Colony Bankcorp Inc: Form 10-Q for the period ended Mar 31, 2024

The purpose of this discussion and analysis is to focus on significant changes in the financial condition of Colony Bankcorp, Inc. and our wholly owned subsidiary, Colony Bank, from December 31, 2023 through March 31, 2024 and on our results of operations for the three months ended March 31, 2024 and 2023. This discussion and analysis should be read in conjunction with our audited consolidated financial statements and notes thereto in the Company's 2023 Form 10-K, and information presented elsewhere in this Quarterly Report on Form 10-Q, particularly the unaudited consolidated financial statements and related notes appearing in Item 1.

Forward-looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These forward-looking statements reflect our current views with respect to, among other things, future events and our financial performance. These statements are often, but not always, made through the use of words or phrases such as “may,” “might,” “should,” “could,” “predict,” “potential,” “believe,” “expect,” “continue,” “will,” “anticipate,” “seek,” “estimate,” “intend,” “plan,” “strive,” “projection,” “goal,” “target,” “outlook,” “aim,” “would,” “annualized” and “outlook,” or the negative version of those words or other comparable words or phrases of a future or forward-looking nature. These forward-looking statements are not historical facts, and are based on current expectations, estimates and projections about our industry, management’s beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control. Accordingly, we caution you that any such forward-looking statements are not guarantees of future performance and are subject to risks, assumptions, estimates and uncertainties that are difficult to predict. Although we believe that the expectations reflected in these forward-looking statements are reasonable as of the date made, actual results may prove to be materially different from the results expressed or implied by the forward-looking statements.

A number of important factors could cause our actual results to differ materially from those indicated in these forward-looking statements, including those factors discussed elsewhere in this Quarterly Report on Form 10-Q and the following:

• the impact of current and future economic and market conditions generally (including seasonality) and in the financial services industry, nationally and within our primary market areas, including the effects of inflationary pressures, changes in interest rates, slowdowns in economic growth, and the potential for high unemployment rates, as well as the financial stress on borrowers and changes to customer and client behavior (including the velocity of loan repayment) and credit risk as a result of the foregoing
• changes in interest rate environment (including changes to the federal funds rate, the level and composition of deposits (as well as the cost of, and competition for, deposits), loan demand, liquidity and the values of loan collateral, securities and market fluctuations, and interest rate sensitive assets and liabilities), and competition in our markets may result in increased funding costs or reduced earning assets yields, thus reducing our margins and net interest income;
• our ability to comply with applicable capital and liquidity requirements, including our ability to generate liquidity internally or raise capital on favorable terms, including continued access to the debt and equity capital markets;
• the risk that a future economic downturn and contraction, including a recession, could have a material adverse effect on our capital, financial condition, credit quality, results of operations and future growth, including the risk that the strength of the current economic environment could be weakened by the impact of rising or elevated interest rates and persistent inflation;
• factors that can impact the performance of our loan portfolio, including real estate values and liquidity in our primary market areas, the financial health and credit quality of our borrowers and the success of various projects that we finance;
• concentration of our loan portfolio in real estate loans and changes in the prices, values and sales volumes of commercial and residential real estate;
• weakness in the real estate market, which can affect, among other things, the value of collateral securing mortgage loans, mortgage loan originations and delinquencies, and mortgage fee income;
• credit and lending risks associated with our construction and development, commercial real estate, commercial and industrial and residential real estate loan portfolios;
• factors that negatively impact our mortgage banking services, including declines in our mortgage originations or profitability due to rising or elevated interest rates and increased competition and regulation, the Bank’s or third party’s failure to satisfy mortgage servicing obligations, loan modifications, the effects of judicial or regulatory requirements or guidance, and the possibility of the Bank being required to repurchase mortgage loans or indemnify buyers;
• our ability to attract sufficient loans that meet prudent credit standards, including in our construction and development, commercial and industrial and owner-occupied commercial real estate loan categories;
• our ability to attract and maintain business banking relationships with well-qualified businesses, real estate developers and investors with proven track records in our market areas;
• our ability to successfully manage our credit risk and the sufficiency of our allowance for credit losses ("ACL"), including the implementation of the Current Expected Credit Losses ("CECL") model;
• the adequacy of our reserves (including ACL) and the appropriateness of our methodology for calculating such reserves;
• adverse developments in the banking industry highlighted by high-profile bank failures and the impact of such developments on customer confidence, liquidity and regulatory responses to these developments (including increases in the cost of our deposit insurance assessments and increased regulatory scrutiny), our ability to effectively manage our liquidity risk and any growth plans and the availability of capital and funding;
• our ability to successfully execute our business strategy to achieve profitable growth;
• the concentration of our business within our geographic areas of operation in Georgia, Alabama, Florida and neighboring markets;
• our focus on small and mid-sized businesses;
• our ability to manage our growth;
• our ability to increase our operating efficiency;
• significant turbulence or a disruption in the capital or financial markets and the effect of a fall in stock market prices on our investment securities;
• risks that our cost of funding could increase, in the event we are unable to continue to attract stable, low-cost deposits and reduce our cost of deposits;
• inability of our risk management framework to effectively mitigate credit risk, interest rate risk, liquidity risk, price risk, compliance risk, operational risk (including by virtue of our relationships with third party business partners, as well as our relationships with third party vendors and other service providers), strategic risk, reputational risk and other risks inherent to the business of banking;
• our ability to maintain expenses in line with current projections;
• the makeup of our asset mix and investments;
• external economic, political and/or market factors, such as changes in monetary and fiscal policies and laws, including the interest rate policies of the Federal Reserve, the possibility that the U.S. could default on its debt obligations, inflation or deflation, changes in the demand for loans, and fluctuations in consumer spending, borrowing and savings habits, which may have an adverse impact on our financial condition;
• continued or increasing competition from other financial institutions (including fintech companies), credit unions, and non-bank financial services companies, many of which are subject to different regulations than we are;
• challenges arising from unsuccessful attempts to expand into new geographic markets, products, or services;
• restraints on the ability of the Bank to pay dividends to us, which could limit our liquidity;
• increased capital requirements imposed by banking regulators, which may require us to raise capital at a time when capital is not available on favorable terms or at all;
• a failure in the internal controls we have implemented to address the risks inherent to the business of banking;
• inaccuracies in our assumptions about future events, which could result in material differences between our financial projections and actual financial performance;
• changes in our management personnel or our inability to retain, motivate and hire qualified management personnel;
• the dependence of our operating model on our ability to attract and retain experienced and talented bankers in each of our markets, which may be impacted as a result of labor shortages;
• our ability to prevent, identify and address cyber-security risks, fraud and systems errors;
• disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems, and the cost of defending against them and any reputational or other financial risks following such a cybersecurity incident ;
• our business relationships with, and reliance upon, third parties that have strategic partnerships with us or that provide key components of our business infrastructure, including the costs of services and products provided to us by third parties, and disruptions in service, security breaches, financial difficulties with or other adverse events affecting a third-party vendor or business relationship;
• an inability to keep pace with the rate of technological advances due to a lack of resources to invest in new technologies;
• fraudulent and negligent acts by our clients, employees or vendors and our ability to identify and address such acts;
• risks related to potential acquisitions, including the risk that the regulatory environment may not be conducive to or may prohibit the consummation of future mergers and/or business combinations, may increase the length of time and amount of resources required to consummate such transactions, and may reduce the anticipated benefit;
• the impact of any claims or legal actions to which we may be subject, including any effect on our reputation;
• compliance with governmental and regulatory requirements, including the Dodd-Frank Act and others relating to banking, consumer protection, securities and tax matters, and our ability to maintain licenses required in connection with commercial mortgage origination, sale and servicing operations;
• changes in the scope and cost of Federal Deposit Insurance Corporation ("FDIC") insurance and other coverage;
• changes in our accounting standards;
• changes in tariffs and trade barriers;
• changes in federal tax law or policy;
• the institution and outcome of litigation and other legal proceedings against us or to which we may become subject to;
• the impact of recent and future legislative and regulatory changes;
• examinations by our regulatory authorities;
• the effects of war or other conflicts (including the military conflict between Russia and Ukraine or the conflict in Israel and surrounding areas), acts of terrorism, acts of God, natural disasters, health emergencies, epidemics or pandemics, climate changes, or other catastrophic events that may affect general economic conditions;
• risks related to environmental, social and governance ("ESG") strategies and initiatives, the scope and pace of which could alter the Company's reputation and shareholder, associate, customer and third-party affiliations;
• a deterioration of the credit rating for U.S. long-term sovereign debt, actions that the U.S. government may take to avoid exceeding the debt ceiling, and uncertainties surrounding the debt ceiling and the federal budget; and
• other risks and factors identified in our 2023 Form 10-K, this Quarterly Report on Form 10-Q for the period ended March 31, 2024, and in any of the Company's other reports filed with the U.S. Securities and Exchange Commission and available on its website at www.sec.gov (http://www.sec.gov).

