California BanCorp \ CA: Form 10-Q for the period ended Mar 31, 2024

Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our consolidated financial condition and consolidated results of operations should be read in conjunction with our consolidated financial statements and related notes. Historical consolidated results of operations and the percentage relationships among any amounts included, and any trends that may appear, may not indicate trends in operations or consolidated results of operations for any future periods. We are a bank holding company and we conduct all of our material business operations through the Bank. As a result, the discussion and analysis below primarily relate to activities conducted at the Bank level.

Overview

Southern California Bancorp is a California corporation incorporated on October 2, 2019, and headquartered in Del Mar, California. On May 15, 2020, we completed a reorganization whereby Bank of Southern California, N.A. became the wholly owned subsidiary of the Company. Bank of Southern California, N.A. has a wholly-owned subsidiary, BCAL OREO1, LLC, which was incorporated on February 14, 2024. BCAL OREO1, LLC is used for holding other real estate owned and other assets acquired by foreclosure. We are regulated as a bank holding company by the Board of Governors of the Federal Reserve System (“Federal Reserve”). The Bank operates under a national charter and is regulated by the Office of Comptroller of the Currency (“OCC”).

We are a relationship-focused community bank and we offer a range of financial products and services to individuals, professionals, and small- to medium-sized businesses through our 13 branch offices serving Orange, Los Angeles, San Diego and Ventura counties, as well as the Inland Empire. We keep a steady focus on our solution-driven, relationship-based approach to banking, providing clients accessibility to decision makers and enhancing the value of our services through strong client partnerships. Our lending products consist primarily of construction and land development loans, real estate loans, C&I loans and consumer loans, and we are a Preferred SBA Lender. Our deposit products consist primarily of demand deposit, money market, and certificates of deposit. We also provide treasury management services including online banking, cash vault, sweep accounts and lock box services.

Recent Developments

Proposed Merger with California BanCorp

On January 30, 2024, the Company announced the execution of a definitive merger agreement with California BanCorp (NASDAQ: CALB), the holding company for California Bank of Commerce, pursuant to which California BanCorp will merge into Southern California Bancorp in an all-stock merger valued at approximately $233.6 million based on the closing price of Southern California Bancorp on January 29, 2024. Under the terms of the merger agreement, which has been unanimously approved by the boards of directors of Southern California Bancorp and California BanCorp, each outstanding share of California BanCorp common stock will be exchanged for the right to receive 1.590 shares of Southern California Bancorp common stock. As a result of the transaction, Southern California Bancorp shareholders will own approximately 57.1% of the outstanding shares of the combined company and California BanCorp shareholders will own approximately 42.9% of the outstanding shares of the combined company. These amounts are subject to fair value adjustments upon the close of the Merger. The transaction is expected to close in the third quarter of 2024, subject to the satisfaction of customary closing conditions, including receipt of required regulatory approvals and approvals from Southern California Bancorp and California BanCorp shareholders. At March 31, 2024, California BanCorp had total loans of $1.52 billion, total assets of $1.92 billion, total deposits of $1.64 billion, and total equity of $200.7 million.

Impact of Federal Reserve Rapid Rate Hiking Cycle on Economy and Banking Industry

The COVID-19 pandemic has receded, with business activity returning to more normal conditions and concerns regarding a potential recession moderating with full year 2023 increase in GDP reported at 2.5%, slowing to 1.6% in the first quarter of 2024. California’s 2023 GDP increased by 2.8% from 2022 and it is forecast by Moody’s to slow to 2.1% in 2024. High interest rates and broader economic headwinds have put a damper on investment, particularly in the near term for the tech industry, which employs 8% of the state’s workforce, as tech payrolls have trended lower over the past year. Moody’s forecast for the state’s 2024 unemployment rate is 5.1%, up from 4.4% in 2023. Despite the anticipated slowdown in California, it is still considered to have the fifth largest economy in the world.

Between March 2022 and September 2023, the Federal Reserve raised interest rates eleven times by an aggregate of 525 basis points, to a range between 5.25% and 5.50%, the highest level in 22 years. The rapid rate hiking cycle was in response to an increase in inflation, as measured by the Consumer Price Index, from 1.2% in November 2020 to 9.1% in July 2022, which has since moderated to 3.5% in March 2024. The Federal Reserve paused interest rates increases in September 2023. In its April 2024 statement, the Federal Reserve acknowledged that progress in bringing the inflation rate down to its 2% target was stalling and opted to hold the benchmark interest rate at current levels for longer.

The rapid rise in interest rates between 2022 and 2023 resulted in an industry-wide reduction in the fair value of many banks’ securities portfolios, pressuring their liquidity. The subsequent bank runs led to the failure of several financial institutions beginning in March of 2023, among other events, fostered a state of volatility and uncertainty with respect to the health of the U.S. banking system, particularly around liquidity, uninsured deposits and customer concentrations. The situation is stabilizing due to strong actions taken by federal regulators in attempts to calm the markets.

We have a strong consolidated balance sheet with diversified deposit and loan portfolios, and with very little sector or individual customer concentration, other than our CRE concentration. Our relationship-based banking model is founded on strong, ongoing relationships with our commercial clients, which represent a broad variety of industries. The recent uncertainty in the banking industry has provided us with an opportunity to attract new clients that have concerns about the banks they have been doing business with, based on the above events. We have no meaningful exposure to cryptocurrency or venture capital business models, our accumulated other comprehensive loss on our available-for-sale debt securities is manageable, and our capital position is strong. However, in an abundance of caution, we proactively responded to these events by reaching out to our customers and explaining what differentiates us from the recently failed banks. We also have elected to vigorously defend our deposit base in the face of increasing competition and deposit costs.

We have a highly skilled and experienced lending production team and credit administration team. Given our concentration in commercial real estate secured loans, we mitigate that risk through comprehensive underwriting policies, semi-annual loan level reviews, close monitoring of self-established industry and geographical and collateral type limits, periodic stress testing and continuous portfolio risk management reporting. Per the regulatory definition of commercial real estate, at March 31, 2024, our concentration of such loans represented 506% of our total risk-based capital. In addition, at March 31, 2024, total loans secured by commercial real estate under construction and land development represented 82% of our total risk-based capital. The non-performing assets for these segments per the regulatory definition of commercial real estate loans at March 31, 2024 were $19.3 million and there were no charge-offs during the three months ended March 31, 2024.

Given the nature of our commercial banking business, approximately 43% of our total deposits exceeded the FDIC deposit insurance limits at March 31, 2024. However, we offer our deposit customers access to the Insured Cash Sweep (“ICS Product”), which allows us to divide customers’ deposits that exceed the FDIC insurance limits into smaller amounts, below the FDIC insurance limits, and place those deposits in other participating FDIC insured institutions with the convenience of managing all deposit accounts through our Bank. Our total deposits in the ICS Product decreased to $245.3 million, or 13% of total deposits at March 31, 2024, compared to $274.1 million, or 14% of total deposits at December 31, 2023. In the third quarter of 2023, we appointed new leadership to oversee our Bank-wide deposit and treasury operations and continue to focus on defending our deposit base while managing our deposit costs.

We have a small investment portfolio of high-quality securities. In 2022, we deployed our excess cash by purchasing held-to-maturity debt securities that are not marked to market, which means there is no unrealized loss recorded through the accumulated other comprehensive loss if their market value is impacted by changes in interest rates. We continue to reposition our debt securities mix to protect us from an unpredictable interest rate environment. At March 31, 2024, the amortized cost of our held-to-maturity debt securities was $53.5 million, or approximately 2.3% of total assets. The fair value of our available-for-sale debt securities was $127.0 million, or approximately 5.5% of total assets. The increases in the 10-Year Treasury Bond to nearly 5% resulted in higher net unrealized losses on our debt securities. At March 31, 2024, our accumulated other comprehensive loss, net of taxes, increased to $6.1 million, compared to $4.5 million at December 31, 2023. If we realized all of our unrealized losses on both held-to-maturity and available-for-sale debt securities, our losses, net of taxes would be $9.0 million at March 31, 2024. The results of our stress testing on our debt security portfolio at March 31, 2024, illustrated that our losses, net of taxes on both held-to-maturity and available-for-sale debt securities would increase to $39.4 million at 300 basis point rate shock scenario. If we realized all of these unrealized losses, the Bank would continue to exceed all regulatory capital requirements necessary to be considered well capitalized.

At March 31, 2024, our liquidity position remained strong, with the following financial balances (unaudited), compared to December 31, 2023:

• Total cash and cash equivalents of approximately $86.5 million, compared to $86.8 million.
• Total liquidity ratio of approximately 11.0%, compared to 11.1%.
• Unpledged, liquid securities at fair value were approximately $127.0 million, compared to $130.0 million.
• Available borrowing capacity from the Federal Home Loan Bank (“FHLB”) secured lines of credit of approximately $395.3 million, compared to $339.2 million. At March 31, 2024, we had overnight FHLB borrowings of $27.0 million.
• Available borrowing capacity from the Federal Reserve Discount Window program was approximately $125.4 million, compared to $141.6 million. There were no outstanding borrowings under this program at March 31, 2024.
• Available borrowing capacity from three unsecured credit lines from correspondent banks totaling $75.0 million at both period ends. There were no outstanding borrowings on these lines at March 31, 2024.
• Did not participate in Federal Reserve Bank Term Funding Program borrowings at March 31, 2024.
• Total available borrowing capacity was approximately $595.7 million at March 31, 2024, compared to $555.8 million.
• Total available liquidity was approximately $809.2 million at March 31, 2024.

