Farmers & Merchants Bancorp (FMAO) 10-Q 2021 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

☒ Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period September 30, 2021

or

☐ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from         to

Commission File Number 001-38084

FARMERS & MERCHANTS BANCORP, INC.

(Exact name of registrant as specified in its charter)

Ohio	34-1469491
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

307 North Defiance Street, Archbold, Ohio	43502
(Address of principal executive offices)	(Zip Code)

(419) 446-2501

Registrant’s telephone number, including area code

(Former name, former address and former fiscal year, if changed since last report.)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading Symbol(s)	Name of Each Exchange
Common Stock, No Par Value	FMAO	NASDAQ Capital Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or Section 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, a smaller reporting company or an emerging growth company.  See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.  

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 elected 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. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ☐    No ☒

Indicate the number of shares of each of the issuers’ classes of common stock, as of the latest practicable date:

Common Stock, No Par Value	13,066,233
Class	Outstanding as of October 22, 2021

1

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10Q

FARMERS & MERCHANTS BANCORP, INC.

INDEX

Form 10-Q Items		Page
PART I.	FINANCIAL INFORMATION
Item   1.	Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets - September 30, 2021 and December 31, 2020	3
	Condensed Consolidated Statements of Income - Three and Nine Months Ended September 30, 2021 and September 30, 2020	4
	Condensed Consolidated Statements of Comprehensive Income - Three and Nine Months Ended September 30, 2021 and September 30, 2020	5
	Condensed Consolidated Statements of Changes to Stockholders’ Equity - Three and Nine Months Ended September 30, 2021 and September 30, 2020	6-7
	Condensed Consolidated Statements of Cash Flows - Nine Months Ended September 30, 2021 and September 30, 2020	8-9
	Notes to Condensed Consolidated Financial Statements	10
Item   2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	48-67
Item   3.	Qualitative and Quantitative Disclosures About Market Risk	68
Item   4.	Controls and Procedures	69
PART II.	OTHER INFORMATION	69
Item   1.	Legal Proceedings	69
Item 1A.	Risk Factors	69
Item   2.	Unregistered Sales of Equity Securities and Use of Proceeds	69
Item   3.	Defaults Upon Senior Securities	69
Item   4.	Mine Safety Disclosures	69
Item   5.	Other Information	69
Item   6.	Exhibits	70
Signatures		71
101.INS	Inline XBRL Instance Document - The instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. (1)
101.SCH	Inline XBRL Taxonomy Extension Schema Document (1)
101.CAL	Inline XBRL Taxonomy Extension Calculation Linkbase Document (1)
101.DEF	Inline XBRL Taxonomy Extension Definition Linkbase Document (1)
101.LAB	Inline XBRL Taxonomy Extension Label Linkbase Document (1)
101.PRE	Inline XBRL Taxonomy Extension Presentation Linkbase Document (1)

⁽¹⁾ Pursuant to Rule 406T of Regulation S-T, the interactive Data Files in Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

2

PART 1 - FINANCIAL INFORMATION

ITEM 1 FINANCIAL STATEMENTS

FARMERS & MERCHANTS BANCORP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

	(in thousands of dollars)
	September 30, 2021			December 31, 2020
	(Unaudited)
Assets
Cash and due from banks	$	112,875		$	98,279
Federal funds sold		45,203			77,427
Total cash and cash equivalents		158,078			175,706
Interest-bearing time deposits		14,622			4,653
Securities - available-for-sale		426,717			307,812
Other securities, at cost		4,905			5,939
Loans held for sale		3,735			7,740
Loans, net		1,479,864			1,289,318
Premises and equipment		26,476			27,063
Goodwill		55,214			47,340
Mortgage servicing rights		3,097			3,320
Other real estate owned		167			71
Bank owned life insurance		27,397			25,208
Other assets		18,711			15,374
Total Assets	$	2,218,983		$	1,909,544
Liabilities and Stockholders' Equity
Liabilities
Deposits
Noninterest-bearing	$	438,076		$	351,147
Interest-bearing
NOW accounts		646,237			542,317
Savings		529,532			455,145
Time		252,383			247,553
Total deposits		1,866,228			1,596,162
Federal funds purchased and securities sold under agreements to    repurchase		29,601			30,239
Federal Home Loan Bank (FHLB) advances		17,868			17,861
Subordinated notes, net of unamortized issuance costs		34,441			-
Dividend payable		2,002			1,889
Accrued expenses and other liabilities		14,097			14,233
Total liabilities		1,964,237			1,660,384
Commitments and Contingencies
Stockholders' Equity
Common stock - No par value 20,000,000 shares authorized; issued and    outstanding 12,230,000 shares 9/30/21 and 12/31/20		81,382			81,804
Treasury stock - 997,680 shares 9/30/21, 1,032,456 shares 12/31/20		(11,718	)		(11,932	)
Retained earnings		184,181			173,591
Accumulated other comprehensive income		901			5,697
Total stockholders' equity		254,746			249,160
Total Liabilities and Stockholders' Equity	$	2,218,983		$	1,909,544

See Notes to Condensed Consolidated Unaudited Financial Statements.

Note: The December 31, 2020, Condensed Consolidated Balance Sheet has been derived from the audited Consolidated Balance Sheet as of that date.

3

FARMERS & MERCHANTS BANCORP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

	(in thousands of dollars, except per share data)					(in thousands of dollars, except per share data)
	Three Months Ended					Nine Months Ended
	September 30, 2021		September 30, 2020			September 30, 2021		September 30, 2020
Interest Income
Loans, including fees	$	18,766	$	16,181		$	50,637	$	48,256
Debt securities:
U.S. Treasury and government agencies		924		761			2,532		2,674
Municipalities		284		279			881		784
Dividends		44		36			125		107
Federal funds sold		10		4			21		15
Other		94		32			221		194
Total interest income		20,122		17,293			54,417		52,030
Interest Expense
Deposits		1,221		1,864			3,837		7,019
Federal funds purchased and securities sold under    agreements to repurchase		165		174			494		605
Borrowed funds		87		231			424		754
Subordinated notes		199		-			199		-
Total interest expense		1,672		2,269			4,954		8,378
Net Interest Income - Before Provision for Loan Losses		18,450		15,024			49,463		43,652
Provision for Loan Losses		659		1,987			3,000		4,986
Net Interest Income After Provision for Loan Losses		17,791		13,037			46,463		38,666
Noninterest Income
Customer service fees		2,242		2,299			7,254		6,143
Other service charges and fees		1,010		879			2,722		2,622
Net gain on sale of loans		822		1,537			2,823		2,128
Net gain on sale of available-for-sale securities		-		-			293		270
Total noninterest income		4,074		4,715			13,092		11,163
Noninterest Expense
Salaries and wages		5,442		5,102			14,423		13,420
Employee benefits		1,621		1,566			5,530		4,461
Net occupancy expense		529		558			1,652		1,686
Furniture and equipment		903		875			2,542		2,383
Data processing		1,548		490			2,481		1,340
Franchise taxes		372		368			1,112		1,105
ATM expense		460		444			1,368		1,234
Advertising		439		411			1,005		979
Net (gain) loss on sale of other assets owned		219		(7	)		421		(13	)
FDIC assessment		296		194			808		410
Mortgage servicing rights amortization		285		296			1,314		784
Consulting fees		256		205			873		561
Other general and administrative		1,951		1,553			6,211		4,740
Total noninterest expense		14,321		12,055			39,740		33,090
Income Before Income Taxes		7,544		5,697			19,815		16,739
Income Taxes		1,624		1,287			4,003		3,420
Net Income	$	5,920	$	4,410		$	15,812	$	13,319
Basic and Diluted Earnings Per Share	$	0.53	$	0.40		$	1.41	$	1.20
Dividends Declared	$	0.18	$	0.17		$	0.52	$	0.49

See Notes to Condensed Consolidated Unaudited Financial Statements

4

FARMERS & MERCHANTS BANCORP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

	(in thousands of dollars)				(in thousands of dollars)
	Three Months Ended				Nine Months Ended
	September 30, 2021		September 30, 2020		September 30, 2021			September 30, 2020
Net Income	$	5,920	$	4,410	$	15,812		$	13,319
Other Comprehensive Income (Net of Tax):
Net unrealized gain (loss) on available-for-sale    securities		173		639		(5,778	)		6,298
Reclassification adjustment for realized gain on sale    of available-for-sale securities		-		-		(293	)		(270	)
Net unrealized gain (loss) on available-for-sale    securities		173		639		(6,071	)		6,028
Tax expense (benefit)		36		134		(1,275	)		1,266
Other comprehensive income (loss)		137		505		(4,796	)		4,762
Comprehensive Income	$	6,057	$	4,915	$	11,016		$	18,081

See Notes to Condensed Consolidated Unaudited Financial Statements

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5

Farmers & Merchants Bancorp, Inc. and Subsidiaries

CONDENSED Consolidated StatementS of Changes TO Stockholders’ Equity

For the THREE AND NINE Months Ended September 30, 2021

(000’s Omitted, Except Per Share Data)

(Unaudited)

													Accumulated
	Shares of												Other			Total
	Common			Common			Treasury			Retained			Comprehensive			Stockholders'
	Stock			Stock			Stock			Earnings			Income			Equity
Balance - January 1, 2021		11,197,544		$	81,804		$	(11,932	)	$	173,591		$	5,697		$	249,160
Net income											4,909						4,909
Other comprehensive loss														(5,554	)		(5,554	)
Purchase of treasury stock		(950	)					(23	)								(23	)
Issuance of 750 shares of restricted stock    (Net of forfeitures - 600)		150			1			(7	)		6						-
Stock-based compensation expense					225												225
Cash dividends declared - $0.17 per share											(1,889	)					(1,889	)
Balance - March 31, 2021		11,196,744			82,030			(11,962	)		176,617			143			246,828
Net income											4,983						4,983
Other comprehensive income														621			621
Purchase of treasury stock		(8,929	)					(201	)								(201	)
Forfeiture of 1,975 shares of restricted stock		(1,975	)		58			(47	)		(11	)					-
Stock-based compensation expense					171												171
Director stock award		3,212						38			33						71
Cash dividends declared - $0.17 per share											(1,888	)					(1,888	)
Balance - June 30, 2021		11,189,052		$	82,259		$	(12,172	)	$	179,734		$	764		$	250,585
Net income											5,920						5,920
Other comprehensive income														137			137
Purchase of treasury stock		(4,732	)					(107	)								(107	)
Issuance of 48,000 shares of restricted stock		48,000			(1,090	)		561			529						-
Stock-based compensation expense					213												213
Cash dividends declared - $0.18 per share											(2,002	)					(2,002	)
Balance - September 30, 2021		11,232,320		$	81,382		$	(11,718	)	$	184,181		$	901		$	254,746

