BV Financial, Inc.: Form 10-Q for the period ended Mar 31, 2024

General

Management’s discussion and analysis is intended to enhance your understanding of our financial condition and results of operations. The financial information in this section is derived from the accompanying financial statements. You should read the financial information in this section in conjunction with the business and financial information contained in this Quarterly Report on Form 10-Q and in the Company’s 2023 Annual Report on Form 10-K as filed with the Securities and Exchange Commission on March 22, 2024.

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements, which can be identified by the use of words such as “estimate,” “project,” “believe,” “intend,” “anticipate,” “assume,” “plan,” “seek,” “expect,” “will,” “may,” “should,” “indicate,” “would,” “contemplate,” “continue,” “intend,” “target” and words of similar meaning. These forward-looking statements include, but are not limited to:

• statements of our goals, intentions and expectations;
• statements regarding our business plans, prospects, growth and operating strategies;
• statements regarding the quality of our loan and investment portfolios; and
• estimates of our risks and future costs and benefits.

These forward-looking statements are based on our current beliefs and expectations and are subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change. We are under no duty to and do not undertake any obligation to update any forward-looking statements after the date of this Quarterly Report on Form 10-Q.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

• general economic conditions, either nationally or in our market areas, that are worse than expected including as a result of employment levels and labor shortages, and a potential recession or slowed economic growth;
• the impact of the COVID-19 pandemic on our business and results of operations;
• changes in the level and direction of loan delinquencies and charge-offs and changes in estimates of the adequacy of the allowance for credit losses;
• changes in the economic assumptions used to calculated the allowance for credit losses;
• our ability to access cost-effective funding;
• changes in liquidity, including the size and composition of our deposit portfolio, including the percentage of uninsured deposits in the portfolio;
• fluctuations in real estate values and both residential and commercial real estate market conditions;
• our continued ability to originate loans outside of our market area;
• our ability to implement and change our business strategies;
• competition among depository and other financial institutions;
• inflation and changes in the interest rate environment that reduce our margins and yields, the fair value of financial instruments or our level of loan originations or prepayments on loans we have made and make;
• adverse changes in the securities markets;
• changes in laws or government regulations or policies affecting financial institutions, including changes in regulatory fees and capital requirements and insurance premiums;
• a potential government shutdown;
• changes in the quality or composition of our loan or investment portfolios;
• technological changes that may be more difficult or expensive than expected;
• system failure or cyber-security breaches of our information technology infrastructure;
• the failure to maintain current technologies and/or successfully implement future information technology enhancements;
• the inability of third-party providers to perform as expected;
• our ability to manage market risk, credit risk and operational risk in the current economic environment;
• our ability to enter new markets successfully and capitalize on growth opportunities;
• our ability to successfully integrate into our operations any assets, liabilities, customers, systems and management personnel we may acquire, and our ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto;
• changes in consumer spending, borrowing and savings habits;
• changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission or the Public Company Accounting Oversight Board;
• our ability to retain key employees;
• our compensation expense associated with equity allocated or awarded to our employees; and
• changes in the financial condition, results of operations or future prospects of issuers of securities that we own.

Because of these and other uncertainties, our actual future results may be materially different from the results indicated by these forward-looking statements. Except as required by law or regulation, we do not undertake, and we specifically disclaim any obligation to release publicly the results of any revisions that may be made to 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.

Critical Accounting Policies and Use of Critical Accounting Estimates

Our accounting policies are integral to understanding the results reported. We consider accounting policies that require management to exercise significant judgment or discretion or to make significant assumptions that have, or could have, a material impact on the carrying value of certain assets or on income to be critical accounting policies.

Allowance for Credit Losses

On January 1, 2023, the Company adopted Accounting Standards Updates (ASU) 2016-13 “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments,” Accounting Standards Codification ("ASC") 326 requires entities to estimate an allowance for credit losses ("ACL") on certain types of financial instruments measured at amortized cost using a current expected credit losses ("CECL") methodology, replacing the prior-required incurred loss methodology. It also applies to unfunded commitments to extend credit, including loan commitments, standby letters of credit, and other similar instruments. The impairment model for available-for-sale debt securities was modified and ASC 326 also provided for a simplified accounting model for purchased financial assets with credit deterioration since their origination. The amendments of ASC 326, upon adoption, were applied on a modified retrospective basis, by recording an increase in the reported balance of loans and the allowance for credit losses on loans, an increase in the liability for credit losses on commitments to extend credit and reducing total equity of both the Company and the Bank. As a result of adopting ASC 326, the Company recorded a decrease to retained earnings, net of taxes, of $547,000.

