Pathfinder Bancorp, Inc.: Form 10-Q for the period ended Jun 30, 2024

General

The Company is a Maryland corporation headquartered in Oswego, New York. The Company is 100% owned by public shareholders. The primary business of the Company is its investment in Pathfinder Bank (the "Bank"), a New York State chartered commercial bank, which is 100% owned by the Company. The Bank has two wholly owned operating subsidiaries, Pathfinder Risk Management Company, Inc. (“PRMC”) and Whispering Oaks Development Corp. All significant inter-company accounts and activity have been eliminated in consolidation. Although the Company owns, through its subsidiary PRMC, 51% of the membership interest in FitzGibbons Agency, LLC (“FitzGibbons” or “Agency”), the Company is required to consolidate 100% of FitzGibbons within the consolidated financial statements. The 49% of which the Company does not own, is accounted for separately as a noncontrolling interest within the consolidated financial statements. At June 30, 2024, the Company and subsidiaries had total consolidated assets of $1.45 billion, total consolidated liabilities of $1.32 billion and shareholders' equity of $123.3 million, plus noncontrolling interest of $826,000, which represents the 49% of FitzGibbons not owned by the Company.

The following discussion reviews the Company's financial condition at June 30, 2024 and the results of operations for the three and six month periods ended June 30, 2024 and 2023. Operating results for the three and six months ended June 30, 2024 are not necessarily indicative of the results that may be expected for the year ending December 31, 2024 or any other period.

The following material under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" is written with the presumption that the users of the interim financial statements have read, or have access to, the Company's latest audited financial statements and notes thereto, together with Management's Discussion and Analysis of Financial Condition and Results of Operations included in the 2023 Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 22, 2024 (“the consolidated annual financial statements”) as of December 31, 2023 and 2022 and for the two years then ended. Therefore, only material changes in financial condition and results of operations are discussed in the remainder of Item 2.

Statement Regarding Forward-Looking Statements

This report includes forward-looking statements within the meaning of Sections 27A of the Securities Act of 1933, as amended, and 21E of the Securities Exchange Act of 1934, as amended, that involve inherent risks and uncertainties. These forward-looking statements concern the financial condition, results of operations, plans, objectives, future performance and business of Pathfinder Bancorp, Inc. and its subsidiary, including statements preceded by, followed by or that include words or phrases such as “believes,” “expects,” “anticipates,” “plans,” “trend,” “objective,” “continue,” “remain,” “pattern” or similar expressions or future or conditional verbs such as “will,” “would,” “should,” “could,” “might,” “can,” “may” or similar expressions. There are a number of important factors that could cause future results to differ materially from historical performance and these forward-looking statements. Factors that might cause such a difference include, but are not limited to: (1) general economic conditions may be less favorable than expected; (2) competitive pressures among depository institutions may increase significantly; (3) changes in the interest rate environment may reduce interest margins; (4) loan origination and sale volumes, charge-offs and credit loss provisions may vary substantially from period to period; (5) the impact of a pandemic or other health crises and the government's response to such pandemic or crises on our operations as well as those of our customers and on the economy generally and in our market area specifically; (6) political developments, wars or other hostilities may disrupt or increase volatility in securities markets or other economic conditions; (7) legislative or regulatory changes or actions may adversely affect the businesses in which Pathfinder Bancorp, Inc. is engaged; (8) changes and trends in the securities markets may adversely impact Pathfinder Bancorp, Inc.; (9) a delayed or incomplete resolution of regulatory issues could adversely impact our planning; (10) difficulties in integrating any businesses that we may acquire, including our recently completed acquisition of the East Syracuse branch of Berkshire Bank, which may increase our expenses and delay the achievement of any benefits that we may expect from such acquisitions; (11) the impact of reputation risk created by the developments discussed above on such matters as business generation and retention, funding and liquidity could be significant; (12) our ability to prevent or mitigate fraudulent activity

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and cybersecurity threats; and (13) the outcome of any future regulatory and legal investigations and proceedings may not be anticipated.

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, we disclaim any obligation to revise or update any forward-looking statements contained in this Quarterly Report on Form 10-Q to reflect future events or developments.

Application of Critical Accounting Estimates

The Company's consolidated quarterly financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow practices within the banking industry. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the consolidated quarterly financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain accounting policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions, and judgments are necessary when assets and liabilities are required to be recorded at fair value or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and information used to record valuation adjustments for certain assets and liabilities are based on quoted market prices or are provided by unaffiliated third-party sources, when available. When third party information is not available, valuation adjustments are estimated in good faith by management.

The most significant accounting policies followed by the Company are presented in Note 1 to the annual audited consolidated financial statements. These policies, along with the disclosures presented in the other financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the consolidated quarterly financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified the allowance for credit losses, deferred income taxes, pension obligations, the evaluation of investment securities for credit losses, the estimation of fair values for accounting and disclosure purposes, and the evaluation of goodwill for impairment to be the accounting areas that require the most subjective and complex judgments. These areas could be the most subject to revision as new information becomes available.

The ACL represents management's estimate of lifetime credit losses inherent in the loan portfolio. Determining the amount of the allowance for credit losses is considered a critical accounting estimate because it requires significant judgment on the use of estimates related to the amount and timing of expected future cash flows on individually evaluated loans, estimated losses on pools of homogeneous loans based on historical loss experience, and environmental factors, all of which may be susceptible to significant change. The Company establishes a specific allowance for all commercial loans in excess of the total related credit threshold of $100,000 and single borrower residential mortgage loans in excess of the total related credit threshold of $300,000 identified as being individually evaluated which are on nonaccrual and have been risk rated under the Company’s risk rating system as substandard, doubtful, or loss. In addition, an accruing substandard loan could be identified as being individually evaluated.

The measurement of individually evaluated loans is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses as compared to the loan carrying value. For all other loans and leases, the Company uses the general allocation methodology that establishes an allowance to estimate the lifetime incurred loss for each risk-rating category. The measurement of individually evaluated loans is generally based upon the present value of future cash flows discounted at the historical effective interest rate, except that all collateral-dependent loans are measured based on the fair value of the collateral, less costs to sell. At June 30, 2024, the Bank’s position in individually evaluated loans consisted of 58 loans totaling $19.3 million. Of these loans, 17 loans, totaling $3.1 million, were valued using the present value of future cash flows method; and 41 loans, totaling $16.2 million, were valued based on a collateral analysis. For all other loans, the Company uses the general allocation methodology that establishes an allowance to estimate the lifetime incurred loss for each risk-rating category.