See Notes to Condensed Consolidated Unaudited Financial Statements

6

Farmers & Merchants Bancorp, Inc. and Subsidiaries

CONDENSED Consolidated StatementS of Changes TO Stockholders’ Equity

For the THREE and NINE Months Ended September 30, 2020

(000’s Omitted, Except Per Share Data)

(Unaudited)

													Accumulated
	Shares of												Other		Total
	Common			Common			Treasury			Retained			Comprehensive		Stockholders'
	Stock			Stock			Stock			Earnings			Income		Equity
Balance - January 1, 2020		11,136,935		$	81,535		$	(12,456	)	$	160,081		$	1,098	$	230,258
Net income											4,105					4,105
Other comprehensive income														3,735		3,735
Purchase of treasury stock		(7,064	)					(170	)							(170	)
Forfeiture of 450 shares of restricted stock		(450	)		11			(10	)		(2	)				(1	)
Stock-based compensation expense					298											298
Cash dividends declared - $0.16 per share											(1,768	)				(1,768	)
Balance - March 31, 2020		11,129,421			81,844			(12,636	)		162,416			4,833		236,457
Net income											4,804					4,804
Other comprehensive income														522		522
Purchase of treasury stock		(2,508	)					(56	)							(56	)
Stock-based compensation expense					290											290
Director stock award		2,112						24			24					48
Cash dividends declared - $0.16 per share											(1,768	)				(1,768	)
Balance - June 30, 2020		11,129,025		$	82,134		$	(12,668	)	$	165,476		$	5,355	$	240,297
Net income											4,410					4,410
Other comprehensive income														505		505
Purchase of treasury stock		(6,875	)					(150	)							(150	)
Issuance of 36,551 shares of restricted stock		36,551			(796	)		421			377					2
Stock-based compensation expense					239											239
Cash dividends declared - $0.17 per share											(1,882	)				(1,882	)
Balance - September 30, 2020		11,158,701		$	81,577		$	(12,397	)	$	168,381		$	5,860	$	243,421

See Notes to Condensed Consolidated Unaudited Financial Statements

7

FARMERS & MERCHANTS BANCORP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

	(in thousands of dollars)
	Nine Months Ended
	September 30, 2021			September 30, 2020
Cash Flows from Operating Activities
Net income	$	15,812		$	13,319
Adjustments to reconcile net income to net cash from operating activities:
Depreciation		2,073			1,993
Amortization of premiums on available-for-sale securities, net		1,598			900
Amortization of servicing rights		1,314			784
Amortization of core deposit intangible		478			546
Amortization of customer list intangible		92			-
Net amortization (accretion) of fair value adjustments		(170	)		382
Amortization of subordinated note issuance costs		20			-
Stock-based compensation expense		609			827
Director stock award		71			48
Deferred income taxes		-			(3	)
Provision for loan loss		3,000			4,986
Gain on sale of loans held for sale		(2,823	)		(2,128	)
Originations of loans held for sale		(86,720	)		(151,477	)
Proceeds from sale of loans held for sale		93,548			150,130
(Gain) loss on sale of other assets owned		421			(13	)
Gain on sales of securities available-for-sale		(293	)		(270	)
Increase in cash surrender value of bank owned life insurance		(475	)		(266	)
Change in other assets and other liabilities, net		(1,278	)		(3,265	)
Net cash provided by operating activities		27,277			16,493
Cash Flows from Investing Activities
Activity in available-for-sale securities:
Maturities, prepayments and calls		41,305			67,137
Sales		9,291			11,843
Purchases		(146,634	)		(110,330	)
Activity in other securities, at cost:
Purchases		(207	)		(17	)
Proceeds from redemption of FHLB stock		1,522			-
Change in interest-bearing time deposits		10,257			(348	)
Proceeds from sale of other assets owned		196			92
Additions to premises and equipment		(1,418	)		(2,407	)
Loan originations and principal collections, net		(141,116	)		(144,978	)
Acquisition of Ossian Financial Services, Inc., net of cash received		228			-
Net cash used in investing activities		(226,576	)		(179,008	)
Cash Flows from Financing Activities
Net change in deposits		154,042			230,359
Net change in federal funds purchased and securities sold under agreements    to repurchase		(638	)		(18,214	)
Repayment of FHLB advances		(157	)		(7,493	)
Purchase of treasury stock		(331	)		(376	)
Proceeds from issuance of subordinated notes		34,421			-
Cash dividends paid on common stock		(5,666	)		(5,304	)
Net cash provided by financing activities		181,671			198,972
Net Increase (Decrease) in Cash and Cash Equivalents		(17,628	)		36,457
Cash and Cash Equivalents - Beginning of year		175,706			51,296
Cash and Cash Equivalents - End of period	$	158,078		$	87,753

(continued)

8

FARMERS & MERCHANTS BANCORP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)  (Continued)

	(in thousands of dollars)
	Nine Months Ended
	September 30, 2021		September 30, 2020
Supplemental Information
Supplemental cash flow information:
Interest paid	$	4,559	$	7,970
Income taxes paid		5,100		5,016
Supplemental noncash disclosures:
Transfer of loans to other real estate owned		209		71
Cash dividends declared not paid		2,002		1,882
The Company purchased the assets of Ossian Financial Services, Inc. for $20,001 on April 30, 2021.
Fair value of assets acquired	$	137,058	$	-
Cash paid for the capital stock		20,001		-
Liabilities assumed	$	117,057	$	-

See Notes to Condensed Consolidated Unaudited Financial Statements.

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9

ITEM 1  NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS

NOTE 1 BASIS OF PRESENTATION AND OTHER

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10Q and Rule 10-01 of Regulation S-X; accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.  In the opinion of management, all adjustments, consisting of normal recurring accruals, considered necessary for a fair presentation have been included.  Operating results for the nine months ended September 30, 2021 are not necessarily indicative of the results that are expected for the year ended December 31, 2021.  The condensed consolidated balance sheet of the Company as of December 31, 2020, has been derived from the audited consolidated balance sheet of the Company as of that date. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2020.

The Company recognizes revenues as they are earned based on contractual terms, as transactions occur, or as services are provided and collectability is reasonably assured.  The Company’s principal source of revenue is interest income from loans and investment securities.  The Company also earns noninterest income from various banking and financial services offered primarily through Farmers & Merchants State Bank.  Interest income is primarily recognized on an accrual basis according to nondiscretionary formulas written in contracts, such as loan agreements or investment security contracts.  The Company also earns noninterest income from various banking and financial services provided to business and consumer clients such as deposit account, debit card, and mortgage banking services.  Revenue is recorded for noninterest income based on the contractual terms for the service or transaction performed.

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE

On April 30, 2021, the Company acquired Ossian Financial Services, Inc., (OSFI), the bank holding company for Ossian State Bank, a community bank based in Ossian, Indiana.  Ossian State Bank operated 2 full-service offices in the northeast Indiana communities of Ossian and Bluffton.  Shareholders of OSFI received $67.71 in cash for each share. OSFI had 295,388 shares outstanding on April 30, 2021. Total consideration for the acquisition was approximately $20.0 million in cash.  As a result of the acquisition, the Company has increased its deposit base and is working to reduce transaction costs.  The Company also expects to reduce costs through economies of scale.

In 2020, the Company incurred $42.5 thousand of third-party acquisition-related costs.  The expenses recognized in 2020 related to other general and administration expenses of $30.0 thousand and consulting fees of $12.5 thousand. These acquisition expenses were included in the Company’s 2020 consolidated statement of income.

In 2021, the Company has incurred additional third-party acquisition-related costs of $2.1 million.  These expenses are comprised of employee benefits of $694.1 thousand, data processing costs of $938.9 thousand, consulting fees of $255.2 thousand, ATM expense of $13.8 thousand and other general and administrative expense of $241.3 thousand in the Company’s consolidated statement of income for the nine months ended September 30, 2021.  For the quarter ended September 30, 2021, the Company incurred third-party acquisition related costs of $1.2 million.  These expenses are comprised of employee benefits of $152.6 thousand, data processing costs of $938.9 thousand, consulting fees of $10.3 thousand, ATM expense of $2.6 thousand and other general and administrative expense of $61.5 thousand in the Company’s consolidated statement of income for the three months ended September 30, 2021.

10

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE (Continued)

Under the acquisition method of accounting, the total purchase was allocated to net tangible and intangible assets based on their current estimated fair values on the date of acquisition.  Of the total purchase price of $20.0 million, $980.2 thousand has been allocated to core deposit intangible included in other assets and will be amortized over seven years on a straight line basis.  Goodwill of $7.9 million which resulted from the acquisition consists largely of the synergies and economies of scale expected from combining the operations of the Company and Ossian State Bank and is deductible for tax purposes over 15 years.  The following table summarizes the consideration paid for Ossian State Bank and the amounts of the assets acquired and liabilities assumed recognized at the acquisition date.

Fair Value of Consideration Transferred
	(In Thousands)
Cash	$	20,001
Total	$	20,001
Recognized amounts of identifiable assets acquired and liabilities assumed
Assets
Cash and cash equivalents	$	20,229
Interest-bearing time deposits		20,226
Securities - available-for-sale		30,243
Other securities, at cost		281
Loans, net		52,403
Premises and equipment		494
Goodwill		7,874
Other assets		5,308
Total Assets Purchased	$	137,058
Liabilities
Deposits
Noninterest bearing	$	34,509
Interest bearing		81,535
Total deposits		116,044
Accrued expenses and other liabilities		1,013
Total Liabilities Assumed	$	117,057

The fair value of the assets acquired includes loans with a fair value of $52.4 million.  The gross principal and contractual interest due under the contracts is $58.6 million, of which $1.1 million is expected to be uncollectible.  The loans have a weighted average life of 52 months.

The fair value of building and land included in premises and equipment was written down by $596 thousand with $244 thousand attributable to buildings and will be accreted over the useful life of 39 years,

The fair value for certificates of deposit incorporates a valuation amount of $59 thousand which will be accreted over 1.4 years.  

Certain transferred loans evidenced deterioration of credit quality since origination and management deemed it probable, at acquisition, that all contractually required payments would not be collected.

Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be credit impaired.  Evidence of credit quality deterioration as of the purchase date may include information such as past-due and nonaccrual status, borrower credit scores and recent loan to value percentages.  Purchased credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality (ASC 310-30) and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loan.  Accordingly, an allowance for credit losses related to these loans is not carried over and recorded at the acquisition date.  Management estimated the cash flows expected to be collected at acquisition using our internal risk models, which incorporate the estimate of current key assumptions, such as default rates, severity and prepayment speeds.

The carrying amount of those loans is included in loans, net on the balance sheet at September 30.  The amounts of loans at April 30, 2021 and September 30, 2021 are as follows:

11

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE (Continued)

	2021
	(In Thousands)
Balance - April 30, 2021
Consumer Real Estate	$	24
Agricultural Real Estate		981
Commercial Real Estate		315
Commercial & Industrial		314
Carrying amount, net of fair value adjustment of $325	$	1,309
Balance - September 30, 2021
Consumer Real Estate	$	23
Agricultural Real Estate		-
Commercial Real Estate		234
Commercial & Industrial		293
Carrying amount, net of fair value adjustment of $325	$	225

Loans acquired during 2021 for which it was probable at acquisition that all contractually required payments would not be collected are as follows:

	(In Thousands)
Contractually required payments receivable at acquisition
Consumer Real Estate	$	28
Agricultural Real Estate		1,142
Commercial Real Estate		527
Commercial & Industrial		360
Total required payments receivable	$	2,057
Cash flows expected to be collected at acquisition	$	1,309
Basis in acquired loans at acquisition	$	1,634

During the third quarter, 2 agricultural real estate purchased credit impaired loans were paid off in full.  

Changes in accretable yield, or income expected to be collected, are as follows:

	Three Months Ended September 30, 2021			Nine Months Ended September 30, 2021
	(In Thousands)			(In Thousands)
Beginning Balance	$	733		$	-
Additions		-			762
Accretion		(44	)		(73	)
Reclassification from nonaccretable difference		-			-
Disposals		-			-
Ending Balance	$	689		$	689

The results of operations of Ossian State Bank have been included in the Company’s consolidated financial statements since the acquisition date of April 30, 2021.  The following schedule includes pro-forma results for the three and nine months ended September 30, 2021 and 2020 as if the Ossian State Bank acquisitions had occurred as of the beginning of the comparable prior reporting period.

12

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE (Continued)

	(in thousands of dollars, except per share data)				(in thousands of dollars, except per share data)
	Three Months Ended				Nine Months Ended
	September 30, 2021		September 30, 2020		September 30, 2021		September 30, 2020
Summary of Operations
Net Interest Income - Before Provision for Loan Losses	$	18,450	$	15,909	$	50,482	$	46,387
Provision for Loan Losses		659		1,988		3,001		4,989
Net Interest Income After Provision for Loan Losses		17,791		13,921		47,481		41,398
Noninterest Income		4,074		4,814		13,302		11,363
Noninterest Expense		12,880		13,062		38,010		35,666
Income Before Income Taxes		8,985		5,673		22,773		17,095
Income Taxes		1,892		1,093		4,566		3,273
Net Income	$	7,093	$	4,580	$	18,207	$	13,822
Basic and Diluted Earnings Per Share	$	0.63	$	0.41	$	1.63	$	1.24

The pro-forma information includes adjustments for interest income on loans, amortization of intangibles arising from the transaction, interest expense on deposits acquired, premises expense for the branches acquired and the related income tax effects.  The pro-forma information for the quarter ended September 30, 2021 includes approximately $348 thousand, net of tax, of operating revenue from Ossian State Bank since January 1, 2021.

The pro-forma financial information is presented for informational purposes only and is not indicative of the results of operations that actually would have been achieved had the acquisition been consummated as of that time, nor is it intended to be a projection of future results.

On January 1, 2019, the Company acquired Limberlost Bancshares, Inc. (“Limberlost”), the bank holding company for Bank of Geneva, a community bank based in Geneva, Indiana.  Bank of Geneva operated 6 full-service offices in the northeast Indiana communities of Geneva, Berne, Decatur, Monroe, Portland and Monroeville.  Shareholders of Limberlost received 1,830 shares of FMAO common stock and $8,465.00 in cash for each share. Limberlost had 1,000 shares outstanding on January 1, 2019. The share price of Farmers & Merchants Bancorp, Inc. (FMAO) stock on January 1, 2019 was $38.49. Total consideration for the acquisition was approximately $78.9 million consisting of $8.5 million in cash and $70.4 million in stock.  As a result of the acquisition, the Company has had an opportunity to increase its deposit base and reduce transaction costs.  The Company has also reduced costs through economies of scale.

Under the acquisition method of accounting, the total purchase was allocated to net tangible and intangible assets based on their current estimated fair values on the date of acquisition.  Of the total purchase price of $78.9 million, $3.9 million has been allocated to core deposit intangible included in other assets and is being amortized over seven years on a straight line basis.  Goodwill of $43.3 million resulting from the acquisition consists largely of the synergies and economies of scale expected from combining the operations of the Company and Bank of Geneva.  Of that total amount, none of the purchase price is deductible for tax purposes.   

Changes in accretable yield, or income expected to be collected, for the three and nine months ended are as follows:

	Three Months Ended September 30, 2021			Three Months Ended September 30, 2020			Nine Months Ended September 30, 2021			Nine Months Ended September 30, 2020
	(In Thousands)			(In Thousands)			(In Thousands)			(In Thousands)
Beginning Balance	$	1,439		$	1,871		$	1,653		$	2,021
Additions		3			-			8			2
Accretion		(108	)		(107	)		(323	)		(321	)
Reclassification from nonaccretable difference		-			-			-			62
Disposals		-			(5	)		(4	)		(5	)
Ending Balance	$	1,334		$	1,759		$	1,334		$	1,759

13

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE (Continued)

As mentioned previously, the acquisition of Bank of Geneva resulted in the recognition of $3.9 million in core deposit intangible assets which is being amortized over its remaining life of 7 years on a straight line basis.

The amortization expense for the nine months ended September 30, 2020 was $546 thousand of which $84 thousand was related to the purchase of the Custar office in December of 2013.  Of the $653 thousand to be expensed in 2021, $478 thousand has been expensed for the nine months ended September 30, 2021.  Annual amortization of core deposit intangible assets is as follows:

	(In Thousands)		(In Thousands)		(In Thousands)
	Geneva		Ossian		Total
2021	$	560	$	93	$	653
2022		560		140		700
2023		560		140		700
2024		560		140		700
2025		560		140		700
Thereafter		-		327		-
	$	2,800	$	980		3,453

On November 16, 2020, FM Investment Services, a division of the Bank, purchased the assets and clients of Adams County Financial Resources (ACFR), a full-service registered investment advisory firm located in Geneva, Indiana.

ACFR was founded in 1994 by R. Lee Flueckiger and provides clients and their families with financial confidence through personalized investment planning and services. As of November 30, 2020, ACFR had approximately $83 million of assets under management and over 450 clients.

Total consideration for the purchase was $825 thousand which consisted of 40,049 shares of stock. As a result of this purchase, the Company expects an increase to noninterest income of approximately $500 thousand in 2021 with the majority of the income to be recognized in the second half of the year.

Under the acquisition method of accounting, the total purchase is allocated to net tangible and intangible assets based on their current estimated fair values on the date of acquisition. Of the total purchase price of $825 thousand, $800 thousand has been allocated to customer list intangible, included in other assets, to be amortized over 6.5 years on a straight line basis.

The following table summarizes the consideration paid for ACFR and the amounts of the assets acquired:

Fair Value of Consideration Transferred
	(In Thousands)
Common Shares (40,049 shares)	$	825
Total	$	825
Recognized amounts of identifiable assets acquired
Assets
Premises and equipment	$	25
Customer list intangible		800
Total Assets Purchased	$	825

Of the $123 thousand to be expensed in 2021, $92 thousand has been expensed for the nine months ended September 30, 2021.  Annual amortization expense of customer list intangible is as follows:

14

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 2 BUSINESS COMBINATION AND ASSET PURCHASE (Continued)

	(In Thousands)
	Adams County Financial Resources
2021	$	123
2022		123
2023		123
2024		123
2025		123
Thereafter		169
	$	784

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15

ITEM 1  NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS

NOTE 3 SECURITIES

Mortgage-backed securities, as shown in the following tables, are all government sponsored enterprises.  The amortized cost and fair value of securities, with gross unrealized gains and losses at September 30, 2021 and December 31, 2020, are as follows:

	(In Thousands)
	September 30, 2021
	Amortized		Gross Unrealized		Gross Unrealized			Fair
	Cost		Gains		Losses			Value
Available-for-Sale:
U.S. Treasury	$	74,347	$	29	$	(572	)	$	73,804
U.S. Government agencies		163,771		1,123		(1,698	)		163,196
Mortgage-backed securities		124,658		1,348		(907	)		125,099
State and local governments		62,802		2,046		(230	)		64,618
Total available-for-sale securities	$	425,578	$	4,546	$	(3,407	)	$	426,717

	(In Thousands)
	December 31, 2020
	Amortized		Gross Unrealized		Gross Unrealized			Fair
	Cost		Gains		Losses			Value
Available-for-Sale:
U.S. Treasury	$	-	$	-	$	-		$	-
U.S. Government agencies		122,514		1,857		(130	)		124,241
Mortgage-backed securities		110,828		2,228		-			113,056
State and local governments		67,260		3,265		(10	)		70,515
Total available-for-sale securities	$	300,602	$	7,350	$	(140	)	$	307,812

Investment securities will at times depreciate to an unrealized loss position. The Company utilizes the following criteria to assess whether impairment is other than temporary. No one item by itself will necessarily signal that a security should be recognized as an other than temporary impairment.

1. The fair value of the security has significantly declined from book value.

2. A downgrade has occurred that lowered the credit rating to below investment grade (below Baa3 by Moody and BBB – by Standard and Poors.)

3. Dividends have been reduced or eliminated or scheduled interest payments have not been made.

4. The underwater security has longer than 10 years to maturity and the loss position had existed for more than 3 years.

5. Management does not possess both the intent and ability to hold the security for a period of time sufficient to allow for any anticipated recovery in fair value.

If the impairment is judged to be other than temporary, the cost basis of the individual security shall be written down to fair value, thereby establishing a new cost basis. The new cost basis shall not be changed for subsequent recoveries in fair value. The amount of the write down shall be included in current earnings as a realized loss. The recovery in fair value, if any, shall be recognized in earnings when the security is sold. The table below is presented by category of security and length of time in a continuous loss position. The Company currently does not hold any securities with other than temporary impairment.

