UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
 
20549
 
FORM
10-K
☒
Annual report pursuant to Section 13 or 15(d) of the Securities
 
Exchange Act of 1934.
For the quarterly period ended
December 31, 20212022
OR
☐
 
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the transition period __________ to __________
Commission File Number:
0-26486
Auburn National Bancorporation, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Delaware
 
63-0885779
(State or other jurisdiction
of incorporation)
 
(I.R.S. Employer
Identification No.)
132100 N. Gay Street
,
Auburn,
Alabama
 
36830
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (
334
)
821-9200
 
Securities registered pursuant to Section 12 (b) of the Act:
 
Title of Each Class
 
Trading Symbol
 
Name of Exchange on which Registered
Common Stock
, par value $0.01
 
AUBN
 
NASDAQ
 
Global Market
Securities registered to Section 12(g) of the Act:
 
None
Indicate by check mark if the registrant
 
is a well-known seasoned issuer, as defined in Rule 405
 
of the Securities Act. Yes
☐
No
☒
 
Indicate by check mark if the registrant
 
is not required to file reports pursuant
 
to Section 13 or Section 15(d) of the Act.
 
Yes
☐
No
☒
 
Indicate by check mark whether the registrant
 
(1) has filed all reports required to be
 
filed by Section 13 or 15(d) of
 
the Securities Exchange Act of 1934 during
 
the
preceding 12 months (or for such shorter
 
period that the registrant was required
 
to file such reports), and (2) has been subject
 
to such filing requirements for the past
90 days.
Yes
☒
 
No
☐
 
Indicate by check mark whether the registrant
 
has submitted electronically every Interactive
 
Data File required to be submitted pursuant
 
to Rule 405 of Regulation S-
T (§ 232.405 of this chapter) during
 
the preceding 12 months (or for such
 
shorter period that the registrant was required
 
to submit such files).
Yes
☒
 
No
☐
Indicate by check mark whether the registrant
 
is a large accelerated filer, an accelerated filer, a non-accelerated
filer, or
a smaller reporting company. See the
definitions of “large accelerated filer,” “accelerated filer”
 
and “smaller reporting company” in
 
Rule 12b-2 of the Exchange Act. (Check
 
one):
 
Large Accelerated filer
☐
 
 
Accelerated filer
☐
Non-accelerated filer
☒
 
 
Smaller reporting company
☒
Emerging Growth
 
Company
☐
If an emerging growth company, indicate by check mark if the registrant
 
has selected not to use the extended
 
transition period for complying with any
 
new or revised
financial accounting standards provided pursuant
 
to Section 13(a) of the Exchange Act. Yes
☐
No
☒
Indicate by check mark whether the registrant
 
has filed a report on and attestation
 
to its management’s assessment of the effectiveness of its internal
 
control over
financial reporting under Section 404(b)
 
of the Sarbanes-Oxley Act (15 U.S.C.
 
7262(b)) by the registered public accounting
 
firm that prepared or issued its audit
report.
☐
If securities are registered pursuant to Section
12(b) of the Act, indicate by check
mark whether the financial statements of
the registrant included in the filing reflect
the correction of an error to previously
issued financial statements.
☐
Indicate by check mark whether any
of those error corrections are restatements
that required a recovery analysis of
incentive-based compensation received by any
of
the registrant’s executive officers during the relevant recovery
period pursuant to §240.10D-1(b).
☐
 
Indicate by check mark if the registrant
 
is a shell company (as defined in Rule
 
12b-2 of the Act). Yes
☐
 
No
☒
 
State the aggregate market value of the voting
 
and non-voting common equity held by
 
non-affiliates computed by reference to the price
 
at which the common equity
was last sold, or the average bid and
 
asked price of such common equity
 
as of the last business day of the registrant’s most recently
 
completed second fiscal quarter:
$
81,577,21961,228,105
 
as of June 30, 2021.2022.
 
APPLICABLE ONLY TO CORPORATE REGISTRANTS
 
Indicate the number of shares outstanding
 
of each of the registrant’s classes of common stock,
 
as of the latest practicable date:
3,516,9713,500,879
 
shares of common stock as
of March 7, 2022.16, 2023.
DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the Proxy Statement for the
 
Annual Meeting of Shareholders, scheduled
 
to be held May 10, 2022,9, 2023, are incorporated by
 
by reference into Part II, Item 5 and
Part III of this Form 10-K.
 
3
PART
 
I
 
SPECIAL CAUTIONARY NOTE REGARDING
 
FORWARD
 
-LOOKING STATEMENTS
Various
 
of the statements made herein under the captions “Management’s
 
Discussion and Analysis of Financial Condition
and Results of Operations”, “Quantitative and Qualitative Disclosures about Market
 
Risk”, “Risk Factors” “Description of
Property” and elsewhere, are “forward-looking statements” within the
 
meaning and protections of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934,
 
as amended (the “Exchange Act”).
Forward-looking statements include statements with respect to our beliefs, plans, objectives,
 
goals, expectations,
anticipations, assumptions, estimates, intentions and future performance, and involve
 
known and unknown risks,
uncertainties and other factors, which may be beyond our control, and
 
which may cause the actual results, performance,
achievements or financial condition of the Company to be materially different
 
from future results, performance,
achievements or financial condition expressed or implied by such forward-looking
 
statements.
 
You
 
should not expect us to
update any forward-looking statements.
All statements other than statements of historical fact are statements that could be forward-looking
 
statements.
 
You
 
can
identify these forward-looking statements through our use of words such as “may,”
 
“will,” “anticipate,” “assume,”
“should,” “indicate,” “would,” “believe,” “contemplate,” “expect,”
 
“estimate,” “continue,” “designed”, “plan,” “point to,” “project,”
“could,project,” “could,” “intend,” “target” and other similar words and expressions
 
expressions of the future.
 
These forward-looking
statements may
not be realized due to a variety of factors, including, without limitation:
●
the effects of future economic, business and market conditions and
 
changes, foreign, domestic and locally,
including seasonality, inflation, andseasonality,
 
supply chain disruptions, including those resulting from natural disasters
or
climate change, such as rising sea and water levels,
hurricanes
and tornados, coronavirus
COVID-19 or other epidemics or pandemics including supply chain disruptions,
inventory volatility,
pandemics;and changes in consumer behaviors;
●
the effects of war invasions of other countries
or other conflicts, acts of terrorism, trade restrictions, sanctions
or other events that may affect
general economic conditions;
●
governmental monetary and fiscal policies;policies, including the continuing effects
of COVID-19 fiscal and monetary
stimuli, and changes in monetary policies in response to inflations including increases
in the Federal Reserve’s
target federal funds rate and reductions in the Federal Reserve’s
holdings of securities;
●
legislative and regulatory changes, including changes in banking, securities and tax laws,
 
regulations and rules and
their application by our regulators, including capital and liquidity requirements, and changes
 
changes in the scope and cost
of FDIC insurance;
●
changes in accounting pronouncements and interpretations, including the required
implementation of Financial
Accounting Standards Board’s (“FASB”)
Accounting Standards Update (ASU) 2016-13, “Financial Instruments –
Credit Losses (Topic
326): Measurement of Credit Losses on Financial Instruments,” as well as the
updates issued
since June 2016 (collectively, FASB
ASC Topic 326)
on Current Expected Credit Losses (“CECL”), and ASU
2022-02, Troubled Debt Restructurings and Vintage
Disclosures, which eliminates troubled debt restructurings
(“TDRs”) and related guidance;
●
the failure of assumptions and estimates, as well as differences in, and changes to, economic,
 
market and credit
conditions, including changes in borrowers’ credit risks and payment behaviors from
 
those used in our loan
portfolio reviews;
●
the risks of changes in market interest rates and the shape of the yield curve on the levels, composition
and costs of
deposits, loan demand
and mortgage loan originations, and the values
and liquidity of loan
collateral, securities,
and interest-sensitive assets and liabilities, and
the risks and uncertainty
of the amounts realizable;
realizable on collateral;
●
the risks of increases in market interest rates creating unrealized losses on our securities available
for sale, which
adversely affect our stockholders’ equity for financial reporting purposes;
●
changes in borrower liquidity and credit risks, and savings, deposit and payment behaviors;
●
changes occurring in business conditions and inflation;
4
●
changes in the availability and cost of credit and capital in the financial markets, and the types
 
of instruments that
may be included as capital for regulatory purposes;
●
changes in the prices, values and sales volumes of residential and commercial real estate;
●
the effects of competition from a wide variety of local, regional, national
 
and other providers of financial,
investment and insurance services, including the disruptiondisruptive effects of
 
of financial technology and other competitors
who are not subject to the same regulations as the Company and the Bank;Bank and credit
unions, which are not subject
4to federal income taxation;
●
the failure of assumptions and estimates underlying the establishment of allowances
 
for possible loan losses and
other asset impairments, losses valuations of assets and liabilities and other estimates;estimates, and
the allowance of credit
losses for CECL beginning January 1, 2023;
●
the costs of redeveloping our headquarters campus and the timing and amount of rental income from third parties following the June 2022
 
upon completion
of the project, and the satisfaction of closing conditions and the amount and timing of expected
gain on the
pending sale of partopening of our campus for development as a hotel;new
headquarters;
●
the risks of mergers, acquisitions and divestitures, including,
 
without limitation, the related time and costs of
implementing such transactions, integrating operations as part of these transactions and
 
and possible failures to achieve
expected gains, revenue growth and/or expense savings from such transactions;
●
changes in technology or products that may be more difficult, costly,
 
or less effective than anticipated;
●
cyber-attacks and data breaches that may compromise our systems, our
 
vendorvendors’ systems or customers’
information;
●
the risks that our deferred tax assets (“DTAs”),
 
included in “other assets” on our consolidated balance sheets, if
any, could be reduced
if estimates of future
taxable income from
our operations and tax planning strategies are less
than currently estimated, and sales
of our capital stock could
trigger a reduction in the amount of
net operating loss
carry-forwards that we may be able
to utilize for income tax
purposes; and
●
other factors and risks described under “Risk Factors” herein and in any of our subsequent
 
reports that we make
with the Securities and Exchange Commission (the “Commission” or “SEC”)
 
under the Exchange Act.
All written or oral forward-looking statements that are made by uswe make or are attributable
 
attributable to us are expressly qualified in their
entirety by this cautionary notice.
 
We have no obligation and
 
do not undertake to update, revise or correct any of the
forward-looking statements after the date of this report, or after the respective dates on
which such
statements otherwise are
made.
ITEM 1.
 
BUSINESS
Auburn National Bancorporation, Inc. (the “Company”) is a bank holding company registered
 
with the Board of Governors
of the Federal Reserve System (the “Federal Reserve”) under the Bank Holding Company
 
Company Act of 1956, as amended (the
“BHC Act”).
 
The Company was incorporated in Delaware in 1990, and in 1994 it succeeded
 
its Alabama predecessor as
the bank holding company controlling AuburnBank, an Alabama state
 
member bank with its principal office in Auburn,
Alabama (the “Bank”).
 
The Company and its predecessor have controlled the Bank since 1984.
 
As a bank holding
company, the Company
 
may diversify into a broader range of financial services and other business activities than currently
are permitted to the Bank under applicable laws and regulations.
 
The holding company structure also provides greater
financial and operating flexibility than is presently permitted to the Bank.
 
The Bank has operated continuously since 1907 and currently conducts its business
 
primarily in East Alabama, including
Lee County and surrounding areas.
 
The Bank has been a member of the Federal Reserve SystemBank of Atlanta (the
“Federal
Reserve Bank”) since April 1995.
 
The
Bank’s primary regulators are
the Federal
Reserve and the Alabama Superintendent
of Banks (the “Alabama
Superintendent”).
 
The Bank has been a member of the Federal Home Loan Bank of Atlanta (the “FHLB”
“FHLB”)
since 1991.
 
5
General
The Company’s business is conducted primarily
 
primarily through the Bank and its subsidiaries.
 
Although it has no immediate plans
to conduct any other business, the Company may engage directly or indirectly in a number
 
of activities that the Federal
Reserve has determined to be so closely related to
banking or managing or controlling banks
as to be a proper incident
thereto.
5permitted by the Federal Reserve.
The Company’s principal executive offices
 
are located at 132100 N. Gay Street, Auburn, Alabama 36830, and its telephone
number at such address is (334) 821-9200.
 
The Company maintains an Internet website at
www.auburnbank.com
.
 
The
Company’s website and the information
 
appearing on the website are not included or incorporated in, and are not part
of,
this report.
 
The Company files annual, quarterly and current reports, proxy statements, and
 
other information with the
SEC.
 
You
 
may read and copy any document we file with the SEC at the SEC’s
 
public reference room at 100 F Street, N.E.,
Washington, DC 20549.
 
Please call the SEC at 1-800-SEC-0330 for more information on the operation of the public
reference rooms.
 
The SEC maintains an Internet site at
www.sec.gov
 
that contains reports, proxy, and other
 
information,
where SEC filings are available to the public free of charge.
 
Services
The Bank offers checking, savings, transaction deposit accounts and
 
certificates of deposit, and is an active residential
mortgage lender in its primary service area.
 
The Bank’s primary service area includes the
 
the cities of Auburn and Opelika,
Alabama and nearby surrounding areas in East Alabama, primarily in
Lee County.
 
The Bank also offers commercial,
financial, agricultural, real estate construction and consumer loan products
 
and other financial services.
 
The Bank is one of
the largest providers of automated teller machine (“ATM”)
services in East Alabama and
operates ATM
 
machines in 13
locations in its
primary service area.
 
The Bank offers Visa
®
 
Checkcards, which are debit cards with the Visa
 
logo that work
like checks
but and can be used anywhere Visa
is accepted,
including ATM
s.ATMs.
 
The Bank’s Visa
 
Checkcards can be used internationally
internationally through the Plus
®
 
network.
 
The Bank offers online banking, bill payment and other electronic banking
services through its Internet
website,
www.auburnbank.com
.
 
Our online banking services, bill payment and electronic
services are subject
to certain
cybersecurity risks.
 
See “Risk Factors – Our information systems may experience
interruptions
and security breaches.”
 
The Bank does not offer any services related to any Bitcoin or other digital or crypto instruments
or stablecoins or
businesses.
Competition
The banking business in East Alabama, including Lee County,
 
is highly competitive with respect to loans, deposits, and
other financial services.
 
The area is dominated by a number of regional and national banks and bank
 
holding companies
that have substantially greater resources, and numerous offices and affiliates
 
operating over wide geographic areas.
 
The
Bank competes for deposits, loans and other business with these banks, as
well as with credit
unions, mortgage companies,
insurance companies, and other local and nonlocal financial institutions, including
 
institutions offering services through the
mail, by telephone and over the Internet.
 
As more and different kinds of businesses enter the market for financial
 
services,
competition from nonbank financial institutions may be expected to intensify
 
intensify further.
 
Among the advantages that larger financial institutions have over
 
over the Bank are their ability to finance extensive advertising
campaigns, to diversify their funding sources, and to allocate and diversify their assets among
 
loans and securities of the
highest yield in locations with the greatest demand.
 
Many of the major commercial banks or their affiliates operating in
 
in the
Bank’s service area offer services
 
which are not presently offered directly by the Bank and they typically have substantially
higher lending limits than the Bank.
 
Banks also have experienced significant competition for deposits from mutual
 
funds, insurance companies and other
investment companies and from money center banks’ offerings of
 
of high-yield investments and deposits.deposits, including CDs and
savings accounts.
 
Certain of these
competitors are not subject to the same regulatory restrictions as the Bank.
 
6
Selected Economic Data
The Auburn-Opelika Metropolitan Statistical Area is Lee County,
Alabama, including Auburn, Opelika and part of Phenix
City, Alabama.
The U.S. Census Bureau estimates Lee County’s
 
population was 174,241181,881 in 2020,2022, and has increased
approximately 24.2%
29.7% from 2010 to 2020.2022.
 
The largest employers in the area are Auburn University,
 
East Alabama Medical
Center, aLee County School System, Wal
 
-Mart
Distribution Center, Baxter Healthcare, Thermo
Fisher Scientific, Mando
America Corporation
(automobile brakes and steering), and Briggs & Stratton.
 
Auto manufacturing and related suppliers are
are increasingly important along Interstate Highway 85 to the east and west of
Auburn.
 
Kia Motors has a large automobile
factory in nearby West Point,
 
Georgia, and Hyundai Motors has a large automobile
 
factory in Montgomery,
 
Alabama.
Various
suppliers to the automotive industry have facilities in Lee County.
The unemployment rate in Lee County was
2.0% at year end 2022 according to the U.S. Bureau of Labor Statistics.
Between 2010 and 2022, the Auburn-Opelika MSA grew an estimated 23.9%,
was the second fastest
growing MSA in
Alabama.
 
The Auburn-OpelikaAuburn-
Opelika MSA population is estimated to grow 6.73%6.6% from 2022
2023 to 2027.2028.
 
During the same time,
household income is
estimated to increase 13.34%14.25%, to $67,593.
6$69,213.
Loans and Loan Concentrations
The Bank makes loans for commercial, financial and agricultural purposes, as
well as for
real estate mortgages, real estate
acquisition, construction and development and consumer purposes.
 
While there are certain risks unique to each type of
lending, management believes that there is more risk associated
with commercial, real
estate acquisition, construction and
development, agricultural and consumer lending than with residential real estate
 
mortgage loans.
 
To help manage these
risks, the Bank has established underwriting standards used in evaluating each extension
 
each extension of credit on an individual basis,
which are substantially similar for each type of loan.
 
These standards include a review of the economic conditions
affecting the borrower, the borrower’s
 
financial strength and capacity to repay the debt, the underlying collateral and the
borrower’s past credit performance.
 
We apply these standards
 
at the time a loan is made and monitor them periodically
throughout the life of the loan.
 
See “Lending Practices” for a discussion of regulatory guidance on commercial real
estate
lending.
 
The Bank has loans outstanding to borrowers in all industries within our primary
 
service area.
 
Any adverse economic or
other conditions affecting these industries would also likely
have an adverse
effect on the local workforce, other local
businesses, and individuals in the community that have entered
 
into loans with the Bank.
 
For example, the auto
manufacturing business and its suppliers have positively affected
 
our local economy, but automobile
 
sales manufacturing is
cyclical and adversely affected by increases in interest rates. Decreases
 
Decreases in automobile sales, including adverse changes due
to interest rate increases, and the remaining economic effects of the impact
 
of COVID-19 pandemic, including continuing supply chain
chain disruptions and a tight labor market,
could adversely affect nearby Kia and Hyundai automotive plants
and their
suppliers'
local spending and
employment, and could adversely affect economic conditions
 
conditions in the markets we serve.
However,
management believes that
due to the diversified
mix of industries located within the Bank’s
primary service area,our markets, adverse changes in
one industry may
not necessarily affect other area industries
to the same degree or
within the same time frame.
 
The Bank’s
primary service
area also is subject to both local and national economic conditions and
fluctuations.
 
While most loans are
made within our
primary service area, some residential mortgage loans are originated
outside the
primary service area, and
the Bank from
time to time has purchased loan participations from outside its primary service
 
service area.
We also may make
loans to other borrowers outside these areas, especially where we have a relationship
with the borrower, or its business or
owners.
7
Human Capital
At December 31, 2021,2022, the Company and its subsidiaries had 152
150 full-time equivalent employees,
including 3937 officers. In
responseOur average term of service is approximately 10 years.
We successfully implemented
plans to protect our employees’
health consistent with CDC and State of Alabama guidelines during the COVID-19 pandemic, our business continuity plan worked to provide
 
essential while maintaining critical
banking services to our
communities and customers, while protecting our employees’ health. communities.
 
As part ofIn addition, we developed our efforts to exercise social distancing in
accordance with the guidelines of the Centers for Disease Controlremote and the Governorelectronic banking services, and
 
of the State of Alabama, starting March
23, 2020, we limited branch lobby service to appointment only while continuing to operate
our branch drive-thru facilities
and ATMs.
We continue to provide
services through our online and other electronic channels. In addition,
we established
remote work access to help employees stay at home where job duties permit.
 
duties permitted.
This promoted employee
retention, and these efforts will provide us proven experience and flexibility
to meet other disruptive events and conditions,
and still provide our customers and communities continuity of service.
We experienced
 
little turnover as a result of the COVID-19 pandemic.pandemic and made no staff
reductions.
As a result, we
received a federal employee retention tax credit of approximately $1.6
million in 2022.
We have a talented group
of employees,
many of which, have a college or associate degree.
 
We also have
strong employee retentionbelieve the Auburn-
historically.Opelika MSA is a desirable place to live and work with excellent schools and quality of life.
 
Our average term MSA was the second
fastest growing MSA in Alabama from 2010 to 2022.
Auburn University is a major employer that attracts talented students
and employee families.
Various
of serviceour
employees have a family member that is approximately 10employed by or is attending the University.
We
were an active PPP lender in our communities during 2020-2021, which required our employees to quickly
learn and
apply a new SBA loan program with frequent overnight changes.
All our PPP loans were forgiven by the SBA, except one
where the borrower is repaying its PPP loan without government assistance.
We had a successful
management transition in 2022 where our CEO became Chairman, and
was succeeded by our CFO,
whose role was then filled by our Chief Accounting Officer.
Our Chairman has served the Bank his entire 39-year career,
our President and CEO has been with us 16 years and our Chief Accounting Officer
has been with us for 7 years.
Our new
President and CFO had careers with major national and regional accounting
firms and focused on financial services before
joining the Bank.
We seek to provide
 
competitive compensation and benefits.
 
We provide
employer matches for employee contributions to
our 401(k) retirement plan.
We encourage and support
 
support the growth and development of our
employees and, wherever
possible, seek to fill positions by promotion and transfer
from within the organization.
 
Career
development is advanced
through ongoing performance and development conversations with employees,
 
with employees, internally
developed training programs and
other training and development opportunities.
Our employees are encouraged to be active
in our communities as part of our commitment
to these communities and our
employees.
Our Chairman is the current President Pro Tempore
of the Auburn University Board of Trustees.
Statistical Information
Certain statistical information is included in responseresponses to ItemItems 6, 7, 7A and 8 of this
 
Annual Report on Form 10-K.
 
Certain statistical
information is also included in response to Item 6, Item 7A and Item 8 of this Annual Report
on Form 10-K.
7
SUPERVISION AND REGULATION
The Company and the Bank are extensively regulated under federal and state laws applicable
 
to bank holding companies
and banks.
 
The supervision, regulation and examination of the Company and the Bank and
 
their respective subsidiaries by
the bank regulatory
agencies are primarily intended to maintain the safety and soundness
 
soundness of depository institutions and the
federal deposit insurance system, as well as the protection of depositors,
 
rather than holders of Company capital stock and
other securities.
 
Any change in applicable law or regulation may have a material effect
 
on the Company’s business.
 
The
following discussion is qualified in its entirety by reference to the particular laws and
 
rules referred to below.
Bank Holding Company Regulation
The Company, as a bank holding company,
 
is subject to supervision, regulation and examination by the Federal Reserve
under the BHC Act.
 
Bank holding companies generally are limited to the business of banking,
 
managing or controlling
banks, and certain related activities.
 
The Company is required to file periodic reports and other information
 
with the
Federal Reserve.
 
The Federal Reserve examines the Company and its subsidiaries.
 
The State of Alabama currently does
not regulate bank holding companies.
8
The BHC Act requires prior Federal Reserve approval for,
 
among other things, the acquisition by a bank holding company
of direct or indirect ownership or control of more than 5% of the voting shares or substantially
 
substantially all the assets of any bank, or
for a merger or consolidation of a bank holding company with another
 
with another bank holding company.
 
The BHC Act generally
prohibits a bank holding company from acquiring direct or indirect ownership or
 
or control of voting shares of any company
that is not a bank or bank holding company and from engaging directly or indirectly in any
 
activity other than banking or
managing or controlling banks or performing services for its authorized subsidiar
 
subsidiary.ies.
 
A bank holding company may,
however, engage in or acquire an interest in a company that
 
engages in activities that the Federal Reserve has determined
by regulation or order to be so closely related to banking or managing or controlling banks
 
as to be a proper incident
thereto. On January 30, 2020, the Federal Reserve adopted new rules, effective
 
September 30, 2020 simplifying
determinations of control of banking organizations for BHC Act purposes.
Bank holding companies that are and remain “well-capitalized” and “well-managed,”
 
as defined in Federal Reserve
Regulation Y,
Y,
and whose insured depository institution subsidiaries maintain “satisfactory”
 
“satisfactory” or better ratings under the
Community Reinvestment Act of 1977 (the “CRA”), may elect to become
 
become “financial“financial holding companies.” Financial holding
companies and their subsidiaries are permitted to acquire or engage in activities
 
such as insurance underwriting, securities
underwriting, travel agency activities, broad insurance agency activities,
 
merchant banking and other activities that the
Federal Reserve determines to be financial in nature or complementary thereto.
 
In addition, under the BHC Act’s
 
merchant
banking authority and Federal Reserve regulations, financial holding companies
 
are authorized to invest in companies that
engage in activities that are not financial in nature, as long as the financial holding
 
holding company makes its investment, subject
to limitations, including a limited investment term, no day-to-day management,
 
management, and no cross-marketing with any depositary
institutions controlled by the financial holding company.
 
The Federal Reserve recommended repeal of the merchant
banking powers in its September 16, 2016 study pursuant to Section 620 of the DoddDodd-Frank Wall
 
-Frank Wall Street Reform and
Consumer Protection Act of 2010 (the “Dodd-Frank Act”), but has taken no action.
 
The Company has not elected to
become a financial holding company,
 
but it may elect to do so in the future.
Financial holding companies continue to be subject to Federal Reserve supervision, regulation
 
regulation and examination, but the
Gramm-Leach-Bliley Act of 1999 the “GLB Act”) applies the concept of functional
 
of functional regulation to subsidiary activities.
 
For
example, insurance activities would be subject to supervision and regulation
by state insurance
authorities.
 
The BHC Act permits acquisitions of banks by bank holding companies, subject
 
to various restrictions, including that the
acquirer is “well capitalized” and “well managed”.
 
Bank mergers are also subject to the approval of the acquiring bank’s
primary federal regulator and the Bank Merger Act.
The BHC Act and the Bank Merger Act provide various generally
similar statutory factors.
Under the Alabama Banking Code, with the prior approval of the Alabama
Alabama Superintendent, an
Alabama bank may acquire and operate
one or more banks in other states pursuant to
a
transaction in which the Alabama
bank is the surviving bank.
 
In addition, one or more Alabama banks may enter into a merger
merger transaction with one or more
out-of-state banks,
and an out-of-state bank resulting from such transaction
may
continue to operate the acquired branches
in Alabama.
 
The Dodd-Frank Act permits banks, including Alabama banks, to
branch anywhere
in the United States.
Bank mergers are also subject to the approval of the acquiring bank’s
primary federal regulator.
On March 19, 2022, the
FDIC published a “Request for Information and Comment on Rules, Regulations,
Guidance, and Statements of Policy
Regarding Bank Merger Transactions” (the
“FDIC Notice”).
The FDIC solicited comments from interested parties
regarding the application of the laws, practices, rules, regulations, guidance, and statements
of policy (together, regulatory
framework) that apply to merger transactions involving one
or more insured depository institution, including the merger
between an insured depository institution and a noninsured institution. The FDIC is interested
in receiving comments
regarding the effectiveness of the existing framework in
meeting the requirements of the Bank Merger Act.
The Request described the consolidation of the banking industry,
the increase in the number of large and systemically
important banking organizations and the need to evaluate large
mergers’ financial stability and resolution of failing bank
risks consistent with the Dodd-Frank Act changes to the BHC Act and the Bank Merger
Act, and the effects of banking
mergers on competition.
The FDIC Notice also stated that Executive Order Promoting Competition in the
American
Economy (July 9, 2021) (the “Executive Order”), among other things, “instructs U.S.
agencies to consider the impact that
consolidation may have on maintaining a fair, open,
and competitive marketplace, and on the welfare of workers, farmers,
small businesses, startups, and consumers.”
The FDIC requested comment on all aspects of the bank regulatory
framework, including qualitative and quantitative support for such responses.
The other Federal bank regulators as well as
the U.S. Department of Justice are also considering the framework for
mergers involving banking organizations, including
the competitive effects of such combinations.
The federal bank regulators have not announced any conclusions, but these
reviews could result in changes to the frameworks used to evaluate banking combinations
which could make such
combinations more difficult, time consuming and expensive.
89
The Company is a legal entity separate and distinct from the Bank.
 
Various
 
legal limitations restrict the Bank from lending
or otherwise supplying funds to the Company.
 
The Company and the Bank are subject to Sections 23A and 23B of the
Federal Reserve Act
and Federal Reserve Regulation W thereunder.
 
Section 23A defines “covered transactions,” which
include extensions of credit, and limits a bank’s covered
 
covered transactions with any affiliate to 10% of such bank’s
 
capital and
surplus.
 
All covered and exempt transactions between a bank and its affiliates must be
 
must be on terms and conditions consistent
with safe and sound banking practices, and banks and their subsidiaries are prohibited
 
from purchasing low-quality assets
from the bank’s affiliates.
 
Finally, Section 23A requires
 
that all of a bank’s extensions of credit
 
to its affiliates be
appropriately secured by permissible collateral, generally United States government
 
or agency securities.
 
Section 23B of
the Federal Reserve Act generally requires covered and other transactions among affiliates
 
to be on terms and under
circumstances, including credit standards, that are substantially the same as or at least as
 
least as favorable to the bank or its
subsidiary as those prevailing at the time for similar transactions with unaffiliated
 
companies.
 
Federal Reserve policy and the Federal Deposit Insurance Act, as amended
 
by the Dodd-Frank Act, require a bank holding
company to act as a source of financial and managerial strength to its FDIC-insured
 
subsidiaries and to take measures to
preserve and protect such bank subsidiaries in situations where additional investments
 
investments in a bank subsidiary may not
otherwise be warranted.
 
In the event an FDIC-insured subsidiary becomes subject to a capital restoration
 
plan with its
regulators, the parent bank holding company is required to guarantee performance of
 
of such plan up to 5% of the bank’s
assets, and such guarantee is given priority in bankruptcy of the bank holding company.
 
In addition, where a bank holding
company has more than one bank or thrift subsidiary,
 
each of the bank holding company’s
 
subsidiary depository institutions
may be responsible for any losses to the FDIC’s
 
Deposit Insurance Fund (“DIF”), if an affiliated depository institution
 
fails.
 
As a result, a bank holding company may be required to loan money to a bank subsidiary in the
 
form of subordinate capital
notes or other instruments which qualify as capital under bank regulatory rules.
 
However, any loans from the holding
company to such subsidiary banks likely will be unsecured and subordinated to
 
to such bank’s depositors and to other
creditors of the bank.
 
See “Capital.”
As a result of legislation in 2014 and 2018, the Federal Reserve has revised its Small Bank
 
Holding Company Policy
Statement (the “Small BHC Policy”) to expand it to include thrift holding companies and increase
 
increase the size of “small” for
qualifying bank and thrift holding companies from $500 million to up to $3
 
billion of pro forma consolidated assets.
The Federal Reserve confirmed in 2018 that the Company is eligible for treatment as
 
a small banking holding company
under the Small BHC Policy.
 
As a result, unless and until the Company fails to qualify under the Small BHC Policy,
 
the
Company’s capital adequacy
 
will continue to be evaluated on a bank only basis.
 
See “Capital.”
Bank Regulation
The Bank is a state bank that is a member of the Federal Reserve.
 
It is subject to supervision, regulation and examination
by the Federal Reserve and the Alabama Superintendent, which monitor all areas
 
all areas of the Bank’s operations, including
loans,
reserves, mortgages, issuances and redemption of capital securities, payment of dividends,
 
establishment of branches,
capital adequacy and compliance with laws.
 
The Bank is a member of the FDIC and, as such, its deposits are insured by
the FDIC to the maximum extent provided by law,
 
and the Bank is subject to various FDIC regulations.regulations applicable to FDIC-
insured banks.
 
See “FDIC Insurance
Assessments.”
Alabama law permits statewide branching by banks.
 
The powers granted to Alabama-chartered banks by state law include
certain provisions designed to provide such banks competitive equality with national
 
national banks.
 
910
The Federal Reserve has adopted the Federal Financial Institutions Examination Council’s
 
Council’s (“FFIEC”) rating system,
whichUniform Financial
Institutions Rating System (“UFIRS”), which assigns each financial institution a
confidential composite “CAMELS” rating
based
on an evaluation and rating of six
essential components of an institution’s
 
financial condition and operations:
 
Capital Adequacy,
Asset Quality, Management,
Earnings, LiquidityC
apital
Adequacy,
A
sset Quality,
M
anagement,
E
arnings,
L
iquidity and Sensitivity
S
ensitivity to market risk, as well as the quality of risk
management practices.
 
For most
institutions, the FFIEC has indicated that market risk primarily reflects exposures
 
exposures to
changes in interest rates.
 
When
regulators evaluate this component, consideration is expected to
 
to be given to: management’s
ability to identify, measure,
 
measure,
monitor and control market risk; the institution’s
 
size; the nature and complexity of its activities
and its risk profile; and the
adequacy of its capital and earnings in relation to its level of market risk exposure.
 
Market risk
is rated based upon, but not
limited to, an assessment of the sensitivity of the financial institution’s
 
earnings or the
economic value of its capital to
adverse changes in interest rates, foreign exchange rates,
commodity prices or
equity prices;
management’s ability to
identify, measure,
 
measure, monitor and control exposure to market risk; and the nature and
complexity of
interest
rate risk exposure
arising from non-trading positions. Composite
ratings are based on evaluations of an institution’s
managerial, operational,
financial and compliance performance. The
composite CAMELS rating is not an arithmetical
arithmetical formula or rigid weighting of
numerical component ratings. Elements of
subjectivity and examiner judgment,
especially as
these relate to qualitative
assessments, are important elements in assigning ratings.
 
The federal bank regulatory agencies
are reviewing the CAMELS
rating system and their consistency.
In addition, and separate from the interagency UFIRS, the Federal Reserve assigns a risk
-management rating to all state
member banks. The summary,
or composite, rating, as well as each of the assessment areas, including risk management,
is
delineated on a numerical scale of 1 to 5, with 1 being the highest or best possible rating. Thus,
a bank with a composite
rating of 1 requires the lowest level of supervisory attention while a 5-rated bank has the
most critically deficient level of
performance and therefore requires the highest degree of supervisory attention.
The GLB Act and related regulations require banks and their affiliated companies
 
companies to adopt and disclose privacy policies,
including policies regarding the sharing of personal information with third parties.
 
The GLB Act also permits bank
subsidiaries to engage in “financial activities” similar to those permitted to financial
 
holding companies. In December 2015,
Congress amended the GLB Act as part of the Fixing America’s
 
Surface Transportation Act. This amendment
 
provided
financial institutions that meet certain conditions an exemption to the requirement to deliver
 
an annual privacy notice. On
August 10, 2018, the federal Consumer Financial Protection Bureau (“CFPB”)
 
announced that it had finalized conforming
amendments to its implementing regulation, Regulation
P.
 
A variety of federal and state privacy laws govern the collection, safeguarding, sharing and
 
and use of customer information,
and require that financial institutions have policies regarding information privacy
 
and security. Some
state laws also
protect
the privacy of information of state residents and require adequate security of such data,
 
such data, and certain state laws may, in
 
in some
circumstances, require us to notify affected individuals of security breaches
 
of computer databases that contain their
personal information. These laws may also require us to notify law enforcement, regulators
 
or consumer reporting agencies
in the event of a data breach, as well as businesses and governmental agencies that own data.
H.R. 1165, The Data Privacy Act of 2023,
was introduced in Congress on February 24, 2023 by Rep. McHenry,
the
Chairman of the House Financial Services Committee, to which the Bill was referred.
It amends various sections of the
GLB Act and preempts certain state privacy laws.
Its preemption provisions have triggered opposition by the minority in
the House of Representatives.
11
Community Reinvestment Act and Consumer Laws
The Bank is subject to the provisions
of the CRA and the Federal Reserve’s CRA
 
regulations thereunder.regulations.
 
Under the CRA, all FDIC-
FDIC-insuredinsured institutions have a continuing and affirmative obligation,
 
consistent with their safe and sound operation, to help
help meet the credit needs for their entire communities, including low-
 
and moderate-income (“LMI”) neighborhoods.
 
The CRA
requires a depository institution’s primary
 
federal regulator to periodically assess the institution’s
 
record of assessing and
meeting the credit needs of the communities served by that institution, including low
 
-
 
and moderate-income neighborhoods.
 
The bank regulatory agency’s
 
CRA assessment is publicly available.
 
Further, consideration of the CRA is required of any
FDIC-insured institution that has applied to: (i) charter a national bank; (ii) obtain deposit
 
insurance coverage for a newly-
chartered institution; (iii) establish a new branch office that accepts
 
deposits; (iv) relocate an office; or (v) merge or
consolidate with, or acquire the assets or assume the liabilities of, an FDIC-insured financial
 
financial institution.
 
In the case of bank
holding company applications to acquire a bank or other bank holding company,
 
the Federal Reserve will assess theand
emphasize CRA records
of each subsidiary depository institution of the applicant bank
holding company and the target
bank in meeting the needs of their entire communities, including LMI neighborhoods,
 
and such records may be the basis for
denying the application.
 
A less than satisfactory CRA rating will slow,
 
if not preclude, acquisitions, and new branches and
other expansion activities and may prevent a company from becoming a financial
 
financial holding company.
The Federal Reserve
also considers the effect of a bank acquisition proposal on the convenience
and need of the markets served by the
combining organizations.
 
CRA agreements with private parties must be disclosed and annual
 
CRA reports must be made to a bank’s primary
 
federal
regulator.
 
Community benefit plans have become common in banking mergers, especially
larger bank combinations.
The
National Community Resolution Coalition reported in February 2023
that it had executed more than 20 community benefit
plans with banking organizations.
A financial holding company election, and such election and financial holding company
activities are permitted
to be continued, only if any affiliated
bank has not received less than a
“satisfactory” “satisfactory” CRA rating.
 
The federal CRA
regulations require that evidence of discriminatory,
 
illegal or abusive lending practices be considered in
the CRA
evaluation.
 
On December 13, 2019, the FDIC and OCC issued a joint notice of proposed rulemaking
 
seeking comment on modernizing
the agencies’ CRA regulations. The OCC issued final revised CRA Rules effective
 
October 1, 2020, which were repealed
in 2021.
 
The Federal bank regulators are cooperating and working on new joint CRA regulations,
 
which are expected to bewere proposed in
proposed around the end of MarchMay 2022.
10
The Bank is also subject to, among other things, the Equal Credit Opportunity Act (the
 
“ECOA”) and the Fair Housing Act
and other fair lending laws, which prohibit discrimination based on race or
 
color, religion, national origin, sex and familial
status in any aspect of a consumer or commercial credit or residential real estate transaction.
 
The Department of Justice
(the “DOJ”), and the federal bank regulatory agencies have issued an Interagency Policy
 
Policy Statement on Discrimination in
Lending to provide guidance to financial institutions in determining whether discrimination
 
exists, how the agencies will
respond to lending discrimination, and what steps lenders might take to prevent discriminatory
 
discriminatory lending practices.
 
The DOJ
has prosecuted what it regards as violations of the ECOA, the Fair Housing Act, and
 
and the fair lending laws, generally.
The Bank had a “satisfactory” CRA rating in its latest CRA public evaluation dated February 28,
2022, with satisfactory
ratings on both its lending and community development tests.
On December 13, 2019, the FDIC and OCC issued a joint notice of proposed rulemaking
seeking comment on modernizing
the agencies’ CRA regulations. The OCC issued final revised CRA Rules effective
October 1, 2020, which were repealed
in 2021.
The Federal bank regulators are cooperating and working on new joint CRA regulations,
which were proposed by
the Federal Reserve, the FDIC and the Comptroller of the Currency in May and June 2022.
Proposed Revision of CRA Regulations
The federal banking regulators jointly proposed (the “CRA Proposal”)
revised CRA regulations on June 3, 2022.
It is
currently anticipated that these revised regulations may be adopted in the first half of 2023.
12
The objectives of the proposed CRA regulations included:
●
Update CRA regulations to strengthen the achievement of the core purpose of the statute;
●
Adapt to changes in the banking industry,
including the expanded role of mobile and online banking;
●
Provide greater clarity and consistency in the application of the regulations;
●
Tailor performance standards
to account for differences in bank size and business models
and local conditions;
●
Tailor data collection
and reporting requirements and use existing data whenever possible;
●
Promote transparency and public engagement;
●
Confirm that CRA and fair lending
responsibilities are mutually reinforcing; and
●
Create a consistent regulatory approach that applies to banks regulated by all three agencies.
The proposed regulations create a new framework for evaluating CRA performance.
The new framework would establish
the following four tests for large banks: Retail Lending Test;
Retail Services and Products Test;
Community Development
Financing Test; and Community
Development Services Test.
Intermediate banks would be evaluated under the Retail
Lending Test and the
status quo
community development test, unless they choose to opt into the Community Development
Financing Test. Small banks
would be evaluated under the
status quo
small bank lending test, unless they choose to opt into
the Retail Lending Test. Wholesale
and limited purpose banks would be evaluated under a tailored version of the
Community Development Financing Test.
The bank is currently an “intermediate small bank”.
As currently proposed, the Bank would be an “intermediate bank”
until it reached $2.0 billion or more in assets at the date(s) of determination.
Intermediate banks would be evaluated
generally under the new Retail Lending Test
for intermediate banks and a community development test.
The release
proposing the new rules states that the proposed Retail Lending Test
represents a significant change from the lending test
applicable to intermediate small banks in the agencies' current regulations, but intermediate
banks would not need to
collect, maintain, or report data to facilitate the application of this test.
Instead, as under the current CRA regulations,
examiners would continue to use information gathered from individual loan
files or maintained on an intermediate bank's
internal operating systems for purposes of the Retail Lending Test.
The proposed intermediate bank Community
Development Test evaluates all
community development activities, including community development loans,
qualified
investments, and community development services.
The Retail Lending and Community Development tests will be
weighted equally in determining intermediate banks’ CRA evaluations.
The proposed Retail Lending Test
“is intended to make a bank's retail lending evaluation more transparent and predictable
by specifying quantitative standards for lending consistent with achieving,
for example, a “Low Satisfactory” or
“Outstanding” conclusion in an assessment area. The proposed rule would limit the evaluation
of an intermediate bank's
retail lending performance to areas outside of its facility-based assessment areas only if it
does more than 50 percent of its
lending outside of its facility-based assessment areas.”
Under the Retail Lending test, an intermediate bank’s
lending test
would be based on its major product lines in each assessment area.
A major product line would be one or more of the six
retail loan product types: closed-end home mortgage loans; open-end home
mortgage loans; multifamily mortgage loans;
small business loans; small farm loans; or automobile loans.
The CRA Proposal states that “the agencies believe retail lending remains a core
part of a bank's affirmative obligation
under the CRA to meet the credit needs of their entire communities. At the same time, the
agencies recognize that,
compared to large banks, intermediate banks might not offer
as wide a range of retail products and services, have a more
limited capacity to conduct community development activities, and
may focus on the local communities where their
branches are located.”
The CRA Proposal reflects “the agencies’ views that banks of this size should have
meaningful
capacity to conduct community development financing, as they do under
the current approach.”
The CRA Proposal states
that the community development criteria for intermediate banks is unchanged
from the current intermediate small bank
community development test.
Intermediate banks would generally be exempt from the data collection,
maintenance, and reporting requirements
applicable to large banks under the
CRA Proposal.
Banks are currently required to delineate their CRA “assessment areas.”
The Bank currently designates two assessment
areas – the Auburn-Opelika MSA (lee County) and the Chambers-Macon-Tallapoosa
assessment area – comprised of
Chambers, Macon, and Tallapoosa
Counties.
The Bank operates two branches in the Chambers, Macon and Tallapoosa
Counties.
The CRA Proposal seeks to recognize electronic and remote delivery services.
Intermediate banks’ must
designate one or more facilities based CRA assessment areas.
13
The facilities based CRA assessment area under the CRA Proposal
would include a bank’s main office, branches,
and
deposit-taking ATMs.
An intermediate bank could continue to adjust the boundaries of a facilities based
assessment area to
include whole census tracts of a county or statistically equivalent entity that the bank could
reasonably be expected to serve.
Facilities based assessment areas could not extend across a state or metropolitan
statistical area (MSA) boundary,
unless the
facilities were located in a multistate MSA or combined statistical area.
Retail lending activities outside an intermediate
bank’s Facilities based assessment area
would be considered in aggregate at the bank level if such outside retail lending was
more than 50% of the bank’s total retail lending.
Otherwise, outside retail lending would not be considered.
Community
development
activities outside an intermediate bank’s
facilities based assessment area generally would not be considered.
The federal bank regulators have updated their guidance several times on overdrafts, including overdrafts
 
incurred at
automated teller machines and point of sale terminals.
 
Overdrafts also have been a CFPB concern, and in 2021 began
refocusing on this issue with a view to “insure that banks continue to evolve their businesses
 
businesses to reduce reliance on overdraft
and not sufficient funds fees.”
 
Among other things, the federal regulators require banks to monitor accounts and
 
to limit
the use of overdrafts by customers as a form of short-term, high-cost credit, including,
 
including, for example, giving customers who
overdraw their accounts on more than six occasions where a fee is charged
 
in a rolling 12 month period a reasonable
opportunity to choose a less costly alternative and decide whether to continue with fee-based
 
with fee-based overdraft coverage.
 
It also
encourages placing appropriate daily limits on overdraft fees, and asks banks to
 
consider eliminating overdraft fees for
transactions that overdraw an account by a
de minimis
amount.
 
Overdraft
policies, processes, fees and disclosures are
frequently the subject of litigation against banks in various jurisdictions. The
 
federal bank regulators continue to consider
responsible small dollar lending, including overdrafts and related fee issues and issued principals
 
issued principals for offering small-dollar
loans in a responsible manner on May 20, 2020.
CFPB Consumer Financial Protection Circular 2022-06 (Oct. 26, 2022)
 
concluded that overdraft fee practices must comply
with Regulation Z, Regulation E, and the prohibition against unfair,
deceptive, and abusive acts or practices in Section 1036
of the Consumer Financial Protection Act.
Further,
overdraft fees assessed by financial institutions on transactions that a
consumer would not reasonably anticipate are likely unfair even if these comply
with these other consumer laws and
regulations. The CFPB proposed on February 6, 2019 to rescind its mandatory underwriting
underwriting standards for loans covered by
its 2017 Payday,
Vehicle
 
Title and Certain High-Cost Installment Loans rule,
and has separately proposed delaying the
effectiveness of such 2017
rule.
The CFPB has a broad mandate to regulate consumer financial products and services,
 
services, whether or not offered by banks or
their affiliates.
 
The CFPB has the authority to adopt regulations and enforce various laws, including
 
including fair lending laws, the
Truth in Lending Act, the Electronic Funds Transfer
 
Act, mortgage lending rules, the Truth in Savings Act, the Fair
 
Credit
Reporting Act and Privacy of Consumer Financial Information rules.
 
Although the CFPB does not examine or supervise
banks with less than $10 billion in assets,
banks of all sizes are affected by the CFPB’s
 
regulations, and the precedents set
in CFPB enforcement actions and interpretations.
Residential Mortgages
CFPB regulations require that lenders determine whether a consumer
 
has the ability to repay a mortgage loan.
 
These
regulations establish certain minimum requirements for creditors
 
when making ability to repay determinations, and provide
certain safe harbors from liability for mortgages that are "qualified mortgages"
 
mortgages" and are not “higher-priced.”
 
Generally,
these CFPB regulations apply to all consumer, closed-end
 
closed-end loans secured by a dwelling including home-purchase loans,
refinancing and home equity loans—whether first or subordinate lien. Qualified
 
mortgages must generally satisfy detailed
requirements related to product features, underwriting standards,
 
and requirements where the total points and fees on a
mortgage loan cannot exceed specified amounts or percentages of the total loan amount.
 
Qualified mortgages must have:
(1) a term not exceeding 30 years; (2) regular periodic payments that do not result in negative
 
negative amortization, deferral of
principal repayment, or a balloon payment; (3) and be supported with documentation of the
 
the borrower and its credit. On
December 10, 2020, the CFPB issued final rules related to “qualified mortgage” loans. Lenders
 
Lenders are required under the law
to determine that consumers have the ability to repay mortgage loans before lenders
 
lenders make those loans. Loans that meet
standards for QM loans are presumed to be loans for which consumers have the ability to
 
repay.
We focus our residential
 
mortgage origination on qualified mortgages and those that meet our investors’ requirements,
 
but
we may make loans that do not meet the safe harbor requirements for “qualified
 
“qualified mortgages.”
14
The Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018
 
(the “2018 Growth Act”) provides that
certain residential mortgages held in portfolio by banks with less than $10 billion in consolidated
 
in consolidated assets automatically are
deemed “qualified mortgages.” This relieves smaller institutions from
 
many of the requirements to satisfy the criteria listed
above for “qualified mortgages.” Mortgages meeting the “qualified
 
mortgage” safe harbor may not have negative
amortization, must follow prepayment penalty limitations included
in the Truth
in Lending Act, and may not have
fees
greater than 3% of the total value of the loan.
11
The Bank generally services the loans it originates, including those it sells.
 
The CFPB’s mortgage servicing standards
include requirements regarding force-placed insurance, certain notices
 
prior to rate adjustments on adjustable rate
mortgages, and periodic disclosures to borrowers. 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.
Servicers must provide borrowers with 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. These standards increase the cost and compliance
 
risks of servicing mortgage
loans, and the mandatory delays in foreclosures could result in loss of value on collateral or
 
or the proceeds we may realize
from a sale of foreclosed property.
 
The Federal Housing Finance Authority (“FHFA”)
 
updated, effective January 1, 2016, The Federal National
Mortgage
Association’s (“Fannie Mae’s”)
 
and the Federal Home Loan Mortgage Corporation (“Freddie Mac’s”)
 
(individually and
collectively, “GSE”) repurchase
 
rules, including the kinds of loan defects that could lead to a repurchase request to, or
alternative remedies with, the mortgage loan originator or seller.
 
These rules became effective January 1, 2016.
 
FHFA also
has updated these GSEs’ representations and warranties framework and provided
 
provided an independent dispute resolution
(“IDR”) process to allow a neutral third party to resolve demands after the GSEs’ quality
 
control and appeal processes have
been exhausted.
The Bank is subject to the CFPB’s integrated
 
integrated disclosure rules under the Truth in Lending
Act and the
Real Estate
Settlement Procedures Act, referred to as “TRID”, for credit transactions secured
 
by real property. Our residential
 
mortgage
strategy, product offerings,
 
and profitability may change as these regulations are interpreted and applied
 
in practice, and
may also change due to any restructuring of Fannie Mae and Freddie Mac
as part of the resolution
of their conservatorships.
The 2018 Growth Act reduced the scope of TRID rules by eliminating the wait time for
 
for a mortgage, if an additional creditor
offers a consumer a second offer with a lower annual percentage
 
rate. Congress encouraged federal regulators to provide
better guidance on TRID in an effort to provide a clearer understanding
 
for consumers and bankers alike. The law also
provides partial exemptions from the collection, recording and reporting requirements
 
under Sections 304(b)(5) and (6) of
the Home Mortgage Disclosure Act (“HMDA”), for those banks with fewer than 500
 
closed-end mortgages or less than
500 open-end lines of credit in both of the preceding two years, provided
 
the bank’s rating under the CRA for the previous
two years has been at least “satisfactory.”
 
On August 31, 2018, the CFPB issued an interpretive and procedural rule to
implement and clarify these requirements under the 2018 Growth
Act.
 
The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”)
 
was enacted on March 27, 2020. Section 4013 of
the CARES Act, “Temporary
 
Relief From Troubled Debt Restructurings,” provides banks
 
the option to temporarily
suspend certain requirements under ASC 340-10 TDR classifications
 
for a limited period of time to account for the effects
of COVID-19. On April 7, 2020, the Federal Reserve and the other banking agencies and
 
regulators issued a statement,
“Interagency Statement on Loan Modifications and Reporting for Financial Institutions
 
Working With
 
Customers Affected
by the Coronavirus (Revised)” (the “Interagency Statement on COVID-19
 
Loan Modifications”), to encourage banks to
work prudently with borrowers and to describe the agencies’ interpretation of
 
how accounting rules under ASC 310-40,
“Troubled Debt Restructurings by Creditors,”
apply to covered
modifications. The Interagency Statement on COVID-19
Loan Modifications was supplemented on June 23, 2020 by the Interagency Examiner
 
Guidance for Assessing Safety and
Soundness Considering the Effect of the COVID-19 Pandemic on Institutions.
 
If a loan modification is eligible, a bank may
elect to account for the loan under section 4013 of the CARES Act. If a loan modification is not eligible
 
under section
4013, or if the bank elects not to account for the loan modification under section 4013,
 
the Revised Statement includes
criteria when a bank may presume a loan modification is not a TDR in accordance
 
with ASC 310-40.
15
Section 4021 of the CARES Act allows borrowers under 1-to-4 family residential
 
mortgage loans sold to Fannie Mae to
request forbearance to the servicer after affirming that such borrower is experiencing
 
is experiencing financial hardships during the
COVID-19 emergency.
 
