FIRST COMMUNITY CORPORATION CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This report, including information included or incorporated by reference in this report, contains statements which constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may relate to, among other matters, the financial condition, results of operations, plans, objectives, future performance, and business of our company. Forward-looking statements are based on many assumptions and estimates and are not guarantees of future performance. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. The words "may," "approximately," "is likely," "would," "could," "should," "will," "expect," "anticipate," "predict," "project," "potential," "continue," "assume," "believe," "intend," "plan," "forecast," "goal," and "estimate," as well as similar expressions, are meant to identify such forward-looking statements. Potential risks and uncertainties that could cause our actual results to differ materially from those anticipated in our forward-looking statements include, without limitation, those described under the heading "Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2021 as filed with theU.S. Securities and Exchange Commission (the "SEC") onMarch 16, 2022 and the following:
· the continuing impact of COVID-19 and its variants, on our business,
including the impact of the virus on
resulting effect of these items on our operations, liquidity and capital
position, and on the financial condition of our borrowers and other
customers;
· credit losses as a result of, among other potential factors, declining
real estate values, increasing interest rates, increasing unemployment, or
changes in customer payment behavior or other factors;
· the amount of our loan portfolio collateralized by real estate and
weaknesses in the real estate market;
· restrictions or conditions imposed by our regulators on our operations;
· the adequacy of the level of our allowance for loan losses and the amount
of loan loss provisions required in future periods;
· examinations by our regulatory authorities, including the possibility that
the regulatory authorities may, among other things, require us to increase
our allowance for loan losses, write-down assets, or take other actions;
· risks associated with actual or potential information gatherings,
investigations or legal proceedings by customers, regulatory agencies or
others;
· reduced earnings due to higher other-than-temporary impairment charges
resulting from additional decline in the value of our securities
portfolio, specifically as a result of increasing default rates, and loss
severities on the underlying real estate collateral;
· increases in competitive pressure in the banking and financial services
industries;
· changes in the interest rate environment, which could reduce anticipated
or actual margins; temporarily reduce the market value of our
available-for-sale investment securities and temporarily reduce
accumulated other comprehensive income or increase accumulated othercomprehensive loss, which temporarily could reduce shareholders' equity;
· changes in political conditions or the legislative or regulatory
environment, including governmental initiatives affecting the financial
services industry, including as a result of the presidential
administration and congressional elections;
· general economic conditions resulting in, among other things, a
deterioration in credit quality;
· changes occurring in business conditions and inflation, including theimpact of inflation on us, including a decrease in demand for new mortgage
loan and commercial real estate loan originations and refinancings, an
increase in competition for deposits, and an increase in non-interest
expenses, which may have an adverse impact on our financial performance;
· changes in access to funding or increased regulatory requirements with
regard to funding;
· cybersecurity risk related to our dependence on internal computer systems
and the technology of outside service providers, as well as the potential
impacts of third party security breaches, which subject us to potential
business disruptions or financial losses resulting from deliberate attacks
or unintentional events;
· changes in deposit flows;
· changes in technology;
· our current and future products, services, applications and functionality
and plans to promote them;
· changes in monetary and tax policies, including potential changes in tax
laws and regulations;
· changes in accounting standards, policies, estimates and practices as maybe adopted by the bank regulatory agencies, the Financial Accounting
Board;
· our assumptions and estimates used in applying critical accounting
policies, which may prove unreliable, inaccurate or not predictive of
actual results;
· the rate of delinquencies and amounts of loans charged-off;
· the rate of loan growth in recent years and the lack of seasoning of a
portion of our loan portfolio;
· our ability to maintain appropriate levels of capital, including levels of
capital required under the capital rules implementing Basel III;
33
· our ability to successfully execute our business strategy;
· our ability to attract and retain key personnel;
· our ability to retain our existing customers, including our deposit
relationships;
· adverse changes in asset quality and resulting credit risk-related losses
and expenses;
· the potential effects of events beyond our control that may have a
destabilizing effect on financial markets and the economy, such asepidemics and pandemics (including COVID-19), war or terrorist activities,
disruptions in our customers' supply chains, disruptions in
transportation, essential utility outages or trade disputes and related
tariffs;
· risks associated with our participation in the Paycheck ProtectionProgram, otherwise the PPP, established by the Coronavirus Aid, Relief and
Economic Security Act, or the CARES Act, including but not limited to, the
failure of the borrower to qualify for loan forgiveness, which would
subject us to the risk of holding these loans at unfavorable interest
rates as compared to the loans to customers that we would have otherwise
extended credit;
· disruptions due to flooding, severe weather or other natural disasters; and
· other risks and uncertainties detailed in Part I, Item 1A of our Annual
Report on Form 10-K for the year ended
1A of our Quarterly Report on Form 10-Q, and in our other filings with the
SEC . Because of these and other risks and uncertainties, our actual future results may be materially different from the results indicated by any forward-looking statements. For additional information with respect to factors that could cause actual results to differ from the expectations stated in the forward-looking statements, see "Risk Factors" under Part I, Item 1A of our Annual Report on Form 10-K for the year endedDecember 31, 2021 . In addition, our past results of operations do not necessarily indicate our future results. Therefore, we caution you not to place undue reliance on our forward-looking information and statements. All forward-looking statements in this report are based on information available to us as of the date of this report. Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations will be achieved. We undertake no obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as required
by applicable law. Overview The following discussion describes our results of operations for the six months and three months endedJune 30, 2022 as compared to the six months and three months endedJune 30, 2021 and analyzes our financial condition as ofJune 30, 2022 as compared toDecember 31, 2021 . Like most community banks, we derive most of our income from interest we receive on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits and borrowings. Another key measure is the spread between the yield we earn on our interest-earning assets and the rate we pay on our interest-bearing liabilities. There are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible. We establish and maintain this allowance by charging or crediting a provision for loan losses against our operating earnings. In the following section, we have included a discussion of this process, as well as several tables describing our allowance for loan losses and the allocation of this allowance among our various categories of loans.
In addition to earning interest on our loans and investments, we earn income through fees and other expenses we charge to our customers. We describe the various components of this non-interest income, as well as our non-interest expense, in the following discussion.
The following discussion and analysis identify significant factors that have affected our financial position and operating results during the periods included in the accompanying financial statements. We encourage you to read this discussion and analysis in conjunction with the financial statements and the related notes and the other statistical information also included in this report.
Unless the context requires otherwise, references to the "Company," "we," "us,"
"our," or similar references mean
34
Recent Events - COVID-19 Pandemic
The COVID-19 pandemic and variants of the virus continue to create disruptions to the global economy and financial markets and to businesses and the lives of individuals throughout the world. As the COVID-19 pandemic has evolved from its emergence in early 2020, so has its impact. While vaccine availability and uptake has increased, the longer-term macro-economic effects on global supply chains, inflation, labor shortages and wage increases continue to impact many industries. Moreover, with the potential for new strains of COVID-19 to emerge, governments and businesses may re-impose aggressive measures to help slow its spread in the future. For this reason, among others, as the COVID-19 pandemic continues, the potential or lasting impacts on our business, financial condition and results of operations remains uncertain and difficult to assess. Our business, financial condition and results of operations generally rely upon the ability of our borrowers to repay their loans, the value of collateral underlying our secured loans, and demand for loans and other products and services we offer, which are highly dependent on the business environment in our primary markets where we operate and inthe United States as a whole. The unprecedented and rapid spread of COVID-19 and its variants and their associated impacts on trade (including supply chains and export levels), travel, employee productivity, unemployment, consumer spending, and other economic activities have resulted and continue to result in volatility and disruption in financial markets. In addition, due to the COVID-19 pandemic, market interest rates declined to historical lows and the reductions in interest rates, low interest rate environment, and the other effects of the COVID-19 pandemic had an adverse effect on our business, financial condition and results of operations. However, during 2022, market interest rates have started to increase. TheFederal Open Market Committee (FOMC) made the following increases to the target range of federal funds during the first six months of 2022: - 0.25% onMarch 16, 2022 ; - 0.50% onMay 4, 2022 ; and - 0.75% onJune 15, 2022 . The target range of federal funds was 1.50% - 1.75% atJune 30, 2022 compared to 0.25% - 0.50% atMarch 31, 2022 , and compared to 0.00% - 0.25% atDecember 31, 2021 andJune 30, 2021 . Changes in market interest rates can have a significant impact on the level of income and expense recorded on a large portion of our interest-earning assets and interest-bearing liabilities, and on the market value of all interest-earning assets, other than those possessing a short term to maturity. Furthermore, changes in market interest rates can have a significant impact on the level of mortgage originations and related mortgage non-interest income.
Lending Operations and Accommodations to Borrowers; Impact of COVID-19 on Asset
Quality and Value of
Beginning inMarch 2020 , we proactively offered payment deferrals for up to 90 days to our loan customers regardless of the impact of the pandemic on their business or personal finances. As a result of payments being resumed at the conclusion of their payment deferral period, loans in which payments were being deferred decreased from the peak of$206.9 million to$16.1 million atDecember 31, 2020 , to$4.5 million atJune 30, 2021 , to zero atDecember 31, 2021 . Loan deferrals remained at zero atJune 30, 2022 . We were also a small business administration approved lender and participated in the PPP, established under the CARES Act. During 2020 and 2021, we originated 1,417 PPP loans totaling$88.5 million , which includes 843 PPP loans totaling$51.2 million originated in 2020 and 574 PPP loans totaling$37.3 million originated in 2021. Furthermore, during 2020, we facilitated the origination of 111 PPP loans totaling$31.2 million for our customers through a third party prior to establishing our own PPP platform. As ofJune 30, 2022 , 1,414 PPP loans totaling$88.2 million (843 PPP loans totaling$51.2 million originated in 2020 and 571 PPP loans totaling$37.0 million originated in 2021) were forgiven through the SBA PPP forgiveness process. Our asset quality metrics as ofJune 30, 2022 remained sound. AtJune 30, 2022 , our non-performing assets were not materially impacted by the economic pressures of the COVID-19 pandemic. The non-performing asset ratio was 0.32% of total assets with the nominal level of$5.3 million in non-performing assets atJune 30, 2022 compared to 0.09% and$1.4 million atDecember 31, 2021 , and compared to 0.62% and$9.3 million atJune 30, 2021 . Non-accrual loans increased to$4.4 million atJune 30, 2022 from$250 thousand atDecember 31, 2021 , and from$4.0 million atJune 30, 2021 . The increases in both non-performing assets and non-accrual loans fromDecember 31, 2021 toJune 30, 2022 were due to one$4.1 million loan that was moved to non-accrual status inJune 2022 . This loan has a loan-to-value of 76.3% based on an appraisal received inMay 2022 . We had zero accruing loans past due 90 days or more atJune 30, 2022 andDecember 31, 2021 compared to$4.2 million in accruing loans past due 90 days or more atJune 30, 2021 . Loans past due 30 days or more represented 0.24% of the loan portfolio atJune 30, 2022 compared to 0.03% atDecember 31, 2021 , and compared to 0.49% atJune 30, 2021 . The ratio of classified loans plus OREO and repossessed assets declined to 5.16% of total bank regulatory risk-based capital atJune 30, 2022 from 6.27% atDecember 31, 2021 and from 9.45% atJune 30, 2021 . During the three months endedJune 30, 2022 , we experienced net loan recoveries of$242 thousand and net overdraft charge-offs of$15 thousand . During the six months endedJune 30, 2022 , we experienced net loan recoveries of$262 thousand and net overdraft charge-offs of$26 thousand . 35 We are also monitoring the impact of the COVID-19 pandemic and the recent increase in market interest rates on the operations and value of our investments. We mark to market our available-for-sale investments and review our investment portfolio for impairment at, a minimum, quarterly. We do not consider any securities in our investment portfolio to be other-than-temporarily impaired atJune 30, 2022 . However, additional changes in the interest rate environment may temporarily reduce the market value of our available-for-sale investment securities, which temporarily could reduce shareholders' equity. Capital and Liquidity
Our capital remained strong. Each of the regulatory capital ratios for the Bank exceeds the well capitalized minimum levels currently required by regulatory statute atJune 30, 2022 andDecember 31, 2021 . Based on our strong capital, conservative underwriting, and internal stress testing, we expect to remain well capitalized throughout the COVID-19 pandemic. However, the Bank's reported regulatory capital ratios could be adversely impacted by future credit losses related to the COVID-19 pandemic. We intend to monitor developments and potential impacts on our capital. We believe that we have ample liquidity to meet the needs of our customers through our low cost deposits, our ability to borrow against approved lines of credit (federal funds purchased) from correspondent banks, and our ability to obtain advances secured by certain securities and loans from theFederal Home Loan Bank ("FHLB"). Critical Accounting Estimates
We have adopted various accounting policies that govern the application of accounting principles generally accepted inthe United States and with general practices within the banking industry in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to our unaudited consolidated financial statements as ofJune 30, 2022 and our notes included in the consolidated financial statements in our Annual Report on Form 10-K for the year endedDecember 31, 2021 as filed with theSEC onMarch 16, 2022 . Certain accounting policies inherently involve a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported, which could have a material impact on the carrying values of our assets and liabilities and our results of operations. We consider these accounting policies and estimates to be critical accounting policies. We have identified the determination of the allowance for loan losses, income taxes, and deferred tax assets to be the accounting areas that require the most subjective or complex judgments and, as such, could be most subject to revision as new or additional information becomes available or circumstances change, including overall changes in the economic climate and/or market interest rates. Therefore, management has reviewed and approved these critical accounting policies and estimates and has discussed these policies with ourAudit and Compliance Committee . A brief discussion of each of these areas appears in our 2021 Annual Report on Form 10-K. During the first six months of 2022, we did not significantly alter the manner in which we applied our critical accounting policies or developed related assumptions and estimates.