The ACL is an estimate of the expected credit losses for loans held for investment and for off-balance sheet exposures. ASC 326, "Financial Instruments-Credit Losses," requires an immediate recognition of the credit loss expected to occur over the lifetime of a financial asset whether originated or purchased. Charge-offs are recorded to the ACL when management believes the loan in uncollectible. Subsequent recoveries, if any, are credited to the ACL. Management believes the ACL is maintained in accordance with GAAP and in compliance with appropriate regulatory guidelines. The ACL includes quantitative estimates of losses for collectively and individually evaluated loans. The quantitative estimate for collectively evaluated loans (other than investor commercial real estate loans) is determined using the average charge-off method that utilizes historical losses for all Maryland banks with assets less than $1 billion beginning in March 2000. The investor commercial real estate portfolio utilizes the national loss history for banks with assets less than $1 billion over the same time period. Adjustments are made to the historical loss factors under each scenario for economic conditions, portfolio concentrations, collateral values, the level and trend of delinquent and problem loans and internal changes in staffing, loan policies and monitoring of the portfolio. Loans are selected for individual evaluation primarily based on their payment status and whether the loan has been placed on non-accrual status. Loans on non-accrual status include all loans greater than 90 days delinquent and other loans with weaknesses sufficient for management to place these loans on non-accrual status. The ACL is measured on a collective basis when similar risk factors exist as determined by internal loan coding and assignment to a portfolio segment. The Company utilizes reasonable and supportable forecasts of future economic conditions when estimating the ACL on loans. The model's calculation also uses an adjustment for a 12-month forecast period utilizing the most recent 12-month economic forecast from the Board of Governors of the Federal Reserve System for national gross domestic product ("GDP"). The model compares the average history of loss rates described above to the forecasted GDP to determine the value of the forward-looking adjustment. The establishment of the allowance for credit losses is significantly affected by management's judgment and by economic and other uncertainties, and there is a likelihood that different amounts would be reported under different conditions or assumptions. The Federal Deposit Insurance Corporation and the Maryland Office of the Commissioner of Financial Regulation, as an integral part of their examination process, periodically review the allowance for credit losses for reasonableness and, as a result of such reviews, we may be required to increase our ACL or recognize loan charge-offs. The calculation of ACL excludes accrued interest receivable balances because these balances are reversed in a timely manner against previously recognized interest income when a loan is placed on non-accrual.

ASU Update 2022-02 On January 1, 2023, the Company adopted ASU 2022-02 –Financial Instruments-Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. ASU 2022-02 eliminates the TDRs recognition and measurement guidance and, instead, requires that an entity evaluate whether the modification represents a new loan or a continuation of an existing loan. The amendments enhance existing disclosure requirements and introduce new requirements related to certain modifications of receivables made to borrowers experiencing financial difficulty. In addition, ASU Update 2022-02 requires that an entity disclose current-period gross write-offs by year of origination for financing receivables and net investment in leases. The Company adopted ASU 2022-02 using a modified retrospective transition method for TDRs. The impact of adoption was immaterial. The disclosure amendments in the Update 2022-02 were applied prospectively.

Goodwill

The excess purchase price over the fair value of net assets from acquisitions, or goodwill, is evaluated for impairment at least annually and on an interim basis if an event or circumstance indicates it is likely impairment has occurred. Goodwill impairment is determined by comparing the fair value of a reporting unit to its carrying amount. In any given year the Company may elect to perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is in excess of its carrying value. If it is not more likely than not that the fair value of the reporting unit is in excess of the carrying value, or if the Company elects to bypass the qualitative assessment, a quantitative impairment test is performed. In performing a quantitative test for impairment, the fair value of net assets is estimated based on analyses of the Company’s market value, discounted cash flows, and peer values. The determination of goodwill impairment is sensitive to market-based economics and other key assumptions used in determining or allocating fair value. Variability in the market and changes in assumptions or subjective measurements used to estimate fair value are reasonably possible and may have a material impact on our consolidated financial statements or results of operations. Our annual goodwill impairment test is performed each year as of September 30. The Company performed its 2023 goodwill impairment qualitative assessment and determined its goodwill was not considered impaired. We monitor our performance and evaluate our goodwill for impairment annually or more frequently as needed.