The foregoing factors should not be construed as exhaustive and should be read together with the other cautionary statements included in this Quarterly Report on Form 10-Q. Because of these risks and other uncertainties, our actual future results, performance or achievement, or industry results, may be materially different from the results indicated by the forward looking statements in this Quarterly Report on Form 10-Q. In addition, our past results of operations are not necessarily indicative of our future results. You should not rely on any forward looking statements, which represent our beliefs, assumptions and estimates only as of the dates on which they were made, as predictions of future events. Any forward-looking statement speaks only as of the date on which it is made, and we do not undertake any obligation to update or review any forward-looking statement, whether as a result of new information, future developments or otherwise.

Overview

The following discussion and analysis presents the more significant factors affecting the Company’s financial condition as of March 31, 2024 and December 31, 2023, and results of operations for the three month periods ended March 31, 2024 and 2023. This discussion and analysis should be read in conjunction with the Company’s consolidated financial statements, notes thereto and other financial information appearing elsewhere in this report.

At March 31, 2024, the Company had total consolidated assets of $3.0 billion, total loans, net of $1.8 billion, total deposits of $2.5 billion, and stockholders’ equity of $259.9 million. The Company reported net income of $5.3 million, or $0.30 per diluted share, for the three months ended March 31, 2024 compared to net income of $5.0 million, or $0.29 per diluted share, for the three months ended March 31, 2023. The increase in net income for the three months ended March 31, 2024 compared to the same period ended March 31, 2023 was primarily the result of increased noninterest income from our complementary lines of business which include mortgage, SBSL, marine/RV lending, insurance and wealth and merchant services coupled with the continued impact of the expense reduction initiative implemented in 2023 which included a reduction in force along with an intentional focus on expense control in all noninterest expense categories.