There have been no significant changes to our critical accounting estimates as
disclosed in our Annual Report on Form 10-K for the year ended
Comparison of Results of Operations for Six Months Ended
Net Income
Our net income for the six months endedJune 30, 2022 was$6.6 million , or$0.87 diluted earnings per common share, as compared to$6.8 million , or$0.90 diluted earnings per common share, for the six months endedJune 30, 2021 . The$179 thousand decline in net income between the two periods is primarily due to a$331 thousand decline in non-interest income and a$724 thousand increase in non-interest expense partially offset by a$125 thousand increase in net interest income, a$540 thousand reduction in provision for loan losses, and a$211 thousand reduction in income tax expense.
· The increase in net interest income results from an increase of
in average earning assets partially offset by a 29 basis point decline in the
net interest margin between the two periods.
· The decline in non-interest income is primarily related to declines in
mortgage banking income of
thousand, and other non-recurring income of
increases in investment advisory fees and non-deposit commissions of
thousand, deposit service charges of
$33 thousand , rental income of$13 thousand , income on bank owned life insurance of$13 thousand , and wire transfer fees of$12 thousand ,
o The reduction in other non-recurring income was related to the collection of a
we subsequently acquired, during the six months ended June 30, 2021 . We
recorded $9 thousand in other non-recurring income related to gains on
insurance proceeds during the six months ended June 30, 2022 .
· The reduction in provision for loan losses is primarily related to thefollowing: a decrease in our COVID-19 qualitative factor in our allowance for
loan losses methodology and net recoveries during the six months ended June
30, 2022 partially offset by increases in our economic conditions qualitative
factor due to inflation, supply chain bottlenecks, labor shortages in certain
industries, and the war in
qualitative factor due to the addition of a new team and new market in
County,
past due, rated, and non-accrual loans qualitative factor due to a
million loan being moved to non-accrual status in
36 · The increase in non-interest expense is primarily related to increased
salaries and employee benefits expense of
expense of
increased marketing and public relations expense of
ATM/debit card and data processing expense of
meals, and entertainment expense of
lower
thousand, lower amortization of intangibles of
mortgage loan processing expense of
· Our effective tax rate was 19.5% during the six months ended
compared to 21.0% during the six months ended
o The reduction in the effective tax rate was primarily due to a
non-recurring reduction to income tax expense during the six months ended June
30, 2022.
Net Interest Income
Net interest income is our primary source of revenue. Net interest income is the
difference between income earned on assets and interest paid on deposits and
borrowings used to support such assets. Net interest income is determined by the
rates earned on our interest-earning assets and the rates paid on our
interest-bearing liabilities, the relative amounts of interest-earning assets
and interest-bearing liabilities, and the degree of mismatch and the maturity
and repricing characteristics of our interest-earning assets and
interest-bearing liabilities.
Please refer to the table at the end of this Item 2 (Management's Discussion and
Analysis of Financial Condition and Results of Operations) for the average
yields on assets and average rates on interest-bearing liabilities during the
six-month periods ended June 30, 2022 and 2021, along with average balances and
the related interest income and interest expense amounts.
Net interest income increased $125 thousand , or 0.6%, to $21.8 million for the
six months ended June 30, 2022 from $21.7 million for the six months ended June
30, 2021 . Our net interest margin declined by 29 basis points to 2.89% during
the six months ended June 30, 2022 from 3.18% during the six months ended June
30, 2021 . Our net interest margin, on a taxable equivalent basis, was 2.92% for
the six months ended June 30, 2022 compared to 3.22% for the six months ended
June 30, 2021 . Average earning assets increased $150.8 million , or 11.0%, to
$1.5 billion for the six months ended June 30, 2022 compared to $1.4 billion in
the same period of 2021.
· The increase in net interest income was primarily due to a higher level of
average earning assets partially offset by lower net interest margin.
· The increase in average earning assets was due to increases in non-PPP loans
and securities partially offset by declines in PPP loans and other short-term
investments.
· Although market interest rates have increased in 2022, the decline in net
interest margin was primarily due to the
range of the federal funds rate two times totaling 150 basis points during the
first quarter of 2020 and the excess liquidity generated from PPP loan
proceeds, other stimulus funds related to the COVID-19 pandemic, and organic
deposit growth being deployed in lower yielding securities.
· Interest income on PPP loans declined to
ended
due to a reduction in PPP loans.
· Low market rates, the competitive loan pricing environment, and the COVID-19
pandemic put downward pressure on our net interest margin during 2021 and the
first six months of 2022.
· Interest income on variable rate collateralized mortgage obligations, primarily
consisting of GNMA home equity conversion mortgages, declined
negative interest income of
2022 from positive interest income of
2021.
o This decline was due to an increase in prepayments, which resulted in
accelerated amortization of the premium on these investments.
· In
resulted in a
37
Average loans declined$4.5 million , or 0.5%, to$886.5 million for the six months endedJune 30, 2022 from$891.0 million for the same period in 2021. Average PPP loans declined$55.1 million and average Non-PPP loans increased$50.7 million to$432 thousand and$886.1 million , respectively, for the six months endedJune 30, 2022 . Average loans represented 58.2% of average earning assets during the six months endedJune 30, 2022 compared to 65.0% of average earning assets during the same period in 2021. The decline in average loans as a percentage of average earning assets was primarily due to increases in deposits of$154.7 million and securities sold under agreements to repurchase of$15.4 million and a$55.1 million reduction in average PPP loans. The growth in our deposits and securities sold under agreements to repurchase and the decline in our loans resulted in the excess funds being deployed in our securities portfolio. The yield on loans declined 18 basis points to 4.16% during the six months endedJune 30, 2022 from 4.34% during the same period in 2021. The yield on Non-PPP loans was 4.16% during the six months endedJune 30, 2022 . Average securities for the six months endedJune 30, 2022 increased$163.8 million , or 40.7%, to$566.1 million from$402.3 million during the same period in 2021. Other short-term investments declined$8.5 million to$70.0 million during the six months endedJune 30, 2022 from$78.5 million during the same period in 2021 due to the deployment of lower yielding other short-term investments into higher yielding securities. The yield on our securities portfolio declined to 1.50% for the six months endedJune 30, 2022 from 1.82% for the same period in 2021. These declines were primarily related to the low interest rate environment and the reduction in interest income on variable rate collateralized mortgages as described above. The yield on our other short-term investments increased to 0.56% for the six months endedJune 30, 2022 from 0.16% for the same period in 2021 due to the followingFederal Open Market Committee (FOMC) increases in the target range of federal funds during the first six
months of 2022: - 0.25% onMarch 16, 2022 ; - 0.50% onMay 4, 2022 ; and - 0.75% onJune 15, 2022 . The target range of federal funds was 1.50% - 1.75% atJune 30, 2022 compared to 0.25% - 0.50% atMarch 31, 2022 compared to 0.00% - 0.25% atDecember 31, 2021 andJune 30, 2021 .
The yield on earning assets for the six months ended
The cost of interest-bearing liabilities was at 18 basis points during the six months endedJune 30, 2022 compared to 27 basis points during the same period in 2021. The cost of deposits, including demand deposits, was nine basis points during the six months endedJune 30, 2022 compared to 16 basis points during the same period in 2021. The cost of funds, including demand deposits, was 12 basis points during the six months endedJune 30, 2022 compared to 19 basis points during the same period in 2021. We continue to focus on growing our pure deposits (demand deposits, interest-bearing transaction accounts, savings deposits, money market accounts, IRAs, and customer cash management repurchase agreements) as these accounts tend to be low-cost deposits and assist us in controlling our overall cost of funds. During the six months endedJune 30, 2022 , these deposits averaged 91.7% of total deposits as compared to 90.1% during the same period of 2021.