We continue to monitor macroeconomic variables related to increasing interest rates, inflation, and concerns regarding an economic downturn, and its potential effects on our business, customers, employees, communities and markets. The following challenges could have an impact on our business, consolidated financial condition or near- or longer-term consolidated results of operations:

• Slower loan growth and declining deposits;
• Difficulty retaining and attracting deposit relationships;
• Credit quality deterioration of our loan portfolio resulting in additional provision for credit losses and impairment charges;
• Margin pressure as we increase deposit rates in response to potential further rate increases by our competitors;
• Increases in other comprehensive loss from the unrealized losses on available-for-sale debt securities; and
• Liquidity stresses to maintain sufficient levels of high-quality liquid assets and access to borrowing lines.

Financial Highlights

The following table sets forth certain of our financial highlights as of and for each of the periods presented. This data should be read in conjunction with our consolidated financial statements and related notes included herein at Part I - Financial Information, Item 1 - Financial Statements of this filing.

($ in thousands except share and per share data)

52

(1) Refer to Non-GAAP Financial Measures in the Management's Discussion and Analysis of Financial Condition and Results of Operations of this filing.

Non-GAAP Financial Measures

This filing contains certain non-GAAP financial measures in addition to results presented in accordance with GAAP. We believe the presentation of certain non-GAAP financial measures provides information useful to assess our consolidated financial condition and consolidated results of operations and to assist investors in evaluating our consolidated financial results relative to our peers. These non-GAAP financial measures complement our GAAP reporting and are presented below to provide investors and others with information that we use to manage the business each period. Because not all companies use identical calculations, the presentation of these non-GAAP financial measures may not be comparable to other similarly titled measures used by other companies. These non-GAAP measures should be taken together with the corresponding GAAP measures and should not be considered a substitute of the GAAP measures.

(1) Efficiency ratio is computed by dividing noninterest expense by total net interest income and noninterest income. We measure our success and the productivity of our operations through monitoring of the efficiency ratio. Adjusted noninterest expense is computed by adjusting noninterest expense for merger related expense adjustments for the period indicated. Adjusted efficiency ratio is computed by dividing adjusted noninterest expense by total net interest income and noninterest income.

(2) Pre-tax pre-provision income is computed by adding net interest income and noninterest income and subtracting noninterest expense. This non–GAAP financial measure provides a greater understanding of pre–tax profitability before giving effect to credit loss expense. Adjusted pre-tax pre-provision income is computed by adding net interest income and noninterest income and subtracting adjusted noninterest expense.

(3) Adjusted net income is computed by adjusting net income for tax-effected merger related expense adjustments for the periods indicated.

(4) Average tangible common equity is computed by subtracting goodwill and core intangible deposits, net, from average shareholders’ equity.

(5) Adjusted return on average assets is computed by dividing annualized adjusted net income by average assets. Adjusted return on average equity is computed by dividing annualized adjusted net income by average shareholders’ equity.

(6) Return on average tangible common equity is computed by dividing net income by average tangible common equity. It helps us measure our performance of businesses consistently, whether they were acquired or developed internally. Adjusted return on average tangible common equity is computed by dividing adjusted net income by average tangible common equity

(7) Tangible common equity and tangible assets are computed by subtracting goodwill and core deposit intangibles, net, from total shareholders’ equity and total assets, respectively.

(8) Tangible common equity to tangible assets ratio is computed by dividing tangible common equity by tangible assets.

(9) Tangible book value per share is computed by dividing tangible common equity by total common shares outstanding. We consider tangible book value per share a meaningful measure because it suggests what our common shareholders can expect to receive if we are in financial distress and are forced to liquidate our assets at the book value price. Intangible assets like goodwill are not a part of the process since they cannot be sold for cash during liquidation.

We consider average tangible common equity, tangible common equity, and tangible common equity to tangible asset ratio as useful additional methods to evaluate our capital utilization and adequacy to withstand unexpected market conditions. These ratios differ from the regulatory capital ratios principally in that the numerator excludes goodwill and other intangible assets.

The following tables present a reconciliation of non-GAAP financial measures to GAAP measures for the periods indicated:

(dollars in thousands)

(1) After-tax merger and related expenses are presented using a 29.56% tax rate.

(dollars in thousands, except per share amounts)

Results of Operations

Net Income

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

Net income for the three months ended March 31, 2024 was $4.9 million, or $0.26 per diluted share, compared to $4.4 million or $0.24 per diluted share in the prior quarter. The $523 thousand increase in net income from the prior quarter was primarily due to a $1.5 million increase in noninterest income, a $1.2 million decrease in the (reversal of) provision for credit losses, and a $358 thousand decrease in noninterest expense, partially offset by a $2.1 million decrease in net interest income. Pre-tax, pre-provision income for the three months ended March 31, 2024 was $6.9 million, a decrease of $192 thousand, or 2.7% compared to pre-tax, pre-provision income of $7.1 million for the three months ended December 31, 2023.

Net income for the three months ended March 31, 2024 was $4.9 million, or $0.26 per diluted share, compared to a net income of $8.2 million, or $0.44 per diluted share for the same 2023 period. The $3.3 million decrease in net income from the three months ended March 31, 2023 was primarily due to a $4.4 million decrease in net interest income, partially offset by a $695 thousand decrease in income taxes, a $533 thousand decrease in the (reversal of) provision for credit losses. Pre-tax, pre-provision income for the three months ended March 31, 2024 was $6.9 million, a decrease of $4.5 million, or 39.5% compared to pre-tax, pre-provision income of $11.4 million for the same 2023 period.

Net Interest Income and Margin

Net interest income is our primary source of revenue, which is the difference between interest income on loans, debt securities and other investments (collectively, “interest-earning assets”) and interest expense on deposits and borrowings (collectively, “interest-bearing liabilities”). Net interest margin represents net interest income expressed as a percentage of interest-earning assets. Net interest income is affected by changes in volume, mix, and rates of interest-earning assets and interest-bearing liabilities, as well as days in a period. We closely monitor both total net interest income and the net interest margin and seek to maximize net interest income without exposing us to an excessive level of interest rate risk through our asset and liability management policies. The following table presents interest income, average interest-earning assets, interest expense, average interest-bearing liabilities, and their corresponding yields and costs for the periods indicated:

($ in thousands)

(1) Total loans are net of deferred loan origination fees/costs and discounts/premiums, and include average balances of loans held for sale and nonperforming loans. Interest income includes accretion of net deferred loan fees and net purchased discounts of $604 thousand, $501 thousand and $532 thousand for the three months ended March 31, 2024, December 31, 2023, and March 31, 2023, respectively.

(2) Tax-exempt debt securities yields are presented on a tax equivalent basis using a 21% tax rate.

(3) Average noninterest-bearing deposits represent 34.35%, 36.76% and 46.69% of average total deposits for the three months ended March 31, 2024, December 31, 2023, and March 31, 2023, respectively.

(4) Annualized net interest income divided by average interest-earning assets.

(5) Total deposits is the sum of interest-bearing deposits and noninterest-bearing deposits. The cost of deposits is calculated as annualized total interest expense on deposits divided by average total deposits.

(6) Total funding is the sum of total interest-bearing liabilities and noninterest-bearing deposits. The cost of total funding is calculated as annualized total interest expense divided by average total funding.

Rate/Volume Analysis

The following table presents the changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. Information is provided on changes attributable to (i) changes in volume multiplied by the prior rate and (ii) changes in rate multiplied by the prior volume. Changes attributable to both rate and volume which cannot be segregated have been allocated proportionately to the change due to volume and the change due to rate.

($ in thousands)

58

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

Net interest income for the three months ended March 31, 2024 was $20.5 million, compared to $22.6 million in the prior quarter. The $2.1 million decrease in net interest income was due to higher average balances and costs of interest-bearing liabilities, coupled with lower average balances and yields on interest-earning assets.

Net interest margin for the three months ended March 31, 2024 was 3.80%, compared with 4.05% in the prior quarter. The decrease was primarily related to a 22 basis point increase in the cost of funds, coupled with a 6 basis point decrease in the total average interest-earning assets yield. The yield on total average earning assets during the three months ended March 31, 2024 was 5.79%, compared with 5.85% in the prior quarter. The yield on total average loans during the three months ended March 31, 2024 was 6.02%, a decrease of 6 basis points from 6.08% in the prior quarter. The yield on average total loans during the three months ended March 31, 2024 included the impact of the reversal of a nonaccrual loan's interest income of $168 thousand, which decreased the overall loan yield by 4 basis points. There was no significant reversal of interest income in the prior quarter.

During the three months ended March 31, 2024, total interest income decreased by $1.3 million to $31.3 million, comprised primarily of a $1.4 million decrease in loan interest income and a $96 thousand decrease in interest and dividend income from other financial institutions and other interest-earning assets, partially offset by a $175 thousand increase in total debt securities income. The decrease in interest income was due to a number of factors: one fewer day in the current quarter than prior quarter, a lower average total loan balance from organic loan growth, a decrease in yield on total average interest-earning assets, a change in the interest-earning asset mix, and the reversal of an aforementioned nonaccrual loan's interest income of $168 thousand. Average total interest-earning assets decreased $38.0 million, the result of a $45.1 million decrease in total average loans, a $2.3 million decrease in average deposits in other financial institutions, partially offset by an $8.6 million increase in average total debt securities, a $763 thousand increase in average Fed funds sold/resale agreements, and a $18 thousand increase in average restricted stock investments and other bank stock. The increase in interest expense during the three months ended March 31, 2024 was primarily due to a $854 thousand increase in interest expense on interest-bearing deposits, the result of a $23.2 million increase in average interest-bearing deposits, coupled with a 26 basis point increase in interest-bearing deposit costs, partially offset by a $94 thousand decrease in interest expense on Federal Home Loan Bank (FHLB) borrowings, the result of a $5.8 million decrease in average FHLB borrowings.