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In estimating the ACL on loans, management considers the sensitivity of the model and significant judgments and assumptions that could result in an amount that is materially different from management’s estimate. At June 30, 2024, the Bank held $461.2 million in commercial real estate and commercial & industrial loans (collectively, commercial loans) representing 52.0% of the Bank’s entire loan portfolio. The Bank allocated $7.5 million to the ACL for these loans, including $3.6 million derived from the use of qualitative factors in the calculation. Given the concentration of ACL allocation to the total commercial loan portfolio and the significant judgments made by management in deriving the qualitative loss factors, management considers the impact that changes in judgments could have on the ACL. The ACL could increase (or decrease) by approximately $900,000, assuming a 25% negative (or positive) change within the group of qualitative factors used to determine the ACL for commercial loans. The sensitivity and related range of impacts for various judgments on the ACL is a hypothetical analysis and is used to determine management’s judgments or assumptions of qualitative loss factors that were utilized at June 30, 2024 in the final recorded estimation of the ACL on loans recognized on the Statements of Financial Condition.

Deferred income tax assets and liabilities are determined using the liability method. Under this method, the net deferred tax asset or liability is recognized for the future tax consequences. This is attributable to the differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases as well as net operating and capital loss carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income tax expense in the period that includes the enactment date. If current available evidence about the future raises doubt about the likelihood of a deferred tax asset being realized, a valuation allowance is established. The judgment about the level of future taxable income, including that which is considered capital, is inherently subjective and is reviewed on a continual basis as regulatory and business factors change.

The Company’s effective tax rate typically differs from the 21% federal statutory tax rate due primarily to New York State income taxes, partially offset by tax-exempt income from specific types of investment securities and loans, bank owned life insurance, and to a much lesser degree, the utilization of low income housing tax credits. In addition, the tax effects of certain incentive stock option activity may reduce the Company’s effective tax rate on a sporadic basis.

We maintain a noncontributory defined benefit pension plan covering most employees. The plan provides defined benefits based on years of service and final average salary. On May 14, 2012, we informed our employees of our decision to freeze participation and benefit accruals under the plan, primarily to reduce some of the volatility in earnings that can accompany the maintenance of a defined benefit plan. Pension and post-retirement benefit plan liabilities and expenses are based upon actuarial assumptions of future events; including fair value of plan assets, interest rates, and the length of time the Company will have to provide those benefits. The assumptions used by management are discussed in Note 14 to the consolidated annual financial statements.

When the fair value of a security categorized as available-for-sale ("AFS") or held-to-maturity ("HTM") is less than its amortized cost basis, an assessment is made as to whether or not credit loss is present. Management makes a quantitative determination of potential credit loss for all HTM securities even if the risk of credit loss is considered remote and uses a best estimate threshold for securities categorized as AFS. The Company considers numerous factors when determining whether a potential credit loss exists. The principal factors considered are (1) the financial condition of the issue and (guarantor, if any) and adverse conditions specifically related to the security, industry or geographic area, (2) failure of the issuer of the security to make scheduled interest or principal payments, (3) any changes to the rating of the security by a nationally recognized statistical rating organization (“NRSRO”), and (4) the presence of contractual credit enhancements, if any, including the guarantee of the federal government or any of its agencies.

The Company carries all of its AFS investments at fair value with any unrealized gains or losses reported, net of tax, as an adjustment to shareholders' equity and included in accumulated other comprehensive income (loss), except for the credit-related portion of debt securities’ credit losses securities which are charged to earnings. The Company's ability to fully realize the value of its investments in various securities, including corporate debt securities, is dependent on the underlying creditworthiness of the issuing organization. In evaluating the debt securities portfolio, for both AFS and HTM securities for credit losses, management considers (1) if we intend to sell the security; (2) if it is “more likely than not” we will be

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required to sell the security before recovery of its amortized cost basis; or (3) if the present value of expected cash flows is insufficient to recover the entire amortized cost basis.

The estimation of fair value is significant to several of our assets; including AFS and marketable equity investment securities, intangible assets, foreclosed real estate, and the value of loan collateral when valuing loans. These are all recorded at either fair value, or the lower of cost or fair value. Fair values are determined based on third party sources, when available. Furthermore, accounting principles generally accepted in the United States require disclosure of the fair value of financial instruments as a part of the notes to the annual audited consolidated financial statements. Fair values on our AFS securities may be influenced by a number of factors including market interest rates, prepayment speeds, discount rates, and the shape of yield curves.

Fair values for AFS securities are obtained from unaffiliated third party pricing services. Where available, fair values are based on quoted prices on a nationally recognized securities exchange. If quoted prices are not available, fair values are measured using quoted market prices for similar benchmark securities. Management made no adjustments to the fair value quotes that were provided by the pricing sources. Fair values for marketable equity securities are based on quoted prices on a nationally recognized securities exchange for similar benchmark securities. The fair values of foreclosed real estate and the underlying collateral value of individually evaluated loans are typically determined based on evaluations by third parties, less estimated costs to sell. When necessary, appraisals are updated to reflect changes in market conditions.

Management performs an annual evaluation of our goodwill for possible impairment at each of our reporting units. Based on the results of the December 31, 2023 evaluation, management has determined that the carrying value of goodwill was not impaired as of that date. Management will continuously evaluate all relevant economic and operational factors potentially affecting the Bank or the fair value of its assets, including goodwill. Should future economic consequences require a significant and sustained change in the operations of the Bank, re-evaluations of the Bank’s goodwill valuation will be conducted on a more frequent basis.

Recent Events

On July 19, 2024, the Bank completed the previously announced purchase and assumption of the East Syracuse, NY branch of Berkshire Bank, the banking subsidiary of Berkshire Hills Bancorp, Inc. In connection with the purchase, the Bank assumed approximately $186 million in deposit liabilities and acquired approximately $30 million in loans. With respect to the purchased loans, the Bank paid an amount equal to the sum of 95% of the aggregate unpaid principal balances, measured as of the closing date, plus any accrued interest related to the loans through the closing date. The Bank also paid a 5.8% premium on the aggregate amount of non-time deposits associated with the branch, measured as of the closing date (the “Core Deposits”), and assumed all non-Core Deposits associated with the branch, measured as of the closing date, at par value. The total deposit premium paid by the Bank therefore equates to approximately 3.8% when applied to the aggregated Core Deposits and non-Core Deposits. The average cost of deposits acquired in the East Syracuse branch acquisition was approximately 1.99% (excluding the effects of future Core Deposit Intangible amortization). The Company intends to utilize the additional liquidity obtained with this acquisition to pay down approximately $150 million of borrowings that had an average cost of approximately 5.33% at June 30, 2024, which is expected to benefit total funding costs beginning in the third quarter of 2024. Finally, the Bank assumed Berkshire Bank’s existing commercial lease for the real property associated with the branch with an annual lease payment of approximately $946,000, excluding property taxes and certain other associated property related obligations that the Bank also assumed, and purchased the personal property and fixtures located within the branch facility for approximately $264,000.