Net interest income on a tax equivalent basis was $18.8 million for the first quarter of 2024 compared to $20.7 million for the first quarter of 2023, a decrease of $1.9 million. Increases can be seen in income on interest earning assets which is more than offset by increases in expenses on interest bearing liabilities due to the significant rise in interest rates period over period along with increases in FHLB advances. Income on interest earning assets increased $5.0 million to $33.5 million for the first quarter of 2024 compared to the respective period in 2023. Expense on interest bearing liabilities increased $6.9 million to $14.7 million for the first quarter of 2024 compared to the respective period in 2023.

Provision for credit losses for the three months ended March 31, 2024 was $1.0 million, which represents $950,000 in provision for credit losses on loans and $50,000 in provision for credit losses on unfunded commitments. For the first quarter of 2024, there were net charge-offs of $664,000 compared to $237,000 for the same period in 2023. Although we did see an increase in loan charge-offs following a period of historically low charge-offs, this uptick pertains to a small number of loans and does not raise any concerns regarding the quality of our overall loan portfolio. Colony’s allowance for credit losses on loans was $18.7 million, or 1.00% of total loans at March 31, 2024, compared to $18.4 million, or 0.98% of total loans, at December 31, 2023. At March 31, 2024 and December 31, 2023, nonperforming assets were $7.0 million and $10.7 million, or 0.23% and 0.35% of total assets, respectively.

Noninterest income of $9.5 million for the first quarter of 2024 represents an increase of $1.8 million, or 23.87%, from the first quarter of 2023, primarily related to increases in service charges on deposits, mortgage fee income, gain on sales of SBA loans and other noninterest income which were partially offset by a decrease in interchange fee income and losses on sales of securities. See "Table 3 - Noninterest income" for more detail and discussion on the primary drivers to the variances in noninterest income.

For the three months ended March 31, 2024, noninterest expense was $20.4 million, a decrease of $768,000, or 3.63%, from the same period in 2023. Decreases in noninterest expense were a result of overall decreases in salaries and employee benefits expenses related to the Company's expense reduction initiative in 2023 which lowered the total number of employees period over period. Data processing expense also decreased as a result of the continued cost savings upon renewal of the core processing contract in the second quarter of 2023. See "Table 4 - Noninterest expense" for more detail and discussion on the primary drivers to the decrease in noninterest expense.

Critical Accounting Policies

Our accounting and reporting policies are in accordance with GAAP and conform to general practices within the banking industry. We have identified certain of its accounting policies as “critical accounting policies,” consisting of those related to business combinations, allowance for credit losses and income taxes. In determining which accounting policies are critical in nature, we have identified the policies that require significant judgment or involve complex estimates. It is management's practice to discuss critical accounting policies with the Board of Directors' Audit Committee on a periodic basis, including the development, selection, implementation and disclosure of the critical accounting policies. The application of these policies has a significant impact on the Company’s unaudited interim consolidated financial statements. Our financial results could differ significantly if different judgments or estimates are used in the application of these policies. All accounting policies described in Note 1 of our consolidated financial statements as of December 31, 2023, which are included in the Company’s 2023 Form 10-K should be reviewed for a greater understanding of how we record and report our financial performance. Other than our methodology for estimating allowance for credit losses (mentioned below), there have been no significant changes to the Significant Accounting Policies as described in Note 1 of the Notes to Consolidated Financial Statements for the year ended December 31, 2023, which are included in the Company’s 2023 Form 10-K.

Allowance for Credit Losses

A consequence of lending activities is that we may incur credit losses. The amount of such losses will vary depending upon the risk characteristics of the loan lease portfolio as affected by economic conditions such as rising interest rates and the financial performance of borrower.

The allowance for credit losses consists of the allowance for credit losses (“ACL”) and the allowance for unfunded commitments. The standard replaced the “incurred loss” approach, which was used prior to our adoption of ASU No. 2016-13 on January 1, 2023, with an “expected loss” approach known as the Current Expected Credit Losses (“CECL”). The CECL approach requires an estimate of the credit losses expected over the life of an exposure (or pool of exposures). It removes the incurred loss approach’s threshold that delayed the recognition of a credit loss until it was “probable” a loss event was “incurred.”

The estimate of expected credit losses under the CECL approach is based on relevant information about past events, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amounts. Historical loss experience is generally the starting point for estimating expected credit losses. We then consider whether the historical loss experience should be adjusted for asset-specific risk characteristics or current conditions at the reporting date that did not exist over the period from which historical experience was used. Finally, we consider forecasts about future economic conditions that are reasonable and supportable. The allowance for unfunded commitments represents the expected credit losses on off-balance sheet commitments such as unfunded commitments to extend credit. This allowance is estimated by loan segment at each balance sheet date under the CECL model using the same methodologies as portfolio loans, taking into consideration the likelihood that funding will occur.

Management’s evaluation of the appropriateness of the reserve for credit losses is often the most critical of accounting estimates for a financial institution. Our determination of the amount of the reserve for credit losses is a critical accounting estimate as it requires significant reliance on the credit risk rating we assign to individual borrowers, the use of estimates and significant judgment as to the amount and timing of expected future cash flows, reliance on historical loss rates on homogenous portfolios, consideration of our quantitative and qualitative evaluation of economic factors, and the reliance on our reasonable and supportable forecasts. The reserve for credit losses attributable to each portfolio segment also includes an amount for inherent risks not reflected in the historical analyses. Relevant factors include, but are not limited to, concentrations of credit risk (geographic, large borrower, and industry), local/regional economic trends and conditions, changes in underwriting standards, changes in collateral values, experience and depth of lending staff, trends in delinquencies, and the volume and terms of loans.

