CSB Bancorp, Inc.: Form 10-Q for the period ended Sep 30, 2023

The following management’s discussion and analysis focuses on the consolidated financial condition of the Company on September 30, 2023 as compared to December 31, 2022, and the consolidated results of operations for the three and nine months ended September 30, 2023 compared to the same periods in 2022. The purpose of this discussion is to provide the reader with a more thorough understanding of the Consolidated Financial Statements. This discussion should be read in conjunction with the interim condensed Consolidated Financial Statements and related footnotes contained in Part I, Item 1 of this Quarterly Report.

FORWARD-LOOKING STATEMENTS

Certain statements contained in this Quarterly Report are not historical facts but rather are forward-looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates”, “plans”, “expects”, “believes”, and similar expressions as they relate to the Company or its management are intended to identify forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The Company’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions, interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services. Other factors not currently anticipated may also materially and adversely affect the Company’s results of operations, cash flows, and financial position. There can be no assurance that future results will meet expectations. While the Company believes that the forward-looking statements in this report are reasonable, the reader should not place undue reliance on any forward-looking statement.

The Company does not undertake, and specifically disclaims any obligation, to publicly revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events, except as may be required by applicable law.

FINANCIAL CONDITION

Total assets decreased $2.5 million to $1.157 billion at September 30, 2023 compared to $1.159 billion December 31, 2022. During the nine months ended September 30, 2023, securities decreased $24 million, net loans increased $54 million, and cash and cash equivalents decreased $37 million. Deposits and short-term borrowings decreased $7 million.

Net loans increased $54 million, or 9%, as residential real estate loans increased $18 million, or 12%, from December 31, 2022. Commercial and commercial real estate loans increased $39 million, or 10% compared to December 31, 2022. Consumer refinance activity slowed significantly on mortgage loans, home purchase activity remained stable despite limited inventory, and home equity line balances decreased by $3 million. Residential mortgage loan originations for the nine months ended September 30, 2023 totaled $40 million, a decrease from $61 million in originations during the nine months ended September 30, 2022. As interest rates continued to rise in 2023, more variable rate residential mortgage loans were originated for the portfolio. Originations sold into the secondary market were $3 million and $8 million, respectively during the nine months ended September 30, 2023 and September 30, 2022. The Bank originates and sells primarily fixed rate thirty-year mortgages into the secondary market.

The allowance for credit losses decreased $317 thousand from the year ago quarter to $6.7 million. The Company adopted CECL on January 1, 2023. Net recoveries were $119 thousand, or an annualized (0.07)% of average loans, in the current nine-month period compared to net charge-offs of $10 thousand, or 0.01% of average loans in the year-ago nine-month period. At September 30, 2023, the allowance for credit losses to total loans was 0.98%. We believe the allowance level is appropriate given the low level of problem loans and composition of the overall loan portfolio in the current economic environment.

Nonperforming loans increased $4 thousand to $260 thousand, or 0.04%, of total loans from $256 thousand, or 0.04% of total loans, on December 31, 2022. For the nine months ended September 30, 2023, $125 thousand in loans were placed on nonaccrual status, $99 thousand in paydowns were received, and $34 thousand in personal loans were charged-off due to non-payment.

(Dollars in thousands)

The ratio of gross loans to deposits was 66.9% at September 30, 2023, compared to 61.3% at December 31, 2022.

The Company has no exposure to government-sponsored enterprise preferred stocks, collateralized debt obligations, or trust preferred securities. Management has considered industry analyst reports, sector credit reports, and the volatility within the bond market in concluding that the gross unrealized losses of $59.2 million within the available-for-sale and held-to-maturity portfolios as of September 30, 2023, was primarily the result of current market yields compared to the yields at the time the investments were purchased by the Company and not due to credit quality. As a result, all embedded security losses on September 30, 2023, are considered temporary and no allowance for credit loss is necessary.

