total	$	69,078



	Actual				For Capital Adequacy Purposes (includes capital conservation buffer)				To Be Well Capitalized Under Prompt Corrective Action Provisions
(Dollars in thousands)	Amount		Ratio		Amount		Ratio		Amount		Ratio
December 31, 2016
Total capital to risk weighted assets
Consolidated	$	139,033	14.6	%	$	82,391	8.625	%	n/a		n/a
Bank	126,408		13.2	%	82,328		8.625	%	$	95,453	10.0	%
Tier 1 capital to risk weighted assets
Consolidated	127,033		13.3	%	63,286		6.625	%	n/a		n/a
Bank	114,417		12.0	%	63,238		6.625	%	76,363		8.0	%
CET1 to risk weighted assets
Consolidated	127,033		13.3	%	48,957		5.125	%	n/a		n/a
Bank	114,417		12.0	%	48,920		5.125	%	62,045		6.5	%
Tier 1 capital to average assets
Consolidated	127,033		9.3	%	54,453		4.0	%	n/a		n/a
Bank	114,417		8.4	%	54,500		4.0	%	68,126		5.0	%
December 31, 2015
Total capital to risk weighted assets
Consolidated	$	134,562	15.8	%	$	68,078	8.0	%	n/a		n/a
Bank	118,671		14.0	%	68,027		8.0	%	$	85,034	10.0	%
Tier 1 capital to risk weighted assets
Consolidated	123,825		14.6	%	51,058		6.0	%	n/a		n/a
Bank	107,942		12.7	%	51,021		6.0	%	68,027		8.0	%
CET1 to risk weighted assets
Consolidated	123,825		14.6	%	38,294		4.5	%	n/a		n/a
Bank	107,942		12.7	%	38,265		4.5	%	55,272		6.5	%
Tier 1 capital to average assets
Consolidated	123,825		9.8	%	50,684		4.0	%	n/a		n/a
Bank	107,942		8.5	%	50,695		4.0	%	63,368		5.0	%


														Payments Due
		Payments Due											Note Reference	Less than 1 year		2-3 years		4-5 years		More than 5 years		Total
(Dollars in thousands)	Note Reference	Less than 1 year		2-3 years		4-5 years		More than 5 years		Total

Time deposits	10	$	135,649	$	97,397	$	61,799	$	1,922	$	296,767	Time deposits	11	$	375,795	$	116,580	$	24,375	$	2,818	$	519,568
Short-term borrowings	11	87,864		0		0		0		87,864		Short-term borrowings	13	154,869		—		—		—		154,869
Long-term debt	12	20,348		747		1,172		1,896		24,163		Long-term debt	14	40,751		20,862		946		508		63,067
Subordinated notes												Subordinated notes	15	—		—		—		32,500		32,500
Operating lease obligations	6	587		887		613		539		2,626		Operating lease obligations	6	1,279		1,874		1,486		10,549		15,188
Total		$	244,448	$	99,031	$	63,584	$	4,357	$	411,420	Total		$	572,694	$	139,316	$	26,807	$	46,375	$	785,192



(Dollars in thousands)	Contract or Notional Amount
Commitments to fund:
Revolving, open-ended home equity loans	$	126,811
1-4 family residential construction loans	7,820
Commercial real estate, construction and land development loans	43,830
Commercial, industrial and other loans	111,884
Standby letters of credit	7,097


	Contract or Notional Amount
Commitments to fund:
Home equity lines of credit	$	205,502
1-4 family residential construction loans	19,812
Commercial real estate, construction and land development loans	19,018
Commercial, industrial and other loans	222,288
Standby letters of credit	10,588


Earnings at Risk	Earnings at Risk					Value at Risk						Earnings at Risk								Value at Risk
		% Change in Net Interest Income						% Change in Market Value					% Change in Net Interest Income							% Change in Market Value
Change in Market Interest Rates	Change in Market Interest Rates	December 31, 2016		December 31, 2015		Change in Market Interest Rates		December 31, 2016		December 31, 2015		Change in Market Interest Rates	December 31, 2019		December 31, 2018		Change in Market Interest Rates	December 31, 2019		December 31, 2018