Total cost of funds for the three months ended March 31, 2024 was 2.17%, an increase of 22 basis points from 1.95% in the prior quarter. The increase was primarily driven by a 26 basis point increase in the cost of interest-bearing deposits, an increase in average interest-bearing deposits, and a decrease in average noninterest-bearing deposits. Average noninterest-bearing demand deposits decreased $59.9 million to $661.3 million and represented 34.3% of total average deposits during the three months ended March 31, 2024, compared with $721.2 million and 36.8%, respectively, for the prior quarter; average interest-bearing deposits increased $23.2 million to $1.26 billion during the three months ended March 31, 2024. The total cost of deposits during the three months ended March 31, 2024 was 205 basis points, an increase of 24 basis points from 181 basis points in the prior quarter. The cost of total interest-bearing deposits increased due primarily to repricing deposits in the higher interest rate environment and peer bank deposit competition.

Average total borrowings decreased $5.8 million to $68.5 million for the three months ended March 31, 2024 resulting primarily from a decrease of $5.8 million in average FHLB advances. The average cost of total borrowings was 5.75% for the three months ended March 31, 2024, a 2 basis point increase from 5.73% in the prior quarter.

Net interest income for the three months ended March 31, 2024 was $20.5 million, compared to $24.9 million for the three months ended March 31, 2023. The $4.4 million decrease in net interest income was due to higher average balances and costs of interest-bearing liabilities, partially offset by higher average balances and yields on interest-earning assets.

Net interest margin for the three months ended March 31, 2024 was 3.80%, compared with 4.71% for the same 2023 period. The 91 basis point decrease was primarily related to a 129 basis point increase in the cost of funds, partially offset by a 26 basis point increase in the total average interest-earning assets yield resulting from higher market interest rates and a change in our average interest-earning asset mix. The yield on total average earning assets during the three months ended March 31, 2024 was 5.79%, compared with 5.53% for the same 2023 period. The yield on average loans during the three months ended March 31, 2024 was 6.02%, an increase of 24 basis points from 5.78% for the same 2023 period.

During the three months ended March 31, 2024, total interest income increased $2.1 million, comprised of a $1.6 million increase in total loan interest income, and a $301 thousand increase in total debt securities income, coupled with a $189 thousand increase interest and dividend income from other financial institutions and other interest-earning assets. The increase in interest income was due to a number of factors: higher average loans from organic loan growth; a change in the interest-earning asset mix; and increases in yields on interest-earning assets resulting from increases in the target Fed fund rates. Average interest-earning assets increased $26.9 million, resulting primarily from a $15.0 million increase in average total loans, a $16.4 million increase in average deposits in other financial institutions, a $9.4 million increase in total average debt securities, and a $1.5 million increase in average restricted stock investments and other bank stock, partially offset by a $15.5 million decrease in average Fed fund sold/resale agreements.

During the three months ended March 31, 2024, total interest expense increased by $6.5 million to $10.8 million, comprised primarily of a $5.9 million increase in interest on interest-bearing deposits due to repricing deposits in the higher interest rate environment and peer bank deposit competition, coupled with the increase in average interest-bearing liabilities balances between periods.

Total cost of funds for the three months ended March 31, 2024 was 2.17%, an increase of 129 basis points from 0.88% for the same 2023 period. The increase was primarily driven by a 161 basis point increase in the cost of interest-bearing deposits, coupled with an increase in average interest-bearing deposits, and a decrease in average noninterest-bearing deposits. Average noninterest-bearing demand deposits decreased $253.9 million to $661.3 million and represented 34.3% of total average deposits for the three months ended March 31, 2024, compared with $915.2 million and 46.7%, respectively, for the same 2023 period; average interest-bearing deposits increased $219.1 million to $1.26 billion during the three months ended March 31, 2024. The total cost of deposits for the three months ended March 31, 2024 was 2.05%, up 125 basis points from 0.80% for the same 2023 period.

Average total borrowings increased $36.3 million to $68.5 million for the three months ended March 31, 2024 resulting from a $36.2 million increase in average FHLB advances. The average cost of total borrowings was 5.75% for the three months ended March 31, 2024, a 21 basis point increase from 5.54% for the same 2023 period.

Provision for Credit Losses

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

We recorded a reversal of credit losses of $331 thousand for the three months ended March 31, 2024, compared to a provision for credit losses of $824 thousand in the prior quarter. The reversal of provision for credit losses included a $17 thousand negative provision for unfunded loan commitments primarily due to the impact of lower unfunded loan commitments. Total unfunded loan commitments decreased $22.4 million to $388.4 million at March 31, 2024 from $410.8 million at December 31, 2023. The reversal of credit losses for the loans held for investments for the three months ended March 31, 2024 was $314 thousand, a decrease of $1.4 million from $1.1 million in the prior quarter. The decrease was driven primarily by decreases in net charge-offs, loans held for investment and substandard accruing loans, coupled with changes in the portfolio mix, and a change in our reasonable and supportable forecast, primarily related to the economic outlook for California and a change in historical prepayment and curtailment rates analysis, partially offset by an increase in special mention loans. We continue to monitor macroeconomic variables related to increasing interest rates, inflation and the concerns of an economic downturn, and we believe it is appropriately provisioned for the current environment.

We recorded a reversal of credit losses of $331 thousand for the three months ended March 31, 2024, compared to a provision for credit losses of $202 thousand for the same 2023 period.

We adopted CECL effective January 1, 2023 using the modified retrospective method for all financial assets measured at amortized cost and off-balance sheet credit exposures. The transition adjustment of the CECL adoption included an increase in the allowance for credit losses of $5.5 million, of which included $439 thousand to establish a reserve for unfunded commitments and a $3.9 million decrease to retained earnings to reflect the cumulative effect of adoption of CECL, with the $1.6 million tax impact portion being recorded as part of the deferred tax asset on our Consolidated Balance Sheet. The determination of the ACL in each period is a critical accounting estimate that involves management’s judgments about the loan portfolio that impact credit losses. For additional information on the allowance, see the “Financial Condition — Allowance For Credit Losses” below

Noninterest Income

The following table sets forth the various components of our noninterest income for the periods indicated:

(dollars in thousands)

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

Total noninterest income during the three months ended March 31, 2024 was $1.4 million, an increase of $1.5 million compared to total noninterest loss of $102 thousand in the prior quarter. During the three months ended March 31, 2024, we recorded a gain on sale of loans of $415 thousand, at an average premium of 6.56%, on the sale of $6.3 million in SBA 7(a) loans, compared to no gain on SBA 7(a) loan sales in the prior quarter. In the prior quarter, we recorded a loss on sale of available-for-sale debt securities of $1.0 million in order to redeploy the proceeds into higher-yielding available-for-sale debt securities, for which there was no comparable transaction during the three months ended March 31, 2024.

Servicing and related income on loans was $73 thousand during the three months ended March 31, 2024, compared to $17 thousand for prior quarter. The $56 thousand increase was primarily due to higher net servicing fee income for the current quarter. Net servicing fee income was lower in the prior quarter due to a higher accelerated amortization from loan payoffs.

Total noninterest income during the three months ended March 31, 2024 was $1.4 million, a decrease of $157 thousand compared to total noninterest income of $1.6 million for the same 2023 period. The decrease was due primarily to lower gain on sale of loans, partially offset by higher deposit-related fees, and higher other charges and fees.

Gain on sale of loans was $415 thousand during the three months ended March 31, 2024, compared to a gain of $808 thousand for the same 2023 period. The $393 thousand decrease was primarily due to lower average premium on sales of SBA 7(a) loans during the three months ended March 31, 2024. There were six SBA 7(a) loan sales during the three months ended March 31, 2024, compared to seven SBA loans sold with a net carrying value of $9.9 million, resulting in a gain of $797 thousand, at an average premium of 8.04% and one non-SBA loan with a net carrying value of $39 thousand, resulting in a gain of $11 thousand during the three months ended March 31, 2023.

Service charges and fees on deposit accounts was $362 thousand, an increase of $100 thousand, compared to $262 thousand for the same 2023 period. The increase was primarily due to higher analysis charges for certain deposit accounts.

Other charges and fees during the three months ended March 31, 2024 was $139 thousand, an increase of $114 thousand compared to $25 thousand for the same 2023 period. The increase was due primarily to a higher OREO income in the current quarter. There was no OREO income for the same 2023 period.

Noninterest Expense

The following table sets forth the various components of our noninterest expense for the periods indicated:

(dollars in thousands)

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

Total noninterest expense during the three months ended March 31, 2024 was $15.0 million, a decrease of $358 thousand compared with total noninterest expense of $15.3 million in the prior quarter. The decrease was primarily due to decreases in occupancy and equipment expenses, legal, audit and professional fees, and other expenses, partially offset by increases in merger and related expenses of $549 thousand.

Occupancy and equipment expenses was $1.5 million during the three months ended March 31, 2024, compared to $1.7 million during the prior quarter. The $226 thousand decrease in occupancy and equipment expenses was due primarily to an impairment charge of $134 thousand related to the right-of-use asset associated with a Company lease in the prior quarter.

Legal, audit and professional expenses were $516 thousand during the three months ended March 31, 2024, compared to $1.2 million during the prior quarter. The $645 thousand decrease was due primarily to a decrease in legal and consulting expenses related to compliance projects and loan review projects incurred in the prior quarter.

Merger and related expenses were $549 thousand during the three months ended March 31, 2024 related to the recently announced merger with California BanCorp, which is expected to be completed later this year. There were no merger and related expenses in the prior quarter.