Deferred Income Taxes

At March 31, 2024, we had a net deferred tax asset totaling $8.7 million. In accordance with ASC Topic 740 “Income Taxes,” we use the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. If currently available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established if it is not more likely than not realizable. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting deferred tax assets and liabilities. These judgments require us to make projections of future taxable income. The judgments and estimates we make in determining our deferred tax assets are inherently subjective and are reviewed on a regular basis as regulatory or business factors change. Any reduction in estimated future taxable income may require us to record a valuation allowance against our deferred tax assets. A valuation allowance that results in additional income tax expense in the period in which it is recognized would negatively affect income. Management believes, based upon current facts, that it is more likely than not that there will be sufficient taxable income in future years to realize its federal and state deferred tax asset.

Comparison of Financial Condition at March 31, 2024 (Unaudited) and December 31, 2023

Total Assets. Total assets were $892.5 million at March 31, 2024, an increase of $7.2 million, or 0.82%, from $885.3 million at December 31, 2023. The increase was due primarily to a $5.1 million increase in cash and a $3.9 million increase in loans receivable funded by an increase in deposits and quarterly net income. The increase in deposits included the issuance of $10 million in brokered deposits during the period.

Cash and Cash Equivalents. Cash and cash equivalents increased $5.1 million, or 6.9%, to $78.8 million at March 31, 2024 from $73.7 million at December 31, 2023 primarily due to the increase in deposits.

Net Loans Receivable. Loans receivable increased $3.9 million, or 0.56%, to $708.7 million at March 31, 2024 from $704.8 million at December 31, 2023. Increases in commercial and industrial loans of $7.0 million and investor commercial real estate loans of $4.9 million offset decreases in owner occupied one-to-four loans of $1.4 million, non-owner occupied one- to four-family loans of $4.1 million and owner occupied commercial real estate loans of $2.4 million.

Allowance for Credit Losses.

Our allowance for credit losses – loans was $8.5 million at March 31, 2024 compared to $8.55 million at December 31, 2023. The slight decrease in the required ACL resulted from lower historical loss rates and lower life of loan calculations offsetting the higher balances of loans outstanding at March 31, 2024 compared to December 31, 2023. The ratio of our allowance for credit losses to total loans was 1.20% at March 31, 2024 compared to 1.19% at March 31, 2023, while the allowance for credit losses to non-performing loans was 79.2% at March 31, 2024 compared to 176.5% at March 31, 2023.

Securities. Securities available for sale (“AFS”) decreased $1.0 million, or 3.0%, to $33.8 million at March 31, 2024 from $34.8 million at December 31, 2023. The decrease was due to new purchases not fully replacing maturities and paydowns in the portfolio. Securities held-to-maturity were relatively unchanged at $10.2 million.

Total Liabilities. Total liabilities increased $4.6 million or 0.7%, to $690.8 million at March 31, 2024 from $686.2 million at December 31, 2023. The increase was primarily due to an increase in total deposits of $5.4 million, and an increase in escrow accounts and other accrued balances offsetting the pay-off of the junior subordinated debt of $3.0 million.

Deposits. Total deposits increased $5.4 million, or 0.85%, to $639.5 million at March 31, 2024 from $634.1 million at December 31, 2023. Interest-bearing deposits increased $8.3 million, or 1.7%, to $500.4 million at March 31, 2024 from $492.1 million at December 31, 2023. Noninterest bearing deposits decreased $2.9 million, or 2.1%, to $139.1 million at March 31, 2024 from $142.0 million at December 31, 2023. During the first quarter of 2024, the Company replaced $10.0 million in retail certificates of deposits with $10 million of brokered deposits at a cost lower than that would have been required to retain the retail certificates.

Federal Home Loan Bank Borrowings. The Company had no Federal Home Loan Bank borrowings at March 31, 2024 or December 31, 2023.

Stockholders’ Equity. Stockholders’ equity increased $2.7 million, or 1.3%, to $201.8 million at March 31, 2024, primarily due to net income.