Such forbearance will be up to 180 days, subject to up to a 180 day180-day extension. During
 
forbearance,
no fees, penalties or interest shall be charged beyond those applicable
 
if all contractual payments were fully and timely
paid. Except for vacant or abandoned properties, Fannie Mae servicers
 
may not initiate foreclosures on similar procedures
or related evictions or sales until December 31, 2020. On February 9. 2021,The forbearance period
 
the forbearance period was extended to MarchFebruary 28, 2021 and then
again to March 31, 2021 after being extended earlier to February 28, 2021. Borrowers
 
Borrowers who are on a COVID-19 forbearance
plan as of February
28, 2021 may apply for an additional forbearance extension of up to
three additional
months. The Bank
sells mortgage
loans to Fannie Mae and services these on an actual/actual basis. As a
result, the Bank is
not obligated to
make any
advances to Fannie Mae on principal and interest on such mortgage loans where
 
where the borrower is entitled to
forbearance.
FinCEN published a request for information and comment on December 15, 2021
 
2021 seeking ways to streamline, modernize
the United States AML and countering the financing of terrorists.
12
Anti-Money Laundering and Sanctions
The International Money Laundering Abatement and Anti-TerrAnti-Terrorism
 
orism Funding Act of 2001 specifies “know your customer”
requirements that obligate financial institutions to take actions to verify the
identity of the
account holders in connection
with opening an account at any U.S. financial institution.
 
Bank regulators are required to consider compliance with anti-
money laundering laws in acting upon merger and acquisition and
 
other expansion proposals under the BHC Act and the
Bank Merger Act, and sanctions for violations of this Act can be imposed
 
in an amount equal to twice the sum involved in
the violating transaction, up to $1 million.
 
Under the Uniting and Strengthening America by Providing Appropriate Tools
 
Required to Intercept and Obstruct
Terrorism Act of 2001
 
(the “USA PATRIOT
 
Act”), financial institutions are subject to prohibitions against specified
financial transactions and account relationships as well as to enhanced due diligence and
 
and “know“know your customer” standards
in their dealings with foreign financial institutions and foreign customers.
 
The USA PATRIOT
 
Act requires financial institutions to establish anti-money laundering programs,
 
programs, and sets forth
minimum standards, or “pillars” for these programs, including:
 
●
the development of internal policies, procedures, and controls;
●
the designation of a compliance officer;
 
●
an ongoing employee training program;
 
●
an independent audit function to test the programs; and
●
ongoing customer due diligence and monitoring.
Federal Financial Crimes Enforcement Network (“FinCEN”) rules effective
 
May 2018 require banks to know the beneficial
owners of customers that are not natural persons, update customer information in order
 
in order to develop a customer risk profile,
and generally monitor such matters.
 
On August 13, 2020, the federal bank regulators issued a joint statement clarifying that isolated
 
isolated or technical violations or
deficiencies are generally not considered the kinds of problems that would
 
would result in an enforcement action. The statement
addresses how the agencies evaluate violations of individual pillars of the Bank Secrecy
 
Act and anti-money laundering
(“AML/BSA”) compliance program. It describes how the agencies incorporate
 
the customer due diligence regulations and
recordkeeping requirements issued by the U.S. Department of the Treasury
 
(“Treasury”) as part of the internal controls
pillar of a financial institution's AML/BSA compliance program.
On September 16, 2020, FinCEN issued an advanced notice of proposed
 
rulemaking seeking public comment on a wide
range of potential regulatory amendments under the Bank Secrecy Act. The proposal
 
proposal seeks comment on incorporating an
“effective and reasonably designed” AML/BSA program component
 
to empower financial institutions to allocate resources
more effectively.
 
This component also would seek to implement a common understanding between
 
between supervisory
agencies
and financial institutions regarding the necessary AML/BSA program elements,
 
and would seek to impose minimal
additional obligations on AML programs that already comply under the existing supervisory
 
framework.
 
16
On October 23, 2020, FinCEN and the Federal Reserve invited comment on a proposed
 
rule that would amend the
recordkeeping and travel rules under the Bank Secrecy Act, which would lower the applicable
 
threshold from $3,000 to
$250 for international transactions and apply these to transactions using convertible
 
convertible virtual currencies and digital assets
with legal tender status.
On January 1, 2021, Congress enacted the Anti-Money Laundering
 
Act of 2020 and the Corporate Transparency Act
(collectively, the “AML
 
Act”), to strengthen anti-money laundering and countering terrorism
 
financing programs. Among
other things, the AML Act:
•●
specifies uniform disclosure of beneficial ownership information for all U.S. and
 
foreign entities conducting business
business in the U.S.;
•●
increases potential fines and penalties for BSA violations and improves whistleblower
 
whistleblower incentives;
●
13
•
codifies the risk-based approach to AML compliance;
•●
modernizes AML systems;
•●
expands the duties and powers FinCEN; and
•●
emphasizes coordination and information-sharing among financial institutions, U.S.
 
financial regulators and foreign
foreign financial regulators.
The Corporate Transparency Act (the”CTA”)
was adopted as Title LXIV of the William
M. (Mac) Thornberry National
Defense Authorization Act for Fiscal Year
2021.
FinCEN adopted a final regulation as 31 C.F.R.
101.380 on September
30, 2022, which is effective on January 1, 2024 to implement the CTA.
These regulations require entities to report
information about their beneficial owners and the individuals who created the entity (together,
beneficial ownership
information or BOI).
FinCEN explained that the proposed rule would help protect the U.S. financial system from illicit
use
by making it more difficult for bad actors to conceal their financial activities
through entities with opaque ownership
structures.
FinCEN also explained that the proposed reporting obligations would provide
essential information to law
enforcement and others to help prevent corrupt actors, terrorists, and proliferators from hiding
money or other property in
the United States.”
The new rules expand financial institutions’ obligations under the Customer
Due Diligence Rule
(“CDD Rule”) to collect information and verify the beneficial ownership of legal entities.
The United States has imposed various sanctions upon various foreign countries,
 
such as China, Iran, North Korea, Russia
and Venezuela,
 
and their certain government officials and persons.
 
Banks are required to comply with these sanctions,
which require additional
customer screening and transaction monitoring.
Russia’s February 2022 invasion
of Ukraine has generated a significant number of new sanctions on Russia, Russian
persons and suppliers of military or dual-purpose products to Russia,
The Federal bank regulators have issued alerts that
Russia and others may step up cyber attacks and data intrusions following the invasion.
FinCen has issued four alerts on
potential Russian illicit financial activity since February 2022.
On January 25, 2023 FinCEN issued an alert to financial
institutions on potential investments in the U.S. commercial real estate sector by sanctioned
Russian elites, oligarchs, their
family members, and the entities through which they act. The alert listed
potential red flags and typologies involving
attempted sanctions evasion in the commercial real estate sector,
and reminds financial institutions of their Bank Secrecy
Act (BSA) reporting obligations.
Bill H.R. 1164, the OFAC
Outreach and Engagement Capabilities and Enhancement
Act, was introduced in Congress on
February 24, 2023.
It would set up a review of and improve OFAC
outreach and communications to assist financial
institutions to better understand and comply with OFAC
sanctions.
Other Laws and Regulations
The Company is also required to comply with various corporate governance and financial
 
financial reporting requirements under the
Sarbanes-Oxley Act of 2002, as well as related rules and regulations adopted
 
by the SEC, the Public Company Accounting
Oversight Board and Nasdaq. In particular, the Company
 
the Company is required to report annually on internal controls as part of its
annual report pursuant to Section 404 of the Sarbanes-Oxley Act.
 
17
The Company has evaluated its controls, including compliance
 
with the SEC and FDIC rules on internal controls, and
expects to
continue to spend significant amounts of time and money on compliance
with these rules.
If the Company fails to comply
comply with these internal control rules in the future, it may materially adversely affect
 
affect its reputation, its ability to obtain the
the necessary certifications to its financial statements, its relations
with its regulators
and other financial institutions with which
which it deals, and its ability to access the capital markets and offer
and sell Company
securities on terms and conditions
acceptable to the Company. The Company’s
 
assessment of its financial reporting controls as of December 31, 20212022 are
included in this report with no material weaknesses reported.
Payment of Dividends and Repurchases of Capital
Instruments
The Company is a legal entity separate and distinct from the Bank. The Company’s
 
primary source of cash is dividends
from the Bank. Prior regulatory approval is required if the total of all dividends declared
 
by a state member bank (such as
the Bank) in any calendar year will
exceed the sum of such bank’s
 
net profits for the year and its retained net profits for the
preceding two calendar years, less any required transfers to surplus. During 2021,2022,
 
the Bank paid total cash dividends of
approximately $3.7 million to the Company.
 
At December 31, 2021,2022, the Bank could have declared and paid additional
dividends of approximately $8.3$13.9 million without prior regulatory approval.
In addition, the Company and the Bank are subject to various general regulatory policies and
 
and requirements relating to the
payment of dividends, including requirements to maintain capital above regulatory
 
minimums. The appropriate federal and
state regulatory authorities are authorized to determine when the payment of dividends
 
would be an unsafe or unsound
practice, and may prohibit such dividends. The Federal Reserve has indicated that paying
 
dividends that deplete a state
member bank’s capital base to an inadequate level
 
level would be an unsafe and unsound banking practice. The
Federal Reserve
has indicated that depository institutions and their holding companies should generally pay
 
generally pay dividends only out of current
year’s operating earnings.
 
Federal Reserve Supervisory Letter SR-09-4 (February 24, 2009),
 
as revised December 21, 2015, applies to dividend
payments, stock redemptions and stock repurchases.
 
Prior consultation with the Federal Reserve supervisory staff is
required before:
•●
redemptions or repurchases of capital instruments when the bank
 
holding company is experiencing financial
weakness; and
•●
redemptions and purchases of common or perpetual preferred stock which
 
which would reduce such Tier 1 capital at end
end of the period compared to the beginning of the period.
14
Bank holding company directors must consider different factors to
 
to ensure that its dividend level is prudent relative to
maintaining a strong financial position, and is not based on overly optimistic earnings
 
scenarios, such as potential events
that could affect its ability to pay,
 
while still maintaining a strong financial position. As a general matter,
 
the Federal
Reserve has indicated that the board of directors of a bank holding company
 
should consult with the Federal Reserve and
eliminate, defer or significantly reduce the bank holding company’s
 
dividends if:
•●
its net income available to shareholders for the past four quarters, net of dividends previously
 
paid during that
period, is not sufficient to fully fund the dividends;
 
•●
its prospective rate of earnings retention is not consistent with its capital needs and overall
 
current and prospective
prospective financial condition; or
 
•●
It will not meet, or is in danger of not meeting, its minimum regulatory capital adequacy
 
adequacy ratios.
 
The Basel III Capital Rules further limit permissible dividends, stock repurchases and discretionary
 
bonuses by the
Company and the Bank, respectively,
 
unless the Company and the Bank meet the capital conservation buffer
 
requirement
effective January 1, 2019.requirement.
 
See "Basel III Capital Rules."
18
Under a new provision of the capital rules, effective January 1,
 
2021, if a bank’s capital ratios are
 
within its buffer
requirements, the maximum amount of capital distributions it can
make is based
on its eligible retained income. Eligible
retained income equals the greater of:
•●
net income for the four preceding calendar quarters, net of any distributions and associated
 
tax effects not already
already reflected in net income; or
•●
the average net income over the preceding four quarters.
Regulatory Capital Changes
 
Simplification
The federal bank regulators issued final rules on July 22, 2019 simplifying their capital rules.
 
The last of these changes
become effective on April 1, 2020.
 
The principal changes for standardized approaches institutions, such the
 
Company and
the Bank are:
●
Deductions from capital for certain items, such as temporary difference
 
DTAs, MSAs and investments
 
in
unconsolidated subsidiaries were decreased to those amounts that individually exceed 25%
 
25% of CET1;
●
Institutions can elect to deduct investments in unconsolidated subsidiaries or subject them
 
them to capital requirements;
and
●
Minority interests would be includable up to 10% of (i) CET1 capital, (ii) Tier
 
1 capital and (iii) total capital.
 
HVCRE
In December 2019, the federal banking regulators published a final rule, effective
 
April 1, 2020, to implement the “high
volatility commercial real estate,” or “HVCRE” changes in Section 214 of the 2018
 
Growth Act.
 
Any HVCRE exposure
excludes loans made before January 1, 2015.
The new rules define
HVCRE loans as loans secured by land or improved real
property that:
●
primarily finance or refinance the acquisition, development, or construction of real property;
●
the purpose of such loans must be to acquire, develop, or improve such real property into
 
income producing
property; and
●
the repayment of the loan must depend on the future income or sales proceeds
from, or refinancing
of, such real
property.
15
Various
 
exclusions from HVCRE are specified.
 
The full value of any borrower contributed land (net of any liens on the
land securing HVCRE exposure) count toward the 15% capital contribution to
the appraised as completed value, which is
one of the criteria for exemption form the heightened risk weight.
Banking institutions and their holding companies are
required to assign
150% risk weight to HVCRE loans.
Community Capital Rule
On October 29, 2019, the federal banking regulators adopted, effective January
1, 2020, an optional community banking
leverage ratio framework applicable to depository institutions and their
holding companies intended to reduce regulatory
burdens for qualifying community banking organizations that do
not use advanced approaches capital measures, and that
have:
●
less than $10 billion of assets;
●
a leverage ratio greater than 9%;
●
off-balance sheet exposures of 25% or less of total consolidated
assets; and
●
trading assets plus trading liabilities of less than 5% of total consolidated assets.
The leverage ratio would be Tier 1 capital
divided by average total consolidated assets, taking into account the capital
simplification discussed above and the CECL related capital transitions.
The community bank leverage ratio will be the sole capital measure, and electing institutions
will not have to calculate or
use any other capital measure.
It is estimated that 85% of depository institutions will be eligible to use this rule.
The
Company expects it would be eligible to make such election, if the Company determined
it desirable.
After preliminary
consideration, the Company believes that it would still need to calculate the regulatory
capital ratios, which investors would
find helpful in comparing the Company to others.
Capital
The Federal Reserve has risk-based capital guidelines for bank holding companies and
 
and state member banks, respectively.
 
These guidelines required, at year endbeginning December 31, 2019, a minimum ratio of capital to risk-weighted
 
risk-weighted assets (including
certain off-balance
sheet activities, such as standby letters of credit)
and capital conservation buffer,
of totaling 10.5%.
 
Tier 1
capital includes common
equity and related retained earnings and a limited amount
of qualifying preferred
stock, less
goodwill and certain core
deposit intangibles.
 
Voting
 
common equity must be the predominant form of capital.
 
Tier 2
capital consists of non–
qualifying preferred stock, qualifying subordinated,
perpetual, and/or mandatory convertible debt,
debt, term subordinated debt
and intermediate term preferred stock, up to 45% of pretax unrealized holding
 
holding gains on available for
sale equity securities
with readily determinable market values that are prudently valued,
 
valued, and a limited amount of general
loan loss allowance.
Tier 1 and Tier
 
2 capital equals total capital.
 
19
In addition, the Federal Reserve has established minimum leverage ratio guidelines
 
for bank holding companies not subject
to the Small BHC Policy, and
 
state member banks, which provide for a minimum leverage ratio of Tier
 
1 capital to adjusted
average quarterly assets (“leverage ratio”) equal to 4%.
 
However, bank regulators expect banks and bank holding
companies to operate with a higher leverage ratio.
 
The guidelines also provide that institutions experiencing internal
growth or making acquisitions will be expected to maintain strong capital positions substantially
 
substantially above the minimum
supervisory levels without significant reliance on intangible assets.
 
Higher capital may be required in individual cases and
depending upon a bank holding company’s
 
risk profile.
 
All bank holding companies and banks are expected to hold capital
commensurate with the level and nature of their risks including the volume and severity of
 
their problem loans.
 
Lastly, the
Federal Reserve’s
guidelines indicate
that the Federal Reserve will continue to consider a “tangible Tier
 
Tier 1
leverage ratio”
(deducting (deducting all intangibles) in evaluating proposals for expansion or
new activity.activities.
 
The level of Tier 1
capital to risk-adjusted
assets is becoming more widely used by the bank regulators to
measure capital adequacy. The
The Federal Reserve has not
advised the Company or the Bank of any specific minimum leverage
ratio or
tangible Tier 1
leverage ratio applicable to
them. Under Federal Reserve policies, bank holding companies
are generally expected to
to operate with capital positions well
above the minimum ratios. The Federal
Reserve believes the risk-based
ratios do not
fully take into account the quality of
capital and interest rate, liquidity,
 
market and operational risks. Accordingly,
supervisory assessments of capital adequacy
may differ significantly
from conclusions based solely on the
level of an
organization’s riskrisk-based
 
-based capital ratio.
16
The Federal Deposit Insurance Corporation Improvement Act of 1991
(“FDICIA”), among
other things, requires the federal
banking agencies to take “prompt corrective action” regarding depository institutions that
 
institutions that do not meet minimum capital
requirements.
 
FDICIA establishes five capital tiers: “well capitalized,” “adequately capitalized,”
 
“undercapitalized,”
“significantly undercapitalized” and “critically undercapitalized.”
 
A depository institution’s capital tier
will depend upon
how its capital levels compare to various relevant capital measures and certain other
 
other factors, as established by regulation.
 
See
 
“Prompt Corrective Action Rules.”
Basel III Capital Rules
The Federal Reserve and the other bank regulators adopted in June 2013 final capital rules
 
for bank holding companies and
banks implementing the Basel Committee on Banking Supervision’s
 
“Basel III: A Global Regulatory Framework for more
Resilient Banks and Banking Systems.”
 
These new U.S. capital rules are called the “Basel III Capital Rules,” and
generally
were fully phased-in on January 1, 2019.
The Basel III Capital Rules limit Tier 1 capital to
 
to common stock and noncumulative perpetual preferred stock, as well as
certain qualifying trust preferred securities and cumulative perpetual preferred
 
stock issued before May 19, 2010, each of
which were grandfathered in Tier 1 capital
for bank holding
companies with less than $15 billion in assets.
 
The Company
had no qualifying trust preferred securities or cumulative preferred stock outstanding at December
 
31, 2020.2021 or 2022.
 
The
Basel III
Capital Rules also introduced a new capital measure, “Common Equity Tier
 
Tier I Capital” or “CET1.”
 
CET1 includes common
common stock and related surplus, retained earnings and, subject to certain adjustments,
 
minority common equity interests in
in subsidiaries.
 
CET1 is reduced by deductions for:
●
Goodwill and other intangibles, other than mortgage servicing assets (“MSRs”),
 
which are treated separately, net
of associated deferred tax liabilities (“DTLs”);
 
●
Deferred tax assets (“DTAs”)
 
arising from operating losses and tax credit carryforwards net of allowances and
DTLs;
 
●
Gains on sale from any securitization exposure; and
 
●
Defined benefit pension fund net assets (i.e., excess plan assets), net of associated DTLs.
The Company made a one-time election in 2015 and, as a result, CET1the Company’s
 
willCET1 is not be adjusted for certain
accumulated other
comprehensive income (“AOCI”).
20
Additional “threshold deductions” of the following that are individually greater
 
greater than 10% of CET1 or collectively greater
than 15% of CET1 (after the above deductions are also made):
●
MSAs, net of associated DTLs;
●
DTAs arising from temporary
 
differences that could not be realized through net operating loss carrybacks,
 
net of
any valuation allowances and DTLs; and
●
Significant common stock investments in unconsolidated financial institutions,
 
net of associated DTLs.
As discussed below, recent regulations
 
change these items to simplify and improve their capital treatment.treatment for regulatory
capital purposes.
Noncumulative perpetual preferred stock and Tier
 
1 minority interest not included in CET1, subject to limits, will qualify as
additional Tier I capital.
 
All other qualifying preferred stock, subordinated debt and qualifying minority interests
 
will be
included in Tier 2 capital.
In addition to the minimum risk-based capital requirements, a new “capital
 
conservation buffer” of CET1 capital of at least
2.5% of total risk weighted assets, will be required.
 
The capital conservation buffer will be calculated as the
lowest
 
of:
●
the banking organization’s
 
CET1 capital ratio minus 4.5%;
 
●
the banking organization’s
 
tier 1 risk-based capital ratio minus 6.0%; and
 
17
●
the banking organization’s
 
total risk-based capital ratio minus 8.0%.
Full compliance with the capital conservation buffer was required
 
bybeginning January 1, 2019. At such time,
Thereafter, permissible dividends,
dividends, stock repurchases and discretionary bonuses will be limited to the following percentages
 
percentages based on the capital conservation
conservation buffer as calculated above, subject to any further regulatory limitations,
 
limitations, including those based on risk
assessments and
enforcement actions:
Buffer %
Buffer % Limit
More than 2.50%
None
> 1.875% - 2.50%
60.0%
> 1.250% - 1.875%
40.0%
> 0.625% - 1.250%
20.0%
≤ 0.625
- 0 -
EffectiveOn March 20, 2020, the Federal Reserve and the other
federal banking regulators adopted
an interim final rule that
amended the capital conservation buffer in light of the disruptive effects
 
effects of the COVID-19 pandemic. The interim final
This clarifying rule
was adopted as a final rule on August 26, 2020. The new rule revises the definition of
“eligible “eligible retained income” for
purposes of the maximum payout
ratio to allow banking
organizations
to more freely use their capital buffers to promote
lending and other financial intermediation activities, by
making the limitations on
capital distributions more gradual. The
eligible retained income, as used in the Federal Reserve’s
Regulation Q capital rule, as corrected on January 13, 2021, is now the greater of (i) net income
for the four preceding quarters,
net of distributions and
associated tax effects not reflected in net income; and (ii)
the average
of all net income over the
preceding four quarters.
The interim final rule only affects the capital buffers, and banking
 
Banking organizations were encouraged to
make prudent capital
distribution decisions.
21
The various capital elements and total capital under the Basel III Capital Rules, as fully phased
 
in on January 1, 2019 are:
Fully Phased In
January 1, 2019
Minimum CET1
 
4.50%
CET1 Conservation Buffer
 
2.50%
Total CET1
 
7.0%
Deductions from CET1
100%
Minimum Tier 1 Capital
 
6.0%
Minimum Tier 1 Capital
plus
conservation buffer
8.5%
Minimum Total Capital
 
8.0%
Minimum Total Capital
plus
conservation buffer
10.5%
Changes in Risk-Weightings
The Basel III Capital Rules significantly change the risk weightings used to determine risk
 
weighted capital adequacy.
 
Among various other changes, the Basel III Capital Rules apply a 250% risk-weighting
 
to MSRs, DTAs that
 
cannot be
realized through net operating loss carry-backscarrybacks and significant (greater
than 10%)
investments in other financial
institutions.
 
A 150% risk-weighted category applies to “high volatility commercial real estate loans,”
 
loans,” or “HVCRE,” which
are credit
facilities for the acquisition, construction or development of real property,
 
property, excluding one-to-four family residential
residential properties or commercial real estate projects where: (i) the loan-to-value ratio is
 
is not in excess of interagency real estate
estate lending standards; and (ii) the borrower has contributed capital
equal to not less than
15% of the real estate’s
“as “as
completed” value before the loan was made.
18
The Basel III Capital Rules also changed some of the risk weightings used to determine risk-weighted
 
risk-weighted capital adequacy.
Among other things, the Basel III Capital Rules:
●
Assigned a 250% risk weight to MSRs;
●
Assigned up to a 1,250% risk weight to structured securities, including private label
 
mortgage securities, trust
preferred CDOs and asset backed securities;
●
Retained existing risk weights for residential mortgages, but assign a 100%
 
risk weight to most commercial real
estate loans and a 150% risk-weight for HVCRE;
●
Assigned a 150% risk weight to past due exposures (other than sovereign exposures
 
and residential mortgages);
 
●
Assigned a 250% risk weight to DTAs,
 
to the extent not deducted from capital (subject to certain maximums);
●
Retained the existing 100% risk weight for corporate and retail loans; and
●
Increased the risk weight for exposures to qualifying securities firms from 20% to
100%.
In December 2019 the federal bank regulators revised their definition of HVCRE loans currently have a risk weight of 150%.and related
capital requirements
consistent with Section 214 of the 2018
Growth Act, restricts the federal bank
regulators from applying this risk weight except to certain ADC loans. The federal
bank regulators issued a notice of a
proposed rule on September 18, 2018 to implement Section 214
of the 2018 Growth Act, by revising the definition
HVCRE. If this proposal is adopted, it is expected that this proposal could
reduce the Company’s risk weighted assets
and
thereby may increase the Company’s
risk-weighted capital.
Act.
The Financial Accounting Standards Board’s
 
(the “FASB”(“FASB”) Accounting Standards
 
Standards Update (“ASU”) No. 2016-13 “Financial
Instruments – Credit Losses (Topic
 
326): Measurement of Credit Losses on Financial Instruments” on June 16, 2016,
 
which
changed the loss model to take into account current expected credit losses (“CECL”)
 
in place of the incurred loss method.
The Federal Reserve and the other federal banking agencies adopted rules effective
 
rules effective on April 1, 2019 that allows banking
organizations to phase in the regulatory capital effect of a reduction
 
in retained earnings upon adoption of CECL over a
three yearthree-year period.
 
On May 8, 2020, the agencies issued a statement describing the measurement of expected credit
 
credit losses
using the CECL methodology,
 
and updated concepts and practices in existing supervisory guidance that
 
remain applicable.
CECL isbecame effective for the Company beginning January 1, 2023
 
2023.
22
The Company is currently finalizing controls, processes, policies and disclosures and
has completed full end-to-end parallel
runs.
Based on the Company’s portfolio composition
as of December 31, 2022, and current expectations of future
economic conditions, the reserve for credit losses is expected to increase from 1.14%
as a percentage of total loans at
December 31, 2022 to a range between 1.32% and 1.36% of total loans.
These effects result from changing from the
incurred loss model to CECL’s
expected loss model, which provides for expected credit losses over the life of the loan
portfolio.
The Company does not been adopted early.expect to record an allowance for available-for-sale
securities as the investment portfolio
consists primarily of debt securities explicitly or implicitly backed by the U.S. Government
for which credit risk is deemed
minimal.
ASU 2016-13 is not expected to have a material impact on the allowance for unfunded
commitments.
The
estimates described herein regarding CECL’s
 
effects upon the
Company have not yet been determined.are subject to change as key assumptions are refined.
 
These effects in
2023 and later will depend on the future composition, characteristics, and credit
quality of the loan and securities portfolios
as well as the economic conditions at future reporting periods that are included in our
CECL models.
Federal Reserve Capital Review
The Federal Reserve’s Vice
Chair for Supervision is considering a holistic review of regulatory capital requirements,
which
are expected to focus on banking organizations larger
than the Company.
Recently a Federal Reserve.
Prompt Corrective Action Rules
All of the federal bank regulatory agencies’ regulations establish risk-adjusted
 
measures and relevant capital levels that
implement the “prompt corrective action” standards.
 
The relevant capital measures are the total risk-based capital ratio,
Tier 1 risk-based capital ratio, Common equity tier
 
1 capital ratio, as well as the leverage capital ratio.
 
Under the
regulations, a state member bank will be:
●
well capitalized if it has a total risk-based capital ratio of 10% or greater,
 
a Tier 1 risk-based capital ratio of 8% or
greater, a Common equity tier 1 capital ratio
 
of 6.5% or greater, a leverage capital ratio of 5% or greater
 
greater and is not
subject to any written agreement, order,
 
capital directive or prompt corrective action directive by a federal bank
regulatory agency to maintain a specific capital level for any capital
 
measure;
●
“adequately capitalized” if it has a total risk-based capital ratio of 8%8.0% or greater,
 
a Tier 1 risk-based capital ratio of
6%of 6.0% or greater, a Common Equity Tier
 
1 capital ratio of 4.5% or greater, and generally has a leverage capital
 
ratiocapital
ratio of 4%4.0% or greater;
●
“undercapitalized” if it has a total risk-based capital ratio of less than 8%8.0%, a Tier
 
1 risk-based capital ratio of less
than 6%6.0%, a Common Equity Tier 1 capital
ratio of less than 4.5%
or generally has a leverage capital ratio of less
than 4%4.0%;
19
●
“significantly undercapitalized” if it has a total risk-based capital ratio of less than 6%6.0%, a Tier
 
Tier 1 risk-based capital
capital ratio of less than 4%6.0%, a Common Equity Tier 1
capital ratio
of less than 3%, or a leverage capital ratio of
less than
3% 3.0%; or
●
“critically undercapitalized” if its tangible equity is equal to or less than 2%2.0% to total assets.
The federal bank regulatory agencies have authority to require additional capital
 
andwhere they determine it is necessary,
including where a bank is unsafe or unsound condition or where the bank is determined
to have indicatedless than a satisfactory
rating on any of its CAMELS ratings. The regulators have confirmed that higher capital levels
levels may be required in light of
market conditions and risk.
Depository institutions that are “adequately capitalized” for bank regulatory purposes
 
must receive a waiver from the FDIC
prior to accepting or renewing brokered deposits, and cannot pay interest rates or brokered
 
deposits that exceeds market
rates by more than 75 basis points.
 
Banks that are less than “adequately capitalized” cannot accept
 
or renew brokered
deposits.
 
FDICIA generally prohibits a depository institution from making any capital distribution,
 
(including paying
dividends)dividends or paying any management fee to its holding company,
 
if the depository institution thereafter would be
“undercapitalized”.
 
Institutions that are “undercapitalized” are subject to growth limitations and are required
 
required to submit a
capital restoration plan for approval.
23
A depository institution’s parent holding company
 
must guarantee that the institution will comply with such capital
restoration plan.
 
The aggregate liability of the parent holding company is limited to the lesser
 
of 5% of the depository
institution’s total assets at the time it became
 
undercapitalized and the amount necessary to bring the institution into
compliance with applicable capital standards.
 
If a depository institution fails to submit an acceptable plan, it is treated
 
as if
it is “significantly undercapitalized”.
 
If the controlling holding company fails to fulfill its obligations under FDICIA and
files (or has filed against it) a petition under the federal Bankruptcy Code, the claim against
 
the holding company’s capital
restoration obligation would be entitled to a priority in such bankruptcy proceeding over
 
over third partythird-party creditors of the bank
holding company.
Significantly undercapitalized
depository institutions may be subject
to a number of requirements and restrictions,
including orders to sell sufficient voting stock to become “adequately capitalized”,
 
capitalized”, requirements to reduce total assets, and
cessation of receipt of deposits from correspondent banks.
 
“Critically undercapitalized” institutions are subject to the
appointment of a receiver or conservator.
 
Because the Company and the Bank exceed applicable capital requirements,
Company and Bank management do not believe that the prompt corrective action provisions
 
of FDICIA have had or are
expected to have any
material effect on the Company and the Bank or
their respective operations.
 
Community Bank Leverage Ratio Framework
Section 201 of the 2018 Growth Act provides that banks and bank holding companies
 
with consolidated assets of less than
$10 billion that meet a “community bank leverage ratio,” established by the federal bank
 
regulators as part of the
community bank regulators between 8% and 10%,
are deemed to satisfy applicable risk-based capital requirements necessary toleverage ratio framework (“CBLR”).
 
be considered “well capitalized.” The federal
banking agencies have the discretion to determine that
an institution does not qualify
for such treatment due to its risk
profile. An institution’s
risk profile
may be assessed by
its off-balance sheet exposure, trading of assets and liabilities,
notional derivatives’
exposure, and other methods.
The federal bank regulators implementedCBLR framework which became effective January 1,
2020, allows qualifying CBOs to adopt a CARES Act provision by replacing
interim final rules adopted in March 2020,
temporarily reducing the community banksimple leverage ratio threshold. The threshold is 8% throughto
measure capital adequacy.
 
the end of 2020, 8.5% for
2021,The CBLR may be elected by depository institutions and 9% beginning January 1, 2022. Twotheir holding companies
 
and is
intended to reduce regulatory burdens for qualifying community banking organizations
that do not use advanced
approaches capital measures, and otherwise qualify.
Eligible institutions
must have:
●
less than $10 billion of assets;
●
a leverage ratio greater than 9%;
●
off-balance sheet exposures of 25% or less of total consolidated assets; and
●
trading assets plus trading liabilities of less than 5% of total consolidated assets.
The CBLR leverage ratio is Tier 1 capital divided
by average total consolidated asset for the latest quarter, grace periods are allowedtaking into
account the capital simplification discussed above and the CECL related capital transitions.
A CBLR banking organization with a ratio above the requirement
will not be subject to permit banks that temporarily fallother capital and leverage
below these thresholdsrequirements.
If elected by a banking organization, The CBLR leverage ratio
will be the sole capital measure, and electing
institutions will not have to remain well-capitalizedcalculate or use any other capital measure for regulatory purposes.
The Company has not
adopted the CBLR, although it believes it is eligible to make such election.
Management believes that current risk-based
capital measures are useful and reflect the risks of the Company’s
earning assets in a manner most comparable to other
banking organizations and which may be useful to investors.
It may consider the CBLR in the future.
FDICIA
FDICIA directs that each federal bank regulatory agency prescribe standards for depository
 
institutions and depository
institution holding companies relating to internal controls, information systems, internal
 
internal audit systems, loan documentation,
credit underwriting, interest rate exposure, asset growth composition, a
 
a maximum ratio of classified assets to capital,
minimum earnings sufficient to absorb losses, a minimum ratio
 
of market value to book value for publicly traded shares,
safety and soundness, and such other standards as the federal bank regulatory agencies deem
 
deem appropriate.
2024
Enforcement Policies and Actions
The Federal Reserve and the Alabama Superintendent monitorexamine and regulate our compliance
 
with laws and regulations,
including the CFPB’s regulations.
 
The CFPB monitorsissues regulations, interpretations and enforcement actions under
the laws
compliance with laws and regulations applicable to consumer financial products
and services.
 
Violations of laws and regulations,
including those administered by
regulations,the CFPB, or other unsafe and unsound practices, may result in these agencies imposingthe Federal Reserve and the
 
Alabama Superintendent
imposing fines, penalties and/or restitution,
cease and desist orders,
or taking other formal or informal enforcement actions.
 
Under certain circumstances, these
agencies may enforce these remedies directly against officers,
 
officers, directors, employees and
others participating in the affairs
of
a bank or bank holding company,
in the
form of fines, penalties, or the recovery,
 
or
claw-back, of compensation.
The
federal prudential banking regulators have been bringing more
enforcement actions recently.
Fiscal and Monetary PolicyPolicies
Banking is a business that depends on interest rate differentials.
 
In general, the difference between the interest paid by a
bank on its deposits and its other borrowings, and the interest received by a bank on its loans and securities
 
securities holdings,
constitutes the major portion of a bank’s earnings.
 
Thus, the earnings and growth of the Company and the Bank, as well as
the values of, and earnings on, its assets and the costs of its deposits and other liabilities are
 
subject to the influence of
economic conditions generally,
 
both domestic and foreign, and also to the monetary and fiscal policies of the United States
and its agencies, particularly the Federal Reserve.
 
The Federal Reserve regulates the supply of money through various
means, including open market dealings in United States government securities, the setting
 
the setting of discount rate at which banks
may borrow from the Federal Reserve, and the reserve requirements on deposits.
 
The Federal Reserve has been paying interest on depository institutions’ required and
 
excess reserve balances since October
2008.
 
The payment of interest on excess reserve balances was expected to give the Federal
 
Reserve greater scope to use its
lending programs to address conditions in credit markets while also
 
maintaining the federal funds rate close to the target
rate established by the Federal Open Market Committee.
 
The Federal Reserve has indicated that it may use this authority to
implement a mandatory policy to reduce excess liquidity,
 
in the
event of inflation or the threat of inflation.
 
In April 2010, the Federal Reserve Board amended Regulation D (Reserve Requirements
 
Requirements of Depository Institutions)
authorizing the Reserve Banks to offer term deposits to certain institutions.
 
Term deposits,
 
which are deposits with
specified maturity dates, will be offered through a Term
 
Deposit Facility.
 
Term deposits will be
 
one of several tools that
the Federal Reserve could employ to drain reserves when policymakers judge that
it is appropriate
to begin moving to a less
accommodative stance of monetary policy.
 
In 2011, the Federal Reserve repealed its historical Regulation
 
Q to permit banks to pay interest on demand deposits.
On March 3, 2020, the Federal Reserve reduced the Federal Funds rate target by 50
basis points to 1.00-1.25%. The Federal
Reserve further reduced the Federal Funds Rate target by an additional
100 basis points to 0-0.25% on March 16, 2020. The
Federal Reserve established various liquidity facilities pursuant to section 13(3)
of the Federal Reserve Act to help stabilize
the financial system.
As a result of inflation, the decline in serious COVID-19 cases, and the strengthening of
the economy
following the March 2020 outbreak of the COVID-19 pandemic, the Federal
Reserve is considering increasing the discount
rate and reducing its holdings of securities.
In light of disruptions in economic conditions caused by the outbreak of COVID-19 and the
 
stress in U.S. financial markets,
the Federal Reserve, Congress and the Department of the Treasury took
 
took a host of fiscal and monetary measures to minimize
the economic effect of COVID-19. On March 3, 2020,
 
the Federal Reserve reduced the Federal Funds rate target by 50
basis points to 1.00-1.25%. The Federal Reserve further reduced the Federal Funds Rate target
by an additional 100 basis
points to 0-0.25% on March 16, 2020. The Federal Reserve established various liquidity
facilities pursuant to section 13(3)
of the Federal Reserve Act to help stabilize the financial system and purchased large
amounts of government and
mortgaged backed securities.
25
The CARES Act provided a $2 trillion stimulus package and various measures to
 
measures to provide relief from the COVID-19
pandemic, including:
●
The Paycheck Protection Program (“PPP”), which expands eligibility for special new SBA
 
guaranteed loans,
forgivable loans and other relief to small businesses affected
 
by COVID-19.
 
●
A new $500 billion federal stimulus program for air carriers and other companies in severely
 
distressed sectors of
the American economy. The lending
 
programs impose stock buyback, dividend, executive compensation, and
other restrictions on direct loan recipients.
 
●
Optional temporary suspension of certain requirements under ASC 340-10 TDR
 
classifications for a limited period
of time to account for the effects of COVID-19.
●
The creation of rapid tax rebates and expansion of unemployment benefits to
 
provide relief to individuals.
 
21
●
Substantial federal spending and significant changes for health care companies,
 
providers, and patients.
●
Over $525 billion of PPP loans were made in 2020.
On December 27, 2020, the Economic Aid to Hard-Hit Small Businesses, Nonprofits,
 
and Venues
 
Act (the “Economic Aid
Act”) was signed into law. The
 
Economic Aid Act providesprovided a second $900 billion stimulus package, including
 
$325 billion
in additional PPP loans, changed the eligibility rules to focus more on smaller business, further
 
further enhances other Small
Business Association programs.
 
During early 2022, the Federal Reserve described inflation as “transitory,”
but as inflation continued at increasing rates the
Federal Reserve’s policy changed.
The Federal Reserve increased the target federal funds range by 25
basis points on
March 17, 2022, the first change since March 2020 when the target
was set to 0-0.25%.
Further increases were made: 50
basis points on May 5, 75 basis points on each of June 16, July 28, September 22, and November
22, and 50 basis points on
December 15, 2022.
The target rate was increased 25 basis points on February 2, 2023,
and further increases in the target
federal funds rate appear likely if inflation remains elevated.
The target fed funds ranges was 4.50-4.75% on March 17,
2023.
The Federal Reserve’s securities holdings in
its System Open Market Account (“SOMA”) increased from $4.1
trillion on
December 30, 2019 to $9.0 trillion at April 11, 2021,
largely as a result of securities purchases as the Federal Reserve
injected liquidity as a result of the COVID-19 pandemic.
On May 4, 2022, the Federal Reserve announced its plan to
reduce its securities holdings in an effort to reduce inflation:
●
Reinvestments of principal of maturing Treasury securities
would be reduced by $30 billion per month for three
months and thereafter would be $80 billion per month.
●
Reinvestments of principal of maturing agency debt and mortgage-backed securities
would be reduced by $17.5
billion per month for three months and thereafter would be $35 billion per month.
●
These declines would slow and then stop when the Federal Reserve’s
balance sheet was somewhat above the
balance it deemed ample.
The Federal Reserve’s SOMA
was $8.4 trillion on February 13, 2023.
The Federal Reserve seeks to target longer term inflation of 2% based
on annual changes in the personal consumption
expenditures.
The Federal Reserve stated on February 1, 2023 that its Federal Open Market Committee is highly attentive
to inflation risks and the war in Ukraine is contributing to elevated global uncertainty.
Inflation remained above that rate
through February 2023.
The Chairman of the Federal Reserve’s testimony
to the Senate Banking Committee on March 7,
2023 that inflation remains well above the target, gross domestic product
in 2022 was 0.9%, below the trend.
Higher rates
have adversely affected the housing sector and combined with slower output
growth, “appear to be weighing on business
fixed investment.”
The labor market is “extremely tight.”
The Chairman concluded:
“We continue to anticipate
that ongoing increases in the target range for the federal funds rate
will be appropriate in order
to attain a stance of monetary policy that is sufficiently restrictive to return inflation
to 2% over time. In addition, we are
continuing the process of significantly reducing the size of our balance sheet.
Although inflation has been moderating in
recent months, the process of getting inflation back down to 2% has a long
way to go and is likely to be bumpy.
As I
mentioned, the latest economic data have come in stronger than expected,
which suggests that the ultimate level of interest
rates is likely to be higher than previously anticipated. If the totality of the data
were to indicate that faster tightening is
warranted, we would be prepared to increase the pace of rate hikes. Restoring price
stability will likely require that we
maintain a restrictive stance of monetary policy for some time.”
26
The nature and timing of anythese ongoing changes in monetary policies and their effecteffects
 
on the Company and the Bank cannot be
be predicted. The turnover
On March 12, 2023, as a result of a majorityunrealized securities losses resulting from increased
market rates, liquidity issues at two
banks with over $100 billion of assets each being closed on March 10 and 12, 2023,
the Federal Reserve Board andestablished a new
Bank Term Funding Program
 
the members(“BTFP”).
The BTFP offers loans of its FOMCup to one year to banks, savings associations,
credit
unions, and the appointmentother eligible depository institutions pledging U.S. Treasuries,
agency debt and mortgage-backed securities,
and other qualifying assets as collateral. These assets will be valued at par.
The BTFP will be an additional source of
liquidity against high-quality securities, eliminating an institution's need
to quickly sell those securities in times of astress.
newFurther, the Federal Reserve Chairmanon March 12, 2023 stated
that depository institutions also may result in changes in policyobtain liquidity against a wide
range of collateral through the Federal Reserve’s
discount window,
which remains open and available. In addition, the
discount window will apply the timing and amountsame margins used for the securities
 
of monetary policyeligible for the BTFP,
further increasing lendable
normalization.value at the window.
FDIC Insurance Assessments
The Bank’s deposits are insured
 
by the FDIC’s DIF,
 
and the Bank is subject to FDIC assessments for its deposit insurance.
 
Assessments by the FDIC to pay interest on Financing Corporation (“FICO”)
bonds ended in September 2019.
Since 2011, and as discussed above under “Recent Regulatory
 
Developments”, the FDIC has been calculating assessments
based on an institution’s average consolidated
 
total assets less its average tangible equity (the
“FDIC “FDIC Assessment Base”) in
accordance with changes mandated by the Dodd-Frank Act.
 
The FDIC changed its assessment rates which shifted part of
the burden of deposit insurance premiums toward depository institutions relying on
 
funding sources other than deposits.
In 2016, the FDIC again changed its deposit insurance pricing and eliminated all risk categories
 
and now uses “financial
ratios method” based on CAMELS composite ratings to determine assessment rates
 
rates for small established institutions with
less than $10 billion in assets (“Small Banks”).
 
The financial ratios method sets a maximum assessment for CAMELS 1
and 2 rated banks, and set minimum assessments for lower rated institutions.
 
All basis points are annual amounts.
 
The following table shows the FDIC assessment schedule for 2020
applicable to Small Banks, such as the Bank.
 
Bank, for the first assessment period
of 2023 to be billed in June 2023:
Established Small Institution
CAMELS Composite
1 or 2
3
4 or 5
Initial Base Assessment Rule
35 to 1632 basis points
6 to 30 basis points
16 to 30 basis points
Unsecured Debt AdjustmentAdjustment.
Cannot exceed the lesser of 5
basis points or 50% of the
bank’s initial FDIC
assessment rate
-5 to 0 basis points
-5 to 0 basis points
-5 to 0 basis points
Brokered Deposit
Adhustment
N/A
Total Base Assessment
 
Rate
1.52.5 to 1632 basis points
3 to 30 basis points
11 to 30 basis points
These assessments are then adjusted based on the bank’s
CAMELS rating.
For example, Small Banks, with CAMELS
ratings of 1 or 2, have a current total assessment of 2.5 to 15 basis points for the period to
be billed in June 2023.
On March 15, 2016 the FDIC implemented Dodd-Frank Act provisions by raising the DIF’s
 
minimum Reserve Ratio from
1.15% to 1.35%.
 
The FDIC imposed a 4.5 basis point annual surcharge on insured depository institutions
 
institutions with total
consolidated assets of $10 billion or more (“Large Banks”).
 
The new rules grant credits to smaller banks for the portion of
their regular assessments that contribute to increasing the reserve ratio from 1.15%
 
to 1.35%.
27
The FDIC’s reserve ratio reached 1.36%
 
on September 30, 2018, exceeding the minimum requirement.
 
As a result, deposit
insurance surcharges on Large Banks ceased, and smaller banks
 
banks will receivereceived credits against their deposit assessments from the
the FDIC for their portion of assessments that contributed to the growth in the reserve ratio
 
from 1.15% to 1.35%.
 
The Bank’s
Bank’s credit was $0.2 million, and
was received and applied against the Bank’s deposit
 
deposit insurance assessments during 2019 and
and 2020.
 
GivenBecause of the extraordinary growth in deposits in the first six months of 2020 due
to the pandemic and
government
stimulus, the DIF’s reserve ratio declined
below 1.35% to 1.30%. The FDIC issued a restoration
plan on September 15, 2020
2020 designed to restore the reserve ratio to at least the statutory minimum of 1.35%
 
within 8 years. Although the FDIC
maintained current assessment rates, the FDIC may increase deposit assessment rates by
 
by up to two basis points without
notice, or more following notice and a comment period, to meet the required reserve
ratio.
 
22
On June 22, 2020, the FDIC issued a final rule designed to mitigate the deposit insurance
 
assessment effect of the PPP and
the related liquidity programs (the “PPPLF”) established by the Federal Reserve. Specifically
 
,Specifically, the rule
 
the rule removes the effects
of participating
in PPP and liquidity facilities from the various risk measures used
to calculate
assessment rates and
provides an offset to
assessments for the increase in assessment base rates attributed
to participation
in the PPP and
liquidity facilities. This had a limited effect on the Bank since it had only one PPP
loan of approximately $0.1 million
outstanding on December 31, 2022, and because the Bank never participated in the PPPLF.
 
Prior to June 30, 2016, when the new assessment system became effective,
the Bank’s overall rate for assessment
calculations was 9 basis points or less, which was within the range of assessment
rates for the lowest “risk category” under
the former FDIC assessment rules.
The Company recorded FDIC insurance premiums expenses of $0.3 million in both 2022
 
and $0.1 million in
2021 and 2020, respectively.2021.
Lending Practices
CRE
The federal bank regulatory agencies released guidance in 2006
 
on “Concentrations in Commercial Real Estate Lending”
(the “Guidance”“CRE Guidance”).
 
The CRE Guidance defines CRE loans as exposures secured by raw land,
land development
and construction
(includingconstruction (including 1-4 family residential construction), multi-family property,
 
and non-farm nonresidential property
where the
primary or a significant source of repayment is derived from rental income associated
 
with the property (that is,
loans for
which 50% or more of the source of repayment comes from third party,
 
non-affiliated, rental income) or the
proceeds of the
sale, refinancing, or permanent financing of this property.
 
Loans to REITs and unsecured
 
unsecured loans to
developers that closely
correlate to the inherent risks in CRE markets would also be considered
 
considered CRE loans under the CRE
Guidance.
 
Loans on owner
occupied CRE are generally excluded.
 
In December 2015, the Federal Reserve and other bank
regulators issued an
interagency statement to highlight prudent risk management practices
 
from existing guidance that
regulated financial
institutions and made recommendations regarding
maintaining capital levels
commensurate with the
level and nature of
their CRE concentration risk.
The CRE Guidance requires that banks have appropriate processes be in place to identify,
 
monitor and control risks
associated with real
estate lending concentrations.
 
This could include enhanced strategic planning, CRE underwriting
policies, risk
management, internal controls, portfolio stress testing and risk exposure
limits as
well as appropriately designed
designed compensation and incentive programs.
 
Higher allowances for loan losses and capital levels may also be required.
 
The
The CRE Guidance is triggered when either:
●
Total reported
 
loans for construction, land development, and other land of 100% or more of a bank’s
 
total capital;
or
●
Total reported
 
loans secured by multifamily and nonfarm nonresidential properties and loans
 
loans for construction, land
development, and other land are 300% or more of a bank’s
 
total risk-based capital.
 
This CRE Guidance was supplemented by the Interagency Statement on Prudent Risk
 
Risk Management for Commercial Real Estate
Estate Lending (December 18, 2015).
 
The CRE Guidance also applies when a bank has a sharp increase in CRE loans or
has significant
concentrations of CRE secured by a particular property type.
 
The CRE Guidance did not apply to the Bank’s
 
CRE lending activities during 20202021 or 2021.2022.
 
At December 31, 2021,2022, the Bank
Bank had outstanding $32.4$66.5 million in construction and land development loans and $229.8
 
$203.9 million in total CRE loans (excluding
(excluding owner occupied), which represent approximately 30.8%58.9% and 218.5%182.3%,
 
respectively, of the Bank’s
 
total risk-based
capital at
December 31, 2021.2022.
 
The Company has always had significant exposures to loans secured by commercial
 
by commercial real
estate due to
the nature of its markets and the loan needs of both its retail and commercial
customers.
 
The Company
believes its long
termlong-term experience in CRE lending, underwriting policies,
internal controls, and other policies
currently in
place, as well as its
loan and credit monitoring and administration procedures, are
generally appropriate
to manage its
concentrations as
required under the Guidance.
28
The Federal Reserve joined the other depository institution regulators in issuing a Proposed
Policy Statement on Prudent
Commercial Real Estate Loan Accommodations and Workouts
on September 15, 2022.
The proposed statement would
build on existing guidance on the need for financial institutions to
work prudently and constructively with creditworthy
borrowers during times of financial stress, update existing interagency guidance on commercial
real estate loan workouts,
and adds a new section on short-term loan accommodations. The proposed
statement would also address recent accounting
changes on estimating loan losses and provide updated examples of how to classify and account
for loans subject to loan
accommodations or loan workout activity.
The proposed statement reaffirms two key principles from the 2009
statement:
(1) financial institutions that implement prudent CRE loan accommodation and
workout arrangements after performing a
comprehensive review of a borrower's financial condition will not be subject to
criticism for engaging in these efforts, even
if these arrangements result in modified loans that have weaknesses that result in adverse
credit classification; and (2)
modified loans to borrowers who have the ability to repay their debts according to reasonable
terms will not be subject to
adverse classification solely because the value of the underlying collateral has declined to
an amount that is less than the
loan balance.
This proposal had not been adopted as of March 1, 2023.
Leveraged Lending
 
In 2013, the Federal Reserve and other banking regulators issued their “Interagency Guidance
 
on Leveraged Lending”
highlighting standards for originating leveraged transactions and
 
managing leveraged portfolios, as well as requiring banks
to identify their highly leveraged transactions, or HLTs.
 
The Government Accountability Office issued a statement
on
October 23, 2017 that this guidance constituted a “rule” for purposes of the Congressional
 
Review Act, which provides
Congress with the right to review the guidance and issue a joint resolution for signature
 
signature by the President disapproving it.
 
No such action was taken, and instead, the federal bank regulators issued a September
 
11, 2018 “Statement Reaffirming
 
the
Role of Supervisory Guidance.”
 
This Statement indicated that guidance does not have the force or effect
of law or
provide
the basis for enforcement actions, but this guidance can outline supervisory agencies’
 
views of supervisory expectations and
priorities, and appropriate practices.
 
The federal bank regulators continue to identify elevated risks in leveraged loans and
shared national credits.
23
The Bank did not have any
loans at year-end 20212022 or 2020 2021
that were leveraged loans
subject to the Interagency Guidance
on Leveraged Lending or that were shared national credits.
Other Dodd-Frank Act Provisions
In addition to the capital, liquidity and FDIC deposit insurance changes discussed above,
 
some of the provisions of the
Dodd-Frank Act we believe may affect us are set forth below.
Executive Compensation, etc.
The Dodd-Frank Act provides shareholders of all public companies with a say on executive
 
compensation.
 
Under the
Dodd-Frank Act, each company must give its shareholders the opportunity to
 
vote on the compensation of its executives, on
a non-binding advisory basis, at least once every three years.
 
The Dodd-Frank Act also adds disclosure and voting
requirements for golden parachute compensation that is payable to named executive
 
named executive officers in connection with sale
transactions.
 