16

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 3 SECURITIES (Continued)

Information pertaining to securities with gross unrealized losses at September 30, 2021 and December 31, 2020, aggregated by investment category and length of time that individual securities have been in a continuous loss position follows:    

	(In Thousands)
	September 30, 2021
	Less Than Twelve Months					Twelve Months & Over					Total
	Gross Unrealized			Fair		Gross Unrealized			Fair		Gross Unrealized			Fair
	Losses			Value		Losses			Value		Losses			Value
U.S. Treasury	$	(572	)	$	58,913	$	-		$	-	$	(572	)	$	58,913
U.S. Government agencies		(1,636	)		107,353		(62	)		2,443		(1,698	)		109,796
Mortgage-backed securities		(907	)		57,266		-			-		(907	)		57,266
State and local governments		(166	)		11,260		(64	)		2,503		(230	)		13,763
Total available-for-sale securities	$	(3,281	)	$	234,792	$	(126	)	$	4,946	$	(3,407	)	$	239,738

	(In Thousands)
	December 31, 2020
	Less Than Twelve Months					Twelve Months & Over				Total
	Gross Unrealized			Fair		Gross Unrealized		Fair		Gross Unrealized			Fair
	Losses			Value		Losses		Value		Losses			Value
U.S. Treasury	$	-		$	-	$	-	$	-	$	-		$	-
U.S. Government agencies		(130	)		48,331		-		-		(130	)		48,331
Mortgage-backed securities		-			-		-		-		-			-
State and local governments		(10	)		3,562		-		-		(10	)		3,562
Total available-for-sale securities	$	(140	)	$	51,893	$	-	$	-	$	(140	)	$	51,893

Unrealized losses on securities have not been recognized into income because the issuers’ bonds are of high credit quality, values have only been impacted by changes in interest rates since the securities were purchased, and the Company has the intent and ability to hold the securities for the foreseeable future.  The fair value is expected to recover as the bonds approach the maturity date.

Below are the gross realized gains and losses for the three and nine months ended September 30, 2021 and September 30, 2020.

	Three Months				Nine Months
	(In Thousands)				(In Thousands)
	2021		2020		2021		2020
Gross realized gains	$	-	$	-	$	293	$	270
Gross realized losses		-		-		-		-
Net realized gains	$	-	$	-	$	293	$	270
Tax expense related to net realized gains	$	-	$	-	$	62	$	57

The net realized gains on sales and related tax expense is a reclassification out of accumulated other comprehensive income (loss). The net realized gains are included in net gains on sale of available-for-sale securities and the related tax expense is included in income taxes in the condensed consolidated statements of income and comprehensive income (loss).

17

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 3 SECURITIES (Continued)

The amortized cost and fair value of debt securities at September 30, 2021, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

	(In Thousands)
	Amortized
	Cost		Fair Value
One year or less	$	8,867	$	8,923
After one year through five years		120,220		121,121
After five years through ten years		171,484		171,215
After ten years		349		359
Total	$	300,920	$	301,618
Mortgage-backed securities		124,658		125,099
Total	$	425,578	$	426,717

Investments with a carrying value of $77.1 million and $83.2 million at September 30, 2021 and December 31, 2020, respectively, were pledged to secure public deposits and securities sold under repurchase agreements.  

Other securities include Federal Home Loan Bank of Cincinnati and Indianapolis stock in the amount of $4.5 million as of September 30, 2021 and $5.8 million as of December 31, 2020 in addition to Ohio Equity Fund for Housing Limited Partnership of $357 thousand as of  September 30, 2021 and $151 thousand as of  December 31, 2020.

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18

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS

Loan balances as of  September 30, 2021 and December 31, 2020 are summarized below:

	(In Thousands)
Loans:	September 30, 2021			December 31, 2020
Consumer Real Estate	$	202,454		$	175,588
Agricultural Real Estate		179,374			189,159
Agricultural		105,580			94,358
Commercial Real Estate		728,852			588,825
Commercial and Industrial		194,767			189,246
Consumer		55,521			52,540
Other		31,096			15,757
		1,497,644			1,305,473
Less: Net deferred loan fees and costs		(2,082	)		(2,483	)
		1,495,562			1,302,990
Less: Allowance for loan losses		(15,698	)		(13,672	)
Loans - Net	$	1,479,864		$	1,289,318

Other loans primarily fund public improvements in the Bank’s service area.

The distribution of fixed rate loans and variable rate loans by major loan category is as follows as of September 30, 2021:

	(In Thousands)
	Fixed		Variable
Consumer Real Estate	$	138,024	$	64,430
Agricultural Real Estate		108,102		71,272
Agricultural		89,426		16,154
Commercial Real Estate		594,081		134,771
Commercial and Industrial		161,106		33,661
Consumer		51,469		4,052
Other		21,096		10,000

As of September 30, 2021 and December 31, 2020 one to four family residential mortgage loans amounting to $36.5 million and $38.0 million, respectively, have been pledged as security for future loans and existing loans the Bank has received from the Federal Home Loan Bank.

Unless listed separately, Other loans are included in the Commercial and Industrial category for the remainder of the tables in this Note 4.

19

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

The following table represents the contractual aging of the recorded investment (in thousands) in past due loans by portfolio classification of loans as of September 30, 2021 and December 31, 2020, net of deferred loan fees and costs:

September 30, 2021	30-59 Days Past Due		60-89 Days Past Due		Greater Than 90 Days		Total Past Due		Current		Total Financing Receivables		Recorded Investment > 90 Days and Accruing
Consumer Real Estate	$	175	$	-	$	204	$	379	$	201,991	$	202,370	$	-
Agricultural Real Estate		120		-		-		120		178,931		179,051		-
Agricultural		-		-		117		117		105,605		105,722		-
Commercial Real Estate		-		-		180		180		727,238		727,418		-
Commercial and Industrial		136		199		366		701		224,681		225,382		-
Consumer		62		45		-		107		55,512		55,619		-
Total	$	493	$	244	$	867	$	1,604	$	1,493,958	$	1,495,562	$	-

December 31, 2020	30-59 Days Past Due		60-89 Days Past Due		Greater Than 90 Days		Total Past Due		Current		Total Financing Receivables		Recorded Investment > 90 Days and Accruing
Consumer Real Estate	$	269	$	191	$	1,032	$	1,492	$	173,824	$	175,316	$	-
Agricultural Real Estate		-		-		88		88		188,738		188,826		-
Agricultural		-		-		176		176		94,314		94,490		-
Commercial Real Estate		-		-		185		185		587,469		587,654		-
Commercial and Industrial		-		750		983		1,733		202,310		204,043		-
Consumer		53		-		-		53		52,608		52,661		-
Total	$	322	$	941	$	2,464	$	3,727	$	1,299,263	$	1,302,990	$	-

20

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

The following table presents the recorded investment in nonaccrual loans by class of loans as of September 30, 2021 and December 31, 2020:

	(In Thousands)
	September 30, 2021		December 31, 2020
Consumer Real Estate	$	395	$	1,546
Agricultural Real Estate		4,568		5,575
Agricultural		117		307
Commercial Real Estate		619		665
Commercial & Industrial		542		1,296
Consumer		7		15
Total	$	6,248	$	9,404

Following are the characteristics and underwriting criteria for each major type of loan the Bank offers:

Consumer Real Estate: Purchase, refinance, or equity financing of one to four family owner occupied dwelling. Success in repayment is subject to borrower’s income, debt level, character in fulfilling payment obligations, employment, and others.

Agricultural Real Estate: Purchase of farm real estate or for permanent improvements to the farm real estate. Cash flow from the farm operation is the repayment source and is therefore subject to the financial success of the farm operation.

Agricultural: Loans for the production and housing of crops, fruits, vegetables, and livestock or to fund the purchase or re-finance of capital assets such as machinery and equipment and livestock. The production of crops and livestock is especially vulnerable to commodity prices and weather. The vulnerability to commodity prices is offset by the farmer’s ability to hedge their position by the use of various pricing mechanisms. The risk related to weather is often mitigated by requiring crop insurance.

Commercial Real Estate: Construction, purchase, and refinance of business purpose real estate. Risks include potential construction delays and overruns, vacancies, collateral value subject to market value fluctuations, interest rate, market demands, borrower’s ability to repay in orderly fashion, and others.  The Bank does employ stress testing on higher balance loans to mitigate risk by ensuring the customer’s ability to repay in a changing rate environment before granting loan approval.

Commercial and Industrial: Loans to proprietorships, partnerships, limited liability companies or corporations to provide temporary working capital and seasonal loans as well as long term loans for capital asset acquisition.  Risks include adequacy of cash flow, reasonableness of projections, financial leverage, economic trends, management ability and estimated capital expenditures during the fiscal year. The Bank does employ stress testing on higher balance loans to mitigate risk by ensuring the customer's ability to repay in a changing rate environment before granting loan approval.  Included in commercial loans for 2021 and 2020 are Paycheck Protection Program (PPP) loans, administered by the Small Business Administration (SBA), in the amounts of $9.8 million and $36.2 million, respectively.  The PPP provides loans to eligible businesses through financial institutions like the Bank, with loans being eligible for forgiveness of some or all of the principal amount by the SBA if the borrower meets certain requirements.  The SBA guarantees repayment of the loans to the Bank if the borrower’s loan is not forgiven and is then not repaid by the customer.  Therefore, there is 0 allowance for loan losses related to these loans.

Consumer: Funding for individual and family purposes.  Success in repayment is subject to borrower’s income, debt level, character in fulfilling payment obligations, employment, and others.

Other: Primarily funds public improvements in the Bank’s service area.  Repayment ability is based on the continuance of the taxation revenue as the source of repayment.

The Bank uses a nine tier risk rating system to grade its loans. The grade of a loan may change during the life of the loan.

The risk ratings are described as follows.

1. Zero (0) Unclassified. Any loan which has not been assigned a classification.

2. One (1) Excellent. Credit to premier customers having the highest credit rating based on an extremely strong financial condition, which compares favorably with industry standards (upper quartile of RMA

21

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

ratios). Financial statements indicate a sound earnings and financial ratio trend for several years with satisfactory profit margins and excellent liquidity exhibited. Prime credits may also be borrowers with loans fully secured by highly liquid collateral such as traded stocks, bonds, certificates of deposit, savings account, etc. No credit or collateral exceptions exist, and the loan adheres to The Bank's loan policy in every respect. Financing alternatives would be readily available and would qualify for unsecured credit. This rate is summarized by high liquidity, minimum risk, strong ratios, and low handling costs.