Other expenses were $1.0 million during the three months ended March 31, 2024, compared to $1.1 million in the prior quarter. The $88 thousand decrease in other expenses was primarily due to decreases in office expense, customer service related expense, and marketing, advertising and public relation expense, partially offset by an increase in loan related expense.

Our efficiency ratio for the three months ended March 31, 2024 was 68.4%, compared to 68.3% for the three months ended December 31, 2023. Excluding the merger and related expenses of $549 thousand, the efficiency ratio for the three months ended March 31, 2024 would have been 65.9%.

Total noninterest expense during the three months ended March 31, 2024 was $15.0 million, a decrease of $38 thousand compared with total noninterest expense of $15.0 million for the same 2023 period. The decrease was primarily due to decreases in salaries and employee benefits, legal, audit and professional costs, partially offset by increases in merger and related expenses, and other expenses.

Salaries and employee benefits were $9.6 million during the three months ended March 31, 2024, compared to $10.2 million for the same 2023 period. The $631 thousand decrease in salaries and benefits was due primarily to accelerated stock compensation expense related to the vesting of performance-based restricted stock

units of $632 thousand recorded during the three months ended March 31, 2023. There were no accelerated stock compensation related expenses for the three months ended March 31, 2024.

Legal, audit and professional expenses were $516 thousand during the three months ended March 31, 2024, compared to $785 thousand for the same 2023 period. The $269 thousand decrease was due primarily to a decrease in legal expenses related to the higher legal expenses associated with preparation for the Company's listing to Nasdaq during the three months ended March 31, 2023.

There were $549 thousand merger and related expenses during the three months ended March 31, 2024, related to the recently announced merger with California BanCorp, which is expected to be completed later this year. There were no merger and related expenses during the three months ended March 31, 2023.

Other expenses were $1.0 million during the three months ended March 31, 2024, compared to $734 thousand for the same 2023 period. The $315 thousand increase was due primarily to the increases in loan related expenses, customer service related expenses, travel expenses and insurance expenses, partially offset by the decreases in sundry losses during the three months ended March 31, 2024.

Our efficiency ratio for the three months ended March 31, 2024 was 68.4%, compared to 56.8% for the three months ended March 31, 2023. Excluding the merger and related expenses of $549 thousand, the efficiency ratio for the three months ended March 31, 2024 would have been 65.9%.

Income Taxes

Three Months Ended March 31, 2024 Compared to Three Months Ended December 31, 2023

Income tax expense during the three months ended March 31, 2024 was $2.3 million, compared to $1.9 million in the prior quarter. The effective rate was 32.0% during the three months ended March 31, 2024, compared to 29.9% for the prior quarter. The increase in the effective tax rate between periods was primarily due to the impact of the non-tax deductible portion of the merger expenses and the vesting and exercise of equity awards combined with changes in the Company's stock price over time, and excess executive compensation.

Income tax expense for the three months ended March 31, 2024 was $2.3 million, compared to $3.0 million for the same 2023 period. The effective rate was 32.0% during the three months ended March 31, 2024, compared to 26.8% for the same 2023 period. The increase in the effective tax rate between periods was primarily due to the impact of the non-tax deductible portion of the merger expenses and the vesting and exercise of equity awards combined with changes in the Company's stock price over time, and excess executive compensation.

Financial Condition

Summary

Total assets at March 31, 2024 were $2.29 billion, a decrease of $70.5 million from $2.36 billion at December 31, 2023. The decrease in total assets was primarily related to a $251 thousand decrease in cash and cash equivalents, a $73.8 million decrease in loans held for investment, net (including ACL), a $4.5 million decrease in loans held for sale, a $3.2 million decrease in total debt securities, a $933 thousand decrease in deferred tax asset, and a $580 thousand decrease in right of use asset, partially offset by a $13.1 million increase in OREO, net.

Total liabilities were $2.00 billion at March 31, 2024, a decrease of $74.9 million from $2.07 billion at December 31, 2023. The decrease in total liabilities was driven by a $13.0 million decrease in total deposits, and a $677 thousand decrease in operating lease liability, coupled with a $58.0 million decrease in borrowings. Shareholders’ equity was $292.5 million at March 31, 2024, an increase of $4.3 million from $288.2 million at December 31, 2023. The increase in shareholders’ equity was driven by $4.9 million of net income generated during the three months ended March 31, 2024, $895 thousand related to share-based compensation activity, partially offset by a $1.7 million increase in net of tax unrealized losses on available-for-sale debt securities during the period.

Debt Securities

Our debt securities portfolio consists of both held-to-maturity and available-for-sale securities aggregating $180.5 million and $183.7 million at March 31, 2024 and December 31, 2023, respectively. Our held-to-maturity debt securities and available-for-sale debt securities represented 2.34% and 5.54%, respectively, of total assets at March 31, 2024, compared to 2.27% and 5.51%, respectively, at December 31, 2023.

During the three months ended March 31, 2024, there were no transfers between held-to-maturity and available-for-sale debt securities.

At March 31, 2024 and December 31, 2023, held-to-maturity debt securities with an amortized cost of $53.5 million and $53.6 million, respectively, were pledged to the Federal Reserve Bank as collateral for a secured line of credit of $46.3 million and $47.3 million, respectively,

Held-to-Maturity Debt Securities

The amortized cost of held-to-maturity debt securities and their approximate fair values at March 31, 2024 and December 31, 2023 were as follows:

(dollars in thousands)

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At March 31, 2024, we had 61 held-to-maturity debt securities in a gross unrealized loss position with an amortized cost basis of $53.5 million with pre-tax unrealized losses of $4.0 million, compared to 58 held-to-maturity debt securities with an amortized cost basis of $51.5 million with pre-tax unrealized losses of $3.2 million at December 31, 2023. The effective duration of the held-to-maturity debt securities was 6.39 years and 5.58 years at March 31, 2024 and December 31, 2023, respectively. We have the intent and ability to hold the securities classified as held to maturity until they mature, at which time we will receive full value for the securities.

All held-to-maturity debt securities were municipal securities, and historically have had limited credit loss experience. At March 31, 2024 and December 31, 2023, the total fair value of taxable municipal and tax exempt bank-qualified municipal securities were $475 thousand and $478 thousand, respectively, and $49.1 million and $50.0 million, respectively. At March 31, 2024 and December 31, 2023, the total held-to-maturity debt securities rated AA and above was $46.2 million and $47.0 million, respectively, and rated AA- was $3.3 million and $3.4 million, respectively. Accordingly, we applied a zero credit loss assumption for these securities and no allowance for credit loss was recorded as of March 31, 2024 and December 31, 2023.

Available-for-Sale Debt Securities

The amortized cost of available-for-sale debt securities and their approximate fair values at March 31, 2024 and December 31, 2023 were as follows:

(dollars in thousands)

The estimated fair value of available-for-sale debt securities were $127.0 million at March 31, 2024, a decrease of $3.1 million, from $130.0 million at December 31, 2023. The decrease was primarily due to principal reductions and amortization of discounts and premiums aggregating to $2.7 million, and fair value market adjustments of $2.4 million, partially offset by purchases of $2.0 million.

At March 31, 2024, we had 84 available-for-sale debt securities in a gross unrealized loss position with an amortized cost basis and fair value of $123.9 million and $115.0 million, respectively, with pre-tax unrealized losses of $8.9 million, compared to 76 available-for-sale debt securities with an amortized cost basis and fair value of $100.7 million and $93.5 million, respectively with pre-tax unrealized holding losses of $7.1 million at December 31, 2023. The net of tax unrealized loss on available-for-sale debt securities is reflected in accumulated other comprehensive loss. The effective duration of this portfolio was 5.24 years and 5.13 years at March 31, 2024 and December 31, 2023, respectively. We do not have the current intent to sell these available-for-sale debt securities with a fair value below amortized cost, and it is more likely than not that we will not be required to sell such securities prior to the recovery of their amortized cost basis. The issuers of these securities have not, to our knowledge, established any cause for default on these securities. As a result, we expect to recover the entire amortized cost basis of these securities.

When market interest rates increase, bond prices tend to fall and, consequently, the fair value of our securities may also decrease. Increases in longer-term market interest rates during 2023 and into 2024 have resulted in higher net unrealized losses in our debt securities. There may be further net unrealized losses on our debt securities classified as available–for-sale, which would negatively affect our total and tangible shareholders’ equity.

We determined that the increase in unrealized losses related to each available-for-sale debt securities at March 31, 2024 was primarily attributable to factors other than credit related, including general volatility in market conditions. Our available-for-sale debt securities consisted of U.S. Treasury, U.S. government and agency and government sponsored enterprise securities, and municipals which are issued, guaranteed, or supported by the U.S. government, and historically have had limited credit loss experience. In addition, we reviewed the credit rating of the municipal securities. At March 31, 2024, the total fair value of taxable municipal and tax exempt bank-qualified municipal securities was $1.4 million and $804 thousand, respectively. All of these available-for-sale debt securities rated AA and above totaled $2.2 million. At December 31, 2023, the total fair value of taxable municipal and tax exempt bank-qualified municipal securities was $1.4 million and $810 thousand, respectively. These available-for-sale debt securities rated AA and above totaled $1.4 million and rated AA+ totaled $810 thousand at December 31, 2023. Accordingly, we applied a zero credit loss assumption for these securities and no ACL was recorded as of March 31, 2024 and December 31, 2023.

The amortized cost, estimated fair value and weighted average yield of held-to-maturity and available-for-sale debt securities as of March 31, 2024 are presented below by contractual maturities. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

(dollars in thousands)

(1) Weighted average yields are computed based on the amortized cost of the individual underlying securities.

