OHIO VALLEY BANC CORP.

(OVBC)
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OHIO VALLEY BANC CORP MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (form 10-Q)

05/16/2022 | 02:57pm EDT

(dollars in thousands, except share and per share data)

                           Forward Looking Statements

Certain statements contained in this report and other publicly available documents incorporated herein by reference constitute "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Act of 1934, as amended (the "Exchange Act"), and as defined in the Private Securities Litigation Reform Act of 1995. Such statements are often, but not always, identified by the use of such words as "believes," "anticipates," "expects," "intends," "plan," "goal," "seek," "project," "estimate," "strategy," "future," "likely," "may," "should," "will," and other similar expressions. Such statements involve various important assumptions, risks, uncertainties, and other factors, many of which are beyond our control, particularly with regard to developments related to the Coronavirus ("COVID-19") pandemic, and which could cause actual results to differ materially from those expressed in such forward looking statements. These factors include, but are not limited to: the effects of COVID-19 on our business, operations, customers and capital position; higher default rates on loans made to our customers related to COVID-19 and its impact on our customers' operations and financial condition; the impact of COVID-19 on local, national and global economic conditions; unexpected changes in interest rates or disruptions in the mortgage market; the effects of various governmental responses to COVID-19; changes in political, economic or other factors, such as inflation rates, recessionary or expansive trends, taxes, the effects of implementation of legislation and the continuing economic uncertainty in various parts of the world; competitive pressures; fluctuations in interest rates; the level of defaults and prepayment on loans made by the Company; unanticipated litigation, claims, or assessments; fluctuations in the cost of obtaining funds to make loans; and regulatory changes. Additional detailed information concerning such factors is available in the Company's filings with the Securities and Exchange Commission, under the Exchange Act, including the disclosure under the heading "Item 1A. Risk Factors" of Part I of the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2021. Readers are cautioned not to place undue reliance on such forward looking statements, which speak only as of the date hereof. The Company undertakes no obligation and disclaims any intention to republish revised or updated forward looking statements, whether as a result of new information, unanticipated future events or otherwise.

BUSINESS OVERVIEW: The accompanying discussion on consolidated financial statements include the accounts of Ohio Valley Banc Corp. and its wholly-owned subsidiaries, The Ohio Valley Bank Company (the "Bank"), Loan Central, Inc., a consumer finance company ("Loan Central"), Ohio Valley Financial Services Agency, LLC, an insurance agency, and OVBC Captive, Inc., a limited purpose property and casualty insurance company ("the Captive"). The Bank has two wholly-owned subsidiaries, Race Day Mortgage, Inc., an Ohio corporation that provides online consumer mortgages ("Race Day"), and Ohio Valley REO, LLC, an Ohio limited liability company. Ohio Valley and its subsidiaries are collectively referred to as the "Company."

The Company is primarily engaged in commercial and retail banking, offering a blend of commercial and consumer banking services within southeastern Ohio as well as western West Virginia. The banking services offered by the Bank include the acceptance of deposits in checking, savings, time and money market accounts; the making and servicing of personal, commercial, floor plan and student loans; the making of construction and real estate loans; and credit card services. The Bank also offers individual retirement accounts, safe deposit boxes, wire transfers and other standard banking products and services. Furthermore, the Bank offers Tax Refund Advance Loans ("TALs") to Loan Central tax customers. A TAL represents a short-term loan offered by the Bank to tax preparation customers of Loan Central.

IMPACT of COVID-19: COVID-19 has caused significant disruption in the United States and international economies and financial markets. The primary markets served by the Company in southeastern Ohio and western West Virginia were significantly impacted by COVID-19, which has changed the way we live and work. The continued effects of COVID-19 on the economy, supply chains, financial markets, unemployment levels, businesses and our customers is unknown and unpredictable.

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") was signed into law. The CARES Act provided assistance to small businesses through the establishment of the Paycheck Protection Program ("PPP"). Pursuant to the CARES Act, PPP funds were provided to small businesses in the form of loans that would be fully forgiven if certain criteria were met. In 2021, Congress amended the PPP by extending the authority of the Small Business Administration ("SBA") to guarantee loans and the ability of PPP lenders to disburse PPP loans until May 31, 2021. The Company supported its clients who experienced financial hardship due to COVID-19 through participation in the PPP, assistance with expedited deposits of CARES Act stimulus payments, and loan modifications, as needed.