On July 1, 2024, the Company announced that its Board of Directors declared a cash dividend of $0.10 per share on the Company's voting common and non-voting common stock, and a cash dividend of $0.10 per notional share for the issued warrant relating to the fiscal quarter ended June 30, 2024. The dividends were payable to all shareholders of record on July 19, 2024 and were paid on August 9, 2024.

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Overview and Results of Operations

The following represents the significant highlights of the Company’s operating results between the second quarter of 2024 and the second quarter of 2023.

• Net income of $2.0 million in the current quarter increased by $18,000, or 0.9%, from the second quarter of 2023.
• Basic and diluted earnings per voting common share in the current quarter were both $0.32 per share, matching the amount from the second quarter of 2023.
• Net interest income of $9.5 million in the current quarter decreased by $252,000, or 2.6% from the second quarter of 2023.
• Noninterest income of $1.2 million in the current quarter increased by $124,000, or 11.4% from the second quarter of 2023 driven by increases in various fees associated with our loan and deposit accounts.
• Noninterest expense of $7.9 million in the current quarter increased by $734,000, or 10.2% from the second quarter of 2023 due primarily to increases in salaries and benefits and professional and other services.
• Total deposits were $1.10 billion at the end of the second quarter, substantially unchanged from June 30, 2023.
• Total loans were $888.3 million at the end of the second quarter, reflecting a $2.8 million decrease from June 30, 2023.

The following represents the significant highlights of the Company’s operating results between the first six months of 2024 and the first six months of 2023.

• Net income of $4.1 million in the first six months of 2024 decreased by $461,000, or 10.1%, from the first six months of 2023.
• Basic and diluted earnings per voting common share in the first six months of 2024 were both $0.66 per share, a decrease from $0.75 from the first six months of 2023.
• Net interest income of $18.9 million in the first six months of 2024 decreased by $820,000, or 4.2% from the first six months of 2023.
• Noninterest income of $2.9 million in the first six months of 2024 increased by $269,000, or 10.0% from the first six months of 2023 driven by increases in various fees associated with our loan and deposit accounts.
• Noninterest expense of $15.6 million in the first six months of 2024 increased by $916,000, or 6.2% from the first six months of 2023 due primarily to increases in salaries and benefits and professional and other services.

The following reflects the significant changes in financial condition between June 30, 2024 and December 31, 2023. In addition, the following reflects significant changes in asset quality metrics between June 30, 2024 and June 30, 2023.

• Total assets decreased $19.6 million, or 1.3% to $1.45 billion at June 30, 2024 as compared to December 31, 2023, primarily driven by lower cash and cash equivalents balances, held-to-maturity securities, and loans.
• Asset quality metrics, as measured by net loan charge-offs, decreased in the second quarter of 2024 in comparison to the fourth quarter of 2023. The annualized net loan charge-offs to average loans ratio was 0.02% at June 30, 2024, compared to 0.47% at December 31, 2023, and 0.06% at June 30, 2023.
• Nonperforming loans to total loans were 2.8% at June 30, 2024, compared to 1.9% at December 31, 2023 and 2.3% at June 30, 2023. Correspondingly, the ratio of the allowance for credit losses to nonperforming loans was 69.0% at June 30, 2024, as compared to 92.7% at December 31, 2023, and 92.4% at June 30, 2023.

The Company recorded net income of $2.0 million for the three months ended June 30, 2024, an $18,000 increase compared to the three months ended June 30, 2023. Increases in net income during the second quarter of 2024 included a $598,000 increase in net interest income after provision for credit losses, a $124,000 increase in noninterest income, and a $49,000 decrease in provision for income taxes. These increases were mostly offset by a $734,000 increase in noninterest expense.

Net interest income before the provision for credit losses decreased $252,000, or 2.6%, to $9.5 million for the three months ended June 30, 2024, as compared to the same three month period in 2023. An increase in interest expense of almost $2.7 million was partially offset by an increase in interest and dividend income of $2.4 million.

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The increase in interest and dividend income of $2.4 million for the second quarter of 2024 as compared to the same prior year quarter can be primarily attributed to average loan yield increases of 44 basis points, investment securities and federal funds sold average balance increases of $68.3 million, and investment securities and federal funds sold average yield increases of 75 basis points. The corresponding increase in loan interest income and investment securities and federal funds sold interest income was $698,000 and $1.7 million, respectively.

The increase in interest expense of $2.7 million for the second quarter of 2024, compared to the prior year quarter, was predominantly the result of a change in the Bank's deposit mix to higher cost deposits and a rise in average rates paid on interest-bearing liabilities, reflecting the competitive conditions in the current interest rate environment. As a result, the net interest margin for the second quarter of 2024 was 2.78%, compared to 2.75% in the first quarter of 2024, and 2.96% in the second quarter of 2023. The increase of three basis points compared to the first quarter was driven by asset yield improvements partially offset by deposit cost increases. The decline in net interest margin compared to the second quarter of 2023 can primarily be attributed to higher funding costs related to the current high interest rate environment and upward repricing within the deposit portfolio, partially offset by an increase in the average yield on interest-earning assets.

The Bank's noninterest income for the second quarter of 2024 amounted to $1.2 million, reflecting an increase of $124,000 compared to the same quarter of 2023. This increase can primarily be attributed to the factors influencing recurring noninterest income, which excludes volatile items such as unrealized gains or losses on equity securities, as well as nonrecurring gains on sales of loans, investment securities, foreclosed real estate, premises, and equipment.

Recurring noninterest income during the quarter ended June 30, 2024 increased $155,000, or 13.6%, as compared to the same quarter in 2023. This was primarily due to an increase of $79,000 in debit card interchange fees, as a result of increased gross interchange revenues related to higher levels of consumer activity. Other components of noninterest income that also increased during the quarter ended June 30, 2024 include a $45,000 increase in loan servicing fees, a $27,000 increase in service charges on deposit accounts, and a $24,000 increase in earnings and gain on bank owned life insurance. These modest increases were partially offset by an aggregate decrease of $20,000 in other noninterest income categories.

The $31,000 year-over-year decrease in all other (nonrecurring) categories of noninterest income was primarily the result of a $77,000 decrease in sales of loans and foreclosed real estate during the three months ended June 30, 2024 as compared to the same period in 2023. Partially offsetting this decrease were lower losses on marketable equity securities in the amount of $30,000, and a $16,000 increase in gains on sales and redemptions of investment securities.