The following table presents the amortized cost and weighted average yields using amortized cost of held-to-maturity debt securities as of March 31, 2024, based on the contractual maturity dates:

The following table presents the fair value and weighted average yields using amortized cost of available-for-sale debt securities as of March 31, 2024, based on the contractual maturity dates:

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Loans Held for Sale

Loans held for sale consist of SBA 7(a) loans originated and held for sale in the secondary market. At March 31, 2024, loans held for sale totaled $2.8 million, compared to $7.3 million loans held for sale at December 31, 2023. Loans held for sale at March 31, 2024 are expected to be sold in the secondary market in 2024.

During the three months ended March 31, 2024, we originated $1.8 million of SBA 7(a) loans. During the three months ended March 31, 2024, loan sales related to six SBA loans with a net carrying value of $6.3 million, resulted in a gain of $415 thousand, at an average premium of 6.56%. This compares to seven SBA loans sold with a net carrying value of $9.9 million resulting in a gain on sale of $797 thousand, at an average premium of 8.04%, and one non-SBA loan with a net carrying value of $39 thousand, resulting in a gain of $11 thousand during the three months ended March 31, 2023.

Loans Held for Investment

The composition of our loans held for investment at March 31, 2024 and December 31, 2023 was as follows:

(dollars in thousands)

(1) Loans held for investment includes net unearned fees of $1.7 million and $2.3 million and net unearned discounts of $1.4 million and $1.4 million at March 31, 2024 and December 31, 2023, respectively.

Total loans held for investment were $1.88 billion, or 82.2% of total assets, at March 31, 2024, a decrease of $74.2 million from $1.96 billion, or 82.9% of total assets, at December 31, 2023. The change during the three months ended March 31, 2024, was due primarily to originations of $28.9 million and net advances of $8.0 million, offset by payoffs and transfer to OREO of $98.3 million and $13.0 million, respectively.

Loans secured by real estate, defined as construction and land development loans and real estate - other loans, decreased by $32.2 million to $1.60 billion at March 31, 2024. The decrease in loans secured by real estate was primarily driven by a $1.4 million decrease in construction and land development loans, and a $37.4 million decrease in multifamily residential loans, partially offset by a $5.5 million increase in 1-4 family residential loans, and $1.1 million increase in commercial real estate and other loans

Commercial and industrial loans were $279.8 million at March 31, 2024, a decrease of $40.4 million from $320.1 million at December 31, 2023. The decrease in commercial and industrial loans was primarily attributable to net paydowns of $4.8 million and payoffs of $39.4 million, partially offset by originations of $4.6 million.

Loan Maturities

The following table sets forth the amounts of gross loans, by maturity, at March 31, 2024:

(dollars in thousands)

The following table sets forth the amounts of gross loans, due after one year, presented by fixed or floating interest rates at March 31, 2024:

(dollars in thousands)

Loan Concentrations

Commercial real estate loans are generally viewed as having more risk of default than residential real estate loans. They are also typically larger than most residential real estate loans and consumer loans and depend on cash flows from the owner’s business or the property to service the debt. Because our loan portfolio, including loans held for sale, contains a number of CRE loans with relatively large balances, the deterioration of one or a few of these loans could cause a significant increase in our levels of nonperforming assets. Approximately 54.4% of our total loan portfolio, including loans held for sale, is comprised of commercial real estate loans as of March 31, 2024 as presented below:

(dollars in thousands)

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(dollars in thousands)

1. CRE loans include owner-occupied CRE and non-owner occupied CRE loans, but exclude farmland loans. Balance includes loans held for sale and loans held for investment.

2. Weighted average LTV is based on current loan balance as of March 31, 2024, and collateral value at origination or renewal.

The following table presents the percentages of our commercial real estate loans broken out by occupancy as of March 31, 2024:

1. CRE loans include owner-occupied CRE and non-owner occupied CRE loans, but exclude farmland loans. Balance includes loans held for sale and loans held for investment.

With the increases in remote work over the last few years, rising interest rates and increasing vacancy rates nationwide, commercial real estate loans collateralized by office properties have unique credit risks. We attempt to reduce our credit risk within this portfolio by emphasizing loan-to-value ratios and debt service ratios. The following table presents a summary of the balances and weighted average loan-to-values of office loans and medical/dental office loans within our commercial real estate loan portfolio as of March 31, 2024:

(dollars in thousands)

1. Weighted average LTV is based on current loan balance as of March 31, 2024, and collateral value at origination or renewal.

Delinquent Loans

A summary of past due loans, loans still accruing and nonaccrual loans as of March 31, 2024 and December 31, 2023 follows:

(dollars in thousands)

(dollars in thousands)

There were no past due loans still accruing at March 31, 2024. The $19 thousand 30-59 days past due loan was paid off during the three months ended March 31, 2024.

Total nonaccrual loans decreased during the three months ended March 31, 2024 to $6.2 million primarily due to the transfer of a nonaccrual multifamily loan with a net carrying value of $13.0 million to OREO, and the addition of a three-year multifamily bridge loan collateralized by an 8-unit multifamily apartment building located in Los Angeles, California, originated in May 2022 with an original loan-to-value of 75%, with a carrying value of $6.2 million, that was downgraded from a Pass risk rating to nonaccrual during the three months ended March 31, 2024. The property has one 10% owner and guarantor in common with the OREO multifamily property discussed later. Given the subject loan's relationship with the previously foreclosed OREO, the Company acted conservatively to downgrade the loan to nonaccrual when it was less than 90 days past due, at which time the borrower defaulted on the subject loan's collateral property taxes. A court appointed receiver was in place at the end of March 2024 and the Company is pressing forward with the foreclosure process.

The following table presents the risk categories for total loans by class of loans as of March 31, 2024 and December 31, 2023:

(dollars in thousands)

71

(dollars in thousands)

(dollars in thousands)

Special mention loans increased by $36.6 million during the three months ended March 31, 2024 to $39.6 million at March 31, 2024 due mostly to a $10.4 million increase in special mention construction and land development loans, a $4.8 million increase in special mention 1-4 family residential loans, a $9.2 million increase in special mention commercial real estate loans, and $12.2 million increase in special mention commercial and industrial loans.

Substandard loans decreased by $8.2 million during the three months ended March 31, 2024 to $11.3 million at March 31, 2024 due mostly to the aforementioned multifamily nonaccrual loan transferred to OREO during the first quarter, and one commercial real estate loan of $906 thousand that was paid off, partially offset by a downgrade of a multifamily loan of $6.2 million.

There were no loans classified as doubtful or loss loans at March 31, 2024 and December 31, 2023.

Loan Modifications

We do not have any modifications of loans that were made to borrowers experiencing financial

difficulty during the three months ended March 31, 2024 and March 31, 2023. There were no TDRs at March 31, 2024 and December 31, 2023.

Non-performing Assets

Nonperforming assets consist of loans on which we have ceased accruing interest (nonaccrual loans), OREO, and other repossessed assets owned. Nonaccrual loans consist of all loans 90 days or more past due and on loans where, in the opinion of management, there is reasonable doubt as to the collection of principal and interest.

The following table presents a summary of nonperforming assets, along with corresponding nonperforming asset ratios, as of March 31, 2024 and December 31, 2023:

(dollars in thousands)

72

(dollars in thousands)

At March 31, 2024, nonaccrual and nonperforming loans were $6.2 million, compared to $13.0 million at December 31, 2023. The decrease from December 31, 2023 was due primarily to the transfer of a nonaccrual loan with a net carrying value of $13.0 million to OREO, and the addition of the aforementioned multifamily loan with a carrying value of $6.2 million, that was downgraded from a Pass risk rating to nonaccrual during the three months ended March 31, 2024. We foreclosed on three multifamily properties in Santa Monica, California, and transferred them to OREO, net with their estimated fair value of $13.1 million during the three months ended March 31, 2024. At March 31, 2024, OREO, net was $13.1 million, compared to no OREO at December 31, 2023.

Allowance for Credit Losses

We adopted CECL effective January 1, 2023 using the modified retrospective method for all financial assets measured at amortized cost and off-balance sheet credit exposures. The transition adjustment of the CECL adoption included an increase in the allowance for credit losses of $5.5 million, which included $439 thousand to establish a reserve for unfunded commitments and a $3.9 million decrease to retained earnings to reflect the cumulative effect of adoption of CECL, with the $1.6 million tax impact portion being recorded as part of the deferred tax asset on our Consolidated Balance Sheet.

Our ACL is an estimate of expected lifetime credit losses for its loans held for investment at the time of origination or acquisition and is maintained at a level deemed appropriate by management to provide for expected lifetime credit losses in the portfolio. The ACL consists of: (i) a specific allowance established for CECL on loans individually evaluated, (ii) a quantitative allowance for current expected loan losses based on the portfolio and expected economic conditions over a reasonable and supportable forecast period that reverts back to long-term trends to cover the expected life of the loan, (iii) a qualitative allowance including management judgment to capture factors and trends that are not adequately reflected in the quantitative allowance, and (iv) the ACL for off-balance sheet credit exposure for unfunded loan commitments. Estimating expected credit losses requires management to use relevant forward-looking information, including the use of reasonable and supportable forecasts. We measure the ACL using a discounted cash flow methodology, which utilizes pool-level assumptions and cash flow projections on individual loan basis, which then aggregated at the portfolio segment level and supplemented by a qualitative reserve that is applied to each portfolio segment level. Our ACL model incorporates assumptions for prepayment/curtailment rates with covering the period starting from December 2020 to estimate the ACL, probability of default (“PD”), and loss given default (“LGD”) to project each loan’s cash flow throughout its entire life cycle.