3. Two (2) Good. Desirable loans of somewhat less stature than rate 1, but with strong financial statements. Loan supported by financial statements containing strong balance sheets and a history of profitability. Probability of serious financial deterioration is unlikely. Possessing a sound repayment source (and a secondary source), which would allow repayment in a reasonable period of time. Individual loans backed by liquid personal assets, established history and unquestionable character.  

4. Three (3) Satisfactory.  Satisfactory loans of average or slightly above average risk – having some deficiency or vulnerability to changing economic conditions, but still fully collectible.  Projects should normally demonstrate acceptable debt service coverage.  There may be some weakness but with offsetting features of other support readily available.  Loans that are meeting the terms of repayment.

Loans may be rated 3 when there is no recent information on which to base a current risk evaluation and the following conditions apply:

At inception, the loan was properly underwritten and did not possess an unwarranted level of credit risk;

a. At inception, the loan was secured with collateral possessing a loan-to-value adequate to protect The Bank from loss;

b. The loan exhibited two or more years of satisfactory repayment with a reasonable reduction of the principal balance;

c. During the period that the loan has been outstanding, there has been no evidence of any credit weakness. Some examples of weakness include slow payment, lack of cooperation by the borrower, breach of loan covenants, or the business is in an industry which is known to be experiencing problems. If any of these credit weaknesses is observed, a lower risk rating is warranted.

5. Four (4) Satisfactory / Monitored. A “4” (Satisfactory/Monitored) risk rating may be established for a loan considered satisfactory but which is of average credit risk due to financial weakness or uncertainty. The loans warrant a higher than average level of monitoring to ensure that weaknesses do not advance. The level of risk in Satisfactory/Monitored classification is considered acceptable and within normal underwriting guidelines, so long as the loan is given management supervision.

6. Five (5) Special Mention. Loans that possess some credit deficiency or potential weakness which deserve close attention, but which do not yet warrant substandard classification.  Such loans pose unwarranted financial risk that, if not corrected, could weaken the loan and increase risk in the future. The key distinctions of a 5 (Special Mention) classification are that (1) it is indicative of an unwarranted level of risk, and (2) weaknesses are considered “potential” versus “defined” impairments to the primary source of loan repayment and collateral.

7. Six (6) Substandard.  One or more of the following characteristics may be exhibited in loans classified substandard:

a. Loans which possess a defined credit weakness and the likelihood that a loan will be paid from the primary source are uncertain.  Financial deterioration is underway and very close attention is warranted to ensure that the loan is collected without loss.

b. Loans are inadequately protected by the current net worth and paying capacity of the borrower.

c. The primary source of repayment is weakened, and The Bank is forced to rely on a secondary source of repayment such as collateral liquidation or guarantees.

d. Loans are characterized by the distinct possibility that The Bank will sustain some loss if deficiencies are not corrected.

e. Unusual courses of action are needed to maintain a high probability of repayment.

f. The borrower is not generating enough cash flow to repay loan principal; however, continues to make interest payments.

g. The lender is forced into a subordinate position or unsecured collateral position due to flaws in documentation.

h. Loans have been restructured so that payment schedules, terms and collateral represent concessions to the borrower when compared to the normal loan terms.

22

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

i. The lender is seriously contemplating foreclosure or legal action due to the apparent deterioration in the loan.

j. There is significant deterioration in the market conditions and the borrower is highly vulnerable to these conditions.

8. Seven (7) Doubtful.  One or more of the following characteristics may be exhibited in loans classified Doubtful:

a. Loans have all of the weaknesses of those classified as Substandard. Additionally, however, these weaknesses make collection or liquidation in full based on existing conditions improbable.

b. The primary source of repayment is gone, and there is considerable doubt as to the quality of the secondary source of repayment.

c. The possibility of loss is high, but, because of certain important pending factors which may strengthen the loan, loss classification is deferred until its exact status is known.  A Doubtful classification is established deferring the realization of the loss.

9. Eight (8) Loss.  Loans are considered uncollectable and of such little value that continuing to carry them as assets on the institution’s financial statements is not feasible.  Loans will be classified Loss when it is neither practical nor desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be possible at some time in the future.

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23

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

The following table represents the risk category of loans by portfolio class, net of deferred fees and costs, based on the most recent analysis performed as of September 30, 2021 and December 31, 2020:

	(In Thousands)
	Agricultural				Commercial		Commercial
	Real Estate		Agricultural		Real Estate		and Industrial		Other
September 30, 2021
1-2	$	9,647	$	4,902	$	11,306	$	11,867	$	-
3		40,914		25,170		222,396		42,616		10,956
4		110,166		74,802		458,886		134,690		20,140
5		4,638		301		7,872		1,098		-
6		13,686		547		26,958		4,015		-
7		-		-		-		-		-
8		-		-		-		-		-
Total	$	179,051	$	105,722	$	727,418	$	194,286	$	31,096

	Agricultural				Commercial		Commercial
	Real Estate		Agricultural		Real Estate		and Industrial		Other
December 31, 2020
1-2	$	11,960	$	5,093	$	11,001	$	38,486	$	-
3		38,306		23,779		165,201		26,515		4,651
4		112,465		63,480		396,076		114,108		11,106
5		7,478		1,577		4,010		3,266		-
6		18,617		561		11,366		4,796		-
7		-		-		-		1,115		-
8		-		-		-		-		-
Total	$	188,826	$	94,490	$	587,654	$	188,286	$	15,757

24

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

For consumer residential real estate, and other, the Company also evaluates credit quality based on the aging status of the loan, as was previously stated, and by payment activity. The following tables present the recorded investment in those classes based on payment activity and assigned risk grading as of September 30, 2021 and December 31, 2020.  

	(In Thousands)
	Consumer		Consumer
	Real Estate		Real Estate
	September 30, 2021		December 31, 2020
Grade
Pass	$	199,470	$	171,667
Special Mention (5)		1,687		1,284
Substandard (6)		1,213		2,365
Doubtful (7)		-		-
Total	$	202,370	$	175,316

	(In Thousands)
	Consumer - Credit				Consumer - Other
	September 30, 2021		December 31, 2020		September 30, 2021		December 31, 2020
Performing	$	3,630	$	3,660	$	51,976	$	48,855
Nonperforming		-		10		13		136
Total	$	3,630	$	3,670	$	51,989	$	48,991

Information about impaired loans as of September 30, 2021, December 31, 2020 and September 30, 2020 are as follows:

			(In Thousands)
	September 30, 2021		December 31, 2020		September 30, 2020
Impaired loans without a valuation allowance	$	2,461	$	5,172	$	5,134
Impaired loans with a valuation allowance		9,388		9,360		10,125
Total impaired loans	$	11,849	$	14,532	$	15,259
Valuation allowance related to impaired loans	$	2,400	$	1,657	$	1,198
Total non-accrual loans	$	6,248	$	9,404	$	7,870
Total loans past-due ninety days or more and    still accruing	$	-	$	0	$	0
Quarter ended average investment in impaired    loans	$	11,639	$	14,868	$	13,517
Year to date average investment in impaired    loans	$	12,360	$	10,234	$	8,613

There were 0 additional funds available to be advanced in connection with impaired loans as of September 30, 2021.

The Bank had approximately $6.0 million of its impaired loans classified as troubled debt restructured (TDR) as of September 30, 2021, $6.5 million as of December 31, 2020 and $6.4 million as of September 30, 2020.      

25

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

Modification programs focused on payment pattern changes and/or modified maturity dates with most receiving a combination of the two concessions.  The modifications did 0t result in the contractual forgiveness of principal.  During the third quarter of 2021, 1 new loan was considered TDR as a result of being in a deficiency balance upon the sale of property.  The loan is set for a 3 year term and 10 year amortization. The ALLL includes $1.0 million for the specific allocation on the principal balance of this loan.  Year to date 2021, there were 2 new loans considered TDR with 2 previously reported TDR loans paid off in June.  In the third quarter of 2020, 1 new loan was considered TDR and was given a rate concession.  During the year to date 2020, there were 6 new loans considered TDR with 1 of the loans subsequently paid off in May.  Interest was paid current at the time of all modifications.  

The following tables represent three and nine months ended September 30, 2021 and 2020:

Pre-

Post-

Pre-

Post-

Three Months

Number of

Modification

Modification

Nine Months

Number of

Modification

Modification

September 30, 2021

Contracts

Outstanding

Outstanding

September 30, 2021

Contracts

Outstanding

Outstanding

(in thousands)

Modified in the

Recorded

Recorded

(in thousands)

Modified in the

Recorded

Recorded

Troubled Debt Restructurings

Last Three Months

Investment

Investment

Troubled Debt Restructurings

Last Nine Months

Investment

Investment

Ag Real Estate

-

$

-

$

-

Ag Real Estate

-

$

-

$

-

Agricultural

-

-

-

Agricultural

-

-

-

Commercial Real Estate

-

-

-

Commercial Real Estate

1

382

382

Commercial and      Industrial

1

1,000

1,000

Commercial and      Industrial

1

1,000

1,000

Pre-

Post-

Pre-

Post-

Three Months

Number of

Modification

Modification

Nine Months

Number of

Modification

Modification

September 30, 2020

Contracts

Outstanding

Outstanding

September 30, 2020

Contracts

Outstanding

Outstanding

(in thousands)

Modified in the

Recorded

Recorded

(in thousands)

Modified in the

Recorded

Recorded

Troubled Debt Restructurings

Last Three Months

Investment

Investment

Troubled Debt Restructurings

Last Nine Months

Investment

Investment

Ag Real Estate

-

$

-

$

-

Ag Real Estate

2

$

5,380

$

5,380

Agricultural

-

-

-

Agricultural

1

164

164

Commercial Real Estate

-

-

-

Commercial Real Estate

2

981

981

Commercial and      Industrial

1

50

50

Commercial and      Industrial

1

50

50

For the three and nine month periods ended September 30, 2021 and 2020, there were 0 TDRs that subsequently defaulted after modification.  

For the nine month period ended September 30, 2021, there was 1 impaired commercial real estate loan of $86 thousand and 1 impaired commercial loan of $480 thousand that were classified as TDR paid off as well as 3 impaired commercial loans of $809 thousand that were classified as TDR charged off.  There was 1 impaired commercial real estate loan of $481 thousand that was classified as TDR paid off for the nine month period ended September 30, 2020.