Recent Industry Developments

During 2023, the banking industry experienced significant volatility with multiple high-profile bank failures which led to industry wide concerns related to liquidity, deposit outflows, uninsured deposit concentrations, unrealized securities losses and eroding consumer confidence in the banking system, all of which still remains relevant in 2024. These negative industry developments did not impact the Company’s liquidity position and our balance sheet remains robust. The Company’s total deposits did experience a minimal decline of 0.87% as compared to December 31, 2023, to $2.52 billion at March 31, 2024 which was due to wholesale deposit payoffs. Our customer deposits however increased by $12.5 million as a result of our continued commitment to growing customer relationships. The Company’s uninsured deposits represented 30.82% of total Bank deposits at March 31, 2024 compared to 30.22% of total Bank deposits at December 31, 2023. The Company continues to maintain strong liquidity with available sources of funding of approximately $1.3 billion at March 31, 2024. Furthermore, the Company’s capital remains strong with common equity Tier 1 and total capital ratios of 11.90% and 15.79%, respectively, as of March 31, 2024.

Results of Operations

We reported net income and diluted earnings per share of $5.3 million and $0.30, respectively, for the first quarter of 2024. This compares to net income and diluted earnings per share of $5.0 million and $0.29, respectively, for the same period in 2023.

Net Interest Income

Net interest income, which is the difference between interest earned on assets and the interest paid on deposits and borrowed funds, is the single largest component of total revenue. Management strives to optimize this income while balancing interest rate, credit and liquidity risks.

The banking industry uses two key ratios to measure relative profitability of net interest income: net interest spread and net interest margin. The net interest spread measures the difference between the average yield on interest-earning assets and the average rate paid on interest-bearing liabilities. The interest rate spread eliminates the effect of noninterest-bearing deposits and gives a direct perspective on the effect of market interest rate movements. The net interest margin is an indication of the profitability of a company's balance sheet and is defined as net interest income as a percent of average total interest-earning assets, which includes the positive effect of funding a portion of interest-earning assets with noninterest-bearing deposits and stockholders' equity.

Fully taxable equivalent net interest income for the first quarter of 2024 and 2023 was $18.8 million and $20.7 million, respectively. This decrease quarter over quarter can be seen in increases in rates paid on deposits and other borrowings which outpaced the increases in rates and volume on loans and deposits in banks. The net interest margin for the first quarter of 2024 and 2023 was 2.69% and 3.08%, respectively. This decrease in net interest margin for the first quarter of 2024 compared to the same period in 2023 is primarily a result of the increase in higher yields paid on deposits and borrowings that outpaced the increase in rates on loans and investments.

The following tables indicates the relationship between interest income and interest expense and the average amounts of assets and liabilities for the periods indicated. As shown in the tables, both average assets and average liabilities for the three months ended March 31, 2024 increased compared to the same period in 2023. The increase in average assets was primarily driven by the increase in the loan portfolio of $116.2 million for the three months ended March 31, 2024 compared to the same period in 2023, which primarily reflects organic loan growth and an increase in deposits in banks and short term investments of $20.5 million, partially offset by a decrease of $57.2 million in the securities portfolio. The increase in average liabilities for the three months ended March 31, 2024 was funded through an increase in interest bearing deposits of $146.5 million partially offset by a decrease in borrowings of $12.5 million. The net interest spread, as well as the net interest margin, will continue to be impacted by future changes in short-term and long-term interest rate levels, as well as the impact from the competitive environment.

The yield on total interest-bearing liabilities increased from 1.47% in the first quarter of 2023 to 2.58% in the first quarter of 2024 primarily due to increases in the federal funds interest rate of an additional 50 basis points during the second and third quarters of 2023.

Table 1 - Average Balance Sheet and Net Interest Analysis

(dollars in thousands)

1. The average balance of loans includes the average balance of nonaccrual loans. Income on such loans is recognized and recorded on the cash basis. Taxable-equivalent adjustments totaling $48,000 and $45,000 for the three months ended March 31, 2024 and 2023, respectively, are calculated using the statutory federal tax rate and are included in income and fees on loans. Accretion expense of $5,000 and income of $71,000 for the three months ended March 31, 2024 and 2023 are also included in income and fees on loans.

2. Taxable-equivalent adjustments totaling $127,000 and $108,000 for the three months ended March 31, 2024 and 2023, respectively, are included in tax-exempt interest on investment securities.

Table 1 - Average Balance Sheet and Net Interest Analysis

The following table presents the effect of net interest income for changes in the average outstanding volume amounts of interest-earning assets and interest-bearing liabilities and the rates earned and paid on these assets and liabilities for the three month period ended March 31, 2024 compared to the three month period ended March 31, 2023.

Table 2 - Change in Interest Revenue and Expense on a Taxable Equivalent Basis

(dollars in thousands)

Provision for Credit Losses

The provision for credit losses recorded in each period is based on the amount required such that the total allowance for credit losses reflects the appropriate balance, in the estimation of management, sufficient to cover expected credit losses over the expected life of a loan exposure and unfunded commitments where the likelihood is that funding will occur. Provision for credit losses for the three months ended March 31, 2024 was $1.0 million compared to $900,000 for the same period in 2023. The provision for credit losses for the three months ended March 31, 2024 includes $950,000 in credit losses on loans and $50,000 in provision for credit losses on unfunded commitments. The provision for credit losses for the three months ended March 31, 2023 includes $761,000 in credit losses on loans and $139,000 in provision for credit losses on unfunded commitments. See the section captioned “Loans and Allowance for Credit Losses” elsewhere in this discussion for further analysis of the provision for credit losses.