Accrued interest receivable on loans receivable, net totaled $6.3 million and $6.4 million at March 31, 2024 and December 31, 2023, respectively, and is included within accrued interest receivable and other assets in the accompanying consolidated balance sheets. Accrued interest receivable is excluded from the ACL.

The following table presents a summary of the changes in the ACL for the periods indicated:

(dollars in thousands)

(1) Represents the impact of adopting ASU 2016-13, Financial Instruments - Credit Losses on January 1, 2023. As a result of adopting ASU 2016-13, our methodology to compute our ACL is based on a CECL methodology, rather than the previously applied incurred loss methodology.

The following table presents a summary of the ALL by portfolio segment, along with the corresponding percentage of each segment to total loans as of periods indicated:

(dollars in thousands)

The ALL was $22.3 million at March 31, 2024, compared to $22.6 million at December 31, 2023. The $315 thousand change in the ALL during the three months ended March 31, 2024 was driven by a number of factors, including decreases in net charge-offs, loans held for investment of $74.2 million and substandard accruing loans of $1.4 million, coupled with changes in the portfolio mix, and a change in the reasonable and supportable forecast, primarily related to the economic outlook for California and change and historical prepayment and curtailment rates analysis, partially offset by an increase in special mention loans of $36.6 million. We also updated qualitative risk factors based on the our judgment of our market area, industry or business specific data, changes in underlying loan composition of specific portfolios, trends relating to credit quality, delinquency, non-performing and adversely rated loans, model imprecision and reasonable and supportable forecasts of economic conditions that were not captured in the quantitative analysis. Management continues to monitor macroeconomic variables related to increasing interest rates, inflation and the concerns of an economic downturn, and believes it is appropriately provisioned for the current environment.

At March 31, 2024, our ratio of ALL to total loans held for investment was 1.18%, and increase from 1.15% at December 31, 2023.

We evaluated numerous key macroeconomic variables within the economic forecast scenarios from Moody’s Analytics. At March 31, 2024, we used the probability-weighted two-scenario forecasts, representing a base-case scenario and one downside scenario, to estimate the ACL. The economic forecasts released by Moody’s Analytics during the fourth week of March 2024. Other sources of economic forecasts and meeting minutes of the Federal Open Market Committee meeting were also considered by us when determining the scenario weighting. At March 31, 2024 as compared to December 31, 2023, the Moody’s economic forecast suggested a minimal change in the interest-rate forecasts, the national unemployment rate and the national gross domestic product forecast based on the current economic data, which included the impact of the ongoing inflationary pressures throughout the U.S. economy, general uncertainty concerning future economic conditions, the potential for recessionary conditions, political uncertainty, geopolitical instability, and the financial system turmoil and related governmental and other reactions to the rising interest rate environment. The underlying assumptions in the Moody’s economic forecasts supporting the baseline forecast remained consistent in the expectation that the Federal Reserve is done raising rates and will continue to reduce the Federal Reserve’s balance sheet through quantitative tightening. This resulted in no change in Moody’s expectation that the Federal Reserve’s first rate cut would take place in the second quarter of 2024, and that a Fed funds rate of 5.25% combined with continued reductions in the Federal Reserve’s balance sheet will be sufficient to slow the economy and bring inflation back to the Federal Reserve’s target rate of 2% without tipping the economy into recession. Moody’s expectation is for the unemployment rate to edge slightly higher, reaching 4% by the end of 2024 before peaking just above that in mid-2025. These forecasts suggested little change from the December 2023 forecasts in their national outlook. Their outlook for Gross Domestic Product (“GDP”) growth rate was improved to 2.5% in 2024 and 1.5% in 2025. This is consistent with the Federal Reserve’s outlook for GDP growth of 2.1% in 2024, and consistent with the Conference Board’s forecast for GDP growth of 2.1% in 2024 and 1.5% in 2025.

Moody’s economic forecasts for California are marginally more pessimistic than the December 2023

forecasts, especially in unemployment rate and state GDP. Moody’s baseline forecast suggested unemployment

rate and GDP for California will peak in the second quarter of 2024 at 5.13% and 2.53%, respectively, with those

numbers dropping to 4.96% and 0.98%, respectively, in the first quarter of 2025. Moody’s downside scenario

suggested the unemployment of 5.90% in the second quarter of 2024, peaking at 7.39% in the first quarter of

2025, with GDP of 2.19% in the second quarter of 2024, troughing at -0.85% in the first quarter of 2025, for an

average of 0.27% for the year. The pessimistic changes in key economic forecasts for California would have a

negative impact to the Company ACL. During the first quarter of 2024, the Company updated its historical

prepayment and curtailment rates analysis, and they increased slightly due to higher payoffs and paydowns.

During the three months ended March 31, 2024, changes in loan volume/mix and qualitative risk factors decreased the ACL by approximately $712 thousand, changes in projected loss drivers and prepayment/ curtailment rates assumptions increased the ACL by approximately $200 thousand, and changes in classified loans increased the ACL by approximately $198 thousand. Net charge-offs during the period were $1 thousand.

The ACL process involves subjective and complex judgments and is reflective of significant uncertainties that could potentially result in materially different results under different assumptions and conditions. We review the level of the allowance at least quarterly and performs a sensitivity analysis on the significant assumptions utilized in estimating the ACL for collectively evaluated loans. Applying a 100% probability weighting to the downside scenario rather than using the probability-weighted two scenario approach would result in an increase in ACL by approximately $3.4 million, or an additional 18 basis points to the ALL to total loans held for investment ratio. This sensitivity analysis and related impact on the ACL is a hypothetical analysis and is not intended to represent management’s judgments or assumptions of qualitative loss factors that were utilized at March 31, 2024.

The following table presents net charge-offs, average loans and net charge-offs as a percentage of average loans for the periods indicated:

(dollars in thousands)

Allowance for Credit Losses on Off-Balance Sheet Commitments

We also maintain a separate allowance for off-balance sheet commitments, which is included in accrued interest payable and other liabilities in our consolidated balance sheets. Management evaluates the loss exposure for off-balance sheet commitments to extend credit following the same principles used for the ACL, with consideration for experienced utilization rates on client credit lines and the inherently lower risk of unfunded loan commitments relative to disbursed commitments. The allowance for off-balance sheet commitments totaled $916 thousand and $933 thousand at March 31, 2024 and December 31, 2023, respectively. The change in the allowance for off-balance sheet commitments between periods was the result of a $17 thousand reversal of provision for credit losses on unfunded loan commitments from lower unfunded loan commitment balances at March 31, 2024. Total unfunded loan commitments decreased $22.4 million to $388.4 million at March 31, 2024, from $410.8 million at December 31, 2023.

Servicing Asset and Loan Servicing Portfolio

We sell loans in the secondary market and, for certain loans, retain the servicing responsibility. The loans serviced for others were accounted for as sales and are therefore not included in the accompanying consolidated balance sheets. We receive servicing fees ranging from 0.25% to 1.00% for the services provided over the life of the loan; the servicing asset is initially recognized at fair value based on the present value of the estimated future net servicing income, incorporating assumptions that market participants would use in their estimates of fair value. The risks inherent in the SBA servicing asset relates primarily to changes in prepayments that result from shifts in interest rates and a reduction in the estimated future cash flows. The servicing asset activity includes additions from loan sales with servicing retained and acquired servicing rights and reductions from amortization as the serviced loans are repaid and servicing fees are earned. Loans serviced for others totaled $63.6 million and $58.8 million at March 31, 2024 and December 31, 2023, respectively. This includes SBA loans serviced for others of $40.4 million at March 31, 2024 and $35.4 million at December 31, 2023 for which there was a related servicing asset of $624 thousand and $546 thousand, respectively. The fair value of the servicing asset approximated its carrying value at March 31, 2024 and December 31, 2023. Consideration for each SBA loan sale includes the cash received and the fair value of the related servicing asset. The significant assumptions used in the valuation of the SBA servicing asset at March 31, 2024 included a weighted average discount rate of 14.3% and a weighted average prepayment speed assumption of 18.9%. The significant assumptions used in the valuation of the SBA servicing asset at December 31, 2023 included a weighted average discount rate of 16.1% and a weighted average prepayment speed assumption of 19.0%.

Goodwill and Core Deposit Intangibles

Goodwill totaled $37.8 million at March 31, 2024 and December 31, 2023.

Core deposit intangibles totaled $1.1 million and $1.2 million at March 31, 2024 and December 31, 2023, respectively. The $65 thousand decrease in core deposit intangibles between periods was the result of amortization during the period. At March 31, 2024, core deposit intangibles had a weighted average remaining amortization period of 5.9 years.

Refer to Note 5 - Goodwill and Other Intangible Assets of the Notes to Consolidated Financial Statements included in Part I - Financial Information - Item 1. Financial Statements of this filing for more information regarding business combinations and related activity.

Deposits

The following table presents the composition of deposits, related percentage of total deposits, and spot rates, as of March 31, 2024 and December 31, 2023:

(dollars in thousands)

(1) Weighted average interest rates at March 31, 2024 and December 31, 2023.

(2) Included ICS products of $241.7 million and $265.8 million at March 31, 2024 and December 31, 2023, respectively.

(3) Included ICS products of $3.6 million and $8.3 million at March 31, 2024 and December 31, 2023, respectively.

We offer our depositors access to the Insured Cash Sweep (“ICS Product”), which allows us to divide customers deposits that exceed the FDIC insurance limits into smaller amounts, below the FDIC insurance limits, and place those deposits in other participating FDIC insured institutions with the convenience of managing all deposit accounts through our Bank. Our total deposits in the ICS Product decreased to $245.3 million, or 12.7% of total deposits at March 31, 2024, compared to $274.1 million, or 14.1% of total deposits at December 31, 2023.