The weighted average life of total debt securities was 5.22 years at September 30, 2023 as compared to 5.57 years at December 31, 2022. If interest rates declined 100 basis points, the weighted average life was estimated to fall to 5.17 years at September 30, 2023 and 5.10 years at December 31, 2022. If interest rates rose 100 basis points the weighted average life would be expected to increase to 5.22 years at September 30, 2023 and 6.01 years at December 31, 2022.

Deposits decreased $5 million, or less than 1%, from December 31, 2022 with noninterest-bearing deposits decreasing approximately $50 million, or 14%, and interest-bearing deposit accounts increasing approximately $45 million, or 7%. Total deposits as of September 30, 2023 are $1.02 billion, or 1%, below September 30, 2022 deposit balances. On a year over year comparison, decreases were recognized in noninterest-bearing demand deposits of $38 million, savings of $28 million and money market accounts of $18 million. Increases were recognized in interest bearing demand accounts of $11 million, and time deposits of $61 million. Deposits have declined somewhat as customers use excess liquid funds and move funds into time certificates of deposit to take advantage of the increased interest rates. The estimated amount of uninsured deposits was $267 million, $267 million, and $286 million as of September 30, 2023, December 31, 2022, and September 30, 2022, respectively.

Short-term borrowings consisting of overnight repurchase agreements with retail customers decreased $2 million, or 6%, to $31 million at September 30, 2023 as compared to December 31, 2022 and other borrowings decreased $653 thousand as the Company repaid FHLB advances.

Total shareholders’ equity amounted to $101 million, or 8.8%, of total assets at September 30, 2023, an increase of $5 million, or 6%, from $96 million December 31, 2022. The increase in shareholders’ equity during the nine months ended September 30, 2023 was due to net income of $11.1 million, accumulated other comprehensive loss (“AOCL”) of $1.2 million, less cash dividends of $3.0 million, and treasury stock repurchase of $1.4 million. An increase of U.S. Treasury rates during the nine months ended September 30, 2023 caused the AOCL to increase as AFS securities are marked to fair market value. As interest rates increase, the fair value of AFS fixed-rate securities decrease with a corresponding net of tax increase recorded in the AOCL portion of equity. This remaining unrealized loss in securities is temporary and is adjusted monthly for additional interest rate fluctuations, principal paydowns, calls, and maturities. The Company and the Bank met all regulatory capital requirements at September 30, 2023 as shown in the Capital Resources section of this report.

RESULTS OF OPERATIONS

Three months ended September 30, 2023 and 2022

For the quarters ended September 30, 2023 and 2022, the Company recorded net income of $3.5 million and $3.7 million and $1.30 and $1.35 per share, respectively. The $169 thousand decrease in net income for the period was primarily the result of the provision for credit losses of $177 thousand compared to the recovery for credit losses in the prior year period of $250 thousand. The increase of $277 thousand in net interest income and $30 thousand increase in noninterest income was offset by an increase in noninterest expenses of $89 thousand. The federal income tax provision decreased $40 thousand. Return on average assets and return on average equity were 1.19% and 13.63%, respectively, for the three-month period of 2023, compared to 1.25% and 15.24%, respectively for the same quarter in 2022.

Average Balance Sheets and Net Interest Margin Analysis

(Dollars in thousands)

1 Average balances have been computed on an average daily basis.

2 Average rates have been computed based on the amortized cost of the corresponding asset or liability.

3 Average loan balances include nonaccrual loans.

4 Interest income is shown on a fully tax-equivalent basis, which is a Non-GAAP measure and is reconciled to the GAAP measure at the bottom of the table.

Interest income for the quarter ended September 30, 2023, was $11.7 million representing a $2.6 million increase, or 22%, compared to the same period in 2022. This increase was primarily due to increased volume and rates on loans and increased rates on interest-earning deposits, and taxable securities partially offset by the volume decrease in interest-earning deposits in the comparable period. Average interest-earning deposit rates increased 316 basis points while loan rates increased 93 basis points, and taxable securities interest rates rose 21 basis points for the quarter ended September 30, 2023 as compared to the same period in 2022. The Federal Reserve raised managed interest rates 6 times and 225 basis points during the 1 year period. Interest expense for the quarter ended September 30, 2023 was $2.9 million, an increase of $2.3 million, or 383%, from the same quarter in 2022. The increase in interest expense occurred primarily due to the increase in interest rates on all deposit types as well as an increase in volume of demand and time deposit accounts for the quarter ended September 30, 2023.