Provision and Allowance for Loan Losses
We account for our allowance for loan losses under the incurred loss model. AtJune 30, 2022 , the allowance for loan losses was$11.2 million , or 1.22% of total loans (excluding loans held-for-sale), compared to$11.2 million , or 1.29% of total loans (excluding loans held-for-sale) atDecember 31, 2021 . Excluding PPP loans and loans held-for-sale, the allowance for loan losses was 1.22% of total loans atJune 30, 2022 compared to 1.30% of total loans atDecember 31, 2021 . The decline in the allowance for loan losses compared toDecember 31, 2021 is primarily related to the loss emergence period assumption in the COVID-19 qualitative factor, which was added to our allowance for loan losses methodology during 2020 and discussed below, and reduced to six months atJune 30, 2022 from 21 months atDecember 31, 2021 . This reduction was partially offset by loan growth of$52.6 million ;$236 thousand in net recoveries; an increase in our economic conditions qualitative factor by 5.6 basis points due to higher inflation, supply chain bottlenecks, labor shortages in certain industries, and the war inUkraine ; an increase in our change in staff qualitative factor by one basis point due to the addition of a new team and new market inYork County, South Carolina inMarch 2022 ; and an increase in our changes in our change in total of past due, rated, and non-accrual loans by two basis points due to a$4.1 million loan being moved to non-accrual status inJune 2022 . This loan has a loan-to-value of 76.3% based on an appraisal received inMay 2022 . 38
During 2020, we added a qualitative factor for the COVID-19 pandemic to our allowance for loan losses methodology. This qualitative factor was based on the dollar amount of our deferrals and a one-year loss emergence period based on the highest period of annual historical loss rate since the Bank's inception. As the pandemic worsened, we added our exposure to certain industry segments most impacted by the COVID-19 pandemic (hotels, restaurants, assisted living, and retail) to the COVID-19 qualitative factor and we extended the loss emergence period to two years based on the highest two periods of annual historical loss rates since the Bank's inception. AtJune 30, 2022 andDecember 31, 2021 , the COVID-19 qualitative factor represented$680 thousand and$1.9 million , respectively, of our allowance for loan losses. Loans that we acquired in our acquisition of Cornerstone Bancorp, otherwise referred to herein as Cornerstone, in 2017 as well as in our acquisition ofSavannah River Financial Corp. , otherwise referred to herein as Savannah River, in 2014 are accounted for under FASB ASC 310-30. These acquired loans were initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loans. The credit component on loans related to cash flows not expected to be collected is not subsequently accreted (non-accretable difference) into interest income. Any remaining portion representing the excess of a loan's or pool's cash flows expected to be collected over the fair value is accreted (accretable difference) into interest income. AtJune 30, 2022 andDecember 31, 2021 , the remaining credit component on loans attributable to acquired loans in the Cornerstone and Savannah River transactions was$104 thousand and$130 thousand , respectively. Our provision for loan losses was a credit of$195 thousand for the six months endedJune 30, 2022 compared to an expense of$345 thousand during the same period in 2021. The reduction in provision for loan losses is primarily related to a decrease in our COVID-19 qualitative factor in our allowance for loan losses methodology and net recoveries during the first six months of 2022, partially offset by increases in our economic conditions qualitative factor and loan growth as discussed above. The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible. Our judgment as to the adequacy of the allowance for loan losses is based on assumptions about future events, which we believe to be reasonable, but which may or may not prove to be accurate. Our determination of the allowance for loan losses is based on evaluations of the collectability of loans, including consideration of factors such as the balance of impaired loans, the quality, mix, and size of our overall loan portfolio, the knowledge and depth of lending personnel, economic conditions (local and national) that may affect the borrower's ability to repay, the amount and quality of collateral securing the loans, our historical loan loss experience, and a review of specific problem loans. We also consider qualitative factors such as changes in the lending policies and procedures, changes in the local or national economies, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, and concentrations of credit. We charge recognized losses to the allowance and add subsequent recoveries back to the allowance for loan losses. There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period. We perform an analysis quarterly to assess the risk within the loan portfolio. The portfolio is segregated into similar risk components for which historical loss ratios are calculated and adjusted for identified changes in current portfolio characteristics. Historical loss ratios are calculated by product type and by regulatory credit risk classification (See Note 4 to the Consolidated Financial Statements). The annualized weighted average loss ratios over the last 36 months for loans classified as substandard, special mention and pass have been approximately 0.57%, 0.06% and 0.00%, respectively. The allowance consists of an allocated and unallocated allowance. The allocated portion is determined by types and ratings of loans within the portfolio. The unallocated portion of the allowance is established for losses that exist in the remainder of the portfolio and compensates for uncertainty in estimating the loan losses. The allocated portion of the allowance is based on historical loss experience as well as certain qualitative factors as explained above. The qualitative factors have been established based on certain assumptions made as a result of the current economic conditions and are adjusted as conditions change to be directionally consistent with these changes. The unallocated portion of the allowance is composed of factors based on management's evaluation of various conditions that are not directly measured in the estimation of probable losses through the experience formula or specific allowances. The overall risk as measured in our three-year lookback, both quantitatively and qualitatively, does not encompass a full economic cycle. Net charge-offs in the 2009 to 2011 period averaged 63 basis points annualized in our loan portfolio. Over the most recent three-year period, our net charge-offs have experienced a modest net recovery. We currently believe the unallocated portion of our allowance represents potential risk associated throughout a full economic cycle. 39
We have a significant portion of our loan portfolio with real estate as the underlying collateral. AtJune 30, 2022 andDecember 31, 2021 , approximately 90.7% and 90.9%, respectively, of the loan portfolio had real estate collateral. When loans, whether commercial or personal, are granted, they are based on the borrower's ability to generate repayment cash flows from income sources sufficient to service the debt. Real estate is generally taken to reinforce the likelihood of the ultimate repayment and as a secondary source of repayment. We work closely with all our borrowers that experience cash flow or other economic problems, and we believe that we have the appropriate processes in place to monitor and identify problem credits. There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period. The allowance is also subject to examination and testing for adequacy by regulatory agencies, which may consider such factors as the methodology used to determine adequacy and the size of the allowance relative to that of peer institutions. Such regulatory agencies could require us to adjust our allowance based on information available to them at the time of their examination. The non-performing asset ratio was 0.32% of total assets with the nominal level of$5.3 million in non-performing assets atJune 30, 2022 compared to 0.09% and$1.4 million atDecember 31, 2021 , and compared to 0.62% and$9.3 million atJune 30, 2021 . Non-accrual loans increased to$4.4 million atJune 30, 2022 from$250 thousand atDecember 31, 2021 , and from$4.0 million atJune 30, 2021 . The increases in both non-performing assets and non-accrual loans fromDecember 31, 2021 toJune 30, 2022 were due to one$4.1 million loan that was moved to non-accrual status inJune 2022 . This loan has a loan-to-value of 76.3% based on an appraisal received inMay 2022 . We had no accruing loans past due 90 days or more atJune 30, 2022 andDecember 31, 2021 compared to$4.2 million in accruing loans past due 90 days or more atJune 30, 2021 . Loans past due 30 days or more represented 0.24% of the loan portfolio atJune 30, 2022 compared to 0.03% atDecember 31, 2021 , and compared to 0.49% atJune 30, 2021 . The ratio of classified loans plus OREO and repossessed assets declined to 5.16% of total bank regulatory risk-based capital atJune 30, 2022 from 6.27% atDecember 31, 2021 and from 9.45% atJune 30, 2021 . There were six loans totaling$4.4 million (0.47% of total loans) included on non-performing status (non-accrual loans and loans past due 90 days and still accruing) atJune 30, 2022 . All six of these loans totaling$4.4 million were on non-accrual status. The largest loan included on non-accrual status is in the amount of$4.1 million and is secured by a first mortgage lien and has a loan-to-value of 76.3% based on an appraisal received inMay 2022 . The average balance of the remaining five loans on non-accrual status is approximately$59 thousand with a range between$3 and$163 thousand . Three of these loans are secured by first mortgage liens and two loans are secured by second mortgage liens. Furthermore, we had$125 thousand in accruing trouble debt restructurings, or TDRs, atJune 30, 2022 compared to$1.4 million atDecember 31, 2021 . This reduction was due to the payoff of one loan. We consider a loan impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due, including both principal and interest, according to the contractual terms of the loan agreement. Nonaccrual loans and accruing TDRs are considered impaired. AtJune 30, 2022 , we had seven impaired loans totaling$4.4 million compared to 10 impaired loans totaling$1.7 million atDecember 31, 2021 . These loans were measured for impairment under the fair value of collateral method or present value of expected cash flows method. For collateral dependent loans, the fair value of collateral method is used and the fair value is determined by an independent appraisal less estimated selling costs. There was no specific allowance for loan and lease losses on our impaired loans atJune 30, 2022 andDecember 31, 2021 . AtJune 30, 2022 , we had 20 loans totaling$2.2 million that were delinquent 30 days to 89 days representing 0.24% of total loans compared to$235 thousand or 0.03% of total loans atDecember 31, 2021 .
Beginning inMarch 2020 , the Company proactively offered payment deferrals for up to 90 days to its loan customers regardless of the impact of the pandemic on their business or personal finances. As a result of payments being resumed at the conclusion of their payment deferral period, loans in which payments were being deferred decreased from the peak of$206.9 million to$16.1 million atDecember 31, 2020 , to$4.5 million atJune 30, 2021 , to zero atDecember 31, 2021 . Loan deferrals remained at zero atJune 30, 2022 . Our management continuously monitors non-performing, classified and past due loans to identify deterioration regarding the condition of these loans and given the ongoing and uncertain impact of the COVID-19 pandemic, we will continue to monitor our loan portfolio for potential risks. 40
The following table summarizes the activity related to our allowance for loan losses for the periods indicated:
Allowance for Loan Losses
Six Months Ended
June 30,
(Dollars in thousands) 2022 2021
Average loans outstanding (excluding loans held-for-sale) $ 877,810 $ 891,021
Loans outstanding at period end (excluding loans held-for-sale) $ 916,332 $ 878,318
Non-performing assets:
Nonaccrual loans $ 4,351 $ 3,986
Loans 90 days past due still accruing - 4,165 Foreclosed real estate 984 1,182 Repossessed-other - - Total non-performing assets $
5,335
Beginning balance of allowance$ 11,179 $ 10,389 Loans charged-off: Commercial - - Real Estate - Construction - -
Real Estate Mortgage - Residential - - Real Estate Mortgage - Commercial
- 110 Consumer - Home Equity - - Consumer - Other 33 37 Total loans charged-off 33 147 Recoveries: Commercial 11 3 Real Estate - Construction - -
Real Estate Mortgage - Residential 1 - Real Estate Mortgage - Commercial 243 11 Consumer - Home Equity 7 6 Consumer - Other 7 31 Total recoveries 269 51 Net loan charge offs (recoveries) (236 ) 96 (Release of ) provision for loan losses (195 ) 345 Balance at period end $
11,220
Net charge offs to average loans (annualized) -0.05 % 0.02 % Allowance as percent of total loans 1.22 % 1.21 % Non-performing assets as % of total assets 0.32 % 0.62 % Allowance as % of non-performing loans 257.87 % 130.51 % Nonaccrual loans as % of total loans 0.50 % 0.45 % Allowance as % of nonaccrual loans 257.87 % 266.88 %
The following table details net charge-offs to average loans outstanding by loan
category for the six months ended
Six Months Ended June 30,
2022 2021
Net Charge- Net Net Charge- Net
Offs Average Charge-Off Offs Average Charge-Off
(Recoveries) Loans HFI(1) Ratio (Recoveries) Loans HFI Ratio
Commercial, financial
& agricultural (11 ) 71,174 -0.02 % (3 ) 116,054 0.00 %
Real estate:
Construction - 94,044 0.00 % - 101,675 0.00 %
Mortgage-residential (1 ) 44,421 0.00 % - 41,350 0.00 %
Mortgage-commercial (243 ) 637,963 -0.04 % 99 586,495 0.02 %
Consumer:
Home Equity (8 ) 26,866 -0.03 % (6 ) 25,388 -0.02 %
Other 27 13,819 0.20 % 6 7,816 0.08 %
Total: (236 ) 888,287 -0.03 % 96 878,777 0.01 %
(1) Average loans exclude loans held for sale
41
The following allocation of the allowance to specific components is not necessarily indicative of future losses or future allocations. The entire allowance is available to absorb losses in the portfolio.
Composition of the Allowance for Loan Losses
(Dollars in thousands) June 30, 2022 December 31, 2021
% of % of
allowance in allowance in
Amount Category Amount CategoryCommercial, Financial and Agricultural$ 817 7.3 %$ 853 7.6 % Real Estate - Construction 84 0.7 % 113 1.0 % Real Estate Mortgage: Residential 546 4.9 % 560 5.0 % Commercial 8639 77.0 % 8,570 76.7 % Consumer: Home Equity 315 2.8 % 333 3.0 % Other 202 1.8 % 126 1.1 % Unallocated 617 5.5 % 624 5.6 % Total$ 11,220 100.0 %$ 11,179 100.0 % Accrual of interest is discontinued on loans when management believes, after considering economic and business conditions and collection efforts that a borrower's financial condition is such that the collection of interest is doubtful. A delinquent loan is generally placed in nonaccrual status when it becomes 90 days or more past due. At the time a loan is placed in nonaccrual status, all interest, which has been accrued on the loan but remains unpaid is reversed and deducted from earnings as a reduction of reported interest income. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain.