The SEC is required under the Dodd-Frank Act to issue rules obligating companies to disclose in proxy
 
in proxy materials for annual
shareholders meetings, information that shows the relationship between executive compensation
 
compensation actually paid to their
named executive officers and their financial performance, taking into
 
taking into account any change in the value of the shares of a
company’s stock and dividends or
 
distributions.
 
The Dodd-Frank Act also provides that a company’s
 
compensation
committee may only select a consultant, legal counsel or other advisor on
 
methods of compensation after taking into
consideration factors to be identified by the SEC that affect the independence
 
of a compensation consultant, legal counsel
or other advisor.
29
Section 954 of the Dodd-Frank Act added section 10D to the Exchange Act.
 
Section 10D directs the SEC to adopt rules
prohibiting a national securities exchange or association from listing a company
 
unless it develops, implements, and
discloses a policy regarding the recovery or “claw-back” of executive compensation
 
in certain circumstances.
 
The policy
must require that, in the event an accounting restatement due to material noncompliance
 
with a financial reporting
requirement under the federal securities laws, the company will recover
from any current
or former executive officer any
incentive-based compensation (including stock options) received during
 
during the three year period preceding the date of the
restatement, which is in excess of what would have been paid based
on the restated
financial statements.
 
There is no
requirement of wrongdoing by the executive, and the claw-back is
 
mandatory and applies to all executive officers.
 
Section
954 augments section 304 of the Sarbanes-Oxley Act, which requires the CEO and
 
CFO to return any bonus or other
incentiveincentive- or equity-based compensation received during the 12
 
months following the date of similarly inaccurate financial
statements, as well as any profit received from the sale of employer securities during the period,
 
if the restatement was due
to misconduct.
 
Unlike section 304, under which only the SEC may seek recoupment, the Dodd
 
-FrankDodd-Frank Act requires the
Company to seek the return of compensation.
 
On October 2022, the SEC adopted final Rule 10D-14 instructing national securities exchanges
to establish specific listing
standards that require each issuer to adopt and comply with a written executive compensation
recovery policy.
Under Rule
10D-1, listed companies must recover from current and former executive officers’
incentive-based compensation received
during the three fiscal years preceding the date on which the issuer is required to
prepare an accounting restatement to
correct a material error.
On February 23, 2023, Nasdaq proposed to adopt Listing Rule 5608 (the “Nasdaq Rule”).The
recovery of erroneously
awarded compensation is required on a “no fault” basis, without regard to
whether any misconduct occurred or an executive
officer’s responsibility for the erroneous financial statements.
A restatement due to material noncompliance with any
financial reporting requirement under the securities laws triggers application of the recovery
policy. The determination
regarding materiality of an error should be based on facts and circumstances and existing judicial and
administrative
interpretations. The proposed Nasdaq Rule requires recovery for restatements that
correct errors that are material to
previously issued financial statements (commonly referred to
as “Big R” restatements), as well as for restatements that
correct errors that are not material to previously issued financial statements but
would result in a material misstatement if
the errors were left uncorrected in the current report or the error correction
was recognized in the current period (commonly
referred to as “little r” restatement).
Under the proposed Nasdaq Rule, Nasdaq-listed companies, such as the Company,
will be required to recover the amount
of incentive-based compensation received by an executive officer that exceeds
the amount the executive officer would have
received had the incentive-based compensation been determined based on the accounting
restatement.
Nasdaq proposes to
define “incentive-based compensation” as any compensation that is granted, earned
or vested based wholly or in part upon
the attainment of any financial reporting measure.
Incentive-based compensation is deemed received in the fiscal period
during which the financial reporting measure specified in the incentive-based
compensation award is attained, even if the
grant or payment of the incentive-based compensation occurs after the end of that period.
The SEC adopted rules in SeptemberAugust 2013 to implement pay ratios pursuant to Section 953
 
of the Dodd-Frank Act whichcomparing
applytheir CEO’s total compensation to the median compensation
of all other employees.
These rules applied beginning to fiscal
year 2017 annual reports and proxy statements.
 
The SEC proposed Rule 10D-1 under Section 954 on July
1, 2015 which would direct Nasdaq andSmaller reporting companies, such as the other national securities exchanges to adoptCompany,
 
listing standards requiringare exempted from
companies to adopt policies requiring executive officers to pay back erroneously
awarded incentive-based compensation.
In February 2017, the acting SEC Chairman indicated interest in reconsidering
the pay ratiothis rule.
The Dodd-Frank Act, Section 955, requires the SEC, by rule, to require that each company
 
disclose in the proxy
materials
for its annual meetings whether an employee or board member is permitted to purchase
 
purchase financial instruments designed to
hedge or offset decreases in the market value of equity securities granted
 
as compensation or otherwise held by the
employee or board member.
 
The SEC proposedadopted changes to its Reg. S-K Item 407(i) implementing rulesthis Section.
The Company’s has had no equity-based compensation
plans or arrangements.
The Company’s insider trading policy,
which applies to all Company and Bank directors, officers, employees and
certain independent contractors and specified
related persons (collectively,
“Covered Persons”).
This Policy prohibits Covered Persons, from short-selling Company
securities or engaging in February 2015, thoughtransactions involving Company “Derivative Securities.”
This prohibition includes, without
limitation, trading in Company-based put option contracts, including straddles,
and the ruleslike.
 
have not beenDerivative Securities include
implemented to date.options, warrants, restricted stock units, stock appreciation rights or similar rights
whose value is derived from the value of
an equity or other security, including Company
Securities.
30
Section 956 of the Dodd-Frank Act prohibits incentive-based compensation arrangements
 
that encourage inappropriate risk
taking by covered financial institutions, are deemed to be excessive, or that
 
may lead to material losses.
 
In June 2010, the
federal bank regulators adopted Guidance on Sound Incentive Compensation Policies,
 
which, although targeted to larger,
more complex organizations than the Company,
 
includes principles that have been applied to smaller organizations
 
similar
to the Company.
 
This Guidance applies to incentive compensation to executives as well as employees,
 
who, “individually
or a part of a group, have the ability to expose the relevant banking organization to
 
material amounts of risk.”
 
Incentive
compensation should:
●
Provide employees incentives that appropriately balance risk and reward;
24●
Be compatible with effective controls and risk-management;
 
and
●
Be supported by strong corporate governance, including active and effective
 
oversight by the organization’s
 
board
of directors.
The federal bank regulators stated that this Guidance is expected to generally have
less effect on smaller banking
organizations, which typically are less complex and
make less use of incentive compensation arrangements than larger
banking organizations.
The federal bank regulators, the SEC and other regulators proposed regulations implementing
 
Section 956 in April 2011,
which would have been applicable to, among others, depository institutions and
 
their holding companies with $1 billion or
more in assets.
 
An advance notice of a revised proposed joint rulemaking under Section 956
 
was published by the financial
services regulators in May 2016, but these rules have not been adopted.
Debit Card Interchange
 
Fees
The “Durbin Amendment” to the Dodd-Frank Act and implementing Federal Reserve regulations
 
regulations provide that interchanged
transaction fees for electronic debit transactions be “reasonable” and proportional
 
to certain costs associated with
processing the transactions.
 
The Durbin Amendment and the Federal Reserve rules thereunder are not applicable
 
applicable to banks
with assets less than $10 billion.
 
Other Legislative and Regulatory Changes
Various
 
legislative and regulatory proposals, including substantial changes in banking,
 
and the regulation of banks, thrifts
and other financial institutions, compensation, and the regulation of financial
markets and their
participants, and financial
instruments and securities, and the regulators of all of these, as well as the taxation of these
entities, are being considered by
by the executive
branch of the federal government, Congress and various state governments, including
 
including Alabama.
 
President Biden has frozen new rulemaking generally,
 
and has rescinded various of his predecessor’s executive orders,
including the February 3, 2017 executive order containing “Core Principles for
 
for Regulating the United States Financial
System” (“Core Principles”).
 
The Core Principles directed the Secretary of the Treasury to
 
to consult with the heads of
Financial Stability Oversight Council’s
 
members and report to the President periodically thereafter on how laws and
government policies promote the Core Principles and to identify laws, regulations,
 
guidance and reporting that inhibit
financial services regulation.
 
The President has also issued an Executive Order 14036 on Promoting Competition in
 
in the
American Economy (July 9, 2021), which may affect the federal
 
bank regulators’ reviews of bank and bank holding
company mergers.
 
The OCC, the FDIC and the CFPB have made proposals to further scrutinize
 
mergers, especially where
the confirming institutions have assets greater than $100 million.
 
The President’s Working
 
Group and various agencies
have also been working on the regulation of crypto assets, including stable coin, and access
 
to the payments system.
2531
The 2018 Growth Act, which, was enacted on May 24, 2018, amends the Dodd
 
-Frank Act, the BHC Act, the Federal
Deposit Insurance Act and other federal banking and securities laws to provide
 
regulatory relief in these areas:
•●
consumer credit and mortgage lending;
•●
capital requirements;
•●
Volcker
 
Rule compliance;
•●
stress testing and enhanced prudential standards;
•●
increased the asset threshold under the Federal Reserve’s
 
Small BHC Policy from $1 billion to $3 billion; and
•●
capital formation.
We believe the 2018
 
Growth Act has positively affected our business.
 
The following provisions of the 2018 Growth Act
may be especially helpful to banks of our size as regulations adopted in 2019
 
became effective:
•●
“qualifying community banks,” defined as institutions with total consolidated
 
assets of less than $10 billion, which
meet a “community bank leverage ratio” of 8.00% to 10.00%ratio, which is currently 9.0%, may be deemed to
 
to have satisfied applicable riskrisk-
based capital requirements as well as the capital ratio requirements;
•●
section 13(h) of the BHC Act, or the “Volcker
 
Rule,” is amended to exempt from the Volcker
 
Rule, banks with
total consolidated assets valued at less than $10 billion (“community banking organizations”),
 
and trading assets
and liabilities comprising not more than 5.00% of total assets; and
•●
“reciprocal deposits” will not be considered “brokered deposits” for FDIC purposes,
 
FDIC purposes, provided such deposits
do not
exceed the lesser of $5 billion or 20% of the bank’s total liabilities
 
liabilities; and
The Volcker
Rule change may enable us to invest in certain collateralized loan obligations that are treated
as “covered
funds” prohibited to banking entities by the Volcker
Rule. Reciprocal deposits, such as CDARs, may expand our funding
sources without being subjected to FDIC limitations and potential insurance assessments
increases for brokered deposits.
.
On July 9, 2019, the federal banking agencies, together with the SEC and the Commodities
 
Commodities Futures Trading Commission
(“CFTC”), issued a final rule excluding qualifying community banking organizations
 
from the Volcker
 
Rule pursuant to the
2018 Growth Act. The Volcker
 
Rule change may enable us to invest in certain collateralized loan obligations that are
treated as “covered funds” and other investments prohibited to banking entities by the Volcker
 
Rule.
Reciprocal deposits, such as CDARs, may expand our funding sources
without being subjected to FDIC limitations and
potential insurance assessments increases for brokered deposits.
The applicable agencies also issued final rules simplifying the Volcker
 
Rule proprietary trading restrictions effective
January 1, 2020. On June 25, 2020, the agencies adopted a final rule simplifying
the Volcker
 
Rule’s covered fund
provisions effective October 1, 2020.
The FDIC announced on December 19, 2018 a final rule allows reciprocal deposits to be excluded
 
excluded from “brokered
deposits” up to the lesser of $5 billion or 20% of their total liabilities.
 
Institutions that are not both well capitalized and
well rated are permitted to exclude reciprocal deposits from brokered
 
deposits in certain circumstances.
The FDIC issued comprehensive changes to its brokered deposit rules effective
 
April 1, 2021. The revised rules establishesestablish
new standards for determining whether an entity meets the statutory definition of
 
“deposit broker,” and identifies a number
of business that automatically meet the “primary purpose exception” from a “deposit
 
“deposit broker.”
 
The revisions also provide
an application process for entities that seek a “primary purpose exception,” but do not
 
not meet one of the designated
exceptions.”
 
The new rules may provide us greater future flexibility,
 
but we had no brokered deposits at December 31,
20202021 or 2021,2022, and historically have not relied on brokered deposits.
26
On November 20, 2020, the Federal Reserve and the other federal bank regulators issued temporary
 
issued temporary relief for community
banks with less than $10 billion in total assets as of December 31, 2019 related
 
related to certain regulations and reporting
requirements that largely result from growth due to the various relief and stimulus
 
actions in response to the COVID-19
pandemic. In particular, the interim final rule permits these institutions
 
institutions to use asset data as of December 31, 2019, to
determine the applicability of various regulatory asset thresholds during calendar
 
years 2020 and 2021. For the same
reasons, the Federal Reserve temporarily revised the instructions to a number of its regulatory
 
reports to provide that
community banking organizations may use asset data as of December
 
31, 2019, in order to determine reporting
requirements for reports due in calendar years 2020 or 2021.
 
This temporary relief expired December 31, 2021.
32
On November 30, 2020, the bank regulators issued a statement urging banks
 
to cease entering into new contracts using U.S.
dollar LIBOR rates as soon as practicable and in any event by December 31, 2021,
 
to effect orderly, and safe and sound
LIBOR transition. Banks were reminded that operating with insufficient
 
fallback interest rates could undermine financial
stability and banks’ safety and soundness.
 
Any alternative reference rate may be used that a bank determines is appropriate
for its funding and customer needs.
The Alabama legislature passed the LIBOR“LIBOR Discontinuance and Replacement
Act of 20212021” which became effective on
April 29, 2021.
 
in April 202On March 15, 2022, Congress enacted the Adjustable Interest Rate (LIBOR) Act (the “LIBOR
Act”) as
to deal withpart of the Consolidated Appropriations Act, 2022.
One purpose of the LIBOR transition.Act was to establish a clear and uniform
process, on a nationwide basis, for replacing LIBOR in existing contracts the terms of which
 
Congress is also consideringdo not provide for the use of a
clearly defined or practicable replacement benchmark rate, without affecting
the ability of parties to use any appropriate
benchmark rate in new contracts.
The LIBOR transition legislation.Act directed the Federal Reserve to issue regulations implementing
the
LIBOR Act.
The Federal Reserve adopted final Regulation ZZ on January 26, 2023.
These together with Internal Revenue
Service regulation facilitate the conversion of existing LIBOR-based loans
when most popular LIBOR rates cease to be
quoted on June 30, 2023.
The Bank generally prices its variable rate loans based on the prime rate or the five-year Treasury
note rate and had no loans bearing LIBOR or other IBOR-based rates
at December 31, 2022.
Certain of these new rules, and proposals, if adopted, these proposals could significantly change
 
change the regulation or
operations of banks and the financial services industry.
 
New regulations and statutes are regularly proposed
 
that contain
wide-ranging proposals for altering the structures, regulations and competitive relationships
 
relationships of the nation’s financial
institutions.
ITEM 1A. RISK FACTORS
Any of the following risks could harm our business, results of operations and financial condition
 
condition and an investment in our
stock.
 
The risks discussed below also include forward-looking statements, and our
 
actual results may differ substantially
from those discussed in these forward-looking statements.
 
Operational Risks
Market conditions and economic cyclicality may adversely affect our industry.
 
We believe the following,
 
among other things, may affect us in 2022:2023:
●
The COVID-19 pandemic disrupted the economy beginning late in the first quarter of 2020.
 
of 2020, and continues.
Auburn University,
government
agencies and businesses were limited to remote work and gatherings
 
were limited.
 
Supply chains
continue to be disrupted and unemployment spiked and remains
high.labor markets remain tight.
 
Hotels, motels, restaurants,
retail and shopping centers
were especially affected.
COVID-19 continues, but with diminishing direct economic effects
due to population
health, generally.
President Biden has terminated the COVID-19 national emergencies
effective May 11, 2023.
●
Extraordinary monetary and fiscal stimulus in 2020 and in early 2021
 
have offset certain of the pandemic’s adverse
adverse economic effects.effects, but together with supply chain disruptions,
continued consumer demand, Russia’s invasion
of
Ukraine and its effects on energy and food prices, and tight labor
markets, have resulted in inflation.
 
Inflation is
running at levels unseen in decades and well above the Federal Reserve’s
long term inflation goal of 2.0%
annually.
Beginning in March 2022, the Federal Reserve is
contemplatinghas been raising target
federal funds interest rates and
reducing its securities
holdings. holdings in an effort to reduce inflation.
 
The nature and timing of any future
changes in
monetary and fiscal policies and their effect on us cannot be
predicted.
●
Market developments, including unemployment, price levels, stock and
 
bond market volatility, and changes,
including those resulting from COVID-19 and the pace of vaccination and expectedRussia’s invasion
 
declines in serious COVID-19
cases, and Russia’s invasion of Ukraine affect
consumer confidence levels, economic activity
and inflation.
 
Increases in market interest rates, inflation and consumer and business confidence
may cause
Changeschanges in savings and payment behaviors, and payment rates may increaseincluding potential increases in loan delinquencies and
 
and default rates, whichrates.
These could
affect our earnings and credit quality.
33
●
Our ability to assess the creditworthiness of our customers and those we do business
 
with, and the values of our
assets and loan collateral may be adversely affected and less
 
predictable as a result of the pandemicinflation and higher market
government responses.interest rates
 
TheWe adopted
CECL on January 1, 2023 as required by generally accepted accounting for loan modifications and deferrals may provide only temporaryprinciples
(“GAAP”).
 
relief.CECL changed the loss model to take into account current expected credit losses in
 
place of the
Theincurred loss method used historically under GAAP.
This changes the process we use to estimate losses inherent
in our credit exposure or estimate theexposures.
 
value of certain assets
The process for estimating expected losses requires difficult,
subjective, and complex
judgments, including
forecasts of economic conditions and how those
economic predictions
might affect the
ability of our borrowers
to repay their loans or the value of assets.
Changes in economic conditions and factors
Tableused in our CECL models may increase the variability of Contentsour provisions for loan losses and
27our earnings.
●
TheAlthough we had no assets or liabilities that use LIBOR reference rates at the end
of 2022,
the end of the LIBOR
reference rate, is currently scheduled for most tenors by June 30, 2023, could adversely affect
 
although U.S. bankour counterparties and financial
regulators informed banks November 30, 2020 that they should stop using LIBOR
for new loans and contracts and
derivatives, including hedging, and involves risks of potential marked disruption and costs
of compliance and
conversion.
New hedges may not be as effective as hedges based on LIBOR.markets.
Nonperforming and similar assets take significant time to resolve
 
and may adversely affect our results of operations
 
and
financial condition.
Our nonperforming loans were 0.10%0.54% of total loans as of December 31,
 
2021,2022, and we had $0.4$2.7 million in other real estate
owned as result of foreclosures or otherwise in full or partial payments in respect of loans (“OREO”).
 
Non-performing
assets may adversely affect our net income in various
ways.
 
We do
 
not record interest
income on nonaccrual loans or
OREO and these assets require higher loan administration
and other costs, thereby adversely
affecting our income.
 
Decreases in the value of these assets, or the underlying collateral, or
 
in the related borrowers’
performance or financial
condition, whether or not due to economic and
market conditions beyond our control,
could
adversely affect our business,
results of operations and
financial condition.
 
In addition, the resolution of nonperforming
assets requires commitments of
time from management, which can be detrimental
to the performance of their other
responsibilities. Our non-performing
assets may be adversely affected
by loan deferrals and modifications
made in response
to the pandemic and the moratoria
on foreclosures and evictions.
 
There can be no assurance that we will not experience
increases in nonperforming loans in
the future, much of which is affected
by the economy and the levels of interest rates,
generally.
Our allowance for loan losses may prove inadequate
 
inadequate or we may be negatively affected by credit risk exposures.
We periodically review our
 
our allowance for loan losses for adequacy considering economic conditions and trends,
 
trends, collateral
values and credit quality indicators, including past charge-off experience and
 
and levels of past due loans and nonperforming
assets.
 
We cannot be
 
certain that our allowance for loan losses will be adequate over time to cover
 
cover credit losses in our
portfolio because of unanticipated adverse changes in the economy,
 
including the continuing effects of the pandemic and
fiscal and monetary response to COVID-19 and the shift beginning in March 2022
from an extraordinarily expansionary
monetary policies to a tightening monetary policy to fight inflation, loan
modifications and deferrals,
market conditions or
events adversely
affecting specific customers, industries or markets, including
 
including disruptions of supply chains and the war in
Ukraine, and changes
in
borrower behaviors.
 
Certain borrowers and their businesses and real estate and commercial
projects and businesses may not recover fully or may fail as a result of COVIDbe adversely affected by inflation
 
-19 effects.and higher interest rates, and economic slowdowns arising
from tighter monetary policies.
Various
businesses will be unable to fully pass on increased costs due to inflation, and their
profits may shrink.
 
If the credit
quality of our customer base materially decreases, if the risk profile of the
 
market, industry
or group of customers changes
materially or weaknesses in the real estate markets
worsen, borrower payment behaviors
behaviors change, or if our allowance for
loan losses is not adequate, our business, financial condition,
including our liquidity and
and capital, and results of operations
could be materially adversely affected.
 
CECL, a new accounting standard for estimating
expected future loan losses, is effective
for the
Company beginning January
1, 2023, and its effects upon the Company have
have not yet been determined.
The CECL model incorporates various economic condition elements,
where changes in fiscal and
monetary policy, as well as
market interest rates, could result in more volatility in our provisions for loan losses under
CECL, which could adversely affect our net income.
34
Changes in the real estate markets, including the
 
the secondary market for residential mortgage loans, may continue
 
may continue to
adversely affect us.
 
Beginning in March 2022, inflation and the Federal monetary policies to increase interest rates
to fight inflation have
caused mortgage rates to increase significantly.
Higher interest rates and the increased level of housing costs as a result
of
the COVID-19 pandemic, have caused housing starts and sales to slow.
House prices have begun to decline in certain
markets from their earlier highs.
This adversely affects our mortgage loan productions and the value of residential
mortgage collateral.
Commercial real estate projects economic assumptions may be adversely affected,
and certain projects
with short term and/or unhedged variable rate debt may be especially affected
by increased interest rates and a slower
economy.
The CFPB’s mortgage and servicing rules, including
 
including TRID rules for closed end credit transactions, enforcement actions,
reviews and settlements, affect the mortgage markets and our
mortgage operations.
 
The CFPB requires that lenders
determine whether a consumer has the ability to repay a mortgage loan have limited
 
the secondary market for and liquidity
of many mortgage loans that are not “qualified mortgages.”
 
Recently adopted changes to the CFPB’s
 
qualified mortgage
rules are reportedly being reconsidered.
The Tax Cuts and Jobs Act’s
 
Act’s (the(the “2017 Tax
 
Act”) limitations on the deductibility of residential mortgage interest and state
and local property and other taxes and federal moratoria on single-family
 
foreclosures and rental evictions could adversely
affect consumer behaviors and the volumes of housing sales,
 
mortgage and home equity loan originations, as well as the
value and liquidity of residential property held as collateral by lenders such as the Bank, and
 
the secondary markets for
single and multi-family loans.
 
Acquisition, construction and development loans for residential development
 
may be
similarly adversely affected.
Fannie Mae and Freddie Mac (“GSEs”), have been in conservatorship since September
 
2008.
 
Since Fannie Mae and
Freddie Mac dominate the residential mortgage markets, any changes in their operations
 
operations and requirements, as well as their
respective restructurings and capital, could adversely affect the primary
 
primary and secondary mortgage markets, and our
residential mortgage businesses, our results of operations and the returns on capital deployed
 
deployed in these businesses.
 
The
timing and effects of resolution of these government sponsored enterprises
 
enterprises cannot be predicted.
Weaknesses in real estate
markets the FHFA’s
moratoria on foreclosures and real estate owned evictions may adversely
affect the length of time and costs required to manage and dispose
of, and the values realized from the sale of our OREO.
28
We may be contractually
 
obligated to repurchase
 
mortgage loans we sold to third parties on terms unfavorable
 
to us.
As part of its routine business, the Company originates mortgage loans that it subsequently
 
sells in the secondary market,
including to governmental agenciesFannie Mae, a government sponsored entity (‘GSE”) and GSEs.other GSEs and
government agencies.
 
In connection
with the sale of these loans, the Company makes customary
representations and
warranties, the breach of which may result
in the Company
being required to repurchase the loan or
loans.
 
Furthermore, the amount paid may be greater than the fair
value of the loan or loans at the time
of the repurchase.
 
Although mortgage loan repurchase requests made to us have been
limited, if these increased,
we may have to establish
reserves for possible
repurchases and adversely affect our results of
operation
and financial condition.
Mortgage servicing rights requirements
 
may change and require
 
us to incur additional costs and risks.
The CFPB’s residential mortgage servicing
 
standards may adversely affect our costs to service residential
 
mortgage loans,loans.
and together with the Basel III Rules and theThe effects of lowerreduced housing starts and mortgage activity due to
higher market interest rates,
from COVID-19 stimulus, may decrease the have decreased our
returns on,generation of new mortgage loans and values of, ourrelated MSRs.
 
This may be offset by decreases in mortgage prepayments and
refinancings, and corresponding increases in the duration of our existing MSRs and their
values.
This net effect could
reduce our aggregate income from servicing these types of loans and
make it more difficult
difficult and costly to timely realize the
value of collateral securing
such loans upon a borrower default.
 
In contrast, risingThe Basel III Rules relating to MSRs may also increase the
interest rates would be expected to reduce mortgage refinancings and extend the durationpotential capital required as a result of MSRs, when considered with other capital rule adjustments
 
and deductions.
35
The soundness of other financial institutions could adversely affect us.
We routinely execute
 
transactions with counterparties in the financial services industry,
 
including brokers and dealers,
central clearinghouses, banks, including our correspondent banks and other
 
financial institutions.
 
Our ability to engage in
routine investment and banking transactions, as well as the quality and values of our investments in
 
in holdings of other
obligations of other financial institutions such as the FHLB, could be adversely affected
 
by the actions, financial condition,
and profitability of such other financial institutions, including the FHLB and
 
and our correspondent banks.
 
Financial services
institutions are interrelated as a result of shared credits, trading, clearing, counterparty and
 
other relationships.
 
Most
LIBOR reference interest rates used by many financial institutions to price
extensions of credit will no longer be quoted
beginning June 30, 2023 and their use has been strongly discouraged by regulatory agencies.
Most banks did not adopt
CECL until January 1, 2023.
These changes, together with any exposures other institutions may have
to crypto or digital
assets, could cause disruption and unexpected changes in the industry.
Any losses,
defaults by, or failures of, the
institutions
we do business with could adversely affect our holdings of
the equity in
such
other institutions, our
participation interests in loans originated by other institutions,
and our business, including
our
liquidity, financial condition
and
earnings.
Our concentration of commercial real
 
estate loans could result in further increased
 
loan losses, and adversely affect our
business, earnings, and financial condition.
Commercial real estate, or CRE, is cyclical and poses risks of possible loss due to concentration
 
levels and the risks of the
assets being financed, which include loans for the acquisition and development of land and
 
and residential construction.
 
The
federal bank regulatory agencies released guidance in 2006 on “Concentrations in
 
in Commercial Real Estate Lending.”
 
The
guidance defines CRE loans as exposures secured by raw land, land development and
 
and construction loans (including 1-4
family residential construction loans), multi-family property,
 
and non-farm non-residential property,
 
where the primary or a
significant source of repayment is derived from rental income associated
 
with the property (that is, loans for which 50% or
more of the source of repayment comes from third party,
 
non-affiliated, rental income) or the proceeds of the sale,
refinancing, or permanent financing of the property.
 
Loans to REITs
 
and unsecured loans to developers that closely
correlate to the inherent risks in CRE markets are also CRE loans.
 
Loans on owner occupied commercial real estate are
generally excluded from CRE for purposes of this guidance.
 
Excluding owner occupied commercial real estate, we had
50.0% 40.4%
of our portfolio in CRE loans at year-end 2021 2022
compared to 43.6%42.6% at year-end 2020.2021.
 
The banking regulators
continue to give CRE lending scrutiny and require banks with higher levels
 
of CRE loans to implement improved
underwriting, internal controls, risk management policies and portfolio
 
stress testing, as well as higher levels of allowances
for possible losses and capital levels as a result of CRE lending growth and exposures.
 
Increases in interest rates beginning
in March 2022 may adversely affect the assumptions and performance
of CRE, and the ability of borrowers to refinance on
terms that CRE borrowers and their projects can support.
Lower demand for CRE, and
reduced availability of, and higher
interest rates and costs for,
CRE lendingloans could adversely affect
our CRE loans and sales
of our OREO, and therefore our
earnings and financial condition, including our capital and
liquidity.
At year-end 2021, 21% of our total loans were CRE loans to
hotels/motels, retail and shopping centers and restaurants,
businesses that were severely affected
by the effects of COVID-19.
29
Our future success is dependent on our ability
 
to compete effectively in highly competitive markets.
The East Alabama banking markets which we operate are
 
highly competitive and our future growth and success will
depend on our ability to compete effectively in these markets.
 
We compete for loans, deposits
 
and other financial services
with other local, regional and national commercial banks, thrifts, credit unions,
 
mortgage lenders, and securities and
insurance brokerage firms.
 
Lenders operating nationwide over the internet are growing rapidly.
 
Many of our competitors
offer products and services different from us, and
 
have substantially greater resources, name recognition and market
presence than we do, which benefits them in attracting business.
 
In addition, larger competitors may be able to price loans
and deposits more aggressively than we are able to and have broader and more diverse customer
 
and geographic bases to
draw upon.
 
Out of state banks may branch into our markets.
 
Fintech and other non-bank competitors also complete for our
customers, and may partner with other banks and/or seek to enter the payments system.
 
Failures of other banks with offices
in our markets could also lead to the entrance of new,
 
stronger competitors in our markets.
36
Our success depends on local economic conditions.
Our success depends on the general economic conditions in the geographic
 
markets we serve in Alabama.
 
The local
economic conditions in our markets have a significant effect on our commercial,
 
commercial, real estate and construction loans, the
ability of borrowers to repay these loans and the value of the collateral securing these loans.
 
Adverse changes in the
economic conditions of the Southeastern United States in general, or in one or
more of our
local markets, including the
continuous effects fromof higher market interest rates and inflation, supply chain disruptions,
changes in customer behaviors and in the
workforce and demand for space since the COVID-19 pandemic, and the timing strengthand
 
and breadthmagnitude of the recovery from the pandemic,future inflation and
interest rates, could
negatively affect our results of operations and our profitability.
 
Our local economy is also affected by
the growth of
automobile manufacturing and related suppliers located in our
markets and
nearby.
 
Auto sales and housing
sales are cyclical and are affected
adversely by higher interest
rates.
Attractive acquisition opportunities may not be available to us in the
 
the future.
 
 
While we seek continued organic growth, including loan growth,
we also may consider
the acquisition of other businesses.
 
We expect that other banking
banking and financial companies, many of which have significantly greater resources,
 
greater resources, will compete
with us to acquire
financial services businesses.
 
This competition could increase prices for potential acquisitions that we
believe are
attractive.
 
Also, acquisitions are subject to various regulatory approvals.
 
If we fail to receive the appropriate regulatory
regulatory approvals, we will not be able to consummate an acquisition that
 
we believe is in our best interests, and regulatory
regulatory approvals could contain conditions that reduce the anticipated benefits of any transaction.
 
Among other things, our
our regulators consider our capital, liquidity,
 
profitability, regulatory compliance
 
and levels of goodwill and intangibles when
when considering acquisition and expansion proposals.
 
Any acquisition could be dilutive to our earnings and shareholders’
equity per share of our common stock.
 
The regulatory agencies are carefully scrutinizing financial institution
mergers, and
the merger application process has lengthened.
Future acquisitions and expansion activities may disrupt
 
disrupt our business, dilute shareholder
value and adversely affect
our
operating results.
We regularly evaluate
 
potential acquisitions and expansion opportunities, including new branches and
 
other offices.
 
To the
extent that we grow through acquisitions, we cannot assure you that we
 
we will be able to adequately or profitably manage this
growth.
 
Acquiring other banks, branches, or businesses, as well as other geographic and product
 
expansion activities,
involve various risks including:
 
●
risks of unknown or contingent liabilities, and potential asset quality issues;
●
unanticipated costs and delays;
●
risks that acquired new businesses will not perform consistent with our growth and profitability
 
and profitability expectations;
●
risks of entering new markets or product areas where we have limited experience;
●
risks that growth will strain our infrastructure, staff, internal controls
 
controls and management, which may require
additional personnel, time and expenditures;
●
difficulties, expenses and delays of integrating the operations and personnel of acquired
 
acquired institutions;
 
●
potential disruptions to our business;
30
●
possible loss of key employees and customers of acquired institutions;
●
potential short-term decreases in profitability; and
●
diversion of our management’s time and
 
time and attention from our existing operations and business.
37
Technological
 
changes affect our business, and we may have fewer resources
 
than many competitors to invest in
technological improvements.
The financial services industry is undergoing rapid technological changes
 
technological changes with frequent introductions of new technology
driven products and services and growing demands for mobile and user-based
 
banking applications. In addition to allowing
us to analyze our customers better, the effective
 
use of technology may increase efficiency and may enable
 
financial
institutions to reduce costs, risks associated with fraud and compliance
 
with anti-money laundering and other laws, and
various operational risks. Largely unregulated “fintech” businesses
 
have increased their participation in the lending and
payments businesses, and have increased competition in these businesses. Our future
 
future success will depend, in part, upon our
ability to use technology to provide products and services that meet our customers’ preferences
 
and create additional
efficiencies in operations, while avoiding cyber-attacks
 
and disruptions, data breaches and anti-money laundering and other
violations.potential violations of law. The
COVID-19 pandemic and increased remote work has accelerated electronic
 
electronic banking
activity and the need
for increased operational efficiencies.
 
We
may need to
make significant additional capital
investments in technology, including
including cyber and data security,
 
and we may not be able to effectively implement new technology
-driventechnology-driven products and
services, or such technology
may prove less effective than anticipated.
Many larger
competitors have substantially greater
resources to invest in technological improvements
and, increasingly,
 
non-banking
firms are using technology to compete
with traditional lenders for loans, payments,
and other banking services.
 
As a result,
our competition from service providers not
located in our markets has increased.
Operational risks are inherent
 
in our businesses.
Operational risks and losses can result from internal and external fraud; gaps or
 
weaknesses in our risk management or
internal audit procedures; errors by employees or third parties, including our vendors,
 
vendors, failures to document transactions
properly or obtain proper authorizations; failure to comply with applicable regulatory requirements
 
in the various
jurisdictions where we do business or have customers; failures in our estimates models
 
models that rely on; equipment failures,
including those caused by natural disasters, or by electrical, telecommunications
 
or other essential utility outages; business
continuity and data security system failures, including those caused by computer viruses, cyberattacks,
 
viruses, cyberattacks, unforeseen
problems encountered while implementing major new computer systems or,
 
failures to timely and properly upgrade and
patch existing systems or inadequate access to data or poor response capabilities in light of
 
light of such business continuity and
data security system failures; or the inadequacy or failure of systems and controls,
 
including those of our vendors or
counterparties.
 
The COVID-19 pandemic presented operational challenges to maintaining
 
maintaining continuity of operations of
customer services while protecting our employees’ and customers’ safety.safety and
similar situations may occur in the future.
 
In
addition, we face certain risks inherent in the
ownership and operation
of our bank premises
and other real-estate, including
liability for accidents on our properties.
Although we have implemented risk controls
and loss mitigation actions, and
substantial
resources are devoted to
developing efficient procedures,
identifying and rectifying
weaknesses in existing
procedures and training staff and
potential environmental risks, it is not possible
to be certain that such actions
have been or
will be effective in controlling
these various operational risks that evolve
continuously.
3138
Potential gaps in our risk management policies and internal audit procedures
 
may leave us exposed unidentified or
unanticipated risk, which could negatively affect our business.
Our enterprise risk management and internal audit program is designed to
 
mitigate material risks and loss to us. We
 
have
developed and continue to develop risk management and internal audit policies and
 
and procedures to reflect the ongoing
review of our risks and expect to continue to do so in the future. Nonetheless, our policies
 
and procedures may not be
comprehensive and may not identify timely every risk to which we are exposed, and
 
and our internal audit process may fail to
detect such weaknesses or deficiencies timely in our risk management framework. Many
 
Many of our risk management models and
and estimates use observed historical market behavior to model or project
 
potential future exposure.
 
Models used by our
business, including the new CECL models, are based on assumptions and
projections. These models
may not operate
properly or our inputs and assumptions
may be inaccurate, or changes in economic and
market conditions, customer
behaviors
or regulations.
 
As a result, these methods may
not fully or timely predict future exposures,
which can be
significantly greater and/or faster than
historically.
 
Other risk management methods
depend upon the evaluation of
information regarding markets, clients, or
other matters that are publicly available or
otherwise accessible to us. This
information may not always be accurate,
complete, up-to-date or properly evaluated.
Furthermore, there can be no
assurance that we can effectively review
and monitor all risks or
that all of our employees will
closely follow our risk
management policies and procedures, nor can there be any assurance
that our risk
management
policies and procedures will
enable us to accurately identify all risks and limit our exposures
based on our assessments.
In
addition, we may have to
implement more extensive
and perhaps different risk management
policies and procedures
as our
regulation changes.
 
For
example, the Federal Reserve and the OCC are in the initial stages of proposing climate risk
 
climate risk
management criteria and
potential climate risk stress tests.
 
The SEC is expected to require more disclosure on climate
risks, also.
 
All of these could
adversely affect our financial condition and results
of operations.
Any failure to protect
 
the confidentiality of customer information could adversely affect our reputation
 
and have a material
adverse effect on our business, financial condition and results
 
of operations
.
Various
 
laws enforced by the bank regulators and other agencies protect the privacy and security of
 
customers’ non-public
personal information. Many of our employees have access to, and routinely process
 
personal information of clients through
a variety of media, including information technology systems.
 
Our internal processes and controls are designed to protect
the confidentiality of client information we hold and that is accessible to us and our employees.
 
It is possible that an
employee could, intentionally or unintentionally,
 
disclose or misappropriate confidential client information or our data
could be the subject of a cybersecurity attack.
 
Such personal data could also be compromised via intrusions into our
systems or those of our service providers or persons we do business with such as credit
 
bureaus, data processors and
merchants who accept credit or debit cards for payment. If we fail to maintain adequate
 
maintain adequate internal controls, or if our
employees fail to comply with our policies and procedures, misappropriation
 
or inappropriate disclosure or misuse of client
information could occur. Such internal control
 
internal control inadequacies or non-compliance could materially damage our
reputation,
lead to remediation costs and civil or criminal penalties.
 
These could have a material adverse effect on our business,
financial condition and results of operations.
Our information systems may experience interruptions and
 
security breaches.
We rely heavily on communications
 
and information systems, including those provided by third-party service
 
providers, to
conduct our business.
 
Any failure, interruption, or security breach of these systems could result in failures or
 
or disruptions
which could affect our customers’ privacy and our customer relationships,
 
relationships, generally.
 
Our business continuity plans,
including those of our service providers, to providefor back-up and restore service restoration, may
 
may not be effective in the case of widespread
widespread outages due to severe weather,
natural disasters, pandemics,
or power, communications
and other failures.
Our systems and networks, as well as those of our third-party service providers,
 
are subject to security risks and could be
susceptible to disruption through cyber-attacks, such as denial of service attacks, hacking,
 
hacking, terrorist activities, or identity
theft.
 
Cybercrime risks
have increased as electronic and mobile banking activities increased
as a result
of the COVID-19
pandemic, and may
increase as a result of the Russia invasion of Ukraine.Ukraine and tensions
with mainland China.
 
Other
financial service institutions and their service providers have
reported material security breaches
in their websites or other
systems, some of
which have involved sophisticated and targeted
targeted attacks, including use of stolen access credentials,
malware,
ransomware, phishing and distributed denial-of-
servicedenial-of-service attacks, among
other means.
 
Such cyber-attacks may also
seek to disrupt the operations of public companies
or
their business partners, effect
unauthorized fund transfers, obtain
unauthorized
access to confidential information, destroy
data, disable or degrade
service, or sabotage systems.
 
Denial of service attacks have been launched against a number of
financial services institutions, and we may be subject to these types of attacks in
the future. Hacking and
identity theft risks,
in particular, could cause serious reputational
harm.
3239
Despite our cybersecurity policies and procedures and our Board
 
of Director’s and Management’s efforts
 
to monitor and
ensure the integrity of the systemsystems we use, we may not be able to anticipate
the rapidly evolving
security threats, nor may we
we be able to implement preventive measures effective against
all such threats.
The techniques used by cyber criminals change
change frequently, may
not be recognize
d
recognized until launched and can originate from a wide variety of sources, including outside groups
such as external service providers, organized crime affiliates,
 
terrorist organizations or hostile foreign governments.
These risks
risks may increase in the future as the use of mobile banking and other internet
electronic banking continues
to grow.
Security breaches or failures may have serious adverse financial and other consequences,
 
including significant legal and
remediation costs, disruptions to operations, misappropriation of confidential information,
 
damage to systems operated by
us or our third-party service providers, as well as damages to our customers and our counterparties.
 
counterparties. In addition, these events
could damage our reputation, result in a loss of customer business, subject us to additional
 
regulatory scrutiny, or expose
 
us
to civil litigation and possible financial liability,
 
any of which could have a material adverse effect on our
 
our financial
condition and results of operations.
 
We may be unable
 
to attract and retain key people to support our business.
Our success depends, in large part, on our ability to attract and retain key people.
 
We compete
 
with other financial services
companies for people primarily on the basis of compensation and benefits, support
 
support services and financial position. Intense
competition exists for key employees with demonstrated ability,
 
and we may be unable to hire or retain such employees.
Effective succession planning is also important to our long-term
 
success. The unexpected loss of services of one or more of
our key persons and failure to ensure effective transfer of knowledge
 
and smooth transitions involving such persons could
have a material adverse effect on our business due to loss of their skills,
 
knowledge of our business, their years of industry
experience and the potential difficulty of promptly finding qualified
 
replacement employees.
Proposed rules implementing the executive compensation provisions of the Dodd
 
Dodd-Frank-Frank Act may limit the type and
structure of compensation arrangements and prohibit the payment of “excessive compensation”
 
compensation” to our executives. These
restrictions could negatively affect our ability to compete with other companies
 
in recruiting and retaining key personnel.
Severe weather and natural disasters, including
 
as a result of climate change, pandemics, epidemics, acts
 
acts of war or
terrorism or other external events could have significant
 
have significant effects on our business.
Severe weather and natural disasters, including hurricanes, tornados,
 
drought and floods, epidemics and pandemics, acts of
war or terrorism or other external events could have a significant effect on our
ability to conduct
business.
 
Such events
could affect the stability of our deposit base, impair the ability of borrowers to
 
to repay outstanding loans, impair the value of
collateral securing loans, cause significant property damage, result in loss of revenue
 
and/or cause us to incur additional
expenses.
 
Although management has established disaster recovery and business continuity
 
policies and procedures, the
occurrence of any such event could have a material adverse effect on our
 
on our business, which, in turn, could have a material
adverse effect on our financial condition and results of operations.
 
The COVID-19 pandemic, trade wars, tariffs, sanctions and similar
events and
disputes, domestic and international, have adversely
adversely affected, and may continue to adversely affect economic
 
economic activity globally,
 
nationally and locally.
 
Market interest
rates have
declined changed significantly during 2020, and remain low,suddenly.
 
but may begin increasing Federal Reserve target federal funds rates declined to 0-0.25%
in early 2022March
2020, where these remained until March 2022.
As of March 7, 2023, this had increased to 4.50-4.75% due to inflation.
 
Such events
also may adversely affect business and consumer confidence,
 
confidence, generally.
 
We and our customers,
 
and our respective
respective suppliers, vendors and processors may be adversely affected
 
by rising costs and shortages of needed equipment and
supplies.and supplies and tight labor markets.
 
Any such adverse changesThe continuation or worsening of these conditions may adversely affect our profitability,
 
our
profitability, growth asset quality and
financial condition.
3340
Financial Risks
Our ability to realize our deferred
 
tax assets may be reduced in the future
 
if our estimates of future taxable income from
our operations and tax planning strategies do not support this amount, and the amount
 
of net operating loss carry-forwards
realizable for income tax purposes may be reduced
 
under Section 382 of the Internal Revenue Code by sales of our capital
securities.
 
We are
allowed to carry-backcarry
-back losses for two years for Federal income tax purposes.
 
As of December 31, 2022, we had a
net deferred tax asset of $0.4$13.8 million with gross deferred tax assets of $1.7
$15.6 million.
 
These and future deferred tax assets
may be further reduced in the future if our estimates of future taxable income from our
 
operations and tax planning
strategies do not support the amount of the deferred tax asset.
 
The amount of net operating loss carry-forwards realizable
for income tax purposes potentially could be further reduced under Section 382
of the Internal
Revenue Code by a
significant offering and/or other sales of our capital securities.
 
Current bank capital rules also reduce the regulatory capital
benefits of deferred tax assets.
Our cost of funds may increase as a result
 
of general economic conditions, interest rates, inflation
 
and competitivechanges in customer
behaviors and competitive pressures.
The Federal Reserve shifted to a more accommodating monetary policy in Summer
 
Summer 2019. During 2020, the Federal Reserve
reduced its federal funds target to 0-0.25% and has made significant
 
monthly purchases of U.S. Treasury and agency
mortgage-backed securities to help stimulate the economy,economy.
 
marketBeginning March 2022, as inflation became more persistent, the
Federal Reserve started increasing interest rates have increased, possibly as a resultand reducing its holdings of
increased U.S government, borrowings to finance rounds of fiscal stimulus and
 
increased inflation expectations resulting fromagency and agency
such stimulus and expected increases in economic growth from fiscal andmortgage-backed securities.
 
monetary stimulus and COVID-19 vaccinations.
Our costs of funds may increase as a result of general economic conditions, increasing interest
interest rates and competitive
pressures, and potential inflation, resulting from continued government deficit spending
and monetary policies, and
anticipated future changes by the Federal
Reserve to a less accommodative monetary policy.reduce inflation.
 
Traditionally,
 
we have obtained
funds principally through local deposits and borrowings from other institutional
 
lenders
such as the FHLB, which we believe are a cheaper
and more stable source of funds than borrowings.borrowings,
generally.
 
Increases
in interest rates may cause consumers to shift their funds to
more interest bearinginterest-bearing instruments
and to increase the
competition for and costs of
deposits.
 
If customers move money out
of bank deposits and into other investment assets or
from transaction deposits to higher interestinterest-bearing time deposits,
 
bearing time deposits, we
could lose a relatively low cost source of funds,
increasing our funding costs and potentially reducing our
net interest income and net income.
income. Additionally, any
such loss of
funds could result in lower loan originations and growth, which could materially and
 
materially and
adversely affect our results of
operations and financial condition.
See “Supervision and Regulation – Fiscal and Monetary Policy.”
Our profitability and liquidity may be affected
 
affected by changes in interest rates and interest
 
rate levels, the shape of the yield
curve and economic conditions.
 
Our profitability depends upon net interest income, which is the difference between
 
between interest earned on interest-earning
assets, such as loans and investments, and interest expense on interest-bearing liabilities,
 
such as deposits and borrowings.
 
Our income is primarily driven by the spread between these rates. Net interest income
will be adversely affected if market
interest
rates onand the interest we pay on deposits and borrowings
increases faster than the
interest earned on loans and
investments.
 
Interest rates, and consequently our results of operations,
are affected
by general economic conditions (national,
(national, international and
local) and fiscal and monetary policies, as well as expectations
expectations of interest rate changes, fiscal
and monetary policies and the shape of the
yield curve.
 
Our income is primarily
driven by the spread between these rates. As a result, a steeper yield curve,
meaning long-term interest rates are
are significantly higher than short-term interest rates, would provide
 
provide the Bank with a better opportunity to increase net interest
interest income.
Conversely, a
flattening yield curve
could further pressure our net interest margin
as our cost of funds increases
increases relative to the spread we can earn on our assets.
The yield curve was inverted at the beginning of March 2023,
and this results in a lower spread between our costs of funds and our interest income.
In addition, net interest income could
be affected by asymmetrical changes
in the different interest
rate indexes, given that not all of our assets or liabilities are
are priced with the same index.
 
The
Higher market interest rate reductionsrates and sales of securities held by the Federal Reserve and the effects of the
 
COVID-19 pandemic have reduced market rates,Reserve to reduce
which adversely affected our net interest incomeinflation generally reduce economic activity and our results of operations.may loan demand and growth.
The production of mortgages and other loans and the value of collateral securing our
 
securing our loans are dependent on demand within
the markets we serve, as well as interest rates.
 
Lower interest rates typically increase mortgage originations, decrease MSR
values and facilitate pandemic-related trends to single family houses.promote economic growth.
 
Increases in market interest rates would tend to
decrease mortgage originations, increase
MSR values, decrease the value and liquidity of collateral securing loans, and potentially increase
 
increase net interest spread
depending upon the yield
curve and the magnitude and duration of interest rate increase.
increase, and constrain economic growth.
3441
Increases in market interest rates have also caused unrealized losses in our securities
portfolio as our available for sale
investments are carried at fair value and market prices have declined as
market interest rates increase.
Although these
unrealized losses do not adversely affect our regulatory capital, these do
reduce our reported GAAP tangible stockholders’
equity.
Sales of securities with unrealized losses would result in realized losses
for GAAP,
regulatory capital and tax
purposes.
Increases in interest rates may also change depositor behaviors as customers
seek higher yielding deposits.
This
may adversely affect our net interest income and net income and
may also adversely affect our liquidity.
Liquidity risks could affect operations and jeopardize
 
our financial condition.
The COVID-19 pandemic generally has increased our deposits and at banks, generally,
while reducing the interest rates
earned on loans and securities.
Such excess liquidity and the resulting balance sheet growth requires capital support
and
reduced returns on assets and equity.
Inflation and tightening monetary policies beginning in early 2022 have increased
interest spreads, but may change the mix and costs of our deposits over time.
The growth in deposits exceeded our loan
growth and the difference was invested in high-quality,
marketable U.S. government and government agency securities,
including agency mortgage-backed securities.
Liquidity is essential to our business.
 
An inability to raise funds through deposits, borrowings, proceeds from loan
repayments or sales proceeds from maturing loans and securities, and other sources
 
could have a negative effect on our
liquidity.
 
Our funding sources include deposits (primarily core deposits), federal
funds purchased, securities sold under
repurchase agreements, core and non-
core deposits, and short-
and long-term debt.
 
We
maintain a portfolio
of marketable high-quality securities that
can be used as a source of liquidity.
 
As market interest rates have risen, however,
we have experienced unrealized losses
on such securities, which would become realized losses upon the sale of such securities,
and such sales at a loss would
reduce our net income and our regulatory capital.
We are also
 
also members of the FHLB and the Federal Reserve Bank, of Atlanta, whereand we can obtain advances collateralized
 
collateralized
with eligible assets.
assets, and maintain uncommitted federal funds lines of credit with other banks.
 
There areOn March 12, 2023, the Federal Reserve
established a new Bank Term
Funding Program (“BTFP”), which offers loans of up to one year to banks, savings
associations, credit unions, and other eligible depository institutions pledging U.S.
Treasuries, agency debt and mortgage-
backed securities, and other qualifying assets as collateral. These assets will be valued
at par. The BTFP will be an
additional source of liquidity against high-quality securities, eliminating
an institution's need to quickly sell those securities
in times of stress.
In addition, the discount window will apply the same margins used
for the securities eligible for the
BTFP,
further increasing the value of investment securities at the discount window.
Other sources of liquidity available to the Company or the Bank, if needed, include our
 
should they be needed,
including our ability to acquire additional non-
non-corecore deposits.
 
We may be able, depending
 
upon market conditions, to
otherwise borrow money or issue and sell debt
and
preferred or common securities in public
or private transactions.
 
Our
access to funding sources in amounts adequate to
finance or capitalize our activities
on terms which are acceptable to us
could be impaired
by factors that affect us
specifically,
or the financial services industry, or
the economy in general.and market interest rates and fiscal and monetary policies.
 
General conditions that are not specific to us, such as disruptions in the financial
 
markets or negative views and
expectations about the prospects for the financial services industry could adversely affect
 
adversely affect us.
The COVID-19 pandemic generally has increased our deposits and at banks, generally,
while reducing the interest rates
earned on loans and securities.
Such excess liquidity and the resulting balance sheet growth requires capital support
and
may reduce returns on assets and equity.
Changes in accounting and tax rules applicable to banks could adversely
 
affect our financial conditions and results of
operations.
 
From time to time, the FASB
 
and the SEC change the financial accounting and reporting standards that govern the
preparation of our financial statements.
 
These changes can be difficult to predict and can materially impact how
 
how we record
and report our financial condition and results of operations.
 
In some cases, we could be required to apply a new or revised
standard retroactively, resulting
 
in us restating prior period financial statements
.
The
FASB’s
 
guidance under ASU No.
2016-13 includes significant changes to the manner in which banks’ allowance
 
for loan losses will be effective for us
beginning January 1, 2023.
 