Noninterest Income

The following table represents the major components of noninterest income for the periods indicated.

(dollars in thousands)

For the three months ended March 31, 2024, noninterest income increased $1.8 million compared to the same period in 2023. The primary reason for the increase was due to increases in service charges on deposits, mortgage fee income, gain on sales of SBA loans and other noninterest income which were partially offset by a decrease in interchange fee income and losses on sales of securities during the three months ended March 31, 2024.

Service charges on deposit accounts. For the three months ended March 31, 2024, service charges on deposits was $2.4 million compared to $1.9 million for the same period ended March 31, 2023, an increase of $459,000. This increase in service charges on deposits can be attributed to the Company's ability to continue to grow customer deposits despite the challenging rate environment.

Mortgage Fee Income. For the three months ended March 31, 2024, mortgage fee income was $1.2 million compared to $1.2 million for the same period ended March 31, 2023, a minimal increase of $66,000. This increase in mortgage fee income is the result of interest rates remaining stable since year end which has caused an uptick in the demand for mortgage products and thus an increase in mortgage fee income.

Gain on Sales of SBA loans. For the three months ended March 31, 2024, net realized gains on the sale of the guaranteed portion of SBA loans totaled $2.0 million compared to $1.1 million in the same period ended March 31, 2023, an increase of $989,000. This increase is related to increased production and sales in the Small Business Specialty Lending division which hit its highest mark in five consecutive quarters during the first quarter of 2024.

BOLI income. For the three months ended March 31, 2024, BOLI income was $533,000 compared to $331,000 for the same period ended March 31, 2023, an increase of $202,000. This increase is primarily related to income from the payout of death benefits during the first quarter of 2024.

Interchange Fees. For the three months ended March 31, 2024, interchange fee income was $2.0 million compared to $2.1 million for the same period ended March 31, 2023, a decrease of $40,000. This slight decrease in interchange fees is the result of customer use of our card programs whose buying habits can fluctuate between periods.

Insurance commissions. For the three months ended March 31, 2024, insurance commissions were $465,000 compared to $460,000 for the same period ended March 31, 2023, an increase of $5,000. This variance is volume driven by activity in the Company's insurance division.

Other noninterest income. For the three months ended March 31, 2024, other noninterest income was $1.3 million compared to $646,000 for the same period ended March 31, 2023, an increase of $702,000. The increase in other noninterest income was primarily attributable to an increase in wealth advisory and merchant services of $54,000, gains on sales of other real estate of $131,000 along with increases in SBA servicing and other related fee income, partially offset by a decrease in equity investment market valuation gains of $35,000.

Noninterest Expense

The following table represents the major components of noninterest expense for the periods indicated.

(dollars in thousands)

Noninterest expense decreased for the three months ended March 31, 2024 by $768,000 compared to the same period in 2023. Decreases were seen in all categories except professional fees and other noninterest expense.

Salaries and employee benefits. Salaries and employee benefits for the three months ended March 31, 2024 was $12.0 million compared to $12.6 million for the same period ended March 31, 2023, a decrease of $591,000. This decrease in salaries and employee benefits expenses is related to the Company's expense reduction initiative in 2023 which lowered total number of employees period over period.

Information technology expenses. Information technology expenses for the three months ended March 31, 2024 was $2.1 million compared to $2.3 million for the same period ended March 31, 2023, a decrease of $231,000. This decrease relates to a decrease in data processing expenses due to continued cost savings upon renewal of the core processing contract in the second quarter of 2023 which is partially offset by increased software expenses.

Professional fees. Professional fees for the three months ended March 31, 2024 was $834,000 compared to $715,000 for the same period ended March 31, 2023, an increase of $119,000. This increase is the result of increased audit fees of $69,000 and increased legal fees of $91,000 in 2024 compared to 2023.

Advertising and public relations. Advertising and public relations expenses for the three months ended March 31, 2024 was $960,000 compared to $993,000 for the same period ended March 31, 2023, a decrease of $33,000. The slight decrease can be attributed to the Company's expense control initiative implemented in 2023.

Communications. Communications expenses for the three months ended March 31, 2024 was $226,000 compared to $294,000 for the same period ended March 31, 2023, a decrease of $68,000. The decrease is the result of decreases in telephone service contracts with a third party.

Other noninterest expenses. Other noninterest expense for the three months ended March 31, 2024 was $2.7 million compared to $2.6 million for the same period ended March 31, 2023, an increase of $151,000. This increase relates primarily to increased servicing rights valuation partially offset by decreases in other loan related expenses, printing and supplies and business development expenses.

Income Tax Expense

Income tax expense for the three months ended March 31, 2024 was $1.4 million compared to $1.1 million for the same period in 2023. The Company’s effective tax rate for the three months ended March 31, 2024 was 20.9% compared to 18.2% for the three months ended March 31, 2023. The largest driver of the difference is the tax exempt income primarily from

BOLI and tax exempt interest. Also in the first quarter of 2023, the Company experienced a favorable tax impact from the donation made to the Georgia Scholarship Program.

Balance Sheet Review

Total assets decreased to $3.0 billion at March 31, 2024 from $3.1 billion at December 31, 2023.