Second quarter 2024 results reflect the Bank’s strategy to proactively seek out and capitalize on new opportunities to diversify and enhance recurring noninterest income’s contribution to total revenue. As the Bank moves forward with its growth strategy, noninterest income is anticipated to play an increasingly vital role in maintaining a well-balanced and resilient financial profile.

Total noninterest expense for the second quarter of 2024 was $7.9 million, an increase of $734,000, or 10.2%, compared to the same three month period in 2023.

Salaries and benefits increased $493,000, or 12.6% during the quarter ended June 30, 2024, as compared to the quarter ended June 30, 2023. Headcount increases drove approximately $285,000 of the increase and salary adjustments related to merit and wage inflation accounted for approximately $208,000 of the increase. These adjustments for merit and wage inflation are crucial in maintaining competitive remuneration packages to attract and retain talent in the dynamic banking sector.

Professional and other services increased $193,000 during the second quarter of 2024, as compared to the same quarter in 2023. This increase was primarily due to $116,000 of nonrecurring expenses associated with a review of technology enhancements meant to drive improvements in operational efficiencies. The remaining increase in professional and other services of $77,000 was spread across several smaller consulting engagements. All other remaining noninterest expense categories had an aggregate increase of $48,000, or 1.7%.

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Management extensively reviews recent trends in changes in the size and composition of the loan portfolio, historical loss experience, qualitative factors, and specific reserve requirements on loans individually evaluated, in its determination of the adequacy of the ACL. For the three months ended June 30, 2024, $290,000 was recorded in PCL, reflecting a decrease of $850,000 compared to the same period in 2023. The quarter ended June 30, 2023, provision for credit losses of $1.1 million was attributed to two large commercial real estate and commercial loan relationships experiencing credit deterioration. The quarter ended June 30, 2024 provision for credit losses included an increase in specific reserves of approximately $665,000, partially offset by improvement in certain qualitative and other factors that resulted in a net increase in the provision for loans of $304,000. The remaining components in provision for credit losses was a net reduction of $14,000.

The Bank continues to diligently monitor credit portfolios, particularly those considered sensitive to prevailing economic stressors, and apply conservative loan classification and reserve building methodologies.

In comparing the year-over-year second quarter periods, the Company’s return on average assets decreased only one basis point to 0.56% due to the combined effects of a modest gain in net income (the numerator in the ratio), outpaced slightly by a small increase in average assets (the denominator in the ratio). Average assets increased mostly due to an increase of $64.7 million in the average balances of taxable investment securities in the second quarter of 2024, as compared to the same quarter of 2023.

The Company recorded net income of $4.1 million for the six months ended June 30, 2024, a $461,000 decrease compared to the six months ended June 30, 2023. The decrease in net income was primarily due to a $916,000 increase in noninterest expense, partially offset by a $269,000 increase in noninterest income and a $186,000 decrease in provision for income taxes.

Net interest income before the provision for credit losses decreased $820,000, or 4.2%, to $18.9 million for the six months ended June 30, 2024, as compared to the same six month period in 2023. This decrease was due to a $6.8 million increase in total interest expense, partially offset by a $6.0 million increase in total interest and dividend income.

Noninterest income increased $269,000 in the six months ended June 30, 2024 to $2.9 million, compared to the same period in 2023. This increase was mostly due to the recognition of a $245,000 refund received from cumulative lessor related pass-through operating expense charges for a leased branch location during the first quarter of 2024. Excluding this one-time refund, total noninterest income had a modest aggregate gain of $24,000 in all other categories.

Noninterest expense in the six months ended June 30, 2024 was $15.6 million, an increase of $916,000, or 6.2%, when compared to the six months ended June 30, 2023. This increase was mostly due to a $639,000 increase in salaries and employee benefits, as well as a $219,000 increase in professional and other services.

For the first six months of 2024, the Bank recorded $1.0 million in provision for credit losses as compared to $1.8 million in the same prior year six month period. This decrease can also be primarily attributed to the aforementioned $1.1 million provision for credit losses in the second quarter of 2023.

Return on average assets decreased 8 basis points to 0.58% between the year-over-year six month periods, as there was a decrease in net income in the six month period ended June 30, 2024 (the numerator of the ratio) while the rate of average assets (the denominator of the ratio) grew during the period.

Average assets increased due to increases in average investment securities of $60.3 million in the six month period ended June 30, 2024 as compared to the same period of 2023. Average interest-bearing liabilities increased $42.9 million in the six months ended June 30, 2024, as compared with the same period in 2023 due to an increase in average deposits. The increase in average deposits for the six months ended June 30, 2024 was primarily due to increased time deposits, including brokered deposits, of $64.0 million. All other deposit accounts in aggregate decreased $21.1 million as compared with the same period in 2023.

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Net Interest Income

Net interest income is the Company's primary source of operating income for payment of operating expenses and providing for credit losses. It is the amount by which interest earned on loans, interest-earning deposits, and investment securities, exceeds the interest paid on deposits and other interest-bearing liabilities. Changes in net interest income and net interest margin result from the interaction between the volume and composition of interest-earning assets, interest-bearing liabilities, related yields, and associated funding costs.

The following tables set forth information concerning average interest-earning assets and interest-bearing liabilities and the average yields and rates thereon for the periods indicated. Interest income and resultant yield information in the tables have not been adjusted for tax equivalency. Averages are computed on the daily average balance for each month in the period divided by the number of days in the period. Nonaccrual loans have been included in interest-earning assets for purposes of these calculations.

(Unaudited)

Unaudited

(In thousands)

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Unaudited

(In thousands)

Net interest income before the provision for credit losses decreased $252,000, or 2.6%, to $9.5 million for the three months ended June 30, 2024, as compared to the same three month period in 2023. An increase in interest expense of almost $2.7 million was partially offset by an increase in interest and dividend income of $2.4 million.

The increase in interest and dividend income of $2.4 million for the second quarter of 2024 as compared to the same prior year quarter can be primarily attributed to average loan yield increases of 44 basis points, investment securities and federal funds sold average balance increases of $68.3 million, and investment securities and federal funds sold average yield increases of 75 basis points. The corresponding increase in loan interest income and investment securities and federal funds sold interest income was $698,000 and $1.7 million, respectively.

The increase in interest expense of $2.7 million for the second quarter of 2024, compared to the prior year quarter, was predominantly the result of a change in the Bank's deposit mix to higher cost deposits and a rise in average rates paid on interest-bearing liabilities, reflecting the competitive conditions in the current interest rate environment. As a result, the net interest margin for the second quarter of 2024 was 2.78%, compared to 2.75% in the first quarter of 2024, and 2.96% in the second quarter of 2023. The increase of three basis points compared to the first quarter was driven by asset yield improvements partially offset by deposit cost increases. The decline in net interest margin compared to the second quarter of 2023 can primarily be attributed to higher funding costs related to the current high interest rate environment and upward repricing within the deposit portfolio, partially offset by an increase in the average yield on interest-earning assets.