Non-interest Income and Non-interest Expense
Non-interest income during the six months endedJune 30, 2022 was$6.4 million compared to$6.7 million during the same period in 2021. Deposit service charges increased$69 thousand to$527 thousand during the six months endedJune 30, 2022 from$458 thousand during the same period in 2021 primarily due to higher non-sufficient funds (NSF) and overdraft fees. EffectiveJuly 1, 2022 , we increased the NSF de minimis amount to$50 from$5 and reduced our maximum fee per day to$140 from$210 , each of which will impact our future aggregate deposit service charges. Mortgage banking income declined by$813 thousand to$1.3 million during the six months endedJune 30, 2022 from$2.1 million during the same period in 2021. Mortgage production during the six months endedJune 30, 2022 was$51.0 million ,$45.9 million of the production was originated to be sold in the secondary market and$5.0 million of the production was originated as adjustable rate mortgage (ARM) loans for our loans held-for-investment portfolio, compared to$76.4 million , which was all produced to be sold in the secondary market during the same period in 2021. The gain on sale margin increased to 2.87% during the six months endedJune 30, 2022 from 2.79% during the same period in 2021. The reduction in mortgage production was primarily due to a higher interest rate environment and low housing inventory. With the headwinds of rising interest rates, we began to market an ARM product during the second quarter of 2022 to provide borrowers with an alternative to fixed-rate mortgages and to help offset anticipated mortgage production challenges. Currently, we are offering 5/1, 7/1, and 10/1 ARM loans that are originated for our loans held-for-investment portfolio. As these ARM loans are being held on our balance sheet as loans held-for-investment, the result is additive to loan growth and interest income but results in less gain on sale fee income, which is reported in noninterest income as mortgage banking income. Investment advisory fees increased$559 thousand to$2.4 million during the six months endedJune 30, 2022 from$1.8 million during the same period in 2021. Total assets under management declined to$524.3 million atJune 30, 2022 compared to$650.9 million atDecember 31, 2021 , and from$577.5 million atJune 30, 2021 . While revenue in our financial planning and investment management line of business increased during the first six months of 2022 compared to the same period in 2021, assets under management (AUM) have declined due to the stock market performance in the first six months of 2022. Our investment advisory fees trail changes in AUM, therefore, we anticipate that these fees will decline during the third quarter of 2022. Management continues to focus on both the mortgage banking income as well as the investment advisory fees and commissions. Gain (loss) on sale of other assets was a loss of$45 thousand during the six months endedJune 30, 2022 compared to a gain of$77 thousand during the same period in 2021. The$45 thousand loss on sale of other assets was related to the sale of one other real estate owned property during the six months endedJune 20, 2022 . 42 Non-interest income, other declined$24 thousand during the six months endedJune 30, 2022 compared to the same period in 2021 primarily due to a decline in other non-recurring income of$91 thousand partially offset by increases in ATM/debit card income of$33 thousand , income on bank owned life insurance of$13 thousand , rental income of$13 thousand , and wire transfer fees of$12 thousand . The reduction in other non-recurring income was related to the collection of a$100 thousand summary judgment related to a loan charged off at a bank, which we subsequently acquired, during the six months endedJune 30, 2021 . We recorded$9 thousand in other non-recurring income related to gains on insurance proceeds during the six months endedJune 30, 2022 . The following is a summary of the components of other non-interest income for the periods indicated: Six months ended (Dollars in thousands) June 30, 2022 2021 ATM debit card income$ 1,356 $ 1,323 Income on bank owned life insurance 358 345 Rental income 162 149 Other service fee and safe deposit box fees 122 118 Wire transfer fees 68 56 Other 122 221 Total$ 2,188 $ 2,212 Non-interest expense increased$724 thousand during the six months endedJune 30, 2022 to$20.1 million compared to$19.4 million during the same period in 2021. The$724 thousand increase in non-interest expense is primarily related to increased salaries and employee benefits expense of$382 thousand , increased occupancy expense of$27 thousand , increased equipment expense of$48 thousand , increased marketing and public relations expense of$98 thousand , and increased other expense of$287 thousand partially offset by a lowerFDIC assessment of$80 thousand , lower other real estate expense of$8 thousand , and lower amortization of intangibles of$30 thousand .
· Salary and benefit expense increased
six months ended
2021. This increase is primarily a result of normal salary adjustments,
financial planning and investment advisory commissions, and the addition of
four employees in our new loan production office in
Carolina partially offset by lower mortgage commissions and open positions. We
had 242 full time equivalent employees at
· Occupancy expense increased
months ended
in 2021 primarily related to some major maintenance projects, our new loan
production office in
services partially offset by lower bank premises taxes due to the sale of
two bank owned properties in 2021.
· Equipment expense increased
months ended June 30, 2022 compared to $613 thousand during the same
period in 2021 primarily due to increases in the ATM and security
monitoring service agreements.
· Marketing and public relations expense increased
thousand during the six months ended
thousand during the same period in 2021 due to larger media schedules
including activity in our new
· FDIC assessments declined $80 thousand to $235 thousand during the six
months ended June 30, 2022 compared to $315 thousand during the same
period in 2021 due to a reduction in our FDIC assessment rate.
· Other real estate expenses declined
six months ended
period in 2021 due to a
owned property during the six months ended June 30, 2022 compared $33
thousand on one property during the same period in 2021.
· Amortization of intangibles declined
the six months ended June 30, 2022 compared to $109 thousand during the
same period in 2021.
· Other expense increased
months ended
in 2021.
o ATM/debit card and data processing expense increased
due to higher ATM debit card customer activity, core processing system
expenses, and enhanced technology solutions.
o Fraud expense increased
incident.
o Travel, meals, and entertainment increased
meetings from eased COVID-19 restrictions.
o Courier expense increased $31 thousand due to higher fuel costs.
o Legal and professional fees declined
legal, audit, and accounting fees.
o Loan closing costs/fees declined
processing costs.
43
The following is a summary of the components of other non-interest expense for
the periods indicated:
Six months ended
(Dollars in thousands) June 30,
2022 2021
ATM/debit card and data processing* $ 2,042 $ 1,816
Telephone 166 190
Correspondent services 151 146
Insurance 172 159
Legal and professional fees 529 607
Investment advisory fees 212 210
Director fees 174 191
Shareholder expense 116 116
Dues 84 80
Loan closing costs/fees 98 165
Other 755 532
$ 4,499 $ 4,212
*Data processing includes core processing, bill payment, online banking, remote
deposit capture and postage costs for printing and mailing customer noticesand statements Income Tax Expense
We incurred income tax expense of$1.6 million and$1.8 million for the six months endedJune 30, 2022 and 2021, respectively. Our effective tax rate was 19.5% and 21.0% for the six months endedJune 30, 2022 and 2021, respectively. The reduction in the effective tax rate was primarily due to a$153 thousand non-recurring reduction to income tax expense during the six months endedJune 30, 2022 .
Comparison of Results of Operations for Three Months Ended
Net Income Our net income for the three months endedJune 30, 2022 was$3.1 million , or$0.41 diluted earnings per common share, as compared to$3.5 million , or$0.47 diluted earnings per common share, for the three months endedJune 30, 2021 . The$413 thousand decline in net income between the two periods is primarily due to a$409 thousand decline in non-interest income, a$310 thousand increase in non-interest expense, and a$41 thousand decline in net interest income partially offset by a$238 thousand reduction in provision for loan losses and a$109 thousand reduction in income tax expense partially.
· The increase in net interest income results from an increase of
in average earning assets partially offset by a 27 basis point decline in the
net interest margin between the two periods.
· The decline in non-interest income is primarily related to a decline in
mortgage banking income of
assets of
fees non-deposit commissions of
thousand, and other non-recurring income of
o We recorded
insurance proceeds during the three months ended
· The reduction in provision for loan losses is primarily related to a decrease
in our COVID-19 qualitative factor in our allowance for loan losses
methodology and net recoveries during the three months ended
partially offset by increases in our economic conditions qualitative factor
due to inflation, supply chain bottlenecks, labor shortages in certain
industries; by an increase in our change in total of past due, rated, and
non-accrual loans qualitative factor due to a
non-accrual status in June 2022 ; and by loan growth.
· The increase in non-interest expense is primarily related to increased
salaries and employee benefits expense of
expense of
of
lower other real estate expenses of $26 thousand , lower amortization of
intangibles of $12 thousand , and lower other expenses of $14 thousand .
· Our effective tax rate was 20.6% during the three months ended
compared to 20.6% during the three months ended
44 Net Interest Income Net interest income is our primary source of revenue. Net interest income is the difference between income earned on assets and interest paid on deposits and borrowings used to support such assets. Net interest income is determined by the rates earned on our interest-earning assets and the rates paid on our interest-bearing liabilities, the relative amounts of interest-earning assets and interest-bearing liabilities, and the degree of mismatch and the maturity and repricing characteristics of our interest-earning assets and interest-bearing liabilities. Please refer to the table at the end of this Item 2 (Management's Discussion and Analysis of Financial Condition and Results of Operations) for the average yields on assets and average rates on interest-bearing liabilities during the three-month periods endedJune 30, 2022 and 2021, along with average balances and the related interest income and interest expense amounts. Net interest income declined$41 thousand , or 0.4%, to$11.1 million for the three months endedJune 30, 2022 from$11.1 million for the three months endedJune 30, 2021 . Our net interest margin declined by 27 basis points to 2.90% during the three months endedJune 30, 2022 from 3.17% during the three months endedJune 30, 2021 . Our net interest margin, on a taxable equivalent basis, was 2.93% for the three months endedJune 30, 2022 compared to 3.20% for the three months endedJune 30, 2021 . Average earning assets increased$125.6 million , or 8.9%, to$1.5 billion for the three months endedJune 30, 2022 compared to$1.4 billion in the same period of 2021.
· The increase in net interest income was primarily due to a higher level of
average earning assets partially offset by lower net interest margin.
· The increase in average earning assets was due to increases in non-PPP loans
and securities partially offset by declines in PPP loans and other short-term
investments.
· Although market interest rates have increased in 2022, the decline in net
interest margin was primarily due to the
range of the federal funds rate two times totaling 150 basis points during the
first quarter of 2020 and the excess liquidity generated from PPP loan
proceeds, other stimulus funds related to the COVID-19 pandemic, and organic
deposit growth being deployed in lower yielding securities.
· Interest income on PPP loans declined to
ended
2021 due to a reduction in PPP loans.
· Low market rates, the competitive loan pricing environment, the COVID-19
pandemic, and a larger percent of our earning assets in lower yielding
securities and other short-term investments put downward pressure on our net
interest margin during 2021 and the first six months of 2022 even though
interest rates have increased starting in
· Interest income on variable rate collateralized mortgage obligations, primarily
consisting of GNMA home equity conversion mortgages, declined
negative interest income of
30, 2022 from positive interest income of
in 2021.
o This decline was due to an increase in prepayments, which resulted in
accelerated amortization of the premium on these investments. Also, a
million loan was moved to non-accrual status in
$51 thousand reversal to interest income inJune 2022 . Average loans increased$1.0 million , or 0.1%, to$896.6 million for the three months endedJune 30, 2022 from$895.6 million for the same period in 2021. Average PPP loans declined$55.3 million and average Non-PPP loans increased$56.4 million to$256 thousand and$896.4 million , respectively, for the three months endedJune 30, 2022 . Average loans represented 58.6% of average earning assets during the three months endedJune 30, 2022 compared to 63.8% of average earning assets during the same period in 2021. The decline in average loans as a percentage of average earning assets was primarily due to increases in deposits of$142.9 million and securities sold under agreements to repurchase of$11.7 million ; and a$55.3 million reduction in average PPP loans. The$154.6 million growth in our deposits and securities sold under agreements to repurchase compared to the$1.0 million increase in our loans resulted in the excess funds being deployed in our securities portfolio. The yield on loans declined 20 basis points to 4.16% during the three months endedJune 30, 2022 from 4.36% during the same period in 2021. The yield on Non-PPP loans was 4.16% during the three months endedJune 30, 2022 . Average securities for the three months endedJune 30, 2022 increased$129.6 million , or 30.1%, to$560.4 million from$430.9 million during the same period in 2021. Other short-term investments declined$4.9 million to$72.8 million during the three months endedJune 30, 2022 from$77.8 million during the same period in 2021 due to the deployment of lower yielding other short-term investments into higher yielding securities. The yield on our securities portfolio declined to 1.47% for the three months endedJune 30, 2022 from 1.76% for the same period in 2021. These declines were primarily related to the reduction in interest income on variable rate collateralized mortgages and the low interest rate environment described above. The yield on our other short-term investments increased to 0.88% for the three months endedJune 30, 2022 from 0.15% for the same period in 2021 due to the followingFederal Open Market Committee (FOMC) increases in the target range of federal funds during the first six months of 2022: 45 - 0.25% onMarch 16, 2022 ; - 0.50% onMay 4, 2022 ; and - 0.75% onJune 15, 2022 . The target range of federal funds was 1.50% - 1.75% atJune 30, 2022 compared to 0.25% - 0.50% atMarch 31, 2022 compared to 0.00% - 0.25% atDecember 31, 2021 andJune 30, 2021 .
