ServisFirst Bancshares, Inc.: Form 10-Q for the period ended Jun 30, 2024

The following discussion and analysis is designed to provide a better understanding of various factors relating to the results of operations and financial condition of ServisFirst Bancshares, Inc. (the “Company”) and its wholly-owned subsidiary, ServisFirst Bank. This discussion is intended to supplement and highlight information contained in the accompanying unaudited consolidated financial statements as of and for the three and six months ended June 30, 2024 and June 30, 2023.

Forward-Looking Statements

Statements in this document that are not historical facts, including, but not limited to, statements concerning future operations, results or performance, are hereby identified as “forward-looking statements” for the purpose of the safe harbor provided by Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and Section 27A of the Securities Act of 1933, as amended (the “Securities Act”). The words “believe,” “expect,” “anticipate,” “project,” “plan,” “intend,” “will,” “could,” “would,” “might” and similar expressions often signify forward-looking statements. Such statements involve inherent risks and uncertainties. The Company cautions that such forward-looking statements, wherever they occur in this Quarterly Report on Form 10-Q or in other statements attributable to the Company, are necessarily estimates reflecting the judgment of the Company’s senior management and involve a number of risks and uncertainties that could cause actual results to differ materially from those suggested by the forward-looking statements. Such forward-looking statements should, therefore, be considered in light of various factors that could affect the accuracy of such forward-looking statements, including, but not limited to: general economic conditions, especially in the credit markets and in the Southeast; the performance of the capital markets; changes in interest rates, yield curves and interest rate spread relationships; changes in accounting and tax principles, policies or guidelines; changes in legislation or regulatory requirements; changes as a result of our reclassification as a large financial institution by the FDIC; changes in our loan portfolio and the deposit base; credit issues associated with the efficacy of return to office policies; possible changes in laws and regulations and governmental monetary and fiscal policies, including, but not limited to, Federal Reserve policies in connection with continued inflationary pressures and the ability of the U.S. Congress to increase the U.S. statutory debt limit as needed; computer hacking or cyber-attacks resulting in unauthorized access to confidential or proprietary information; substantial, unexpected or prolonged changes in the level or cost of liquidity; the cost and other effects of legal and administrative cases and similar contingencies; possible changes in the creditworthiness of customers and the possible impairment of the collectability of loans and the value of collateral; the effect of natural disasters, such as hurricanes and tornados, in our geographic markets; and increased competition from both banks and non-bank financial institutions. For discussion of these and other risks that may cause actual results to differ from expectations, please refer to “Cautionary Note Regarding Forward Looking Statements” and “Risk Factors” in our most recent Annual Report on Form 10-K, our subsequent Quarterly Reports on Form 10-Q and our other SEC filings. If one or more of the factors affecting our forward-looking information and statements proves incorrect, then our actual results, performance or achievements could differ materially from those expressed in, or implied by, forward-looking information and statements contained herein. Accordingly, you should not place undue reliance on any forward-looking statements, which speak only as of the date made. The Company assumes no obligation to update or revise any forward-looking statements that are made from time to time.

Business

We are a bank holding company under the Bank Holding Company Act of 1956 and are headquartered in Birmingham, Alabama. Our wholly-owned subsidiary, ServisFirst Bank, an Alabama banking corporation, provides business and personal financial services through full-service banking offices located in Alabama, Florida, Georgia, North and South Carolina, Tennessee, and Virginia. We also operate loan production offices in Florida and Tennessee. Through the Bank, we originate commercial, consumer and other loans and accept deposits, provide electronic banking services, such as online and mobile banking, including remote deposit capture, deliver treasury and cash management services and provide correspondent banking services to other financial institutions.

Our principal business is to accept deposits from the public and to make loans and other investments. Our principal sources of funds for loans and investments are demand, time, savings, and other deposits. Our principal sources of income are interest and fees collected on loans, interest and dividends collected on other investments and service charges. Our principal expenses are interest paid on savings and other deposits, interest paid on our other borrowings, employee compensation, office expenses and other overhead expenses.

Second quarter highlights

• Diluted earnings per common share of $ 0.95 for the second quarter of 2024, a decrease of 3.1%, from the second quarter 2023.
• Average loans of $12.06 billion for the second quarter of 2024, an increase of $463.7 million, or 4.0%, from the second quarter 2023.
• Average deposits of $12.86 billion for the second quarter of 2024, an increase of $1.28 billion, or 11.0%, from the second quarter 2023.
• Net interest income of $105.9 million for the second quarter of 2024, an increase of $4.6 million, or 4.5%, from the second quarter 2023.
• Net interest margin of 2.79% for second quarter of 2024, decreased 14 bps from 2.93% in the second quarter 2023.

Overview

As of June 30, 2024, we had consolidated total assets of $16.05 billion, a decrease of $79.9 million, or .5%, from $16.13 billion at December 31, 2023. Total loans were $12.33 billion, an increase of $674.0 million, or 5.8%, from $11.66 billion at December 31, 2023. Total deposits were $13.26 billion, a decrease of $14.1 million, or .1%, from $13.27 billion at December 31, 2023.