Net interest income before the provision for credit losses decreased $820,000, or 4.2%, to $18.9 million for the six months ended June 30, 2024, as compared to the same six month period in 2023. This decrease was due to a $6.8 million increase in total interest expense, partially offset by a $6.0 million increase in total interest and dividend income.

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Interest expense increased $6.8 million for the six months ended June 30, 2024 as compared to the prior year period. The average interest rate paid on interest-bearing liabilities increased by 112 basis points for the six months ended June 30, 2024 as compared to the prior year period, and average interest-bearing liabilities increased by $42.9 million, or 4%. Average loans for the first six months of 2024 decreased by $13.3 million, or 1.5%, over the prior year period, while the average interest yield earned on average loans increased by 59 basis points, resulting in an increase of $2.3 million in interest income on loans for the six months ended June 30, 2024 as compared to the prior year period. Income from investment securities increased $3.6 million to $12.7 million for the six months ended June 30, 2024, as compared to the same prior year period.

Rate/Volume Analysis

Net interest income can also be analyzed in terms of the impact of changing interest rates on interest-earning assets and interest-bearing liabilities and changes in the volume or amount of these assets and liabilities. The following table represents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected the Company’s interest income and interest expense during the periods indicated. Information is provided in each category with respect to: (i) changes attributable to changes in volume (change in volume multiplied by prior rate); (ii) changes attributable to changes in rate (changes in rate multiplied by prior volume); and (iii) total increase or decrease. Changes attributable to both rate and volume have been allocated ratably. Tax-exempt securities have not been adjusted for tax equivalency.

Unaudited

(In thousands)

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Deposits

The Company’s deposit base is drawn from eleven full-service offices in its market area. The deposit base consists of demand deposits, money management and money market deposit accounts, savings, and time deposits. Total deposits decreased by $18.8 million, or 1.7% from December 31, 2023. The decrease in deposits during the six months ended June 30, 2024 was primarily due to seasonal fluctuations of municipal depositors. At June 30, 2024, 55.9% of the Company's deposit base of $1.10 billion consisted of core deposits. Core deposits, which exclude time deposits, are considered to be more stable and generally provide the Company with a lower cost of funds than time deposits. The Company will continue to emphasize retail and business core deposits in the future by providing depositors with a full range of deposit product offerings and will maintain its recent focus on deposit gathering within the Syracuse market.

A summary of deposits by category at June 30, 2024 and December 31, 2023 is as follows:

(In thousands)

In addition to deposits obtained from its business operations within its target market areas, the Bank also obtains brokered deposits through various programs administered by IntraFi Network and through other unaffiliated third-party financial institutions.

The following table sets forth our nonbrokered and brokered deposit activities at the dates indicated:

(In thousands)

Provision for Credit Losses

We establish a provision for credit losses, which is charged to operations, at a level management believes is appropriate to absorb lifetime credit losses in the loan portfolio. In evaluating the level of the allowance for credit losses, management considers historical loss experience, the types of loans and the amount of loans in the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available or as future events change. The provision for credit losses represents management’s estimate of the amount necessary to maintain the allowance for credit losses at an adequate level.

The Company recorded $290,000 in provision for credit losses for the three month period ended June 30, 2024, as compared to $1.1 million for the three month period ended June 30, 2023. The provisioning in the second quarter of 2024 and 2023

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reflects management’s determination of the appropriate level of additions to reserves, the composition of the loan portfolio, changes in quantifiable econometric data statistically correlated to historical charge-off rates, subjective qualitative assessments of changes in a broad array of factors including changes to underwriting criteria, loan staffing and local market conditions. This represents a $850,000 decrease in provision for credit losses in the second quarter of 2024, as compared to the same period in 2023. This decrease can be primarily attributed to the significant $1.1 million provision for credit losses in the second quarter of 2023, which related to two large commercial real estate and commercial loan relationships experiencing credit deterioration, which necessitated a higher provision to recognize the effects of increased risk within these relationships. The quarter ended June 30, 2024 provision for credit losses included an increase in specific reserves of approximately $665,000, partially offset by improvement in certain qualitative and other factors that resulted in a net increase in the provision for loans of $304,000. The remaining components in provision for credit losses was a net reduction of $14,000. The Bank's credit sensitive portfolios continue to be carefully monitored, and the Bank will consistently apply its loan classification and reserve building methodologies to the analysis of these portfolios. Please refer to the asset quality section below for a further discussion of asset quality as it relates to the allowance for credit losses.

There was a decrease in the provision for credit losses in the first six months of 2024 to $1.0 million, a decrease of $0.8 million from the same six months in 2023, which was $1.8 million. This decrease can also be primarily attributed to the aforementioned $1.1 million provision for credit losses in the second quarter of 2023.

The Company measures delinquency based on the amount of past due loans (defined as loans equal to or greater than 30 days past due) as a percentage of total loans. The ratio of delinquent loans to total loans was 4.8%, 5.5% and 3.8% at June 30, 2024, March 31, 2024 and December 31, 2023, respectively. Delinquent loans (numerator) increased $15.3 million from December 31, 2023 to March 31, 2024, but subsequently decreased by $7.1 million at June 30, 2024. Total loan balances (denominator) decreased $5.7 million and $3.4 million at March 31, 2024 and June 30 2024, respectively. The increase from December 31, 2023 to March 31, 2024 was driven by loans delinquent 30-59 days, which increased by $13.8 million. The decrease from March 31, 2024 to June 30, 2024 was attributed to a decrease of $15.7 million in loans delinquent 30-59 days partially offset by increases in both the 60-89 days and 90 days and over of $3.8 million and $4.8 million, respectively.

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Noninterest Income

The Company's noninterest income is primarily comprised of fees on deposit account balances and transactions, loan servicing, commissions, including insurance agency commissions, and net gains on sales of securities, loans, and foreclosed real estate.

The following table sets forth certain information on noninterest income for the periods indicated:

Unaudited

(In thousands)

Noninterest income for the second quarter of 2024 amounted to $1.2 million, reflecting an increase of $124,000 compared to the same quarter of 2023. This increase can primarily be attributed to the factors influencing recurring noninterest income, which excludes volatile items such as unrealized gains or losses on equity securities, as well as nonrecurring gains on sales of loans, investment securities, foreclosed real estate, premises, and equipment.