Instead of using historical losses, the CECL model is forward-looking with respect
 
to expected
losses over the life of loans and other instruments and the CECL models include inputs
based on economic and market
conditions, all of which could materially affect our
results of operations
and financial
condition, including the variability of
our results of operations and our regulatory
capital, notwithstanding a three-year phase-in
phase-in of CECL for regulatory capital
purposes.
42
We may need
 
to raise additional capital in the future, but that capital
 
may not be available when it is needed or on
favorable terms.
We anticipate that our current
 
capital resources will satisfy our capital requirements for the foreseeable future
 
future under
currently effective rules.
 
We may,
 
however, need to raise additional capital to
 
support our growth or currently
unanticipated losses, or to meet the needs of our communities, resulting from failures or
 
cutbacks by our competitors.
 
Our
ability to raise additional capital, if needed, will depend, among other things,
 
on conditions in the capital markets at that
time, which are limited by events outside our control, and on our financial performance.
 
If we cannot raise additional
capital on acceptable terms when needed, our ability to further expand our operations
 
operations through internal growth and
acquisitions could be limited.
 
Our associates may take excessive risks which could negatively affect our financial
 
condition and business.
Banks are in the business of accepting certain risks.
 
Our executive officers and other members of management,
 
sales
intermediaries, investment professionals, product managers, and other
 
other associates, make decisions and choices that involve
exposing us to risk. We endeavor,
 
in the design and implementation of our compensation programs and practices, to avoid
giving our associates incentives to take excessive risks; however,
 
associates may nonetheless take such risks.
 
Similarly,
although we employ controls and procedures designed to prevent misconduct,
 
to monitor associates’ business decisions and
prevent them from taking excessive risks, these controls and procedures
may not be effective.
If our associates take
excessive risks, risks to our reputation, financial condition and business operations
 
could be materially and adversely
affected.
35
Our ability to continue to pay dividends to shareholders
 
in the future is subject to our profitability,
 
capital, liquidity and
regulatory requirements
 
and these limitations may prevent or limit future
 
dividends.
Cash available to pay dividends to our shareholders is derived primarily from dividends paid
 
to the Company by the Bank.
 
The ability of the Bank to pay dividends, as well as our ability to pay dividends to our shareholders,
 
will continue to be
subject to and limited by laws limiting dividend payments by the Bank, the results of operations
 
of our subsidiaries and our
need to maintain appropriate liquidity and capital at all levels of our business consistent
 
with regulatory requirements and
the needs of our businesses.
 
See “Supervision and Regulation”.
A limited trading market exists for our common shares,
 
which could result in price volatility.
Your
 
ability to sell or purchase common shares depends upon the existence of an active trading
 
market for our common
stock.
 
Although our common stock is quoted on the Nasdaq Global Market under the trading symbol
 
symbol “AUBN,“AUBN,” our historictrading
trading volume has been limited historically.
 
As a result, you may be unable to sell or purchase shares of our common
stock at the
volume, price and time that you desire.
 
Additionally, whether
the purchase
or sales prices of our common stock
reflects a
reasonable valuation of our common stock also is affected
by limited trading
market, and thus the price you
receive for a
thinly-traded stock, such as our common stock, may not reflect its true or intrinsic
 
value.
 
The limited trading
market for
our common stock may cause fluctuations in the market value of our common
stock to be exaggerated,
leading
to price
volatility in excess of that which would occur in a more active trading
market.
Legal and Regulatory Risks
The Company is an entity separate and distinct from
 
the Bank.
The Company is an entity separate and distinct from the Bank. Company transactions
 
with the Bank are limited by Sections
23A and 23B of the Federal Reserve Act and Federal Reserve Regulation
W.
 
We depend upon the Bank’s
 
earnings and
dividends, which are limited by law and regulatory policies and actions, for cash to pay the Company’s
 
Company’s debt and corporate
obligations, and to pay dividends to our shareholders.
 
If the Bank’s ability to pay dividends to the Company
 
was
terminated or limited, the Company’s liquidity and
 
and financial condition could be materially and adversely affected.
 
43
Legislative and regulatory changes
The Biden Administration is appointinghas appointed new members to the FDIC and Federal Reserve
 
Reserve Board,boards, and has appointed an acting
acting Comptroller of the Currency, and
a new full time CFPB director.director and FDIC Chairman, a new Federal Reserve Vice
Chairman for Supervision and will nominate a new Vice
 
ThisChair to replace Lael Brainard.
The Administration and its
appointees propose changes to
bank regulation and corporate tax changes that could have an
adverse effect
on our results of
operations and financial
conditions.
We are
 
subject to extensive regulation that could limit or restrict
 
our activities and adversely affect our earnings.
We and our subsidiaries are
 
regulated by several regulators, including the Federal Reserve, the
 
Alabama Superintendent,
the SEC and the FDIC.
 
Although not regulated or supervised by the CFPB, we are subject to the regulations and
interpretations of the CFPB and the Federal Reserve’s
supervision of our compliance with such regulations and
pronouncements.
Our success is affected by state and federal laws and regulations affecting
 
banks and bank holding
companies, and the securities markets, and our costs of compliance could adversely affect
 
our earnings.
 
Banking
regulations are primarily intended to protect depositors, and the FDIC Deposit InsuranceFDIC’s
 
Fund (“DIF”),DIF, not shareholders.
 
The financial services
industry also is subject to frequent legislative and regulatory
changes and proposed
changes.
 
In
addition, the interpretations
of regulations by regulators may change and statutes
may be enacted with retroactive impact.
From time to time, regulators
raise issues during examinations of us which,
if not determined satisfactorily,
 
could have a
material adverse effect on us.
Compliance with applicable
laws and regulations is time consuming and costly and
may
affect our profitability. The
 
position of the President and his administration that took office
in January 2021 with respect toOur
regulation of banks and bank holding companies is not yet fully known, but
their views and actionsregulators could have a material
adverse effect on financial services
regulation, generally.
36
Litigation and regulatory actions could harm
 
our reputation and adversely affect our results
 
of operations and financial
condition.
A substantial legal liability or a significant regulatory action against us, as well as regulatory
 
inquiries or investigations,
could harm our reputation, result in material fines or penalties, result in significant legal and
 
legal and other costs, divert management
resources away from our business, and otherwise have a material adverse effect
 
effect on our ability to expand on our existing
business, financial condition and results of operations. Even if we ultimately prevail
 
prevail in litigation, regulatory investigation or
action, our ability to attract new customers, retain our current customers and recruit and retain
 
retain employees could be
materially and adversely affected.
Regulatory inquiries and litigation
may also adversely affect the prices or volatility of
our securities specifically, or the
 
securities of our industry,
 
generally.
As a participating lender in the PPP,
the Bank is subject to additional risks of litigation from the Bank’s
customers or other
parties regarding
the Bank’s
processing of loans for the PPP and risks of potential
SBA or bank regulatory claims.
The Bank participated as a lender in the PPP and made a total of $56.7 million of PPP loans in 2020
and 2021, generally to
support existing customers in the Bank’s
markets.
All PPP loans made by the Bank have been forgiven by the SBA, except
for one credit where the borrower is voluntarily repaying the loan.
Since the beginning of the PPP,
various banks have
been subject to litigation regarding the processes and procedures used in processing applications
for the PPP,
and greater
governmental attention is directed at preventing fraud.
We may be exposed to
similar litigation risks, from both customers
and non-customers that approached the Bank regarding PPP loans that we extended.
The SBA, the Department of Justice and the bank regulators are investigating
various PPP lenders and borrowers with
respect to potential fraud or improper activities under the PPP loan programs.
Although the SBA has not indicated any
issues with the Bank’s participation in the PPP
program and honored all PPP forgiveness requests, the Bank could have
potential liability if the SBA later determines deficiencies in the manner in
which PPP loans were originated, funded or
serviced by the Bank, such as an issue with the eligibility of a borrower to receive a
PPP loan, or its forgiveness of a PPP
properly, including those related
to the ambiguities in the laws, rules and guidance regarding the PPP’s
operation.
The Bank is unaware of any such investigation or claims. If any such claims are
made against the Bank and are not resolved
favorably to the Bank, it may result in financial liability or adversely affect
our reputation.
Any financial liability, litigation
costs or reputational damage caused by PPP related litigation could have a material adverse
effect on our business, financial
condition and results of operations.
Similar issues may also result in the denial of forgiveness of PPP
loans, which could
expose us to potential borrower bankruptcies and potential losses and additional costs.
44
We are
 
required to maintain
 
capital to meet regulatory requirements,
 
and if we fail to maintain sufficient capital, our
financial condition, liquidity and results of operations
 
would be adversely affected.
 
We and the Bank must
 
must meet regulatory capital requirements and maintain sufficient
 
liquidity, including liquidity
 
at the
Company, as well as the Bank.
 
If we fail to meet these capital and other regulatory requirements, including
 
more rigorous
requirements arising from our regulators’ implementation of Basel III,
 
our financial condition, liquidity and results of
operations would be materially and adversely affected.
 
Our failure to remain “well capitalized” and “well managed”,
including meeting the Basel III capital conservation buffers, for
 
for bank regulatory purposes, could affect customer
confidence, our ability to grow, our
 
costs of funds and FDIC insurance, our ability to raise brokered deposits, our
 
our ability to
pay dividends on our common stock and our ability to make acquisitions, and we
 
we may no longer meet the requirements for
becoming a financial holding company.
 
These could also affect our ability to use discretionary bonuses to
 
to attract and retain
quality personnel.
 
The Basel III Capital Rules include a minimum ratio of common equity
tier 1 capital, or CET1, to risk-
weighted assets of 4.5% and a capital conservation buffer of 2.5% of risk-weighted
assets.
See
“Supervision and
Regulation—Basel III Capital Rules.”
 
Although we currently have capital ratios
that exceed all these minimum levels and
a strategic plan to maintain these levels,
we or the Bank may be unable to
continue
to satisfy the capital adequacy
requirements and/or maintain our liquidity for various
reasons, which may include:
 
•
●
losses and/or increases in the Bank’s credit risk assets
 
risk assets and expected losses resulting from the deterioration in the
creditworthiness of borrowers and the issuers of equity and debt securities;
•
●
difficulty in refinancing or issuing instruments upon redemption or
 
at maturity of such instruments to raise capital
under acceptable terms and conditions;
•
●
declines in the value of our securities portfolios;
•
●
revisions to the regulations or their application by our regulators that increase our capital requirements;
•
●
reduced total earnings on our assets will reduce our internal generation of capital available
 
available to support our balance
sheet growth;
•
●
reductions in the value of our MSRs and DTAs;
 
and other adverse developments; and
•
●
unexpected growth and an inability to increase capital timely.
A failure to remain “well capitalized,” for bank regulatory purposes, including meeting the
 
meeting the Basel III Capital Rule’s
conservation buffer, could adversely affect
 
customer confidence, and our:
 
•
●
ability to grow;
•
●
the costs of and availability of funds;
•
●
FDIC deposit insurance premiums;
•
●
ability to raise or replace brokered deposits;
•
●
ability to pay or increase dividends on our capital stock.
37
•
●
ability to make discretionary bonuses to attract and retain quality personnel;
•
●
ability to make acquisitions or engage in new activities;
•
●
flexibility if we become subject to prompt corrective action restrictions; and
•
●
ability to make payments of principal and interest on any of our capital instruments; andinstruments
that may be then outstanding.
The Federal Reserve may require
 
us to commit capital resources
 
to support the Bank.
As a matter of policy, the Federal
 
Reserve expects a bank holding company to act as a source of financial and
managerial
strength to a subsidiary bank and to commit resources to support such subsidiary bank. The
 
Federal Reserve may require a
bank holding company to make capital injections into a troubled subsidiary bank. In addition,
 
In addition, the Dodd-Frank Act amended
the FDI Act to require that all companies that control a FDIC-insured depository institution
 
serve as a source of financial
strength to their depository institution subsidiaries. Under these requirements,
 
we could be required to provide financial
assistance to the Bank should it experience financial distress, even if further investment
 
was not otherwise warranted. See
“Supervision and Regulation.”
45
Our operations are subject to risk of loss from
 
unfavorable fiscal, monetary and political developments in the
 
the U.S.
Our businesses and earnings are affected by the fiscal, monetary and other policies
 
policies and actions of various U.S.
governmental and regulatory authorities. Changes in these are beyond our control
 
and are difficult to predict and,
consequently, changes in these
 
policies could have negative effects on our activities and results of operations.
 
Failures of
the executive and legislative branches to agree on spending plans and budgets previously
 
have led to Federal government
shutdowns, which may adversely affect the U.S. economy.
 
Additionally, any prolonged
 
government shutdown may inhibit
our ability to evaluate the economy, generally,
 
generally, and affect
government workers who are not paid
during such events, and
where the absence of government services and data could adversely affect consumer
 
and business sentiment, our local
economy and our customers and therefore our business.
Litigation and regulatory investigations are
 
increasingly common in our businesses and may result
 
in significant financial
losses and/or harm to our reputation.
We face risks of litigation
 
and regulatory investigations and actions in the ordinary course of operating our
 
our businesses,
including the risk of class action lawsuits. Plaintiffs in class action and
 
action and other lawsuits against us may seek very large and/or
indeterminate amounts, including punitive and treble damages. Due to the vagaries of litigation,
 
the ultimate outcome of
litigation and the amount or range of potential loss at particular points in time may be difficult
 
to ascertain. We
 
do not have
any material pending litigation or regulatory matters affecting
 
us.
Failures to comply with the fair lending laws, CFPB regulatiregulations
 
ons or the Community Reinvestment Act, or CRA, could
adversely affect us.
The Bank is subject to, among other things, the provisions of the Equal Credit Opportunity
 
Act, or ECOA, and the Fair
Housing Act, both of which prohibit discrimination based on race or
 
color, religion, national origin, sex and familial status
in any aspect of a consumer, commercial credit or residential
 
residential real estate transaction. The DOJ and the federal bank
regulatory agencies have issued an Interagency Policy Statement on Discrimination
 
in Lending have provided guidance to
financial institutions to evaluate whether discrimination exists and how the agencies
 
agencies will respond to lending discrimination,
and what steps lenders might take to prevent discriminatory lending practices. Failures
 
Failures to comply with ECOA, the Fair
Housing Act and other fair lending laws and regulations, including CFPB
 
regulations or interpretations, could subject us to enforcement
enforcement actions or litigation, and could have a material adverse effect
 
on our business financial condition and results of operations.
operations. Our Bank is also subject to the CRA and periodic CRA examinations. The CRA requires
 
us to serve our entire
communities, including low-
 
and moderate-income neighborhoods. Our CRA ratings could be
 
be adversely affected by actual
or alleged violations of the fair lending or consumer financial protection
laws. Even though
we have maintained an
“satisfactory” CRA rating since 2000, we cannot predict our future CRA ratings.
 
Violations of fair lending laws or if our
CRA rating falls to less than “satisfactory” could adversely affect
 
our business, including expansion through branching or
acquisitions.
The Federal banking regulators jointly proposed comprehensive revisions to their CRA
regulations on May 5, 2022, and
Tablewhich may be adopted in the first half of Contents2023.
These revisions have not been finalized but could have significant effects
38on our compliance costs and activities.
See “Supervision and Regulation -
Community Reinvestment Act and Consumer
Laws.”
COVID-19 Risks
The national emergencies related to COVID-19 pandemic may continue to adversely affect our business, financialhave been terminated
 
conditionby the President effective May 11, 2023.
The
medical and results of operations. The
ultimatedirect economic effects of the pandemic on us will depend on the severity,COVID-19 diminished
 
scopeover 2022 and durationare not directly affecting the Company’s
business.
COVID-19 continues to have various indirect effects and risks, the
most important of which are described herein,
including continuing inflation and the pandemic, its cumulativeFederal Reserve’s
change from accommodative monetary policy to a tightening
economic effects, governmental actions in responsemonetary policy to fight inflation following significant fiscal and monetary stimuli provided
 
to reduce the effects of
COVID-19 pandemic on the economy, as
well significant changes resulting from the pandemic, andincluding supply chain
disruptions, a tight labor market, remote work away from the restoration of a moreoffice, population
 
normal economy.and business shifts within regions of the
United States, changes in real estate utilization, and shortages of housing and increases
in rents and housing costs in various
areas of the country. These risks are discussed
in this report.
 
The COVID-19 national health emergency has significantly disruptedCompany’s assessment of risks related to
 
the United States and international economies and
financial markets. We
expect that the COVID-19 pandemic and its effects on the Company applicable
 
will continue to adversely affect our business,during the pandemic
financial condition and results of operationsare discussed in future periods. The spread of COVID-19the Company‘s Annual Report on Form 10-K filed with the SEC on March
 
has caused illness, quarantines,8, 2022 under the caption “Risk
cancellation of eventsFactors-COVID 19 Risks” and travel, business and school shutdowns, reductions in business
activity and financial transactions,
supply chain interruptions and overall economic and financial market instability.
The State of Alabama and many other
states have taken preventative and protective actions, such as imposing a statewide
mask mandate, restrictions on travel,
business operations, public gatherings, social distancing, advising or requiring
individuals to limit or forego their time
outside of their homes, and ordering temporary closures of non-essential businesses.
Though various of these measures
have been relaxed or eliminated, the pandemic has moved in disruptive and unpredictable
waves.
The travel, hospitality and food and beverage industries, restaurants, retailers and auto
manufacturers, and their suppliers
have been severely affected. A significant number of layoffs,
furloughs of employees, as well as remote work have
occurred in these and other industries, including government offices, schools and
universities. Auburn University held
virtual classes only from March 16, 2020 through the summer session.
The auto industry’s production
and sales continue to
be adversely affected
by supply chain disruptions.
Hyundai and Kia are major direct and indirect employers in our area.
The ultimate effects of the COVID-19 pandemicQuarterly Reports on the economy,Form 10-Qs though
 
generally, our markets, and on us cannot
be predicted.
The timing and effects of the COVID-19 pandemic on our business, results
of operations and financial condition may
include, among various other consequences, the following. These effects
depend on the severity, scope
and duration of the
pandemic, its cumulative economic effects, and the effectiveness
of healthcare, business and governmental actions
addressing the pandemic’s effects,
including vaccinations.
•
Employees’ health could be adversely affected, necessitating their recovery
away from work;
•
Unavailability of key personnel necessary to conduct our business activities;
•
Our operating effectiveness may be reduced as our employees
work from home or suffer from the COVID-19
virus;
•
Shelter in place, remote work or other restrictions and interruptions of our business and contact
with our
customers;
•
Sustained closures of our branch lobbies or the offices of our customers;
•
Declines in demand for loans and other banking services and products, and reduced usage
and interchange fees
on our payment cards;
•
Continuing large scale fiscal and monetary stimulus actions
may stabilize the economy, but
may increase
economic and market risks, including valuation “bubbles,” volatility in various assets and
inflation;
•
Inflation and increases in interest rates may result from fiscal stimulus and
monetary stimulus, and the Federal
Reserve has indicated it is willing to permit inflation to run moderately above its 2% target
for some time, but is
considering raising interest rates and reducing its securities holdings as a result of inflation
that is substantially
higher than the Federal
Reserve’s target range;
•
Increased savings and debt reduction by consumers could reduce demand for credit
and our earning assets;
•
Significant volatility in United States financial markets and our investment securities
portfolio, including credit
concerns in municipal securities;
•
Declines in the credit quality of our loan portfolio, owing to the effects
of the COVID-19 pandemic in the
markets we serve, leading to increased provisions for loan losses and increases in our allowance
for possible
credit losses;
39
•
Declines in the value of collateral for loans, including real estate collateral, especially in industries
such as
travel, hospitality, restaurants
and retailers;
•
Declines in the net worth and liquidity of borrowers, impairing their ability to pay timely their
loan obligations
to us;
•
Generally low market interest rates that reduce our net interest income and our profitability;
•
Loan deferrals and loan modifications, and mortgage foreclosure
moratoria, including those mandated by law,
or
which are encouraged by our regulators, may increase our expense and risks of collectability,
reduce our cash
flows and liquidity and adversely affect our results of operations and
financial condition;
•
The end of temporary regulatory accounting and capital relief for banks regarding the effects
of the COVID-19
pandemic, including loan deferrals and modifications, could increase our TDRs and require
additions to our
allowance for loan losses, which may adversely affect our income,
financial condition and capital;
•
Our waiver of various fees and service charges to support our customers
and communities will adversely affect
our results of operation and our liquidity and financial position;
•
The COVID-19 pandemic may change customer financial behaviors and
payment practices. Electronic banking
could become more popular with less customers doing business at our offices;
•
Certain of our assets, including loans and securities, may become impaired,
which would adversely affect our
results of operation and financial condition and mortgage loan foreclosure
moratoria may limit our ability to
timely act to protect our interests in the loan collateral;
•
Reductions in income or losses will adversely affect our capital and growth
of capital, including our capital for
bank regulatory purposes;
•
Losses or reductions in net income may adversely affect the growth or
amount of dividends we can pay on our
common stock;
•
The effects of government fiscal and monetary policies, including
changes in such policies, or the effects of
COVID-19 relief programs are discontinued, on the economy and financial stability,
generally, and on our
business, results of operations and financial condition cannot be predicted;
•
Cybercriminals may increase their attempts to compromise business and consumer
emails, including an increase
in phishing attempts, and fraudulent vendors or other parties may view the pandemic
as an opportunity to prey
upon consumers and businesses during this time.
•
The restoration of financial stability and economic growth may depend
on the health care system developing and
deploying COVID-19 testing and contact tracing, and delivery of COVID-19 vaccines,
which promote consumer
and employee health and confidence in the economy.
These factors, together or in combination with other events or occurrences that are unknown
or anticipated, may materially
and adversely affect our business, financial condition and results of operations.
Our stock price may reflect securities market conditions
The ongoing COVID-19
pandemic has resulted in substantial securities market volatility,
especially for bank stocks and
has, and may continue to, adversely affect the market of our common
stock. The spread, intensification and duration of
COVID-19 pandemic, as well as the effectiveness of governmental,
fiscal and monetary policies, and regulatory responses
to the pandemic, further affect the financial markets and the market prices
for securities generally, and the
market prices for
bank stocks, including our common stock.
The stock market’s gains due to a concentration
of high growth companies has
been adversely affected by inflation and expectation of higher interest rates and
the Russia invasion of Ukraine in February
September 30, 2022.
40
The COVID-19 global pandemic could result in
deterioration of asset quality and an increase in credit
losses.
Many businesses have had, and may continue to have lower revenues and cash
flows and many consumers will have lower
income as a result of COVID-19. These could result in an inability to repay loans timely in
full, reduce our asset quality and
reduce our deposits. Loan modifications and payment deferrals may also increase
our credit risks, especially when
temporary regulatory relief for these actions expires. Our business, results of operations, liquidity
and financial condition
could be adversely affected.
As a participating lender in the PPP,
the Bank is subject to additional risks of litigation from the
Bank’s
customers or other
parties regarding
the Bank’s
processing of loans for the PPP and risks that the SBA may
not fund some or all PPP loan
guaranties.
The CARES Act, Paycheck Protection Program and Healthcare Enhancement
Act and Economic Aid Act appropriated
more than $1 trillion in funding for PPP loans administered through by the SBA and
the U.S. Department of the Treasury.
Under the PPP,
eligible small businesses and other entities and individuals can apply for loans from existing
SBA lenders
and other approved PPP lenders, subject to numerous limitations and eligibility
criteria. The Bank is participating as a
lender in the PPP and made a total of $56.7 million of PPP loans in 2020 and 2021.
The PPP loans charge 1% interest
annually.
Forgiveness of these loans has been slow,
and PPP loans earn less than market rates.
Since the opening of the
PPP,
various banks have been subject to litigation regarding the process and procedures used in processing applications
for
the PPP,
and greater governmental attention is directed at preventing fraud.
We may be exposed
to similar litigation risks,
from both customers and non-customers that approached the Bank regarding PPP
loans we extended. If any such litigation
is filed against the Bank and is not resolved favorably to the Bank, it may result in financial
liability or adversely affect our
reputation. Litigation can be costly, regardless
of outcome. Any financial liability,
litigation costs or reputational damage
caused by PPP related litigation could have a material adverse effect on our
business, financial condition and results of
operations.
The Bank also has credit risk on PPP loans, if the SBA determines deficiencies
in the manner in which PPP loans were
originated, funded or serviced by the Bank, such as an issue with the eligibility of a borrower to
receive a PPP loan, or
obtain forgiveness of a PPP properly,
including those related to the ambiguities in the laws, rules and guidance
regarding
the PPP’s operation. In the event of a loss resulting
from a default on a PPP loan and a determination by the SBA that there
were one or more deficiencies in the manner in which the PPP loan was originated,
funded, or serviced by the Company,
the SBA may deny its liability under the PPP loan guaranty,
reduce the amount of the guaranty, or,
if it has already paid
under the guaranty, seek recovery of any
loss related to the deficiency from the Company.
Similar issues may also result in
the denial of forgiveness of PPP loans, which could expose us to potential borrower
bankruptcies and potential losses and
additional costs.
At December 31, 2021 we had $8.1 million PPP loans outstanding and had not realized
any losses on such loans.
46
ITEM 1B. UNRESOLVED
 
STAFF COMMENTS
None.
ITEM 2. DESCRIPTION OF PROPERTY
The Bank conducts its business from its main office and seven full-service
 
branches.
 
The Bank also operates a loan
production officesoffice in Auburn and Phenix City,
 
Alabama.
The Bank owns its main campus in downtown Auburn, Alabama, which comprises
 
over 54 acres and includes the Bank'snewly
temporary main office, operations center,constructed AuburnBank Center,
 
drive-through facility,
which was completed in May 2022 and parking deck.held its grand opening in June 2022.
 
The operations center, built as a theater
in 1968, and remodeled by the Bank after purchasing it in 1985,AuburnBank Center has approximately 23,000
90,000 square feet of space. All of the
Bank’s loan servicing, data processing activities,
 
and other operations, are located inThe AuburnBank Center includes the operations building.Bank’s
 
Currently,
themain
Bank’s temporary main office,
is located in the operations center as the Bank completes Phase I Auburn loan production office, and all of its main campusback-office
redevelopment plan.operations.
 
The temporary main office branch offers the full line of
the Bank’s
services and has one
ATM.
 
The
Bank’s drive-through facility located
 
on the main office campus was
constructed in October 2012.
 
This drive-through
facility has five drive-through lanes, including an ATM,
 
and a walk-up
teller window.
41
Phase I of the redevelopment plan includes the construction of a new headquarters building,
the AuburnBank Center, and a
parking deck.
Construction activities for Phase I commenced during the second half of 2020
and the parking deck was
completed in April of 2021.
 
The parking deckBank has approximately 500 parking spaces, is open to the public and charges
hourly, monthly,
and special event rates, and is expected to provide for future parking needs on the Bank’s
main campus,
including the new headquarters building.
The new headquarters building will have approximately 90,000
square feet of
space and is expected to be complete in the second quarter of 2022.
Upon completion of Phase I, the Bank’s main office,
Auburn loan production office, and all of its back-office operations
will be relocated to the new headquarters building.
The
Bank expects to lease approximately 46,000 square feet of office space
 
and approximately 5,000 square feet of
retail space
in the new headquartersAuburnBank Center building available for lease to
third party tenants.
In January 2019, the Bank purchased a parcel that adjoins the operations center in order
to improve ingress and egress to
the Bank’s main campus.
The building improvements currently on this adjoining parcel, as
well as the operations building,
will be demolished under Phase II of the Bank's campus redevelopment plan.
In February 2022, the Company entered into
an agreement subject to a 180 day inspection period and customary closing conditions,
to sell this combineda parcel of approximately
approximately 0.85 acres to a hotel developer.
 
As part of the agreement, the Bank will negotiatenegotiated a long-term lease with the
hotel developer
for 100 to 150 parking spaces in
the Bank’s
parking deck.
 
Upon closing,In October 2022, the Company currently expectsclosed the sale at the agreed upon price
of $4.3 million, and
this sale to be accretive to 2022 earnings by approximately $0.70 per share.recognized a $3.2 million gain.
The Opelika branch is located in Opelika, Alabama. This branch, built in 1991,
 
is owned by the Bank and has
approximately 4,000 square feet of space. This branch offers the full line of the
 
Bank’s services and has drive-through
windows and an ATM.
 
This branch offers parking for approximately 36 vehicles.
The Bank’s Notasulga branch was opened
 
in August 2001. This branch is located in Notasulga, Alabama, about 15
 
miles
west of Auburn, Alabama. This branch is owned by the Bank and has approximately 1,344
 
square feet of space. The Bank
leased the land for this branch from a third party.
 
In May 2021,
2022, the Bank’s land lease renewed
for another one
year term.
This branch offers the full line of the Bank’s
 
services including safe deposit boxes and a drive-through window.
Thiswindow and parking
branch offers parking for approximately 11
vehicles, including a handicapped
ramp.
In November 2002, the Bank opened a loan production office
 
in Phenix City, Alabama, about 35
 
miles south of Auburn,
Alabama. In November 2020,
2022, the Bank renewed its lease for another year.
In February 2009, the Bank opened a branch located on Bent Creek Road in Auburn,
 
Alabama. This branch is owned by the
Bank and has approximately 4,000 square feet of space. This branch offers
 
the full line of the Bank’s services and
 
has
drive-through windows and a drive-up ATM.
 
This branch offers parking for approximately 29 vehicles.
In December 2011, the Bank opened a branch located
 
on Fob James Drive in Valley,
 
Alabama, about 30 miles northeast of
Auburn, Alabama.
 
This branch is owned by the Bank and has approximately 5,000 square feet of space.
 
This branch offers
the full line of the Bank’s services and has drive-through
 
windows and a drive-up ATM.
 
This branch offers parking for
approximately 35 vehicles.
 
Prior to December 2011, the Bank leased officehad operated
 
space for a loan production office in Valley,
Alabama.
 
The loan production officewhich was
originally opened in September 2004.
In February 2015, the Bank relocated its Auburn Kroger branch to a new location within the
 
Corner Village Shopping
Center, in Auburn, Alabama. In February 2015,
 
the Bank entered into a new lease agreement for five years with options for
two 5-year extensions. In February 2020, the Bank exercised its option to renew the lease
 
for another five years. The Bank
leases approximately 1,500 square feet of space for the Corner Village
 
branch. Prior to relocation, the Bank’s
 
Auburn
Kroger branch was located in the Kroger supermarket in the same shopping center.
 
The Auburn Kroger branch was
originally opened incenter since August 1988. The current Corner
Village
branch offers the
full line of the Bank’s
deposit and other services including
including an ATM,
 
except safe deposit boxes.
In September 2015, the Bank relocated its Auburn Wal
 
-Mart Supercenter branch in south Auburn, which had been opened
in 2004 to a new locationbuilding, which the Bank purchasedbuilt in
December 2014 2015 at the intersection of S. Donahue Avenue
 
Avenue and E. University
Drive
in Auburn, Alabama.
 
The South
Donahue branch built in 2015, has approximately 3,600 square feet of space.
 
Prior to relocation, the Bank’s Auburn
Wal-
Mart Supercenter branch was located inside the Wal
-Mart shopping center on the south side of Auburn, Alabama.
The
Auburn Wal-Mart Supercenter
branch was originally opened in September 2000. The South Donahue
branch offers
the full
line of the Bank’s
services and has drive-through
windows and an ATM.
 
This branch offers parking
for approximately 28
vehicles.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4247
In May 2017, the Bank relocated its Opelika Kroger branch to a new location the Bank purchased
 
in August 2016 near the
Tiger Town
 
Retail Shopping Center and the intersection of U.S. Highway 280 and Frederick
 
Road in Opelika, Alabama.
 
The Tiger Town
 
branch, built in 2017, has approximately 5,500 square feet of space.
 
Prior to relocation, the Bank’s
Opelika Kroger branch was located inside the Kroger supermarket in the Tiger
 
Town retail center in Opelika,
 
Alabama. The
Opelika Kroger branch was
 
originally opened in July 2007. The Tiger Town
 
Town branch offers
the full line of the Bank’s
services and has drive-through windows and an ATM.
 
This branch offers parking for approximately 36 vehicles.
In addition to the eight ATMs
at various branch locations, mentioned above, the Bank also has five
ATMs
located at
various locations within our primary service area.
In September 2018, the Bank opened a loan production office on East Samford
 
Avenue in Auburn,
 
Alabama.
 
The location
has approximately 2,500 square feet of space and is leased through 2028.
 
TheThis loan production office was previouslyrelocated to the
locatednewly developed AuburnBank Center in the Center on the Bank’sJune 2022.
 
main campus. This location offers parkingThe Company has entered into a sublease agreement with a tenant for approximately
16 vehicles.three years with an option to renew for three additional years.
ITEM 3.
 
LEGAL PROCEEDINGS
In the normal course of its business, the Company and the Bank from time to time are involved
 
in legal proceedings. The
Company’s management believe
 
there are no pending or threatened legal proceedings that, upon resolution, are expected
 
to
have a material adverse effect upon the Company’s
 
or the Bank’s financial condition
 
or results of operations.
ITEM 4.
 
MINE SAFETY DISCLOSURES
Not applicable.
PART
 
II
ITEM 5.
 
MARKET FOR REGISTRANT’S COMMON EQUITY,
 
RELATED STOCKHOLDER
 
MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
The Company’s Common Stock is listed
 
on the Nasdaq Global Market, under the symbol “AUBN”. As of March 7, 2022,16,
2023,
there were approximately 3,516,9713,500,879 shares of the Company’s
 
Common Stock issued and outstanding, which were held by
approximately 369359 shareholders of record. The following table sets forth, for the indicated
 
periods, the high and low closing
sale prices for the Company’s Common Stock
 
as reported on the Nasdaq Global Market, and the cash dividends declared
to
shareholders during the indicated periods.
 
Closing
 
Cash
 
Price
 
Dividends
Per Share (1)
Declared
 
High
Low
2022
First Quarter
$
34.49
$
31.75
$
0.265
Second Quarter
33.57
27.04
0.265
Third Quarter
29.02
23.02
0.265
Fourth Quarter
24.71
22.07
0.265
2021
First Quarter
$
 
48.00
 
$
 
37.55
 
$
 
0.26
 
Second Quarter
 
38.90
 
 
34.50
 
 
0.26
 
Third Quarter
 
35.36
 
 
33.25
 
 
0.26
 
Fourth Quarter
 
34.79
 
 
31.32
 
 
0.26
 
2020
First Quarter
$
59.99
$
24.11
$
0.255
Second Quarter
63.40
36.81
0.255
Third Quarter
56.80
26.26
0.255
Fourth Quarter
43.00
36.75
0.255
(1)
 
The price information represents actual transactions.
48
The Company has paid cash dividends on its capital stock since 1985. Prior to this time, the
 
Bank paid cash dividends since
its organization in 1907, except during the Depression years of 1932
 
and 1933. Holders of Common Stock are entitled to
receive such dividends when, as and if may be declared by the Company’s
 
Board of Directors. The amount and frequency
of cash
dividends will be determined in the judgment of the Board based
upon a number of
factors, including the Company’s
Company’s earnings, financial
condition, liquidity, capital and
regulatory requirements and other relevant factors and the
availability of dividend payable by the Bank consistent with amounts available
therefore, including the Bank’s earnings,
financial condition, liquidity, regulatory
and capital requirements and other relevant factors.
The Board currently intends to
continue its
present dividend policies.
43
Federal Reserve policy could restrict future dividends on our Common Stock, depending
 
on our earnings and capital
position and likely needs. See “Supervision and Regulation – Payment of Dividends”
 
and “Management’s Discussion
 
and
Analysis of Financial Condition and Results of Operations – Capital Adequacy”.
The amount of dividends payable by the Bank is limited by law and regulation.
 
The need to maintain adequate capital inand
liquidity in the Bank also limits dividends that may be paid to the Company.
 
 
 
 
 
 
 
 
aubn-20201231p44i0.jpgaubn-20201231p49i0
4449
Performance Graph
The following performance graph compares the cumulative, total return on the
 
Company’s Common Stock
 
from
December 31, 20162017 to December 31, 2021,2022, with that of the Nasdaq Composite Index and
 
SNLS&P U.S. BMI Banks – Southeast Bank
Region Index
(assuming (assuming a $100 investment on December 31, 2016)2017). Cumulative total return represents
 
represents the change in stock
price and the
amount of dividends received over the indicated period, assuming the
reinvestment of
dividends.
Period Ending
Index
12/31/2016
12/31/2017
12/31/2018
12/31/2019
12/31/30/2020
12/31/2021
12/31/2022
Auburn National Bancorporation, Inc.
100.00
127.5683.35
106.32143.34
182.85115.20
146.9691.76
117.0667.91
NASDAQ Composite Index
100.00
129.6497.16
125.96132.81
172.18192.47
249.51235.15
304.85158.65
S&P U.S. BMI Banks - Southeast Region Index
100.00
123.7082.62
102.20116.45
144.05104.41
129.15149.13
184.47121.30
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4550
Issuer Purchases of Equity Securities
Period
Total Number of
Shares Purchased
Average Price Paid
per Share
Total Number of
Shares Purchased as
Part of Publicly
Announced Plans or
Programs
The Approximate
Dollar Value
 
of Shares
that May Yet
 
Be Under
the Plans or
Programs(1) Programs
October 1 – October 31, 2021
1,684
33.85
1,684
3,623,268
November 1 – November 30, 2021
7,169
33.85
7,169
3,380,597
December 1 – December 31, 20212022
––
––
––
3,380,5974,659,289
November 1 – November 30, 2022
1,903
23.28
1,903
4,614,989
December 1 – December 31, 2022
––
––
––
4,614,989
Total
 
8,8531,903
 
 
33.8523.28
 
 
8,8531,903
 
3,380,5974,614,989
(1) On March 9, 2021April 12, 2022, the Company adoptedBoard of Directors of Auburn National Bancorporation, Inc. (the "Company") announced that its Board of
Directors had approved a $5 millionnew stock repurchase program to replace the repurchase program that became effectiveexpired on March 31, 2022. The new
program authorized the repurchase, from time to time, of up to $5 million of the Company’s issued and outstanding common stock
through the earliest of (i) the expenditure of $5 million on Share repurchases, (ii) the termination or replacement of the Repurchase Plan
and (iii) April 1, 2021.15, 2024. The stock repurchases may be open-market or private purchases, negotiated transactions, block purchases, and
otherwise.
Securities Authorized for Issuance Under Equity Compensation Plans
See the information included under Part III, Item 12, which is incorporated
 
in response to this item by reference.
Unregistered Sale of Equity Securities
Not applicable.
ITEM 6.
 
SELECTED FINANCIAL DATA
See Table 2 “Selected Financial
 
Data” and general discussion in Item 7, “Management’s
 
Discussion and Analysis of
Financial Condition and Results of Operations”.
ITEM 7.
 
MANAGEMENT'S DISCUSSION AND ANALYSIS
 
OF FINANCIAL CONDITION AND RESULTS
 
OF
OPERATIONS
The following is a discussion of our financial condition at December 31,
 
20212022 and 20202021 and our results of operations for
the years ended December 31, 20212022 and 2020.2021. The purpose of this discussion is to provide
 
information about our financial
condition and results of operations which is not otherwise apparent from the consolidated
 
consolidated financial statements. The
following discussion and analysis should be read along with our consolidated
 
financial statements and the related notes
included elsewhere herein. In addition, this discussion and analysis contains forward-looking
 
forward-looking statements, so you should
refer to Item 1A, “Risk Factors” and “Special Cautionary Notice Regarding Forward-Looking Statements”.
 
OVERVIEW
The Company was incorporated in 1990 under the laws of the State of Delaware and became a bank
 
holding company after
it acquired its Alabama predecessor,
 
which was a bank holding company established in 1984. The Bank, the Company's
principal subsidiary, is an Alabama
 
state-chartered bank that is a member of the Federal Reserve System and has operated
continuously since 1907. Both the Company and the Bank are headquartered
 
in Auburn, Alabama. The Bank conducts its
business primarily in East Alabama, including Lee County and surrounding areas.
 
The Bank operates full-service branches
in Auburn, Opelika, Notasulga and Valley,
 
Alabama.
��
The Bank also operates a loan production officesoffice in Auburn andPhenix
City,
Phenix City, Alabama.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4651
Summary of Results of Operations
Year ended December 31
(Dollars in thousands, except per share data)
20212022
20202021
Net interest income (a)
$
24,46027,622
$
24,83024,460
Less: tax-equivalent adjustment
470456
492470
Net interest income (GAAP)
23,99027,166
24,33823,990
Noninterest income
4,2886,506
5,3754,288
Total revenue
28,27833,672
29,71328,278
Provision for loan losses
(600)1,000
1,100(600)
Noninterest expense
19,43319,823
19,55419,433
Income tax expense
 
1,4062,503
1,6051,406
Net earnings
$
8,03910,346
$
7,4548,039
Basic and diluted net earnings per share
$
2.272.95
$
2.092.27
(a) Tax-equivalent.
 
See "Table 1 - Explanation of Non-GAAP Financial Measures".
Financial Summary
The Company’s net earnings were $8.0$10.3
 
million for the full year 2021,2022, compared to $7.5$8.0 million for the full year 2020.2021.
 
Basic and diluted net earnings per share were $2.27$2.95 per share for the full year 2021,2022,
 
compared to $2.09$2.27 per share for the full
year 2020.2021.
 
Net interest income (tax-equivalent) was $24.5
$27.6 million in 2021,2022, a 1% decrease
13% increase compared to $24.8$24.5 million in 2020.2021. This
decreaseincrease was primarily due to improvements in the Company’s
net interest margin.
The Company’s net interest margin compression
,
partially offset by balance sheet growth.
Net interest
margin (tax-equivalent) decreasedwas 2.81% in 2022, compared to 2.55% in 2021,2021.
 
compared to 2.92% in 2020,This increase was primarily due to the lower interest rate
environment and changes in our asset
mix resulting from the significant increaseand higher market interest rates on interest earning assets,
 
in deposits from government stimulus and
relief programs and customers’ increased savings.while our cost of funds decreased 4 basis points to 0.35%.
 
At December 31, 2021,2022, the Company’s allowance
 
for loan losses was $4.9$5.8 million, or 1.14% of total loans, compared to
$4.9 million, or 1.08% of total loans, compared to
$5.6 million, or 1.22%
of total loans, at December 31, 2020.2021.
 
ExcludingAt December 31, 2022, the Company’s recorded
 
Paycheck Protection Program (“PPP”)investment
in loans which
are guaranteed by the SBA,considered impaired was $2.6 million with a corresponding valuation allowance
 
(included in the Company’s allowance for loan losses
losses) of $0.5 million, compared to a recorded investment in loans considered impaired
 
was 1.10% and 1.27% of total loans$0.2 million with no
corresponding valuation allowance at December 31,
2021 and 2020, respectively
. 2021.
 
The Company recorded a charge to provision for loan losses of
$1.0 million in 2022 compared to a negative provision for loan losses of $0.6
 
million in 2021 compared
to a charge of $1.1 million during 2020.
The negative provision for loan losses was primarily related to improvements in
economic conditions in our primary market area, and related improvements in our
asset quality.2021.
 
The provision for loan
losses in 2022 was primarily related to loan growth and the downgrade of one borrowing
relationship.
The provision for
loan losses is based upon various estimates and judgements, including the absolute level
 
of loans, loan growth, credit
quality and
the amount of net charge-offs.
 
Net charge-offs as a percent of average loans were 0.04%
in 2022 compared to
0.02% in 2021
,
compared to net
recoveries as a percent of average loans of 0.03% in 2020.2021.
 
Noninterest income was $4.3$6.5 million in 20212022 compared to $5.4$4.3
 
million in 2020.2021.
 
The increase was primarily related to a
$3.2 million gain on the sale of land adjacent to the Company’s
headquarters.
Excluding the impact of this gain,
noninterest income was $3.3 million in 2022, a 24% decrease compared to 2021.
This decrease in noninterest income was
primarily due to a $0.8
million decrease in mortgage lending income in 2021
of $0.9 million as refinance activity declined
slowed in our primary market
area and a $0.3
million non-taxable death benefit from bank-owned life insurance received
in 2020.related to higher market interest rates.
 
Noninterest expense was $19.8
million in 2022 compared to $19.4
 
million in 20212021. Noninterest expense included a $1.6
million employee retention credit recognized in 2022.
Excluding the impact of this payroll tax credit, noninterest expense
was $21.4 million in 2022, a 10% increase compared to $19.62021.
 
millionThe increase in 2020. The decreasenoninterest expense was primarily due to a
reductionincreases in net occupancy and equipment expense of $0.8
$1.0 million in various expenses related to the redevelopment of the Company’s
 
new headquarters, which
opened in downtown
Auburn.June 2022,
 
This decrease was mostly offset by increasesan increase in salaries and benefits expe
nseexpense of $0.4$0.6 million, and a $0.2 millionincreases in other noninterest expense
increase in FDIC and other regulatory assessments during 2021.of $0.4
million.
52
Income tax expense was $1.4
$2.5 million in 2021 and $1.62022,
compared to $1.4 million in 2020 reflecting an2021.
The Company’s effective tax rate of 14.89
 
%
andrate for
17.72%2022 was 19.48%, respectively.compared to 14.89% in 2021.
 
This decreaseincrease in tax expense was primarily due to anincreased pre-tax
earnings in 2022 and additional income tax benefitexpense of $0.2 million related to a New Markets Taxthe Company’s
 
Creditdecision to surrender certain
investment fundedbank-owned life insurance contracts in the fourth quarter of 2021.2022.
 
The Company’s effective income
 
tax rate is principally impacted by tax-
exempt earnings from the Company’s investments
 
in municipal securities, bank-owned life insurance, and New Markets
Tax Credits.
 
47
The Company paid cash dividends of $1.04
$1.06 per share in 2021,2022, an increase of 2% from 2020. 2021.
At December 31, 2021,2022, the
Bank’s regulatory capital ratios
 
were well above the minimum amounts required to be “well capitalized” under current
regulatory standards with a total risk-based capital ratio of 17.06%,16.25
 
%, a tier 1 leverage ratio of 9.35%10.01% and common equity tier
tier 1 (“CET1”) of 16.23% 15.39%
at December 31, 2021.2022.
 
COVID-19 Impact Assessment
The COVID-19 pandemic has occurred in waves of different
 
variants since the first quarter of 2020.
Vaccines
 
to protect
against and/or reduce the severity of COVID-19 were widely introduced at the beginning
 
of 2021.
At times, the pandemic
has severely restricted the level of economic activity in our markets. In response to the COVID
 
-19COVID-19 pandemic, the State of
Alabama, and most other states, have taken preventative or protective actions to prevent the
 
spread of the virus, including
imposing restrictions on travel and business operations and a statewide mask mandate,
 
advising or requiring individuals to
limit or forego their time outside of their homes, limitations on gathering of people and social distancing,
 
and causing
temporary closures of businesses that have been deemed to be non-essential. Though certain
 
certain of these measures have been
relaxed or eliminated, especially as vaccination levels increased, such
 
measures could be reestablished in cases of new
waves, especially a wave of a COVID-19 variant that is more resistant
 
to existing vaccines.vaccines,
booster vaccines and newly
developed treatments.
 
COVID-19 has significantly affected local state, national and global
 
health and economic activity and its future effects are
uncertain and will depend on various factors, including, among others, the duration
 
and scope of the pandemic, especially
new variants of the virus, effective vaccines and drug treatments, together
 
with governmental, regulatory and private sector
responses. COVID-19 has had continuing significant effects
 
on the economy, financial
 
markets and our employees,
customers and vendors. Our business, financial condition and results of operations
��
generally rely upon the ability of our
borrowers to make deposits and repay their loans, the value of collateral underlying our
 
secured loans, market value,
stability and liquidity and demand for loans and other products and services we offer,
 
all of which are affected by the
pandemic.
 
We believe that the
direct economic effects of COVID-19 are diminishing, but that indirect effects
from the
pandemic and government economic and monetary stimuli to counter the pandemic,
continue.
These indirect effects
include a tight labor market, supply chain disruptions, consumer demand and the economic
effects of these stimulative
government fiscal and monetary policies in response to COVID-19 beginning in early
2020, which have led to inflation and
to the Federal Reserve tightening its monetary policies to fight inflation beginning March
2022.
We have implemented
 
a number of procedures in response to the pandemic to support the safety and well-being
of our
employees, customers and shareholders.
•●
We believe our business continuity
 
plan has worked to provide essential banking services to our communities and
customers, while protecting our employees’ health.
As part of our efforts
to exercise social distancing in
accordance with the guidelines of the Centers for Disease Control and the Governor
 
of the State of Alabama,
starting March 23, 2020, we limited branch lobby service to appointment only
while continuing
to operate our
branch drive-thru facilities and ATMs.
 
As permitted by state public health guidelines, on June 1, 2020, we re-
opened some of our branch lobbies.
In 2021, we opened our remaining branch lobbies. We
 
We continue to provide
services through our online and other electronic channels. In addition,
 
In addition, we maintain remote work access to help
employees stay at home while providing continuity of service.
•service during outbreaks of
 
We are focused on servicingCOVID-19 variants.
 
Bank
employees, generally, are
working full time in the office although we have provided scheduling
flexibility to our
employees.
●
We serviced the financial
needs of our commercial and consumer clients with extensions and deferrals
 
and
deferrals to loan
customers effected by COVID-19, provided such customers
 
such customers were not more than 30 days past due
at the time of the
request; and
•
We
were an active PPP lender. PPP loans were forgivable,
in whole or in part, if the proceeds are used for payroll
and other permitted purposes in accordance with the requirements of the PPP.
These loans carry a fixed rate of
1.00% and a term of two years (loans made before June 5, 2020) or five years (loans
made on or after June 5,
2020), if not forgiven, in whole or in part.
Payments are deferred until either the date on which the Small Business
Administration (“SBA”) remits the amount of forgiveness proceeds
to the lender or the date that is 10 months after
the last day of the covered period if the borrower does not apply for forgiveness
within that 10-month period.
We
believe these loans and our participation in the program helped our customers and the communities
we serve.
COVID-19 has also had various economic effects, generally.
These include supply chain disruptions and manufacturing
delays, shortages of certain goods and services, reduced consumer expenditure on
hospitality and travel, and migration from
larger urban centers to less populated areas and remote work.
The demand for single family housing has exceeded existing
supplies.
When coupled with construction delays attributable to supply chain disruptions
and worker shortages, these
factors have caused housing prices and apartment rents to increase, generally.
Stimulative monetary and fiscal policy,
along with shortages of certain goods and services, and rising petroleum and food prices
have led to the highest inflation in
decades.
Although fiscal stimulus remains under consideration by the President and Congress,
the Federal Reserve is
considering increasing its target interest rates and reducing its holding of
securities to stem inflation.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4853
●
We
were an active PPP lender and made an aggregate of 677 PPP loans totaling approximately $56.7
million.
PPP
loans were forgivable, in whole or in part, if the proceeds are used for payroll
and other permitted purposes in
accordance with the requirements of the PPP.
These loans carry a fixed rate of 1.00% and a term of two years
(loans made before June 5, 2020) or five years (loans made on or after June 5, 2020),
if not forgiven, in whole or
in part. Payments are deferred until either the date on which the Small Business Administration
(“SBA”) remits
the amount of forgiveness proceeds to the lender or the date that is 10
months after the last day of the covered
period if the borrower does not apply for forgiveness within that 10-month
period. We
believe these loans and our
participation in the program helped our customers and the communities
we serve.
As of December 31, 2022, we
had only one outstanding PPP loan since all but one such loan had been forgiven by the
SBA.
COVID-19 has also had various economic effects, generally.
These include supply chain disruptions and manufacturing
delays, shortages of certain goods and services, reduced consumer expenditure on
hospitality and travel, and migration from
larger urban centers to less populated areas and remote work. The
demand for single family housing has exceeded existing
supplies. When coupled with construction delays attributable to supply chain disruptions
and worker shortages, these
factors have caused housing prices and apartment rents to increase, generally.
Stimulative monetary and fiscal policies,
along with shortages of certain goods and services, and rising petroleum and food
prices, reflecting, among other things, the
war in the Ukraine, have led to the highest inflation in decades.
The Federal Reserve has begun rapidly increasing its target
federal funds rate from 0 – 0.25% at the beginning of March 2022 to 4.25 – 4.50%
at December 31, 2022, and 4.50 – 4.75%
at January 31, 2023.
The Federal Reserve also has been reducing its holdings of securities in its SOMA account
to reduce
market liquidity and counteract inflation.
A summary of PPP loans extended during 2020 follows:
 
(Dollars in thousands)
# of SBA
Approved
Mix
$ of SBA
Approved
Mix
SBA Tier:
$2 million to $10 million
—
—
%
$
—
—
%
$350,000 to less than $2 million
23
5
14,691
40
Up to $350,000
400
95
21,784
60
Total
423
100
%
$
36,475
100
%
We collected
 
approximately $1.5 million in fees from the SBA related to our PPP loans during 2020. Through
 
Through December
31, 2021, we
have had recognized all of these fees, net of related costs.
As of December 31,
2021, we had received payments and
forgiveness on all PPP loans extended duringin 2020.
 
On December 27, 2020, the Economic Aid to Hard-Hit Small Businesses, Nonprofits,
 
and Venues
 
Act (the “Economic Aid
Act”) was signed into law. The
 
Economic Aid Act providesprovided a second $900 billion stimulus package, including
 
$325 billion
in additional PPP loans.
The Economic Aid Act also permits the collection of
a higher amount of PPP
loan fees by
participating banks.
 