Net income and net income available to common stockholders of $52.1 million for the quarter ended June 30, 2024, compared to net income of $53.5 million and net income available to common stockholders of $53.4 million for the second quarter of 2023. Basic and diluted earnings per common share were $0.96 and $0.95, respectively, for the three months ended June 30, 2024, compared to $0.98 for both in the corresponding period in 2023.

Net income of $102.2 million and net income available to common stockholders of $102.1 million for the six months ended June 30, 2024, compared to net income and net income available to common stockholders of $111.4 million for the six months ended June 30, 2023. Basic and diluted earnings per common share were both $1.87 for the six months ended June 30, 2024, compared to $2.05 and $2.04, respectively, for the corresponding period in 2023. Changes in income and expenses are more fully explained in “Results of Operations” below

Performance Ratios

The following table presents selected ratios of our results of operations for the three and six months ended June 30, 2024, and 2023.

Financial Condition

Cash and Cash Equivalents

At June 30, 2024, we had $11.1 million in federal funds sold, compared to $100.6 million at December 31, 2023. We also maintain balances at the Federal Reserve Bank of Atlanta, which earn interest. At June 30, 2024, we had $1.12 billion in balances at the Federal Reserve, compared to $1.89 billion at December 31, 2023.

Investment Securities

Debt securities available-for-sale totaled $1.17 billion at June 30, 2024 and $900.2 million at December 31, 2023. Investment securities held to maturity totaled $767.3 million at June 30, 2024 and $982.7 million at December 31, 2023. We had paydowns of $47.7 million on mortgage-backed securities and government agencies, maturities of $592.1 million on municipal bonds, corporate securities and treasury securities, and calls of $2.0 million on corporate securities during the six months ended June 30, 2024. We purchased $95.3 million in mortgage-backed securities, and $591.5 million in U.S. Treasury securities during the six months ended June 30, 2024. For a tabular presentation of debt securities available for sale and held to maturity at June 30, 2024 and December 31, 2023, see “Note 4 – Securities” in our Notes to Consolidated Financial Statements.

The objective of our investment policy is to invest funds not otherwise needed to meet our loan demand to earn the maximum return, yet still maintain sufficient liquidity to meet fluctuations in our loan demand and deposit structure. In doing so, we balance the market and credit risks against the potential investment return, make investments compatible with the pledge requirements of any deposits of public funds, maintain compliance with regulatory investment requirements, and assist certain public entities with their financial needs. The investment committee has full authority over the investment portfolio and makes decisions on purchases and sales of securities. The entire portfolio, along with all investment transactions occurring since the previous board of directors meeting, is reviewed by the board at each monthly meeting. The investment policy allows portfolio holdings to include short-term securities purchased to provide us with needed liquidity and longer-term securities purchased to generate level income for us over periods of interest rate fluctuations.

All investment securities in an unrealized loss position as of June 30, 2024 continue to perform as scheduled. We have evaluated the securities and have determined that the decline in fair value, relative to its amortized cost, is not due to credit-related factors. In addition, we have the ability to hold these securities within the portfolio until maturity or until the value recovers, and we believe that it is not likely that we will be required to sell these securities prior to recovery. We continue to monitor all of our securities with a high degree of scrutiny. There can be no assurance that we will not conclude in future periods that conditions existing at that time indicate some or all of its securities may be sold or would require a charge to earnings as a provision for credit losses in such periods.

The Company does not invest in collateralized debt obligations (“CDOs”). As of June 30, 2024, we had $314.2 million of bank holding company subordinated notes. If rated, all such bonds were rated BBB or better by Kroll Bond Rating Agency at the time of our initial investment. All other corporate bonds had a Standard and Poor’s or Moody’s rating of A-1 or better when purchased. The total investment portfolio has a combined average credit rating of AA as of June 30, 2024.

The carrying value of investment securities pledged to secure public funds on deposit and for other purposes as required by law was $1.59 billion and $1.49 billion as of June 30, 2024 and December 31, 2023, respectively.

Loans

We had total loans of $12.33 billion, an increase of $674.0 million, or 5.8%, from $11.66 billion at December 31, 2023. Other mortgage increased $385.6 million from last year, and increased $294.2 million during the quarter, making up over half of total loan growth for both periods. Our loan pipeline has expanded and indicates that loan demand is improving in our market areas.

Asset Quality

The Company assesses the adequacy of its allowance for credit losses ("ACL") at the end of each calendar quarter. The level of ACL is based on the Company’s evaluation of historical default and loss experience, current and projected economic conditions, asset quality trends, known and inherent risks in the portfolio, adverse situations that may affect the borrowers’ ability to repay a loan, the estimated value of any underlying collateral, composition of the loan portfolio and other relevant factors. The ACL is increased by a provision for credit losses, which is charged to expense, and reduced by charge-offs, net of recoveries. The ACL is believed adequate to absorb all expected future losses to be recognized over the contractual life of the loans in the portfolio.