Comparison of Operating Results for the Three Months Ended March 31, 2024 and 2023

Average Balances and Yields. The following table sets forth average balance sheets, average yields and costs, and certain other information for the periods indicated. No tax-equivalent yield adjustments have been made, as the effects would be immaterial. All average balances are daily average balances. Non-accrual loans are included in the computation of average balances only. The yields set forth below include the effect of deferred fees, discounts, and premiums that are amortized or accreted to interest income or interest expense. Average balances exclude loans held for sale, if applicable. Net deferred loan origination fees totaled $1.9 million and $1.7 million at March 31, 2024 and 2023, respectively.

(dollars in thousands)

(Unaudited)

(1) Annualized.

(2) Net interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average rate of interest-bearing liabilities.

(3) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(4) Net interest margin represents net interest income divided by average total interest-earning assets.

The following table sets forth the effects of changing rates and volumes on our net interest income. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by current rate). The total column represents the sum of the prior columns. For purposes of this table, changes attributable to both rate and volume which cannot be segregated have been allocated proportionately based on the changes due to rate and volume.

(In thousands)

39

General. Net income decreased by $541,000 or 17.4% for the three months ended March 31, 2024, compared to $3.1 million for the three months ended March 31, 2023. The decrease was due primarily to the write-off (increase in interest expense) of the remaining purchase accounting fair market value adjustment of $566,000 upon the pay-off of $3.0 million in junior subordinated debt assumed in a prior acquisition.

Interest Income. Interest income increased $1.3 million, or 13.6%, to $11.0 million for the three months ended March 31, 2024 from $9.7 million for the three months ended March 31, 2023. The increase was due primarily to increases in interest income on loans, and interest income on cash, cash equivalents and other interest-earning assets. Interest income on loans increased $1.0 million, or 11.5%, to $9.8 million for the three months ended March 31, 2024 from $8.8 million for the three months ended March 31, 2023 due to increases in the average balance of loans and the average rate earned on loans. The average balance of loans increased $40.5 million, or 6.1%, to $708.4 million for the three months ended March 31, 2024 from $667.9 million for the three months ended March 31, 2023. The weighted average yield on loans increased 21 basis points to 5.54% for the three months ended March 31, 2024 compared to 5.33% for the three months ended March 31, 2023, as variable rate loans reset to higher interest rates and the rates on new loans exceeded the rates on paid off loans due to the higher interest rate environment. Interest income on cash, cash equivalents and other interest-earning assets increased $268,000 to $824,000 for the three months ended March 31, 2024 from $556,000 for the three months ended March 31, 2023 due to an increase in the average balance of cash, cash equivalents and other interest-earning assets and the average rate.

Interest Expense. Interest expense increased $1.5 million, or 104.4%, to $3.0 million for the three months ended March 31, 2024 compared to $1.5 million for the three months ended March 31, 2023, due to a $1.3 million increase in interest expense on deposits as rates paid increased and depositors moved money into higher cost certificate of deposit accounts, a $521,000 increase in interest expense on subordinated debt due to the write-off of the fair market value adjustment noted above somewhat offset by a $289,000 decrease in interest expense on advances from the FHLB as there were no advances outstanding in the quarter ended March 31, 2024.

The increase in interest expense on deposits was due to a 109 basis point increase in the average rate, offset by a $16.5 million decrease in the average balance of interest-bearing deposits to $492.0 million at March 31, 2024 from $508.5 million for the three months ended March 31, 2023. The average rate on interest-bearing deposits was 1.62% for the three months ended March 31, 2024 compared to 0.53% for the three months ended March 31, 2023.

Interest expense on FHLB advances decreased to $0 for the three months ended March 31, 2024 from $289,000 in the three months ended March 31, 2023 as all advances were paid off.

Interest expense on subordinated debentures increased $521,000, or 97.6%, to $1.1 million for the three months ended March 31, 2024 compared to $534,000 for the three months ended March 31, 2023.The increase was due primarily to the write-off (increase in interest expense) of the remaining purchase accounting fair market value adjustment of $566,000 upon the pay-off of $3.0 million in junior subordinated debt assumed in a prior acquisition.

Net Interest Income. Net interest income was $8.0 million for the three months ended March 31, 2024 compared to $8.2 million in the three months ended March 31, 2023. The net interest margin for the three months ended March 31, 2024 was 3.91% compared to 4.34% for the three months ended March 31, 2023. The 125 basis point increase in the cost of interest-bearing liabilities offset the higher average balances and rates earned on loans and short-term investments. Included in interest expense is the above-mentioned write-off of the $566,000 remaining fair market value adjustment on the pay-off the $3.0 million junior subordinated debt. Additionally, the cost of interest-bearing deposits increased by 109 basis points to 1.62% in the quarter ended March 31, 2024 compared to the quarter ended March 31, 2023.