(100	)	(3.3	%)	(1.4	%)	(100	)	(1.0	%)	1.8	%
(100)												(100)	(0.5)	%	(2.1)	%	(100)	(21.7)	%	(14.1)	%
100		(1.5	%)	(1.2	%)	100		(1.5	%)	0.5	%	100	(1.3)	%	(0.6)	%	100	10.9	%	6.1	%
200		(2.5	%)	(1.8	%)	200		(2.9	%)	0.0	%	200	(3.8)	%	(2.2)	%	200	15.1	%	7.1	%


	2019 Quarter Ended														2018 Quarter Ended
	December		September		June		March		December		September		June		March

Interest income	$	24,028	$	24,836	$	24,472	$	19,658	$	19,152	$	16,276	$	15,843	$	14,396
Interest expense	6,087		6,757		5,957		4,898		4,402		3,536		2,982		2,591
Net interest income	17,941		18,079		18,515		14,760		14,750		12,740		12,861		11,805
Provision for loan losses	—		300		200		400		200		200		200		200
Net interest income after provision for loan losses	17,941		17,779		18,315		14,360		14,550		12,540		12,661		11,605
Investment securities gains	18		2,328		2,064		339		115		29		46		816
Other noninterest income	7,012		6,274		5,710		4,796		4,900		5,413		4,940		4,765
Merger related and branch consolidation expenses	988		471		6,860		645		2,724		319		154		—
Other noninterest expenses	18,721		17,669		16,432		15,516		15,559		13,003		13,107		13,069
Income before income tax expense	5,262		8,241		2,797		3,334		1,282		4,660		4,386		4,117
Income tax expense	1,028		1,340		110		232		130		644		374		492
Net income	$	4,234	$	6,901	$	2,687	$	3,102	$	1,152	$	4,016	$	4,012	$	3,625

Per share information:
Basic earnings per share (a)	$	0.39	$	0.63	$	0.26	$	0.34	$	0.13	$	0.50	$	0.50	$	0.45
Diluted earnings per share (a)	$	0.38	$	0.62	$	0.26	$	0.33	$	0.12	$	0.49	$	0.48	$	0.44
Dividends paid per share	$	0.15	$	0.15	$	0.15	$	0.15	$	0.13	$	0.13	$	0.13	$	0.12
(a) Sum of the quarters may not equal the total year due to rounding.



	2016 Quarter Ended (a)								2015 Quarter Ended (a)
(Dollars in thousands, except per share data)	December		September		June		March		December		September			June		March

Interest and dividend income	$	11,075	$	10,654	$	10,272	$	9,961	$	9,954	$	9,885		$	9,568	$	9,228
Interest expense	1,365		1,420		1,321		1,311		1,246		1,172			970		913
Net interest income	9,710		9,234		8,951		8,650		8,708		8,713			8,598		8,315
Provision for loan losses	0		250		0		0		0		(603		)	0		0
Net interest income after provision for loan losses	9,710		8,984		8,951		8,650		8,708		9,316			8,598		8,315
Investment securities gains	0		0		0		1,420		13		29			353		1,529
Noninterest income	4,969		4,568		4,537		4,245		4,083		4,802			4,530		3,839
Noninterest expenses	12,476		11,985		12,558		11,121		11,219		11,224			11,658		10,506
Income before income tax expense (benefit)	2,203		1,567		930		3,194		1,585		2,923			1,823		3,177
Income tax expense (benefit)	275		125		252		614		136		462			321		715
Net income	$	1,928	$	1,442	$	678	$	2,580	$	1,449	$	2,461		$	1,502	$	2,462

Per share information:
Basic earnings per share	$	0.24	$	0.18	$	0.08	$	0.32	$	0.18	$	0.30		$	0.19	$	0.30
Diluted earnings per share	0.24		0.18		0.08		0.32		0.18		0.30			0.18		0.30
Dividends per share	0.09		0.09		0.09		0.08		0.08		0.07			0.07		0.00
(a) Sum of the quarters may not equal the total year due to rounding.