Loans with similar risk characteristics are evaluated in pools and, depending on the nature of each identified pool, the Company utilizes a discounted cash flow (“DCF”), probability of default / loss given default (“PD/LGD”) or remaining life method. The historical loss experience estimate by pool is then adjusted by forecast factors that are quantitatively related to the Company’s historical credit loss experience, such as national unemployment rates and gross domestic product. Losses are predicted over a period of time determined to be reasonable and supportable, and at the end of the reasonable and supportable period losses are reverted to long term historical averages. The reasonable and supportable period and reversion period are re-evaluated each quarter by the Company and are dependent on the current economic environment among other factors. See “Note 1 – General” and “Note 5 – Loans” in the Notes to Consolidated Financial Statements included in Item 1. Consolidated Financial Statements elsewhere in this report.

The expected credit losses for each loan pool are then adjusted for changes in qualitative factors not inherently considered in the quantitative analyses. The qualitative adjustments either increase or decrease the quantitative model estimation. The Company considers factors that are relevant within the qualitative framework which include the following: lending policy, changes in nature and volume of loans, staff experience, changes in volume and trends of problem loans, concentration risk, trends in underlying collateral values, external factors, quality of loan review system and other economic conditions.

Expected credit losses for loans that no longer share similar risk characteristics with the collectively evaluated pools are excluded from the collective evaluation and estimated on an individual basis. Individual evaluations are performed for nonaccrual loans, loans rated substandard, and certain modified loans. Specific allocations of the ACL are estimated on one of several methods, including the estimated fair value of the underlying collateral, observable market value of similar debt or the present value of expected cash flows.

(Dollars in thousands)

29

(In Thousands)

(In Thousands)

Nonperforming Assets

Total nonperforming loans at June 30, 2024, which include nonaccrual loans and loans 90 or more days past due and still accruing, increased $13.4 million, or 62.2%, to $34.9 million from $21.5 million at December 31, 2023. Of this total, nonaccrual loans of $33.5 million at June 30, 2024 represented a net increase of $14.1 million from nonaccrual loans at December 31, 2023. The increase in non-performing assets to total assets can be attributed to a single relationship that moved to non-accrual status during the first quarter of 2024. This relationship has been closely monitored and is well-collateralized. Excluding credit card accounts, there were no loans 90 or more days past due and still accruing at June 30, 2024, compared to nine loans totaling $1.9 million at December 31, 2023. Loans made to borrowers experiencing financial difficulty that were modified during the three months ended June 30, 2024 and 2023 were $9.8 million and $40.9 million, respectively.

The following table details our nonperforming assets at June 30, 2024 and December 31, 2023:

(Dollar Amounts In Thousands)

OREO and repossessed assets at June 30, 2024 were $1.5 million, an increase of $463,000, or 46.5%, from $995,000 at December 31, 2023. The following table summarizes OREO and repossessed asset activity for the six months ended June 30, 2024 and 2023:

(In thousands)

31

The balance of nonperforming assets can fluctuate due to changes in economic conditions. We have established a policy to discontinue accruing interest on a loan (i.e., place the loan on nonaccrual status) after it has become 90 days delinquent as to payment of principal or interest, unless the loan is considered to be well-collateralized and is actively in the process of collection. In addition, a loan will be placed on nonaccrual status before it becomes 90 days delinquent unless management believes that the collection of interest is expected. Interest previously accrued but uncollected on such loans is reversed and charged against current income when the receivable is determined to be uncollectible. Interest income on nonaccrual loans is recognized only as received. If we believe that a loan will not be collected in full, we will increase the ACL to reflect management’s estimate of any potential exposure or loss. Generally, payments received on nonaccrual loans are applied directly to principal.

Deposits

We rely on increasing our deposit base to fund loan and other asset growth. Each of our markets is highly competitive. We compete for local deposits by offering attractive products with competitive rates. We expect to have a higher average cost of funds for local deposits than competitor banks due to our lack of an extensive branch network. Our management’s strategy is to offset the higher cost of funding with a lower level of operating expense and firm pricing discipline for loan products. We have promoted electronic banking services by providing them without charge and by offering in-bank customer training. At June 30, 2024, our total deposits were $13.26 billion, a decrease of $14.1 million, or .1%, from $13.27 billion at December 31, 2023.

The following table summarizes balances of our deposits and the percentage of each type to the total at June 30, 2024 and December 31, 2023:

At June 30, 2024 and December 31, 2023, we estimate that we had approximately $8.95 billion and $8.76 billion, respectively, in uninsured deposits, which are the portion of deposit accounts that exceed the FDIC insurance limit. The uninsured deposit data for 2024 and 2023 reflect the deposit insurance impact of “combined ownership segregation” of escrow and other accounts at an aggregate level but do not reflect an evaluation of all of the account styling distinctions that would determine the availability of deposit insurance to individual accounts based on FDIC regulations.