A summary of PPP loans extended during 2021 under the Economic Aid Act
 
Act follows:
(Dollars in thousands)
# of SBA
Approved
Mix
$ of SBA
Approved
Mix
SBA Tier:
$2 million to $10 million
—
—
%
$
—
—
%
$350,000 to less than $2 million
12
5
6,494
32
Up to $350,000
242
95
13,757
68
Total
254
100
%
$
20,251
100
%
We collected
 
approximately $1.0 million in fees from the SBA related to PPP loans under the Economic
Aid Act. Through
Through December 31,
2021, 2022, we have recognized $0.7 millionall of these fees, net of related costs.
 
As of December 31, 2021,2022, we have received
payments and forgiveness on 116all but one PPP loan, in the amount of $0.1
 
PPP loansmillion, under the Economic Aid Act, totaling $12.1 million.Act.
 
The outstanding balance
for
54
We believe that the remaining 138 PPP loans under the Economic Aid ActCOVID-19
 
pandemic stimuli and decreased economic activity increased customer liquidity and
tier
deposits at the Bank and decreased loan demand, while monetary stimulus reduced
interest rates and our costs of funds and
our interest earnings on loans.
As a result, our net interest margin was approximately $8.1 millionadversely affected.
A return to higher interest rates
appears underway, beginning in
March 2022, and has accelerated in recent months as a result of Federal Reserve efforts
to
curb inflation.
This has resulted in improved net interest margin, but at December 31, 2021.the same time
has reduced the market values of our
securities portfolio and resulted in unrealized securities losses.
As a result, we have had losses in our other comprehensive
income and our equity under generally accepted accounting principles has declined.
This has not adversely affected our
regulatory capital, however.
 
We continue to closely
 
monitor this pandemic, the pandemic’s effects,
and are working to continue our services during the pandemic
and to address
developments as those occur.
Our results of operations
for the year ended December 31, 2021,2022, and our financial condition
at
at that date, which reflect only the ongoingcontinuing direct and indirect effects of the pandemic, and
 
pandemic, may not be indicative of future
results or financial
conditions, including possible changes in monetary or fiscal stimulus, and
 
and the possible effects of the
expiration or extension
of temporary accounting and bank regulatory relief measures in
response to the COVID-19
COVID-19 pandemic.
 
As of December 31, 2021,2022,
 
all of our capital ratios were in excess of all regulatory requirements to be well capitalized.
 
The
effects ofInflation and the shift from stimulative monetary policy in response to the COVID-19
pandemic on our borrowersto tightening monetary
policy beginning in March 2022 to fight inflation could result in adverse changes to
 
to credit quality and our regulatory capital
capital ratios.ratios, and inflation will affect our costs, interest rates and the values of our assets and
liabilities, changes in customer
savings and payment behaviors and economic activity.
Continuing supply chain disruptions and tight labor markets also
adversely affect the levels and costs of economic activities.
 
We continue to closely
 
closely monitor this these continuing effects of the
pandemic, and are working to continueanticipate and
address developments.
The CARES Act and the 2020 Consolidated Appropriations Act provide eligible
employers an employee retention credit
related to COVID-19.
After consultation with our services duringtax advisors, we filed amended payroll tax returns
with the IRS, and
received an employee retention credit of approximately $1.6 million.
The direct health issues related to COVID-19 appear to be waning as a result of vaccinations,
new medications and
increased resistance to the virus as a result of prior infections, although new strains continue
to appear.
The economic
effects of the pandemic and government fiscal and monetary policy responses,
supply chain disruptions and inflation
and to address developments as those occur.continue, however.
CRITICAL ACCOUNTING POLICIES
The accounting and financial reporting policies of the Company conform
with U.S. generally accepted
accounting
principles and with general practices within the banking industry.
 
In connection with the application of those principles, we
have made judgments and estimates which, in the case of the determination of our allowance
 
for loan losses, our
assessment of other-than-temporary impairment, recurring and
 
non-recurring fair value measurements, the valuation of
other real estate owned, and the valuation of deferred tax assets, were critical to the determination
 
of our financial position
and results of operations. Other policies also require subjective judgment and assumptions
 
and may accordingly impact our
financial position and results of operations.
 
49
Allowance for Loan Losses
The Company assesses the adequacy of its allowance for loan losses prior
 
to the end of each calendar quarter. The
level of
the allowance is based upon management’s
 
evaluation of the loan portfolio, past loan loss experience, current asset quality
trends, known and inherent risks in the portfolio, adverse situations that may affect
 
a borrower’s ability to repay (including
the timing of future payment), the estimated value of any underlying collateral,
 
composition of the loan portfolio, economic
conditions, changes in, and expectations regarding, market interest rates and inflation,
industry and peer bank loan loss rates
and other pertinent factors, including regulatory
recommendations.factors. This
evaluation is inherently subjective as it requires
material estimates including the amounts
amounts and timing of future cash flows
expected to be received on impaired loans that may be susceptible
to significant change.
Loans are
charged off, in whole or
in part, when management
believes that the full collectability of the loan is unlikely.
 
A
loan may be partially charged-off
after a “confirming event”
has occurred which serves to validate that full repayment
pursuant
to the terms of the loan is unlikely.
In addition, our regulators, as an integral part of their examination process,
unlikely.will periodically review the Company’s loans and
allowance for loan losses, and may require the Company to make
additional provisions to the allowance for loan losses based on their judgment about information available
to them at the
time of their examinations.
55
The Company deems loans impaired when, based on current information and
events, it is
probable that the Company will
be unable to collect all amounts due according to the contractual terms of the loan agreement.
 
Collection of all amounts due
according to the contractual terms means that both the interest and principal payments
of a
loan will be collected as
scheduled in the loan agreement.
An impairment allowance is recognized if the fair value of the loan is less than the recorded
 
investment in the loan. The
impairment is recognized through the allowance. Loans that are impaired are
 
recorded at the present value of expected
future cash flows discounted at the loan’s effective
 
interest rate, or if the loan is collateral dependent, impairment
measurement is based on the fair value of the collateral, less estimated disposal costs.
The level of the allowance for loan losses maintained is believed by
management, based on its processes and estimates, to
be adequate
to absorb probable losses inherent in the
portfolio at the balance sheet date.
The allowance is increased by
provisions charged
to expense and decreased by charge-charge-offs,
offs, net of recoveries of amounts previously charged-off.charged-off and by
releases from the allowance when determined to be appropriate to the levels of loans and probable
loan losses in such loans.
In assessing the adequacy of the allowance, the Company also considers the results of its
 
ongoing internal, independent
loan review process. The Company’s loan
 
review process assists in determining whether there are loans in the portfolio
whose credit quality has weakened over time and evaluating the risk characteristics of the
 
entire loan portfolio. The
Company’s loan review process includes the judgment
 
of management, the input from our independent loan reviewers, and
reviews that may have been conducted by bank regulatory agencies as part of their examination
 
examination process. The Company
incorporates loan review results in the determination of whether or not it is probable
 
that it will be able to collect all
amounts due according to the contractual terms of a loan.
As part of the Company’s quarterly assessment
 
of the allowance, management divides the loan portfolio into five segments:
commercial and industrial, construction and land development, commercial real estate, residential
 
residential real estate, and consumer
installment loans. The Company
analyzes each segment and estimates an allowance allocation
for each loan
segment.
The allocation of the allowance for loan losses begins with a process of estimating the
 
probable losses inherent for these
types of loans. The estimates for these loans are established by category and based
 
on the Company’s internal system of
credit risk ratings and historical loss data. The estimated loan loss allocation rate for the Company’s
 
internal system of
credit risk grades is based on its experience with similarly graded loans. For
 
loan segments where the Company believes it
does not have sufficient historical loss data, the Company may
 
make adjustments based, in part, on loss rates of peer bank
groups. At December 31, 20212022 and 2020,2021, and for the years then ended, the Company adjusted
 
its historical loss rates for the
commercial real estate portfolio segment based, in part, on loss rates of peer bank groups.
The estimated loan loss allocation for all five loan portfolio segments is then adjusted for management’s
 
estimate of
probable losses for several “qualitative and environmental” factors.
 
The allocation for qualitative and environmental
factors is particularly subjective and does not lend itself to exact mathematical calculation.
 
This amount represents
estimated probable inherent credit losses which exist, but have not yet been identified, as of
 
the balance sheet date, and are
based upon quarterly trend assessments in delinquent and nonaccrual loans, credit
 
concentration changes, prevailing
economic conditions, changes in lending personnel experience, changes in lending
 
policies or procedures and other
influencing factors.
 
These qualitative and environmental factors are considered for each of the five loan segments
 
and the
allowance allocation, as determined by the processes noted above, is increased or
 
decreased based on the incremental
assessment of these factors.
50
The Company regularly re-evaluates its practices in determining the allowance
 
for loan losses. Since the fourth quarter of
2016, the Company has increased its look-back period each quarter to incorporate
 
the effects of at least one economic
downturn in its loss history. The Company believes
 
the extension of its look-back period is appropriate due to the risks
inherent in the loan portfolio. Absent this extension, the early cycle periods in which the
 
which the Company experienced significant
losses would be excluded from the determination of the allowance for loan losses and its balance
 
would decrease. For the
year ended December 31, 2021,2022, the Company increased its look-back period to
 
5155 quarters to continue to include losses
incurred by the Company beginning with the first quarter of 2009. The Company
will likely continue to increase its look-
back period to incorporate the effects of at least one economic downturn in
its loss history. During 2020,
the Company
adjusted certain qualitative and economic factors related to changes in economic conditions
driven by the impact of the
COVID-19 pandemic and resulting adverse economic conditions, including
higher unemployment in our primary market
area.
 
During 2021, the Company adjusted certain qualitative
and economic factors to reflect
improvements in economic
conditions in our primary market area.
 
Further adjustments may be made in the futuremarket area that had previously been
observed as a result of the ongoing COVID-19
pandemic.
 
No changes were made to qualitative and economic factors during 2022.
56
Assessment for Other-Than-Temporary
 
Impairment of Securities
On a quarterly basis, management makes an assessment to determine
 
whether there have been events or economic
circumstances to indicate that a security on which there is an unrealized loss is other-than-temporarily
 
impaired.
 
For debt securities with an unrealized loss, an other-than-temporary
 
impairment write-down is triggered when (1) the
Company has the intent to sell a debt security,
 
(2) it is more likely than not that the Company will be required to sell the
debt security before recovery of its amortized cost basis, or (3) the Company does not expect
 
to recover the entire amortized
cost basis of the debt security.
 
If the Company has the intent to sell a debt security or if it is more likely than not that it
 
will
be required to sell the debt security before recovery,
 
the other-than-temporary write-down is equal to the entire difference
between the debt security’s amortized cost
 
and its fair value.
 
If the Company does not intend to sell the security or it is not
more likely than not that it will be required to sell the security before recovery,
 
the other-than-temporary impairment write-
down is separated into the amount that is credit related (credit loss component) and the amount due
to all other
factors.
 
The
credit loss component is recognized in earnings and is the difference between
 
the security’s amortized cost basis and
 
the
present value of its expected future cash flows.
 
The remaining difference between the security’s
 
fair value and the present
value of future expected cash flows is due to factors that are not credit related and is recognized in other comprehensive
income, net of applicable taxes.
The Company is required to own certain stock as a condition of membership, such as
 
Federal Home Loan Bank (“FHLB”)
FHLB and Federal Reserve Bank (“FRB”).FRB.
 
These non-marketablenon-
marketable equity securities are accounted for at cost
which equals par or
redemption value.
 
These securities do not have a
readily determinable fair value as their ownership is restricted and there is no market
 
there is
no market for these securities.
 
The Company
records these non-marketable equity securities as a component of other assets,
 
of other
assets, which are periodically evaluated for
impairment. Management considers
these non-marketable equity securities to
be long-term investments. Accordingly,
 
when
evaluating these securities for impairment, management considers
 
the
ultimate recoverability of the par value rather than by
recognizing temporary declines in
value.
Fair Value
 
Determination
U.S. GAAP requires management to value and disclose certain of the Company’s
 
assets and liabilities at fair value,
including investments classified as available-for-sale and derivatives.
 
ASC 820,
Fair Value
 
Measurements and Disclosures
,
which defines fair value, establishes a framework for measuring fair value
in accordance
with U.S. GAAP and expands
disclosures about fair value measurements.
 
For more information regarding fair value measurements and disclosures,
please refer to Note 14, Fair Value,
 
of the consolidated financial statements that accompany this report.
Fair values are based on active market prices of identical assets or liabilities when available.
 
Comparable assets or
liabilities or a composite of comparable assets in active markets are used
when identical assets
or liabilities do not have
readily available active market pricing.
 
However, some of the Company’s
 
assets or liabilities lack an available or
comparable trading market characterized by frequent transactions between
 
willing buyers and sellers. In these cases, fair
value is estimated using pricing models that use discounted cash flows and
 
other pricing techniques. Pricing models and
their underlying assumptions are based upon management’s
 
best estimates for appropriate discount rates, default rates,
prepayments, market volatility and other factors, taking into account current observable
 
market data and experience.
These assumptions may have a significant effect on the reported
 
fair values of assets and liabilities and the related income
and expense. As such, the use of different models and assumptions, as
 
well as changes in market conditions, could result in
materially different net earnings and retained earnings results.
 
Other Real Estate Owned
Other real estate owned or OREO, consists of properties obtained through foreclosure or
in satisfaction of loans and is
reported at the lower of cost or fair value, less estimated costs to sell at the date acquired
with any loss recognized as a
charge-off through the allowance for loan losses. Additional
OREO losses for subsequent valuation adjustments are
determined on a specific property basis and are included as a component of other noninterest
expense along with holding
costs. Any gains or losses on disposal of OREO are also reflected in noninterest expense.
Significant judgments and
complex estimates are required in estimating the fair value of OREO, and the period
of time within which such estimates
can be considered current is significantly shortened during periods of
market volatility. As a result, the net proceeds
realized from sales transactions could differ significantly from appraisals,
comparable sales, and other estimates used to
determine the fair value of OREO.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
51
Other Real Estate Owned
Other real estate owned (“OREO”), consists of properties obtained through foreclosure or
in satisfaction of loans and is
reported at the lower of cost or fair value, less estimated costs to sell at the date acquired with any loss
recognized as a
charge-off through the allowance for loan losses. Additional
OREO losses for subsequent valuation adjustments are
determined on a specific property basis and are included as a component of other noninterest
expense along with holding
costs. Any gains or losses on disposal of OREO are also reflected in noninterest expense.
Significant judgments and
complex estimates are required in estimating the fair value of OREO, and the period of time
within which such estimates
can be considered current is significantly shortened during periods of
market volatility. As a result, the net proceeds
realized from sales transactions could differ significantly from
appraisals, comparable sales, and other estimates used to
determine the fair value of OREO.57
Deferred Tax
 
Asset Valuation
A valuation allowance is recognized for a deferred tax asset if, based on the weight of available
 
evidence, it is more-likely-
than-not that some portion or the entire deferred tax asset will not be realized. The ultimate
 
ultimate realization of deferred tax assets
is dependent upon the generation of future taxable income during the periods
 
in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred
 
tax liabilities, projected future taxable income and tax
planning strategies in making this assessment. At December 31,
2022 we had total deferred tax assets of $15.6 million
included as “other assets”, including $13.7 million resulting from unrealized losses
in our securities portfolio.
Based upon
the level of taxable income over
the last three years and
projections for future taxable
income over the periods in which the
deferred tax assets are
deductible, management believes
it is more likely than
not that we will realize the benefits of these
deductible differences
at December 31, 2021.2022. The amount
of the deferred
tax assets considered realizable, however, could
could be reduced if estimates of future taxable income are
reduced.
Average Balance
 
Sheet and Interest Rates
Year ended December 31
 
20212022
20202021
Average
Yield/
Average
Yield/
(Dollars in thousands)
Balance
Rate
Balance
Rate
Loans and loans held for sale
 
$
459,712454,604
4.45%
$
465,378459,712
4.74%4.45%
Securities - taxable
364,029
1.81%
320,766
1.28%
234,420
1.68%
Securities - tax-exempt (a)
61,591
3.53%
62,736
3.57%
63,029
3.72%
Total securities
425,620
2.06%
383,502
1.66%
297,449
2.11%
Federal funds sold
43,766
1.00%
38,659
0.15%
30,977
0.41%
Interest bearing bank deposits
58,141
0.99%
77,220
0.13%
56,104
0.41%
Total interest-earning assets
982,131
3.05%
959,093
2.81%
849,908
3.38%
Deposits:
 
 
NOW
197,177
0.19%
178,197
0.12%
154,431
0.34%
Savings and money market
327,139
0.20%
296,708
0.22%
242,485
0.44%
Certificates of deposits
154,273
0.84%
159,111
1.03%
165,120
1.36%
Total interest-bearing deposits
678,589
0.34%
634,016
0.39%
562,036
0.68%
Short-term borrowings
4,516
1.33%
3,349
0.51%
1,864
0.48%
Total interest-bearing liabilities
683,105
0.35%
637,365
0.39%
563,900
0.68%
Net interest income and margin (a)
$
24,46027,622
2.55%2.81%
$
24,83024,460
2.92%2.55%
(a) Tax-equivalent.
 
See "Table 1 - Explanation of Non-GAAP
 
Financial Measures".
RESULTS
 
OF OPERATIONS
Net Interest Income and Margin
Net interest income (tax-equivalent) was $27.6 million in 2022, compared
to $24.5 million in 2021, compared
to $24.8 million in 2020.2021.
 
This decreaseincrease was due
to a declineimprovements in the Company’s net interest
 
margin (tax-equivalent),.
 
partially offsetNet interest margin (tax-equivalent) increased to
2.81% in 2022, compared to 2.55% in 2021 due to increases in the Federal
Reserve’s target federal
funds rates beginning
March 17, 2022, and changes in our asset mix.
During 2022, the Federal Reserve increased the target federal funds range
from 0 – 0.25% to 4.25 – 4.50%.
The
target rate was increased another 25 basis points on January 31, 2023,
and further
increases in the target federal funds rate appear likely if inflation remains elevated.
Net interest income (tax-equivalent)
included $0.3 million in PPP loan fees, net of related costs for 2022,
compared to $1.0 million for 2021.
See “Supervision
and Regulation – Fiscal and Monetary Policies”.
The tax-equivalent yield on total interest-earning assets increased by balance sheet growth.24 basis points
to 3.05% in 2022 compared to 2.81%
in 2021.
This increase was primarily due to changes in our asset mix and higher market interest
rates on interest earning
assets.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
52
The tax-equivalent yield on total interest-earning assets decreased by 57 basis points
in 2021 from 2020 to 2.81%.
This
decrease was primarily due to the lower rate environment and changes in our asset
mix from the significant increase in
deposits from government stimulus and relief programs and customers’ increased savings.58
The cost of total interest-bearing liabilities decreased 29by 4 basis points to 0.39%0.35%
 
in 20212022 compared to 0.680.39% in 2020.2021.
 
The net
net decrease in our funding costs was primarily due to a portion of our time deposits repricing into
lower prevailing market
interest rates.rates during 2022.
 
Our fundingdeposit costs declined less
thanmay increase as the rates earned on our interest earning assets.
Federal Reserve increases its target federal
 
funds rate,
market interest rates increase, and as customer savings behaviors change as a result of inflation
and higher market interest
rates on deposits and other alternative investments.
The Company continues to deploy various asset liability management strategies
 
to manage its risk to interest rate
fluctuations. The Company’s
 
Deposit and loan pricing remains competitive in our markets.
We believe this
challenging competitive
environment will continue in 2023.
Our ability to hold our deposit rates low until our interest-earning assets reprice
will be
important to maintaining or potentially increasing our net interest margin could experience pressure due to reduced earning asset
 
yields andmargin during the monetary tightening cycle that we
increased competition for quality loan opportunities.believe will continue in 2023.
 
Provision for Loan Losses
The provision for loan losses represents a charge to earnings necessary to provide
 
an allowance for loan losses that
management believes, based on its processes and estimates, should be adequate
 
to provide for the probable losses on
outstanding loans. At December 31, 2022, the Company’s
recorded investment in loans considered impaired was $2.6
million with a corresponding valuation allowance (included in the allowance
for loan losses) of $0.5 million, compared to a
recorded investment in loans considered impaired of $0.2 million with no corresponding
valuation allowance at December
31, 2021.
The Company recorded a negativecharge to provision for loan losses of $0.6$1.0
 
million during 2021,2022, compared to a negative
$1.1 million in provision for loan losses of $0.6 million during 2020.2021.
 
The negative provision for loan losses in 2022 was primarily related to loan
improvements in economic conditions in our primary market area.growth and the downgrade of one borrowing relationship.
 
The provision for loan losses is based upon various estimates
factors,and judgments, including the absolute level of loans, loan growth, the credit quality
and the amount of
net charge-offs.
Net
charge-offs oras a percent of average loans were 0.04% in 2022
recoveries.compared to 0.02% in 2021.
 
Based upon its assessment of the loan portfolio, management adjusts the allowance for loan
 
for loan losses to an amount it believes
should be appropriate to adequately cover its estimate of probable losses in the loan portfolio.
 
The Company’s allowance
for loan losses as a percentage of total loans was 1.14% at December 31, 2022, compared
to 1.08% at December 31, 2021, compared
to 1.22% at December 31, 2020.2021.
Excluding PPP loans, which are guaranteed by the SBA, the Company’s
allowance for loan losses was 1.10% and 1.27% of
total loans at December 31, 2021 and 2020, respectively.
While the policies and procedures used to estimate the allowance
for loan losses, as well as the
resulting provision for loan
losses charged to operations,
are considered adequate by
management and are
reviewed from time to time by our regulators,
they are based on estimates
and judgments and are
therefore approximate and imprecise.
Factors beyond our control (such
as conditions
in the local and national economy,
inflation and market interest rates, and local real estate markets or industries)and
businesses) may have a material adverse effect
on our asset
quality and the adequacy of our
allowance for loan losses under
CECL resulting in significant increases in the provision
for loancredit losses.
Noninterest Income
 
Year ended December 31
(Dollars in thousands)
20212022
20202021
Service charges on deposit accounts
$
566598
$
585566
Mortgage lending
1,547650
2,3191,547
Bank-owned life insurance
317
403
724Gain on sale of premises and equipment
3,234
—
Securities gains, net
1512
10315
Other
1,7571,695
1,6441,757
Total noninterest income
$
4,2886,506
$
5,375
The decrease in service charges on deposit accounts was primarily driven by a decline
in consumer spending activity as a
result of the COVID-19 pandemic.4,288
The Company’s noninterest income from
mortgage lending
is primarily attributable to the (1) origination and sale of new mortgage
mortgage loans and (2) servicing of mortgage loans. Origination income, net, is comprised
of gains
or losses from the sale
of the
mortgage loans originated, origination fees, underwriting fees and other fees associated
 
associated with the origination of
mortgage loans, which
are netted against the commission expense associated
with these originations. The Company’s
Company’s normal practice is to
originate mortgage loans for sale in the secondary
market and to either sell or
retain the MSRs when
the loan is sold.
 
MSRs are recognized based on the fair value of the servicing right on the date the corresponding
 
mortgage loan is sold.
 
Subsequent to the date of transfer, the Company
 
has elected to measure its MSRs under the amortization method.
 
Servicing
fee income is reported net of any related amortization expense.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
5359
The Company evaluates MSRs for impairment on a quarterly basis.quarterly.
 
Impairment is determined by grouping MSRs by common
common predominant characteristics, such as interest rate and loan type.
 
If the aggregate carrying amount of a particular
group of
MSRs exceeds the group’s aggregate fair
 
fair value, a valuation allowance for that group is established.
 
The valuation
allowance is adjusted as the fair value changes.
 
An increase in mortgage interest rates typically results in an increase in the
fair value of the MSRs while a decrease in mortgage interest rates typically results in a decrease
 
in the fair value of MSRs.
 
The following table presents a breakdown of the Company’s
 
mortgage lending income for 20212022 and 2020.2021.
Year ended December 31
(Dollars in thousands)
20212022
20202021
Origination income
$
1,417309
$
2,3001,417
Servicing fees, net
130341
19130
Total mortgage lending income
$
1,547650
$
2,3191,547
The Company’s income from mortgage lending
 
typically fluctuates as mortgage interest rates change and is primarily
attributable to the origination and sale of new mortgage loans.
Origination income
decreased in 2021 compared to 2020 dueas market interest rates on
to a decrease in refinance activity in our primary market.mortgage loans increased.
 
The decrease in origination income was partially offset by an
increase in
servicing fees, net of
related amortization expense as prepayment
speeds slowed, during 2021, resulting in decreased
decreased amortization expense.
In October 2022, the Company closed the sale of approximately 0.85 acres of
 
land located next to the Company’s
Income from bank-owned life insurance decreased primarily due to $0.3headquarters in Auburn, Alabama for a purchase price of $4.3 million.
 
The sale resulted in a gain of $3.2 million, in non-taxable death benefits received innet of
2020. The assets that support these policies are administered byprorations, closing costs and costs of demolishing the life insurance carriersBank’s
 
and the income we receive (i.e.,
increases or decreases in the cash surrender value of the policies and death benefits received)former main office building.
 
on these policies is dependent
upon the returns the insurance carriers are able to earn on the underlying investments that
support these policies. Earnings
on these policies are generally not taxable.
Noninterest Expense
Year ended December 31
(Dollars in thousands)
20212022
20202021
Salaries and benefits
$
11,71012,307
$
11,31611,710
Employee retention credit
(1,569)
—
Net occupancy and equipment
1,7432,742
2,5111,743
Professional fees
995975
1,052995
FDIC and other regulatory assessments
426404
256426
Other
4,5594,964
4,4194,559
Total noninterest expense
$
19,43319,823
$
19,55419,433
The increase in salaries and benefits expense was primarily due to a decrease in deferred costs related
 
costs related to the PPP loan program, and
program, routine annual wage and benefit increases, and management increasing theincreases.
 
minimum hourly wage for banking
positions to $15.
The decreaseemployee retention tax credit of $1.6 million in 2022 relates to a one-time payroll tax
credit provided by the CARES
Act and the 2020 Consolidated Appropriations Act.
The increase in net occupancy and equipment expense was primarily due to a reductionincreased
 
of various expenses related to the
redevelopment of the Company’s headquarters
 
in downtown Auburn.
 
This amount includes revised depreciation estimatesexpense and one-
time costs associated with the opening of the Company’s
new headquarters.
The Company relocated its main office branch
and other temporary relocation costs. For more information regarding changes
in accounting estimates, please refer to Note
1, Summary of Significant Accounting Policies, of the consolidated financial statements
that accompany this report.bank operations into its newly constructed headquarters during May 2022.
The increase in FDIC and other regulatory assessmentsnoninterest expense was primarily due to the expirationa variety of miscellaneous items including
 
of FDIC assessment creditsincreased information
during 2020technology and an increased assessment base during 2021.
Income Tax
Expense
Income tax expense was $1.4 million in 2021 and $1.6 million in 2020.
The Company’s effective income
tax rate was
14.89% in 2021, compared to 17.72% in 2020.
This change was primarily due to an income tax benefitsystems expenses, loan related to a New
Markets Tax Credit investment
funded in the fourth quarter of 2021.
The Company’s effective income
tax rate is
principally impacted by tax-exempt earnings from the Company’s
investments in municipal securities, bank-owned life
insurance, andexpenses, losses on New Markets Tax
 
Credits.Credits investments and other
miscellaneous operating expenses.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
5460
Income Tax
Expense
Income tax expense was $2.5 million in 2022, compared to $1.4
million in 2021.
The Company’s effective tax
rate for
2022 was 19.48%, compared to 14.89% in 2021.
This increase in tax expense was primarily due to increased pre-tax
earnings in 2022 and additional income tax expense of $0.2 million related to the Company’s
decision to surrender certain
bank-owned life insurance contracts in 2022.
The Company’s effective income
tax rate is principally
impacted by tax-
exempt earnings from the Company’s investments
in municipal securities, bank-owned life insurance, and New Markets
Tax Credits.
BALANCE SHEET ANALYSIS
Securities
 
Securities available-for-sale were $421.9$405.3
 
million at December 31, 2021,2022, compared to $335.2$421.9 million at December 31, 2020.2021.
 
This increasedecrease reflects an increase in the amortized cost basis of securities available-for-sale
 
of $95.7$39.2 million, andoffset by a decrease
decrease of $9.0$55.8 million in the fair value of securities available-for-sale.
 
The increase in the amortized cost basis of securities
securities available-for-sale was primarily attributable to management
 
management allocating more funding to the investment portfolio following
following the significant increasesincrease in customer deposits.
The decrease in the fair value of securities
was primarily due to an increase
increase in long-term market interest rates. rates, which resulted in $13.7
million of deferred tax assets included in our other
assets.
The average annualized tax-equivalent
yields earned on total securities
were 1.66%2.06%
 
in 20212022 and
2.11%
1.66% in 2020.2021.
The following table shows the carrying value and weighted average
yield of securities available
-for-saleavailable-for-sale as of December
31, 20212022 according to contractual maturity.
 
Actual maturities may differ from contractual maturities of mortgage-backed
securities (“MBS”) because
the mortgages underlying the securities may be called or prepaid
 
or prepaid with or without penalty.
 
December 31, 20212022
1 year
 
1 to 5
5 to 10
 
After 10
Total
 
(Dollars in thousands)
or less
years
years
years
Fair Value
Agency obligations
$
5,0074,935
49,60450,746
69,80269,936
—
124,413125,617
Agency MBS
—
6807,130
35,85527,153
186,836183,877
223,371218,160
State and political subdivisions
170300
647642
15,74315,130
57,54745,455
74,10761,527
Total available-for-sale
$
5,1775,235
50,93158,518
121,400112,219
244,383229,332
421,891405,304
Weighted average yield (1):
Agency obligations
2.00%1.64%
1.36%1.29%
1.31%1.83%
—
1.36%1.61%
Agency MBS
—
3.42%1.35%
1.48%1.56%
1.34%2.14%
1.37%2.05%
State and political subdivisions
4.25%4.00%
2.85%1.83%
2.18%2.29%
2.77%
2.64%2.65%
Total available-for-sale
2.07%1.77%
1.40%1.30%
1.47%1.83%
1.68%2.27%
1.59%2.00%
(1) Yields are calculated based on amortized cost.
Loans
December 31
(In thousands)
20212022
20202021
Commercial and industrial
$
83,97766,179
82,58583,977
Construction and land development
32,43266,479
33,51432,432
Commercial real estate
 
258,371265,181
255,136258,371
Residential real estate
77,66197,735
84,15477,661
Consumer installment
6,6829,546
7,0996,682
Total loans
459,123505,120
462,488459,123
Less:
 
unearned income
(759)(662)
(788)(759)
Loans, net of unearned income
$
458,364504,458
461,700
Total loans, net of unearned income,
were $458.4 million at December 31, 2021, and $461.7 million at December
31, 2020.
Excluding PPP loans, total loans, net of unearned income, were $450.5
million, an increase of $7.5 million, or 2% from
December 31, 2020.
This increase was primarily due to an increase in commercial and industrial loans
,
net of PPP,
of
$12.2 million, partially offset by a decrease in residential real estate loans of
$6.5 million, as lower rates increased refinance
activity and payoffs for consumer mortgage loans.
Four loan categories represented the majority of the loan portfolio at
December 31, 2021: commercial real estate (56%), residential real estate (17%),
commercial and industrial (18%) and
construction and land development (7%).
Approximately 25% of the Company’s commercial
real estate loans were
classified as owner-occupied at December 31, 2021.458,364
 
 
 
 
 
 
 
 
 
5561
Total loans, net of unearned income,
were $504.5 million at December 31, 2022, and $458.4 million at December
31, 2021,
an increase of $46.1 million, or 10%.
Total loans at December
31, 2021 included $8.1 million in PPP loans, all but one of
these PPP loans, totaling $0.1 million, were forgiven during
2022.
Excluding PPP loans, total loans, net of unearned
income, increased $54.0 million, or 12% from December 31, 2021.
Four loan categories represented the majority of the
loan portfolio at December 31, 2022: commercial real estate (53%),
residential real estate (19%), construction and land
development (13%), and commercial and industrial (13%).
Approximately 23% of the Company’s commercial
real estate
loans were classified as owner-occupied at December 31,
2022.
Within the residential real estate portfolio
 
segment, the Company had junior lien mortgages of approximately $7.2 $7.4
million,
or 2%1%, and $8.7$7.2 million, or 2%, of total loans, net of unearned income at December 31,
 
20212022 and 2020,2021, respectively.
 
For
residential real estate mortgage loans with a consumer purpose, the Company
 
had no loans that required interest only
payments at December 31, 20212022 and 2020.2021. The Company’s
 
residential real estate mortgage portfolio does not include any
option ARM loans, subprime loans, or any material amount of other high-risk consumer
 
mortgage products.products which are generally
viewed as high risk.
 
The average yield earned on loans and loans held for sale was 4.45% in 20212022
 
and 4.74% in 2020.2021, respectively.
 
The specific economic and credit risks associated with our loan portfolio include,
 
but are not limited to, the effects of
current economic conditions, including inflation and the COVID-19 pandemic’scontinuing increases in
 
market interest rates, remaining COVID-19
pandemic effects including supply chain disruptions, commercial
office occupancy levels, housing supply shortages and
inflation, on our borrowers’ cash flows, real estate market
sales volumes
and liquidity,
valuations used in making loans and
evaluating collateral, availability and cost of financing properties, real
 
real estate industry concentrations, competitive pressures
pressures from a wide range of other lenders, deterioration in certain credits, interest rate fluctuations,
 
fluctuations, reduced collateral
values or
non-existent collateral, title defects, inaccurate appraisals, financial deterioration
 
of borrowers, fraud, and any
violation of
applicable laws and regulations.
Various
projects financed earlier that were based on lower interest rate assumptions
than
currently in effect may not be as profitable or successful at higher interest rate currently
in effect and currently expected in
the future.
 
The Company attempts to reduce these economic and credit risks through its loan-to-value
 
guidelines for collateralized
loans, investigating the creditworthiness of borrowers and monitoring borrowers’ financial
 
position. Also, we have
established and periodically review,
 
lending policies and procedures. Banking regulations limit a bank’s
 
credit exposure by
prohibiting unsecured loan relationships that exceed 10% of its capital; or 20%
 
20% of capital, if loans in excess of 10% of
capital are fully secured. Under these regulations, we are prohibited from having secured
 
loan relationships in excess of
approximately $21.0$22.6 million. Furthermore, we have an internal limit
 
for aggregate credit exposure (loans outstanding plus
unfunded commitments) to a single borrower of $18.9
$20.3 million. Our loan policy requires
that the Loan Committee of the
Board of Directors approve any loan relationships that exceed this internal limit.
 
At December 31, 2021,2022, the Bank had no
relationships exceeding these limits.
We periodically analyze
 
our commercial loan portfolio to determine if a concentration of credit
 
risk exists in any one or
more industries. We
 
use classification systems broadly accepted by the financial services industry in
 
order to categorize our
commercial borrowers. Loan concentrations to borrowers in the following classes
 
exceeded 25% of the Bank’s total
risk-
based capital at December 31, 20212022 (and related balances at December 31,
 
2020)2021).
 
December 31
(In thousands)
20212022
20202021
Lessors of 1-4 family residential properties
$
47,88052,325
$
49,127
Hotel/motel
43,856
42,90047,880
Multi-family residential properties
41,181
42,587
40,203Hotel/motel
Shopping centers33,457
29,57443,856
30,000
62
In light of disruptions in economic conditions caused by COVID-19, the financial regulatorsinstitution
 
regulators have issued guidance
guidance encouraging banks to work constructively with borrowers affected
 
by the virus in our community.
 
This guidance, including
including the Interagency Statement on COVID-19 Loan Modifications and the Interagency Examiner
 
Examiner Guidance for
Assessing Safety
and Soundness Considering the Effect of the COVID-19
 
Pandemic on Institutions, provides that the
agencies will not
criticize financial institutions that mitigate credit
risk through prudent actions
consistent with safe and
sound practices.
 
Specifically, examiners
 
will not criticize institutions for working with borrowers as part of a risk
mitigation strategy
intended to improve existing loans, even if the restructured
loans have or develop
weaknesses that
ultimately result in
adverse credit classification.
 
Upon demonstrating the need for payment relief, the bank will work
with
qualified borrowers
that were otherwise current before the pandemic to determine
the most appropriate
deferral option.
 
For residential
residential mortgage and consumer loans the borrower may elect to defer payments
for up to three
months.
 
Interest
continues to
accrue and the amount due at maturity increases.
 
Commercial real estate, commercial, and small business
borrowers may
elect to defer payments for up to three months or pay scheduled interest payments
for a
six-month period.
 
The bank
recognizes recognized that a combination of the payment relief options may be prudent dependent
 
on a borrower’s business
type.
 
As
of December 31, 2021,2022, we had no COVID-19 loan deferrals, compared to
one COVID-19 loan deferral totaling $0.1
million, compared to $32.3 million, or 7% of total
loans$0.1 million at December 31, 2020.
56
The tables below provide information concerningdeferrals at the compositionend of these COVID-19
modifications as of December 31,
2021 and 2020.
COVID-19 Modifications
Modification Types
(Dollars in thousands)
# of Loans
Modified
Balance
% of Portfolio
Modified
Interest Only
Payment
P&I
Payments
Deferred
December 31, 2021:
Residential real estate
1
$
59
—
—
100
%
Total
1
$
59
—
%
—
%
100
%
December 31, 2020:
Commercial and industrial
2
$
741
—
%
100
%
—
%
Commercial real estate
12
31,399
7
100
—
Residential real estate
2
133
—
—
100
Total
16
$
32,273
7
%
99
%
1
%
COVID-19 Modifications within Commercial Real Estate
Segment
(Dollars in thousands)
# of Loans
Modified
Balance of
Loans Modified
% of Total
Loan Class
December 31, 2020:
Hotel/motel
10
$
26,427
49
%
Multifamily
1
3,530
9
Restaurants
1
1,442
10
There were no COVID-19 modifications within the commercial real estate segment at December
31, 2021.
Section 4013 of the CARES Act provides that a qualified loan modification is exempt by law
 
from classification as a TDR
pursuant to GAAP.
 
In addition, the Interagency Statement on COVID-19 Loan Modifications provides
 
circumstances in
which a loan modification is not subject to classification as a TDR if such loan is not eligible
 
for modification under
Section 4013.
 
Allowance for Loan Losses
 
The Company maintains the allowance for loan losses at a level that management believes
 
appropriate to adequately cover
the Company’s estimate of probable
 
losses inherent in the loan portfolio. The
allowance for loan losses was $4.9$5.8 million at
December 31, 20212022 compared to $5.6$4.9 million at December 31, 2020,2021,
 
which management believed to be adequate at each of
the respective dates. The judgments and estimates associated
 
with the determination of the allowance for loan losses are
described under “Critical Accounting Policies.”
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
5763
A summary of the changes in the allowance for loan losses and certain asset quality ratios
 
for the years ended December 31,
20212022 and 20202021 are presented below.
 
Year ended December 31
(Dollars in thousands)
20212022
20202021
Allowance for loan losses:
Balance at beginning of period
$
5,6184,939
4,3865,618
Charge-offs:
Commercial and industrial
(222)
—
(7)Construction and land development
—
(254)
Residential real estate
—
(3)
Consumer installment
(70)
(37)
Total charge
-offs
(292)
(294)
Recoveries:
Commercial and industrial
7
140
Commercial real estate
 
(254)23
—
Residential real estate
 
(3)26
—55
Consumer installment
(37)
(38)
Total charge
-offs
(294)
(45)
Recoveries:
Commercial and industrial
140
94
Residential real estate
55
63
Consumer installment
2062
20
Total recoveries
215118
177215
Net (charge-offs) recoveriescharge-offs
(174)
(79)
132
Provision for loan losses
(600)1,000
1,100(600)
Ending balance
$
4,9395,765
5,6184,939
as a % of loans
1.081.14
%
1.221.08
as a % of nonperforming loans
1,112211
%
1,0521,112
Net charge-offs (recoveries)
as a % of average loans
0.020.04
%
(0.03)0.02
As described under “Critical Accounting Policies”, management assesses the adequacy
 
of the allowance prior to the end of
each calendar quarter. The level of the allowance
 
is based upon management’s evaluation
 
of the loan portfolios, past loan
loss experience, known and inherent risks in the portfolio, adverse situations that
 
may affect the borrower’s ability to repay
(including the timing of future payment), the estimated value of any underlying
 
collateral, composition of the loan
portfolio, economic conditions, industry and peer bank loan loss rates, and other pertinent
 
pertinent factors. This evaluation is
inherently subjective as it requires various material estimates and judgments including
 
the amounts and timing of future
cash flows expected to be received on impaired loans that may be susceptible to
 
significant change. The ratio of our
allowance for loan losses to total loans outstanding was 1.08%1.14% at December 31,
 
2021,2022, compared to 1.22%1.08% at December 31,
2020.
Excluding PPP loans, which are guaranteed by the SBA, the Company’s
allowance for loan losses was 1.10% and
1.27% of total loans at December 31, 2021 and 2020, respectively.2021.
 
In the future, the allowance for loan losses used in the allowance to total loans outstanding ratio
will be determined
ratio willin accordance with the CECL standard, and may increase or decrease
to the extent the factors that influence our quarterly
allowance assessment,
 
assessment, including the
duration and magnitudechanges in economic conditions that are part of COVID-19 effects, in their entiretyour CECL model, either improve
 
improve or
weaken.
 
In addition our regulators, as an
integral part of their examination process,
will periodically review the Company’s
loans and allowance for loan losses, and may
require the Company to make additional
provisions to the allowance for loan
losses based
on their judgment about
information available to them at the time of their examinations.
Nonperforming Assets
 
At December 31, 20212022 the Company had $0.8
$2.7 million in nonperforming assets compared
to $0.5$0.8
 
million at December 31,
2020.2021.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
5864
The table below provides information concerning total nonperforming assets
 
and certain asset quality ratios.
 
December 31
(Dollars in thousands)
20212022
20202021
Nonperforming assets:
Nonperforming (nonaccrual) loans
$
4442,731
534444
Other real estate owned
374—
—374
Total nonperforming assets
$
8182,731
534818
as a % of loans and other real estate owned
0.180.54
%
0.120.18
as a % of total assets
0.070.27
%
0.060.07
Nonperforming loans as a % of total loans
0.100.54
%
0.120.10
Accruing loans 90 days or more past due
$
—
141—
The table below provides information concerning the composition of nonaccrual
 
loans at December 31, 20212022 and 2020,2021,
respectively.
 
December 31
(In thousands)
20212022
20202021
Nonaccrual loans:
Commercial and industrial
$
443
—
Commercial real estate
$2,116
187
212
Residential real estate
257172
322257
Total nonaccrual loans /
 
nonperforming loans
$
4442,731
534444
The Company discontinues the accrual of interest income when (1) there is a significant
 
deterioration in the financial
condition of the borrower and full repayment of principal and interest is not expected or
 
(2) the principal or interest is more
than 90 days past due, unless the loan is both well-secured and in the process of collection.
 
At December 31, 20212022 and
2020,2021, respectively, the Company
 
had $0.4
$2.7 million and $0.5$0.4
 
million in loans on nonaccrual.nonaccrual loans.
At December 31, 2021 thereThere were no loans 90 days past due and still accruing interest compared
to $0.1 million at
December 31, 2020.2022
and 2021, respectively.
 
The table below provides information concerning the composition of OREO at December
 
31, 20212022 and 2020,2021, respectively.
December 31
(In thousands)
20212022
20202021
Other real estate owned:
Commercial real estate
$
374
—
 
374
Total other real estate owned
$
374
—
 
374
Potential Problem Loans
Potential problem loans represent those loans with a well-defined weakness and
 
where information about possible credit
problems of borrowers has caused management to have serious doubts about the
 
borrower’s ability to comply with present
repayment terms.
 
This definition is believed to be substantially consistent with the standards
 
established by the Federal
Reserve, the Company’s primary regulator,
 
for loans classified as substandard, excluding nonaccrual loans.
 
Potential
problem loans, which are not included in nonperforming assets, amounted to $2.4$1.3
 
million, or 0.3% of total loans at
December 31, 2022, compared to $2.4 million, or 0.5% of total loans at
December 31, 2021, compared to $2.9 million, or 1.0% of total loans at December 31, 2020.2021.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
5965
The table below provides information concerning the composition of potential problem
 
problem loans at December 31, 20212022 and
2020,2021, respectively.
 
December 31
(In thousands)
20212022
20202021
Potential problem loans:
Commercial and industrial
$
226212
218226
Construction and land development
218—
254218
Commercial real estate
156161
188156
Residential real estate
1,748835
2,2291,748
Consumer installment
1247
2312
Total potential problem loans
$
2,3601,255
2,9122,360
At December 31, 2021, approximately $0.3
million or 14.2% of total2022, there were no potential problem loans were past due at least 30
but
less than 90 days.
 
The following table is a summary of the Company’s
 
performing loans that were past due at least 30 days but less than
90 days as of December 31, 20212022 and 2020,2021, respectively.
 
December 31
(In thousands)
20212022
20202021
Performing loans past due 30 to 89 days:
Commercial and industrial
$
35
2303
Construction and land development
204—
61204
Commercial real estate
—
 
29—
Residential real estate
51638
1,509516
Consumer installment
2540
2925
Total performing loans past due
 
30 to 89 days
$
74883
1,858748
Deposits
December 31
(In thousands)
20212022
20202021
Noninterest bearing demand
$
316,132311,371
245,398316,132
NOW
183,021178,641
155,870183,021
Money market
244,195214,298
199,937244,195
Savings
91,24595,652
78,18791,245
Certificates of deposit under $250,000
101,66093,017
105,357101,660
Certificates of deposit and other time deposits of $250,000 or more
57,99057,358
55,04457,990
Total deposits
$
994,243950,337
839,793994,243
Total deposits increaseddecreased
 
$154.543.9 million, or 18%4%, to $994.2$950.3 million at December 31, 2021,2022,
 
compared to $839.8$994.2 million at
December 31, 2020. 2021.
This decrease reflects net outflows to higher yield investment alternatives in
a rising interest rate
environment and a decline in balances in existing accounts due to increased customer
spending.
Noninterest-bearing
deposits were $316.1$311.4 million, or 33% of total
 
deposits, at December 31, 2022, compared to $316.1 million, or 32% of total
deposits at December 31, 2021,2021. We
compared to $245.4 million, or 29% of totalhad no brokered deposits at December 31, 2020. These
increases reflect deposits from
customers who received PPP loans, the impact of government stimulus checks, and
reduced customer spending during the
COVID-19 pandemic.2022 or at December 31, 2021.
Estimated uninsured deposits totaled $420.8$381.7 million and $315.2$420.8 million at December 31,
 
20212022 and 2020,2021, respectively.
 
Uninsured amounts are estimated based on the portion of account balances in excess of FDIC
 
insurance limits.
 
The average rates paid on total interest-bearing deposits were 0.39%0.34%
 
in 20212022 and 0.68%0.39% in 2020.2021.
 
6066
Other Borrowings
Other borrowings generally consist of short-term borrowings and long-term debt.
 
Short-term borrowings generally consist
of federal funds purchased and securities sold under agreements to repurchase
 
with an original maturity of one year or less.
 
The Bank had available federal fund lines totaling $61.0 million and $41.0
million with none outstanding
at December 31,
2022 and 2021, and 2020,
respectively. Securities
sold under
agreements to repurchase totaled $3.4$2.6 million and $2.4 $3.4
million at
December 31,
2021
2022 and 2020,2021, respectively.
The average rates paid on short-term borrowings were 0.51% and 0.48%1.33%
 
and 0.51% in 20212022 and 2020,2021, respectively.
 
The Company had no long-term debt outstanding at December 31, 20212022 and 2020,2021, respectively.
CAPITAL ADEQUACY
The Company's consolidated stockholders' equity was $103.7$68.0 million and $107.7$103.7
 
million as of December 31, 2022 and 2021, and
2020,
respectively.
 
The decrease from December 31, 20202021 was primarily driven by an other comprehensive
 
loss due to the
change in unrealized gainsgains/losses on securities available-for-sale,
net of tax, of $6.7
$41.8 million, cash dividends paid of $3.7
million
million and stock repurchases of $1.6$0.5 million, representing 45,94617,183 shares,
 
which was partially offset by net earnings of $8.0
$10.3 million.
 
Our unrealized losses on securities and the related decline in our accumulated other comprehensive
income (“AOCI”)
resulted from increases in market interest rates in 2022 due to inflation and Federal Reserve
monetary policy actions.
Our
AOCI declined $41.8 million from $0.9 million at December 31, 2021
to ($40.9) million
This is the primary reason both
our shareholders’ equity and book value per share declined 34%, respectively,
in 2022.
The Bank and the Company, as
permitted by the Federal Reserve and the other Federal bank regulators, made a
permanent election in March 2015 to opt
out of the requirement to include most components of AOCI in regulatory capital.
Accordingly, AOCI does not affect
our
capital for regulatory purposes.
If our tangible GAAP equity, however,
ever became negative, Federal Housing Finance
Agency rules could prevent us from obtaining new FHLB lines or advances, even though
renewals of existing lines and
advance may be permissible.
Investors may also view tangible GAAP equity,
net of AOCI as important in connection with
capital raising, if any, especially
in stressed economic conditions.
On a GAAP basis, our returns on equity increased as
result of the negative AOCI’s
reduction of stockholders’ equity.
On January 1, 2015, the Company and Bank became subject to the rules of the Basel III regulatory capital
 
capital framework and related
related Dodd-Frank Wall Street
 
Street Reform and Consumer Protection Act changes. The rules included the implementation
 
the implementation of a capital
capital conservation buffer that is added to the minimum requirements
 
for capital adequacy purposes. The capital conservation
conservation buffer was subject to a three year phase-in period
that began on January 1, 2016 and was fully phased-in on
January 1, 2019 at 2.5%. A banking organization
with a capital conservation buffer
of less
than the required minimum amount will be subject
to limitations on capital distributions,
including dividend payments and
certain discretionary
bonus payments to executive officers.
officers. At December 31, 2021,2022, the Bank’s
 
ratio was sufficient to meetexceeded 2.5% and the fully phased-in
capital conservation
buffer. buffer requirements.
Effective March 20, 2020, the Federal Reserve and the other federal
 
banking regulators adopted an interim final rule that
amended the capital conservation buffer.
 
The interim final rule was adopted as a final rule on August 26, 2020. The
 
new
rule revises the definition of “eligible retained income” for purposes of the maximum payout
 
ratio to allow banking
organizations to more freely use their capital buffers to promote
 
lending and other financial intermediation activities, by
making the limitations on capital distributions more gradual. The
 
eligible retained income is now the greater of (i) net
income for the four preceding quarters, net of distributions and associated tax effects
 
not reflected in net income; and (ii)
the average of all net income over the preceding four quarters. The interim
 
final rule only affects the capital buffers, and
banking organizations were encouraged to make prudent capital
 
distribution decisions.
The Federal Reserve has treated us as a “small bank holding company’ under the Federal
 
Reserve’s policy.
 
Accordingly,
our capital adequacy is evaluated at the Bank level, and not for the Company and its consolidated
 
subsidiaries. The Bank’s
tier 1 leverage ratio was 9.35%10.01%, CET1 risk-based capital ratio
was 16.23%15.39%, tier 1 risk-based
capital ratio was 16.23%15.39%, and
total risk-based capital ratio was 17.06%16.25%
 
at December 31, 2021.2022. These ratios exceed the minimum regulatory capital
percentages of 5.0% for tier 1 leverage ratio, 6.5% for CET1 risk-based capital ratio,
 
8.0% for tier 1 risk-based capital ratio,
and 10.0% for total risk-based capital ratio to be considered “well capitalized.” The
 
The Bank’s capital conservation buffer
 
was
9.06%8.25%
 
at December 31, 2021.2022.
6167
MARKET AND LIQUIDITY RISK MANAGEMENT
Management’s objective is to manage assets and
 
liabilities to provide a satisfactory,
 
consistent level of profitability within
the framework of established liquidity,
 
loan, investment, borrowing, and capital policies. The Bank’s
 
Asset Liability
Management Committee (“ALCO”) is charged with the responsibility
 
of monitoring these policies, which are designed to
ensure an acceptable asset/liability composition. Two
 
critical areas of focus for ALCO are interest rate risk and liquidity
risk management.
Interest Rate Risk Management
In the normal course of business, the Company is exposed to market risk arising from
 
fluctuations in interest rates because
assets and liabilities may mature or reprice at different times. For example,
 
if liabilities reprice faster than assets, and
interest rates are generally rising, earnings will initially decline. In addition, assets
 
and liabilities may reprice at the same
time but by different amounts. For example, when the general level of interest rates is rising,
 
the Company may increase
rates paid on interest bearing demand deposit accounts and savings deposit
 
accounts by an amount that is less than the
general increase in market interest rates. Also, short-term and long-term
 
market interest rates may change by different
amounts. For example, a flattening yield curve may reduce the interest spread
 
between new loan yields and funding costs.
The yield curve has been inverted at various times in 2022 and in the first months of 2023.
An inverted yield curve reduces
the net interest margin expansion that may be expected otherwise as interest
rates rise.
Further, the remaining maturity of
various assets and
liabilities may shorten or lengthen as interest rates change. For
example, if long-term mortgage interest
rates decline sharply, mortgage-backed
 
mortgage-backed securities in the securities portfolio may
prepay earlier than anticipated,
which
could reduce earnings. Interest rates may also
have a direct or indirect effect
on loan
demand, loan losses, mortgage
origination volume, the fair value of MSRs and other
items affecting earnings.
ALCO measures and evaluates the interest rate risk so that we can meet customer demands
 
for various types of loans and
deposits. ALCO determines the most appropriate amounts of on-balance
sheet and
off-balance sheet items. Measurements
used to help manage interest rate sensitivity include an earnings simulation and an economic
 
value of equity model.
Earnings simulation
. Management believes that interest rate risk is best estimated by our earnings simulation
 
modeling.
On at least a quarterly
basis, we simulate the following 12 month12-month time period is simulated to determine a baseline
 
baseline net interest income
forecast and the
sensitivity of this forecast to changes in interest rates. The baseline forecast assumes an
 
assumes an unchanged or flat
interest rate
environment. Forecasted levels of earning assets, interest-bearing liabilities, and
 
and off-balance sheet financial
instruments are
combined with ALCO forecasts of market interest rates for
the next 12
months and other factors in order to
produce various
earnings simulations and estimates.
To help limit interest rate risk,
 
we have guidelines for earnings at risk which seek to limit the variance of net interest
income from gradual changes in interest rates.
 