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FINANCIAL RESULTS OVERVIEW: Net income totaled $4,125 during the first quarter of 2022, an increase of $594 over the same period of 2021. Earnings per share for the first quarter of 2022 finished at $.87 per share, compared to $.74 per share during the first quarter of 2021. Quarterly earnings improved largely due to lower provision expense and higher noninterest income being partially offset by a combination of lower net interest income and higher noninterest expense. The impact of higher net earnings during the first quarter of 2022 also had a direct impact to the Company's annualized net income to average asset ratio, or return on assets, which increased to 1.34% at March 31, 2022, compared to 1.20% at March 31, 2021. The Company's net income to average equity ratio, or return on equity, also increased to 11.78% at March 31, 2022, compared to 10.47% at March 31, 2021.

During the three months ended March 31, 2022, net interest income decreased $58, or 0.6%, from the same period in 2021. Lower net interest income was negatively impacted by a 2.2% decrease in average loans, which contributed to a 7.3% decrease in interest and fees on loans. The decrease in average loans was impacted mostly by lower residential real estate loans and payoffs of PPP loans. Excluding loans, the Company's remaining average earning assets increased 29.5%, coming mostly from securities and Federal Reserve Bank balances. This composition of higher balances in securities and the Federal Reserve Bank, which yield less than loans, had a dilutive effect on the net interest margin, which decreased from 3.73% during the quarter ended March 31, 2021, to 3.51% during the quarter ended March 31, 2022.

During the three months ended March 31, 2022, the Company experienced negative provision for loan loss, which contributed to a $1,074 decrease in provision expense when compared to the same period in 2021. The decrease from the prior year was related to improved economic risk factors impacted by lower net charge-offs and criticized and classified loans, as well as the partial release of the COVID-19 reserve for the pandemic environment.

During the three months ended March 31, 2022, noninterest income increased $381, or 11.4%, from the same period in 2021. This growth came largely from increases in service charges on deposit accounts, interchange income on debit and credit card transactions, and mortgage banking income in relation to Race Day, the Company's new online mortgage company.

During the three months ended March 31, 2022, noninterest expense increased $601, or 6.5%, over the same period in 2021. The increase was primarily related to higher salaries and employee benefit costs impacted by the staffing of Race Day, as well as higher annual merit expenses. The Company also experienced increases in data processing costs, professional fees, and software expense, as well as various other overhead costs from Race Day.

The Company's provision for income taxes increased $202, or 28.0%, during the three months ended March 31, 2022, largely due to the changes in taxable income affected by the factors mentioned above.

At March 31, 2022, total assets were $1,258,176, an increase of $8,407 from year-end 2021. Higher assets were primarily impacted by increases in cash and cash equivalents and investment securities, which were collectively up $24,072, or 7.1%, from year-end 2021. This was in relation to higher deposit balances during the first quarter of 2022. The growth in assets from year-end 2021 was partially offset by a $19,545, or 2.4%, decrease in loans. The Company's loan portfolio experienced decreases in the residential real estate segment (-1.4%), commercial real estate segment (-5.2%) and consumer loan segment (-2.8%).

At March 31, 2022, total liabilities were $1,121,565, up $13,152 from year-end 2021. Contributing most to this increase were higher deposit balances, which increased $14,510 from year-end 2021. The increase was impacted mostly from higher interest-bearing demand deposits, partially offset by lower time deposits and noninterest bearing demand deposits.

At March 31, 2022, total shareholders' equity was $136,611, down $4,745 since December 31, 2021. This was from cash dividends paid and a decrease in net unrealized gains on available for sale securities being partially offset by quarterly net income. Regulatory capital ratios of the Company remained higher than the "well capitalized" minimums.

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                       Comparison of Financial Condition
                    at March 31, 2022 and December 31, 2021

The following discussion focuses, in more detail, on the consolidated financial condition of the Company at March 31, 2022 compared to December 31, 2021. This discussion should be read in conjunction with the interim consolidated financial statements and the footnotes included in this Form 10­Q.

