Merchants Financial : Annual Report and Audited Financials

2021

Annual Report

Fulfilling hopes and dreams.

Our Mission

To be the financial partner of choice,

helping our customers and communities

fulfill their hopes and dreams, because we're community members too.

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Core Stakeholder Commitments

To Customers

To build loyal and mutually rewarding customer relationships by providing consistently exceptional experiences.

To Employees

To create and maintain an environment that promotes and rewards contribution, accountability, initiative, teamwork, learning, professional growth, and development.

To Our Communities

To help make each community we serve a better place in which to live and work through financial reinvestment, engaged market leadership impact, and the support of employee volunteer involvement.

To Shareholders

To obtain long-term shareholder value through quality growth and financial performance in the upper quartile of our peer group.

By honoring our stakeholder commitments and living our core values, we aspire to create a trusting environment... where every diverse stakeholder can expect fair and equitable treatment, feels included, and belongs.

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$28.8 million

net income

A record year:

A Letter From Our Chief Executive Officer

Gregory M. Evans

President &

Chief Executive Officer

In a manner that was frustrating at times, 2021 played out more like its predecessor than most of us were hoping for or predicted. I couldn't be prouder of the entire team of Merchants employees who continued

to embrace their role in supporting our customers' and communities' hopes and dreams during an extended period of unease caused by the stubborn persistence of the global health crisis.

As it was in 2020, the financial performance for Merchants Financial Group, Inc. was extraordinary. Our net income performance was $28.8 million, making 2021 a second consecutive record earnings year. We worked extremely hard to deliver that performance, which was driven almost exclusively by the opportunistic

approach we took to making Paycheck Protection Program

1. loans and the strategic market position we command in the origination of residential mortgage loans.

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Core Values	WE are here to serve.

Entering the year, we knew we would benefit from fee income associated with PPP through the Small Business Administration. The forgiveness process for PPP loans originated in 2020 was even more efficient than we had anticipated, allowing us to accelerate recognition of fee income associated with the loans we made. We also had the opportunity to originate an additional wave of PPP loans in the second quarter of the year when the federal government opened a

new round of funding.

The PPP program did provide a meaningful lifeline to hundreds of our local, independent businesses and our team worked tirelessly to support the program and our valued clients throughout the process. Through all of

this, Merchants and the entire community banking industry has been a terrific source of strength and stability to the economic vitality of our communities.

Through all of this, Merchants and

the entire community banking industry has been a terrific source of strength and stability to the economic vitality of our communities.

We also had another terrific year in originating, underwriting, and processing $835.2 million of residential mortgage loans. Over the course of the last two business years, our dedicated mortgage team has closed more than 7,850 loans, exceeding $1.78 billion. And our loan operations team does a fabulous job servicing more than 18,000 loans worth $2.65 billion. The reputation we have built in this important line of business contributes significantly to our repeated performance success.

We continue to manage these asset components of the business and the entire loan portfolio in an extremely disciplined manner. While we remain watchful and cautious about possible ongoing COVID impact on credit quality,levels of non-performing (6.86% of capital), classified (32.14% of capital) and criticized (42.88% of capital) assets remain manageable.All key ratios represent improvement from year- end 2020. Because of continued economic uncertainty we are intentionally carrying healthy provisions for credit risk into 2022, with total Allowance for Loan/Lease Loss Reserves (ALLR) standing at 1.78% of total loans. This conservative posture is based on continued COVID surge, the runoff of government stimulus support and applying prudent caution in assessing the possibility of economic volatility in the new year.

which has only grown stronger during the past year. With core funding costs at record lows, putting the excess liquidity to work in the form of higher-yielding loan assets is a welcome challenge for our team of Bankers throughout our footprint. We have already instituted several special initiatives to position ourselves for increased new commercial activity.

An additional challenge of significance that we do not believe is as cyclical in nature is managing workforce expectations in a very intense labor market. Attracting and retaining difference-making talent capable of delivering consistent exceptional customer experiences is critical to our continued success in a crowded and competitive industry. Responding to the market environment that is impacting virtually all industries in our service footprint, we have projected an appropriate increase in human resource investments that we will necessarily absorb in the year ahead.

These market factors, the need to continue to increase investments in technology and information security, and increasing regulatory burden that drives some additional overhead expense are all adequately accommodated for in our 2022 plan and earnings forecast. We have set a very aggressive goal for loan growth, which will be necessary to achieve our defined earnings target of $21.54 million for 2022.

Our long-term viability and relevance depend on our ability to continue to grow the core value of the Merchants franchise at levels that exceed the median performance of our peer group, which is what we know you expect. We embrace all challenges as hidden forms of opportunity, and our resolve to meet your expectations is uncompromised. Thank you for your tremendous loyalty. Our mission to help our customers and communities achieve ambitious hopes and dreams would not be possible without your continued support.

Core challenges and realism in 2022

While we had a terrific performance year, our earnings softened considerably during the fourth quarter of 2021 as PPP income fell off and mortgage origination activity normalized with refinance activity tapering off. We know this is a harbinger of what will likely be a challenging year in 2022.

The most significant headwind will surface in the form of net interest income management, given that market demand for core commercial loan activity continues to be tepid with intense pricing pressure associated with all new business opportunities. This is being driven by the low interest rate environment and unprecedented liquidity levels in the banking system. This market environment drove a year-over- year erosion of .43% in our interest margin and we begin 2022 with that margin at a historic-low of 2.09%.

Our opportunity to mitigate the impact associated with our declining margins is the strength of our deposit franchise,

We embrace all challenges as hidden forms of opportunity, and our resolve to meet your expectations is uncompromised.

Gregory M. Evans

President & Chief Executive Officer

Merchants Financial Group, Inc. and Merchants Bank, NA

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WE will be dependable.	Core Values