For changes up or down in rates from management’s
 
flat interest rate
forecast over the next 12 months, policy limits for net interest income variances are as follows:
+/- 20% for a gradual change of 400 basis points
+/- 15% for a gradual change of 300 basis points
+/- 10% for a gradual change of 200 basis points
+/- 5% for a gradual change of 100 basis points
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
6268
The following table reports the variance of net interest income over the next 12
 
months assuming a gradual change in
interest rates up or down when compared to the baseline net interest income
 
forecast at December 31, 2021.2022.
 
Changes in Interest Rates
Net Interest Income % Variance
 
400 basis points
7.92(3.81)
%
 
300 basis points
5.61(2.62)
 
200 basis points
3.59(1.50)
 
100 basis points
1.54(0.58)
 
(100) basis points
(0.44)(0.59)
 
(200) basis points
NM(1.50)
 
(300) basis points
NM(2.29)
 
(400) basis points
NM
NM=not meaningful(2.92)
At December 31, 2021,2022, our earnings simulation model indicated that
 
we were in compliance with the policy guidelines
noted above.
Economic Value
 
of Equity
Economic value of equity (“EVE”) measures the extent that estimated economeconomic
 
ic values of our assets, liabilities and off-
balance sheet items will change as a result of interest rate changes. Economic values are
 
estimated by discounting expected
cash flows from assets, liabilities and off-balance sheet items, to
 
which establishes establish
a base case EVE. In contrast with our
earnings simulation model which evaluates interest rate risk over a 1212-month
 
month timeframe, EVE uses a terminal horizon
which allows for the re-pricing of all assets, liabilities, and off-balance sheet items.
 
Further, EVE is measured using values
as of a point in time and does not reflect any actions that ALCO might take in responding to
 
or anticipating changes in
interest rates, or market and competitive conditions.
To help limit interest rate risk,
 
we have stated policy guidelines for an instantaneous basis point change in interest rates,
such that our EVE should not decrease from our base case by more than the following:
45% for an instantaneous change of +/- 400 basis points
35% for an instantaneous change of +/- 300 basis points
25% for an instantaneous change of +/- 200 basis points
15% for an instantaneous change of +/- 100 basis points
The following table reports the variance of EVE assuming an immediate change in
 
interest rates up or down when
compared to the baseline EVE at December 31, 2021.2022.
 
Changes in Interest Rates
EVE % Variance
 
400 basis points
(20.53)(3.87)
%
 
300 basis points
(14.14)(1.11)
 
200 basis points
(8.35)0.58
 
100 basis points
(3.23)1.16
 
(100) basis points
0.91(5.12)
 
(200) basis points
NM(15.06)
 
(300) basis points
NM(28.96)
 
(400) basis points
NM
NM=not meaningful(31.85)
At December 31, 2021,2022, our EVE model indicated that we were in compliance
 
with the policy guidelines noted above.
6369
Each of the above analyses may not, on its own, be an accurate indicator of how our net interest income
 
income will be affected by
changes in interest rates. Income associated with interest-earning assets and costs associated
 
with interest-bearing liabilities
may not be affected uniformly by changes in interest rates. In addition,
 
the magnitude and duration of changes in interest
rates may have a significant impact on net interest income. For example, although certain
 
assets and liabilities may have
similar maturities or periods of repricing, they may react in different
 
degrees to changes in market interest rates, and other
economic and market factors, including market perceptions.
 
Interest rates on certain types of assets and liabilities fluctuate
in advance of changes in general market rates, while interest rates on other types of assets
 
and liabilities may lag behind
changes in general market rates. In addition, certain assets, such as adjustable rateadjustable-rate
 
mortgage loans, have features (generally
referred to as “interest rate caps and floors”) which limit changes in interest rates.
 
Prepayment and early withdrawal levels
also could deviate significantly from those assumed in calculating the maturity of certain instruments.
 
The ability of many
borrowers to service their debts also may decrease during periods of rising interest rates or
 
economic stress, which may
differ across industries and economic sectors. ALCO reviews each of the
 
above interest rate sensitivity analyses along with
several different interest rate scenarios in seeking satisfactory,
 
consistent levels of profitability within the framework of the
Company’s established liquidity,
 
loan, investment, borrowing, and capital policies.
The Company may also use derivative financial instruments to improve the balance between
 
interest-sensitive assets and
interest-sensitive liabilities and as one tool to manage interest rate sensitivity
 
while continuing to meet the credit and
deposit needs of our customers. From time to time, the Company may enter into
 
interest rate swaps (“swaps”) to facilitate
customer transactions and meet their financing needs. These swaps qualify as derivatives,
 
derivatives, but are not designated as hedging
instruments. At December 31, 20212022 and 2020,2021, the Company had no derivative
 
contracts to assist in managing interest rate
sensitivity.
Liquidity Risk Management
Liquidity is the Company’s ability to convert
 
assets into cash equivalents in order to meet daily cash flow requirements,
primarily for deposit withdrawals, loan demand and maturing obligations. Without
 
proper management of its liquidity,
 
the
Company could experience higher costs of obtaining funds due to insufficient liquidity,
 
while excessive liquidity can lead
to a decline in earnings due to the cost of foregoing alternative higher-yielding
 
investment opportunities.
Liquidity is managed at two levels. The first is the liquidity of the Company.
 
The second is the liquidity of the Bank. The
management of liquidity at both levels is essential, because the Company and the Bank are
 
separate and distinct legal
entities with different funding needs and sources, and each are subject
 
to regulatory guidelines and requirements. The
Company depends upon dividends from the Bank for liquidity to pay its operating expenses,
 
debt obligations and
dividends. The Bank’s payment of dividends depends
 
on its earnings, liquidity, capital
 
capital and the absence of any regulatory
restrictions.
The primary source of funding and liquidity for the Company has been dividends received
 
from the Bank. The Company
depends upon dividends from the Bank for liquidity to pay its operating expense, debt obligations,
if any, and cash
dividends on, and repurchases of, Company common stock.
The Bank’s payment of dividends depends
on its earnings,
liquidity, capital and the absence
of any regulatory restrictions.
If needed, the
Company could also issue common stock or
other securities. Primary uses of funds by the
 
Company include dividends paid
to stockholders and stock repurchases.
Primary sources of funding for the Bank include primarily customer deposits,
together with other borrowings, repayment
repayment and maturity of securities,
and sale and repayment of loans.
 
The Bank has participated in the FHLB’s
advance program to
obtain funding for its growth.
FHLB advances include both fixed and variable terms and are taken out with varying
maturities.
The Bank also has access to federal funds lines from various banks and borrowings
 
from the
Federal Reserve
discount window.
 
In addition to these sources, the Bank has participated in the FHLB's advance program
to obtain funding for its growth. Advances include both fixed and variable terms and
are taken out with varying maturities.
As of December 31, 2021,2022, the Bank had a remaining available line$312.6 million of credit borrowing capacity
with the FHLB
totaling $319.6 million.
As of and $61.0
December 31, 2021, the Bank also had $41.0 million of federal funds lines, with none outstanding.
 
Primary uses of funds
include repayment of maturing obligations and
growing the loan portfolio.
 
 
 
 
 
 
 
 
 
6470
The following table presents additional information about our contractual obligations
 
as of December 31, 2021,2022, which by
their terms had contractual maturity and termination dates subsequent to December
 
31, 2021:2022:
 
Payments due by period
1 year
1 to 3
3 to 5
More than
(Dollars in thousands)
Total
or less
years
years
5 years
Contractual obligations:
Deposit maturities (1)
$
994,243950,337
948,364894,523
37,90538,266
7,78517,357
189191
Operating lease obligations
610674
120123
239237
141192
110122
Total
$
994,853951,011
948,484894,646
38,14438,503
7,92617,549
299313
(1) Deposits with no stated maturity (demand, NOW, money market, and savings deposits) are presented
 
presented in the "1 year or less" column
Management believes that the Company and the Bank have adequate sources of liquidity to
 
from deposits, FHLB advances,
sales of securities under agreement to repurchase and federal funds lines, as
well as possible sales of securities, to meet all
known contractual
obligations and unfunded commitments, including loan commitments
and reasonable borrower,
depositor, and creditor
requirements over the next 12
months.
The Federal Reserve’s new Bank Term
Funding Program (“BTFP”) established on March 12, 2023, provides additional
liquidity, if needed
without suffering any adverse effects from unrealized losses on securities.
BTFP offers loans of up to
one year to banks, savings associations, credit unions, and other eligible depository institutions
pledging U.S. Treasuries,
agency debt and mortgage-backed securities, and other qualifying assets as collateral. These
assets will be valued at par.
The BTFP will be an additional source of liquidity against high-quality securities, eliminating
an institution's need to
quickly sell those securities in times of stress.
In addition, the discount window will apply the same margins used
for the
securities eligible for the BTFP,
further increasing the value of investment securities at the discount window.
Off-Balance Sheet Arrangements
At December 31, 2021,2022, the Bank had outstanding standby letters of credit of $1.
 
40
 
million and unfunded loan commitments
outstanding of $71.0$87.7 million. Because these commitments generally
 
have fixed expiration dates and many will expire
without being drawn upon, the total commitment level does not necessarily represent future
 
cash requirements. If needed to
fund these outstanding commitments, the Bank has the ability to liquidate federal funds sold,
 
soldobtain FHLB advances, raise
deposits or sell securities available-for-sale,
or on a short-term basis to borrow and purchase federal
funds from other financial institutions on a short-term
institutions.basis while it obtains the other longer term funding.
Residential mortgage lending and servicing activities
We primarily sell conforming
 
residential mortgage loans in the secondary market to Fannie Mae
 
while retaining the
servicing of these loans.loans (MSRs). The sale agreements for these residential mortgage
loans with
Fannie Mae and other investors
investors include various representations and warranties regarding the origination
and characteristics
of the residential mortgage
mortgage loans. Although the representations and warranties vary among investors,
they typically
cover ownership of the loan,
loan, validity of the lien securing the loan, the absence of delinquent taxes or liens against the property securing
 
securing the loan,
compliance with loan criteria set forth in the applicable agreement, compliance with applicable
 
federal, state, and local
laws, among other matters.
 
The Bank sells mortgage loans to Fannie Mae and services these on an actual/actual basis.
As a result, the Bank is not
obligated to make any advances to Fannie Mae on principal and interest on such mortgage
loans where the borrower is
entitled to forbearance.
71
As of December 31, 2021,2022, the unpaid principal balance of residential mortgage loans,
 
which we have originated and sold,
but retained the servicing rights was $252.7(MSRs) totaled $232.7 million. Although these loans are
 
are generally sold on a non-recourse basis,
basis, except for breaches of customary seller representations and warranties,
 
we may have to repurchase residential mortgage
mortgage loans in cases where we breach such representations or
warranties or the other terms of
the sale, such as where we
fail to
deliver required documents or the documents we deliver are defective. Investors also
 
also may require the repurchase of a
mortgage loan when an early payment default underwriting review reveals significant
 
underwriting deficiencies, even if the
mortgage loan has subsequently been brought current. Repurchase demands are typically reviewed
 
reviewed on an individual loan by
loan basis to validate the claims made by the investor and to determine if a contractually
 
required repurchase event has
occurred. We
 
seek to reduce and manage the risks of potential repurchases or other claims by mortgage loan
investors
through our underwriting, quality assurance and servicing practices, including
 
good communications with our residential
mortgage investors.
The Company was not required to repurchase any loans during 20212022 and 20202021
 
as a result of representation and warranty
provisions contained in the Company’s sale agreementsagre
 
ements with Fannie Mae, and had no pending repurchase or make-whole
requests at December 31, 2021.2022.
We service all residential
 
mortgage loans originated and sold by us to Fannie Mae. As servicer,
 
our primary duties are to:
(1) collect payments due from borrowers; (2) advance certain delinquent payments
 
of principal and interest; (3) maintain
and administer any hazard, title, or primary mortgage insurance policies relating to the
 
the mortgage loans; (4) maintain any
required escrow accounts for payment of taxes and insurance and administer escrow payments;
 
and (5) foreclose on
defaulted mortgage loans or take other actions to mitigate the potential losses to investors
 
consistent with the agreements
governing our rights and duties as servicer.
65
The agreement under which we act as servicer generally specifies aour
 
standardstandards of responsibility for actions taken by us in
such capacity and provides protection against expenses and liabilities incurred by us
 
when acting in compliance with the
respective servicing agreements. However, if
 
we commit a material breach of our obligations as servicer,
 
we may be subject
to termination if the breach is not cured within a specified period following notice. The
 
standards governing servicing and
the possible remedies for violations of such standards are determined by servicing
 
guides issued by Fannie Mae as well as
the contract provisions established between Fannie Mae and the Bank.
 
Remedies could include repurchase of an affected
loan.
Although to date repurchase requests related to representation and warranty provisions,
 
and servicing activities have been
limited, it is possible that requests to repurchase mortgage loans may increase in frequency
 
if investors more aggressively
pursue all means of recovering losses on their purchased loans. As of December
 
31, 2021,2022, we believe that this exposure is
not material due to the historical level of repurchase requests and loss trends, the results of
 
of our quality control reviews, and
the fact that 99% of our residential mortgage loans serviced for Fannie Mae
 
were current as of such date. We
 
maintain
ongoing communications with our investors and will continue to evaluate this exposure
 
by monitoring the level and number
of repurchase requests as well as the delinquency rates in our investor portfolios.
Section 4021 of the CARES Act allows borrowers under 1-to-4 family residential
 
mortgage loans sold to Fannie Mae to
request forbearance tofrom the servicer after affirming that such borrower is experiencing
 
is experiencing financial hardships during the
COVID-19 emergency.
 
Except for vacant or abandoned properties, Fannie Mae servicers may not initiate
 
foreclosures on
similar procedures or related evictions
or sales generally until December 31, 2020.
The forbearance period was extended, generally,
to March 31,June 30, 2021.
The Bank sells mortgage loans to Fannie Mae and services these on an actual/actual
basis. As a result,
the Bank is not obligated to make any advances to Fannie Mae on principal and interest on
such mortgage loans where the
borrower is entitled to forbearance.
Effects of Inflation and Changing Prices
The consolidated financial statements and related consolidated financial data presented
 
presented herein have been prepared in
accordance with GAAP and practices within the banking industry
which require
the measurement of financial position and
operating results in terms of historical dollars without considering the changes in
 
the relative purchasing power of money
over time due to inflation. Unlike most industrial companies, virtually all the assets and liabilities
 
liabilities of a financial institution
are monetary in nature. As a result, interest rates have a more significant impact on a
 
financial institution’s performance
than the effects of general levels of inflation.
 
6672
CURRENT ACCOUNTING DEVELOPMENTS
The following ASU hasASUs have been issued by the FASB
 
but isare not yet effective.
 
●
ASU 2016-13,
Financial Instruments – Credit Losses (Topic
 
326):
 
Measurement of Credit Losses on Financial
Instruments; and
●
ASU 2022-02,
Financial Instruments – Credit Losses (Topic
326):
Troubled Debt
Restructurings and Vintage
Disclosures.
Information about this pronouncement isthese pronouncements are described in more detail below.
ASU 2016-13,
Financial Instruments - Credit Losses (Topic
 
326): - Measurement of Credit
 
Losses on Financial
Instruments
,
amends guidance on reporting credit losses for assets held at amortized cost basis and available
 
available for sale debt
securities. For
assets held at amortized cost basis, the new standard eliminates the probable initial recognition
 
initial recognition threshold inpreviously
currentprovided by GAAP and, instead, requires an entity to reflect its current estimate of all expected
 
credit losses using a broader
range of information regarding past events, current conditions and forecasts assessing the
 
collectability of cash flows. The
allowance for credit losses is a valuation account that is deducted from the amortized
 
cost basis of the financial assets to
present the net amount expected to be collected. For available for sale debt securities, credit
 
losses should be measured in a
manner similar to current GAAP,
 
however the new standard will require that credit losses be presented as an allowance
rather than as a write-down. The new guidance affects entities holding
 
financial assets and net investment in leases that are
not accounted for at fair value through net income. The amendments affect
 
loans, debt securities, trade receivables, net
investments in leases, off-balance sheet credit exposures, reinsurance receivables,
 
and any other financial assets not
excluded from the scope that have the contractual right to receive cash. For public
 
business entities, the new guidance was
originally effective for annual and interim periods in fiscal years
 
beginning after December 15, 2019. The Company has
developed an implementation team that is following a general timeline. The
team has been working with an advisory
consultant, with whom a third-party software license has been purchased.
The Company’s preliminary evaluation
indicates
the provisions of ASU No. 2016-13 are expected to impact the Company’s
consolidated financial statements, in particular
the level of the reserve for credit losses. The Company is continuing to evaluate the
extent of the potential impact and
expects that portfolio composition and economic conditions at the time of adoption
will be a factor. On October 16, 2019,
the FASB approved
 
a previously issued proposal granting smaller reporting companies a postponement of the required
implementation date for ASU 2016-13. This standard became effective
for the Company on January 1, 2023.
The Company adopted ASU 2016-13 in the first quarter of 2023 and will now be requiredapply the standard’s
 
provisions as a cumulative-
effect adjustment to implementretained earnings as of the beginning of the first reporting
period in which the guidance is effective.
The Company is finalizing implementation efforts through its implementation
team.
The team has worked with an advisory
consultant and has finalized and documented the methodologies that will be utilized.
The team is currently finalizing
controls, processes, policies and disclosures and has completed full end-to-end
parallel runs.
Based on the Company’s
portfolio composition as of December 31, 2022, and current expectations of future economic
conditions, the reserve for
credit losses is expected to increase from 1.14% as a percentage of total loans at December
31, 2022 to a range between
1.32% and 1.36% of total loans upon adoption of this standard, primarily resulting from
the impact of adjusting from the
incurred loss model to the expected loss model, which provides for
expected credit losses over the life of the loan portfolio.
The Company does not expect to record an allowance for available-for-sale
securities as the investment portfolio consists
primarily of debt securities explicitly or implicitly backed by the U.S. Government
for which credit risk is deemed minimal.
The impact of ASU 2016-13 is not expected to have a material impact on the allowance
for unfunded commitments.
The
Company continues to finalize its day-one adjustment and
will record the after-tax impact as a cumulative-effect adjustment
to retained earnings as of January 1, 2023.
This estimate is subject to change as key assumptions are refined.
The impact
going forward will depend on the composition, characteristics, and credit
quality of the loan and securities portfolios as
well as the economic conditions at future reporting periods.
ASU 2022-02
Financial Instruments - Credit Losses (Topic
326): Troubled
Debt Restructurings and Vintage
Disclosures
,
eliminates the accounting guidance for troubled debt restructurings (“TDRs”),
while enhancing disclosure requirements for
certain loan refinancings and restructurings by creditors when a borrower is experiencing
financial difficulty.
The new
standard is effective for fiscal years, and interim periods
within those fiscal years, beginning after December 15, 2022. The
new standard in January 2023,
with early adoption permitted in any period prioris not expected to that date.have a material impact on the Company’s
consolidated financial statements.
 
 
 
 
 
 
 
 
 
 
 
6773
Table 1
 
– Explanation of Non-GAAP Financial Measures
In addition to results presented in accordance with GAAP,
 
this annual report on Form 10-K includes certain designated net
interest income amounts presented on a tax-equivalent basis, a non-GAAP financial
 
measure, including the presentation of
total revenue and the calculation of the efficiency ratio.
The Company believes the presentation of net interest income on a tax-equivalent
 
basis provides comparability of net
interest income from both taxable and tax-exempt sources and facilitates comparability
 
within the industry. Although the
Company believes these non-GAAP financial measures enhance investors’
 
understanding of its business and performance,
these non-GAAP financial measures should not be considered an alternative to
 
GAAP.
 
The reconciliation of these non-
GAAP financial measures from GAAP to non-GAAP is presented below.
Year ended December 31
(In thousands)
2022
2021
2020
2019
2018
2017
Net interest income (GAAP)
$
27,166
23,990
24,338
26,064
25,570
24,526
Tax-equivalent adjustment
456
470
492
557
613
1,205
Net interest income (Tax-equivalent)
$
27,622
24,460
24,830
26,621
26,183
25,731
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
6874
Table 2
 
- Selected Financial Data
Year ended December 31
(Dollars in thousands, except per share amounts)
2022
2021
2020
2019
2018
2017
Income statement
Tax-equivalent interest income (a)
$
30,001
26,977
28,686
30,804
29,859
29,325
Total interest expense
2,379
2,517
3,856
4,183
3,676
3,594
Tax equivalent net interest income (a)
27,622
24,460
24,830
26,621
26,183
25,731
Provision for loan losses
1,000
(600)
1,100
(250)
—
 
(300)
Total noninterest income
6,506
4,288
5,375
5,494
3,325
3,441
Total noninterest expense
19,823
19,433
19,554
19,697
17,874
16,784
Net earnings before income taxes and
 
tax-equivalent adjustment
13,305
9,915
9,551
12,668
11,634
12,688
Tax-equivalent adjustment
456
470
492
557
613
1,205
Income tax expense
2,503
1,406
1,605
2,370
2,187
3,637
Net earnings
$
10,346
8,039
7,454
9,741
8,834
7,846
Per share data:
Basic and diluted net earnings
 
$
2.95
2.27
2.09
2.72
2.42
2.15
Cash dividends declared
$
1.06
1.04
1.02
1.00
0.96
0.92
Weighted average shares outstanding
Basic and diluted
3,510,869
3,545,310
3,566,207
3,581,476
3,643,780
3,643,616
Shares outstanding
3,503,452
3,520,485
3,566,276
3,566,146
3,643,868
3,643,668
Book value
 
$
19.42
29.46
30.20
27.57
24.44
23.85
Common stock price
High
$
34.49
48.00
63.40
53.90
53.50
40.25Low
Low22.07
31.32
24.11
30.61
28.88
30.75
Period-end
$
23.00
32.30
42.29
53.00
31.66
38.90
To earnings ratio
 
14.237.80
x
14.23
20.23
19.49
13.08
18.09
To book value
110118
%
110
140
192
130
163
Performance ratios:
Return on average equity
 
7.5412.48
%
7.54
7.12
10.35
10.14
9.17
Return on average assets
 
0.780.96
%
0.78
0.83
1.18
1.08
0.94
Dividend payout ratio
45.8135.93
%
45.81
48.80
36.76
39.67
42.79
Average equity to average assets
10.397.72
%
10.39
11.63
11.39
10.63
10.30
Asset Quality:
Allowance for loan losses as a % of:
Loans
1.081.14
%
1.08
1.22
0.95
1.00
1.05
Nonperforming loans
1,112211
%
1,112
1,052
2,345
2,691
160
Nonperforming assets as a % of:
Loans and other real estate owned
0.180.54
%
0.18
0.12
0.04
0.07
0.66
Total assets
0.070.27
%
0.07
0.06
0.02
0.04
0.35
Nonperforming loans as % of loans
0.100.54
%
0.10
0.12
0.04
0.04
0.66
Net charge-offs (recoveries) as a % of average loans
0.020.04
%
0.02
(0.03)
0.03
(0.01)
(0.09)
Capital Adequacy (c):
CET 1 risk-based capital ratio
16.2315.39
%
16.23
17.27
17.28
16.49
16.42
Tier 1 risk-based capital ratio
16.2315.39
%
16.23
17.27
17.28
16.49
16.98
Total risk-based capital ratio
17.0616.25
%
17.06
18.31
18.12
17.38
17.91
Tier 1 leverage ratio
9.3510.01
%
9.35
10.32
11.23
11.33
10.95
Other financial data:
Net interest margin (a)
2.552.81
%
2.55
2.92
3.43
3.40
3.29
Effective income tax rate
14.8919.48
%
14.89
17.72
19.57
19.84
31.67
Efficiency ratio (b)
67.6058.08
%
67.60
64.74
61.33
60.57
57.53
Selected period end balances:
Securities
$
405,304
421,891
335,177
235,902
239,801
257,697
Loans, net of unearned income
504,458
458,364
461,700
460,901
476,908
453,651
Allowance for loan losses
5,765
4,939
5,618
4,386
4,790
4,757
Total assets
1,023,888
1,105,150
956,597
828,570
818,077
853,381
Total deposits
950,337
994,243
839,792
724,152
724,193
757,659
Long-term debt
—
—
—
—
3,217
Total stockholders’ equity
68,041
103,726
107,689
98,328
89,055
86,906
(a) Tax-equivalent.
 
See "Table 1 - Explanation of Non-GAAP Financial Measures".
(b) Efficiency ratio is the result of noninterest expense divided
 
by the sum of noninterest income and tax-equivalent net interest
 
income.
(c) Regulatory capital ratios presented are for the Company's
 
wholly-owned subsidiary, AuburnBank.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
6975
Table 3
 
- Average Balance
 
and Net Interest Income Analysis
Year ended December 31
 
 
20212022
20202021
Interest
Interest
Average
Income/
Yield/
Average
Income/
Yield/
(Dollars in thousands)
Balance
Expense
Rate
Balance
Expense
Rate
Interest-earning assets:
 
 
Loans and loans held for sale (1)
$
454,604
$
20,241
4.45%
$
459,712
$
20,473
4.45%
 
$
465,378
$
22,055
4.74%
Securities - taxable
364,029
6,576
1.81%
320,766
4,107
1.28%
 
234,420
3,932
1.68%
Securities - tax-exempt (2)
61,591
2,172
3.53%
62,736
2,242
3.57%
 
63,029
2,343
3.72%Total securities
 
Total securities425,620
8,748
2.06%
 
383,502
6,349
1.66%
 
297,449
6,275
2.11%
Federal funds sold
43,766
435
1.00%
38,659
55
0.15%
 
30,977
125
0.41%
Interest bearing bank deposits
58,141
577
0.99%
77,220
100
0.13%
 
56,104
231
0.41%
Total interest-earning assets
982,131
30,001
3.05%
959,093
26,977
2.81%
849,908
28,686
3.38%
 
Cash and due from banks
14,59115,108
13,72714,591
Other assets
51,66477,496
37,01051,664
Total assets
$
1,025,3481,074,735
$
900,6451,025,348
Interest-bearing liabilities:
Deposits:
 
 
NOW
$
178,197197,177
212370
0.12%0.19%
 
$
154,431178,197
523212
0.34%0.12%
 
Savings and money market
327,139
649
0.20%
296,708
655
0.22%
 
242,485
1,071
0.44%Certificates of deposits
 
Certificates of deposits154,273
1,300
0.84%
 
159,111
1,633
1.03%
 
165,120
2,253
1.36%
Total interest-bearing deposits
678,589
2,319
0.34%
634,016
2,500
0.39%
 
562,036Short-term borrowings
3,8474,516
0.68%60
1.33%
 
Short-term borrowings
3,349
17
0.51%
 
1,864
9
0.48%
Total interest-bearing liabilities
683,105
2,379
0.35%
637,365
2,517
0.39%
 
563,900
3,856
0.68%
Noninterest-bearing deposits
278,013306,772
 
227,127278,013
 
Other liabilities
3,3921,933
4,8843,392
Stockholders' equity
106,57882,925
 
104,734106,578
 
Total liabilities and
and stockholders' equity
$
1,025,3481,074,735
$
900,6451,025,348
Net interest income and margin
$
24,46027,622
2.55%2.81%
$
24,83024,460
2.92%2.55%
 
 
 
(1) Average loan balances are
 
shown net of unearned income and loans on nonaccrual status have been included
in the computation of average balances.
(2) Yields on tax-exempt securities have been
 
computed on a tax-equivalent basis using an income tax rate
of 21%.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
7076
Table 4
 
- Volume and
 
Rate Variance
 
Analysis
YearsYear ended December 31, 2022 vs. 2021
Year ended December 31, 2021 vs. 2020
Years ended December 31, 2020 vs. 2019
Net
Due to change in
Net
Due to change in
(Dollars in thousands)
Change
Rate (2)
Volume (2)
Change
Rate (2)
Volume (2)
Interest income:
 
 
 
 
 
 
Loans and loans held for sale
 
$
(232)
(5)
(227)
$
(1,582)
(1,333)
(249)
$
(875)
(455)
(420)
Securities - taxable
2,469
1,687
782
175
(933)
1,108
(68)
(1,010)
942
Securities - tax-exempt (1)
(70)
(30)
(40)
(101)
(91)
(10)
(313)
(180)
(133)
Total securities
 
2,399
1,657
742
74
(1,024)
1,098
(381)
(1,190)
809
Federal funds sold
380
329
51
(70)
(81)
11
(298)
(342)
44
Interest bearing bank deposits
477
666
(189)
(131)
(159)
28
(564)
(645)
81
Total interest income
$
3,024
2,647
377
$
(1,709)
(2,597)
888
$
(2,118)
(2,632)
514
Interest expense:
Deposits:
NOW
$
158
122
36
$
(311)
(340)
29
$
(187)
(255)
68
Savings and money market
(6)
(66)
60
(416)
(537)
121
102
(3)
105
Certificates of deposits
(333)
(292)
(41)
(620)
(560)
(60)
(244)
(166)
(78)
Total interest-bearing deposits
(181)
(236)
55
(1,347)
(1,437)
90
(329)
(424)
95
Short-term borrowings
43
8
35
8
—
8
2
—
2
Total interest expense
(138)
(228)
90
(1,339)
(1,437)
98
(327)
(424)
97
Net interest income
$
3,162
2,875
287
$
(370)
(1,160)
790
$
(1,791)
(2,208)
417
 
(1) Yields on tax-exempt securities have been
 
computed on a tax-equivalent basis using an income
 
tax rate of 21%.
(2) Changes that are not solely a result of volume or rate have been allocated to volume.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
7177
Table 5
 
- Net Charge-Offs (Recoveries) to Average
 
Loans
20212022
20202021
Net
Net
Net
charge-off
Net
(recovery)charge-off
charge-offs
Average
(recovery)
(recoveries)charge-offs
Average
charge-off(recovery)
(Dollars in thousands)
(recoveries)
Loans (2)
ratio
charge-offs(recoveries)
Loans (2)
ratio
Commercial and industrial (1)
$
(140)215
64,61869,973
(0.22)0.31
%
$
(87)(140)
56,83664,618
(0.15)(0.22)
%
Construction and land development
—
 
33,94544,177
—
—
 
32,72133,945
—
Commercial real estate
(3)
247,374
—
254
253,113
0.10
—
256,444
—
Residential real estate
(26)
85,223
(0.03)
(52)
81,526
(0.06)
(63)
87,888
(0.07)
Consumer installment
8
7,915
0.10
17
6,975
0.24
18Total
8,096$
0.22194
Total454,662
0.04
%
$
79
440,177
0.02
%
$
(132)
441,985
(0.03)
%
(1) Excludes PPP loans, which are guaranteed by the SBA.
(2) Gross loan balances.
 
 
 
 
 
 
 
 
 
 
 
 
7278
Table 6
 
- Loan Maturities
December 31, 20212022
1 year
1 to 5
5 to 15
After 15
(Dollars in thousands)
or less
years
years
years
Total
Commercial and industrial
$
26,59318,643
17,4747,867
38,12537,948
1,7851,721
83,97766,179
Construction and land development
26,34651,560
5,19113,162
8491,713
4644
32,43266,479
Commercial real estate
31,40619,978
85,14992,259
137,411148,899
4,4054,045
258,371265,181
Residential real estate
3,8324,897
21,91920,988
31,22736,276
20,68335,574
77,66197,735
Consumer installment
2,2153,537
4,1115,337
356672
—
 
6,6829,546
Total loans
$
90,39298,615
133,844139,613
207,968225,508
26,91941,384
459,123505,120
 
 
 
 
 
 
 
 
 
 
 
7379
Table 7
 
- Sensitivities to Changes in Interest Rates on Loans Maturing in More
 
Than One Year
 
December 31, 20212022
Variable
Fixed
(Dollars in thousands)
Rate
Rate
Total
Commercial and industrial
$
268141
57,11647,395
57,38447,536
Construction and land development
1,9341,989
4,15212,930
6,08614,919
Commercial real estate
8,2201,937
218,745243,266
226,965245,203
Residential real estate
24,05834,767
49,77158,071
73,82992,838
Consumer installment
3821
4,4295,988
4,4676,009
Total loans
$
34,51838,855
334,213367,650
368,731406,505
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
7480
Table 8
 
- Allocation of Allowance for Loan Losses
20212022
20202021
(Dollars in thousands)
Amount
%*
Amount
%*
Commercial and industrial
$
857747
18.3%13.1
$
807857
17.9%18.3
Construction and land development
949
13.2
518
7.1%
594
7.2%7.1
Commercial real estate
2,7393,109
56.2%52.5
31692739
55.2%56.2
Residential real estate
828
19.3
739
16.9%
944
18.2%16.9
Consumer installment
132
1.9
86
1.5%
104
1.5%1.5
 
Total allowance for loan losses
$
4,9395,765
$
5,6184,939
* Loan balance in each category expressed as a percentage of total loans.
 
 
 
 
 
 
 
 
 
 
7581
Table 9
 
- Estimated Uninsured Time Deposits by Maturity
(Dollars in thousands)
December 31, 20212022
Maturity of:
3 months or less
$
2,079774
Over 3 months through 6 months
1,747173
Over 6 months through 12 months
31,15926,220
Over 12 months
6,50514,941
Total estimated uninsured
 
time deposits
$
41,49042,108
7682
ITEM 7A.
 
QUANTITATIVE
 
AND QUALITATIVE
 
DISCLOSURES ABOUT MARKET RISK
The information called for by ITEM 7A is set forth in ITEM 7 under the caption
 
“Market and Liquidity Risk Management”
and is incorporated herein by reference.
ITEM 8.
 
FINANCIAL STATEMENTS
 
AND SUPPLEMENTARY
 
DATA
Index
 
Page
 
 
(PCAOB ID:
149
)
 
 
7783
 
7985
 
 
8086
 
 
8187
 
 
8288
 
 
8389
 
8490
 
 
aubn-20201231p83i0
7783
Report of Independent Registered Public Accounting Firm
 
 
To the Stockholders and Board
of Directors of
 
Auburn National Bancorporation, Inc. and Subsidiary
 
 
Opinion on the Financial Statements
We have audited the accompanying
consolidated balance sheets of Auburn National Bancorporation, Inc. and
Subsidiary
(theSubsidiary (the “Company”) as of December 31, 20212022 and 2020, 2021,
the related consolidated
statements of earnings, comprehensive
comprehensive income, stockholders’ equity and cash flows for the years
then ended, and the related notes to
to the consolidated financial
statements (collectively, the “financial
statements”). In our opinion, the financial
statements present fairly,
in all material
respects, the financial position of the Company as of December 31,
2022 and 2021,
and 2020, and the results of its operations and its
cash flows for the
years then ended, in conformity with
accounting principles
generally accepted in the United States of
America.
 
Basis for Opinion
These financial statements are the responsibility of the Company’s
management. Our responsibility is to express
an opinion
on the Company’s financial statements
based on our audits. We
are a public accounting firm
registered with the Public
Company Accounting Oversight
Board (United States) (PCAOB) and are
required to
be independent with respect to the
Company in accordance with U.S.
federal securities laws and the applicable
rules and regulations of the Securities and
Exchange Commission and
the PCAOB.
 
We conducted
our audits in accordance with the standards of the PCAOB. Those standards require that
we plan and
and perform the auditsaudit to obtain reasonable assurance about whether the
financial statements are
free of material misstatement,
misstatement, whether due to error or fraud. The Company
is not required to have, nor were
we engaged to
perform, an audit of its
internal control over financial reporting. As part
of our audits we are required to obtain
obtain an understanding of internal control
over financial reporting but not for
the purpose of expressing an opinion on
the effectiveness
of the Company’s internal
control over financial reporting. Accordingly,
we express no such
opinion.
 
Our audits included performing procedures to assess the risks of material misstatement
of the financial
financial statements, whether
due to error or fraud, and performing procedures
that respond to those risks. Such
procedures
included examining, on a test
basis, evidence regarding the amounts
and disclosures in the financial
statements. Our
audits also included evaluating the
accounting principles
used and significant estimates made by
management, as
well as evaluating the overall presentation of
the financial statements. We
 
We believe that our
audits provide a reasonable basis for our opinion.
 
84
Critical Audit MatterMatters
The critical audit mattermatters communicated below is a matterare matters arising
from the current period
audit of the financial statements
statements that were communicated or required to be communicated
to the audit committee and that: (1) relate
relate to accounts or
disclosures that are material to the financial statements
and (2) involved our especially
challenging,
subjective or complex
judgments. The communication of critical
audit matters does not alter in any
way our opinion
on the financial statements,
taken as a whole, and we are
not, by communicating the critical
audit mattermatters below,
providing separate opinions on the
critical audit mattermatters or on the accounts or disclosures
to
which they relate.
78
Allowance for Loan Losses
As
 
described
in
As described in
Note
5
to
the
Company’s
consolidated
 
financial
statements,
the
Company
has
a
gross
loan
portfolio of
$504.5 million
$460.5 million
and related
allowance for
loan losses
of $4.9 $5.8
million as
of December
 
31, 2021. 2022.
As
described by the
Company in Note 1, the evaluation of the allowance for loan losses is inherently subjective as
it
requires
estimates
that
are
susceptible
to
significant
revision
 
as it requires estimates that are
more
information
becomes
available.
The
susceptible to significant revision as more information becomes available. The allowance
 
for
loan
losses
is
evaluated
on
a
regular
regular
basis
and
is
based
upon
the
Company’s
 
review
of
the
collectability of
the loans
in light
of historical
experience, the
nature and volume of the loan portfolio, adverse situations that may affect 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
of any underlying collateral, and prevailing economic conditions.
 
We
identified the
Company’s
 
estimate of
the allowance
for loan
losses as
a critical
audit matter.
 
The principal
considerations for our determination of the allowance for loan
losses as a critical audit
matter related to
the high degree of
degree
of
subjectivity
in
the
Company’s
judgments
in
 
determining
the
qualitative
factors.
Auditing
these
complex judgments
 
and assumptions
assumptions by the
Company involves
especially challenging
auditor judgment
due to
the
 
the nature
and extent of audit
evidence and effort required to address these matters, including the extent
 
of
audit
evidence
and
effort
required
to
address
these
matters,
including
the
extent
of
specialized skill or knowledge needed.
 
The primary procedures we performed to address this critical audit matter included
 
included the following:
 
●
We
evaluated
the
relevance
and
 
the reasonableness of assumptions related to evaluation of the loan portfolio,
current economic conditions, and other risk factors used in development of the qualitative
 
reasonableness
of
assumptions
related
to
evaluation
of
the
loan
portfolio,
current
economic
conditions,
and
other
risk
factors
used
in
development
of
the
qualitative
factors for collectively
evaluated loans.
●
We
evaluated
the
reasonableness
 
of
assumptions
and
data
used
by
the
Company
in
developing
the qualitative
qualitative factors
by comparing
these data
points to
internally developed and third-party sources,
 
and third-party
sources, and
other audit evidence
gathered.
/s/
Elliott Davis, LLC
 
We have served as the Company's
 
auditor since 2015.
 
Greenville, South Carolina
March 8, 202217, 2023
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
7985
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Consolidated Balance Sheets
December 31
(Dollars in thousands, except share data)
20212022
20202021
Assets:
Cash and due from banks
$
11,21011,608
$
14,86811,210
Federal funds sold
77,4209,300
28,55777,420
Interest bearing bank deposits
67,6296,346
69,15067,629
Cash and cash equivalents
156,25927,254
112,575156,259
Securities available-for-sale
 
421,891405,304
335,177421,891
Loans held for sale
1,376—
3,4181,376
Loans, net of unearned income
458,364504,458
461,700458,364
Allowance for loan losses
(4,939)(5,765)
(5,618)(4,939)
Loans, net
453,425498,693
456,082453,425
Premises and equipment, net
41,72446,575
22,19341,724
Bank-owned life insurance
19,63519,952
19,23219,635
Other assets
10,84026,110
7,92010,840
Total assets
$
1,105,1501,023,888
$
956,5971,105,150
Liabilities:
Deposits:
Noninterest-bearing
 
$
316,132311,371
$
245,398316,132
Interest-bearing
678,111638,966
594,394678,111
Total deposits
994,243950,337
839,792994,243
Federal funds purchased and securities sold under agreements to repurchase
3,4482,551
2,3923,448
Accrued expenses and other liabilities
3,7332,959
6,7233,733
Total liabilities
1,001,424955,847
848,9071,001,424
Stockholders' equity:
Preferred stock of $
0.01
 
par value; authorized
 
200,000
 
shares;
issued shares - none
0—
0—
Common stock of $
0.01
 
par value; authorized
8,500,000
 
shares;
issued
3,957,135
 
shares
39
39
Additional paid-in capital
3,7943,797
3,7893,794
Retained earnings
109,974116,600
105,617109,974
Accumulated other comprehensive (loss) income, net
891(40,920)
7,599891
Less treasury stock, at cost -
436,650453,683
 
shares and
390,859436,650
 
shares
at December 31, 20212022 and 2020,2021, respectively
(10,972)(11,475)
(9,354)(10,972)
Total stockholders’ equity
103,72668,041
107,690103,726
Total liabilities and stockholders’
 
equity
$
1,105,1501,023,888
$
956,5971,105,150
See accompanying notes to consolidated financial statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
8086
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Consolidated Statements of Earnings
Year ended December 31
(Dollars in thousands, except share and per share data)
20212022
20202021
Interest income:
Loans, including fees
$
20,47320,241
$
22,05520,473
Securities:
Taxable
4,1076,576
3,9324,107
Tax-exempt
1,7721,716
1,8511,772
Federal funds sold and interest bearing bank deposits
1551,012
356155
Total interest income
26,50729,545
28,19426,507
Interest expense:
Deposits
2,5002,319
3,8472,500
Short-term borrowings
1760
917
Total interest expense
2,5172,379
3,8562,517
Net interest income
23,99027,166
24,33823,990
Provision for loan losses
(600)1,000
1,100(600)
Net interest income after provision for loan
 
losses
24,59026,166
23,23824,590
Noninterest income:
Service charges on deposit accounts
566598
585566
Mortgage lending
1,547650
2,3191,547
Bank-owned life insurance
317
403
724Gain on sale of premises and equipment
3,234
—
Other
1,7571,695
1,6441,757
Securities gains, net
1512
10315
Total noninterest income
4,2886,506
5,3754,288
Noninterest expense:
Salaries and benefits
12,307
11,710
11,316Employee retention credit
(1,569)
—
Net occupancy and equipment
1,7432,742
2,5111,743
Professional fees
995975
1,052995
FDIC and other regulatory assessments
426404
256426
Other
4,5594,964
4,4194,559
Total noninterest expense
19,43319,823
19,55419,433
Earnings before income taxes
9,44512,849
9,0599,445
Income tax expense
1,4062,503
1,6051,406
Net earnings
$
8,03910,346
$
7,4548,039
Net earnings per share:
Basic and diluted
$
2.272.95
$
2.092.27
Weighted average shares
 
outstanding:
Basic and diluted
3,545,3103,510,869
3,566,2073,545,310
See accompanying notes to consolidated financial statements
 
 
 
 
 
 
 
 
 
 
 
 
 
8187
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
Year ended December 31
(Dollars in thousands)
20212022
20202021
Net earnings
$
8,03910,346
$
7,4548,039
Other comprehensive (loss) income,loss, net of tax:
Unrealized net holding (loss) gainloss on securities
(6,697)(41,802)
5,617(6,697)
Reclassification adjustment for net gain on securities
 
recognized in net earnings
(11)(9)
(77)(11)
Other comprehensive (loss) incomeloss
(41,811)
(6,708)
5,540
Comprehensive (loss) income
$
1,331(31,465)
$
12,9941,331
See accompanying notes to consolidated financial statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
8288
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders’ Equity
Accumulated
Common
Additional
other
Shares
Common
paid-in
Retained
 
comprehensive
Treasury
 
(Dollars in thousands, except share data)
Outstanding
Stock
capital
earnings
(loss) income
stock
Total
Balance, December 31, 2019
3,566,146
$
39
3,784
101,801
2,059
(9,355)
$
98,328
Net earnings
—
0
0
7,454
0
0
7,454
Other comprehensive income
—
0
0
0
5,540
0
5,540
Cash dividends paid ($
1.02
per share)
—
0
0
(3,638)
0
0
(3,638)
Sale of treasury stock
130
0
5
0
0
1
6
Balance, December 31, 2020
3,566,276
$
39
$
3,789
$
105,617
$
7,599
$
(9,354)
$
107,690
Net earnings
—
0—
0—
8,039
0—
0—
$
8,039
Other comprehensive loss
—
0—
0—
0—
(6,708)
0—
(6,708)
Cash dividends paid ($
1.04
 
per share)
—
0—
0—
(3,682)
0—
0—
(3,682)
Stock repurchases
(45,946)
0—
0—
0—
0—
(1,619)
(1,619)
Sale of treasury stock
155
0—
5
0—
0—
1
6
Balance, December 31, 2021
3,520,485
$
39
$
3,794
$
109,974
$
891
$
(10,972)
$
103,726
Net earnings
—
—
—
10,346
—
—
10,346
Other comprehensive loss
—
—
—
—
(41,811)
—
(41,811)
Cash dividends paid ($
1.06
per share)
—
—
—
(3,720)
—
—
(3,720)
Stock repurchases
(17,183)
—
—
—
—
(504)
(504)
Sale of treasury stock
150
—
3
—
—
1
4
Balance, December 31, 2022
3,503,452
$
39
$
3,797
$
116,600
$
(40,920)
$
(11,475)
$
68,041
See accompanying notes to consolidated financial statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
8389
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Year ended December 31
(In thousands)
20212022
20202021
Cash flows from operating activities:
Net earnings
$
8,03910,346
$
7,4548,039
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Provision for loan losses
(600)1,000
1,100(600)
Depreciation and amortization
1,2441,528
1,6661,244
Premium amortization and discount accretion, net
3,9793,091
2,8623,979
Deferred tax expense (benefit)
686
278
(330)
Net gain on securities available for sale
(15)(12)
(103)(15)
Net gain on sale of loans held for sale
(1,417)(309)
(2,300)(1,417)
Net gain on other real estate owned
0(162)
(52)—
Loans originated for sale
(47,937)(8,850)
(82,726)(47,937)
Proceeds from sale of loans
10,424
50,901
83,138Net gain on disposition of premises and equipment
(3,234)
—
Increase in cash surrender value of bank owned life insurance
(403)(317)
(442)
Income recognized from death benefit on bank-owned life insurance
0
(282)(403)
Net (increase) decrease (increase) in other assets
1,235(2,441)
(2,656)1,235
Net (decrease) increasedecrease in accrued expenses and other liabilities
(2,984)(770)
2,399(2,984)
Net cash provided by operating activities
$
12,32010,980
$
9,72812,320
Cash flows from investing activities:
Proceeds from sales of securities available-for-sale
04,860
21,029—
Proceeds from maturities, paydowns and calls of securities available-for-sale
73,60745,921
62,02173,607
Purchase of securities available-for-sale
(93,106)
(173,243)
(177,686)
Decrease (increase)(Increase) decrease in loans, net
2,883(46,268)
(766)2,883
Net purchases of premises and equipment
(7,049)
(20,175)
(8,355)
Decrease (increase)(Increase) decrease in FHLB stock
267(74)
(9)267
Purchase of New Markets Tax
 
Credit investment
(2,181)—
0(2,181)
Proceeds from bank-owned life insurance death benefitsale of premises and equipment
04,222
694—
Proceeds from sale of other real estate owned
0536
151—
Net cash used in investing activities
$
(118,842)(90,958)
$
(102,921)(118,842)
Cash flows from financing activities:
Net (decrease)increase in noninterest-bearing deposits
(4,761)
70,734
49,180
Net (decrease) increase in interest-bearing deposits
(39,145)
83,717
66,460
Net (decrease) increase in federal funds purchased and securities sold
 
under agreements to repurchase
1,056(897)
1,3231,056
Stock repurchases
(1,619)(504)
0(1,619)
Dividends paid
(3,682)(3,720)
(3,638)(3,682)
Net cash (used in) provided by financing activities
$
150,206(49,027)
$
113,325150,206
Net change in cash and cash equivalents
$
43,684(129,005)
$
20,13243,684
Cash and cash equivalents at beginning of period
112,575156,259
92,443112,575
Cash and cash equivalents at end of period
$
156,25927,254
$
112,575156,259
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest
$
2,5602,341
$
4,0552,560
Income taxes
2,7601,351
1,9562,760
Supplemental disclosure of non-cash transactions:
Real estate acquired through foreclosure
374—
99374
See accompanying notes to consolidated financial statements
8490
AUBURN NATIONAL
 
BANCORPORATION,
 
INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING
 
POLICIES
Nature of Business
Auburn National Bancorporation, Inc. (the “Company”) is a bank holding company
 
whose primary business is conducted
by its wholly-owned subsidiary,
 
AuburnBank (the “Bank”). AuburnBank is a commercial bank located in Auburn,
Alabama. The Bank provides a full range of banking services in its primary market area,
 
Lee County, which includes the
Auburn-Opelika Metropolitan Statistical Area.
Basis of Presentation
The consolidated financial statements include the accounts of the Company and
 
its wholly-owned subsidiaries. Significant
intercompany transactions and accounts are eliminated in consolidation.
COVID-19 Uncertainty
COVID-19 has adversely affected, and may continue to adversely affect
economic activity globally,
nationally and locally.
Following the COVID-19 outbreak in December 2019 and January 2020,
market interest rates declined significantly. The
federal banking agencies encouraged financial institutions to prudently
work with borrowers and passed legislation to
provide relief from reporting loan classifications due to modifications related to the COVID
-19 outbreak. The spread of
COVID-19 has caused us to modify our business practices, including employee travel,
employee work locations, and
cancellation of physical participation in meetings, events and conferences. The rapid
development and fluidity of this
situation precludes any predication as to the ultimate impact of the COVID-19 outbreak.
Nevertheless, the outbreak
presents uncertainty and risk with respect to the Company,
its performance, and its financial results.
Revenue Recognition
 
On January 1, 2018, the Company implemented ASU 2014-09,
 
Revenue from Contracts with Customers
, codified
at
 
ASC
 
606. The Company adopted ASC 606 using the modified retrospective transition
 
method. The majority of the
Company’s revenue stream is generated from
 
interest income on loans and deposits which are outside the scope of ASC
606.
 
The Company’s sources of income that fall
 
within the scope of ASC 606 include service charges on deposits, investment
services, interchange fees and gains and losses on sales of other real estate, all of
which are
presented as components of
noninterest income. The following is a summary of the revenue streams that fall within the
 
scope of ASC 606:
 
Service charges on deposits, investment services, ATM
 
and interchange fees – Fees from these services are either
transaction-based, for which the performance obligations are satisfied
 
when the individual transaction is processed, or set
periodic service charges, for which the performance obligations
 
are satisfied over the period the service is provided.
Transaction-based fees are recognized at the time the transaction
 
is processed, and periodic service charges are recognized
over the service period.
Gains on sales of other real estate
 
–
A gain on sale should be recognized when a contract for sale exists and control of the
asset has been transferred to the buyer. ASC 606
 
lists several criteria required to conclude that a contract for sale exists,
including a determination that the institution will collect substantially all of the consideration
 
to which it is entitled. In
addition to the loan-to-value, the analysis is based on various other factors, including the credit
 
quality of the borrower, the
structure of the loan, and any other factors that may affect collectability.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted
 
accounting principles requires
management to make estimates and assumptions that affect the reported
 
amounts of assets and liabilities and the disclosure
of contingent assets and liabilities as of the balance sheet date and the reported
 
amounts of income and expense during the
reporting period. Actual results could differ from those estimates. Material estimates
 
that are particularly susceptible to
significant change in the near term include the determination of the allowance
 
for loan losses, fair value measurements,
valuation of other real estate owned, and valuation of deferred tax assets.
85
Change in Accounting Estimate
During the fourth quarter of 2019, the Company reassessed its estimate of the useful lives
 
lives of certain fixed assets. The
Company revised its original useful life estimate for certain land improvements, buildings
 
and improvements and furniture,
fixtures and equipment, with a carrying value of $
0.5
 
million at December 31, 2019, to correspond with estimated
demolition dates planned as part of the redevelopment project for its
 
main campus.
 