Other Borrowings

Our borrowings consist of federal funds purchased and subordinated notes payable. We had $1.10 billion and $1.26 billion at June 30, 2024 and December 31, 2023, respectively, in federal funds purchased from correspondent banks that are clients of our correspondent banking unit. The average rate paid on these borrowings was 5.50% for the quarter ended June 30, 2024. Other borrowings consist of the following:

• $30.0 million of the Company’s 4.5% Subordinated Notes due November 8, 2027, which were issued in a private placement in November 2017 and pay interest semi-annually. The Notes may be prepaid by the Company; and
• $34.75 million of the Company’s 4% Subordinated Notes due October 21, 2030, which were issued in a private placement in October 2020 and pay interest semi-annually. The Notes may not be prepaid by the Company prior to October 21, 2025.

Liquidity

Liquidity is defined as our ability to generate sufficient cash to fund current loan demand, deposit withdrawals, and other cash demands and disbursement needs, and otherwise to operate on an ongoing basis.

The retention of existing deposits and attraction of new deposit sources through new and existing customers is critical to our liquidity position. If our liquidity was to decline due to deposit withdrawals, we have procedures that provide for certain actions under varying liquidity conditions. These actions include borrowing from existing correspondent banks, selling or participating loans, and curtailing loan commitments and funding. At June 30, 2024, our liquid assets, represented by cash and due from banks, federal funds sold and unpledged available-for-sale securities, totaled $1.62 billion. The Bank had loans pledged to both the FHLB and the Federal Reserve Bank of Atlanta, which provided approximately $2.88 billion and $2.15 billion, respectively, in available funding. The Bank’s policy limits on brokered deposits would allow for up to $4.01 billion in available funding for brokered deposits. Additionally, the Bank had approximately $547.0 million in available unused federal funds lines of credit with regional banks, subject to certain restrictions and collateral requirements, to meet short term funding needs.

Our management meets on a quarterly basis to review sources and uses of funding to determine the appropriate strategy to ensure an appropriate level of liquidity. At the current time, our long-term liquidity needs primarily relate to funds required to support loan originations and commitments and deposit withdrawals. Our regular sources of funding are from the growth of our deposit base, repayment of principal and interest on loans, the sale of loans and the renewal of time deposits. In addition, we have issued debt as described above under “Borrowings” and have various other sources of liquidity as discussed herein. We believe these sources of funding are adequate to meet both our immediate (within the next 12 months) and our longer term anticipated funding needs. However, we may need additional funding if we are successful in maintaining our current growth rate into the future.

We are subject to general FDIC guidelines that require a minimum level of liquidity. Management believes our liquidity ratios meet or exceed these guidelines.

The following table illustrates, during the periods presented, the mix of our funding sources and the assets in which those funds are invested as a percentage of our average total assets for the period indicated. Average assets totaled $15.70 billion and $15.83 billion, respectively, for the three and six months ended June 30, 2024.

Capital Adequacy

Total stockholders’ equity attributable to us at June 30, 2024 was $1.36 billion, or 9.04% of total assets. At December 31, 2023, total stockholders’ equity attributable to us was $1.30 billion, or 8.89% of total assets.

As of June 30, 2024, our most recent notification from the FDIC categorized us as well-capitalized under the regulatory framework for prompt corrective action. To remain categorized as well-capitalized, we must maintain minimum Common Equity Tier 1, Tier 1 risk-based, total risk-based, and Tier 1 leverage ratios as disclosed in the table below. Our management believes that we are well-capitalized under the prompt corrective action provisions as of June 30, 2024.

The following table sets forth (i) the capital ratios required by the FDIC and the Alabama Banking Department’s leverage ratio requirement and (ii) our actual ratios, not including the applicable 2.5% capital conservation buffer, of capital to total regulatory or risk-weighted assets, as of June 30, 2024, December 31, 2023 and June 30, 2023:

(Dollars in Thousands)

We are a legal entity separate and distinct from the Bank. Our principal source of cash flow, including cash flow to pay dividends to our stockholders, are dividends the Bank pays to us as the Bank’s sole stockholder. Statutory and regulatory limitations apply to the Bank’s payment of dividends to us as well to our payment of dividends to our stockholders. The requirement that a bank holding company must serve as a source of strength to its subsidiary banks also results in the position of the Federal Reserve that a bank holding company should not maintain a level of cash dividends to its stockholders that places undue pressure on the capital of its bank subsidiaries or that can be funded only through additional borrowings or other arrangements that may undermine the bank holding company’s ability to serve as a source of strength. Our ability to pay dividends is also subject to the provisions of Delaware corporate law.

The Alabama Banking Department also regulates the Bank’s dividend payments. Under Alabama law, a state-chartered bank may not pay a dividend in excess of 90% of its net earnings until the Bank’s surplus is equal to at least 20% of its capital (our Bank’s surplus currently exceeds 20% of its capital). Moreover, our Bank is also required by Alabama law to obtain the prior approval of the Superintendent of Banks (“Superintendent”) for its payment of dividends if the total of all dividends declared by the Bank in any calendar year will exceed the total of (i) the Bank’s net earnings (as defined by statute) for that year, plus (ii) its retained net earnings for the preceding two years, less any required transfers to surplus. In addition, no dividends, withdrawals or transfers may be made from the Bank’s surplus without the prior written approval of the Superintendent.