Loans and Allowance for Credit Losses

At March 31, 2024, gross loans outstanding (excluding loans held for sale) were $1.86 billion, a decrease of $24.5 million, or 1.30%, compared to $1.88 billion at December 31, 2023.

At March 31, 2024, approximately 64.9% of our loans were secured by commercial real estate. Our total commercial real estate loans have decreased slightly since December 31, 2023 as well as all other categories except for consumer lending which is driven by our marine and RV division. These decreases are largely due to the sale of portfolio mortgages and credit related payoffs of a limited number of loans, along with the general slowdown in loan production over the past several quarters. We continue to maintain competitive loan pricing and tightened credit standards.

The following table presents a summary of the loan portfolio as of March 31, 2024 and December 31, 2023.

(dollars in thousands)

The Company's risk mitigation processes include an independent loan review designed to evaluate the credit risk in the loan portfolio and to ensure credit grade accuracy. The analysis serves as a tool to assist management in assessing the overall credit quality of the loan portfolio and the adequacy of the allowance for credit losses. Loans classified as "substandard" are loans which are inadequately protected by the current credit worthiness and paying capacity of the borrower and/or the collateral pledged. These assets exhibit well-defined weaknesses or are showing signs there is a distinct possibility the Company will sustain some loss if the deficiencies are not corrected. These weaknesses may be characterized by past due performance, operating losses and/or questionable collateral values. Loans classified as "doubtful" are those loans that have characteristics similar to substandard loans but have an increased risk of loss. Loans classified as "loss" are those loans which are considered uncollectible and are in the process of being charged off.

The Company regularly monitors the composition of the loan portfolio as part of its evaluation over the adequacy of the allowance for credit losses. The Company focuses on the following loan categories: (1) construction, land & land development; (2) other commercial real estate; (3) residential real estate; (4) commercial, financial & agricultural; and (5) consumer and other.

The allowance for credit losses for loans is a reserve established through charges to earnings in the form of a provision for credit losses. The provision for credit losses for loans is based on management’s evaluation of the size and composition of the loan portfolio, the level of nonperforming and past due loans, historical trends of charged off loans and recoveries, prevailing economic conditions and other factors management deems appropriate. The Company’s management has established an allowance for credit losses for loans which it believes is adequate to cover expected credit losses over the expected life of a loan exposure and unfunded commitments where the likelihood is that funding will occur. Based on a credit evaluation of the loan portfolio, management presents a quarterly review of the allowance for credit losses for loans and allowance for credit losses on unfunded commitments to the Company’s Board of Directors, which primarily focuses on risk by evaluating individual loans in certain risk categories. These categories have also been established by management and take the form of loan grades. By grading the loan portfolio in this manner, the Company’s management is able to effectively evaluate the portfolio by risk, which management believes is the most effective way to analyze the loan portfolio and thus analyze the adequacy of the allowance for credit losses on loans.

The allowance for credit losses on loans is established by examining (1) the large classified loans, nonaccrual loans and loans considered impaired and evaluating them individually to determine the specific reserve allocation and (2) the remainder of the loan portfolio to allocate a portion of the allowance based on past loss experience and reasonable and supportable forecasts of economic conditions for the particular loan category. The Company also considers other factors such as changes in lending policies and procedures; changes in national, regional and/or local economic and business conditions; changes in the nature and volume of the loan portfolio; changes in the experience, ability and depth of either the market president or lending staff; changes in the volume and severity of past due and classified loans; changes in the quality of the loan review system; and other factors management deems appropriate.

The allowance for credit losses on off-balance sheet credit exposures is adjusted as a provision for credit loss expense. The estimate includes consideration of the likelihood that funding will occur and an estimate of expected credit losses on commitments expected to be funded over its estimated life. The ACL is calculated using the same aggregate reserve rates calculated for the funded portion of loans at the portfolio level applied to the amount of commitments expected to fund.

The allowance for credit losses on loans was $18.7 million at March 31, 2024 compared to $16.6 million at March 31, 2023, an increase of $2.1 million, or 12.4%. The allowance for credit losses on loans as a percentage of loans was 1.00% and 0.92% at March 31, 2024 and 2023, respectively. The provision for credit losses was $1.0 million compared to $900,000 for the three months ended March 31, 2024 and March 31, 2023, respectively. The provision for credit losses for the quarter ended March 31, 2024 includes $950,000 in credit losses on loans and $50,000 in credit losses on unfunded commitments. The provision for credit losses for the quarter ended March 31, 2023 includes $761,000 in credit losses on loans and $139,000 in credit losses on unfunded commitments. The amount of provision expense recorded in each period was the amount required such that the total allowance for credit losses reflected the appropriate balance, in the estimation of management, that was sufficient to cover expected credit losses on loans over the expected life of a loan exposure and unfunded commitments where the likelihood is that funding will occur. The primary reason for the increase in allowance to loans as a percentage for loans and provision is primarily due to the slight increase in loan charge offs. These charge offs are limited to a few loans and raises no concerns regarding the quality of our loan portfolio as a whole.

Additional information about the Company’s allowance for credit losses is provided in Note 4 to our consolidated financial statements as of March 31, 2024, included elsewhere in this Quarterly Report on Form 10-Q.

The following table presents an analysis of the allowance for credit losses on loans as of and for the three months ended March 31, 2024 and 2023:

(dollars in thousands)

* Percentage represents the loan balance in each category expressed as a percentage of total end of period loans.