The yield on earning assets for the three months ended
The cost of interest-bearing liabilities was at 18 basis points during the three months endedJune 30, 2022 compared to 24 basis points during the same period in 2021. The cost of deposits, including demand deposits, was nine basis points during the three months endedJune 30, 2022 compared to 14 basis points during the same period in 2021. The cost of funds, including demand deposits, was 12 basis points during the three months endedJune 30, 2022 compared to 17 basis points during the same period in 2021. We continue to focus on growing our pure deposits (demand deposits, interest-bearing transaction accounts, savings deposits, money market accounts, IRAs, and customer cash management repurchase agreements) as these accounts tend to be low-cost deposits and assist us in controlling our overall cost of funds. During the three months endedJune 30, 2022 , these deposits averaged 91.9% of total deposits as compared to 90.4% during the same period of 2021.
Non-interest Income and Non-interest Expense
Non-interest income during the three months endedJune 30, 2022 was$3.0 million compared to$3.4 million during the same period in 2021. Deposit service charges increased$50 thousand to$262 thousand during the three months endedJune 30, 2022 from$212 thousand during the same period in 2021 primarily due to higher non-sufficient funds (NSF) and overdraft fees. EffectiveJuly 1, 2022 , we increased the NSF de minimis to$50 from$5 and reduced our maximum fee per day to$140 from$210 , each of which will impact our future aggregate deposit service charges. Mortgage banking income declined by$662 thousand to$481 thousand during the three months endedJune 30, 2022 from$1.1 million during the same period in 2021. Mortgage production during the three months endedJune 30, 2022 was$21.0 million ,$16.0 million of the production was originated to be sold in the secondary market and$5.0 million of the production was originated as adjustable rate mortgage (ARM) loans for our loans held-for-investment portfolio, compared to$33.7 million , which was all produced to be sold in the secondary market during the same period in 2021. The gain on sale margin increased to 3.01% during the three months endedJune 30, 2022 from 2.32% during the same period in 2021. The reduction in mortgage production was primarily due to a higher interest rate environment and low housing inventory. With the headwinds of rising interest rates, we began to market an ARM product during the second quarter of 2022 to provide borrowers with an alternative to fixed rate mortgages and to help offset anticipated mortgage production challenges. Currently, we are offering 5/1, 7/1, and 10/1 ARM loans that are originated for our loans held-for-investment portfolio. As these ARM loans are being held on our balance sheet as loans held-for-investment, the result is additive to loan growth and interest income but results in less gain on sale fee income, which is reported in noninterest income as mortgage banking income. Investment advisory fees increased$238 thousand to$1.2 million during the three months endedJune 30, 2022 from$1.0 million during the same period in 2021. Total assets under management declined to$524.3 million atJune 30, 2022 compared to$650.9 million atDecember 31, 2021 , and from$577.5 million atJune 30, 2021 . While revenue in our financial planning and investment management line of business increased during the three months endedJune 30, 2022 compared to the same period in 2021, assets under management (AUM) have declined due to the stock market performance in the first six months of 2022. Our investment advisory fees trail changes in AUM, therefore, we anticipate that these fees will decline during the third quarter of 2022. Management continues to focus on both the mortgage banking income as well as the investment advisory fees and commissions. Gain (loss) on sale of other assets was a loss of$45 thousand during the three months endedJune 30, 2022 compared to zero during the same period in 2021. The$45 thousand loss on sale of other assets was related to the sale of one other real estate owned property during the three months ended
June 20, 2022 . Non-interest income, other increased$10 thousand during the three months endedJune 30, 2022 compared to the same period in 2021 primarily due to an increase in other non-recurring income of$5 thousand related to gains on insurance proceeds during the three months endedJune 30, 2022 . 46 The following is a summary of the components of other non-interest income for the periods indicated: Three months ended (Dollars in thousands) June 30, 2022 2021 ATM debit card income$ 699 $ 696 Income on bank owned life insurance 179 179 Rental income 82 78 Other service fees and safe deposit box fees 62 57 Wire transfer fees 34 30 Other 60 66 Total$ 1,116 $ 1,106
Non-interest expense increased$310 thousand during the three months endedJune 30, 2022 to$10.2 million compared to$9.9 million during the same period in 2021. The$310 thousand increase in non-interest expense is primarily related to increased salaries and employee benefits expense of$227 thousand , increased occupancy expense of$52 thousand , and increased marketing and public relations expense of$133 thousand , partially offset by a lowerFDIC assessment of$41 thousand , lower other real estate expenses of$26 thousand , lower amortization of intangibles of$12 thousand , lower equipment expense of$9 thousand , and lower other expenses of$14 thousand .
· Salary and benefit expense increased
three months ended
2021. This increase is primarily a result of normal salary adjustments,
financial planning and investment advisory commissions, and the addition of
four employees in our new loan production office in
Carolina partially offset by lower mortgage commissions and open positions. We
had 242 full time equivalent employees at June 30, 2022 compared to 249 at
June 30, 2021 .
· Occupancy expense increased
months ended
2021 primarily related to some major maintenance projects and our new loan
production office in
janitorial services and lower bank premises taxes due to the sale of two bank
owned properties in 2021.
· Equipment expense declined
months ended
2021.
· Marketing and public relations expense increased $133 thousand to $446
thousand during the three months ended
during the same period in 2021 due to larger media schedules including
activity in our new Piedmont Region .
·
months ended
2021 due to a reduction in our
· Other real estate expenses declined
three months ended
period in 2021 due to
three months ended
· Amortization of intangibles declined
three months ended
period in 2021.
· Other expense declined
ended
o ATM/debit card and data processing expense increased
due to higher ATM debit card customer activity, core processing system
expenses, and enhanced technology solutions.
o Operating errors and fraud expense increased $19 thousand .
o Travel, meals, and entertainment increased
meetings from eased COVID-19 restrictions.
o Contributions increased $13 thousand .
o Professional fees declined
professional fees.
o Loan closing costs/fees declined
processing costs.
o Other Director benefits declined $28 thousand .
o Telephone expense declined $15 thousand .
47
The following is a summary of the components of other non-interest expense for
the periods indicated:
(Dollars in thousands) Three months ended
June 30,
2022 2021
ATM/debit card and data processing* $ 1,036 $ 960
Telephone 86 101
Correspondent services 80 75
Insurance 86 79
Legal and professional fees 272 344
Investment advisory fees 98 97
Director fees 97 96
Shareholder expense 65 67
Dues 42 40
Loan closing costs/fees 62 115
Other 354 318
$ 2,278 $ 2,292 *Data processing includes core processing, bill payment, online banking, remote deposit capture and postage costs for printing and mailing customer notices
and statements Financial Position Assets totaled$1.7 billion atJune 30, 2022 and$1.6 billion atDecember 31, 2021 . Loans (excluding loans held-for-sale) increased$52.6 million to$916.3 million atJune 30, 2022 from$863.7 million atDecember 31, 2021 . Total loan production excluding PPP loans and a PPP related credit facility was$80.3 million during the three months endedJune 30, 2022 and$135.6 million during the six months endedJune 30, 2022 compared to$61.1 million and$101.3 million during the same periods in 2021. Loans held-for-sale declined to$4.5 million atJune 30, 2022 from$7.1 million atJune 30, 2021 . Mortgage production during the three months endedJune 30, 2022 was$21.0 million ,$16.0 million of the production was originated to be sold in the secondary market and$5.0 million of the production was originated as adjustable rate mortgage (ARM) loans for our loans held-for-investment portfolio, compared to$33.7 million , which was all produced to be sold in the secondary market during the same period in 2021. Mortgage production during the six months endedJune 30, 2022 was$51.0 million ,$45.9 million of the production was originated to be sold in the secondary market and$5.0 million of the production was originated as ARM loans for our loans held-for-investment portfolio, compared to$76.4 million , which was all produced to be sold in the secondary market during the same period in 2021. The loan-to-deposit ratio (including loans held-for-sale) atJune 30, 2022 andDecember 31, 2021 was 62.7% and 64.0%, respectively. The loan-to-deposit ratio (excluding loans held-for-sale) atJune 30, 2022 andDecember 31, 2021 was 62.4% and 63.4%, respectively. Investment securities increased to$572.9 million atJune 30, 2022 from$566.6 million atDecember 31, 2021 . OnJune 1, 2022 , we reclassified$224.5 million in investments to held-to-maturity (HTM) from available-for-sale (AFS). These securities were transferred at fair value at the time of the transfer, which became the new cost basis for the securities held to maturity. The pretax unrealized net holding loss on the available for sale securities on the date of transfer totaled approximately$16.7 million , and continued to be reported as a component of accumulated other comprehensive loss. This net unrealized loss is being amortized to interest income over the remaining life of the securities as a yield adjustment. There were no gains or losses recognized as a result of this transfer. The remaining pretax unrealized net holding loss on these investments was$16.6 million ($13.1 million net of tax) atJune 30, 2022 . With the addition of other purchased investments classified as HTM during the three months endedJune 30, 2022 , our HTM investments totaled$233.7 million and represented approximately 41% of our total investments atJune 30, 2022 . Our AFS investments totaled$337.3 million with a modified duration of 2.84 atJune 30, 2022 . Other short-term investments increased to$76.9 million atJune 30, 2022 from$47.0 million atDecember 31, 2021 . The increases in investments and other short-term investments are primarily due to organic deposit growth and excess liquidity from customer's PPP loan proceeds and other stimulus funds related to the COVID-19 pandemic. 48 Non-PPP loans increased$53.8 million to$916.1 million atJune 30, 2022 from$862.2 million atDecember 31, 2021 . PPP loans declined$1.2 million to$269 thousand atJune 30, 2022 from$1.5 million atDecember 31, 2021 . During 2020 and 2021, we originated 1,417 PPP loans totaling$88.5 million , which includes 843 PPP loans totaling$51.2 million originated in 2020 and 574 PPP loans totaling$37.3 million originated in 2021. Furthermore, during 2020, we facilitated the origination of 111 PPP loans totaling$31.2 million for our customers through a third party prior to establishing our own PPP platform. As ofJune 30, 2022 , 1,414 PPP loans totaling$88.2 million (843 PPP loans totaling$51.2 million originated in 2020 and 571 PPP loans totaling$37.0 million originated in 2021) were forgiven through the SBA PPP forgiveness process. One of our goals as a community bank has been, and continues to be, to grow our assets through quality loan growth by providing credit to small and mid-size businesses and individuals within the markets we serve. We remain committed to meeting the credit needs of our local markets. The following table shows the composition of the loan portfolio by category at the dates indicated: (Dollars in thousands) June 30, 2022 December 31, 2021 Amount Percent Amount Percent
Commercial, financial & agricultural
8.1 %
Real estate:
Construction 94,159 10.3 % 94,969 11.0 %
Mortgage - residential 46,767 5.1 % 45,498 5.3 %
Mortgage - commercial 662,779 72.3 % 617,464 71.5 %
Consumer:
Home Equity 27,348 3.0 % 27,116 3.1 %
Other 15,290 1.7 % 8,703 1.0 %
Total gross loans 916,332 100.0 % 863,702 100.0 %
Allowance for loan losses (11,220 ) (11,179 )
Total net loans $ 905,112 $ 852,523
In the context of this discussion, a real estate mortgage loan is defined as any
loan, other than loans for construction purposes and advances on home equity
lines of credit, secured by real estate, regardless of the purpose of the loan.