The Bank’s payment of dividends may also be affected or limited by other factors, such as the requirement to maintain adequate capital above regulatory guidelines. The federal banking agencies have indicated that paying dividends that deplete a depository institution’s capital base to an inadequate level would be an unsafe and unsound banking practice. Under the Federal Deposit Insurance Corporation Improvement Act of 1991, a depository institution may not pay any dividends if payment would cause it to become undercapitalized or if it already is undercapitalized. Moreover, the federal agencies have issued policy statements that provide that bank holding companies and insured banks should generally only pay dividends out of current operating earnings. If, in the opinion of the federal banking regulators, the Bank were engaged in or about to engage in an unsafe or unsound practice, the federal banking regulators could require, after notice and a hearing, that the Bank stop or refrain from engaging in the questioned practice.

Commitments and Contingencies

In the normal course of business, we are a party to financial instruments with off-balance sheet risk to meet the financing needs of our customers. These financial instruments include commitments to extend credit beyond current fundings, credit card arrangements, standby letters of credit, and financial guarantees. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in our balance sheet. The contract or notional amounts of those instruments reflect the extent of involvement we have in those particular financial arrangements. All such credit arrangements bear interest at variable rates and we have no such credit arrangements that bear interest at fixed rates.

Our exposure to credit loss for commitments to extend credit, credit card arrangements and standby letters of credit is represented by the contractual or notional amount of these instruments in the event of non-performance by the other party to such financial instrument. We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments.

As part of our mortgage operations, we originate and sell certain loans to investors in the secondary market. We continue to experience a manageable level of investor repurchase demands. For loans sold, we have an obligation to either repurchase the outstanding principal balance of a loan or make the purchaser whole for the economic benefits of a loan if it is determined that the loans sold were in violation of representations and warranties made by the Bank at the time of the sale. Representations and warranties typically include those made regarding loans that had missing or insufficient file documentation or loans obtained through fraud by borrowers or other third parties such as appraisers.

Financial instruments whose unfunded contract amounts represent credit risk at June 30, 2024 are as follows:

(In Thousands)

Commitments to extend credit beyond current funded amounts are agreements to lend to a customer as long as there is no violation of any condition established in the applicable loan agreement. Such commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. We evaluate each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained if deemed necessary by us upon extension of credit is based on our management’s credit evaluation. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment and income-producing commercial properties.

Standby letters of credit are conditional commitments issued by us to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. All letters of credit are due within one year or less of the original commitment date. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.

Federal funds lines of credit are uncommitted lines issued to downstream correspondent banks for the purpose of providing liquidity to them. The lines are unsecured, and we have no obligation to sell federal funds to the correspondent, nor does the correspondent have any obligation to request or accept purchases of federal funds from us.

Results of Operations

Summary of Net Income

Net income and net income available to common stockholders of $52.1 million for the quarter ended June 30, 2024, compared to net income of $53.5 million and net income available to common stockholders of $53.4 million for the second quarter of 2023. The decrease in net income for the three months ended June 30, 2024 compared to 2023 was primarily attributable increases in non-interest expenses and provision for income taxes that were partially offset by the growth net interest income. Net income of $102.2 million and net income available to common stockholders of $102.1 million for the six months ended June 30, 2024, compared to net income and net income available to common stockholders of $111.4 million for the six months ended June 30, 2023. The decrease in net income for the six months ended June 30, 2024 compared to 2023 was primarily attributable to an increase in non-interest expenses.

Basic and diluted earnings per common share were $0.96 and $0.95, respectively, for the three months ended June 30, 2024, compared to $0.98 for both in the corresponding period in 2023. Basic and diluted earnings per common share were both $1.87 for the six months ended June 30, 2024, compared to $2.05 and $2.04, respectively, for the corresponding period in 2023. Return on average assets for the three and six months ended June 30, 2024 was 1.34% and 1.30% compared to 1.50% and 1.57%, respectively, for the corresponding periods in 2023. Return on average common stockholders’ equity for the three and six months ended June 30, 2024 was 14.08% and 13.96%, respectively, compared to 15.85% and 16.83%, respectively, for the corresponding periods in 2023.

Net Interest Income and Net Interest Margin Analysis

Net interest income is the difference between the income earned on interest-earning assets and interest paid on interest-bearing liabilities used to support such assets. The major factors which affect net interest income are changes in volumes, the yield on interest-earning assets and the cost of interest-bearing liabilities. Our management’s ability to respond to changes in interest rates by effective asset-liability management techniques is critical to maintaining the stability of the net interest margin and the momentum of our primary source of earnings.