For the quarter ended September 30, 2023, with improving credit quality and minimal loan charge-offs, the bank recognized net recoveries of $119 thousand, compared to $10 thousand net charge-offs for the same quarter in 2022. The provision for credit losses for loans in the current quarter of $13 thousand, compared to a credit provision of $250 thousand in the third quarter 2022, reflects loan growth in 2023. The company recorded $164 thousand credit provision for off-balance credit exposure in 2023 compared to a $0 provision in the third quarter of 2022. This increase results from an increase primarily in commercial construction loans in 2023 compared to 2022. Economic indicators reflect a leveling off in residential real estate prices and low unemployment. The provision for credit losses is determined based on management’s calculation of the adequacy of the allowance for credit losses, which includes provisions for classified loans as well as for the remainder of the portfolio based on historical data, including past charge-offs and current economic trends.

Noninterest income for the quarter ended September 30, 2023, was $1.7 million, an increase of $30 thousand, or 2%, compared to the same quarter in 2022. The gain on the sale of mortgage loans into the secondary market decreased by $2 thousand, or 4%, for the quarter ended September 30, 2023 as fewer loans were sold into the secondary market due to decreasing demand for mortgage refinancing as interest rates increased and inventories of homes available for sale declined. Fees from trust and brokerage services amounted to $259 thousand for the third quarter 2023, an increase of $43 thousand, or 20%, as compared to the same quarter in 2022. Service charges on deposit accounts increased $11 thousand, or 3%, compared to the same quarter in 2022, primarily from increased customer fees, partially offset by a decline in customer overdraft fees.. Debit card interchange income decreased $5 thousand, or less than 1%, with less fees generated from usage in the third quarter 2023. Credit card fee income decreased $4 thousand, or 2%. Earnings on bank owned life insurance increased $9 thousand, or 5%, for the third quarter 2023.

Noninterest expenses for the quarter ended September 30, 2023 increased $89 thousand, or 2%, compared to the third quarter 2022. Salaries and employee benefits increased $230 thousand, or 7%, a result increases in headcount and base salary compared to third quarter 2022. Occupancy and equipment expense increased $24 thousand, or 5%, in 2023 over the third quarter 2022, primarily due to increases in rooftop air conditioner repair. Software expense increased $11 thousand due to additional software purchases over third quarter 2022. Professional and director fees decreased $189 thousand, or 34%, for the quarter ended September 30, 2023 as compared to the third quarter 2022, primarily reflecting a consulting fee in 2022 to renegotiate the core data processing software contract. Marketing and public relations expense decreased $17 thousand, or 12%. Data line and phone expense increased $2 thousand, or 4%, as renegotiated contracts have stabilized. Debit card expense decreased $22 thousand or 11%. FDIC insurance expense increased $38 thousand, or 41%, with the increase in insurance rates. Federal income tax expense decreased $40 thousand, or 4%, for the quarter ended September 30, 2023 as compared to the third quarter 2022. The provision for income taxes was $850 thousand (effective rate of 18.2%) for the quarter ended September 30, 2023, compared to $890 thousand (effective rate of 19.6%) for the same quarter ended 2022.

RESULTS OF OPERATIONS

Nine months ended September 30, 2023, and 2022

For the nine months ended September 30, 2023, and 2022, the Company recorded net income of $11.1 million and $9.6 million and $4.12 and $3.52 per share, respectively. The $1.5 million increase in net income for the nine-month period was primarily the result of an increase in net interest income of $3.7 million, which was partially offset by an increase in the total provision for credit losses of $1.2 million, an increase in noninterest expenses of $615 thousand, and a reduction in noninterest income of $33 thousand. The federal income tax provision was $413 thousand higher during the nine-month period in 2023. Return on average assets and return on average equity were 1.28% and 14.85%, respectively, for the nine months ended September 30, 2023, compared to 1.12% and 13.41%, respectively for the same period in 2022.