Recurring noninterest income during the quarter ended June 30, 2024 increased $155,000, or 13.6%, as compared to the same quarter in 2023. This was primarily due to an increase of $79,000 in debit card interchange fees, as a result of increased gross interchange revenues related to higher levels of consumer activity. Other components of noninterest income that also increased during the quarter ended June 30, 2024 include a $45,000 increase in loan servicing fees, a $27,000 increase in service charges on deposit accounts, and a $24,000 increase in earnings and gain on bank owned life insurance. These modest increases were partially offset by an aggregate decrease of $20,000 in other noninterest income categories.

The $31,000 year-over-year decrease in all other (nonrecurring) categories of noninterest income was primarily the result of a $77,000 decrease in sales of loans and foreclosed real estate during the three months ended June 30, 2024 as compared to the same period in 2023. Partially offsetting this decrease were lower losses on marketable equity securities in the amount of $30,000, and a $16,000 increase in gains on sales and redemptions of investment securities.

Second quarter results reflect the Bank’s strategy to proactively seek out and capitalize on new opportunities to diversify and enhance recurring noninterest income’s contribution to total revenue. As the Bank moves forward with its growth strategy, noninterest income is anticipated to play an increasingly vital role in maintaining a well-balanced and resilient financial profile.

Noninterest income increased $269,000 in the six months ended June 30, 2024 to $2.9 million, compared to the same period in 2023. This increase was mostly due to the recognition of a $245,000 refund received from cumulative lessor related pass-through operating expense charges for a leased branch location during the first quarter of 2024. Excluding this one-time refund, total noninterest income had a modest aggregate gain of $24,000 in all other categories.

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Noninterest Expense

The following table sets forth certain information on noninterest expense for the periods indicated:

Unaudited

(In thousands)

For the second quarter of 2024, the Bank reported noninterest expenses of $7.9 million. This represents an increase of approximately $734,000, or 10.2%, compared to the same period in 2023.

Salaries and benefits increased $493,000, or 12.6% during the quarter ended June 30, 2024, as compared to the quarter ended June 30, 2023. Headcount increases drove approximately $285,000 of the increase and salary adjustments related to merit and wage inflation accounted for approximately $208,000 of the increase. These adjustments for merit and wage inflation are crucial in maintaining competitive remuneration packages to attract and retain talent in the dynamic banking sector.

Professional and other services increased $193,000 during the second quarter of 2024, as compared to the same quarter in 2023. This increase was primarily due to $116,000 of nonrecurring expenses associated with a review of technology enhancements meant to drive improvements in operational efficiencies. The remaining increase in professional and other services of $77,000 was spread across several smaller consulting engagements. All other remaining noninterest expense categories had an aggregate increase of $48,000, or 1.7%.

Noninterest expense in the six months ended June 30, 2024 was $15.6 million, an increase of $916,000, or 6.2%, when compared to the six months ended June 30, 2023. This increase was mostly due to a $639,000 increase in salaries and employee benefits, as well as a $219,000 increase in professional and other services. All other remaining noninterest expense categories had an aggregate increase of $58,000, or 0.4%.

The increase in salaries and benefits of $639,000 in the six months ended June 30, 2024 was driven by the aforementioned increases in headcount and wage inflation, and reflect the Bank's strategic efforts to enhance its competitive edge in the market and address the demands of an inflationary environment with respect to attracting and retaining employees.

The increase in professional services in the six months ended June 30, 2024 was driven by the aforementioned $116,000 of nonrecurring expenses associated with a review of technology enhancements meant to drive improvements in operational efficiencies. The remaining increase in professional and other services of $103,000 was spread across several smaller consulting engagements.

Income Tax Expense

Income tax expense decreased $49,000 to $481,000, with an effective tax rate of 19.3%, for the quarter ended June 30, 2024, as compared to $530,000 with an effective tax rate of 21.2% for the same three month period in 2023. The decrease in income tax expense for the quarter ended June 30, 2024, as compared to the same quarter in 2023, was primarily driven by an increase in fluctuations in permanent tax differences The effective income tax rate decreased 1.9% to 19.3% for the three months ended June 30, 2024 as compared to 21.2% for the same three month period in 2023. The decrease in the tax

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rate in the second quarter of 2024, as compared to the same quarter in 2023, was primarily related to fluctuations in permanent tax differences.

Income tax expense decreased $186,000 to $1.0 million, with an effective tax rate of 19.5%, for the six months ended June 30, 2024, as compared to $1.2 million with an effective tax rate of 20.5%, for the same six month period in 2023. The decrease in income tax expense for the six months ended June 30, 2024, as compared to the same six month period in 2023, was primarily driven by the year-over-year decrease in income before taxes coupled with increases in permanent tax differences. The effective income tax rate decreased 1.0% to 19.5% for the six months ended June 30, 2024 as compared to 20.5% for the same six month period in 2023. The decrease in the tax rate in the six months ended June 30, 2024, as compared to the same period in 2023, was primarily related to fluctuations in permanent tax differences.

The Company’s tax liability is a function of the 21% statutory federal tax rate, the level of pretax income, the varying effects of New York State income taxes, and is partially reduced by tax-exempt income from specific types of investment securities and loans, bank owned life insurance, and, to a much lesser degree, the utilization of historic and low income housing tax credits. In addition, the tax effects of certain incentive stock option activity may reduce the Company’s effective tax rate on a sporadic basis.

Earnings per Share

Basic and diluted earnings per Voting and Series A Non-Voting share were $0.32 per share for the second quarter of 2024, as compared to $0.32 for the same prior year period. The earnings per share between these two periods was the same due to the consistent net income between these two time periods.

Basic and diluted earnings per Voting and Series A Non-Voting share were $0.66 for the six month period ended June 30, 2024, as compared to $0.75 for the same prior year period. The decrease in earnings per share between these two periods was due to the decrease in net income between these two time periods. Further information on earnings per share can be found in Note 3 of the unaudited consolidated financial statements of this Form 10-Q.

Changes in Financial Condition

Assets

Total assets decreased $19.6 million, or 1.34%, to $1.45 billion at June 30, 2024 as compared to December 31, 2023. This decrease was due primarily to decreases in cash and cash equivalents and total loans, partially offset by an increase in investment securities.

Total cash and cash equivalents totaled $31.8 million at June 30, 2024, a decrease of $16.9 million, or 34.7%, compared to $48.7 million at December 31, 2023. This decline was due to a decrease of $16.6 million in interest-earning deposits, slightly offset by an increase in cash and due from banks of $316,000. Loans totaled $888.3 million at June 30, 2024, a decrease of $8.9 million, or 1.0%, compared to $897.2 million at December 31, 2023. This decrease was primarily due to decreases of $8.5 million in total residential mortgage loans and $3.6 million in total consumer loans, partially offset by an increase of $3.1 million in commercial loans.