Taxable-equivalent net interest income increased $4.6 million, or 4.5%, to $105.9 million for the three months ended June 30, 2024 compared to $101.3 million for the corresponding period in 2023, and decreased $1.3 million, or 0.6%, to $208.4 million for the six months ended June 30, 2024 compared to $209.7 million for the corresponding period in 2023. The taxable-equivalent yield on interest-earning assets increased to 6.01% for the three months ended June 30, 2024 from 5.49% for the corresponding period in 2023, and increased to 5.94% for the six months ended June 30, 2024 from 5.38% for the corresponding period in 2023. The yield on loans for the three months ended June 30, 2024 was 6.48% compared to 5.94% for the corresponding period in 2023, and 6.44% compared to 5.82% for the six months ended June 30, 2024 and June 30, 2023, respectively. The cost of total interest-bearing liabilities increased to 4.23% for the three months ended June 30, 2024 compared to 3.55% for the corresponding period in 2023, and increased to 4.23% for the six months ended June 30, 2024 from 3.27% for the corresponding period in 2023. Net interest margin for the three months ended June 30, 2024 was 2.79% compared to 2.93% for the corresponding period in 2023, and 2.73% for the six months ended June 30, 2024 compared to 3.04% for the corresponding period in 2023.

The Federal Reserve Bank increased their targeted federal funds rate from 5.00 – 5.25% at June 30, 2023 to its current range as of June 30, 2024 of 5.25 – 5.50%. Our cost of funding has increased as a result of deposit pricing pressures resulting from these rate increases.

The following tables show, for the three and six months ended June 30, 2024 and June 30, 2023, the average balances of each principal category of our assets, liabilities and stockholders’ equity, and an analysis of net interest revenue. The accompanying tables reflect changes in our net interest margin as a result of changes in the volume and rate of our interest-earning assets and interest-bearing liabilities for the same periods. Changes as a result of mix or the number of days in the periods have been allocated to the volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each. The tables are presented on a taxable-equivalent basis where applicable:

Average Balance Sheets and Net Interest Analysis

On a Fully Taxable-Equivalent Basis

For the Three Months Ended June 30,

(In thousands, except Average Yields and Rates)

(1) Non-accrual loans are included in average loan balances in all periods. Loan fees of $3,317 and $3,318 are included in interest income in the second quarter of 2024 and 2023, respectively. Loan fees include accretion of PPP loan fees.

(2) Amortization of acquired loan premiums of $46 and $49 is included in interest income in 2024 and 2023, respectively.

(3) Interest income and yields are presented on a fully taxable equivalent basis using a tax rate of 21%.

(4) Unrealized losses of $(66,663) and $(69,498) are excluded from the yield calculation in the second quarter of 2024 and 2023, respectively.

37

(In Thousands)

Our growth in loans and interest-bearing balances with banks drove the favorable volume component change. The rate component was unfavorable as loan yields increased 54 basis points and average rates paid on interest-bearing liabilities increased 77 basis points. An increase in average equity contributed to a favorable volume component but was partially offset by a decrease in average non-interest-bearing deposits during the three months ended June 30, 2024 compared to the same period in 2023.

Average Balance Sheets and Net Interest Analysis

On a Fully Taxable-Equivalent Basis

For the Six Months Ended June 30,

(In thousands, except Average Yields and Rates)

(1) Non-accrual loans are included in average loan balances in all periods. Loan fees of 6,972 and $6,581 are included in interest income in 2024, and 2023, respectively. Loan fees include accretion of PPP loan fees of $40 in 2023.

(2) Amortization of acquired loan premiums of $96 and $98 is included in interest income in 2024 and 2023, respectively.

(3) Interest income and yields are presented on a fully taxable equivalent basis using a tax rate of 21%.

(4) Unrealized losses of $(67,413) and $(64,645) are excluded from the yield calculation in 2024 and 2023, respectively.

39

(In Thousands)

Our growth in loans and interest-bearing balances with banks drove the favorable volume component change. The rate component was unfavorable as loan yields increased 62 basis points and average rates paid on interest-bearing liabilities increased 96 basis points. An increase in average equity contributed to a favorable volume component but was partially offset by a decrease in average non-interest-bearing deposits during the six months ended June 30, 2024 compared to the same period in 2023.

Provision for Credit Losses

The provision for credit losses was $5.4 million for the three months ended June 30, 2024, a decrease of $1.3 million from $6.7 million for the three months ended June 30, 2023, and was $9.7 million for the six months ended June 30, 2024, a decrease of $1.1 million from $10.9 million for the six months ended June 30, 2023. The ACL as of June 30, 2024, March 31, 2024, and June 30, 2023, totaled $158.1 million, $155.9 million, and $152.3 million, or 1.28%, 1.31%, and 1.31% of loans, net of unearned income, respectively. Annualized net credit charge-offs to quarter-to-date average loans were 0.10% for the three months ended June 30, 2024, a basis point decrease compared to 0.11% for the first quarter of 2023. Annualized net credit charge-offs to year-to-date average loans were 0.08% for the six months ended June 30, 2024, compared to 0.08% for the corresponding period in 2023. Nonperforming loans decreased to $34.9 million, or 0.28% of total loans, at June 30, 2024 from $34.8 million, or 0.29% of total loans at December 31, 2023, and increased compared to $22.8 million, or 0.20% of total loans, at June 30, 2023. See the section captioned “Asset Quality” located elsewhere in this item for additional discussion related to provision for credit losses.