			Page
Management’s Report on Internal Control over Financial Reporting			5360
Report of Crowe ~~Horwath~~ LLP, Independent Registered Public Accounting Firm			5461
Consolidated Balance Sheets			5663
Consolidated Statements of Income			5764
Consolidated Statements of Comprehensive Income			5865
Consolidated Statements of Changes in Shareholders’ Equity			5966
Consolidated Statements of Cash Flows			6067
Notes to Consolidated Financial Statements			6169


/s/ Thomas R. Quinn, Jr.	/s/ Thomas R. Brugger
Thomas R. Quinn, Jr.	Thomas R. Brugger
President and Chief Executive Officer	Executive Vice President and Chief Financial Officer


	/s/ ~~Thomas R. Quinn, Jr.~~	~~/s/ David P. Boyle~~Gary A. Manley
~~Thomas R. Quinn, Jr.~~	~~David P. Boyle~~Gary A. Manley
~~President and Chief Executive Officer~~March 16, 2020	~~Executive~~Senior Vice President and ~~Chief Financial~~Principal Accounting Officer

~~March 13, 2017~~


								December 31,
	December 31,
(Dollars in thousands, except per share data)	2016			2015
(Dollars in thousands, except per share amounts)							(Dollars in thousands, except per share amounts)	2019		2018
Assets							Assets
Cash and due from banks	$	16,072		$	11,412		Cash and due from banks	$	25,969	$	26,156
Interest-bearing deposits with banks	14,201			16,928			Interest-bearing deposits with banks	30,493		45,664
Federal funds sold							Federal funds sold	—		16,995
Cash and cash equivalents	30,273			28,340			Cash and cash equivalents	56,462		88,815
Restricted investments in bank stocks	7,970			8,720			Restricted investments in bank stocks	16,184		10,842
Securities available for sale	400,154			394,124
Loans held for sale	2,768			5,917
Securities available for sale (amortized cost of $490,993 and $469,607 at December 31, 2019 and 2018, respectively)							Securities available for sale (amortized cost of $490,993 and $469,607 at December 31, 2019 and 2018, respectively)	490,386		465,844
Loans held for sale, at fair value							Loans held for sale, at fair value	9,364		—
Loans held for sale, at cost							Loans held for sale, at cost	—		3,340
Loans	883,391			781,713			Loans	1,644,330		1,247,657
Less: Allowance for loan losses	(12,775		)	(13,568		)	Less: Allowance for loan losses	(14,655)		(14,014)
Net loans	870,616			768,145			Net loans	1,629,675		1,233,643
Premises and equipment, net	34,871			23,960			Premises and equipment, net	37,524		38,201
Cash surrender value of life insurance	32,102			31,224			Cash surrender value of life insurance	63,613		41,327
Goodwill							Goodwill	19,925		12,592
Other intangible assets, net							Other intangible assets, net	7,180		3,910
Accrued interest receivable	4,672			3,845			Accrued interest receivable	6,040		5,927
Other assets	31,078			28,541			Other assets	46,921		29,947
Total assets	$	1,414,504		$	1,292,816		Total assets	$	2,383,274	$	1,934,388
Liabilities							Liabilities
Deposits:							Deposits:
Noninterest-bearing	$	150,747		$	131,390		Noninterest-bearing	$	249,450	$	204,843
Interest-bearing	1,001,705			900,777			Interest-bearing	1,626,072		1,353,913
Total deposits	1,152,452			1,032,167			Total deposits	1,875,522		1,558,756
Short-term borrowings	87,864			89,156			Short-term borrowings	154,869		64,069
Long-term debt	24,163			24,495			Long-term debt	63,067		83,450
Accrued interest and other liabilities	15,166			13,937
Subordinated notes							Subordinated notes	31,847		31,859
Other liabilities							Other liabilities	34,720		22,821
Total liabilities	1,279,645			1,159,755			Total liabilities	2,160,025		1,760,955