Cash and Cash Equivalents

At March 31, 2022, cash and cash equivalents were $163,724, an increase of $11,690, or 7.7%, from December 31, 2021. The increase in cash and cash equivalents came mostly from higher interest-bearing deposits on hand with correspondent banks. Over 90% of cash and cash equivalents consist of the Company's interest-bearing Federal Reserve Bank clearing account, which increased $11,516, or 8.5%, from year-end 2021. The Company utilizes its interest-bearing Federal Reserve Bank clearing account to manage excess funds, as well as to assist in funding earning asset growth. The factors contributing to higher clearing account balances include payoffs of larger commercial loans and growth in interest bearing deposit balances during the quarter. The Company utilized a portion of its clearing account balances and proceeds from loan payoffs to reinvest in higher-yielding investment securities during the first quarter of 2022. This shift into higher-yielding investment securities helped to minimize the dilutive effect that higher clearing account balances have on the net interest margin. The interest rate paid on both the required and excess reserve balances of the Federal Reserve Bank account is based on the targeted federal funds rate established by the Federal Open Market Committee. During the first quarter of 2022, the rate associated with the Company's Federal Reserve Bank clearing account increased 25 basis points due to rising inflationary concerns, resulting in a target federal funds rate range of 0.25% to 0.50%. Although interest-bearing deposits in the Federal Reserve Bank are the Company's lowest-yielding interest-earning asset, the investment rate is higher than the rate the Company would have received from its investments in federal funds sold. Furthermore, Federal Reserve balances are 100% secured.

As liquidity levels continuously vary based on consumer activities, amounts of cash and cash equivalents can vary widely at any given point in time. The Company's focus during periods of heightened liquidity will be to invest excess funds into longer-term, higher-yielding assets, primarily loans, when the opportunities arise.

Certificates of Deposit

At March 31, 2022, the Company had $2,124 in certificates of deposit owned by the Captive, down from $2,329 at year-end 2021. The deposits on hand at March 31, 2022 consist of nine certificates with remaining maturity terms ranging from less than 6 months up to 18 months.

Securities

The balance of total securities increased $12,382, or 6.6%, compared to year-end 2021. The increase was impacted mostly by investment security purchases funded by excess funds being maintained within the Federal Reserve Bank clearing account. The Company's investment securities portfolio is made up mostly of U.S. Government agency ("Agency") mortgage-backed securities, which represented 68.2% of total investments at March 31, 2022. During the first three months of 2022, the Company invested $19,763 in new Agency mortgage-backed securities, while receiving principal repayments of $6,237. The monthly repayment of principal has been the primary advantage of Agency mortgage-backed securities as compared to other types of investment securities, which deliver proceeds upon maturity or call date. The Company also redeployed a portion of its heightened excess funds to purchase $9,820 in U.S. Government securities during the first quarter of 2022.

In addition, the continued increases in long-term reinvestment rates during 2022 led to a $10,692 decrease in the net unrealized gain position associated with the Company's available for sale securities, which decreased the fair value of securities at March 31, 2022. The fair value of an investment security moves inversely to interest rates, so as rates increased, the unrealized gain in the portfolio decreased. These changes in rates are typical and do not impact earnings of the Company as long as the securities are held to full maturity.

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Loans

The loan portfolio represents the Company's largest asset category and is its most significant source of interest income. Gross loan balances lowered to $811,646 at March 31, 2022, representing a decrease of $19,545, or 2.4%, as compared to $831,191 at December 31, 2021. The decrease in loans came primarily from the commercial real estate portfolio, with other decreases coming from the residential real estate, commercial and industrial, and total consumer loan portfolios from year-end 2021.

The Company's commercial loan portfolio decreased $12,024, or 2.8%, from year-end 2021. Contributing most to the decrease were lower loan balances within the commercial real estate portfolio, decreasing $14,659, or 5.2%, from year-end 2021. The commercial real estate segment comprised the largest portion of the Company's total commercial loan portfolio at March 31, 2022 at 65.0%. Decreases came primarily from the principal payoffs of a limited number of large nonowner-occupied loan balances from year-end 2021.

Decreases in commercial real estate loans were partially offset by a $2,635, or 1.9%, increase in the commercial and industrial portfolio from year-end 2021. Commercial and industrial loans consist of loans to corporate borrowers primarily in small to mid-sized industrial and commercial companies that include service, retail and wholesale merchants. Collateral securing these loans includes equipment, inventory, and stock. The commercial and industrial segment also includes PPP loan balances that had a significant impact on average earning asset growth in 2021. The Company's remaining PPP loans of $446 that were outstanding at year-end 2021 were paid off during the first quarter of 2022.