Advances on home equity lines of credit are included in consumer loans. We
follow the common practice of financial institutions in our market areas of
obtaining a security interest in real estate whenever possible, in addition to
any other available collateral. This collateral is taken to reinforce the
likelihood of the ultimate repayment of the loan and tends to increase the
magnitude of the real estate loan components. We generally limit the
loan-to-value ratio to 80%.
The previously referenced PPP loans and PPP related credit facility are included in "Commercial, financial & agricultural" loans above.
49
The repayment of loans in the loan portfolio as they mature is a source of
liquidity. The following table sets forth the loans maturing within specified
intervals at
Loan Maturity Schedule and Sensitivity to Changes in Interest Rates
June 30, 2022
Over One Year Over Five Years
One Year Through Five Through Fifteen Over Fifteen
(In thousands) or Less Years years Years Total
Commercial, financial and
agricultural $ 7,115 $ 38,789 $ 24,085 $ 0 $ 69,989
Real estate:
Construction 36,149 29,187 28,823 0 94,159
Mortgage-residential 1,541 15,002 2,834 27,390 46,767
Mortgage-commercial 44,907 383,672 231,092 3,108 662,779
Consumer:
Home equity 1,645 7,418 18,285 0 27,348
Other 2,652 11,952 288 398 15,290
Total $ 94,009 $ 486,020 $ 305,407 $ 30,896 $ 916,332
Loans maturing after one year with:
Variable Rate $ 86,024
Fixed Rate 736,299
$ 822,323 The information presented in the above table is based on the contractual maturities of the individual loans, including loans which may be subject to renewal at their contractual maturity. Renewal of such loans is subject to review and credit approval, as well as modification of terms upon their maturity.
Investment Securities Maturity Distribution and Yields
The following table shows, at amortized cost, the expected maturities and weighted average yield, which is calculated using amortized cost as the weight and tax-equivalent book yield, of Available-For-Sale securities held atJune 30, 2022 : Over One Year Over Five Years Within One and less than and less than Over Ten (In thousands) Year Five Ten years Available-for-Sale: Amount Yield Amount Yield Amount Yield Amount YieldUS Treasury Securities $ - -$ 44,703 1.67 % 15,750 1.21 % $ - - Government sponsored enterprises 2,500 0.58 % - - - - - - Small Business Administration pools 801 0.09 % 22,787 2.12 % 2,242 2.37 % - -
Mortgage-backed
securities 3,531 0.22 % 101,910 -0.05 % 126,334 2.14 % 24,953 2.42 % State and local government - - - - - - - - Corporate and other securities - - 5,777 4.18 % 2,984 4.19 % 9 3.70 % Total investment securities available-for-sale$ 6,832 0.33 %$ 175,177 0.81 %$ 147,310 2.09 %$ 24,962 2.42 % 50 The following table shows, at amortized cost, the expected maturities and weighted average yield, which is calculated using amortized cost as the weight and tax-equivalent book yield, of Available-For-Sale securities held atDecember 31, 2021 : Over One Year Over Five Years Within One and less than and less than Over Ten (In thousands) Year Five Ten years Available-for-Sale: Amount Yield Amount Yield Amount Yield Amount Yield US Treasury Securities $ - - $ - -$ 15,736 1.21 % $ - - Government sponsored enterprises 2,499 0.58 % - - - - - - Small Business Administration pools 466 1.90 % 22,398 1.84 % 5,613 2.27 % 2,359 1.87 % Mortgage-backed securities 12,828 2.04 % 129,221 1.31 % 135,147 1.65 % 120,931 1.08 % State and local government 4,244 1.35 % 18,667 2.99 %
78,435 2.33 % 4,123 3.18 % Corporate and other securities - - 5,029 3.82 % 2,984 4.18 % 9 3.70 % Total investment securities
available-for-sale$ 20,037 1.71 %$ 175,315 1.63 % $
237,915 1.89 %$ 127,422 1.16 % The following table shows, at amortized cost, the expected maturities and weighted average yield, which is calculated using amortized cost as the weight and tax-equivalent book yield, of Held-To-Maturity securities held at June
30,
2022:
Over One Year Over Five Years
Within One and less than and less than Over Ten
(In thousands) Year Five Ten years
Held-To-Maturity: Amount Yield Amount Yield Amount
Yield Amount Yield
US Treasury
Securities $ - - $ - - - - $ - -
Government
sponsored
enterprises - - - - - - - -
Small Business
Administration
pools - - - - - - - -
Mortgage-backed
securities 10,861 2.45 % 51,311 3.01 % 64,227 2.28 % 4,809 3.59 %
State and local
government 1,532 1.51 % 15,717 2.53 % 53,573 3.29 % 31,700 3.77 %
Corporate and
other securities - - - - - - - -
Total investment
securities
held-to-maturity $ 12,393 2.33 % $ 67,028 2.90 % $117,800 2.74 %$ 36,509 3.74 %
Deposits increased$107.7 million to$1.5 billion atJune 30, 2022 compared to$1.4 billion atDecember 31, 2021 . Our pure deposits, which are defined as total deposits less certificates of deposits plus customer cash management repurchase agreements, increased$132.9 million to$1.4 billion atJune 30, 2022 from$1.3 billion atDecember 31, 2021 . We continue to focus on growing our pure deposits as a percentage of total deposits in order to better manage our overall cost of funds. We had no brokered deposits and no listing services deposits atJune 30, 2022 . Our securities sold under agreements to repurchase, which are related to our customer cash management accounts and included in pure deposits, increased$17.6 million to$71.8 million atJune 30, 2022 from$54.2 million atDecember 31, 2021 . 51
The following table sets forth the deposits by category:
June 30, December 31,
2022 2021
% of % of
(In thousands) Amount Deposits Amount Deposits
Demand deposit accounts $ 476,024 32.4 % $ 444,688 32.6 %
Interest bearing checking accounts 357,326 24.3 % 331,638 24.4 %
Money market accounts 314,980 21.5 % 287,419 21.1 %
Savings accounts 170,557 11.6 % 143,765 10.6 %
Time deposits less than $100,000 71,552 4.9 % 74,489 5.5 %
Time deposits more than $100,000 78,536 5.3 % 79,292 5.8 %
$ 1,468,975 100.0 % $ 1,361,291 100.0 %
Maturities of Certificates of Deposit and Other Time Deposit of
AtJune 30, 2022 , time deposits in excess of theFDIC insurance limit were as follows: June 30, 2022 After Three After Six After Within Three Through Through Twelve (In thousands) Months Six Months Twelve Months Months Total
Time deposits of$250,000 or more$ 5,240 $ 9,832
$ 9,560$ 4,484 $ 29,116
Total uninsured deposits amounted to
52 AtDecember 31, 2021 , time deposits in excess of theFDIC insurance limit were as follows: December 31, 2021 After Three After Six After Within Three Through Through Twelve (In thousands) Months Six Months Twelve Months Months Total
Time deposits of$250,000 or more$ 5,836 $ 5,899
$ 4,208$ 11,955 $ 27,898 Total shareholders' equity declined$23.4 million , or 16.6%, to$117.6 million atJune 30, 2022 from$141.0 million atDecember 31, 2021 . The$23.4 million decline in shareholders' equity was due to a$29.8 million reduction in accumulated other comprehensive income (loss) partially offset by a$4.6 million increase in retention of earnings less dividends paid, the transfer of$1.2 million in deferred board compensation stock units from other liabilities to shareholders' equity, the transfer of$0.2 million in restricted stock units from other liabilities to shareholder's equity, a$0.2 million increase due to employee and director stock awards, and a$0.2 million increase due to dividend reinvestment plan (DRIP) purchases. The decline in accumulated other comprehensive income was due to an increase in market interest rates, which has a temporary negative impact on the fair value of our investment securities portfolio and on accumulated other comprehensive income (loss), which is included in shareholders' equity. OnJune 1, 2022 , we reclassified$224.5 million in investments to held-to-maturity (HTM) from available-for-sale (AFS). These securities were transferred at fair value at the time of the transfer, which became the new cost basis for the securities held to maturity. The pretax unrealized net holding loss on the available for sale securities on the date of transfer totaled approximately$16.7 million , and continued to be reported as a component of accumulated other comprehensive loss. This net unrealized loss is being amortized to interest income over the remaining life of the securities as a yield adjustment. There were no gains or losses recognized as a result of this transfer. The remaining pretax unrealized net holding loss on these investments was$16.6 million ($13.1 million net of tax) atJune 30, 2022 . With the addition of other purchased investments classified as HTM during the three months endedJune 30, 2022 , our HTM investments totaled$233.7 million and represented approximately 41% of our total investments atJune 30, 2022 . Our AFS investments totaled$337.3 million with a modified duration of 2.84 atJune 30, 2022 . OnApril 12, 2021 , we announced that our Board of Directors approved the repurchase of up to 375,000 shares of our common stock (the "2021 Repurchase Plan"). No repurchases were made under the 2021 Repurchase Plan prior to its expiration at the market close onMarch 31, 2022 . OnApril 20, 2022 , we announced that our Board of Directors approved the repurchase of up to 375,000 shares of our common stock (the "2022 Repurchase Plan"), which represented approximately 5% of our 7,566,633 shares outstanding as ofJune 30, 2022 . No repurchases have been made under the 2022 Repurchase Plan. The 2022 Repurchase Plan expires at the market close onDecember 31, 2023 . Market Risk Management Market risk reflects the risk of economic loss resulting from adverse changes in market prices and interest rates. The risk of loss can be measured in either diminished current market values or reduced current and potential net income. Our primary market risk is interest rate risk. We have established an Asset/Liability Management Committee (the "ALCO") to monitor and manage interest rate risk. The ALCO monitors and manages the pricing and maturity of our assets and liabilities in order to diminish the potential adverse impact that changes in interest rates could have on our net interest income. The ALCO has established policy guidelines and strategies with respect to interest rate risk exposure and liquidity. We employ a monitoring technique to measure of our interest sensitivity "gap," which is the positive or negative dollar difference between assets and liabilities that are subject to interest rate repricing within a given period of time. Simulation modeling is performed to assess the impact varying interest rates and balance sheet mix assumptions will have on net interest income. We model the impact on net interest income for several different changes, to include a flattening, steepening and parallel shift in the yield curve. For each of these scenarios, we model the impact on net interest income in an increasing and decreasing rate environment of 100 and 200 basis points. We also periodically stress certain assumptions such as loan prepayment rates, deposit decay rates and interest rate betas to evaluate our overall sensitivity to changes in interest rates. Policies have been established in an effort to maintain the maximum anticipated negative impact of these modeled changes in net interest income at no more than 10% and 15%, respectively, in a 100 and 200 basis point change in interest rates over a 12-month period. Interest rate sensitivity can be managed by repricing assets or liabilities, selling securities available-for-sale, replacing an asset or liability at maturity or by adjusting the interest rate during the life of an asset or liability. Managing the amount of assets and liabilities repricing in the same time interval helps to hedge the risk and minimize the impact on net interest income of rising or falling interest rates. Neither the "gap" analysis or asset/liability modeling are precise indicators of our interest sensitivity position due to the many factors that affect net interest income including, the timing, magnitude and frequency of interest rate changes as well as changes in the volume and mix of earning assets and interest-bearing liabilities. 53
Based on the many factors and assumptions used in simulating the effect of changes in interest rates, the following table estimates the hypothetical percentage change in net interest income atJune 30, 2022 andDecember 31, 2021 over the subsequent 12 months. AtJune 30, 2022 andDecember 31, 2021 , we are asset sensitive. As a result, our modeling reflects an increase in net interest income in a rising interest rate environment and a reduction in net interest income in a declining interest rate environment. In a declining rate environment, the decline in net interest income is primarily due to the current level of interest rates being paid on our interest bearing transaction accounts as well as money market accounts. The interest rates on these accounts are at a level where they cannot be repriced in proportion to the change in interest rates. The increase and decrease of 100 and 200 basis points, respectively, reflected in the table below assume a simultaneous and parallel change in interest rates along the entire yield curve.