The following table presents a summary of allowance for credit loss for the three months ended March 31, 2024 and 2023.

(dollars in thousands)

Management believes the allowance for credit losses for loans is adequate to provide for losses expected in the loan portfolio as of March 31, 2024.

Nonperforming Assets

Asset quality experienced improvement during the first three months of 2024. Nonperforming assets include nonaccrual loans, accruing loans contractually past due 90 days or more, repossessed personal property and other real estate owned ("OREO"). Nonaccrual loans totaled $6.4 million at March 31, 2024, a decrease of $3.4 million, or 34.6%, from $9.8 million at December 31, 2023. There was one loan contractually past due 90 days or more and still accruing totaling $370,000 at December 31, 2023. There was no repossessed personal property for either period presented. OREO totaled $562,000 at March 31, 2024 compared to $448,000 at December 31, 2023. As of March 31, 2024, total nonperforming assets as a percent of total assets decreased to 0.23% compared with 0.35% at December 31, 2023. The decrease in nonperforming assets was a result of repayments, payoffs and charged off loans.

Generally, loans are placed on non-accrual status if principal or interest payments become 90 days past due and/or management deems the collectability of the principal and/or interest to be in question, as well as when required by regulatory requirements. Loans to a customer whose financial condition has deteriorated are considered for non-accrual status whether or not the loan is 90 days or more past due. Once interest accruals are discontinued, accrued but uncollected interest is charged to current year operations. Subsequent loan payments made on nonaccrual loans are recorded as a reduction of principal, and interest income is recorded only after principal recovery is reasonably assured. Classification of a loan as nonaccrual does not preclude the ultimate collection of loan principal or interest.

Foreclosed property is initially recorded at fair value, less estimated costs to sell. If the fair value, less estimated costs to sell, at the time of foreclosure is less than the loan balance, the deficiency is charged against the allowance for credit losses on loans. If the lesser of the fair value, less estimated costs to sell, or the listed selling price, less the costs to sell, of the foreclosed property decreases during the holding period, a valuation allowance is established with a charge to foreclosed property expense. When the foreclosed property is sold, a gain or loss is recognized on the sale for the difference between the sales proceeds and the carrying amount of the property.

Nonperforming assets at March 31, 2024 and December 31, 2023 were as follows:

(dollars in thousands)

The Company had three loans modified due to financial difficulty during the three month period ended March 31, 2024. See Note 3 - Loans, for additional details on loan modifications.

Deposits

Deposits at March 31, 2024 and December 31, 2023 were as follows:

(dollars in thousands)

Total deposits decreased $22.0 million to $2.52 billion at March 31, 2024 from $2.54 billion at December 31, 2023. As of March 31, 2024, 18.9% of total deposits were comprised of noninterest-bearing accounts and 81.1% were comprised of interest-bearing deposit accounts, compared to 19.6% and 80.4% as of December 31, 2023, respectively. The overall decrease in our deposits is due primarily to wholesale deposit payoffs. However, customer deposits increased by $12.5 million and is a result of the Company's commitment to growing customer relationships.

We had $59.0 million and $93.6 million in brokered deposits at March 31, 2024 and December 31, 2023, respectively. We use brokered deposits, subject to certain limitations and requirements, as a source of funding to support our asset growth and augment the deposits generated from our branch network, which are our principal source of funding. Our level of brokered deposits varies from time to time depending on competitive interest rate conditions and other factors, and tends to increase as a percentage of total deposits when the brokered deposits are less costly than issuing internet certificates of deposit or borrowing from the FHLB.

The Company's estimated uninsured deposits were $785.6 million at March 31, 2024, or 30.82% of total Bank deposits compared to $777.8 million at December 31, 2023, or 30.22% of total Bank deposits. Adjusted uninsured deposit estimate (which excludes deposits collateralized by public funds and internal accounts) were $459.9 million at March 31, 2024, or 18.04% of total Bank deposits compared to $453.1 million at December 31, 2023, or 17.60% of total Bank deposits. Adjusted uninsured deposits represent a small percentage of our overall deposits, which increases the stability of our deposit base and lowers our overall funding risk.

Off-Balance Sheet Arrangements

The Company is a party to credit related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and commercial letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.

The Company’s exposure to credit loss is represented by the contractual amount of these commitments. The Company follows the same credit policies in making commitments as it does for on-balance sheet instruments. The Company evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, upon extension of credit, is based on management’s credit evaluation of the borrower. The type of collateral held varies, but may include cash or cash equivalents, unimproved or improved real estate, personal property or other acceptable collateral.

See Note 8 to our consolidated financial statements as of March 31, 2024, included elsewhere in this Form 10-Q, for a table setting forth the financial instruments that were outstanding whose contract amounts represent credit risk and more information regarding our off-balance sheet arrangements as of March 31, 2024 and December 31, 2023.

Liquidity

An important part of the Bank's liquidity resides in the asset portion of the balance sheet, which provides liquidity primarily through loan interest and principal repayments and the maturities and sales of securities, as well as the ability to use these assets as collateral for borrowings on a secured basis.

The Bank's main source of liquidity is customer interest-bearing and noninterest-bearing deposit accounts. Liquidity is also available from wholesale funding sources consisting primarily of Federal funds purchased, FHLB advances and brokered deposits. These sources of liquidity are generally short-term in nature and are used as necessary to fund asset growth and meet other short-term liquidity needs.