Commitments and contingencies							Commitments and contingencies

Shareholders’ Equity							Shareholders’ Equity
Preferred stock, $1.25 par value per share; 500,000 shares authorized; no shares issued or outstanding	0			0
Common stock, no par value—$0.05205 stated value per share 50,000,000 shares authorized; 8,343,435 and 8,320,479 shares issued; 8,285,733 and 8,272,591 shares outstanding	437			435
Preferred stock, $1.25 par value per share; 500,000 shares authorized; 0 shares issued or outstanding							Preferred stock, $1.25 par value per share; 500,000 shares authorized; 0 shares issued or outstanding	—		—
Common stock, no par value—$0.05205 stated value per share 50,000,000 shares authorized; 11,220,604 shares issued and 11,199,874 outstanding at December 31, 2019; 9,439,255 shares issued and 9,430,224 outstanding at December 31, 2018							Common stock, no par value—$0.05205 stated value per share 50,000,000 shares authorized; 11,220,604 shares issued and 11,199,874 outstanding at December 31, 2019; 9,439,255 shares issued and 9,430,224 outstanding at December 31, 2018	584		491
Additional paid—in capital	124,935			124,317			Additional paid—in capital	188,365		151,678
Retained earnings	11,669			7,939			Retained earnings	35,246		24,472
Accumulated other comprehensive income (loss)	(1,165		)	1,199
Treasury stock—common, 57,702 and 47,888 shares, at cost	(1,017		)	(829		)
Accumulated other comprehensive loss							Accumulated other comprehensive loss	(480)		(2,972)
Treasury stock— 20,730 and 9,031 shares, at cost, at December 31, 2019 and 2018, respectively							Treasury stock— 20,730 and 9,031 shares, at cost, at December 31, 2019 and 2018, respectively	(466)		(236)
Total shareholders’ equity	134,859			133,061			Total shareholders’ equity	223,249		173,433
Total liabilities and shareholders’ equity	$	1,414,504		$	1,292,816		Total liabilities and shareholders’ equity	$	2,383,274	$	1,934,388


										Years Ended Years Ended December 31,
	Years Ended December 31,
(Dollars in thousands, except per share data)	2016		2015			2014
Interest and dividend income
Interest and fees on loans	$	33,916	$	30,798		$	29,546
Interest and dividends on investment securities
Taxable	6,012		6,697			8,052
Tax-exempt	1,826		1,059			550
(Dollars in thousands, except per share amounts)									(Dollars in thousands, except per share amounts)	2019		2018		2017
Interest income									Interest income
Loans									Loans	$	75,071	$	50,632	$	40,623
Investment securities - taxable									Investment securities - taxable	14,530		10,858		7,478
Investment securities - tax-exempt									Investment securities - tax-exempt	2,054		3,850		3,134
Short term investments	208		81			35			Short term investments	1,339		327		218
Total interest and dividend income	41,962		38,635			38,183
Total interest income									Total interest income	92,994		65,667		51,453
Interest expense									Interest expense
Interest on deposits	4,811		3,606			3,678
Interest on short-term borrowings	187		295			148
Interest on long-term debt	419		400			333
Deposits									Deposits	19,310		10,229		6,134
Short-term borrowings									Short-term borrowings	623		1,577		784
Long-term debt									Long-term debt	1,779		1,632		726
Subordinated notes									Subordinated notes	1,987		73		—
Total interest expense	5,417		4,301			4,159			Total interest expense	23,699		13,511		7,644
Net interest income	36,545		34,334			34,024			Net interest income	69,295		52,156		43,809
Provision for loan losses	250		(603		)	(3,900		)	Provision for loan losses	900		800		1,000
Net interest income after provision for loan losses	36,295		34,937			37,924			Net interest income after provision for loan losses	68,395		51,356		42,809
Noninterest income									Noninterest income
Service charges on deposit accounts	5,445		5,226			5,415			Service charges on deposit accounts	3,404		3,233		3,057
Interchange income									Interchange income	3,281		2,821		2,618
Other service charges, commissions and fees	994		1,223			1,033			Other service charges, commissions and fees	805		907		570
Loan swap referral fees									Loan swap referral fees	1,197		—		—
Trust and investment management income	5,091		4,598			4,687			Trust and investment management income	7,255		6,576		6,400
Brokerage income	1,933		2,025			2,150			Brokerage income	2,426		2,035		1,896
Mortgage banking activities	3,412		2,747			2,207			Mortgage banking activities	3,049		2,663		2,919
Earnings on life insurance	1,099		1,025			950
Income from life insurance									Income from life insurance	2,044		1,463		1,109
Other income	345		410			477			Other income	331		320		190
Investment securities gains	1,420		1,924			1,935			Investment securities gains	4,749		1,006		1,190
Total noninterest income	19,739		19,178			18,854			Total noninterest income	28,541		21,024		19,949
Noninterest expenses									Noninterest expenses
Salaries and employee benefits	26,370		24,056			23,658			Salaries and employee benefits	39,495		32,524		30,145
Occupancy	2,491		2,221			2,251			Occupancy	4,325		3,084		2,806
Furniture and equipment	3,335		3,061			3,328			Furniture and equipment	4,723		4,079		3,434
Data processing	2,378		2,026			1,866			Data processing	3,599		2,674		2,271
Telephone and communication	740		692			569