While management believes lending opportunities exist in the Company's markets, future commercial lending activities will depend upon economic and other related conditions, such as general demand for loans in the Company's primary markets, interest rates offered by the Company, the effects of competitive pressure and normal underwriting considerations. Management will continue to place emphasis on its commercial lending, which generally yields a higher return on investment as compared to other types of loans.

Further decreases in the Company's loan portfolio came from the residential real estate loan segment, which decreased $3,849, or 1.4%, from year-end 2021. Although down, the residential real estate loan segment still comprises the largest portion of the Company's overall loan portfolio at 33.3%, consists primarily of one- to four-family residential mortgages, and carries many of the same customer and industry risks as the commercial loan portfolio. The decrease in residential real estate loans came largely from principal repayments and payoffs in both long-term fixed-rate and short-term adjustable-rate mortgages. As refinancing volume has subsided and long-term reinvestment rates have increased, this has led to a slower demand for mortgage loans during 2022.

The Company's loan portfolio at March 31, 2022 was also impacted by less consumer loan balances from year-end 2021, decreasing $3,672, or 2.8%. This change was impacted by a $1,184, or 2.5%, decline in automobile loan balances. Automobile loans represent the Company's largest consumer loan segment at 36.2% of total consumer loans. The pandemic environment continued to have a negative impact on auto loan originations in 2022 in part due to supply constraints that were impacted by a chip shortage. Further limiting the volume of automobile loan originations were heightened incentives being offered from the captive auto finance companies in response to the pandemic. The remaining consumer loan portfolio decreased $2,488, or 2.9%, from year-end 2021, mostly from decreases in unsecured loans. The Company will continue to attempt to increase its auto lending segment while maintaining strict loan underwriting processes to limit future loss exposure. However, the Company will place more emphasis on loan portfolios (i.e. commercial and, to a smaller extent, residential real estate) with higher returns than auto loans. Indirect automobile loans bear additional costs from dealers that partially offset interest revenue and lower the rate of return.

Allowance for Loan Losses

The Company established a $5,268 allowance for loan losses at March 31, 2022, which represents a decrease from the $6,483 allowance at year-end 2021. As part of the Company's quarterly analysis of the allowance for loan losses, management will review various factors that directly impact the general allocation needs of the allowance, which include: historical loan losses, loan delinquency levels, local economic conditions and unemployment rates, criticized/classified asset coverage levels and loan loss recoveries. During the first quarter of 2022, the Company experienced a $1,271 decrease in its general allocations of the allowance for loan losses. The key contributor to this decrease came from lower reserves associated with the COVID-19 risk factor. The Company added a COVID-19 risk factor in 2020 due to the negative economic outlook of the pandemic. Based on positive asset quality trends and lower net charge offs, management released $645 of the COVID-19 risk factor during the first quarter of 2022, resulting in a corresponding decrease in both provision expense and general allocations of the allowance for loan loss. As a result, the general reserve allocation related to COVID-19 totaled $1,936 at March 31, 2022 as compared to $2,633 at December 31, 2021. The Company will continue to monitor the related economic effects of the pandemic environment and asset quality trends moving forward to determine the appropriate level of the COVID-19 risk factor.

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Excluding the impact from the COVID-19 risk factor, the Company experienced a $574 decrease in general allocations of the allowance for loan losses related to improvements in various economic risk factors. These include risk factors from lower historical loan losses and lower criticized and classified assets. The historical loan loss factor decreased from 0.18% at year-end 2021 to 0.17% at March 31, 2022. Risk factors associated with criticized and classified assets also decreased as a result of various commercial loan upgrades from improvements in the financial performance of certain borrowers' ability to repay their loans. Most recently, the Company upgraded a single commercial loan relationship totaling $2,232 from a classified to a criticized loan status, which also contributed to the release of general reserves during the first quarter of 2022. Additionally, the Company's delinquency levels decreased from year-end 2021, with nonperforming loans to total loans of 0.52% at March 31, 2022 compared to 0.56% at December 31, 2021, and lower nonperforming assets to total assets of 0.34% at March 31, 2022 compared to 0.37% at year-end 2021. General allocations during the first quarter of 2022 increased in relation to higher unemployment rates within the Company's market areas, only partially offsetting the decreasing allocation factors already discussed.