(Dollars in thousands)

34

Interest income for the nine months ended September 30, 2023, was $33.5 million representing a $9.1 million increase, or 37%, compared to the same period in 2022. This increase was primarily due to volume and yield increases on loans and taxable securities along with rate increases on interest-earning deposits in other banks for the period ended September 30, 2023, as compared to the same period in 2022. Interest expense for the nine months ended September 30, 2023, was $6.8 million, an increase of $5.4 million, or 402%, from the same period in 2022. The increase in interest expense occurred primarily due to an increase in rates on all interest-bearing liabilities for the nine months ended September 30, 2023, as well as a shift in balances into higher rate time deposits.

For the nine months ended September 30, 2023, the provision for credit losses was $287 thousand, compared to a credit reversal of $895 thousand for the same period in 2022. For more discussion see Results of Operations, three months. The provision for loan losses is determined based on management’s calculation of the adequacy of the allowance for credit losses, which includes provisions for classified loans as well as for the remainder of the portfolio based on historical data, including past charge-offs and current economic trends.

Noninterest income for the nine months ended September 30, 2023, was $5.1 million, a decrease of $33 thousand, or less than 1%, compared to the same period in 2022. The gain on the sale of mortgage loans to the secondary market decreased $208 thousand to $106 thousand for the nine months ended September 30, 2023, as increases in interest rates slowed mortgage loan refinancing. Service charges on deposit accounts increased $49 thousand, or 6%, compared to the same period in 2022 primarily from increases in business service charges on deposit accounts and customer nsf fees. Credit card fee income increased $19 thousand, or 4% with growth in business credit card customers and interchange income. Debit card interchange income increased $11 thousand, or less than 1%. Earnings on bank owned life insurance policies increased $16 thousand for the period. Fees from trust and brokerage services increased $36 thousand for the period.

Noninterest expenses for the nine months ended September 30, 2023, increased $615 thousand, or 4%, compared to the same period in 2022. Salaries and employee benefits increased $346 thousand, or 4%, a result of increased salaries and medical benefits. Software increased $172 thousand, or 16%, with investment in enhanced reporting software. FDIC assessment rose $129 thousand, or 51%, a result of increasing rates set by the FDIC in 2002 for 2023. Marketing and public relations expense increased $21 thousand, or 6%, with marketing, brand recognition initiatives, and community support in the company’s market slowly increasing in volume due to increasing opportunities presenting after previous cancellations due to COVID-19. Occupancy and equipment expenses increased $27 thousand over the same period in 2022 with an increase in maintenance expense. Professional and director fees decreased $88 thousand for the nine months ended September 30, 2023, as compared to the same period in 2022 as an IT consulting fee did not recur in 2023 which was partially offset with increases in audit function and CECL.

Federal income tax expense increased $413 thousand, or 18%, for the nine months ended September 30, 2023, as compared to the same period in 2022. The provision for income taxes was $2.7 million (effective rate of 19.7%) for the nine months ended September 30, 2023, compared to $2.3 million (effective rate of 19.4%) for the same period ended 2022.

CAPITAL RESOURCES

The Company maintained a strong capital position with tangible common equity to tangible assets of 8.4% at September 30, 2023 compared with 7.9% at December 31, 2022.

Consistent with the Board of Director’s commitment to public confidence and safe and sound banking operations, capital targets and minimum risk-based capital ratios for CSB were established to maintain excess capital to well-capitalized standards. To be considered well-capitalized, an institution must have a total risk-based capital ratio of at least 10%, a tier 1 capital ratio of at least 8%, a leverage capital ratio of at least 5%, a common equity tier 1 (“CET1”) ratio of at least 6.5% and must not be subject to any order or directive requiring the institution to improve its capital level. An adequately capitalized institution has a total risk-based capital ratio of at least 8%, a tier 1 capital ratio of at least 6%, a CET1 ratio of at least 4.5%, and a leverage ratio of at least 4%.