Automated teller and interchange fees	748		798			865			Automated teller and interchange fees	1,015		806		767
Advertising and bank promotions	1,717		1,564			1,195			Advertising and bank promotions	1,967		1,592		1,600
FDIC insurance	775		859			1,621			FDIC insurance	367		681		606
Legal fees	850		1,440			705			Legal fees	585		413		802
Other professional services	1,332		1,262			1,580			Other professional services	2,369		1,434		1,571
Directors' compensation	969		737			624			Directors' compensation	1,003		984		996
Collection and problem loan	238		447			729
Real estate owned	239		162			300

Taxes other than income	767		916			562			Taxes other than income	1,018		1,012		866
Regulatory settlement	1,000		0			0
Intangible asset amortization									Intangible asset amortization	1,570		286		102

Merger related and branch consolidation expenses									Merger related and branch consolidation expenses	8,964		3,197		—
Insurance claim receivable write off									Insurance claim receivable write off	615		—		—
Other operating expenses	4,191		4,366			3,915			Other operating expenses	5,687		5,169		4,364
Total noninterest expenses	48,140		44,607			43,768			Total noninterest expenses	77,302		57,935		50,330
Income before income tax expense (benefit)	7,894		9,508			13,010
Income tax expense (benefit)	1,266		1,634			(16,132		)
Income before income tax expense									Income before income tax expense	19,634		14,445		12,428
Income tax expense									Income tax expense	2,710		1,640		4,338
Net income	$	6,628	$	7,874		$	29,142		Net income	$	16,924	$	12,805	$	8,090

Per share information:									Per share information:
Basic earnings per share	$	0.82	$	0.97		$	3.59		Basic earnings per share	$	1.63	$	1.53	$	1.00
Diluted earnings per share	0.81		0.97			3.59			Diluted earnings per share	1.61		1.50		0.98
Dividends per share	0.35		0.22			0.00
Dividends paid per share									Dividends paid per share	0.60		0.51		0.42



	Years Ended December 31, 2016, 2015, and 2014
(Dollars in thousands, except per share data)	Common Stock		Additional Paid-In Capital		Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Treasury Stock			Total Shareholders’ Equity

Balance, January 1, 2014	$	422	$	123,105	$	(27,255	)	$	(4,813	)	$	(20	)	$	91,439
Net income	0		0		29,142			0			0			29,142
Total other comprehensive income, net of taxes	0		0		0			6,389			0			6,389
Share-based compensation plans:
Issuance of stock (157,207 shares), including compensation expense of $190	8		286		0			0			0			294
Issuance of stock through dividend reinvestment plan (73 shares)	0		1		0			0			0			1
Balance, December 31, 2014	430		123,392		1,887			1,576			(20		)	127,265
Net income	0		0		7,874			0			0			7,874
Total other comprehensive loss, net of taxes	0		0		0			(377		)	0			(377		)
Cash dividends ($0.22 per share)	0		0		(1,822		)	0			0			(1,822		)
Share-based compensation plans:
Issuance of stock (50,686 shares), including compensation expense of $740	5		835		0			0			0			840
Issuance of stock through dividend reinvestment plan (5,239 shares)	0		90		0			0			0			90
Acquisition of treasury stock (47,077 shares)	0		0		0			0			(809		)	(809		)
Balance, December 31, 2015	435		124,317		7,939			1,199			(829		)	133,061
Net income	0		0		6,628			0			0			6,628
Total other comprehensive loss, net of taxes	0		0		0			(2,364		)	0			(2,364		)
Cash dividends ($0.35 per share)	0		0		(2,898		)	0			0			(2,898		)
Share-based compensation plans:
Issuance of stock (22,956 common shares and 25,834 treasury shares), including compensation expense of $958	2		618		0			0			443			1,063
Acquisition of treasury stock (35,648 shares)	0		0		0			0			(631		)	(631		)
Balance, December 31, 2016	$	437	$	124,935	$	11,669		$	(1,165	)	$	(1,017	)	$	134,859