To plan for contingent sources of funding not satisfied by both local and out-of-market deposit balances, the Company and the Bank have established multiple borrowing sources to augment their funds management. The Company has borrowing capacity through membership of the FHLB program. The Bank has also established overnight borrowing for Federal Funds purchased through various correspondent banks. There were no outstanding balances of Federal Funds purchased at March 31, 2024 and December 31, 2023, respectively.

Cash and cash equivalents at March 31, 2024 and December 31, 2023 were $94.7 million and $83.3 million, respectively. Cash and cash equivalents has increased since year end 2023, primarily due to sales of investment securities and portfolio loans. Management believes the various funding sources discussed above are adequate to meet the Company’s liquidity needs without any material adverse impact on our operating results.

Liquidity management involves the matching of cash flow requirements of customers and the ability of the Company to manage those requirements. These requirements of customers include, but are not limited to, deposits being withdrawn or providing assurance to borrowers that sufficient funds are available to meet their credit needs. We strive to maintain an adequate liquidity position by managing the balances and maturities of interest-earning assets and interest-bearing liabilities so that the balance we have in short-term assets at any given time will adequately cover any reasonably anticipated need for funds. Additionally, we maintain relationships with correspondent banks, which could provide funds on short notice, if needed. We have also invested in FHLB stock for the purpose of establishing credit lines with the FHLB. At March 31, 2024 and December 31, 2023, we had $155.0 million and $175.0 million, respectively, of outstanding advances from the FHLB. Based on the values of loans pledged as collateral, we had $605.9 million and $596.2 million of additional borrowing availability with the FHLB at March 31, 2024 and December 31, 2023, respectively.

Other sources of liquidity include overnight borrowings from the Federal Reserve Discount Window of $98.3 million of which there was no outstanding balance at March 31, 2024. The Company also had unencumbered securities of $469.2 million, $66.6 million in FRB Reserves and $26.7 million in other cash and due from banks as of March 31, 2024. Unencumbered investment securities provide the ability to either be pledged as collateral with borrowing sources or sold and converted to cash.

The Company is a separate entity from the Bank, and as such it must provide for its own liquidity. The Company is responsible for the payment of dividends declared for its common shareholders and payment of interest and principal on any outstanding debt or trust preferred securities. These obligations are met through internal capital resources such as service fees and dividends from the Bank, which are limited by applicable laws and regulations.

Capital Resources

The Company and the Bank are required under federal law to maintain certain minimum capital levels based on ratios of capital to total assets and capital to risk-weighted assets. The required capital ratios are minimums, and the federal banking agencies may determine that a banking organization, based on its size, complexity or risk profile, must maintain a higher level of capital in order to operate in a safe and sound manner. Risks such as concentration of credit risks and the risk arising from non-traditional activities, as well as the institution’s exposure to a decline in the economic value of its capital due to changes in interest rates, and an institution’s ability to manage those risks are important factors that are to be taken into account by the federal banking agencies in assessing an institution’s overall capital adequacy.

The table below summarizes the capital requirements applicable to the Company and the Bank in order to be considered “well-capitalized” from a regulatory perspective, as well as the Company's and the Bank’s capital ratios as of March 31, 2024 and December 31, 2023. The Company and the Bank exceeded all regulatory capital requirements and was considered to be “well-capitalized” as of March 31, 2024 and December 31, 2023. There have been no conditions or events since March 31,

2024 that management believes would change this classification.

53

The Company's primary market risk exposures are credit risk, interest rate risk, and to a lesser degree, liquidity risk. The Bank operates under an Asset Liability Management Policy which is approved by the ALCO, which is a Board committee that meets regularly. The policy outlines limits on interest rate risk in terms of changes in net interest income and changes in the net market values of assets and liabilities over certain changes in interest rate environments. These measurements are made through a simulation model which projects the impact of changes in interest rates on the Bank's assets and liabilities. The policy also outlines responsibility for monitoring interest rate risk and the process for the approval, implementation and monitoring of interest rate risk strategies to achieve the Bank's interest rate risk objectives.

The following table presents our interest sensitivity position at the dates indicated.

See Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” of the Company’s 2023 Form 10-K for additional disclosures related to market and interest rate risk.

There are no material changes during the period covered by this Report to Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk” previously disclosed in the Company's 2023 Form 10-K.

Under the supervision and with the participation of management, including the Company’s Chief Executive Officer and Chief Financial Officer, the Company has evaluated its disclosure controls and procedures (as such term is defined in Rules 13a-15(e) or 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)), as of the end of the period covered by this report, as required by paragraph (b) of Rules 13a-15 or 15d-15 of the Exchange Act. Based on such evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective for ensuring that information the Company is required to disclose in reports that it files or submits under the Exchange Act, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and that such information is accumulated and communicated to the Company's senior management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

During the quarter ended March 31, 2024, there were no changes in the Company’s internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rules 13a-15 or 15d-15 of the Exchange Act that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

In addition to the other information set forth in this Quarterly Report, you should carefully consider the factors discussed in "Part I - Item IA - Risk Factors” of the Company’s 2023 Form 10-K, which could materially affect its business, financial position, results of operations, cash flows, or future results. Please be aware that these risks may change over time and other risks may prove to be important in the future. New risks may emerge at any time, and we cannot predict such risks or estimate the extent to which they may affect our business, financial condition or results of operations, or the trading price of our securities.

There are no material changes during the period covered by this Report to the risk factors previously disclosed in the Company's 2023 Form 10-K.