Net Interest Income Sensitivity
Hypothetical
percentage change in
Change in short-term interest rates net interest income
June 30, 2022 December 31, 2021
+200bp +1.53 % +3.04 %
+100bp +0.96 % +2.12 %
Flat - -
-100bp +0.28 % -5.12 %
-200bp -7.11 % -9.81 %
During the second 12-month period after 100 basis point and 200 basis point simultaneous and parallel increases in interest rates along the entire yield curve, our net interest income is projected to increase 5.08% and 9.87%, respectively, atJune 30, 2022 compared to 7.82% and 15.00%, respectively,
atDecember 31, 2021 . We perform a valuation analysis projecting future cash flows from assets and liabilities to determine the Present Value of Equity ("PVE") over a range of changes in market interest rates. The sensitivity of PVE to changes in interest rates is a measure of the sensitivity of earnings over a longer time horizon. AtJune 30, 2022 andDecember 31, 2021 , the PVE exposure in a plus 200 basis point increase in market interest rates was estimated to be 3.88% and 9.73%, respectively. The PVE exposure in a down 100 basis point decrease was estimated to be (5.46)% atJune 30, 2022 compared to (9.86)% atDecember 31, 2021 .
Liquidity and Capital Resources
Liquidity management involves monitoring sources and uses of funds in order to meet our day-to-day cash flow requirements while maximizing profits. Liquidity represents our ability to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control. For example, the timing of maturities of the investment portfolio is very predictable and subject to a high degree of control at the time investment decisions are made. However, net deposit inflows and outflows are far less predictable and are not subject to nearly the same degree of control. Asset liquidity is provided by cash and assets which are readily marketable, or which can be pledged, or which will mature in the near future. Liability liquidity is provided by access to core funding sources, principally the ability to generate customer deposits in our market area. In addition, liability liquidity is provided through the ability to borrow against approved lines of credit (federal funds purchased) from correspondent banks and to borrow on a secured basis through securities sold under agreements to repurchase. The Bank is a member of the FHLB and has the ability to obtain advances for various periods of time. These advances are secured by eligible securities pledged by the Bank or assignment of eligible loans within the Bank's portfolio. We had no brokered deposits and no listing services deposits atJune 30, 2022 . We believe that we have ample liquidity to meet the needs of our customers through our low cost deposits, our ability to borrow against approved lines of credit (federal funds purchased) from correspondent banks, and our ability to obtain advances secured by certain securities and loans from the FHLB. 54
We generally maintain a high level of liquidity and adequate capital, which along with continued retained earnings, we believe will be sufficient to fund the operations of the Bank for at least the next 12 months. Furthermore, we believe that we will have access to adequate liquidity and capital to support the long-term operations of the Bank. Shareholders' equity declined to 7.0% of total assets atJune 30, 2022 from 8.9% atDecember 31, 2021 due to total asset growth of$100.3 million compared to total shareholders' equity decline of$23.4 million . The growth in total assets was primarily due to excess liquidity from customer's PPP loans, other stimulus funds related to the COVID-19 pandemic, organic deposit growth, and loan growth. The$23.4 million decline in shareholders' equity was due to a$29.8 million reduction in accumulated other comprehensive income (loss) partially offset by a$4.6 million increase in retention of earnings less dividends paid, the transfer of$1.2 million in deferred board compensation stock units from other liabilities to shareholders' equity, the transfer of$0.2 million in restricted stock units from other liabilities to shareholder's equity, a$0.2 million increase due to employee and director stock awards, and a$0.2 million increase due to dividend reinvestment plan (DRIP) purchases. The decline in accumulated other comprehensive income was due to an increase in market interest rates, which has a temporary negative impact on the fair value of our investment securities portfolio and on accumulated other comprehensive income (loss), which is included in shareholders' equity. OnJune 1, 2022 , we reclassified$224.5 million in investments to held-to-maturity (HTM) from available-for-sale (AFS). These securities were transferred at fair value at the time of the transfer, which became the new cost basis for the securities held to maturity. The pretax unrealized net holding loss on the available for sale securities on the date of transfer totaled approximately$16.7 million , and continued to be reported as a component of accumulated other comprehensive loss. This net unrealized loss is being amortized to interest income over the remaining life of the securities as a yield adjustment. There were no gains or losses recognized as a result of this transfer. The remaining pretax unrealized net holding loss on these investments was$16.6 million ($13.1 million net of tax) atJune 30, 2022 . With the addition of other purchased investments classified as HTM during the three months endedJune 30, 2022 , our HTM investments totaled$233.7 million and represented approximately 41% of our total investments atJune 30, 2022 . Our AFS investments totaled$337.3 million with a modified duration of 2.84 atJune 30, 2022 . The Bank maintains federal funds purchased lines in the total amount of$60.0 million with two financial institutions, although these were not utilized atJune 30, 2022 , and$10 million through the Federal Reserve Discount Window. The FHLB ofAtlanta has approved a line of credit of up to 25% of the Bank's assets, which, when utilized, is collateralized by a pledge against specific investment securities and/or eligible loans. Through the operations of our Bank, we have made contractual commitments to extend credit in the ordinary course of our business activities. These commitments are legally binding agreements to lend money to our customers at predetermined interest rates for a specified period of time. AtJune 30, 2022 , we had issued commitments to extend unused credit of$145.5 million , including$44.4 million in unused home equity lines of credit, through various types of lending arrangements. AtDecember 31, 2021 , we had issued commitments to extend unused credit of$137.4 million , including$42.9 million in unused home equity lines of credit, through various types of lending arrangements. We evaluate each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our credit evaluation of the borrower. Collateral varies but may include accounts receivable, inventory, property, plant and equipment, commercial and residential real estate. We manage the credit risk on these commitments by subjecting them to normal underwriting and risk management processes.
We regularly review our liquidity position and have implemented internal policies establishing guidelines for sources of asset-based liquidity and evaluate and monitor the total amount of purchased funds used to support the balance sheet and funding from noncore sources.
Regulatory capital rules known as the Basel III rules or Basel III, impose minimum capital requirements for bank holding companies and banks. Basel III was released in the form of enforceable regulations by each of the applicable federal bank regulatory agencies. Basel III is applicable to all banking organizations that are subject to minimum capital requirements, including federal and state banks and savings and loan associations, as well as to bank and savings and loan holding companies, other than "small bank holding companies." A small bank holding company is generally a qualifying bank holding company or savings and loan holding company with less than$3.0 billion in consolidated assets. More stringent requirements are imposed on "advanced approaches" banking organizations-generally those organizations with$250 billion or more in total consolidated assets,$10 billion or more in total foreign exposures applicable to advanced approaches banking organizations.
55 Based on the foregoing, as a small bank holding company, we are generally not subject to the capital requirements at the holding company level unless otherwise advised by theFederal Reserve ; however, our Bank remains subject to the capital requirements. Accordingly, the Bank is required to maintain the following capital levels: · a Common Equity Tier 1 risk-based capital ratio of 4.5%; · a Tier 1 risk-based capital ratio of 6%; · a total risk-based capital ratio of 8%; and · a leverage ratio of 4%. Basel III also established a "capital conservation buffer" above the regulatory minimum capital requirements, which must consist entirely of Common Equity Tier 1 capital, which was phased in over several years. The fully phased-in capital conservation buffer of 2.500%, which became effective onJanuary 1, 2019 , resulted in the following effective minimum capital ratios for the Bank beginning in 2019: (i) a Common Equity Tier 1 capital ratio of 7.0%, (ii) a Tier 1 capital ratio of 8.5%, and (iii) a total capital ratio of 10.5%. UnderBasel III, institutions are subject to limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses if their capital levels fall below the buffer amount. These limitations establish a maximum percentage of eligible retained income that could be utilized for such actions. Under Basel III, Tier 1 capital includes two components: Common Equity Tier 1 capital and additional Tier 1 capital. The highest form of capital, Common Equity Tier 1 capital, consists solely of common stock (plus related surplus), retained earnings, accumulated other comprehensive income, otherwise referred to as AOCI, and limited amounts of minority interests that are in the form of common stock. Additional Tier 1 capital is primarily comprised of noncumulative perpetual preferred stock, Tier 1 minority interests and grandfathered trust preferred securities. Tier 2 capital generally includes the allowance for loan losses up to 1.25% of risk-weighted assets, qualifying preferred stock, subordinated debt and qualifying Tier 2 minority interests, less any deductions in Tier 2 instruments of an unconsolidated financial institution. AOCI is presumptively included in Common Equity Tier 1 capital and often would operate to reduce this category of capital. When implemented, Basel III provided a one-time opportunity at the end of the first quarter of 2015 for covered banking organizations to opt out of a large part of this treatment of AOCI. We made this opt-out election and, as a result, retained our pre-existing treatment for
AOCI. 56 OnDecember 21, 2018 , the federal banking agencies issued a joint final rule to revise their regulatory capital rules to (i) address the upcoming implementation of a new credit impairment model, the Current Expected Credit Loss, or CECL model, an accounting standard under GAAP? (ii) provide an optional three-year phase-in period for the day-one adverse regulatory capital effects that banking organizations are expected to experience upon adopting CECL? and (iii) require the use of CECL in stress tests beginning with the 2023 capital planning and stress testing cycle for certain banking organizations that are subject to stress testing. We are currently (i) evaluating the impact the CECL model will have on our accounting, (ii) planning for the transition, and (iii) expect to recognize a one-time cumulative-effect adjustment to our allowance for loan losses as of the beginning of the first quarter of 2023-the first reporting period in which the new standard is effective. At this time, we cannot yet reasonably determine the magnitude of such one-time cumulative adjustment, if any, or of the overall impact of the new standard on our business, financial condition or results of operations. InNovember 2019 , the federal banking regulators published final rules implementing a simplified measure of capital adequacy for certain banking organizations that have less than$10 billion in total consolidated assets. Under the final rules, which went into effect onJanuary 1, 2020 , depository institutions and depository institution holding companies that have less than$10 billion in total consolidated assets and meet other qualifying criteria, including a leverage ratio of greater than 9%, off-balance-sheet exposures of 25% or less of total consolidated assets, and trading assets plus trading liabilities of 5% or less of total consolidated assets, are deemed "qualifying community banking organizations" and are eligible to opt into the "community bank leverage ratio framework." A qualifying community banking organization that elects to use the community bank leverage ratio framework and that maintains a leverage ratio of greater than 9% is considered to have satisfied the generally applicable risk-based and leverage capital requirements under the Basel III rules and, if applicable, is considered to have met the "well capitalized" ratio requirements for purposes of its primary federal regulator's prompt corrective action rules, discussed below. We do not have any immediate plans to elect to use the community bank leverage ratio framework but may make such an election in the future. As outlined above, we are generally not subject to theFederal Reserve capital requirements unless advised otherwise because we qualify as a small bank holding company. Our Bank remains subject to capital requirements including a minimum leverage ratio and a minimum ratio of "qualifying capital" to risk weighted assets. As ofJune 30, 2022 , the Bank met all capital adequacy requirements under the rules on a fully phased-in basis. Prompt Corrective Action Excess Capital $s of Dollars in thousands (PCA) Requirements PCA Requirements Well Adequately Well Adequately Capital Ratios Actual Capitalized Capitalized Capitalized CapitalizedJune 30, 2022 Leverage Ratio 8.34 % 5.00 % 4.00 %$ 55,190 $ 71,734
Common Equity Tier 1 Capital Ratio 13.47 % 6.50 %
4.50 % 71,370 91,844
Tier 1 Capital Ratio 13.47 % 8.00 % 6.00 % 56,015 76,489
Total Capital Ratio 14.57 % 10.00 % 8.00 % 46,761 67,235
December 31, 2021
Leverage Ratio 8.45 % 5.00 % 4.00 % $ 54,297 $ 70,021 Common Equity Tier 1 Capital Ratio 13.97 % 6.50 %
4.50 % 71,086 90,111
Tier 1 Capital Ratio 13.97 % 8.00 % 6.00 % 56,817 75,843
Total Capital Ratio 15.15 % 10.00 % 8.00 % 48,971 67,996
The Bank's risk-based capital ratios of leverage ratio, Tier 1, and total
capital were 8.34%, 13.47% and 14.57%, respectively, at June 30, 2022 as
compared to 8.45%, 13.97%, and 15.15%, respectively, at December 31, 2021 . The
Bank's Common Equity Tier 1 ratio at June 30, 2022 was 13.47% and at December
31, 2021 was 13.97%. Under the Basel III rules, we anticipate that the Bank will
remain a well capitalized institution for at least the next 12
months. Furthermore, based on our strong capital, conservative underwriting, and
internal stress testing, we believe that we will have access to adequate capital
to support the long-term operations of the Bank. However, the Bank's reported
and regulatory capital ratios could be adversely impacted by future credit
losses related to an economic recession.