This is considered a change in
accounting estimate, per ASC 250-10, where adjustments should be made prospectively.
 
The effects of this change in
accounting estimate onfor the year ended December 31, 2021 and 2020 consolidated financial statements, respectively,
was a decrease in net earnings
of
$
29
 
thousand, or $
0.01
 
per share and $
342
thousand, or $
0.10
per share.
91
Reclassifications
 
Certain amounts reported in the prior period have been reclassified to conform to the current
 
current-period-period presentation. These
reclassifications had no impact on the Company’s
 
previously reported net earnings or total stockholders’ equity.
Subsequent Events
 
The Company has evaluated the effects of events or transactions through
 
the date of this filing that have occurred
subsequent to December 31, 2021.2022. The Company does not believe there are
 
any material subsequent events that would
require further recognition or disclosure.
Accounting Standards Adopted in 20212022
In 2021,2022, the Company did not adopt any new accounting guidance.
Issued not yet effective accounting standards
The following ASUs have been issued by the FASB
but are not yet effective.
●
ASU 2016-13,
Financial Instruments – Credit Losses (Topic
326):
Measurement of Credit Losses on Financial
Instruments; and
●
ASU 2022-02,
Financial Instruments – Credit Losses (Topic
326):
Troubled Debt
Restructurings and Vintage
Disclosures.
Information about these pronouncements are described in more detail below.
ASU 2016-13,
Financial Instruments - Credit Losses (Topic
326): Measurement of Credit
Losses on Financial Instruments
,
amends guidance on reporting credit losses for assets held at amortized cost basis and available
for sale debt securities. For
assets held at amortized cost basis, the new standard eliminates the probable initial recognition
threshold incurrent GAAP
and, instead, requires an entity to reflect its current estimate of all expected credit losses
using a broader range of
information regarding past events, current conditions and forecasts assessing the collectability
of cash flows. The allowance
for credit losses is a valuation account that is deducted from the amortized cost basis of
the financial assets to present the
net amount expected to be collected. For available for sale debt securities, credit losses
should be measured in a manner
similar to current GAAP,
however the new standard will require that credit losses be presented as an allowance
rather than
as a write-down. The new guidance affects entities holding financial assets
and net investment in leases that are not
accounted for at fair value through net income. The amendments affect
loans, debt securities, trade receivables, net
investments in leases, off-balance sheet credit exposures, reinsurance receivables,
and any other financial assets not
excluded from the scope that have the contractual right to receive cash. For public
business entities, the new guidance was
originally effective for annual and interim periods in fiscal years
beginning after December 15, 2019. On October 16, 2019,
the FASB approved
a previously issued proposal granting smaller reporting companies a postponement of the required
implementation date for ASU 2016-13. This standard became effective
for the Company on January 1, 2023.
The Company adopted ASU 2016-13 in the first quarter of 2023 and will apply the standard’s
provisions as a cumulative-
effect adjustment to retained earnings as of the beginning of the first reporting
period in which the guidance is effective.
The Company is finalizing implementation efforts through its
implementation team.
The team has worked with an advisory
consultant and has finalized and documented the methodologies that will be utilized.
The team is currently finalizing
controls, processes, policies and disclosures and has completed full end-to-end
parallel runs.
Based on the Company’s
portfolio composition as of December 31, 2022, and current expectations of future economic
conditions, the reserve for
credit losses is expected to increase from
1.14
% as a percentage of total loans at December 31, 2022 to a range between
1.32
% and
1.36
% of total loans upon adoption of this standard, primarily resulting from the impact of adjusting
from the
incurred loss model to the expected loss model, which provides for expected
credit losses over the life of the loan portfolio.
The Company does not expect to record an allowance for available-for-sale
securities as the investment portfolio consists
primarily of debt securities explicitly or implicitly backed by the U.S. Government
for which credit risk is deemed minimal.
The impact of ASU 2016-13 is not expected to have a material impact on the allowance
for unfunded commitments.
The
Company continues to finalize its day-one adjustment and
will record the after-tax impact as a cumulative-effect adjustment
to retained earnings as of January 1, 2023.
This estimate is subject to change as key assumptions are refined.
The impact
going forward will depend on the composition, characteristics, and credit quality of the loan
and securities portfolios as
well as the economic conditions at future reporting periods.
92
ASU 2022-02
Financial Instruments - Credit Losses (Topic
326): Troubled
Debt Restructurings and Vintage
Disclosures
,
eliminates the accounting guidance for troubled debt restructurings (“TDRs”),
while enhancing disclosure requirements for
certain loan refinancings and restructurings by creditors when a borrower is experiencing
financial difficulty.
The new
standard is effective for fiscal years, and interim periods within those
fiscal years, beginning after December 15, 2022. The
new standard is not expected to have a material impact on the Company’s
consolidated financial statements.
Cash Equivalents
Cash equivalents include cash on hand, cash items in process of collection, amounts due
 
from banks, including interest
bearing deposits with other banks, and federal funds sold.
Securities
Securities are classified based on management’s
 
intention at the date of purchase. At December 31, 2021,2022, all
of the
Company’s securities were classified
 
as available-for-sale. Securities available-for-sale are
 
used as part of the Company’s
interest rate risk management strategy,
 
and they may be sold in response to changes in interest rates, changes in prepayment
risks or other factors. All securities classified as available-for-sale are recorded
 
at fair value with any unrealized gains and
losses reported in accumulated other comprehensive income (loss), net of the deferred
 
income tax effects. Interest and
dividends on securities, including the amortization of premiums and accretion
of discounts
are recognized in interest
income using the effective interest method.
 
Premiums are amortized to the earliest call date while discounts are accreted
over the estimated life of the security.
 
Realized gains and losses from the sale of securities are determined using the
specific identification method.
 
On a quarterly basis, management makes an assessment to determine
 
whether there have been events or economic
circumstances to indicate that a security on which there is an unrealized loss is other-than-temporarilyother-than-tempor
 
arily impaired.
 
For debt securities with an unrealized loss, an other-than-temporary
 
impairment write-down is triggered when (1) the
Company has the intent to sell a debt security,
 
(2) it is more likely than not that the Company will be required to sell the
debt security before recovery of its amortized cost basis, or (3) the Company does not expect
 
not expect to recover the entire amortized
cost basis of the debt security.
 
If the Company has the intent to sell a debt security or if it is more likely than not that it
will
be required to sell the debt security before recovery,
 
the other-than-temporary write-down is equal to the entire difference
between the debt security’s amortized cost
 
and its fair value.
 
If the Company does not intend to sell the security or it is not
more likely than not that it will be required to sell the security before recovery,
 
the other-than-temporary impairment write-
down is separated into the amount that is credit related (credit loss component) and the amount due to
all other
factors.
 
The
credit loss component is recognized in earnings, as a realized loss in securities gains (losses),
 
and is the difference between
the security’s amortized cost basis and the present
 
value of its expected future cash flows.
 
The remaining difference
between the security’s fair value and the present
 
value of future expected cash flows is due to factors that are not credit
related and is recognized in other comprehensive income, net of applicable
taxes.
86
Loans held for sale
Loans originated and intended for sale in the secondary market are carried at the lower of
 
cost or estimated fair value in the
aggregate.
 
Loan sales are recognized when the transaction closes, the proceeds are
 
are collected, and ownership is transferred.
 
Continuing involvement, through the sales agreement, consists of the right to service the loan
 
for a fee for the life of the
loan, if applicable.
 
Gains on the sale of loans held for sale are recorded net of related costs, such as commissions,
and
reflected as a component of mortgage lending income in the consolidated statements
 
statements of earnings.
 
In the course of conducting the Bank’s mortgage lending
 
mortgage lending activities of originating mortgage loans and selling those loans in
the secondary market, the Bank makes various representations and
 
warranties to the purchaser of the mortgage loans.
 
Every loan closed by the Bank’s mortgage
 
center is run through a government agency automated underwriting system.
 
Any exceptions noted during this process are remedied prior to sale.
 
These representations and warranties also apply to
underwriting the real estate appraisal opinion of value for the collateral securing these
loans.
 
Failure by the Company to
comply with the underwriting and/or appraisal standards could result in the Company
 
being required to repurchase the
mortgage loan or to reimburse the investor for losses incurred (make whole requests) if
 
if such failure cannot be cured by the
Company within the specified period following discovery.
93
Loans
Loans are reported at their outstanding principal balances, net of any unearned
 
income, charge-offs, and any deferred fees
or costs on originated loans.
 
Interest income is accrued based on the principal balance outstanding.
 
Loan origination fees,
net of certain loan origination costs, are deferred and recognized in interest income over the
 
contractual life of the loan
using the effective interest method. Loan commitment fees are
 
generally deferred and amortized on a straight-line basis
over the commitment period, which results in a recorded amount that approximates fair
 
fair value.
The accrual of interest on loans is discontinued when there is a significant deterioration in
 
in the financial condition of the
borrower and full repayment of principal and interest is not expected or the principal or
 
or interest is more than 90 days past
due, unless the loan is both well-collateralized and in the process of collection. Generally,
 
all interest accrued but not
collected for loans that are placed on nonaccrual status is reversed against current
 
interest income. Interest collections on
nonaccrual loans are generally applied as principal reductions. The Company determines
 
past due or delinquency status of a
loan based on contractual payment terms.
A loan is considered impaired when it is probable the Company will be unable to collect all
 
principal and interest payments
due according to the contractual terms of the loan agreement. Individually identified impaired
 
impaired loans are measured based on
the present value of expected payments using the loan’s
 
original effective rate as the discount rate, the loan’s
 
observable
market price, or the fair value of the collateral if the loan is collateral dependent.
If the recorded
investment in the impaired
loan exceeds the measure of fair value, a valuation allowance may be established as part of
 
the allowance for loan losses.
Changes to the valuation allowance are recorded as a component of the provision for loan
 
losses.
Impaired loans also include troubled debt restructurings (“TDRs”). In the normal
 
course of business, management may
grant concessions to borrowers who are experiencing financial difficulty.
 
The concessions granted most frequently for
TDRs involve reductions or delays in required payments of principal and interest
 
for a specified time, the rescheduling of
payments in accordance with a bankruptcy plan or the charge-off
 
of a portion of the loan. In most cases, the conditions of
the credit also warrant nonaccrual status, even after the restructuring occurs.
 
As part of the credit approval process, the
restructured loans are evaluated for adequate collateral protection in determining
 
the appropriate accrual status at the time
of restructuring. TDR loans may be returned to accrual status if there has been at least a six-month
 
sustained period of
repayment performance by the borrower.
The Company began offeringoffered short-term loan modifications to assist borrowers during
 
during the COVID-19 pandemic.
 
If the
modification meets certain conditions, the modification does not need to be
 
accounted for as a TDR.
 
For more information,
please refer to Note 5, Loans and Allowance for Loan Losses.
87
Allowance for Loan Losses
The allowance for loan losses is maintained at a level that management believes is adequate
 
is adequate to absorb probable losses
inherent in the loan portfolio. Loan losses are charged against the allowance
 
when they are known. Subsequent recoveries
are credited to the allowance. Management’s
 
determination of the adequacy of the allowance is based on an evaluation
of
the portfolio, current economic conditions, growth, composition of the loan portfolio,
 
homogeneous pools of loans, risk
ratings of specific loans, historical loan loss factors, identified impaired loans and
 
other factors related to the portfolio. This
evaluation is performed quarterly and is inherently subjective, as it requires various
 
various material estimates that are susceptible
to significant change, including the amounts and timing of future cash flows expected
 
to be received on any impaired loans.
In addition, regulatory agencies, as an integral part of their examination process,
 
will periodically review the Company’s
allowance for loan losses, and may require the Company to record additions to the allowance
 
based on their judgment about
information available to them at the time of their examinations.
Premises and Equipment
Land is carried at cost. Land improvements, buildings and improvements, and furniture,
 
fixtures, and equipment are carried
at cost, less accumulated depreciation computed on a straight-line method over the
 
useful lives of the assets or the expected
terms of the leases, if shorter. Expected terms include
 
terms include lease option periods to the extent that the exercise of such options is
reasonably assured.
 
94
Nonmarketable equity investments
Nonmarketable equity investments include equity securities that are not publicly traded
 
and securities acquired for various
purposes. The Bank is required to maintain certain minimum levels of equity investments
 
with certain regulatory and other
entities in which the Bank has an ongoing business relationship based on the Bank’s
 
common stock and surplus (with
regard to the relationship with the Federal Reserve Bank) or outstanding borrowings (with
 
regard to the relationship with
the Federal Home Loan Bank of Atlanta). These nonmarketable equity securities
 
are accounted for at cost which equals par
or redemption value. These securities do not have a readily determinable fair value as their
 
their ownership is restricted and there
is no market for these securities. These securities can only be redeemed or sold
 
at their par value and only to the respective
issuing government supported institution or to another member institution. The
 
institution. The Company records these nonmarketable
equity securities as a component of other assets, which are periodically evaluated for
 
impairment. Management considers
these nonmarketable equity securities to be long-term investments.
 
Accordingly, when evaluating these
 
securities for
impairment, management considers the ultimate recoverability of the par
 
value rather than by recognizing temporary
declines in value.
 
Mortgage Servicing Rights
The Company recognizes as assets the rights to service mortgage loans for others, known as
 
MSRs. The Company
determines the fair value of MSRs at the date the loan is transferred.
 
An estimate of the Company’s MSRs is determined
using assumptions that market participants would use in estimating future
 
net servicing income, including estimates of
prepayment speeds, discount rate, default rates, cost to service, escrow account earnings,
 
contractual servicing fee income,
ancillary income, and late fees.
 
Subsequent to the date of transfer, the Company
 
has elected to measure its MSRs under the amortization method.
 
Under
the amortization method, MSRs are amortized in proportion to, and over the period
 
of, estimated net servicing income.
 
The
amortization of MSRs is analyzed monthly and is adjusted to reflect changes in prepayment
 
speeds, as well as other factors.
 
MSRs are evaluated for impairment based on the fair value of those assets.
 
Impairment is determined by stratifying MSRs
into groupings based on predominant risk characteristics, such as interest rate and loan type.
 
If, by individual stratum, the
carrying amount of the MSRs exceeds fair value, a valuation allowance is established
 
through a charge to earnings.
 
The
valuation allowance is adjusted as the fair value changes.
 
MSRs are included in the other assets category in the
accompanying consolidated balance sheets.
 
88
Transfers of Financial
Assets
Transfers of an entire financial asset (i.e. loan sales), a group
 
of entire financial assets, or a participating interest in an entire
financial asset (i.e. loan participations sold) are accounted for as sales
when control
over the assets have 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 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.
 
Subsequent to the date of transfer, the Company
 
has elected to measure its retained rights to service the sold mortgage
loans, or MSRs, under the amortization method.
 
Under
the amortization method, MSRs are amortized in proportion to, and
over
the period of, estimated net servicing income.
 
The
amortization of MSRs is analyzed monthly and is adjusted to
reflect changes in prepayment
speeds, as well as other factors.
 
MSRs are evaluated for impairment based on the fair value
of those assets.
 
Impairment is determined by stratifying MSRs
into groupings based on predominant
risk characteristics,
such as interest rate and loan type.
 
If, by individual stratum, the
carrying amount of the MSRs exceeds fair value,
a
valuation allowance is established
through a charge to earnings.
 
The
valuation allowance is adjusted as the fair value
changes.
 
MSRs are included in the other assets category in the
accompanying consolidated
balance sheets.
 
Securities sold under agreements to repurchase
 
Securities sold under agreements to repurchase generally mature less than one
 
year from the transaction date. Securities
sold under agreements to repurchase are reflected as a secured borrowing in the accompanying consolidated
 
balance sheets
at the amount of cash received in connection with each transaction.
 
95
Income Taxes
 
Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences
 
between carrying
amounts and tax bases of assets and liabilities, computed using enacted tax rates. A
 
A valuation allowance, if needed, reduces
deferred tax assets to the amount expected to be realized.
 
The net deferred tax asset is reflected as a component of other
assets in the accompanying consolidated balance sheets.
Income tax expense or benefit for the year is allocated among continuing operations and other
 
comprehensive income
(loss), as applicable. The amount allocated to continuing operations is the income tax effect
 
of the pretax income or loss
from continuing operations that occurred during the year,
 
plus or minus income tax effects of (1) changes in certain
circumstances that cause a change in judgment about
the realization of deferred tax assets in future
years, (2) changes in
income tax laws or rates, and (3) changes in income tax status, subject to certain exceptions.
 
The amount allocated to other
comprehensive income (loss) is related solely to changes in the valuation allowance on items
 
that are normally accounted
for in other comprehensive income (loss) such as unrealized gains or losses on availableavailable-for
 
-for-sale-sale securities.
In accordance with ASC 740,
Income Taxes
, a tax position is recognized as a benefit only if it is “more likely than not” that
the tax position would be sustained in a tax examination, with a tax examination being presumed
 
to occur. The amount
recognized is the largest amount of tax benefit that is greater than 50% likely of
 
being realized on examination. For tax
positions not meeting the “more likely than not” test, no tax benefit is recorded.
 
It is the Company’s policy to recognize
interest and penalties related to income tax matters in income tax expense. The Company and
 
its wholly-owned subsidiaries
file a consolidated income tax return
.
 
Fair Value Measureme
ntsMeasurements
 
ASC 820,
Fair Value
 
Measurements,
which defines fair value, establishes a framework for measuring fair value in U.S.
generally accepted accounting principles and expands disclosures about fair value
 
measurements. ASC 820 applies only to
fair-value measurements that are already required or
 
permitted by other accounting standards.
 
The definition of fair value
focuses on the exit price, i.e., the price that would be received to sell an asset or paid to transfer a liability
 
in an orderly
transaction between market participants at the measurement date,
 
date, not the entry price, i.e., the price that would be paid to
acquire the asset or received to assume the liability at the measurement date. The statement
 
emphasizes that fair value is a
market-based measurement; not an entity-specific measurement. Therefore,
 
the fair value measurement should be
determined based on the assumptions that market participants would use in pricing
 
the asset or liability.
 
For more
information related to fair value measurements, please refer to Note 14, Fair
 
Value.
89
NOTE 2: BASIC AND DILUTED NET EARNINGS PER SHARE
Basic net earnings per share is computed by dividing net earnings by the weighted average
 
common shares outstanding for
the year.
 
Diluted net earnings per share reflect the potential dilution that could occur upon
 
exercise of securities or other
rights for, or convertible into, shares of the Company’s
 
common stock.
 
As of December 31, 20212022 and 2020,2021, respectively,
the Company had no such securities or other rights issued or outstanding, and therefore,
 
no dilutive effect to consider for
the diluted net earnings per share calculation.
 
The basic and diluted net earnings per share computations for the respective
years are
presented below.
 
Year ended December 31
(Dollars in thousands, except share and per share data)
20212022
20202021
Basic and diluted:
Net earnings
$
8,03910,346
$
7,4548,039
Weighted average common
 
shares outstanding
3,545,3103,510,869
3,566,2073,545,310
Net earnings per share
$
2.272.95
$
2.092.27
NOTE 3: VARIABLE
 
INTEREST ENTITIES
Generally, a variable interest entity (“VIE”)
 
is a corporation, partnership, trust or other legal structure that does not have
equity investors with substantive or proportional voting rights or has equity investors
 
that do not provide sufficient financial
resources for the entity to support its activities.
 
At December 31, 2021, the Company did not have any consolidated VIEs to
disclose but did have one nonconsolidated
VIE, discussed below.
New Markets Tax
Credit Investment
The New Markets Tax Credit
(“NMTC”) program provides federal tax incentives to investors to make investments in
distressed communities and promotes economic improvement through the development
of successful businesses in these
communities.
The NMTC is available to investors over seven years and is subject to recapture if certain events occur
during such period.
At December 31, 2021, the Company had one such investment in the amount of $2.2 million,
which
was included in other assets in the consolidated balance sheets, compared
to none at December 31, 2020.
The Company’s
equity investment meets the definition of a VIE. While the Company’s
investment exceeds 50% of the outstanding equity
interests, the Company does not consolidate the VIE because it does not
meet the characteristics of a primary beneficiary
since the Company lacks the power to direct the activities of the VIE.
(Dollars in thousands)
Maximum
Loss Exposure
Asset Recognized
Classification
Type:
New Markets Tax Credit investment
$
2,176
$
2,176
Other assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
9096
At December 31, 2022, the Company did not have any consolidated VIEs to
disclose but did have one nonconsolidated
VIE, discussed below.
New Markets Tax
Credit Investment
The New Markets Tax Credit
(“NMTC”) program provides federal tax incentives to investors to make investments
in
distressed communities and promotes economic improvement through the development
of successful businesses in these
communities.
The NMTC is available to investors over seven years and is subject to recapture if certain
events occur
during such period.
The Company had one investment with a balance of
$2.1 million and $2.2 million at December 31,
2022 and 2021, respectively, and
is included in other assets in the consolidated balance sheets.
The Company’s equity
investment meets the definition of a VIE. While the Company’s
investment exceeds 50% of the outstanding equity
interests, the Company does not consolidate the VIE because it does not
meet the characteristics of a primary beneficiary
since the Company lacks the power to direct the activities of the VIE.
(Dollars in thousands)
Maximum
Loss Exposure
Asset Recognized
Classification
Type:
New Markets Tax Credit investment
$
2,110
$
2,110
Other assets
NOTE 4: SECURITIES
At December 31, 20212022 and 2020,2021, respectively,
 
all securities within the scope of ASC 320,
Investments – Debt and Equity
Securities
were classified as available-for-sale.
 
The fair value and amortized cost for securities available-for-sale by
contractual maturity at December 31, 20212022 and 2020,2021, respectively,
 
are presented below.
 
1 year
1 to 5
5 to 10
After 10
Fair
Gross Unrealized
Amortized
(Dollars in thousands)
or less
years
years
years
Value
Gains
Losses
Cost
December 31, 2022
Agency obligations (a)
$
4,935
50,746
69,936
—
125,617
—
15,826
$
141,443
Agency MBS (a)
—
7,130
27,153
183,877
218,160
—
33,146
251,306
State and political subdivisions
300
642
15,130
45,455
61,527
11
5,681
67,197
Total available-for-sale
$
5,235
58,518
112,219
229,332
405,304
11
54,653
$
459,946
December 31, 2021
Agency obligations (a)
$
5,007
49,604
69,802
0—
124,413
1,080
2,079
$
125,412
Agency MBS (a)
0—
680
35,855
186,836
223,371
1,527
2,680
224,524
State and political subdivisions
170
647
15,743
57,547
74,107
3,611
270
70,766
Total available-for-sale
$
5,177
50,931
121,400
244,383
421,891
6,218
5,029
$
420,702
December 31, 2020
Agency obligations (a)
$
5,048
24,834
55,367
12,199
97,448
3,156
98
$
94,390
Agency MBS (a)
0
1,154
20,502
141,814
163,470
3,245
133
160,358
State and political subdivisions
477
632
8,405
64,745
74,259
3,988
11
70,282
Total available-for-sale
$
5,525
26,620
84,274
218,758
335,177
10,389
242
$
325,030
(a) Includes securities issued by U.S. government agencies or government sponsored
 
entities.
 
Expected maturitieslives of
these securities may differ from contractual maturities because issues
 
may have the right to call or repay obligations
with or without prepayment penalties.
Securities with aggregate fair values of $
172.3208.3
 
million and $
166.9172.3
 
million at December 31, 20212022 and 2020,2021, respectively,
were pledged to secure public deposits, securities sold under agreements to repurchase,
 
Federal Home Loan Bank
(“FHLB”)FHLB advances, and for other
purposes required or permitted by law.
 
Included in other assets on the accompanying consolidated balance sheets are nonmarketable
 
equity investments.
 
The
carrying amounts of nonmarketable equity investments were $
1.2
 
million and $
1.4
million at December 31, 2022 and 2021, and 2020,
respectively.
 
Nonmarketable equity investments include FHLB of Atlanta stock,
Federal Reserve Bank (“FRB”)
stock, and
stock in a privately held financial
institution.
97
Gross Unrealized Losses and Fair Value
The fair values and gross unrealized losses on securities at December 31,
 
20212022 and 2020,2021, respectively, segregated
 
by those
securities that have been in an unrealized loss position for less than 12 months and 12
 
months or more are presented below.
Less than 12 Months
12 Months or Longer
Total
Fair
Unrealized
Fair
Unrealized
Fair
Unrealized
(Dollars in thousands)
Value
Losses
Value
Losses
Value
Losses
December 31, 2022:
Agency obligations
$
55,931
4,161
69,687
11,665
125,618
$
15,826
Agency MBS
70,293
5,842
147,867
27,304
218,160
33,146
State and political subdivisions
44,777
2,176
13,043
3,505
57,820
5,681
Total
$
171,001
12,179
230,597
42,474
401,598
$
54,653
December 31, 2021:
Agency obligations
 
$
49,799
1,025
26,412
1,054
76,211
$
2,079
Agency MBS
130,110
1,555
38,611
1,125
168,721
2,680
State and political subdivisions
7,960
109
3,114
161
11,074
270
Total
 
$
187,869
2,689
68,137
2,340
256,006
$
5,029
December 31, 2020:
Agency obligations
$
15,416
98
0
0
15,416
$
98
Agency MBS
41,488
133
0
0
41,488
133
State and political subdivisions
2,945
11
0
0
2,945
11
Total
$
59,849
242
0
0
59,849
$
242
For the securities in the previous table, the Company does not have the intent to sell and has determined it is
 
not more likely
than not that the Company will be required to sell the security before recovery of the
 
amortized cost basis, which may be
maturity. On a quarterly basis,
 
the Company assesses each security for credit impairment. For debt securities, the
 
Company
evaluates, where necessary,
 
whether credit impairment exists by comparing the present value of the expected cash
 
flows to
the securities’ amortized cost basis.
91
In determining whether a loss is temporary,
 
the Company considers all relevant information including:
 
●
the length of time and the extent to which the fair value has been less than the amortized
 
cost basis;
 
●
adverse conditions specifically related to the security,
 
an industry, or a geographic area
 
(for example, changes in
the financial condition of the issuer of the security,
 
or in the case of an asset-backed debt security,
 
in the financial
condition of the underlying loan obligors, including changes in technology or the discontinuance of
 
of a segment of
the business that may affect the future earnings potential of the issuer or
 
underlying loan obligors of the security or
changes in the quality of the credit enhancement);
●
the historical and implied volatility of the fair value of the security;
 
●
the payment structure of the debt security and the likelihood of the issuer being able to
make payments
that
increase in the future;
 
●
failure of the issuer of the security to make scheduled interest or principal payments;
 
●
any changes to the rating of the security by a rating agency; and
●
recoveries or additional declines in fair value subsequent to the balance sheet date.
Agency obligations
 
The unrealized losses associated with agency obligations were primarily driven by changes
 
changes in market interest rates and not
due to
the credit quality of the securities. These securities were issued by U.S. government
 
agencies or government-sponsoredgovernment-
sponsored entities and did not have any credit losses given the explicit government guarantee
 
or other government support.
Agency mortgage-backed securities (“MBS”)
 
The unrealized losses associated with agency MBS were primarily driven by changes
 
in market interest rates and not due to the
the credit quality of the securities. These securities were issued by U.S. government agencies
 
or government-sponsored entities
entities and did not have any credit losses given the explicit government guarantee
or other government
support.
 
98
Securities of U.S. states and political subdivisions
 
The unrealized losses associated with securities of U.S. states and political subdivisions
 
were primarily driven by changes
in market interest rates and were not due to the credit quality of the securities. Some of these securities
 
securities are guaranteed by a bond
bond insurer, but management did not rely on the guarantee
 
in making its investment decision. These securities will continue
to
continue to be monitored as part of the Company’s quarterly
 
quarterly impairment analysis, but are expected to perform even if the rating
rating agencies reduce the credit rating of the bond insurers. As a result, the Company expects to
 
recover the entire
amortized cost
basis of these securities.
 
The carrying values of the Company’s investment
 
securities could decline in the future if the financial condition of an
issuer deteriorates and the Company determines it is probable that it will not recover the entire
 
amortized cost basis for the
security. As a result, there is a risk that other-than-temporary
 
impairment charges may occur in the future.
Other-Than-Temporarily
 
Impaired Securities
Credit-impaired debt securities are debt securities where the Company
 
has written down the amortized cost basis of a
security for other-than-temporary impairment and the credit
 
component of the loss is recognized in earnings. At
December 31, 20212022 and 2020,2021, respectively,
 
the Company had no credit-impaired debt securities and there were no additions
or reductions in the credit loss component of credit-impaired debt securities during the
 
years ended December 31, 20212022 and
2020,2021, respectively.
92
Realized Gains and Losses
 
The following table presents the gross realized gains and losses on sales related to securities.
Year ended December 31
(Dollars in thousands)
20212022
20202021
Gross realized gains
$
1548
18415
Gross realized losses
0(36)
(81)—
Realized gains, net
$
1512
10315
NOTE 5: LOANS AND ALLOWANCE
 
FOR LOAN LOSSES
 
December 31
(In thousands)
20212022
20202021
Commercial and industrial
$
83,97766,179
$
82,58583,977
Construction and land development
32,43266,479
33,51432,432
Commercial real estate:
Owner occupied
63,37561,265
54,03363,375
Hotel/motel
43,85633,457
42,90043,856
Multifamily
42,58741,181
40,20342,587
Other
108,553129,278
118,000108,553
Total commercial real estate
258,371265,181
255,136258,371
Residential real estate:
Consumer mortgage
29,78145,410
35,02729,781
Investment property
47,88052,325
49,12747,880
Total residential real estate
77,66197,735
84,15477,661
Consumer installment
6,6829,546
7,0996,682
Total loans
459,123505,120
462,488459,123
Less: unearned income
(759)(662)
(788)(759)
Loans, net of unearned income
$
458,364504,458
$
461,700458,364
Loans secured by real estate were approximately
80.385.0
% of the total loan portfolio at December 31, 2021.2022.
 
At December 31,
2021,2022, the Company’s geographic loan
 
distribution was concentrated primarily in Lee County,
 
Alabama and surrounding
areas.
99
In accordance with ASC 310,
Receivables
, a portfolio segment is defined as the level at which an entity develops and
documents a systematic method for determining its allowance for loan losses.
 
As part of the Company’s quarterly
assessment of the allowance, the loan portfolio is disaggregated into the
 
following portfolio segments:
 
commercial and
industrial, construction and land development, commercial real estate, residential real
 
estate and consumer installment.
Where appropriate, the Company’s loan portfolio
 
segments are further disaggregated into classes. A class is generally
determined based on the initial measurement attribute, risk characteristics of the loan, and
 
and an entity’s method for
monitoring and determining credit risk.
The following describe the risk characteristics relevant to each of the portfolio segments
 
and classes.
Commercial and industrial (“C&I”) —
includes loans to finance business operations, equipment purchases, or
 
other needs
for small and medium-sized commercial customers. Also included
 
in this category are loans to finance agricultural
production.
 
Generally, the primary source of repayment
 
is the cash flow from business operations and activities of the
borrower.
 
We are
were a participating lender
in the PPP.
 
PPP loans are forgivable in whole or in part, if the proceeds are used
for payroll and other permitted purposes in accordance with the requirements of the PPP.
 
As of December 31, 2021,2022, the
Company hashad
one
PPP loan with an aggregate outstanding principal balance of $
0.1
million included in this category.
The
Company had
138
 
PPP loans with an aggregate outstanding principal balance of $
8.1
 
million included in this category.
The
Company had
265
PPP loans with an aggregate outstanding principal balance of $
19.0
million included in this category at
December 31, 2020.2021.
 
93
Construction and land development (“C&D”) —
includes both loans and credit lines for the purpose of purchasing,
carrying and developing land into commercial developments or residential subdivisions.
 
Also included are loans and lines
for construction of residential, multi-family and commercial buildings. Generally the primary
 
source of repayment is
dependent upon the sale or refinance of the real estate collateral.
Commercial real estate
 
(“CRE”) —
includes loans disaggregated into three classes: (1) owner occupied (2)
 
multi-family
and (3) other.
 
 
Owner occupied
 
– includes loans secured by business facilities to finance business operations, equipment and
 
owner-occupied facilities primarily for small and medium-sized commercial customers.
 
Generally the primary source
 
of repayment is the cash flow from business operations and activities of the borrower,
 
who owns the property.
 
 
Hotel/motel
– includes loans for hotels and motels.
 
Generally, the primary source
 
of repayment is dependent upon
 
income generated from the real estate collateral.
 
The underwriting of these loans takes into consideration the
 
 
occupancy and rental rates, as well as the financial health of the borrower.
 
Multifamily
 
– primarily includes loans to finance income-producing multi-family properties. Loans in this class
 
class include
 
loans for 5 or more unit residential property and apartments leased to residents. Generally,
 
the primary source of
 
repayment is dependent upon income generated from the real estate collateral. The
 
The underwriting of these loans takes
 
into consideration the occupancy and rental rates, as well as the financial health of the
borrower.
 
Other
 
– primarily includes loans to finance income-producing commercial properties.
Loans in this class include
 
include loans
 
for neighborhood retail centers, hotels, medical and professional offices, singlesing
 
le retail stores, industrial buildings, and
 
warehouses leased generally to local businesses and residents. Generally,
 
the
primary source of repayment is dependent
 
upon income generated from the real estate collateral. The underwriting of these loans takes into consideration
 
the
 
occupancy and rental rates as well as the financial health of the borrower.
 
Residential real estate (“RRE”) —
includes loans disaggregated into two classes: (1) consumer mortgage and (2)
investment property.
 
Consumer mortgage
 
– primarily includes first or second lien mortgages and home equity lines to consumers
 
that are
 
secured by a primary residence or second home. These loans are underwritten in accordance
 
with the Bank’s general
 
loan policies and procedures which require, among other things, proper documentation of each borrower’s
 
financial
 
condition, satisfactory credit history and property value.
 
Investment property
 
– primarily includes loans to finance income-producing 1-4 family residential properties.
 
Generally,
the primary source of repayment is dependent
upon income generated from leasing the property
securing the
 
loan. The underwriting of these loans takes into consideration the rental rates as well as
 
well as the financial health of the
 
borrower.
Consumer installment —
includes loans to individuals both secured by personal property and unsecured.
Loans include
personal lines of credit, automobile loans, and other retail loans.
These loans are underwritten in accordance with the
Bank’s general loan policies and procedures
which require, among other things, proper documentation of each borrower’s
financial condition, satisfactory credit history,
and if applicable, property value.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
94100
Consumer installment —
includes loans to individuals both secured by personal property and unsecured.
Loans include
personal lines of credit, automobile loans, and other retail loans.
These loans are underwritten in accordance with the
Bank’s general loan policies and procedures
which require, among other things, proper documentation of each borrower’s
financial condition, satisfactory credit history,
and if applicable, property value.
The following is a summary of current, accruing past due and nonaccrual loans by portfolio
 
class as of December 31, 20212022
and 2020.2021.
 
Accruing
Accruing
Total
30-89 Days
Greater than
Accruing
Non-
Total
 
(In thousands)
Current
Past Due
90 days
Loans
Accrual
Loans
December 31, 2022:
Commercial and industrial
$
65,731
5
—
65,736
443
$
66,179
Construction and land development
66,479
—
—
66,479
—
66,479
Commercial real estate:
Owner occupied
61,265
—
—
61,265
—
61,265
Hotel/motel
33,457
—
—
33,457
—
33,457
Multifamily
41,181
—
—
41,181
—
41,181
Other
127,162
—
—
127,162
2,116
129,278
Total commercial real estate
263,065
—
—
263,065
2,116
265,181
Residential real estate:
Consumer mortgage
45,200
38
—
45,238
172
45,410
Investment property
52,325
—
—
52,325
—
52,325
Total residential real estate
97,525
38
—
97,563
172
97,735
Consumer installment
9,506
40
—
9,546
—
9,546
Total
$
502,306
83
—
502,389
2,731
$
505,120
December 31, 2021:
Commercial and industrial
$
83,974
3
0—
83,977
0—
$
83,977
Construction and land development
32,228
204
0—
32,432
0—
32,432
Commercial real estate:
Owner occupied
63,375
0—
0—
63,375
0—
63,375
Hotel/motel
43,856
0—
0—
43,856
0—
43,856
Multifamily
42,587
0—
0—
42,587
0—
42,587
Other
108,366
0—
0—
108,366
187
108,553
Total commercial real estate
258,184
0—
0—
258,184
187
258,371
Residential real estate:
Consumer mortgage
29,070
516
0—
29,586
195
29,781
Investment property
47,818
0—
0—
47,818
62
47,880
Total residential real estate
76,888
516
0—
77,404
257
77,661
Consumer installment
6,657
25
0—
6,682
0—
6,682
Total
$
457,931
748
0—
458,679
444
$
459,123
December 31, 2020:
Commercial and industrial
$
82,355
230
0
82,585
0
$
82,585
Construction and land development
33,453
61
0
33,514
0
33,514
Commercial real estate:
Owner occupied
54,033
0
0
54,033
0
54,033
Hotel/motel
42,900
0
0
42,900
0
42,900
Multifamily
40,203
0
0
40,203
0
40,203
Other
117,759
29
0
117,788
212
118,000
Total commercial real estate
254,895
29
0
254,924
212
255,136
Residential real estate:
Consumer mortgage
33,169
1,503
140
34,812
215
35,027
Investment property
49,014
6
0
49,020
107
49,127
Total residential real estate
82,183
1,509
140
83,832
322
84,154
Consumer installment
7,069
29
1
7,099
0
7,099
Total
$
459,955
1,858
141
461,954
534
$
462,488
The gross interest income which would have been recorded under the original terms of those
 
nonaccrual loans had they
been accruing interest, amounted to approximately $
2726
 
thousand and $
2027
 
thousand for the years ended December 31, 20212022
and 2020,2021, respectively.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
95101
Allowance for Loan Losses
The allowance for loan losses as of and for the years ended December 31,
 
20212022 and 2020,2021, is presented below.
 
Year ended December 31
(In thousands)
20212022
20202021
Beginning balance
$
5,6184,939
$
4,3865,618
Charged-off loans
(294)(292)
(45)(294)
Recovery of previously charged-off loans
215118
177215
Net (charge-offs) recoveriescharge-offs
(174)
(79)
132
Provision for loan losses
(600)1,000
1,100(600)
Ending balance
$
4,9395,765
$
5,6184,939
The Company assesses the adequacy of its allowance for loan losses prior
 
to the end of each calendar quarter. The level of
the allowance is based upon management’s
 
evaluation of the loan portfolio, past loan loss experience, current asset quality
trends, known and inherent risks in the portfolio, adverse situations that may affect
 
a borrower’s ability to repay (including
the timing of future payment), the estimated value of any underlying collateral,
 
composition of the loan portfolio, economic
conditions, industry and peer bank loan loss rates and other pertinent factors, including regulatory
 
recommendations. This
evaluation is inherently subjective as it requires material estimates including the amounts
 
and timing of future cash flows
expected to be received on impaired loans that may be susceptible to significant change. Loans are
 
charged off, in whole or
in part, when management believes that the full collectability of the loan is unlikely.
 
A loan may be partially charged-off
after a “confirming event” has occurred which serves to validate that full repayment pursuant
 
to the terms of the loan is
unlikely.
The Company deems loans impaired when, based on current information and events,
 
it is probable that the Company will
be unable to collect all amounts due according to the contractual terms of the loan agreement.
 
Collection of all amounts due
according to the contractual terms means that both the interest and principal payments of
 
a loan will be collected as
scheduled in the loan agreement.
 
An impairment allowance is recognized if the fair value of the loan is less than the recorded
 
investment in the loan. The
impairment is recognized through the allowance. Loans that are impaired are
 
recorded at the present value of expected
future cash flows discounted at the loan’s effective
 
interest rate, or if the loan is collateral dependent, impairment
measurement is based on the fair value of the collateral, less estimated disposal costs.
 
The level of allowance maintained is believed by management to be adequate
 
to absorb probable losses inherent in the
portfolio at the balance sheet date. The allowance is increased by provisions charged
 
to expense and decreased by charge-
offs, net of recoveries of amounts previously charged-off.
 
In assessing the adequacy of the allowance, the Company also considers the results of its
 
ongoing internal, independent
loan review process. The Company’s loan
 
review process assists in determining whether there are loans in the portfolio
whose credit quality has weakened over time and evaluating the risk characteristics of the
 
entire loan portfolio. The
Company’s loan review process includes the judgment
 
of management, the input from our independent loan reviewers, and
reviews that may have been conducted by bank regulatory agencies as part of their examination
 
process. The Company
incorporates loan review results in the determination of whether or not it is probable
 
that it will be able to collect all
amounts due
 
according to the contractual terms of a loan.
 
As part of the Company’s quarterly assessment
 
of the allowance, management divides the loan portfolio into five segments:
commercial and industrial, construction and land development, commercial real estate, residential
 
real estate, and consumer
installment loans. The Company analyzes each segment and estimates an allowance allocation
 
for each loan segment.
 
The allocation of the allowance for loan losses begins with a process of estimating the
 
probable losses inherent for these
types of loans. The estimates for these loans are established by category and based
 
on the Company’s internal system of
credit risk ratings and historical loss data. The estimated loan loss allocation rate for the Company’s
 
internal system of
credit risk grades is based on its experience with similarly graded loans. For
 
loan segments where the Company believes it
does not have sufficient historical loss data, the Company may
 
make adjustments based, in part, on loss rates of peer bank
groups. At December 31, 20212022 and 2020,2021, and for the years then ended, the Company adjusted
 
its historical loss rates for the
commercial real estate portfolio segment based, in part, on loss rates of peer bank groups.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
96102
The estimated loan loss allocation for all five loan portfolio segments is then adjusted for management’s
 
estimate of
probable losses for several “qualitative and environmental” factors. The allocation
 
for qualitative and environmental factors
is particularly subjective and does not lend itself to exact mathematical calculation. This
 
amount represents estimated
probable inherent credit losses which exist, but have not yet been identified,
 
as of the balance sheet date, and are based
upon quarterly trend assessments in delinquent and nonaccrual loans, credit concentration
 
changes, prevailing economic
conditions, changes inbased on lending personnel experience, changes in lending policies or
 
or procedures and other influencing
factors. These qualitative and environmental factors are considered
 
for each of the five loan segments and the allowance
allocation, as determined by the processes noted above, is increased or decreased
 
based on the incremental assessment of
these factors.
The Company regularly re-evaluates its practices in determining the allowance
 
for loan losses. Since the fourth quarter of
2016, the Company has increased its look-back period each quarter to incorporate
 
incorporate the effects of at least one economic
downturn in its loss history. The Company believes
 
believes the extension of its look-back period is appropriate due to the risks
inherent in the loan portfolio. Absent this extension, the early cycle periods in which
 
which the Company experienced significant
losses would be excluded from the determination of the allowance for loan losses and its balance
 
would decrease. For the
year ended December 31, 2021,2022, the Company increased its look-back period to
 
to 5155 quarters to continue to include losses
incurred by the Company beginning with the first quarter of 2009. The
Company will likely continue to increase its look-
back period to incorporate the effects of at least one economic
downturn in its loss history.
During 2020, the Company
adjusted certain qualitative and economic factors related to changes in economic conditions
driven by the impact of the
COVID-19 pandemic and resulting adverse economic conditions, including
higher unemployment in our primary market
area.
 
During 2021, the Company adjusted certain qualitative
and economic factors to reflect
improvements in economic
conditions in our primary market area.
 
Further adjustments may be made in the futuremarket area that had previously been
observed as a result of the ongoing COVID-19 pandemic.
pandemic.No changes were made to qualitative and economic factors during 2022.
The following table details the changes in the allowance for loan losses by portfolio segment
 
for the years ended December
31, 20212022 and 2020.2021.
 
 
(in thousands)
Commercial
and industrial
Construction
and land
Development
Commercial
Real Estate
Residential
Real Estate
Consumer
Installment
Total
Balance, December 31, 2019
$
577
569
2,289
813
138
$
4,386
Charge-offs
(7)
0
0
0
(38)
(45)
Recoveries
94
0
0
63
20
177
Net (charge-offs) recoveries
87
0
0
63
(18)
132
Provision
143
25
880
68
(16)
1,100
Balance, December 31, 2020
$
807
594
3,169
944
104
$
5,618
Charge-offs
0—
0—
(254)
(3)
(37)
(294)
Recoveries
140
0—
0—
55
20
215
Net recoveries (charge-offs)
140
0—
(254)
52
(17)
(79)
Provision
(90)
(76)
(176)
(257)
(1)
(600)
Balance, December 31, 2021
$
857
518
2,739
739
86
$
4,939
Charge-offs
(222)
—
—
—
(70)
(292)
Recoveries
7
—
23
26
62
118
Net (charge-offs) recoveries
(215)
—
23
26
(8)
(174)
Provision
105
431
347
63
54
1,000
Balance, December 31, 2022
$
747
949
3,109
828
132
$
5,765
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
97103
The following table presents an analysis of the allowance for loan losses and recorded
 
investment in loans by portfolio
segment and impairment methodology as of December 31, 20212022 and 2020.2021.
 
Collectively evaluated (1)
Individually evaluated (2)
Total
Allowance
Recorded
Allowance
Recorded
Allowance
Recorded
for loan
investment
for loan
investment
for loan
investment
(In thousands)
losses
in loans
losses
in loans
losses
in loans
December 31, 2022:
Commercial and industrial
$
688
65,736
59
443
747
66,179
Construction and land development
949
66,479
—
—
949
66,479
Commercial real estate
2,663
263,065
446
2,116
3,109
265,181
Residential real estate
828
97,735
—
—
828
97,735
Consumer installment
132
9,546
—
—
132
9,546
Total
$
5,260
502,561
505
2,559
5,765
505,120
December 31, 2021:
Commercial and industrial
$
857
83,977
0—
0—
857
83,977
Construction and land development
518
32,432
0—
0—
518
32,432
Commercial real estate
2,739
258,184
0—
187
2,739
258,371
Residential real estate
739
77,599
0—
62
739
77,661
Consumer installment
86
6,682
0—
0—
86
6,682
Total
$
4,939
458,874
0—
249
4,939
459,123
December 31, 2020:
Commercial and industrial
$
807
82,585
0
0
807
82,585
Construction and land development
594
33,514
0
0
594
33,514
Commercial real estate
3,169
254,924
0
212
3,169
255,136
Residential real estate
944
84,047
0
107
944
84,154
Consumer installment
104
7,099
0
0
104
7,099
Total
$
5,618
462,169
0
319
5,618
462,488
(1) Represents loans collectively evaluated for impairment
 
in accordance with ASC 450-20,
Loss Contingencies
(formerly FAS 5), and pursuant to amendments by ASU 2010-20 regarding allowance for
 
unimpaired loans.
(2) Represents loans individually evaluated for impairment
 
in accordance with ASC 310-30,
Receivables
(formerly
 
FAS 114), and pursuant to amendments by ASU 2010-20 regarding allowance for impaired loans.
Credit Quality Indicators
The credit quality of the loan portfolio is summarized no less frequently than quarterly using categories
 
similar to the
standard asset classification system used by the federal banking agencies.
 
The following table presents credit quality
indicators for the loan portfolio segments and classes. These categories are utilized to develop
 
the associated allowance for
loan losses using historical losses adjusted for qualitative and environmental factors
 
and are defined as follows:
 
●
Pass – loans which are well protected by the current net worth and paying capacity
of the
obligor (or guarantors, if
any) or by the fair value, less cost to acquire and sell, of any underlying collateral.
 
●
Special Mention – loans with potential weakness that may,
 
if not reversed or corrected, weaken the credit or
inadequately protect the Company’s position
 
at some future date. These loans are not adversely classified and do
not expose an institution to sufficient risk to warrant an adverse classification.
●
Substandard Accruing – loans that exhibit a well-defined weakness which presently jeopardizes
 
debt repayment,
even though they are currently performing. These loans are characterized by the distinct possibility
 
that the
Company may incur a loss in the future if these weaknesses are not corrected.
●
Nonaccrual – includes loans where management has determined that full payment
 
of principal and interest is in
doubt.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
98104
(In thousands)
 
Pass
 
Special
Mention
Substandard
Accruing
Nonaccrual
Total loans
December 31, 2022
Commercial and industrial
$
65,517
7
212
443
$
66,179
Construction and land development
66,479
—
—
—
66,479
Commercial real estate:
Owner occupied
60,866
238
161
—
61,265
Hotel/motel
33,457
—
—
—
33,457
Multifamily
41,181
—
—
—
41,181
Other
126,992
170
—
2,116
129,278
Total commercial real estate
262,496
408
161
2,116
265,181
Residential real estate:
Consumer mortgage
44,212
439
587
172
45,410
Investment property
52,034
43
248
—
52,325
Total residential real estate
96,246
482
835
172
97,735
Consumer installment
9,498
1
47
—
9,546
Total
$
500,236
898
1,255
2,731
$
505,120
December 31, 2021
Commercial and industrial
$
83,725
26
226
—
$
83,977
Construction and land development
32,212
2
218
—
32,432
Commercial real estate:
Owner occupied
61,573
1,675
127
—
63,375
Hotel/motel
36,162
7,694
0—
—
43,856
Multifamily
39,093
3,494
0—
—
42,587
Other
107,426
911
29
187
108,553
Total commercial real estate
244,254
13,774
156
187
258,371
Residential real estate:
Consumer mortgage
27,647
452
1,487
195
29,781
Investment property
47,459
98
261
62
47,880
Total residential real estate
75,106
550
1,748
257
77,661
Consumer installment
6,650
20
12
—
6,682
Total
$
441,947
14,372
2,360
444
$
459,123
December 31, 2020
Commercial and industrial
$
79,984
2,383
218
0
$
82,585
Construction and land development
33,260
0
254
0
33,514
Commercial real estate:
Owner occupied
51,265
2,627
141
0
54,033
Hotel/motel
35,084
7,816
0
0
42,900
Multifamily
36,673
3,530
0
0
40,203
Other
116,498
1,243
47
212
118,000
Total commercial real estate
239,520
15,216
188
212
255,136
Residential real estate:
Consumer mortgage
32,518
397
1,897
215
35,027
Investment property
48,501
187
332
107
49,127
Total residential real estate
81,019
584
2,229
322
84,154
Consumer installment
7,069
7
23
0
7,099
Total
$
440,852
18,190
2,912
534
$
462,488
Impaired loans
The following table presents details related to the Company’s
 
impaired loans. Loans which have been fully charged-off do
not appear in the following table. The related allowance generally represents the
 
following components which correspond
to impaired loans:
 
●
Individually evaluated impaired loans equal to or greater than $500 thousand secured by real
 
by real estate (nonaccrual
construction and land development, commercial real estate, and residential real estate).
●
Individually evaluated impaired loans equal to or greater than $250 thousand not secured
 
by real estate
(nonaccrual commercial and industrial and consumer loans).
 
The following table sets forth certain information regarding the Company’s
 
impaired loans that were individually evaluated
for impairment at December 31, 20212022 and 2020.2021.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
99105
December 31, 2022
(In thousands)
Unpaid
principal
balance (1)
Charge-offs
and payments
applied (2)
Recorded
investment (3)
Related
allowance
With no allowance recorded:
Commercial and industrial
$
210
(1)
$
209
Commercial real estate:
Owner occupied
858
(3)
855
Total commercial real estate
858
(3)
855
Total
$
1,068
(4)
$
1,064
With allowance recorded:
Commercial and industrial
$
234
—
234
$
59
Commercial real estate:
Owner occupied
1,261
—
1,261
446
Total commercial real estate
1,261
—
1,261
446
Total
1,495
—
1,495
505
Total
impaired loans
$
2,563
(4)
2,559
$
505
(1) Unpaid principal balance represents the contractual obligation
due from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well
as interest payments that have been
applied against the outstanding principal balance.
(3) Recorded investment represents the unpaid principal balance
less charge-offs and payments applied; it is shown before
any related allowance for loan losses.
December 31, 2021
(In thousands)
Unpaid
 
principal
 
balance (1)
Charge-offs
 
and payments
 
applied (2)
Recorded
investment (3)
Related
allowance
With no allowance recorded:
Commercial real estate:
Other
$
205
(18)
187
$
—
Total commercial real estate
205
(18)
187
—
Residential real estate:
Investment property
68
(6)
62
—
Total residential real estate
68
(6)
62
—Total
$
273
(24)
$
249
With allowance recorded:
Total
 
impaired loans
$
273
(24)
249
$
—
(1) Unpaid principal balance represents the contractual obligation
 
due from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well
 
as interest payments that have been
applied against the outstanding principal balance.
(3) Recorded investment represents the unpaid principal balance
 
less charge-offs and payments applied; it is shown before
 
any related allowance for loan losses.
December 31, 2020
(In thousands)
Unpaid
principal
balance (1)
Charge-offs
and payments
applied (2)
Recorded
investment (3)
Related
allowance
With no allowance recorded:
Other
$
216
(4)
212
$
—
Total commercial real estate
216
(4)
212
—
Investment property
109
(2)
107
—
Total residential real estate
109
(2)
107
—
Total
impaired loans
$
325
(6)
319
$
—
(1) Unpaid principal balance represents the contractual obligation
due from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well
as interest payments that have been
applied against the outstanding principal balance.
(3) Recorded investment represents the unpaid principal balance
less charge-offs and payments applied; it is shown before
 
any related allowance for loan losses.
106
The following table provides the average recorded investment in impaired loans and
 
the amount of interest income
recognized on impaired loans after impairment by portfolio segment and class.
 