Noninterest Income

40

Noninterest income totaled $8.9 million for the three months ended June 30, 2024, an increase of $309,000, or 3.6%, compared to the corresponding period in 2023, and totaled $17.7 million for the six months ended June 30, 2024, an increase of $2.8 million, or 18.8%, from to the corresponding period in 2023. Service charges on deposit accounts increased $151,000, or 7.0%, to $2.3 million for the three months ended June 30, 2024 compared to $2.1 million for the same period in 2023, and increased $367,000, or 9.0%, to $4.4 million for the six months ended June 30, 2024 compared to $4.1 million for the same period in 2023. Mortgage banking income increased $683,000, or 98.1%, to $1.4 million for the three months ended June 30, 2024 compared to $696,000 for the same period in 2023, and increased $919,000, or 80.8%, to $2.1 million for the six months ended June 30, 2024 compared to $1.1 million for the same period in 2023. The increase in mortgage banking revenue was primarily attributed to a combination of favorable market conditions and increased staffing levels. Net credit card income decreased $73,000, or 3.0%, to $2.3 million for the three months ended June 30, 2024 compared to $2.4 million for the same period in 2023, and increased $393,000, or 9.6%, to $4.5 million for the six months ended June 30, 2024 compared to $4.1 million for the same period in 2023. Bank-owned life insurance (“BOLI”) income decreased $438,000, or 17.5%, to $2.1 million for the three months ended June 30, 2024 compared to $2.5 million for the same period in 2023, and increased $1.2 million, or 28.5%, to $5.3 million for the six months ended June 30, 2024 compared to $4.1 million for the same period in 2023. We recognized $1.2 million of income attributed to a death benefit related to a former employee in our BOLI program during the first quarter of 2024, and $890,000 during the second quarter of 2023. Other income decreased $14,000, or 1.7%, to $828,000 for the three months ended June 30, 2024 compared to $842,000 for the same period in 2023, and decreased $50,000, or 3.4%, to $1.4 million for the six months ended June 30, 2024 compared to $1.5 million for the same period in 2023. Merchant service revenue increased $14,000, or 2.3%, to $595,000 for the three months ended June 30, 2024 compared to $581,000 for the same period in 2023, and increased $67,000, or 6.5%, to $1.1 million for the six months ended June 30, 2024 compared to $1.0 million for the same period in 2023.

Noninterest Expense

Noninterest expense totaled $42.8 million for the three months ended June 30, 2024, an increase of $4.4 million, or 11.3%, compared to the corresponding period in 2023, and totaled $89.1 million for the six months ended June 30, 2024, an increase of $11.0 million, or 14.1%, from to the corresponding period in 2023. During the second quarter of 2024, the Company recorded the impact from election of the proportional amortization method to account for historical and new market tax credit investments made primarily for the purpose of receiving income tax credits due to our adoption of Accounting Standards Update 2023-02. The proportional amortization method results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the consolidated income statement as a component of income tax expense. Previously the amortization of the investment was included in other non-interest expenses.

Details of expense are as follows:

• Salary and benefit expense increased $5.4 million, or 28.8%, to $24.2 million for the three months ended June 30, 2024 compared to $18.8 million for the same period in 2023, and increased $9.3 million, or 24.7%, to $47.2 million for the six months ended June 30, 2024 compared to $37.9 million for the same period in 2023. The number of FTE employees increased by 48, or 8.3%, to 625 at June 30, 2024 compared to 577 at June 30, 2023. The increase in salary and benefit expense year-over-year was largely due to the normalization of incentives and increased salary expenses due to an increase in FTE employees. Incentives increased approximately $2.7 million, and salaries increased approximately $1.5 million from the second quarter of 2023.
• Equipment and occupancy expense increased $146,000, or 4.3%, to $3.6 million for the three months ended June 30, 2024 compared to $3.4 million for the same period in 2023, and increased $268,000, or 3.9%, to $7.1 million for the six months ended June 30, 2024 compared to $6.9 million for the same period in 2023.
• Third party processing and other services increased $1.3 million, or 20.4%, to $7.5 million for the three months ended June 30, 2024 compared to $6.2 million for the same period in 2023, and increased $1.1 million, or 8.5%, to $14.6 million for the six months ended June 30, 2024 compared to $13.5 million for the same period in 2023.
• Professional services expense increased $161,000, or 10.2%, to $1.7 million for the three months ended June 30, 2024 compared to $1.6 million for the same period in 2023, and decreased $29,000, or .9%, to $3.2 million for the six months ended June 30, 2024 compared to $3.2 million for the same period in 2023.
• FDIC and other regulatory assessments decreased $40,000, or 1.8%, to $2.2 million for the three months ended June 30, 2024 compared to $2.2 million for the same period in 2023, and increased $2.3 million, or 62.5%, to $6.1 million for the six months ended June 30, 2024 compared to $3.8 million for the same period in 2023. In the first quarter of 2024, the FDIC implemented a special assessment adjustment to recapitalize the Deposit Insurance Fund resulting in an expense of $1.8 million.
• Other operating expenses decreased $2.6 million, or 41.8%, to $3.6 million for the three months ended June 30, 2024 compared to $6.2 million for the same period in 2023, and decreased $2.1 million, or 16.3%, to $10.8 million for the six months ended June 30, 2024 compared to $12.9 million for the same period in 2023. The decrease in other operating expenses were largely due to the application of the proportional amortization method to account for historical and new market tax credit investments, discussed above.