Total deposits were $1.93 billion at March 31, 2024, a decrease of $13.0 million from $1.94 billion at December 31, 2023. The decrease in total deposits was primarily driven by a $28.7 million decrease in ICS deposits, and a $23.1 million decrease in noninterest-bearing demand deposits, partially offset by a $29.8 million increase in money market and savings accounts, excluding ICS, and a $5.9 million increase in brokered time deposits, a $701 thousand increase in interest-bearing NOW accounts, excluding ICS, and a $2.4 million increase in time deposits.

At March 31, 2024, noninterest-bearing demand deposits totaled $652.0 million and represented 33.8% of total deposits, compared to $675.1 million or 34.7% at December 31, 2023. At March 31, 2024 and December 31, 2023, total deposits exceeding FDIC deposit insured limits were $833.5 million, or 43% of total deposits and $816.6 million, or 42% of total deposits, respectively.

The following table sets forth the average balance of deposit accounts and the weighted average rates paid for the periods indicated:

(dollars in thousands)

The increase in the weighted average rate on deposits was primarily due to repricing deposits in the higher interest rate environment and peer bank deposit competition during the three months ended March 31, 2024. Beginning in March 2022 through September 2023, the Federal Reserve’s FOMC has raised the target Fed funds rate by 525 basis points.

The following table sets forth the maturities of time deposits at March 31, 2024:

(dollars in thousands)

Borrowings

Total borrowings decreased $58.0 million to $44.9 million at March 31, 2024 from $102.9 million at December 31, 2023. The decrease was attributable to a $58.0 million decrease in FHLB overnight borrowings (refer to Note 7 - Borrowing Arrangements of the Notes to Consolidated Financial Statements included in Part I - Financial Information, Part 1. Financial Statements of this filing).

A summary of outstanding borrowings, and related information, as of or for the three months ended March 31, 2024 and December 31, 2023:

(dollars in thousands)

78

(1) Average balance outstanding includes average net unamortized issuance costs for the periods presented.

(2) Weighted average interest rate includes issuance costs for the periods presented.

Shareholders’ Equity

Total shareholders’ equity was $292.5 million at March 31, 2024, compared to $288.2 million at December 31, 2023. The $4.3 million increase between periods was primarily due to net income of $4.9 million, stock-based compensation expense of $895 thousand, the repurchase of shares in settlement of restricted stock units of $509 thousand, and increase in net of tax of unrealized losses on debt securities available-for-sale of $1.7 million.

On June 14, 2023, we announced an authorized share repurchase plan, providing for the repurchase of up to 550,000 shares of our outstanding common stock, or approximately 3% of our then outstanding shares. Repurchases under the program may occur from time to time in open market transactions, in privately negotiated transactions, or by other means in accordance with federal securities laws and other restrictions. We intend to fund its repurchases from available working capital and cash provided by operating activities. The timing of repurchases, as well as the number of shares repurchased, will depend on a variety of factors, including price; trading volume; business, economic and general market conditions; and the terms of any Rule 10b5-1 plan adopted by us. The repurchase program has no expiration date and may be suspended, modified, or terminated at any time without prior notice.

There were no shares repurchased under this share repurchase plan during the three months ended March 31, 2024.

Tangible book value per common share at March 31, 2024 was $13.69, compared with $13.56 at December 31, 2023. The $0.13 increase in tangible book value per common share during the three months ended March 31, 2024 was primarily the result of net income generated and the impact of share-based compensation expense, partially offset by other comprehensive losses related to changes in unrealized losses, net of taxes on available-for-sale securities. Tangible book value per common share is also impacted by certain other items, including amortization of intangibles, and share changes resulting from share-based compensation results.

The Bank’s leverage capital ratio and total risk-based capital ratio were 12.03% and 14.12%, respectively, at March 31, 2024.

Liquidity and Market Risk Management

Liquidity

Liquidity is a measure of our ability to meet our cash flow requirements, including inflows and outflows of cash for depositors and borrowers, while at the same time meeting our operating, capital and strategic cash flow needs. Several factors influence our liquidity needs, including depositor and borrower activity, interest rate trends, changes in the economy, maturities, re-pricing and interest rate sensitivity of our debt securities, loan portfolio and deposits. We attempt to maintain a total liquidity ratio (liquid assets, including cash and due from banks, federal funds sold, fully disbursed loans held for sale, investments maturing one year or less, and available-for-sale debt securities not pledged as collateral expressed as a percentage of total deposits and short term debt) above approximately 10.0%. Our total liquidity ratios were 11.0% at March 31, 2024 and 11.1% at December 31, 2023. During the three months ended March 31, 2024, we deployed our excess liquidity into repaying a portion of the high cost FHLB overnight advances.

For additional information regarding our operating, investing, and financing cash flows, see “Consolidated Statements of Cash Flows” in our consolidated financial statements contained in Item I. Financial Information, Part 1. Financial Statements of this filing.

Bank of Southern California, N.A.

The Bank’s primary sources of liquidity are derived from deposits from customers, principal and interest payments on loans and debt securities, FHLB advances and other borrowings. The Bank’s primary uses of liquidity include customer withdrawals of deposits, extensions of credit to borrowers, operating expenses, and repayment of FHLB advances and other borrowings. While maturities and scheduled amortization of loans and debt securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by market interest rates, economic conditions, and competition.

At March 31, 2024, we had a secured line of credit of $499.3 million from the FHLB, of which $395.3 million was available. This secured borrowing arrangement is collateralized under a blanket lien on qualifying real estate loans and is subject to us providing adequate collateral and continued compliance with the Advances and Security Agreement and other eligibility requirements established by the FHLB. At March 31, 2024, we had pledged qualifying loans with an unpaid principal balance of $882.9 million for this line. In addition, at March 31, 2024, we used $77.0 million of our secured FHLB borrowing capacity by having the FHLB issue letters of credit to meet collateral requirements for deposits from the State of California and other public agencies. We had an overnight borrowing of $27.0 million at March 31, 2024.

At March 31, 2024, we had credit availability of $125.4 million at the Federal Reserve discount window to the extent of collateral pledged. At March 31, 2024, we had pledged our held-to-maturity debt securities with an amortized cost of $53.5 million, and qualifying loans with an unpaid principal balance of $97.8 million as collateral through the Borrower-in-Custody (“BIC”) program. We had no discount window borrowings at March 31, 2024 and December 31, 2023.

We have three overnight unsecured credit lines from correspondent banks totaling $75.0 million. The lines are subject to annual review. There were no outstanding borrowings under these lines at March 31, 2024 and December 31, 2023.

Southern California Bancorp

The primary sources of liquidity of the Company, on a stand-alone holding company basis, are derived from dividends from the Bank, borrowings, and its ability to issue debt and raise capital. The Company’s primary uses of liquidity are operating expenses and payments of interest and principal on borrowings.

On May 28, 2020, we issued $18 million of 5.50% Fixed-to-Floating Rate Subordinated Notes Due 2030 (the “Notes”). The Notes which mature March 25, 2030 accrue interest at a fixed rate of 5.50% through the fixed rate period to March 26, 2025, after which interest accrues at a floating rate of 90-day SOFR plus 350 basis points, until maturity, unless redeemed early, at our option, after the end of the fixed rate period. Issuance costs of $475 thousand were incurred and are being amortized over the first 5-year fixed term of the Notes; unamortized issuance costs at March 31, 2024 and December 31, 2023, were $111 thousand and $135 thousand, respectively. The net unamortized issuance costs are netted against the balance and recorded in the borrowings in the consolidated balance sheets. The amortization expenses are recorded in interest expense on the consolidated statements of income. At March 31, 2024, we were in compliance with all covenants and terms of the Notes.

At March 31, 2024, consolidated cash and cash equivalents totaled $86.5 million, a decrease of $251 thousand from $86.8 million at December 31, 2023. The decrease in cash and cash equivalents is the result of $8.1 million in net cash provided by operating cash flows, $62.5 million net cash provided by investing cash flows and $70.8 million of net cash flows used in financing cash flows.

Our operating cash flows are comprised of net income, adjusted for certain non-cash transactions, including but not limited to, depreciation and amortization, provision for loan losses, loans originated for sale and related gains and proceeds from sales, stock-based compensation, and amortization of net deferred loan costs and premiums. Net cash flows from operating cash flows were $8.1 million for the three months ended March 31, 2024, compared to $18.3 million for the same 2023 period. The $10.2 million decrease was primarily due to a decrease in net income generated during the three months ended March 31, 2024 and a $4.3 million decrease in net cash provided by sales of loans held for sale, net of originations.

Our investing cash flows are primarily comprised of cash inflows and outflows from our debt securities and loan portfolios, net cash used for business combinations, as applicable, and to a lesser extent, purchases of stock investments, purchases and proceeds from bank-owned life insurance, and capital expenditures. Net cash provided by investing activities was $62.5 million for the year ended March 31, 2024, compared to net cash used in investing activities $6.5 million for the same 2023 period. The $69.0 million decrease in cash provided by investing activities was primarily due to a decrease in net loan fundings of $57.5 million, and a decrease in net investment securities purchased of $11.5 million.

Our financing cash flows are primarily comprised of inflows and outflows of deposits, borrowing activity, proceeds from the issuance of common shares, and to a lesser extent, repurchases of common shares and cash flows from share-based compensation arrangements. Net cash used in financing activities was $70.8 million for the three months ended March 31, 2024, compared to net cash provided by financing activities of $3.6 million for the same 2023 period. The $74.5 million decrease in financing cash flows was primarily due to an $8.0 million increase in net repayment activity on FHLB advances, coupled with a $67.0 million net decrease in deposit cash flows.