Year ended December 31, 20212022
Year ended December 31, 20202021
Average
Total interest
Average
Total interest
recorded
income
recorded
income
(In thousands)
investment
recognized
investment
recognized
Impaired loans:
Commercial and industrial
$
34
—
$
—
—
Commercial real estate:
Owner occupied
163
—
—
—
Other
$
199153
0—
$
116199
0—
Total commercial real estate
316
—
199
0
116
0—
Residential real estate:
Investment property
5
—
96
0
59
0—
Total residential real estate
5
—
96
0
59
0—
Total
 
$
295355
0—
$
175295
0—
100
Troubled Debt
 
Restructurings
 
Impaired loans also include troubled debt restructurings (“TDRs”).
 
Section 4013 of the CARES Act, “Temporary
 
Relief
From Troubled Debt Restructurings,” provides banks the option
 
to temporarily suspend certain requirements under ASC
340-10 TDR classifications for a limited period of time to account for the effects
 
of COVID-19. In addition,Section 4013 of the
CARES Act was extended to January 1, 2022 by Section 541 of the Consolidated
Appropriations Act of 2021.
The Interagency
Statement on COVID-19 Loan Modifications, encourages banks to
 
to work prudently with borrowers and
describes the
agencies’ interpretation of how accounting rules under ASC 310310-40, “Troubled
 
-40, “Troubled Debt Restructurings by
Creditors,” apply
to
certain COVID-19-related modifications.
The Interagency Statement on
COVID-19 Loan
Modifications was supplemented
on June 23, 2020 by the Interagency Examiner Guidance
for Assessing Safety and
Soundness Considering the Effect of the
COVID-19 Pandemic on Institutions.
 
If a loan modification iswas eligible, a bank
may elect to account for the loan under
section Section 4013 of the CARES Act. If a loan modification
is not eligible under section
4013,
or if the bank elects not to
account for the loan modification under section 4013,
the Revised Statement includes
criteria when a bank may presume a
loan modification is not a TDR in accordance
with ASC 310-40.
The Company evaluates loan extensions or modifications not
qualified under
Section 4013 of the CARES Act or under the
Interagency Statement on COVID-19 Loan Modifications in accordance
 
with FASB ASC 340-10 with respect to the
classification of the loan as a TDR.
 
In the normal course of business, management may grant concessions to borrowers
 
that
are experiencing financial difficulty.
 
A concession may include, but is not limited to, delays in required payments of
principal and interest for a specified period, reduction of the stated interest rate of the loan,
 
reduction of accrued interest,
extension of the maturity date, or reduction of the face amount or maturity amount of the debt.
 
A concession has been
granted when, as a result of the restructuring, the Bank does not expect to collect,
 
when due, all amounts owed, including
interest at the original stated rate.
 
A concession may have also been granted if the debtor is not able to access funds
elsewhere at a market rate for debt with similar risk characteristics as the restructured
 
debt.
 
In making the determination of
whether a loan modification is a TDR, the Company considers the individual facts and circumstances
 
and circumstances surrounding each
modification.
 
As part of the credit approval process, the restructured loans are evaluated for
 
adequate collateral protection
in determining the appropriate accrual status at the time of restructure.
 
Similar to other impaired loans, TDRs are measured for impairment based on the present value of expected
 
payments using
the loan’s original effective
 
interest rate as the discount rate, or the fair value of the collateral, less selling costs if the
 
the loan is
collateral dependent. If the recorded investment in the loan exceeds the measure of
 
fair value, impairment is recognized by
establishing a valuation allowance as part of the allowance for loan losses or a charge
 
-off to the allowance for loan losses.
 
In periods subsequent to the modification, all TDRs are evaluated individually,
 
including those that have payment defaults,
for possible impairment.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
101107
The Company had no TDRs at December 31, 2022.
The following is a summary of accruing and nonaccrual TDRs and the
related allowance for loan losses, by portfolio
segment and class at
December 31, 2021 and 2020.2021.
 
TDRs
Related
(In thousands)
Accruing
Nonaccrual
Total
Allowance
December 31, 2021
Commercial real estate:
Other
$
0—
187
187
$
0—
Total commercial real estate
0—
187
187
0—
Residential real estate:
Investment property
0—
62
62
0—
Total residential real estate
0—
62
62
0—
Total
 
$
0—
249
249
$
0
TDRs
Related
(In thousands)
Accruing
Nonaccrual
Total
Allowance
December 31, 2020
Commercial real estate:
Other
$
0
212
212
$
0
Total commercial real estate
0
212
212
0
Investment property
0
107
107
0
Total residential real estate
0
107
107
0
Total
$
0
319
319
$
0—
At December 31, 20212022 there were no significant outstanding commitments to advance
 
additional funds to customers whose
loans had been restructured.
The following table summarizes loans modified in a TDR during the respective periods
both
before and after modification.
 
Pre-
Post-
modification
modification
outstanding
outstanding
Number of
recorded
recorded
($ in thousands)
contracts
investment
investment
December 31, 2020
Commercial real estate:
Other
1
$
216
216
Total commercial real estate
1
216
216
Investment property
3
111
111
Total residential real estate
3
111
111
Total
4
$
327
327
There were no loans modified in a TDR in 2021.
Four loans were modified in a TDR during the year ended December 31,
2020 the only concession granted by the Company was related to a delay in the required
payment of principal and/or
interest.2022 and 2021, respectively.
 
During the years ended December 31, 20212022 and 2020,2021, respectively,
 
the Company had no loans modified in a TDR within
the previous 12 months for which there was a payment default (defined as 90 days or
 
more past due).
102
NOTE 6: PREMISES AND EQUIPMENT
Premises and equipment at December 31, 20212022 and 20202021 is presented below
.below.
December 31
(Dollars in thousands)
20212022
20202021
Land and improvements
$
9,83012,788
9,8299,830
Buildings and improvements
16,12435,241
7,43616,124
Furniture, fixtures, and equipment
3,0963,861
2,7153,096
Construction in progress
19,27739
8,17119,277
Total premises and equipment
48,32751,929
28,15148,327
Less:
 
accumulated depreciation
(6,603)(5,354)
(5,958)(6,603)
Premises and equipment, net
$
41,72446,575
22,19341,724
Depreciation expense was approximately $
6441.2
 
thousandmillion and $
9050.6
 
thousandmillion for the years ended December 31, 2022 and 2021, and
2020, respectively, and is a component of
 
of net occupancy and equipment expense in the consolidated statements of earnings.
 
For
For more information related to depreciation expense, please refer to “Change in Accounting
 
Accounting Estimate” in Note 1,
Summary of
Significant Accounting Policies.
NOTE 7: MORTGAGE SERVICING
 
RIGHTS, NET
 
MSRs are recognized
 
based on the
 
fair value of
 
the servicing rights
 
on the date
 
the corresponding mortgage
 
loans are sold.
 
An
 
estimate
 
of
 
the
 
Company’s
 
MSRs
 
is
 
determined
 
using
 
assumptions
 
that
 
market
 
participants
 
would
 
use
 
in
 
estimating
future net
 
servicing income,
 
including estimates
 
of prepayment
 
speeds, discount
 
rate, default
 
rates, cost
 
to service,
 
escrow
account earnings,
 
contractual servicing
 
fee income,
 
ancillary income,
 
and late
 
fees.
 
Subsequent to
 
the date
 
of transfer,
 
the
Company
 
has
 
elected
 
to
 
measure
 
its
 
MSRs
 
under
 
the
 
amortization
 
method.
 
Under
 
the
 
amortization
 
method,
 
MSRs
 
are
amortized in proportion
 
to, and over
 
the period of,
 
estimated net servicing
 
income. Servicing
 
fee income is
 
recorded net
 
of
related amortization expense and recognized in earnings as part of mortgage lending
 
income.
 
The Company has recorded MSRs related to loans sold without recourse to
Fannie Mae.
 
The Company generally sells
conforming, fixed-rate, closed-end, residential mortgages to Fannie Mae.
 
MSRs are included in other assets on the
accompanying consolidated balance sheets.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
103108
The Company evaluates MSRs for impairment on a quarterly basis.
 
Impairment is determined by stratifying MSRs into
groupings based on predominant risk characteristics, such as interest rate and loan type.
 
If, by individual stratum, the
carrying amount of the MSRs exceeds fair value, a valuation allowance is established.
 
The valuation allowance is adjusted
as the fair value changes.
 
Changes in the valuation allowance are recognized in earnings
as a component
of mortgage
lending income.
The following table details the changes in amortized MSRs and the related valuation allowance for
 
the years ended
December 31, 20212022 and 2020.2021.
 
Year ended December 31
(Dollars in thousands)
20212022
20202021
Beginning balance
$
1,3301,309
1,2991,330
Additions, net
495111
671495
Amortization expense
(516)(269)
(640)(516)
Ending balance
$
1,3091,151
1,3301,309
Valuation
 
allowance included in MSRs, net:
Beginning of period
$
0—
0—
End of period
0—
—
Fair value of amortized MSRs:
Beginning of period
$
1,4891,908
2,1111,489
End of period
1,9082,369
1,4891,908
Data and assumptions used in the fair value calculation related to MSRs at December
 
31, 20212022 and 2020,2021, respectively,
 
are
presented below.
 
December 31
(Dollars in thousands)
20212022
20202021
Unpaid principal balance
$
255,310234,349
265,964255,310
Weighted average prepayment
 
prepayment speed (CPR)
13.37.6
%
20.713.3
Discount rate (annual percentage)
9.5
%
10.09.5
Weighted average coupon
 
interest rate
3.4
%
3.63.4
Weighted average remaining
 
maturity (months)
260256
253260
Weighted average servicing
 
fee (basis points)
25.0
25.0
At December 31, 2021,2022, the weighted average amortization period
 
for MSRs was
5.16.8
 
years.
 
Estimated amortization expense
for each of the next five years is presented below.
 
(Dollars in thousands)
December 31, 20212022
20222023
$
241
2023
194163
2024
158142
2025
129124
2026
106107
2027
93
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
104109
NOTE 8:
 
DEPOSITS
At December 31, 2021,2022, the scheduled maturities of certificates of deposit and other time
 
deposits are presented below.
 
(Dollars in thousands)
December 31, 20212022
20222023
$
113,771
2023
26,19694,561
2024
11,70929,603
2025
3,3778,663
2026
4,4083,836
2027
13,521
Thereafter
189191
Total certificates of deposit and
 
other time deposits
 
$
159,650150,375
Additionally, at December 31,
 
20212022 and 2020,2021, approximately $
58.057.4
 
million and $
55.058.0
 
million, respectively, of certificates
of deposit and other time deposits were issued in denominations greater than $250
 
thousand.
At December 31, 20212022 and 2020,2021, the amount of deposit accounts in overdraft status that were
 
were reclassified to loans on the
accompanying consolidated balance sheets was not material.
NOTE 9: LEASE COMMITMENTS
We lease certain office
 
facilities and equipment under operating leases. Rent expense for all
 
operating leases totaled $
0.2
million for both years ended December 31, 20212022 and 2020.2021.
 
On January 1, 2019, we adopted a new accounting standard
which required the recognition of certain operating leases on our balance sheet as lease right of
 
use assets (reported as
component of
other assets)assets
) and related lease liabilities (reported as a component of
accrued
expenses and other liabilities)liabilities
).
 
Aggregate lease right of use assets were $
687588
 
thousand and $
788687
 
thousand at December 31, 20212022 and 2020,2021, respectively.
 
Aggregate lease liabilities were $
710611
 
thousand and $
811710
 
thousand at December 31, 20212022 and 2020,2021, respectively.
 
Rent
expense includes amounts related to items that are not included in the determination of lease
 
right of use assets including
expenses related to short-term leases totaling $
0.1
 
million for the year ended December 31, 2021.2022.
Lease payments under operating leases that were applied to our operating lease liability totaled
 
$
120
 
thousand during the
year ended December 31, 2021.2022. The following table reconciles future undiscounted
 
lease payments due under non-
cancelable operating leases (those amounts subject to recognition) to the aggregate operating lease
 
lease liability as of December
31, 2021.2022.
 
(Dollars in thousands)
Future lease
payments
20222023
$
120
2023
120123
2024
120123
2025
111114
2026
9396
2027
96
Thereafter
207122
Total undiscounted operating
 
lease liabilities
$
771674
Imputed interest
6163
Total operating lease liabilities
 
included in the accompanying consolidated balance sheets
$
710611
Weighted-average lease terms
 
in years
6.795.89
Weighted-average discount rate
3.063.12
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
105110
NOTE 10:
 
OTHER COMPREHENSIVE (LOSS) INCOMELOSS
Comprehensive income
 
is defined
 
as the
 
change in
 
equity from
 
all transactions
 
other than
 
those with
 
stockholders,
 
and
 
it
includes
net
earnings
and
other
 
comprehensive
(loss)
income. loss.
 
Other
comprehensive
(loss)
income loss
 
for the years ended
 
the
years
ended
December 31, 2022 and
2021, and 2020, is presented below.
 
Pre-tax
Tax benefit
Net of
 
(Dollars in thousands)
amount
(expense)
tax amount
2022:
Unrealized net holding loss on securities
$
(55,819)
14,017
(41,802)
Reclassification adjustment for net gain on securities recognized in net earnings
(12)
3
(9)
Other comprehensive loss
$
(55,831)
14,020
(41,811)
2021:
Unrealized net holding lossgain on securities
$
(8,943)
2,246
(6,697)
Reclassification adjustment for net gain on securities recognized in net earnings
(15)
4
(11)
Other comprehensive loss
$
(8,958)
2,250
(6,708)
2020:
Unrealized net holding gain on securities
$
7,501
(1,884)
5,617
Reclassification adjustment for net gain on securities recognized in net earnings
(103)
26
(77)
Other comprehensive income
$
7,398
(1,858)
5,540
NOTE 11:
 
INCOME TAXES
For the years ended December 31, 20212022 and 20202021 the components of income tax expense
 
from continuing operations are
presented below.
 
Year ended December 31
(Dollars in thousands)
20212022
20202021
Current income tax expense:
Federal
$
8331,461
1,459833
State
295356
476295
Total current income tax expense
1,1281,817
1,9351,128
Deferred income tax benefit:
Federal
220556
(262)220
State
58130
(68)58
Total deferred
 
income tax expense (benefit)
686
278
(330)
Total income tax expense
 
$
1,4062,503
1,6051,406
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
106111
Total income tax expense differs
 
from the amounts computed by applying the statutory federal income tax
rate of 21%
to
earnings before income taxes.
 
A reconciliation of the differences for the years ended December 31,
 
20212022 and 2020,2021, is
presented below.
 
20212022
20202021
Percent of
Percent of
pre-tax
pre-tax
(Dollars in thousands)
Amount
earnings
Amount
earnings
Earnings before income taxes
$
9,44512,849
9,0599,445
Income taxes at statutory rate
1,9832,698
21.0
%
1,9021,983
21.0
%
Tax-exempt interest
(514)(523)
(5.4)(4.1)
(489)(514)
(5.4)
State income taxes, net of
 
federal tax effect
346
2.7
352
3.7
345
3.8
New Markets Tax Credit
(356)
(3.8)(2.8)
—(356)
—(3.8)
Bank-owned life insurance
141
1.1
(85)
(0.9)
(152)Other
(1.7)197
Other1.6
26
0.3
(1)
0—
Total income tax expense
 
$
1,4062,503
14.919.5
%
1,6051,406
17.714.9
%
At December 31, 2022 and 2021, the Company had a net deferred tax asset of $0.4$13.8
 
million and $0.4 million, respectively,
included in other assets on the
consolidated balance sheet and at December 31, 2020, a deferred tax liability of $1.5
million included in other liabilities on
the consolidated balance sheet.
 
The tax effects of temporary differences that
give rise to
significant
portions of the deferred
tax assets and deferred tax liabilities at December 31,
2022 and 2021 and 2020 are presented
below.
 
December 31
(Dollars in thousands)
20212022
20202021
Deferred tax assets:
Allowance for loan losses
$
1,448
1,240
1,411Unrealized loss on securities
13,722
—
Accrued bonus
 
192228
183192
Right of use liability
178153
204178
Other
7770
9177
Total deferred
 
tax assets
1,68715,621
1,8891,687
Deferred tax liabilities:
Premises and equipment
200767
199200
Unrealized gain on securities
298—
2,548298
Originated mortgage servicing rights
329289
334329
Right of use asset
173148
198173
New Markets Tax Credit investment
89179
089
Other
163469
147163
Total deferred
 
tax liabilities
1,2521,852
3,4261,252
Net deferred tax asset (liability)
$
43513,769
(1,537)435
A valuation allowance is recognized for a deferred tax asset if, based on the weight of available
 
evidence, it is more-likely-
than-not that some portion of the entire deferred tax asset will not be realized.
 
The ultimate realization of deferred tax
assets is dependent upon the generation of future taxable income during the periods
 
in which those temporary differences
become deductible.
 
Management considers the scheduled reversal of deferred tax liabilities,
 
projected future taxable
income and tax planning strategies in making this assessment. Based upon the level of historical
 
taxable income and
projection for future taxable income over the periods which the temporary differences
 
resulting in the remaining deferred
tax assets are deductible, management believes it is more-likely-than
 
-not that the Company will realize the benefits of these
deductible differences at December 31, 2021.2022.
 
The amount of the deferred tax assets considered realizable, however,
 
could
be reduced in the near term if estimates of future taxable income are reduced.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
107112
The change in the net deferred tax asset for the years ended December 31, 20212022
 
and 2020,2021, is presented
 
below.
 
Year ended December 31
(Dollars in thousands)
20212022
20202021
Net deferred tax asset (liability):
Balance, beginning of year
$
(1,537)435
(9)(1,537)
Deferred tax (expense) benefitexpense related to continuing operations
(278)(686)
330(278)
Stockholders' equity, for accumulated
 
other comprehensive loss (income)income
14,020
2,250
(1,858)
Balance, end of year
$
43513,769
(1,537)435
ASC 740,
Income Taxes,
 
defines the threshold for recognizing the benefits of tax return positions in the financial statements
as “more-likely-than-not” to be sustained by the taxing authority.
 
This section also provides guidance on the de-
recognition, measurement, and classification of income tax uncertainties in interim
 
periods.
 
As of December 31, 2021,2022, the
Company had no unrecognized tax benefits related to federal or state income tax matters.
 
The Company does not anticipate
any material increase or decrease in unrecognized tax benefits during 20222023
 
relative to any tax positions taken prior to
December 31, 2021.2022.
 
As of December 31, 2021,2022, the Company has accrued no interest and no penalties related to uncertain
tax positions.
 
It is the Company’s policy to recognize interest
 
and penalties related to income tax matters in income tax
expense.
 
The Company and its subsidiaries file consolidated U.S. federal and State of Alabama income
 
tax returns.
 
The Company is
currently open to audit under the statute of limitations by the Internal Revenue Service and the State of
 
Alabama for the
years ended December 31, 20182019 through 2021.2022.
 
NOTE 12:
 
EMPLOYEE BENEFIT PLAN
The Company sponsors a qualified defined contribution retirement plan, the Auburn National
 
Bancorporation, Inc. 401(k)
Plan (the "Plan").
 
Eligible employees may contribute up to 100% of eligible compensation, subject to statutory limits
 
limits upon
completion of 2 months of service.
 
Furthermore, the Company allows employer Safe Harbor contributions. Participants
 
are
immediately vested in employer Safe Harbor contributions. The
 
Company's matching contributions on behalf of
participants were equal to $1.00 for each $1.00 contributed by participants, up to 3% of the
 
participants' each participant's
eligible
compensation, and $0.50 for every $1.00 contributed by participants, above 3% up to 5%
 
of the participants' each participant's
eligible
compensation, for a maximum matching contribution of 4% of the participants' eligible
 
compensation. Company matching
contributions to the Plan were approximately $
0.3
 
million for the years ended December 31, 20212022 and 2020,2021, respectively,
and are included in salaries and benefits expense.
NOTE 13:
 
COMMITMENTS AND CONTINGENT LIABILITIES
Credit-Related Financial Instruments
The Company is party to credit related financial instruments with off
 
-balance sheet risk in the normal course of business to
meet the financing needs of its customers.
 
These financial instruments include commitments to extend credit and standby
letters of credit.
 
Such commitments involve, to varying degrees, elements of credit and interest rate
 
risk in excess of the
amount recognized in the consolidated balance sheets.
The Company’s exposure to credit
 
loss is represented by the contractual amount of these commitments.
 
The Company
follows the same credit policies in making commitments as it does for on-balance sheet
 
instruments.
At December 31, 20212022 and 2020,2021, the following financial instruments were outstanding
 
whose contract amount represents
credit risk.
December 31
(Dollars in thousands)
20212022
20202021
Commitments to extend credit
$
70,99387,657
$
74,97070,933
Standby letters of credit
1,4551,041
1,2371,455
Commitments to extend credit are agreements to lend to a customer as long as there is no violation
 
of any condition
established in the agreement.
 
Commitments generally have fixed expiration dates or other termination clauses
 
and may
108113
require payment of a fee.
 
The commitments for lines of credit may expire without being
 
drawn upon.
 
Therefore, total
commitment amounts do not necessarily represent future cash requirements.
 
The amount of collateral obtained, if it is
deemed necessary by the Company,
 
is based on management’s credit
 
evaluation of the customer.
The Company maintained
a reserve for unfunded commitments of $
0.2
million at December 31, 2022 and 2021, respectively.
Standby letters of credit are conditional commitments issued by the Company to
 
guarantee the performance of a customer
to a third party.
 
The credit risk involved in issuing letters of credit is essentially the same
 
as that involved in extending loan
facilities to customers.
 
The Company holds various assets as collateral, including accounts receivable,
 
inventory,
equipment, marketable securities, and property to support those commitments
 
for which collateral is deemed necessary.
 
The Company has recorded a liability for the estimated fair value of these standby letters
 
of credit in the amount of $
2316
thousand and $
2523
 
thousand at December 31, 2022 and 2021, and 2020, respectively.
Other Commitments
At December 31, 2021, the Company has contracts with construction companies
for an aggregate of $
30.5
million to
construct a new headquarters in Auburn, Alabama.
As of December 31, 2021, the Company has paid $
24.1
million under
these contracts with a balance to finish, including retainage, of $
6.4
million.
Contingent Liabilities
The Company and the Bank are involved in various legal proceedings, arising in connection
 
connection with their business.
 
In the
opinion of management, based upon consultation with legal counsel, the ultimate resolution
 
of these proceeding will not
have a material adverse effect upon the consolidated financial
 
condition or results of operations of the Company and the
Bank.
NOTE 14: FAIR VALUE
 
Fair Value
 
Hierarchy
“Fair value” is defined by ASC 820,
Fair Value
 
Measurements and Disclosures
, as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction occurring in the principal market
 
(or most advantageous
market in the absence of a principal market) for an asset or liability at the measurement date.
 
GAAP establishes a fair
value hierarchy for valuation inputs that gives the highest priority to quoted prices
 
in active markets for identical assets or
liabilities and the lowest priority to unobservable inputs.
 
The fair value hierarchy is as follows:
Level 1—inputs to the valuation methodology are quoted prices, unadjusted, for identical
 
assets or liabilities in active
markets.
 
Level 2—inputs to the valuation methodology include quoted prices for similar assets and
 
liabilities in active markets,
quoted prices for identical or similar assets or liabilities in markets that are not active, or
 
inputs that are observable for the
asset or liability, either directly or
 
indirectly.
 
Level 3—inputs to the valuation methodology are unobservable and reflect the
 
Company’s own assumptions about the
inputs market participants would use in pricing the asset or liability.
 
Level changes in fair value measurements
 
Transfers between levels of the fair value hierarchy are generally
 
recognized at the end of the reporting period.
 
The
Company monitors the valuation techniques utilized for each category of
 
financial assets and liabilities to ascertain when
transfers between levels have been affected.
 
The nature of the Company’s financial assets
 
and liabilities generally is such
that transfers in and out of any level are expected to be infrequent. For the years ended December
 
31, 20212022 and 2020,2021, there
were no transfers between levels and no changes in valuation techniques for the Company’s
 
financial assets and liabilities.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
109114
Assets and liabilities measured at fair value on a recurring
 
basis
Securities available-for-sale
Fair values of securities available for sale were primarily measured using
 
Level 2 inputs.
 
For these securities, the Company
obtains pricing from third party pricing services.
 
These third partythird-party pricing services consider observable data
that may
include broker/dealer quotes, market spreads, cash flows, market consensus prepayment
 
speeds, benchmark yields, reported
trades for similar securities, credit information and the securities’ terms and conditions.
 
On a quarterly basis, management
reviews the pricing received from the third partythird-party pricing services for reasonableness
 
given current market conditions.
 
As
part of its review, management
 
may obtain non-binding third party broker quotes to validate the fair value measurements.
 
In addition, management will periodically submit pricing provided by the third partythird-party
 
pricing services to another
independent valuation firm on a sample basis.
 
This independent valuation firm will compare the price provided
 
by the
third-party pricing service with its own price and will review the significant assumptions
 
and valuation methodologies used
with management.
The following table presents the balances of the assets and liabilities measured at fair value
 
on a recurring as of December
31, 20212022 and 2020,2021, respectively,
 
by caption, on the accompanying consolidated balance sheets by ASC 820
 
valuation
hierarchy (as described above).
 
Quoted Prices in
Significant
Active Markets
Other
Significant
for
Observable
Unobservable
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
December 31, 2022:
Securities available-for-sale:
Agency obligations
$
125,617
—
125,617
—
Agency MBS
218,160
—
218,160
—
State and political subdivisions
61,527
—
61,527
—
Total securities available-for-sale
405,304
—
405,304
—
Total
assets at fair value
$
405,304
—
405,304
—
December 31, 2021:
Securities available-for-sale:
Agency obligations
 
$
124,413
0—
124,413
0—
Agency MBS
223,371
0—
223,371
0—
State and political subdivisions
74,107
0—
74,107
0—
Total securities available-for-sale
421,891
0—
421,891
0—
Total
 
assets at fair value
$
421,891
0—
421,891
0
December 31, 2020:
Securities available-for-sale:
Agency obligations
$
97,448
0
97,448
0
Agency MBS
163,470
0
163,470
0
State and political subdivisions
74,259
0
74,259
0
Total securities available-for-sale
335,177
0
335,177
0
Total
assets at fair value
$
335,177
0
335,177
0—
Assets and liabilities measured at fair value on a nonrecurring
 
basis
Loans held for sale
Loans held for sale are carried at the lower of cost or fair value. Fair values of loans held for
 
sale are determined using
quoted market secondary market prices for similar loans.
 
Loans held for sale are classified within Level 2 of the fair value
hierarchy.
Impaired Loans
Loans considered impaired under ASC 310-10-35,
Receivables
, are loans for which, based on current information and
events, it is probable that the Company will be unable to collect all principal and interest
 
payments due in accordance with
the contractual terms of the loan agreement.
 
Impaired loans can be measured based on the present value of expected
payments using the loan’s original effective
 
rate as the discount rate, the loan’s observable
 
market price, or the fair value of
the collateral less selling costs if the loan is collateral dependent.
 
110115
The fair value of impaired loans were primarily measured based on the value of the collateral
 
securing these loans.
 
Impaired loans are classified within Level 3 of the fair value hierarchy.
 
Collateral may be real estate and/or business assets
including equipment, inventory,
 
and/or accounts receivable.
 
The Company determines the value of the collateral based on
independent appraisals performed by qualified licensed appraisers.
 
These appraisals may utilize a single valuation
approach or a combination of approaches including comparable sales and the income
approach.
 
Appraised values are
discounted for costs to sell and may be discounted further based on management’s
 
historical knowledge, changes in market
conditions from the date of the most recent appraisal, and/or management’s
 
expertise and knowledge of the customer and
the customer’s business.
 
Such discounts by management are subjective and are typically significant unobservable
 
inputs
for determining fair value.
 
Impaired loans are reviewed and evaluated on at least a quarterly basis
for additional
impairment and adjusted accordingly,
 
based on the same factors discussed above.
 
Other real estate owned
Other real estate
owned, consisting of properties obtained through foreclosure or
otherwise in satisfaction
of loans, are initially
initially recorded at the lower of the loan’s
carrying amount or
the fair value less costs to sell upon transfer ofwhen the loans loan is transferred
to
other real
estate. Subsequently,
other real
estate is carried at the lower of carrying value or fair value less costs to sell. Fair
values are
generally based on third party appraisals of the property and are classified within
 
within Level 3 of the fair value hierarchy.
The
hierarchy. The appraisals are sometimes
further discounted based on management’s
 
historical knowledge, and/or changes in market
market conditions from the date of the most recent appraisal, and/or management’s
 
expertise and knowledge of the
customer and
the customer’s business. Such discounts are typically significant
 
unobservable inputs for determining fair
value. In cases
where the carrying amount exceeds the fair value, less costs
to sell, a loss is recognized
in noninterest
expense.
Mortgage servicing rights, net
Mortgage servicing rights, net, included in other assets on the accompanying consolidated
 
balance sheets, are carried at the
lower of cost or estimated fair value.
 
MSRs do not trade in an active market with readily observable prices.
 
To determine
the fair value of MSRs, the Company engages an independent third party.
 
The independent third party’s
 
valuation model
calculates the present value of estimated future net servicing income using assumptions
 
that market participants would use
in estimating future net servicing income, including estimates of prepayment speeds, discount
 
rate, default rates, cost to
service, escrow account earnings, contractual servicing fee income, ancillary
 
income, and late fees.
 
Periodically, the
Company will review broker surveys and other market research to validate significant
 
significant assumptions used in the model.
 
The
significant unobservable inputs include prepayment speeds or the constant prepayment rate
 
(“CPR”) and the weighted
average discount rate.
 
Because the valuation of MSRs requires the use of significant unobservable inputs, all of the
Company’s MSRs are classified
 
within Level 3 of the valuation hierarchy.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
111116
The following table presents the balances of the assets and liabilities measured
 
at fair value on a nonrecurring basis as of
December 31, 20212022 and
 
2020,2021, respectively, by caption, on the accompanying
 
consolidated balance sheets and by ASC 820
valuation hierarchy (as described above):
 
Quoted Prices in
Active Markets
Other
Significant
for
Observable
Unobservable
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
December 31, 2022:
Loans, net
(1)
$
2,054
—
—
2,054
Other assets
(2)
1,151
—
—
1,151
Total assets at fair value
$
3,205
—
—
3,205
December 31, 2021:
Loans held for sale
$
1,376
0—
1,376
0—
Loans, net
(1)
249
0—
0—
249
Other assets
(2)
1,683
0—
0—
1,683
Total assets at fair value
$
3,308
0—
1,376
1,932
December 31, 2020:
Loans held for sale
$
3,418
0
3,418
0
Loans, net
(1)
319
0
0
319
Other assets
(2)
1,330
0
0
1,330
Total assets at fair value
$
5,067
0
3,418
1,649
(1)
Loans considered impaired under ASC 310-10-35 Receivables. This amount reflects the recorded
 
investment in
 
impaired loans, net of any related allowance for loan losses.
(2)
Represents other real estate owned and MSRs, net both of which are carried at lower of cost or
 
estimated fair value.
At December 31, 20212022 and 20202021 and for the years then ended, the Company had no Level
 
3 assets measured at fair value on
a recurring basis.
 
For Level 3 assets measured at fair value on a non-recurring basis as of December 31,
 
31,2022 and 2021, and 2020, the
significant unobservable inputs used in the fair value measurements are presented
 
below.
 
Weighted
Carrying
Significant
Average
(Dollars in thousands)
Amount
Valuation Technique
 
Unobservable Input
Range
of Input
December 31, 2022:
Impaired loans
$
2,054
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,151
Discounted cash flow
Prepayment speed or CPR
5.2
-
18.6
%
7.5
%
Discount rate
9.5
-
11.5
%
9.5
%
December 31, 2021:
Impaired loans
$
249
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Other real estate owned
374
Appraisal
Appraisal discounts
55.0
-
55.0
%
55.0
%
Mortgage servicing rights, net
1,309
Discounted cash flow
Prepayment speed or CPR
6.8
-
16.5
%
13.3
%
 
Discount rate
9.5
-
11.5
%
9.5
%
December 31, 2020:
Impaired loans
$
319
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,330
Discounted cash flow
Prepayment speed or CPR
18.2
-
36.4
%
20.7
%
Discount rate
10.0
-
12.0
%
10.0
%
Fair Value
 
of Financial Instruments
ASC 825,
Financial Instruments
, requires disclosure of fair value information about financial instruments,
 
whether or not
recognized on the face of the balance sheet, for which it is practicable to estimate that
 
value. The assumptions used in the
estimation of the fair value of the Company’s
 
financial instruments are explained below.
 
Where quoted market prices are
not available, fair values are based on estimates using discounted cash flow analyses. Discounted
 
cash flows can be
significantly affected by the assumptions used, including the discount rate
 
and estimates of future cash flows. The
following fair value estimates cannot be substantiated by comparison to independent
 
markets and should not be considered
representative of the liquidation value of the Company’s
 
financial instruments, but rather are a good-faith estimategood faith estimates of the fair
fair value of financial instruments held by the Company.
 
ASC 825 excludes certain financial instruments and all nonfinancial
nonfinancial instruments from its disclosure requirements.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
112117
The following methods and assumptions were used by the Company in estimating the
 
fair value of its financial instruments:
 
Loans, net
Fair values for loans were calculated using discounted cash flows. The discount rates reflected
 
current rates at which similar
loans would be made for the same remaining maturities. Expected
 
future cash flows were projected based on contractual
cash flows, adjusted for estimated prepayments.
 
The fair value of loans was measured using an exit price
notion.
Loans held for sale
Fair values of loans held for sale are determined using quoted market secondary
 
market prices for similar loans.
Time Deposits
Fair values for time deposits were estimated using discounted
cash flows. The discount
rates were based on rates currently
offered for deposits with similar remaining maturities.
 
Fair Value Hierarchy
Carrying
Estimated
Level 1
Level 2
Level 3
(Dollars in thousands)
amount
fair value
inputs
inputs
Inputs
December 31, 2022:
Financial Assets:
Loans, net (1)
$
498,693
$
484,007
$
—
$
—
$
484,007
Financial Liabilities:
Time Deposits
$
150,375
$
150,146
$
—
$
150,146
$
—
December 31, 2021:
Financial Assets:
Loans, net (1)
$
453,425
$
449,105
$
0—
$
0—
$
449,105
Loans held for sale
1,376
1,410
0—
1,410
0—
Financial Liabilities:
Time Deposits
$
159,650
$
160,581
$
0—
$
160,581
$
0
December 31, 2020:
Financial Assets:
Loans, net (1)
$
456,082
$
451,816
$
0
$
0
$
451,816
Loans held for sale
3,418
3,509
0
3,509
0
Financial Liabilities:
Time Deposits
$
160,401
$
162,025
$
0
$
162,025
$
0—
(1) Represents loans, net of unearned income and the allowance
 
for loan losses.
 
The fair value of loans was measured using an exit
 
price notion.
NOTE 15: RELATED PARTY
 
TRANSACTIONS
The Bank has made, and expects in the future to continue to make in the ordinary course of
 
of business, loans to directors and
executive officers of the Company,
 
the Bank, and their affiliates. In management’s
 
opinion, these loans were made in the
ordinary course of business at normal credit terms, including interest rate and collateral requirements,
 
requirements, and do not represent
more than normal credit risk.
 
An analysis of such outstanding loans is presented below.
(Dollars in thousands)
Amount
Loans outstanding at December 31, 2021
$
1,2361,564
New loans/advances
844961
Repayments
(516)(879)
Loans outstanding at December 31, 20212022
$
1,5641,646
During 20212022 and 2020,2021, certain executive officers and directors
 
of the Company and the Bank, including companies with
which they are affiliated, were deposit customers of the bank.
 
Total deposits for these persons
 
at December 31, 20212022 and
20202021 amounted to $
19.322.8
 
million and $
18.719.3
 
million, respectively.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
113118
NOTE 16: REGULATORY
 
RESTRICTIONS AND CAPITAL
 
RATIOS
As required by the Economic Growth, Regulatory Relief, and Consumer Protection
 
Act, in August 2018, the Federal
Reserve Board issued
an interim final rule that expanded applicability of the Board’s
 
small bank holding company policy statement (the “Small
statement.BHC Policy Statement”) and its Regulation Q capital and Regulation Y holding company
rules in August 2018. The interim
final rule raised the policy statement’sSmall BHC Policy Statement’s
 
asset thresholdlimit from $1 billion to $3 billion in total
consolidated assets for a
bank holding company or savings and loan holding company that:
(1) is not engaged in significant
nonbanking activities;
(2) does not conduct significant off-balance sheet activities;
 
activities; and (3) does not have a material amount
of debt or equity
securities, other than trust-preferred securities, outstanding. Theoutstanding that are registered
 
with the SEC. The interim final rule provides
that, if
warranted for supervisory purposes, the Federal Reserve may exclude a company from
 
the thresholdfrom this asset level increase. ManagementThe
believesFederal Reserve has treated the Company meets the conditions of the Federal Reserve’s
as a small bank holding company policy statementfor purposes of
the Small BHC Policy
Statement and is
therefore excluded from consolidated capital requirements at December 31,has considered only the Bank’s
 
2021.capital and not the Company’s consolidated
capital.
 
The Bank remains subject to regulatory capital requirements administered by the
 
federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory - and possibly additional
 
discretionary - actions by regulators
that, if undertaken, could have a direct material effect on the Company’s
 
financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank must
 
must meet specific capital guidelines that
involve quantitative measures of their assets, liabilities and certain off
 
-balance sheet items as calculated under regulatory
accounting practices. The capital amounts and classification are also subject to
 
to qualitative judgments by the regulators
about components, risk weightings and other factors.
As of December 31, 2021,2022, the Bank is “well capitalized” under the regulatory framework
 
for prompt corrective action. To
be categorized as “well capitalized,” the Bank must maintain minimum common equitequity Tier
 
y
Tier 1, total risk-based, Tier
1 risk-
based, and Tier 1 leverage ratios as set forth in the table. Management
 
has not received any notification from the Bank's
regulators that changes the Bank’s regulatory capital
 
status.
The actual capital amounts and ratios for the Bank and the aforementioned minimums as
 
of December 31, 20212022 and 20202021
are presented below.
 
Minimum for capital
Minimum to be
 
Actual
adequacy purposes
well capitalized
(Dollars in thousands)
Amount
Ratio
Amount
Ratio
Amount
Ratio
At December 31, 2022:
Tier 1 Leverage Capital
$
106,886
10.01
%
$
42,716
4.00
%
$
53,394
5.00
%
Common Equity Tier 1 Capital
106,886
15.39
31,252
4.50
45,142
6.50
Tier 1 Risk-Based Capital
106,886
15.39
41,669
6.00
55,559
8.00
Total Risk-Based Capital
112,851
16.25
55,559
8.00
69,449
10.00
At December 31, 2021:
Tier 1 Leverage Capital
$
100,059
9.35
%
$
42,808
4.00
%
$
53,509
5.00
%
Common Equity Tier 1 Capital
100,059
16.23
27,742
4.50
40,072
6.50
Tier 1 Risk-Based Capital
100,059
16.23
36,990
6.00
49,320
8.00
Total Risk-Based Capital
105,163
17.06
49,320
8.00
61,649
10.00
At December 31, 2020:
Tier 1 Leverage Capital
$
96,096
10.32
%
$
37,263
4.00
%
$
46,579
5.00
%
Common Equity Tier 1 Capital
96,096
17.27
25,042
4.50
36,171
6.50
Tier 1 Risk-Based Capital
96,096
17.27
33,389
6.00
44,519
8.00
Total Risk-Based Capital
101,906
18.31
44,519
8.00
55,648
10.00
Dividends paid by the Bank are a principal source of funds available to the Company for
 
payment of dividends to its
stockholders and for other needs. Applicable federal and state statutes and regulations impose
 
restrictions on the amounts of
dividends that may be declared by the subsidiary bank. State law and Federal Reserve policy
 
restrict the Bank from
declaring dividends in excess of the sum of the current year’s earnings
 
plus the retained net earnings from the preceding
two years without prior approval. In addition to the formal statutes and regulations,
 
regulatory authorities also consider the
adequacy of the Bank’s total capital in relation to its assets,
 
deposits, and other such items. Capital adequacy considerations
could further limit the availability of dividends from the Bank. At December 31,
 
2021,2022, the Bank could have declared
additional dividends of approximately $
8.313.9
 
million without prior approval of regulatory authorities. As a result of this
limitation, approximately $
92.654.1
 
million of the Company’s investment in the Bank
 
was restricted from transfer in the form
of dividends.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
114119
NOTE 17: AUBURN NATIONAL
 
BANCORPORATION
 
(PARENT COMPANY)
The Parent Company’s condensed balance sheets
 
and related condensed statements of earnings and cash flows are as
follows.
 
CONDENSED BALANCE SHEETS
December 31
(Dollars in thousands)
20212022
20202021
Assets:
Cash and due from banks
$
2,7051,700
4,0492,705
Investment in bank subsidiary
100,95165,967
103,695100,951
Other assets
630522
631630
Total assets
$
104,28668,189
108,375104,286
Liabilities:
Accrued expenses and other liabilities
$
560148
685560
Total liabilities
560148
685560
Stockholders' equity
103,72668,041
107,690103,726
Total liabilities and stockholders'
 
equity
$
104,28668,189
108,375104,286
CONDENSED STATEMENTS
 
OF EARNINGS
Year ended December 31
(Dollars in thousands)
20212022
20202021
Income:
Dividends from bank subsidiary
$
3,6823,719
3,6383,682
Noninterest income
66578
862665
Total income
4,3473,797
4,5004,347
Expense:
Noninterest expense
189326
255189
Total expense
189326
255189
Earnings before income tax expense and equity
in undistributed earnings of bank subsidiary
4,1583,471
4,2454,158
Income tax (benefit) expense
82(48)
11082
Earnings before equity in undistributed earnings
of bank subsidiary
4,0763,519
4,1354,076
Equity in undistributed earnings of bank subsidiary
3,9636,827
3,3193,963
Net earnings
$
8,03910,346
7,4548,039
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
115120
CONDENSED STATEMENTS
 
OF CASH FLOWS
Year ended December 31
(Dollars in thousands)
20212022
20202021
Cash flows from operating activities:
Net earnings
$
8,03910,346
7,4548,039
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Net decrease (increase) in other assets
1108
(6)1
Net decrease in other liabilities
(120)(408)
(561)(120)
Equity in undistributed earnings of bank subsidiary
(3,963)(6,827)
(3,319)(3,963)
Net cash provided by operating activities
3,9573,219
3,5683,957
Cash flows from financing activities:
Dividends paid
(3,682)(3,720)
(3,638)(3,682)
Stock repurchases
(1,619)(504)
0(1,619)
Net cash used in financing activities
(5,301)(4,224)
(3,638)(5,301)
Net change in cash and cash equivalents
(1,344)(1,005)
(70)(1,344)
Cash and cash equivalents at beginning of period
4,0492,705
4,1194,049
Cash and cash equivalents at end of period
$
2,7051,700
4,0492,705
116121
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
 
ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15(b) under the Securities Exchange Act of 1934 (the “Exchange
 
Act”), the Company’s
management, under the supervision and with the participation of its principal executive
 
and principal financial officer,
conducted an evaluation as of the end of the period covered by this report, of the effectiveness
 
of the Company’s disclosure
controls and procedures as defined in Rule 13a-15(e) under the Exchange
 
Act. Based on that evaluation, and the results of
the audit process described below,
 
the Chief Executive Officer and Chief Financial Officer
 
concluded that the Company’s
disclosure controls and procedures were effective to ensure that information
 
required to be disclosed in the Company’s
reports under the Exchange Act is recorded, processed, summarized and reported
 
within the time periods specified in the
SEC’s rules and regulations, and that such information
 
is accumulated and communicated to the Company’s
 
management,
including the Chief Executive Officer and the Chief Financial Officer,
 
as appropriate, to allow timely decisions regarding
disclosure.
 
Management’s Report on Internal Control
 
Over Financial Reporting
The Company’s management is responsible
 
for establishing and maintaining adequate internal control over financial
reporting. The Company’s internal
 
control system was designed to provide reasonable assurance to the Company’s
management and board of directors regarding the preparation and fair presentation of published
 
financial statements. All
internal control systems, no matter how well designed, have inherent limitations.
 
Therefore, even those systems determined
to be effective can provide only reasonable assurance with respect to
 
to financial statement preparation and presentation.
 
Under the direction of the Company’s Chief Executive
 
Officer and Chief Financial Officer,
 
management has assessed the
effectiveness of the Company’s
 
internal control over financial reporting as of December 31, 20212022 in accordance
 
with the
criteria set forth by the Committee of Sponsoring Organizations of the Treadway
 
Commission (“COSO”) in Internal
Control – Integrated Framework (2013). Based on this assessment, management
 
has concluded that such internal control
over financial reporting was effective as of December 31,
 
2021.2022.
 
This annual report does not include an attestation report of the Company’s
 
independent registered public accounting firm
regarding internal control over financial reporting. Management’s
 
report was not subject to attestation by the Company’s
registered public accounting firm pursuant to the final rules of the Securities
and Exchange
Commission that permit the
Company to provide only a management’s
 
report in this annual report.
 
Changes in Internal Control Over Financial Reporting
During the period covered by this report, there has not been any change in the Company’s
 
internal controls over financial
reporting that has materially affected, or is reasonably likely to
 
materially affect, the Company’s
 
internal controls over
financial reporting.
 
ITEM 9B.
 
OTHER INFORMATION
None.
ITEM 9C.
 
DISCLOSURE REGARDING FORGEIN JURISDICTIONS THAT
 
PREVENT INSPECTION
None.
 
117122
PART
 
III
ITEM 10.
 
DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information required by this item is set forth under the headings “Proposal
 
One: Election of Directors - Information about
Nominees for Directors,” and “Executive Officers,” “Additional
 
“Additional Information Concerning the Company’s
 
Board of
Directors and Committees,” “Executive Compensation,” “Audit Committee
 
Report” and “Compliance with Section 16(a) of
the Securities Exchange Act of 1934” in the Proxy Statement, and is incorporated herein by reference.
The Board of Directors has adopted a Code of Conduct and Ethics applicable to the Company’s
 
directors, officers and
employees, including the Company’s principal executive
 
executive officer, principal
 
principal financial and principal accounting officer,
controller and other senior financial officers. The Code of Conduct and Ethics,
 
as well as the charters for the Audit
Committee, Compensation Committee, and the Nominating and Corporate
 
Governance Committee, can be found by
hovering over the heading “About Us” on the Company’s
 
website,
www.auburnbank.com
, and then clicking on “Investor
Relations”, and then clicking on “Governance Documents”.
 
In addition, this information is available in print to any
shareholder who requests it. Written requests
 
for a copy of the Company’s Code of Conduct and Ethics
 
and Ethics or the Audit
Committee, Compensation Committee, or Nominating and Corporate
 
Governance Committee Charters may be sent to
Auburn National Bancorporation, Inc., 132100 N. Gay Street, Auburn, Alabama 36830,
 
Attention: Marla Kickliter, Senior Vice
President of Compliance and Internal Audit. Requests may also be made
 
via telephone by contacting Marla Kickliter,
Senior Vice President of Compliance
 
and Internal Audit, or Laura Carrington, Vice
 
President of Human Resources, at
(334) 821-9200.
ITEM 11.
 
EXECUTIVE COMPENSATION
Information required by this item is set forth under the headings “Additional Information
 
Concerning the Company’s Board
of Directors and Committees – Board Compensation,” and “Executive Officers”
 
in the Proxy Statement, and is incorporated
herein by reference.
ITEM 12.
 
SECURITY OWNERSHIP OF CERTAIN
 
BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDE
RSTOCKHOLDER
 
MATTERS
Information required by this item is set forth under the headings “Proposal
 
One: Election of Directors - Information about
Nominees for Directors and Executive Officers” and “Stock
 
Ownership by Certain Persons” in the Proxy Statement, and is
incorporated herein by reference.
ITEM 13. CERTAIN
 
RELATIONSHIPS
 
AND RELATED
 
TRANSACTIONS AND DIRECTOR INDEPENDENCE
Information required by this item is set forth under the headings “Additional Information
 
Concerning the Company’s Board
of Directors and Committees – Committees of the Board of Directors – Independent
 
Independent Directors Committee” and “Certain
Transactions and Business Relationships” in the Proxy Statement,
 
and is incorporated herein by reference.
ITEM 14.
 
PRINCIPAL ACCOUNTING FEES
 
AND SERVICES
 
Information required by this item is set forth under the heading “Independent Public
 
Accountants” in the Proxy Statement,
and is incorporated herein by reference.
 
 
 
 
 
118123
PART
 
IV
 
ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT
 
SCHEDULES
 
(a)
List of all Financial Statements
 
The following consolidated financial statements and report of independent registered
 
public accounting firm of the
Company are included in this Annual Report on Form 10-K:
 
Report of Independent Registered Public Accounting Firm
 
Consolidated Balance Sheets as of December 31, 20212022 and 20202021
 
Consolidated Statements of Earnings for the years ended December 31,
 
20212022 and 20202021
 
Consolidated Statements of Comprehensive Income for the years ended December
 
31, 20212022 and 20202021
 
Consolidated Statements of Stockholders’ Equity for the years ended December
 
31, 20212022 and 20202021
Consolidated Statements of Cash Flows for the years ended December 31,
 
20212022 and
 
20202021
Notes to the Consolidated Financial Statements
 
 
(b)
Exhibits
 
 
 
3.1.
 
 
3.2.
 
 
 
4.1.
 
 
21.1
 
 
31.1
 
 
 
31.2
 
 
 
32.1
 
 
32.2
 
101.INS
 
Inline XBRL Instance Document
101.SCH
 
Inline XBRL Taxonomy Extension
 
Schema Document
101.CAL
 
Inline XBRL Taxonomy Extension
 
Calculation Linkbase Document
101.LAB
 
Inline XBRL Taxonomy Extension
 
Label Linkbase Document
101.PRE
 
Inline XBRL Taxonomy Extension
 
Presentation Linkbase Document
101.DEF
 
Inline XBRL Taxonomy Extension
 
Definition Linkbase Document
104
Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101
*
The certifications attached as exhibits 32.1 and 32.2 to this annual report on Form 10-K are
 
“furnished” to the Securities
and Exchange Commission pursuant to Section 906 of the Sarbanes-Oxley
 
Act of 2002 and shall not be deemed “filed”
by the Company for purposes of Section 18 of the Securities Exchange Act of 1934,
 
as amended.
 
 
119124
 
(c)
Financial Statement Schedules
 
All financial statement schedules required pursuant to this item were either included
 
in the financial information set
forth in (a) above or are inapplicable and therefore have been omitted.
 
 
ITEM 16.
FORM 10-K SUMMARY
None.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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, in the City of
 
Auburn, State of
Alabama, on March 8, 2022.17, 2023.
 
 
AUBURN NATIONAL
 
BANCORPORATION,
 
INC.
(Registrant)
By:
 
/S/ ROBERT W.DAVID
 
DUMASA. HEDGES
Robert W.
DumasDavid A. Hedges
Chairman, President and CEO
 
Pursuant to the requirements 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
 
/S/ ROBERT W.
DUMAS
Robert W.
Dumas
Chairman of the Board, President and Chief Executive
Officer
(Principal Executive Officer)
March 8, 2022
/S/ DAVID
 
A. HEDGES
David A. Hedges
 
EVP,President and Chief Executive Officer
(Principal Executive Officer)
March 17, 2023
/S/ W.
JAMES WALKER,
IV
W.
James Walker,
IV
SVP,
 
Chief Financial Officer
(Principal Financial and Accounting Officer)
March 8, 202217, 2023
/S/ ROBERT W.
DUMAS
Robert W.
Dumas
Chairman of the Board
March 17, 2023
 
/S/ C. WAYNE
 
ALDERMAN
C. Wayne Alderman
 
Director
March 8, 202217, 2023
 
/S/ TERRY W.
 
ANDRUS
Terry W.
 
Andrus
 
Director
March 8, 202217, 2023
 
/S/ J. TUTT BARRETT
J. Tutt Barrett
 
Director
March 8, 202217, 2023
 
/S/ LAURA J. COOPER
Laura Cooper
 
Director
March 8, 202217, 2023
 
/S/ WILLIAM F. HAM,
 
JR.
William F.
 
Ham, Jr.
 
Director
March 8, 202217, 2023
 
/S/ DAVID
 
E. HOUSEL
David E. Housel
 
Director
March 8, 202217, 2023
 
/S/ ANNE M. MAY
Anne M. May
 
Director
March 8, 202217, 2023
 
/S/ EDWARD
 
LEE SPENCER, III
Edward Lee Spencer, III
 
Director
March 8, 202217, 2023