	Years Ended December 31, 2019, 2018, and 2017
(Dollars in thousands, except per share amounts)	Common Stock		Additional Paid-In Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)		Treasury Stock		Total Shareholders’ Equity

Balance, January 1, 2017	$	437	$	124,935	$	11,669	$	(1,165)	$	(1,017)	$	134,859
Net income	—		—		8,090		—		—		8,090
Reclassification of disproportionate tax effects from accumulated other comprehensive income (loss) to retained earnings	—		—		(229)		229		—		—
Total other comprehensive income, net of taxes	—		—		—		3,781		—		3,781
Cash dividends ($0.42 per share)	—		—		(3,488)		—		—		(3,488)

Share-based compensation plans:
4,421 net common shares issued and 56,885 net treasury shares issued, including compensation expense totaling $1,386	(2)		523		—		—		1,002		1,523

Balance, December 31, 2017	435		125,458		16,042		2,845		(15)		144,765
Net income	—		—		12,805		—		—		12,805

Total other comprehensive loss, net of taxes	—		—		—		(5,817)		—		(5,817)
Cash dividends ($0.51 per share)	—		—		(4,375)		—		—		(4,375)
Issuance of stock (1,052,635 common shares) to acquire Mercersburg Financial Corporation	55		24,998		—		—		—		25,053
Share-based compensation plans:
38,764 net common shares issued and 8,214 net treasury shares acquired, including compensation expense totaling $1,493	1		1,222		—		—		(221)		1,002

Balance, December 31, 2018	491		151,678		24,472		(2,972)		(236)		173,433
Net income	—		—		16,924		—		—		16,924

Total other comprehensive income, net of taxes	—		—		—		2,492		—		2,492
Cash dividends ($0.60 per share)	—		—		(6,150)		—		—		(6,150)
Issuance of stock (1,765,704 common shares) to acquire Hamilton Bancorp, Inc.	92		36,530		—		—		—		36,622
Share-based compensation plans:
15,645 net common shares issued and 11,699 net treasury shares acquired, including compensation expense totaling $1,586	1		157		—		—		(230)		(72)

Balance, December 31, 2019	$	584	$	188,365	$	35,246	$	(480)	$	(466)	$	223,249


	Impaired Loans with a Specific Allowance										Impaired Loans with No Specific Allowance
	Recorded Investment (Book Balance)		Unpaid Principal Balance (Legal Balance)		Related Allowance		Recorded Investment (Book Balance)		Unpaid Principal Balance (Legal Balance)
December 31, 2019
Commercial real estate:
Owner-occupied	$	—	$	—	$	—	$	5,872	$	8,086

Multi-family	—		—		—		345		569
Non-owner occupied residential	—		—		—		235		422



Commercial and industrial	—		—		—		1,763		3,361
Residential mortgage:
First lien	425		425		36		2,165		3,164
Home equity—term	—		—		—		13		15
Home equity—lines of credit	—		—		—		733		1,077
Installment and other loans	—		—		—		85		97
	$	425	$	425	$	36	$	11,211	$	16,791
December 31, 2018
Commercial real estate:
Owner-occupied	$	—	$	—	$	—	$	1,880	$	2,576

Multi-family	—		—		—		131		336
Non-owner occupied residential	—		—		—		309		632



Commercial and industrial	—		—		—		286		457
Residential mortgage:
First lien	743		743		38		2,134		2,727
Home equity—term	—		—		—		16		23
Home equity—lines of credit	—		—		—		798		1,081

	$	743	$	743	$	38	$	5,554	$	7,832

Pennsylvania
(State or Other Jurisdiction of
Incorporation or Organization)

23-2530374
(I.R.S. Employer
Identification No.)

77 East King Street, P. O. Box 250,
Shippensburg, Pennsylvania
(Address of Principal Executive Offices)

17257
(Zip Code)