We believe that our liquidity sources are stable and are adequate to meet our day-to-day cash flow requirements as of March 31, 2024.

Commitments and Contractual Obligations

The following table presents information regarding our outstanding commitments and contractual obligations as of March 31, 2024:

(Dollars in thousands)

At March 31, 2024 and December 31, 2023, we also had unfunded commitments of $3.2 million and $3.2 million, respectively, for investments in other equity investments.

Capital Resources

Maintaining adequate capital is always an important objective of the Company. Abundant and high quality capital helps weather economic downturns and market volatility, protect depositors’ funds, and support growth, such as expanding the operations or acquisitions. Capital is also a source of funds for loan demand and enables the Company to effectively manage its assets and liabilities. We are authorized to issue 50,000,000 shares of common stock of which 18,527,178 have been issued as of March 31, 2024. We are also authorized to issue

50,000,000 shares of preferred stock, of which none have been issued as of March 31, 2024. On June 14, 2023, we announced an authorized share repurchase plan, providing for the repurchase of up to 550,000 shares of our outstanding common stock, or approximately 3% of our then outstanding shares.

As of March 31, 2024 and December 31, 2023, we qualified for treatment under the Small Bank Holding Company Policy Statement (Regulation Y, Appendix C) and, therefore, are not subject to consolidated capital rules at the bank holding company level.

The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

Banks considered to be “adequately capitalized” are required to maintain a minimum total capital ratio of 8.0%, a minimum Tier 1 capital ratio of 6.0%, a minimum common equity Tier 1 capital ratio of 4.5%, and a minimum leverage ratio of 4.0%. Banks considered to be “well capitalized” must maintain a minimum total capital ratio of 10.0%, a minimum Tier 1 capital ratio of 8.0%, a minimum common equity Tier 1 capital ratio of 6.5%, and a minimum leverage ratio of 5.0%. As of March 31, 2024 and December 31, 2023, the Bank’s regulatory capital ratios exceeded the regulatory capital requirements and the Bank is considered to be “well capitalized” under the regulatory framework for prompt corrective action (PCA). There are no changes to the Bank’s categories since March 31, 2024.

As of March 31, 2024 and December 31, 2023, the Bank’s regulatory capital ratios exceeded the regulatory capital requirements and the Bank is considered to be “well capitalized” under the regulatory framework for prompt corrective action (PCA). There are no changes to the Bank’s categories since March 31, 2024. Management believes, as of March 31, 2024 and December 31, 2023, that the Bank met all capital adequacy requirements to which it is subject.

To be categorized as well-capitalized, the Bank must maintain minimum ratios as set forth in the

table below. The following table also sets forth the Bank’s actual capital amounts and ratios:

(dollars in thousands)

On January 1, 2023, we adopted the current expected credit losses (“CECL”) accounting standard that requires management’s estimate of credit losses over the expected contractual lives of the Company's relevant financial assets. We elected the CECL phase-in option provided by regulatory capital rules, which delays the impact of CECL on regulatory capital over a three-year transition period.

Dividend Restrictions

The primary source of funds for the Company is dividends from the Bank. Under federal law, the Bank may not declare a dividend in excess of its undivided profits and, absent the approval of the OCC, the Bank’s primary banking regulator, if the total amount of dividends declared by the Bank in any calendar year exceeds the total of the Bank’s retained net income of that current period, year to date, combined with its retained net income for the preceding two years. The Bank also is prohibited from declaring or paying any dividend if, after making the dividend, the Bank would be considered “undercapitalized” (as defined by reference to other OCC regulations). Federal bank regulatory agencies have authority to prohibit banking institutions from paying dividends if those agencies determine that, based on the financial condition of the bank, such payment will constitute an unsafe or unsound practice.

The Bank did not pay dividends to the Company during the three months ended March 31, 2024 and 2023.

The Federal Reserve limits the amount of dividends that bank holding companies may pay on common stock to income available over the past year, and only if prospective earnings retention is consistent with the organization’s expected future needs and financial condition. It is also the Federal Reserve’s policy that bank holding companies should not maintain dividend levels that undermine their ability to be a source of strength to its banking subsidiaries. Additionally, in consideration of the current financial and economic environment, the Federal Reserve has indicated that bank holding companies should carefully review their dividend policies.

During the three months ended March 31, 2024 and 2023, there were no dividends declared to shareholders by the Company.

Interest Rate Risk Management

Market risk represents the risk of loss due to changes in market values of assets and liabilities. We incur market risk in the normal course of business through exposures to market interest rates, equity prices, and credit spreads. Our primary market risk is interest rate risk, which is the risk of loss of net interest income or net interest margin resulting from changes in market interest rates.

Interest Rate Risk

Interest rate risk results from the following risks:

• Repricing risk — timing differences in the repricing and maturity of interest-earning assets and interest-bearing liabilities;
• Option risk — changes in the expected maturities of assets and liabilities, such as borrowers’ ability to prepay loans at any time and depositors’ ability to redeem certificates of deposit before maturity;
• Yield curve risk — changes in the yield curve where interest rates increase or decrease in a nonparallel fashion; and
• Basis risk — changes in spread relationships between different yield curves, such as U.S. Treasuries, U.S. Prime Rate, Constant Maturity Treasury Rates (“CMT”).

Because our earnings are primarily dependent on our ability to generate net interest income, we focus on actively monitoring and managing the effects of adverse changes in interest rates on our net interest income. Our interest rate risk is overseen by our management Asset Liability Committee (“ALCO”). ALCO monitors our compliance with regulatory guidance in the formulation and implementation of our interest rate risk program. ALCO reviews the results of our interest rate risk modeling quarterly to assess whether we have appropriately measured our interest rate risk, mitigated our exposures appropriately and any residual risk is acceptable. In addition to our annual review of this policy, our Board of Directors explicitly reviews the interest rate risk policy limits at least annually.

Interest rate risk management is an active process that encompasses monitoring loan and deposit flows complemented by investment and funding activities. Effective management of interest rate risk begins with understanding the dynamic characteristics of assets and liabilities and determining the appropriate interest rate risk posture given business forecasts, management objectives, market expectations, and policy constraints. Changes in interest rates may result in interest-earning assets and interest-bearing liabilities maturing or repricing at different times, on a different basis or in unequal amounts. In addition, it is not uncommon for rates on certain assets or liabilities to lag behind changes in the market rates of interest. Additionally, prepayments of loans and early withdrawals of certificates of deposit could cause interest sensitivities to vary.

Our interest rate risk exposure is measured and monitored through various risk management tools, including a simulation model that performs interest rate sensitivity analysis under multiple scenarios. The simulation model is based on the actual maturities and re-pricing characteristics of the Bank’s interest-rate sensitive assets and liabilities. The simulated interest rate scenarios include an instantaneous parallel shift in the yield curve. In order to model and evaluate interest rate risk, we use two approaches: Net Interest Income at Risk (“NII at Risk”), and Economic Value of Equity (“EVE”). Under NII at Risk, the impact on net interest income from changes in interest rates on interest-earning assets and interest-bearing liabilities is modeled over the

next 12 months from immediate and sustained changes in interest rates utilizing various assumptions for assets and liabilities. EVE measures the period end market value of assets minus the market value of liabilities and the change in this value as rates change. EVE is a period end measurement.

The following table presents the projected changes in NII at Risk and EVE that would occur upon an immediate change in interest rates based on independent analysis, but without giving effect to any steps that management might take to counteract that change at March 31, 2024 and December 31, 2023:

(Dollars in thousands)

The modeled NII results at March 31, 2024 and December 31, 2023 indicate we would sustain a decrease in NII if interest rates declined due primarily to adjustable-rate loans repricing lower at a faster pace than the decline in deposit rates. In a rising rate environment at March 31, 2024, our NII results indicated there would be a modest increase in the net interest income in all scenarios, compared to an increase in the net interest income in the +100 and +200 rate shock scenarios, and a slight decrease in the net interest income in the +300 rate shock scenario at December 31, 2023. The changes in NII in a rising rate environment are primarily attributed to the adjustable-rate loans repricing higher, offset by the higher costs associated with increasing liquidity and deposit pressures in the banking industry.

The modeled EVE results at March 31, 2024 and December 31, 2023 indicate we would benefit from an increase in interest rates and would be adversely impacted by a decrease in interest rates. The results of these analyses do not contemplate all of the actions that we may undertake in response to changes in interest rates. In response to actual or anticipated changes in interest rates, we have various alternatives for managing and reducing exposure such as using FHLB Advances and/or certain derivatives such as swaps to align maturities and repricing terms, managing the percentage of fixed rate loans in our portfolio, managing the level of investments and duration of investment securities and managing our deposit relationships.

The projected changes are forecasts based on estimates of historical behavior and assumptions that may change over time and may turn out to be different. Factors affecting our estimates and assumptions include, but are not limited to, competitor behavior, economic conditions both locally and nationally, actions taken by the Federal Reserve, customer behavior and our management’s responses. Changes that vary significantly from our assumptions and estimates significantly affect our earnings and EVE.

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this Quarterly Report on Form 10-Q, an evaluation is carried out by our management with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, the Chief Executive Officer and Chief Financial

Officer concluded that the disclosure controls and procedures were effective at a reasonable assurance level as of the end of the period covered by this report.

Changes in Internal Control Over Financial Reporting

There have been no changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) during the Company’s quarter ended March 31, 2024, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

There were no material changes to the Company’s risk factors described under Item 1A. “Risk Factors” disclosed in Company's Annual Report on Form 10-K for the year ended December 31, 2023, filed with the SEC on March 15, 2024.