26

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

For the majority of the Bank’s impaired loans, the Bank will apply the fair value of collateral or use a measurement incorporating the present value of expected future cash flows discounted at the loan’s effective rate of interest.  To determine fair value of collateral, collateral asset values securing an impaired loan are periodically evaluated. Maximum time of re-evaluation is every 12 months for chattels and titled vehicles and every two years for real estate.  In this process, third party evaluations are obtained. Until such time that updated appraisals are received, the Bank may discount the collateral value used.

The Bank uses the following guidelines as stated in policy to determine when to realize a charge-off, whether a partial or full loan balance.  A charge-off in whole or in part is realized when unsecured consumer loans, credit card credits and overdraft lines of credit reach 90 days delinquency.  At 90 days delinquent, secured consumer loans are charged down to the value of the collateral, if repossession of the collateral is assured and/or in the process of repossession. Consumer mortgage loan deficiencies are charged down upon the sale of the collateral or sooner upon the recognition of collateral deficiency. A broker’s price opinion or appraisal will be completed on all home loans in litigation and any deficiency will be charged off before reaching 150 days delinquent.  Commercial and agricultural credits are charged down at 120 days delinquency, unless an established and approved work-out plan is in place or litigation of the credit will likely result in recovery of the loan balance.  Upon notification of bankruptcy, unsecured debt is charged off. Additional charge-off may be realized as further unsecured positions are recognized.

The following tables present loans individually evaluated for impairment by class of loans for the three and nine months ended September 30, 2021 and September 30, 2020 and for the year ended December 31, 2020.

	(In Thousands)
											QTD
							QTD		QTD		Interest
Three Months Ended September 30, 2021			Unpaid				Average		Interest		Income
	Recorded		Principal		Related		Recorded		Income		Recognized
	Investment		Balance		Allowance		Investment		Recognized		Cash Basis
With no related allowance recorded:
Consumer Real Estate	$	714	$	714	$	-	$	453	$	1	$	3
Agricultural Real Estate		1,207		1,207		-		1,047		19		-
Agricultural		130		130		-		130		4		-
Commercial Real Estate		180		180		-		2,519		4		1
Commercial and Industrial		215		215		-		525		-		1
Consumer		15		15		-		16		-		-
With a specific allowance recorded:
Consumer Real Estate		-		-		-		-		-		-
Agricultural Real Estate		4,844		4,844		636		5,104		4		-
Agricultural		117		117		54		117		-		-
Commercial Real Estate		3,427		3,427		710		1,395		31		-
Commercial and Industrial		1,000		1,000		1,000		333		2		-
Consumer		-		-		-		-		-		-
Totals:
Consumer Real Estate	$	714	$	714	$	-	$	453	$	1	$	3
Agricultural Real Estate	$	6,051	$	6,051	$	636	$	6,151	$	23	$	-
Agricultural	$	247	$	247	$	54	$	247	$	4	$	-
Commercial Real Estate	$	3,607	$	3,607	$	710	$	3,914	$	35	$	1
Commercial and Industrial	$	1,215	$	1,215	$	1,000	$	858	$	2	$	1
Consumer	$	15	$	15	$	-	$	16	$	-	$	-

27

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	(In Thousands)
											Interest
Year Ended December 31, 2020			Unpaid				Average		Interest		Income
	Recorded		Principal		Related		Recorded		Income		Recognized
	Investment		Balance		Allowance		Investment		Recognized		Cash Basis
With no related allowance recorded:
Consumer Real Estate	$	799	$	799	$	-	$	738	$	22	$	10
Agricultural Real Estate		1,546		1,549		-		729		18		12
Agricultural		291		291		-		392		3		3
Commercial Real Estate		185		185		-		195		13		-
Commercial and Industrial		2,328		2,328		-		1,222		26		5
Consumer		23		23		-		16		-		-
With a specific allowance recorded:
Consumer Real Estate		202		202		31		126		-		3
Agricultural Real Estate		5,210		5,210		600		3,175		6		102
Agricultural		176		176		116		188		-		-
Commercial Real Estate		2,765		2,765		20		2,524		128		-
Commercial and Industrial		1,007		1,007		890		916		52		-
Consumer		-		-		-		11		1		-
Totals:
Consumer Real Estate	$	1,001	$	1,001	$	31	$	864	$	22	$	13
Agricultural Real Estate	$	6,756	$	6,759	$	600	$	3,904	$	24	$	114
Agricultural	$	467	$	467	$	116	$	580	$	3	$	3
Commercial Real Estate	$	2,950	$	2,950	$	20	$	2,719	$	141	$	-
Commercial and Industrial	$	3,335	$	3,335	$	890	$	2,138	$	78	$	5
Consumer	$	23	$	23	$	-	$	27	$	1	$	-

28

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	(In Thousands)
											QTD
							QTD		QTD		Interest
Three Months Ended September 30, 2020			Unpaid				Average		Interest		Income
	Recorded		Principal		Related		Recorded		Income		Recognized
	Investment		Balance		Allowance		Investment		Recognized		Cash Basis
With no related allowance recorded:
Consumer Real Estate	$	780	$	780	$	-	$	791	$	41	$	5
Agricultural Real Estate		1,589		1,589		-		873		2		-
Agricultural		533		533		-		375		4		1
Commercial Real Estate		186		186		-		186		1		-
Commercial and Industrial		2,021		2,021		-		1,190		5		-
Consumer		25		25		-		26		21		-
With a specific allowance recorded:
Consumer Real Estate		205		205		43		119		8		-
Agricultural Real Estate		5,425		5,425		432		5,450		2		-
Agricultural		188		188		28		342		3		-
Commercial Real Estate		3,033		3,033		44		3,046		-		-
Commercial and Industrial		1,274		1,274		651		1,119		3		-
Consumer		-		-		-		-		-		-
Totals:
Consumer Real Estate	$	985	$	985	$	43	$	910	$	49	$	5
Agricultural Real Estate	$	7,014	$	7,014	$	432	$	6,323	$	4	$	-
Agricultural	$	721	$	721	$	28	$	717	$	7	$	1
Commercial Real Estate	$	3,219	$	3,219	$	44	$	3,232	$	1	$	-
Commercial and Industrial	$	3,295	$	3,295	$	651	$	2,309	$	8	$	-
Consumer	$	25	$	25	$	-	$	26	$	21	$	-

29

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	(In Thousands)
											YTD
							YTD		YTD		Interest
Nine Months Ended September 30, 2021			Unpaid				Average		Interest		Income
	Recorded		Principal		Related		Recorded		Income		Recognized
	Investment		Balance		Allowance		Investment		Recognized		Cash Basis
With no related allowance recorded:
Consumer Real Estate	$	714	$	714	$	-	$	485	$	4	$	10
Agricultural Real Estate		1,207		1,207		-		1,191		53		-
Agricultural		130		130		-		161		8		-
Commercial Real Estate		180		180		-		1,768		38		7
Commercial and Industrial		215		215		-		1,206		24		4
Consumer		15		15		-		19		1		-
With a specific allowance recorded:
Consumer Real Estate		-		-		-		-		-		-
Agricultural Real Estate		4,844		4,844		636		5,273		15		-
Agricultural		117		117		54		123		4		-
Commercial Real Estate		3,427		3,427		710		1,800		58		3
Commercial and Industrial		1,000		1,000		1,000		334		2		-
Consumer		-		-		-		-		-		-
Totals:
Consumer Real Estate	$	714	$	714	$	-	$	485	$	4	$	10
Agricultural Real Estate	$	6,051	$	6,051	$	636	$	6,464	$	68	$	-
Agricultural	$	247	$	247	$	54	$	284	$	12	$	-
Commercial Real Estate	$	3,607	$	3,607	$	710	$	3,568	$	96	$	10
Commercial and Industrial	$	1,215	$	1,215	$	1,000	$	1,540	$	26	$	4
Consumer	$	15	$	15	$	-	$	19	$	1	$	-

30

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	(In Thousands)
											YTD
							YTD		YTD		Interest
Nine Months Ended September 30, 2020			Unpaid				Average		Interest		Income
	Recorded		Principal		Related		Recorded		Income		Recognized
	Investment		Balance		Allowance		Investment		Recognized		Cash Basis
With no related allowance recorded:
Consumer Real Estate	$	780	$	780	$	-	$	688	$	120	$	9
Agricultural Real Estate		1,589		1,589		-		451		6		-
Agricultural		533		533		-		367		9		1
Commercial Real Estate		186		186		-		199		3		-
Commercial and Industrial		2,021		2,021		-		819		18		-
Consumer		25		25		-		21		37		-
With a specific allowance recorded:
Consumer Real Estate		205		205		43		60		10		-
Agricultural Real Estate		5,425		5,425		432		2,475		7		-
Agricultural		188		188		28		208		6		-
Commercial Real Estate		3,033		3,033		44		2,389		-		-
Commercial and Industrial		1,274		1,274		651		929		10		-
Consumer		-		-		-		7		-		-
Totals:
Consumer Real Estate	$	985	$	985	$	43	$	748	$	130	$	9
Agricultural Real Estate	$	7,014	$	7,014	$	432	$	2,926	$	13	$	-
Agricultural	$	721	$	721	$	28	$	575	$	15	$	1
Commercial Real Estate	$	3,219	$	3,219	$	44	$	2,588	$	3	$	-
Commercial and Industrial	$	3,295	$	3,295	$	651	$	1,748	$	28	$	-
Consumer	$	25	$	25	$	-	$	28	$	37	$	-

31

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

As of September 30, 2021, the Company had $167 thousand of foreclosed residential real estate property obtained by physical possession and $129 thousand of consumer mortgage loans secured by residential real estate properties for which foreclosure proceedings are in process according to local jurisdictions. This compares to the Company having $71 thousand of foreclosed residential real estate property obtained by physical possession and $910 thousand of consumer mortgage loans secured by residential real estate properties for which foreclosure proceeding are in process according to local jurisdictions as of December 31, 2020.  As of September 30, 2020, the Company had $71 thousand of foreclosed residential real estate property obtained by physical possession and $849 thousand of consumer mortgage loans secured by residential real estate properties for which foreclosure proceedings were in process according to local jurisdictions.

The Allowance for Loan and Lease Losses (ALLL) has a direct impact on the provision expense.  An increase in the ALLL is funded through recoveries and provision expense.  The following tables summarize the activities in the allowance for credit losses.