Income Tax Expense

Income tax expense was $14.5 million for the three months ended June 30, 2024 compared to $11.2 million for the same period in 2023, and was $25.1 million for the six months ended June 30, 2024, compared to $24.0 million for the same period in 2023. Our effective tax rate for the three and six months ended June 30, 2024 was 21.71% and 19.7%, respectively, compared to 17.38% and 17.74% for the corresponding periods in 2023, respectively. We recognized excess tax benefits as an income tax credit to our income tax expense from the exercise and vesting of stock options and restricted stock during the three and six months ended June 30, 2024 of $396,000 and $600,000, respectively, compared to $139,000 and $1.2 million during the three and six months ended June 30, 2023, respectively. Our primary permanent differences are related to tax exempt income on securities, state income tax benefit on real estate investment trust dividends, various qualifying tax credits and change in cash surrender value of bank-owned life insurance.

We own real estate investment trusts for the purpose of holding and managing participations in residential mortgages and commercial real estate loans originated by the Bank. The trusts are wholly-owned subsidiaries of a trust holding company, which in turn is an indirect wholly-owned subsidiary of the Bank. The trusts earn interest income on the loans they hold and incur operating expenses related to their activities. They pay their net earnings, in the form of dividends, to the Bank, which receives a deduction for state income taxes.

Critical Accounting Estimates

The accounting and financial policies of the Company conform to U.S. generally accepted accounting principles and to general practices within the banking industry. To prepare consolidated financial statements in conformity with U.S. GAAP, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ. In management’s opinion, certain accounting policies have a more significant impact than others on the Company’s financial reporting. The allowance for credit losses and income taxes are particularly significant for the Company’s financial reporting. Information concerning our accounting policies and critical accounting estimates with respect to these items is available in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023. There were no changes to the accounting policies for the allowance for credit losses or income taxes during the three and six months ended June 30, 2024.

Like all financial institutions, we are subject to market risk from changes in interest rates. Interest rate risk is inherent in the balance sheet due to the mismatch between the maturities of rate-sensitive assets and rate-sensitive liabilities. If rates are rising, and the level of rate-sensitive liabilities exceeds the level of rate-sensitive assets, the net interest margin will be negatively impacted. Conversely, if rates are falling, and the level of rate-sensitive liabilities is greater than the level of rate-sensitive assets, the impact on the net interest margin will be favorable. Managing interest rate risk is further complicated by the fact that all rates do not change at the same pace; in other words, short-term rates may be rising while longer-term rates remain stable. In addition, different types of rate-sensitive assets and rate-sensitive liabilities react differently to changes in rates.

To manage interest rate risk, we must take a position on the expected future trend of interest rates. Rates may rise, fall or remain the same. Our asset-liability committee develops its view of future rate trends and strives to manage rate risk within a targeted range by monitoring economic indicators, examining the views of economists and other experts, and understanding the current status of our balance sheet. Our annual budget reflects the anticipated rate environment for the next 12 months. The asset-liability committee conducts a quarterly analysis of the rate sensitivity position and reports its results to our board of directors.

The asset-liability committee thoroughly analyzes the maturities of rate-sensitive assets and liabilities. This analysis measures the “gap”, which is defined as the difference between the dollar amount of rate-sensitive assets repricing during a period and the volume of rate-sensitive liabilities repricing during the same period. The gap is also expressed as the ratio of rate-sensitive assets divided by rate-sensitive liabilities. If the ratio is greater than one, the dollar value of assets exceeds the dollar value of liabilities; the balance sheet is “asset-sensitive.” Conversely, if the value of liabilities exceeds the value of assets, the ratio is less than one and the balance sheet is “liability-sensitive.” Our internal policy requires management to maintain the gap such that net interest margins will not change more than 10% if interest rates change 100 basis points or more than 15% if interest rates change 200 basis points. There have been no changes to our policies or procedures for analyzing our interest rate risk since December 31, 2023, and there have been no material changes to our sensitivity to changes in interest rates since December 31, 2023, as disclosed in our Annual Report on Form 10-K.

Evaluation of Disclosure Controls and Procedures.

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.

We conducted an evaluation (the "Evaluation") of the effectiveness of the design and operation of our disclosure controls and procedures under the supervision and with the participation of our management, including our CEO and CFO, as of June 30, 2024. Based upon the Evaluation, our CEO and CFO have concluded that, as of June 30, 2024, our disclosure controls and procedures are effective June 30, 2024.

Changes in Internal Control Over Financial Reporting

There have not been any changes in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Our business is influenced by many factors that are difficult to predict, involve uncertainties that may materially affect actual results and are often beyond our control. We have identified a number of these risk factors in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023, which should be taken into consideration when reviewing the information contained in this report. There have been no material changes in the Company’s risk factors from those disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2023.