Provision for Credit Losses.

The provision for credit losses was $18,000 for the three months ended March 31, 2024 compared to a provision for credit losses of $2,000 for the three months ended March 31, 2023. The provision in the current quarter consisted of a credit to the ACL-loans of $133,000, a credit to the ACL-HTM securities of $1,000 and an increase in the ACL-Unfunded commitments of $152,000. The Company had net recoveries on previously charged off loans of $85,000 in the quarter ended March 31, 2024 as compared to net recoveries of $37,000 in the quarter ended March 31, 2023.

Non-interest Income. For the three months ended March 31, 2024, noninterest income totaled $578,000 compared to $807,000 in the quarter ended March 31, 2023. The decrease is almost entirely due to lower income on insurance policies. In the quarter ended March 31, 2023, the Company received a $235,000 death benefit on the policies.

Non-interest Expense. For the three months ended March 31, 2024, noninterest expense totaled $4.9 million compared to $4.7 million for the three months ended March 31, 2023. Compensation and benefits expenses increased by 8.7% due to increases in staffing and salary levels. Other expenses increased $116,000 or 22.7% primarily due to higher fraud losses. Professional fees decreased by $88,000 or 44.0% due to the recovery of previously expensed legal fees of $109,000 on the disposition of a problem loan. Foreclosed real estate expenses decreased by $122,000 or 96.1% due to the sale of large foreclosed real estate properties in 2023.

Income Tax Expense. For the three months ended March 31, 2024, income tax expense was $1.0 million for an effective tax rate of 28.5%. In the quarter ended March 31, 2023, income tax expense was $1.2 million for an effective tax rate of 27.65%. The lower tax rate in the quarter ended March 31, 2023 was due to a higher level of income from life insurance in that quarter.

Liquidity and Capital Resources

Liquidity. Liquidity describes our ability to meet the financial obligations that arise in the ordinary course of business. Liquidity is primarily needed to meet the borrowing and deposit withdrawal requirements of our customers and to fund current and planned expenditures. Our primary sources of funds are deposits, principal and interest payments on loans and securities and proceeds from maturities of securities. We also have the ability to borrow from the FHLB of Atlanta. At March 31, 2024, we had $169.1 million available under a line of credit with the FHLB of Atlanta, and had $25.0 million of FHLB in unfunded letters of credit used to secure municipal deposits outstanding against the line of credit with the FHLB of Atlanta. This resulted in additional borrowing availability from the FHLB of $144.1 million. The Company also has a short term unsecured facility from a correspondent bank in the amount of $20.0 million.

While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and short-term investments including interest-bearing demand deposits. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period. Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. We are committed to maintaining a strong liquidity position.

We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. Based on our deposit retention experience and current pricing strategy, we anticipate that a significant portion of maturing time deposits will be retained. However, if a substantial portion of these deposits is not retained, we may utilize FHLB advances, brokered deposits or raise interest rates on deposits to attract new accounts, which may result in higher levels of interest expense. At March 31, 2024 and March 31, 2023, the Company had $10 million and $0 in brokered deposits, respectively. The Bank's uninsured deposits totaled $190.1 million or 27.9% of total deposits of which $57.2 million were secured using the market value of pledged collateral or letters of credit issued by FHLB, and an additional $42.5 million were deposits of BV Financial, Inc. at the Bank.

Capital Resources. At March 31, 2024, the Bank exceeded all of its regulatory capital requirements and was categorized as well capitalized. Management is not aware of any conditions or events since the most recent notification that would change our category.

An evaluation was performed under the supervision and with the participation of the Company’s management, including the Co-Chief Executive Officers and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of March 31, 2024. Based on that evaluation, the Company’s management, including the Co-Chief Executive Officers and the Chief Financial Officer, concluded that the Registrant’s disclosure controls and procedures were effective.

During the quarter ended March 31, 2024, there have been no changes in the Company’s internal controls over financial reporting that have materially affected, or are 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 on Form 10-Q, you should carefully consider the risk factors discussed under the heading "Risk Factors" contained in the Prospectus. The Company's evaluation of the risk factors applicable to it has not changed materially from those disclosed in the Prospectus.