	(In Thousands)
	Nine Months Ended			Twelve Months Ended
	September 30, 2021			December 31, 2020
Allowance for Loan & Lease Losses
Balance at beginning of year	$	13,672		$	7,228
Provision for loan loss		3,000			6,981
Loans charged off		(1,154	)		(720	)
Recoveries		180			183
Allowance for Loan & Lease Losses	$	15,698		$	13,672
Allowance for Unfunded Loan Commitments &       Letters of Credit	$	1,039		$	641
Total Allowance for Credit Losses	$	16,737		$	14,313

The Company segregates its ALLL into two reserves:  The ALLL and the Allowance for Unfunded Loan Commitments and Letters of Credit (AULC).  When combined, these reserves constitute the total Allowance for Credit Losses (ACL).

The ALLL does not include an accretable yield of $2.0 million and $1.7 million as of September 30, 2021 and December 31, 2020, respectively nor a nonaccretable yield of $325 thousand as of September 30, 2021 related to the acquisitions of Bank of Geneva in 2019 and Ossian State Bank in 2021 as previously discussed in Note 2.

The AULC is reported within other liabilities on the balance sheet while the ALLL is netted within the loans, net asset line.  The ACL presented above represents the full amount of reserves available to absorb possible credit losses.

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32

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

The following table breaks down the activity within ACL for each loan portfolio classification and shows the contribution provided by both the recoveries and the provision along with the reduction of the allowance caused by charge-offs.

Additional analysis, presented in thousands, related to the allowance for credit losses for the three and nine months ended September 30, 2021 and September 30, 2020 in addition to the ending balances as of December 31, 2020 is as follows:

	Consumer Real Estate			Agricultural Real Estate			Agricultural			Commercial Real Estate			Commercial and Industrial			Consumer			Unfunded Loan Commitment & Letters of Credit			Unallocated		Total
Three Months Ended September 30, 2021
ALLOWANCE FOR CREDIT LOSSES:
Beginning balance	$	649		$	1,217		$	720		$	8,831		$	2,837		$	613		$	1,145		$	220		16,232
Charge Offs		(2	)		-			(1	)		-			(5	)		(95	)		-			-		(103	)
Recoveries		3			-			1			3			9			39			-			-		55
Provision (Credit)		146			(291	)		(33	)		(469	)		973			49			-			284		659
Other Non-interest expense related to    unfunded		-			-			-			-			-			-			(106	)		-		(106	)
Ending Balance	$	796		$	926		$	687		$	8,365		$	3,814		$	606		$	1,039		$	504	$	16,737
Ending balance: individually evaluated    for impairment	$	-		$	636		$	54		$	710		$	1,000		$	-		$	-		$	-	$	2,400
Ending balance: collectively evaluated    for impairment	$	796		$	290		$	633		$	7,655		$	2,814		$	606		$	1,039		$	504	$	14,337
Ending balance: loans acquired with    deteriorated credit quality	$	0		$	0		$	0		$	0		$	0		$	0		$	0		$	0	$	0
FINANCING RECEIVABLES:
Ending balance	$	202,370		$	179,051		$	105,722		$	727,418		$	225,382		$	55,619		$	-		$	-	$	1,495,562
Ending balance: individually evaluated    for impairment	$	714		$	6,051		$	247		$	3,607		$	1,215		$	15		$	-		$	-	$	11,849
Ending balance: collectively evaluated    for impairment	$	201,595		$	173,000		$	105,475		$	723,577		$	223,803		$	55,604		$	-		$	-	$	1,483,054
Ending balance: loans acquired with    deteriorated credit quality	$	61		$	-		$	-		$	234		$	364		$	-		$	-		$	-	$	659

33

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

December 31, 2020	Consumer Real Estate		Agricultural Real Estate		Agricultural		Commercial Real Estate		Commercial and Industrial		Consumer		Unfunded Loan Commitment & Letters of Credit		Unallocated		Total
ALLOWANCE FOR CREDIT LOSSES:
Ending Balance	$	633	$	958	$	701	$	7,415	$	3,346	$	606	$	641	$	13	$	14,313
Ending balance: individually evaluated for    impairment	$	31	$	600	$	116	$	20	$	890	$	-	$	-	$	-	$	1,657
Ending balance: collectively evaluated for    impairment	$	602	$	358	$	585	$	7,395	$	2,456	$	606	$	641	$	13	$	12,656
Ending balance: loans acquired with deteriorated    credit quality	$	0	$	0	$	0	$	0	$	0	$	0	$	0	$	0	$	0
FINANCING RECEIVABLES:
Ending balance	$	175,316	$	188,826	$	94,490	$	587,654	$	204,043	$	52,661	$	-	$	-	$	1,302,990
Ending balance: individually evaluated for    impairment	$	1,001	$	6,756	$	467	$	2,950	$	3,335	$	23	$	-	$	-	$	14,532
Ending balance: collectively evaluated for    impairment	$	174,273	$	182,070	$	94,023	$	584,704	$	200,602	$	52,638	$	-	$	-	$	1,288,310
Ending balance: loans acquired with    deteriorated credit quality	$	42	$	-	$	-	$	-	$	106	$	-	$	-	$	-	$	148

34

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	Consumer Real Estate			Agricultural Real Estate			Agricultural			Commercial Real Estate		Commercial and Industrial		Consumer			Unfunded Loan Commitment & Letters of Credit		Unallocated		Total
Three Months Ended September 30, 2020
ALLOWANCE FOR CREDIT LOSSES:
Beginning balance	$	570		$	813		$	1,036		$	4,458	$	2,423	$	561		$	605	$	72	$	10,538
Charge Offs		-			-			-			-		-		(79	)		-		-		(79	)
Recoveries		2			-			-			2		10		28			-		-		42
Provision (Credit)		(42	)		(51	)		(367	)		1,275		839		94			-		239		1,987
Other Non-interest expense related to    unfunded		-			-			-			-		-		-			28		-		28
Ending Balance	$	530		$	762		$	669		$	5,735	$	3,272	$	604		$	633	$	311	$	12,516
Ending balance: individually evaluated    for impairment	$	43		$	432		$	28		$	44	$	651	$	-		$	-	$	-	$	1,198
Ending balance: collectively evaluated    for impairment	$	487		$	330		$	641		$	5,691	$	2,621	$	604		$	633	$	311	$	11,318
Ending balance: loans acquired with    deteriorated credit quality	$	0		$	0		$	0		$	0	$	0	$	0		$	0	$	0	$	0
FINANCING RECEIVABLES:
Ending balance	$	175,595		$	192,577		$	103,476		$	593,936	$	244,823	$	53,455		$	-	$	-	$	1,363,862
Ending balance: individually evaluated    for impairment	$	985		$	7,014		$	721		$	3,219	$	3,295	$	25		$	-	$	-	$	15,259
Ending balance: collectively evaluated    for impairment	$	174,567		$	185,563		$	102,755		$	590,717	$	241,528	$	53,339		$	-	$	-	$	1,348,469
Ending balance: loans acquired with    deteriorated credit quality	$	43		$	-		$	-		$	-	$	-	$	91		$	-	$	-	$	134

35

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	Consumer Real Estate			Agricultural Real Estate			Agricultural			Commercial Real Estate		Commercial and Industrial			Consumer			Unfunded Loan Commitment & Letters of Credit		Unallocated		Total
Nine Months Ended September 30, 2021
ALLOWANCE FOR CREDIT LOSSES:
Beginning balance	$	633		$	958		$	701		$	7,415	$	3,346		$	606		$	641	$	13	$	14,313
Charge Offs		(2	)		-			(143	)		-		(814	)		(195	)		-		-		(1,154	)
Recoveries		9			-			7			8		19			137			-		-		180
Provision (Credit)		156			(32	)		122			942		1,263			58			-		491		3,000
Other Non-interest expense related to    unfunded		-			-			-			-		-			-			398		-		398
Ending Balance	$	796		$	926		$	687		$	8,365	$	3,814		$	606		$	1,039	$	504	$	16,737
Ending balance: individually evaluated    for impairment	$	-		$	636		$	54		$	710	$	1,000		$	-		$	-	$	-	$	2,400
Ending balance: collectively evaluated    for impairment	$	796		$	290		$	633		$	7,655	$	2,814		$	606		$	1,039	$	504	$	14,337
Ending balance: loans acquired with    deteriorated credit quality	$	0		$	0		$	0		$	0	$	0		$	0		$	0	$	0	$	0
FINANCING RECEIVABLES:
Ending balance	$	202,370		$	179,051		$	105,722		$	727,418	$	225,382		$	55,619		$	-	$	-	$	1,495,562
Ending balance: individually evaluated    for impairment	$	714		$	6,051		$	247		$	3,607	$	1,215		$	15		$	-	$	-	$	11,849
Ending balance: collectively evaluated    for impairment	$	201,595		$	173,000		$	105,475		$	723,577	$	223,803		$	55,604		$	-	$	-	$	1,483,054
Ending balance: loans acquired with    deteriorated credit quality	$	61		$	-		$	-		$	234	$	364		$	-		$	-	$	-	$	659

36

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 4 LOANS (Continued)

	Consumer Real Estate			Agricultural Real Estate		Agricultural			Commercial Real Estate			Commercial and Industrial			Consumer			Unfunded Loan Commitment & Letters of Credit		Unallocated		Total
Nine Months Ended September 30, 2020
ALLOWANCE FOR CREDIT LOSSES:
Beginning balance	$	311		$	314	$	691		$	3,634		$	1,727		$	551		$	479	$	-	$	7,707
Charge Offs		(35	)		-		-			(8	)		(165	)		(272	)		-		-		(480	)
Recoveries		7			-		-			7			19			116			-		-		149
Provision (Credit)		247			448		(22	)		2,102			1,691			209			-		311		4,986
Other Non-interest expense related to    unfunded		-			-		-			-			-			-			154		-		154
Ending Balance	$	530		$	762	$	669		$	5,735		$	3,272		$	604		$	633	$	311	$	12,516
Ending balance: individually evaluated    for impairment	$	43		$	432	$	28		$	44		$	651		$	-		$	-	$	-	$	1,198
Ending balance: collectively evaluated    for impairment	$	487		$	330	$	641		$	5,691		$	2,621		$	604		$	633	$	311	$	11,318
Ending balance: loans acquired with    deteriorated credit quality	$	0		$	0	$	0		$	0		$	0		$	0		$	0	$	0	$	0
FINANCING RECEIVABLES:
Ending balance	$	175,595		$	192,577	$	103,476		$	593,936		$	244,823		$	53,455		$	-	$	-	$	1,363,862
Ending balance: individually evaluated    for impairment	$	985		$	7,014	$	721		$	3,219		$	3,295		$	25		$	-	$	-	$	15,259
Ending balance: collectively evaluated    for impairment	$	174,567		$	185,563	$	102,755		$	590,717		$	241,528		$	53,339		$	-	$	-	$	1,348,469
Ending balance: loans acquired with    deteriorated credit quality	$	43		$	-	$	-		$	-					$	91		$	-	$	-	$	134

37

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 5 EARNINGS PER SHARE

Basic earnings per share are calculated using the two-class method. The two-class method is an earnings allocation formula under which earnings per share is calculated from common stock and participating securities according to dividends declared and participation rights in undistributed earnings. Under this method, all earnings distributed and undistributed, are allocated to participating securities and common shares based on their respective rights to receive dividends. Unvested share-based payment awards that contain non-forfeitable rights to dividends are considered participating securities (i.e. unvested restricted stock), not subject to performance based measures. Basic earnings per share is calculated by dividing net income available to common shareholders by the weighted average number of common shares outstanding.  Application of the two-class method for participating securities results in a more dilutive basic earnings per share as the participating securities are allocated the same amount of income as if they are outstanding for purposes of basic earnings per share.  There is no additional potential dilution in calculating diluted earnings per share, therefore basic and diluted earnings per share are the same amounts. Other than the restricted stock plan, the Company has no other employee stock based compensation plans.