Total decreases in assets were partially offset by an increase in investment securities, including investment in FHLB-NY stock, of $3.8 million, or 0.8%, to $453.7 million at June 30, 2024, as compared to December 31, 2023. This increase was due to increases of $16.3 million in available-for-sale securities and $587,000 in marketable equity securities, partially offset by decreases of $13.0 million in held-to-maturity securities and $46,000 in FHLB-NY stock.

Liabilities

Total liabilities decreased $23.5 million, or 1.7%, to $1.32 billion at June 30, 2024 as compared to $1.35 billion at December 31, 2023. This decrease was due primarily to decreases in total deposits and long-term borrowings.

Total deposits decreased $18.8 million, or 1.7%, from $1.12 billion at December 31, 2023 to $1.10 billion at June 30, 2024. This decrease was due to a $17.8 million decrease in interest-bearing deposits, as well as a $1.0 million decrease in

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noninterest-bearing deposits. Long-term borrowed funds from FHLB-NY decreased $4.0 million, or 8.1%, to $45.9 million at June 30, 2024, as compared to $49.9 million at December 31, 2023.

The total decrease in liabilities was partially offset by a $1.9 million, or 1.5% increase in short-term borrowings from FHLB-NY, from $125.7 million at December 31, 2023 to $127.6 million at June 30, 2024.

Shareholders’ Equity

Shareholders' equity increased by $3.8 million, or 3.2%, from $119.5 million at December 31, 2023, to $123.3 million at June 30, 2024. This increase was primarily due to the Company’s recorded net income of $4.1 million, and a decrease in accumulated other comprehensive loss of $819,000, partially reduced by declared dividends to shareholders of $1.2 million.

Capital

Capital adequacy is evaluated primarily by the use of ratios which measure capital against total assets, as well as against total assets that are weighted based on defined risk characteristics. The Company’s goal is to maintain a strong capital position, consistent with the risk profile of its banking operations. This strong capital position serves to support growth and expansion activities while at the same time exceeding regulatory standards. At June 30, 2024, the Bank met the regulatory definition of a “well-capitalized” institution, i.e. a leverage capital ratio exceeding 5%, a Tier 1 risk-based capital ratio exceeding 8%, Tier 1 common equity exceeding 6.5%, and a total risk-based capital ratio exceeding 10%.

In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements. The buffer is separate from the capital ratios required under the Prompt Corrective Actions (“PCA”) standards. In order to avoid these restrictions, the capital conservation buffer effectively increases the minimum levels of the following capital to risk-weighted assets ratios: (1) Core Capital, (2) Total Capital and (3) Common Equity. At June 30, 2024, the Bank exceeded all regulatory required minimum capital ratios, including the capital buffer requirements.

Pathfinder Bank’s capital amounts and ratios as of the indicated dates are presented in the following table:

(In thousands)

Non-GAAP Financial Measures

Regulation G, a rule adopted by the Securities and Exchange Commission (SEC), applies to certain SEC filings, including earnings releases, made by registered companies that contain “non-GAAP financial measures.” GAAP is generally accepted accounting principles in the United States of America. Under Regulation G, companies making public disclosures containing non-GAAP financial measures must also disclose, along with each non-GAAP financial measure, certain additional information, including a reconciliation of the non-GAAP financial measure to the closest comparable GAAP financial measure (if a comparable GAAP measure exists) and a statement of the Company’s reasons for utilizing the non-GAAP financial measure as part of its financial disclosures. The SEC has exempted from the definition of “non-GAAP financial measures” certain commonly used financial measures that are not based on GAAP. When these exempted

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measures are included in public disclosures, supplemental information is not required. Financial institutions like the Company and its subsidiary bank are subject to an array of bank regulatory capital measures that are financial in nature but are not based on GAAP. The Company follows industry practice in disclosing its financial condition under these various regulatory capital measures, including period-end regulatory capital ratios for its subsidiary bank, in its periodic reports filed with the SEC. The Company provides, below, an explanation of the calculations, as supplemental information, for non-GAAP measures included in the consolidated annual financial statements. In addition, the Company provides a reconciliation of its subsidiary bank’s disclosed regulatory capital measures, below.

(In thousands)

Loan and Asset Quality and Allowance for Credit Losses

The following table represents information concerning the aggregate amount of non-accrual loans at the indicated dates:

(In thousands)

Nonperforming assets include nonaccrual loans, and foreclosed real estate (‘‘FRE”).

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As indicated in the table above, nonperforming assets at June 30, 2024 were $24.6 million, and were $7.2 million higher than the $17.4 million reported at December 31, 2023 and $4.0 million higher than the $20.6 million reported at June 30, 2023. The increase in the nonperforming loans on June 30, 2024, as compared to December 31, 2023, was driven by the downgrade of one commercial real estate loan with a balance of $1.4 million, deterioration of several commercial loan relationships totaling $4.8 million, and $1.1 million in consumer relationships.

Fair values for commercial FRE are initially recorded based on market value evaluations by third parties, less costs to sell (“initial cost basis”). On a prospective basis, residential FRE assets will be initially recorded at the lower of the net amount of loan receivable or the real estate’s fair value less costs to sell. Any write-downs required when the related loan receivable is exchanged for the underlying real estate collateral at the time of transfer to FRE are charged to the allowance for credit losses. Values are derived from appraisals of underlying collateral or discounted cash flow analysis. Subsequent to foreclosure, valuations are updated periodically and assets are marked to current fair value, not to exceed the initial cost basis for the FRE property.

The allowance for credit losses on loans represents management’s estimate of the lifetime losses inherent in the loan portfolio as of the date of the statement of condition. The allowance for credit losses was $16.9 million and $16.0 million at June 30, 2024 and December 31, 2023, respectively. The ratio of the allowance for credit losses to total loans was 1.89% as of June 30, 2024, as compared to 1.78% at December 31, 2023 and 2.07% at June 30, 2023. Management performs a quarterly evaluation of the allowance for credit losses based on quantitative and qualitative factors and has determined that the current level of the allowance for credit losses is adequate to absorb the losses in the loan portfolio as of June 30, 2024.

Loans purchased outside of the Bank’s general market area are subject to substantial pre-purchase due diligence. Homogenous pools of purchased loans are subject to pre-purchase analyses led by a team of the Bank’s senior executives and credit analysts. In each case, the Bank’s analytical processes consider the types of loans being evaluated, the underwriting criteria employed by the originating entity, the historical performance of such loans, especially in the most recent deeply recessionary period, the offered collateral enhancements and other credit loss mitigation factors offered by the seller and the capabilities and financial stability of the servicing entities involved. From a credit risk perspective, these loan pools also benefit from broad diversification, including wide geographic dispersion, the readily-verifiable historical performance of similar loans issued by the originators, as well as the overall experience and skill of the underwriters and servicing entities involved as counterparties to the Bank in these transactions. The performance of all purchased loan pools are monitored regularly from detailed reports and remittance reconciliations provided at least monthly by the external servicing entities.