Failure to meet specified minimum capital requirements could result in regulatory actions by the Federal Reserve or Ohio Division of Financial Institutions that could have a material effect on the Company’s financial condition or results of operations. Management believes there were no material changes to capital resources as presented in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. As of September 30, 2023, the Company and the Bank met all capital adequacy requirements to which they were subject.

LIQUIDITY

(Dollars in thousands)

Liquidity refers to the Company’s ability to generate sufficient cash to fund current loan demand, meet deposit withdrawals, pay operating expenses, and meet other obligations. Liquidity is monitored by the Company’s Asset Liability Committee. Other sources of liquidity include, but are not limited to, purchases of federal funds, advances from the FHLB, adjustments of interest rates to attract deposits, brokered deposits, and borrowing at the Federal Reserve discount window. Management believes that its sources of liquidity are adequate to meet cash flow obligations for the foreseeable future.

Off-Balance Sheet Arrangements

The Company does not have any off-balance sheet arrangements (as such term is defined in applicable Securities and Exchange Commission (the “Commission”) rules) that are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures, or capital resources.

PER SHARE DATA

Earnings per share is computed based on the weighted average number of shares of common stock outstanding during each year. The company currently maintains a simple capital structure, thus, there are no dilutive effects on earnings per share.

The weighted average number of common shares outstanding for earnings per share computations was as follows:

(Dollars in thousands, except per share data)

37

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

By September 2023, Ohio's unemployment rate had stabilized at 3.4%. The bank based in Holmes County is reporting an unemployment rate of 2.5% in September 2023. Of the counties within the bank's footprint, Stark County reported the highest unemployment rate at 3.5% in September. Tuscarawas and Wayne Counties posted a lower unemployment rates of 3.2% and 2.7% in September 2023. Many jobs within the Bank's market footprint continue to go unfilled. The rate of inflation, increased to 3.7% on a year over year basis at September 2023, following a high base rate in 2022. The rate continues to be above the Federal Reserve target rate of 2%, but has fallen from 8.5% in March 2022. The Federal Reserve continues to raise interest rates in an effort to stabilize prices with maximum employment. Credit quality in the Bank's loan portfolio is good, however risks to the economy remain with higher prices for goods and labor.

Management performs a quarterly analysis of the Company’s interest rate risk over a twenty-four-month horizon. The analysis includes two balance sheet models, one based on a static balance sheet and one on a dynamic balance sheet with projected growth in assets and liabilities. All balance sheet positions, and interest rate projections are currently within the Company’s board-approved policy for both the twelve- month and twenty-four-month periods.

The following table presents an analysis of the estimated sensitivity of the Company’s annual net interest income to sudden and sustained -400 through +400 basis point changes, in 100 basis point increments, in market interest rates at September 30, 2023 and December 31, 2022. The net interest income reflected is for the first twelve-month period of the modeled twenty-four-month horizon. The underlying balance sheet for illustrative purposes is dynamic with projected growth in assets and liabilities.

September 30, 2023

(Dollars in thousands)

38

CONTROLS AND PROCEDURES

With the participation of the Company’s management, including its Chief Executive Officer and Chief Financial Officer, the Company has evaluated the effectiveness of its disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that:

(a) information required to be disclosed by the Company in this Quarterly Report on Form 10-Q would be accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure;

(b) information required to be disclosed by the Company in this Quarterly Report on Form 10-Q would be recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms; and

(c) the Company’s disclosure controls and procedures are effective as of the end of the period covered by this Quarterly Report on Form 10-Q to ensure that material information relating to the Company and its consolidated subsidiary is made known to them, particularly during the period for which the Company’s periodic reports, including this Quarterly Report on Form 10-Q, are being prepared.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

There were no changes during the period covered by this Quarterly Report on Form 10-Q in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

FORM 10-Q

Quarter ended September 30, 2023