Beginning in 2020, the Compensation Committee of the Company has determined that it is appropriate to award shares of the common stock of the Company to Outside Directors and Employees that are officers of the Company or the Bank who also serve as Directors of the Company and the Bank as a portion of their retainer for services rendered as Directors of the Company and the Bank.  The Committee believes that it is appropriate to award the Directors shares equal to a specific dollar amount, rounded to the nearest whole share on an annual basis commencing on June 5, 2020 and thereafter on the first Friday of June in each year.  Directors receive a prorated dollar value of shares for a partial year of service.  The value for the shares is to be based upon the closing price for shares on June 4, 2020 and thereafter on the first Thursday in June in each year.  On June 5, 2020, each Director received approximately $4,000 which equated to 176 shares.  On June 4, 2021, 10 Directors received approximately $6,000 worth of shares which equated to 272 shares while 4 Directors received a prorated dollar value of shares.  The use of stock for Directors’ retainer, does not have an effect on diluted earnings per share as it is immediately vested.  

	(in thousands of dollars)						(in thousands of dollars)
	Three Months Ended						Nine Months Ended
	September 30, 2021			September 30, 2020			September 30, 2021			September 30, 2020
Earnings per share
Net income	$	5,920		$	4,410		$	15,812		$	13,319
Less: distributed earnings allocated to participating    securities		(20	)		(15	)		(49	)		(41	)
Less: undistributed earnings allocated to participating    securities		(31	)		(19	)		(77	)		(59	)
Net earnings available to common shareholders	$	5,869		$	4,376		$	15,686		$	13,219
Weighted average common shares outstanding including    participating securities		11,209,732			11,142,797			11,199,309			11,135,695
Less: average unvested restricted shares		(96,197	)		(83,257	)		(89,075	)		(83,445	)
Weighted average common shares outstanding		11,113,535			11,059,540			11,110,234			11,052,250
Basic and diluted earnings per share	$	0.53		$	0.40		$	1.41		$	1.20

38

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 6 FAIR VALUE OF FINANCIAL INSTRUMENTS

Fair values of financial instruments are management's estimate of the values at which the instruments could be exchanged in a transaction between willing parties.  These estimates are subjective and may vary significantly from amounts that would be realized in actual transactions.  In addition, other significant assets are not considered financial assets including deferred tax assets, premises, equipment and intangibles. Further, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on the fair value estimates and have not been considered in any of the estimates.

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39

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 6 FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)

The estimated fair values, and related carrying or notional amounts, for on and off-balance sheet financial instruments as of September 30, 2021 and December 31, 2020 are reflected below.

	(In Thousands)
	September 30, 2021
	Carrying		Fair
	Amount		Value		Level 1		Level 2		Level 3
Financial Assets:
Cash and cash equivalents	$	158,078	$	158,078	$	158,078	$	-	$	-
Interest-bearing time deposits		14,622		14,651		-		14,651		-
Securities - available-for-sale		426,717		426,717		73,804		349,146		3,767
Other securities		4,905		4,905		-		-		4,905
Loans held for sale		3,735		3,735		-		-		3,735
Loans, net		1,479,864		1,434,960		-		-		1,434,960
Interest receivable		7,401		7,401		-		-		7,401
Financial Liabilities:
Interest bearing deposits	$	1,175,769	$	1,175,816	$	-	$	-	$	1,175,816
Non-interest bearing deposits		438,076		438,076		-		438,076		-
Time deposits		252,383		248,399		-		-		248,399
Total Deposits		1,866,228		1,862,291		-		438,076		1,424,215
Federal funds purchased and securities sold under    agreement to repurchase		29,601		29,601		-		-		29,601
Federal Home Loan Bank advances		17,868		17,869		-		-		17,869
Subordinated notes, net of unamortized issuance costs		34,441		35,000		-		35,000		-
Interest payable		588		588		-		-		588

	(In Thousands)
	December 31, 2020
	Carrying		Fair
	Amount		Value		Level 1		Level 2		Level 3
Financial Assets:
Cash and cash equivalents	$	175,706	$	175,706	$	175,706	$	-	$	-
Interest-bearing time deposits		4,653		4,677		-		4,677		-
Securities - available-for-sale		307,812		307,812		-		306,250		1,562
Other securities		5,939		5,939		-		-		5,939
Loans held for sale		7,740		7,740		-		-		7,740
Loans, net		1,289,318		1,261,440		-		-		1,261,440
Interest receivable		6,188		6,188		-		-		6,188
Financial Liabilities:
Interest bearing deposits	$	997,462	$	1,004,608	$	-	$	-	$	1,004,608
Non-interest bearing deposits		351,147		351,147		-		351,147		-
Time deposits		247,553		250,135		-		-		250,135
Total Deposits		1,596,162		1,605,890		-		351,147		1,254,743
Federal funds purchased and securities sold under    agreement to repurchase		30,239		30,239		-		-		30,239
Federal Home Loan Bank advances		17,861		17,872		-		-		17,872
Subordinated notes, net of unamortized issuance costs		-		-		-		-		-
Interest payable		338		338		-		-		338

40

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 6 FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)

Fair Value Measurements

In general, fair values determined by Level 1 inputs use quoted prices in active markets for identical assets or liabilities in active markets that the Company has the ability to access.

Available-for-sale securities, when quoted prices are available in an active market, securities are valued using the quoted price and are classified as Level 1.  

Fair values determined by Level 2 inputs use other inputs that are observable, either directly or indirectly. These Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

Available-for-sale securities classified as Level 2 are valued using the prices obtained from an independent pricing service.  The prices are not adjusted. Securities of obligations of state and political subdivisions are valued using a type of matrix, or grid, pricing in which securities are benchmarked against the treasury rate based on credit rating. Substantially all assumptions used by the independent pricing service are observable in the marketplace, can be derived from observable data, or are supported by observable levels at which transactions are executed in the marketplace.

Level 3 inputs are unobservable inputs, including inputs that are available in situations where there is little, if any, market activity for the related asset or liability. The Bank holds some local municipals that the Bank evaluates based on the credit strength of the underlying project. The fair value is determined by valuing similar credit payment streams at similar rates.

In instances where inputs used to measure fair value fall into different levels in the above fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest level input that is significant to the valuation.  The Company's assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each asset.

The following summarizes financial assets measured at fair value on a recurring basis as of September 30, 2021 and December 31, 2020, segregated by level or the valuation inputs within the fair value hierarchy utilized to measure fair value:

Assets and Liabilities Measured at Fair Value on a Recurring Basis (In Thousands)
September 30, 2021	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets - (Securities Available-for-Sale)
U.S. Treasury	$	73,804	$	-	$	-
U.S. Government agencies		-		163,196		-
Mortgage-backed securities		-		125,099		-
State and local governments		-		60,851		3,767
Total Securities Available-for-Sale	$	73,804	$	349,146	$	3,767

December 31, 2020	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets - (Securities Available-for-Sale)
U.S. Treasury	$	-	$	-	$	-
U.S. Government agencies		-		124,241		-
Mortgage-backed securities		-		113,056		-
State and local governments		-		68,953		1,562
Total Securities Available-for-Sale	$	-	$	306,250	$	1,562

41

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 6 FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)

The following tables represent the changes in the Level 3 fair-value category of which unobservable inputs are relied upon as of the three and nine month periods ended September 30, 2021 and September 30, 2020.

	(In Thousands)
	Fair Value Measurements Using Significant
	Unobservable Inputs (Level 3)
	State and Local Governments Tax-Exempt			State and Local Governments Taxable			State and Local Governments Total
Balance at July 1, 2021	$	2,410		$	1,538		$	3,948
Change in Market Value		(9	)		(17	)		(26	)
Purchases		-			-			0
Payments & Maturities		(155	)		-			(155	)
Balance at September 30, 2021	$	2,246		$	1,521		$	3,767

	(In Thousands)
	Fair Value Measurements Using Significant
	Unobservable Inputs (Level 3)
	State and Local Governments Tax-Exempt		State and Local Governments Taxable		State and Local Governments Total
Balance at July 1, 2020	$	0	$	1,550	$	1,550
Change in Market Value		-		35		35
Payments & Maturities		-		-		0
Balance at September 30, 2020	$	0	$	1,585	$	1,585

	(In Thousands)
	Fair Value Measurements Using Significant
	Unobservable Inputs (Level 3)
	State and Local Governments Tax-Exempt			State and Local Governments Taxable			State and Local Governments Total
Balance at January 1, 2021	$	0		$	1,562		$	1,562
Change in Market Value		(17	)		(41	)		(58	)
							.
Purchases		2,418			-			2,418
Payments & Maturities		(155	)		-			(155	)
Balance at September 30, 2021	$	2,246		$	1,521		$	3,767

42

ITEM 1 NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS (Continued)

NOTE 6 FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)

	(In Thousands)
	Fair Value Measurements Using Significant
	Unobservable Inputs (Level 3)
	State and Local Governments Tax-Exempt		State and Local Governments Taxable		State and Local Governments Total
Balance at January 1, 2020	$	0	$	1,490	$	1,490
Change in Market Value		0		95		95
Payments & Maturities		0		0		0