57
As a bank holding company, our ability to declare and pay dividends is dependent
on certain federal and state regulatory considerations, including the guidelines
of the Federal Reserve . The Federal Reserve has issued a policy statement
regarding the payment of dividends by bank holding companies. In general, the
Federal Reserve's policies provide that dividends should be paid only out of
current earnings and only if the prospective rate of earnings retention by the
bank holding company appears consistent with the organization's capital needs,
asset quality and overall financial condition. The Federal Reserve's policies
also require that a bank holding company serve as a source of financial strength
to its subsidiary bank(s) by standing ready to use available resources to
provide adequate capital funds to those banks during periods of financial stress
or adversity and by maintaining the financial flexibility and capital-raising
capacity to obtain additional resources for assisting its subsidiary banks where
necessary. In addition, under the prompt corrective action regulations, the
ability of a bank holding company to pay dividends may be restricted if a
subsidiary bank becomes undercapitalized. These regulatory policies could affect
our ability to pay dividends or otherwise engage in capital distributions. Our
Board of Directors approved a cash dividend for the second quarter of 2022 of
$0.13 per common share. This dividend is payable on August 16, 2022 to
shareholders of record of our common stock as of August 2, 2022 .
As we are a legal entity separate and distinct from the Bank and do not conduct
stand-alone operations, our ability to pay dividends depends on the ability of
the Bank to pay dividends to us, which is also subject to regulatory
restrictions. As a South Carolina -chartered bank, the Bank is subject to
limitations on the amount of dividends that it is permitted to pay. Unless
otherwise instructed by the South Carolina Board of Financial Institutions , the
Bank is generally permitted under South Carolina State banking regulations to
pay cash dividends of up to 100% of net income in any calendar year without
obtaining the prior approval of the South Carolina Board of Financial
Institutions . The FDIC also has the authority under federal law to enjoin a bank
from engaging in what in its opinion constitutes an unsafe or unsound practice
in conducting its business, including the payment of a dividend under certain
circumstances.
Average Balances, Income Expenses and Rates. The following table depicts, for
the periods indicated, certain information related to our average balance sheet
and our average yields on assets and average costs of liabilities. Such yields
are derived by dividing income or expense by the average balance of the
corresponding assets or liabilities. Average balances have been derived from
daily averages.
58
FIRST COMMUNITY CORPORATION
Yields on Average Earning Assets and
Rates on Average Interest-Bearing Liabilities
Six months ended June 30, 2022 Six months ended June 30, 2021
Average Interest Yield/ Average Interest Yield/
Balance Earned/Paid Rate Balance Earned/Paid Rate
Assets
Earning assets
Loans
PPP loans $ 432 $ 46 21.47 % $ 55,570 $ 1,440 5.23 %
Non-PPP loans 886,108 18,261 4.16 % 835,451 17,751 4.28 %
Total loans 886,540 18,307 4.16 % 891,021 19,191 4.34 %
Non-taxable securities 52,352 755 2.91 % 55,033 776 2.84 %
Taxable securities 513,740 3,453 1.36 % 347,228 2,852 1.66 %
Int bearing deposits in other banks 70,011 193 0.56 % 77,412 63 0.16 % Fed funds sold 9 - 0.00 % 1,131 - 0.00 % Total earning assets 1,522,652 22,708 3.01 % 1,371,825 22,882 3.36 % Cash and due from banks 28,444 21,797 Premises and equipment 32,581 34,227
Goodwill and other intangibles 15,516
15,700
Other assets 45,171 38,683
Allowance for loan losses (11,218 ) (10,548 )
Total assets $ 1,633,146 $ 1,471,684
Liabilities
Interest-bearing liabilities
Interest-bearing transaction
accounts $ 337,059 $ 90 0.05 % $ 291,511 $ 109 0.08 %
Money market accounts 304,387 228 0.15 % 261,137 250 0.19 %
Savings deposits 150,039 42 0.06 % 129,223 38 0.06 %
Time deposits 152,213 282 0.37 % 159,724 570 0.72 %
Fed funds purchased - - NA - - NA
Securities sold under agreements to
repurchase 77,308 47 0.12 % 61,878 47 0.15 %
Other short-term debt - - NA - - NA
Other long-term debt 14,964 235 3.17 % 14,964 209 2.82 %Total interest-bearing liabilities 1,035,970 924
0.18 % 918,437 1,223 0.27 % Demand deposits 457,842 405,209 Other liabilities 12,736 12,637 Shareholders' equity 126,598 135,401 Total liabilities and shareholders' equity$ 1,633,146 $ 1,471,684 Cost of deposits, including demand deposits 0.09 % 0.16 % Cost of funds, including demand deposits 0.12 % 0.19 % Net interest spread 2.83 % 3.09 % Net interest income/margin$ 21,784 2.89 %$ 21,659 3.18 % Net interest income/margin (tax equivalent)$ 22,044 2.92 %$ 21,890 3.22 % 59 FIRST COMMUNITY CORPORATION Yields on Average Earning Assets and Rates on Average Interest-Bearing Liabilities Three months ended June 30, 2022 Three months ended June 30, 2021 Average Interest Yield/ Average Interest Yield/ Balance Earned/Paid Rate Balance Earned/Paid Rate Assets Earning assets Loans PPP loans $ 256 $ 1 1.57 %$ 55,599 $ 756 5.45 % Non-PPP loans 896,363 9,303 4.16 % 840,013 8,985 4.29 % Total loans 896,619 9,304 4.16 % 895,612 9,741 4.36 % Non-taxable securities 52,064 375 2.89 % 54,791 387 2.83 % Taxable securities 508,353 1,674 1.32 % 376,074 1,507 1.61 % Int bearing deposits in other banks 72,813 160 0.88 % 76,242 29 0.15 % Fed funds sold 3 - 0.00 % 1,517 - 0.00 % Total earning assets 1,529,852 11,513 3.02 % 1,404,236 11,664 3.33 % Cash and due from banks 28,379 25,128 Premises and equipment 32,442 34,105
Goodwill and other intangibles 15,496 15,674 Other assets 48,950 39,235 Allowance for loan losses (11,211 )
(10,670 )
Total assets $ 1,643,908 $ 1,507,708
Liabilities
Interest-bearing liabilities
Interest-bearing transaction accounts $ 342,289 $ 45 0.05 % $ 305,393 $ 51 0.07 %
Money market accounts 313,141 117 0.15 % 267,788 109 0.16 %
Savings deposits 154,687 22 0.06 % 132,429 19 0.06 %
Time deposits 151,549 125 0.33 % 159,133 269 0.68 %
Fed funds purchased - - NA 2 - 0.00 %
Securities sold under agreements to
repurchase 72,120 22 0.12 % 60,468 19 0.13 %
Other short-term debt - - NA - - NA
Other long-term debt 14,964 131 3.51 % 14,964 105 2.81 %
Total interest-bearing liabilities 1,048,750 462 0.18 % 940,177 572 0.24 %
Demand deposits 466,309 420,358
Other liabilities 12,782 11,950
Shareholders' equity 116,067 135,223
Total liabilities and shareholders'
equity $ 1,643,908 $ 1,507,708
Cost of deposits, including demand
deposits 0.09 % 0.14 %
Cost of funds, including demand
deposits 0.12 % 0.17 %
Net interest spread 2.84 % 3.09 %
Net interest income/margin $ 11,051 2.90 % $ 11,092 3.17 %
Net interest income/margin (tax
equivalent) $ 11,180 2.93 % $ 11,215 3.20 %
60
The table below sets forth the relative impact on net interest income of changes
in the volume of earning assets and interest-bearing liabilities and changes in
rates earned and paid by the Company on such assets and liabilities.
Six Months Ended June 30,
2022 versus 2021
Increase (Decrease)
Due to Changes in (1)
Volume Rate Total
(in thousands)
Interest income:
Loans $ (96 ) $ (788 ) $ (884 )
Non-taxable securities (38 ) 17 (21 )
Taxable securities 1,187 (586 ) 601Interest bearing deposits in other banks (7 ) 137
130
Total interest income 1,046 (1,220 ) (174 )
Interest expense:Interest-bearing transaction accounts 15 (34
) (19 ) Money market accounts 38 (60 ) (22 ) Savings deposits 6 (2 ) 4 Time deposits (26 ) (262 ) (288 )
Securities sold under agreements to repurchase 10 (10
) - Other long-term debt - 26 26 Total interest expense 43 (342 ) (299 ) Total net interest income$ 1,003 $ (878 ) $ 125 Three Months Ended June 30, 2022 versus 2021 Increase (Decrease) Due to Changes in (1) Volume Rate Total (in thousands) Interest income: Loans$ 11 $ (448 ) $ (437 ) Non-taxable securities (20 ) 8 (12 ) Taxable securities 467 (300 ) 167
Interest bearing deposits in other banks (1 ) 132
131
Total interest income 457 (608 ) (151 )
Interest expense:Interest-bearing transaction accounts 6 (12
) (6 ) Money market accounts 17 (9 ) 8 Savings deposits 3 - 3 Time deposits (12 ) (132 ) (144 )
Securities sold under agreements to repurchase 4 (1
) 3 Other long-term debt - 26 26 Total interest expense 18 (128 ) (110 ) Total net interest income$ 439 $ (480 ) $ (41 )
(1) The change in interest due to both volume and rate has been allocated to
volume and rate changes in proportion to the relationship of the absolute
dollar amounts of the change in each.
61
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