The projected credit losses related to purchased loan pools are evaluated prior to purchase and the performance of those loans against expectations are analyzed at least monthly. Over the life of the purchased loan pools, the allowance for credit losses is adjusted, through the provision for credit losses, for expected loss experience, over the projected life of the loans. The expected credit loss experience is determined at the time of purchase and is modified, to the extent necessary, during the life of the purchased loan pools. The Bank does not initially increase the allowance for credit losses on the purchase date of the loan pools.

At June 30, 2024 and December 31, 2023, the Company had $19.4 million and $22.6 million in loans, respectively, which were individually analyzed, having established specific reserves of $4.4 million and $3.7 million, respectively, on these loans. The $1.2 million decrease in specifically identified loans between these two dates was the result of a single relationship charge-off.

Appraisals are obtained at the time a real estate secured loan is originated. For commercial real estate held as collateral, the property is inspected every two years.

Management has identified certain loans with potential credit profiles that may result in the borrowers not being able to comply with the current loan repayment terms and which may result in possible future identified loan reporting. Potential problem loans totaled $40.6 million at June 30, 2024, an increase of $2.5 million, as compared to $43.1 million at December 31, 2023. These loans have been internally classified as special mention, substandard, or doubtful, yet are not currently considered specifically-identified.

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In the normal course of business, the Bank has, from time to time, sold residential mortgage loans and participation interests in commercial loans. As is typical in the industry, the Bank makes certain representations and warranties to the buyer. Pathfinder Bank maintains a quality control program for closed loans and considers the risks and uncertainties associated with potential repurchase requirements to be minimal.

The future performance of the Company’s loan portfolios with respect to credit losses will be highly dependent upon the course and duration, both nationally and within the Company’s market area, of the concentrations in the Company’s loan portfolio. Concentrations of loans within a portfolio that are made to a single borrower, to a related group of borrowers, or to a limited number of industries, are generally considered to be additional risk factors in estimating future credit losses. Therefore, the Company monitors all of its credit relationships to ensure that the total loan amounts extended to one borrower, or to a related group of borrowers, does not exceed the maximum permissible levels defined by applicable regulation or the Company’s generally more restrictive internal policy limits.

Liquidity

Liquidity management involves the Company’s ability to generate cash or otherwise obtain funds at reasonable rates to support asset growth, meet deposit withdrawals, maintain reserve requirements, and otherwise operate the Company on an ongoing basis. The Company's primary sources of funds are deposits, borrowed funds, amortization and prepayment of loans and maturities of investment securities and other short-term investments, and earnings and funds provided from operations. While scheduled principal repayments on loans are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. The Company manages the pricing of deposits to maintain a desired deposit composition and balance. In addition, the Company invests excess funds in short-term interest-earning and other assets, which provide liquidity to meet lending requirements.

The Company's liquidity has been enhanced by its ability to borrow from the Federal Home Loan Bank of New York (“FHLBNY”), whose competitive advance programs and lines of credit provide the Company with a safe, reliable, and convenient source of funds. A significant decrease in deposits in the future could result in the Company having to seek other sources of funds for liquidity purposes. Such sources could include, but are not limited to, additional borrowings, brokered deposits, negotiated time deposits, the sale of "available-for-sale" investment securities, the sale of securitized loans, or the sale of whole loans. Such actions could result in higher interest expense and/or losses on the sale of securities or loans.

Through the first six months of 2024, as indicated in the consolidated statement of cash flows, the Company reported net cash flow from operating activities of $2.0 million and net cash inflows of $3.1 million related to investing activities. The net cash inflows from investing activities was generated principally by an increase of $9.0 million in net loan activity, offset by a $4.9 million decrease in net investment activity, and a $1.1 million decrease in premises and equipment. The Company reported net cash outflows from financing activities of $22.1 million, primarily due to a $18.8 million decrease in net deposit balances, a $2.2 million decrease in borrowings, and an aggregate decrease of $1.1 million in net cash from all other financing sources, including dividends paid to common voting and non-voting shareholders and warrants of $1.2 million.

The Bank’s management monitors liquidity on a continuous basis through a broad range of internal programs and considers effective liquidity management to be one of its primary objectives. At June 30, 2024 the Bank had deposits of $1.10 billion, of which a portion were nominally uninsured, as they were above the insurance limits established by the Federal Deposit Insurance Corporation (“FDIC”) on that date. Of the nominally uninsured deposits at June 30, 2024, $56.7 million were insured through a long-standing reciprocal deposit program managed by a third-party entity. In addition, $100.1 million in municipal deposits are fully protected against principal loss by a collateral program whereby the Bank places high-quality securities with an independent custodian as collateral. The Bank had $139.4 million in deposits, representing 12.7% of all deposits, that were considered to be uninsured at June 30, 2024.

The Company has a number of existing credit facilities available to it. At June 30, 2024, total credit available under the existing lines of credit was approximately $242.8 million at FHLBNY, the Federal Reserve Bank, and two other correspondent banks. At June 30, 2024, the Company had $173.4 million of the available lines of credit utilized on its existing lines of credit with the remainder of $69.4 million available.

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The Asset Liability Management Committee of the Company is responsible for implementing the policies and guidelines for the maintenance of prudent levels of liquidity. As of June 30, 2024, management reported to the Board of Directors that the Company is in compliance with its liquidity policy guidelines.

Off-Balance Sheet Arrangements

The Company is also a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. At June 30, 2024, the Company had $238.1 million in outstanding commitments to extend credit and standby letters of credit.

The Company's exposure to credit loss in the event of nonperformance related to off-balance sheet arrangements is proportional to the contractual amount of those instruments. Such financial instruments are recorded when they are funded. The Company records an allowance for credit losses on off-balance sheet credit exposures, unless such commitments are unconditionally cancelable, through the provision for credit losses expense. The allowance for credit losses on off-balance sheet credit exposures as of June 30, 2024 was $660,000 and is included in other liabilities on the Company's consolidated Statements of Condition.

Under the supervision and with the participation of our Chief Executive Officer (“CEO”) and our Chief Financial Officer (“CFO”) (the Company’s principal executive officer and principal financial officer), management conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) as of June 30, 2024. The term “disclosure controls and procedures,” under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to our management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Based on the evaluation of our disclosure controls and procedures as of June 30, 2024, our CEO and CFO concluded that our disclosure controls and procedures were effective as of that date.

We did not make any changes in internal control over financial reporting during the quarter ended June 30, 2024 that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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