Decreases in general allocations were partially offset by a $56 increase in specific allocations from year-end 2021. Specific allocations of the allowance for loan losses identify loan impairment by measuring fair value of the underlying collateral and the present value of estimated future cash flows. The change in specific reserves was primarily related to the loan impairments of one borrower relationship during the first quarter of 2022.

The Company's allowance for loan losses to total loans ratio finished at 0.65% at March 31, 2022 and 0.78% at year-end 2021. Management believes that the allowance for loan losses at March 31, 2022 was adequate and reflected probable incurred losses in the loan portfolio. There can be no assurance, however, that adjustments to the allowance for loan losses will not be required in the future. Changes in the circumstances of particular borrowers, as well as adverse developments in the economy, particularly with respect to COVID-19, are factors that could change, and management will make adjustments to the allowance for loan losses as needed. Asset quality will continue to remain a key focus of the Company, as management continues to stress not just loan growth, but quality in loan underwriting.

Deposits

Deposits continue to be the most significant source of funds used by the Company to meet obligations for depositor withdrawals, to fund the borrowing needs of loan customers, and to fund ongoing operations. Total deposits at March 31, 2022 increased $14,510, or 1.4%, from year-end 2021. This change in deposits came primarily from interest-bearing deposit balances, which were up by $22,435, or 3.2%, from year-end 2021, while noninterest-bearing deposits decreased $7,925, or 2.2%, from year-end 2021.

The increase in interest-bearing deposits came mostly from higher interest-bearing NOW account balances from year-end 2021, which increased $22,891, or 11.2%. This increase was largely driven by higher municipal NOW product balances, particularly within the Gallia County, Ohio and Mason County, West Virginia market areas. Growth in interest-bearing deposits also came from savings deposits, which increased $5,996, or 4.1%, from year-end 2021, primarily from higher statement savings account balances. Interest-bearing deposit growth was further impacted by higher money market balances from year-end 2021, which increased $2,636, or 1.6%.

Partially offsetting the increases in interest-bearing deposits were time deposit balances, which decreased $9,088, or 4.8%, from year-end 2021. The decrease came from lower brokered and internet CD issuances as a result of the heightened liquidity position from year-end 2021. The Company's retail time deposits also decreased from year-end 2021 in relation to the consumer shift to savings and money market products.

The decrease in noninterest-bearing deposits came mostly from the Company's business and incentive-based checking account balances from year-end 2021.

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While facing increased competition for deposits in its market areas, the Company will continue to emphasize growth and retention in its core deposit relationships during the remainder of 2022, reflecting the Company's efforts to reduce its reliance on higher cost funding and improve net interest income.

Other Borrowed Funds

Other borrowed funds were $18,929 at March 31, 2022, a decrease of $685, or 3.5%, from year-end 2021. The decrease was related primarily to the principal repayments applied to various FHLB advances during the first quarter of 2022. While deposits continue to be the primary source of funding for growth in earning assets, management will continue to utilize FHLB advances and promissory notes to help manage interest rate sensitivity and liquidity.

Shareholders' Equity

Total shareholders' equity at March 31, 2022 decreased $4,745, or 3.4%, to finish at $136,611, as compared to $141,356 at December 31, 2021. This was from quarterly net income being completely offset by cash dividends paid and a decrease in net unrealized gain on available for sale securities. The after-tax decrease in net unrealized gain totaled $8,447 from year-end 2021, as market rate increases continued during the first quarter of 2022 causing a decrease in the fair value of the Company's available for sale investment portfolio.

                      Comparison of Results of Operations
                           For the Three Months Ended
                            March 31, 2022 and 2021

The following discussion focuses, in more detail, on the consolidated results of operations of the Company for the three months ended March 31, 2022, compared to the same period in 2021. This discussion should be read in conjunction with the interim consolidated financial statements and the footnotes included in this Form 10­Q.

Net Interest Income

The most significant portion of the Company's revenue, net interest income, results from properly managing the spread between interest income on earning assets and interest expense incurred on interest-bearing liabilities. During the three months ended March 31, 2022, net interest income was down $58, or 0.6%, compared to the same period in 2021. The moderate decline was mostly attributable to lower earning asset yields and lower loan fees being partially offset by an increase in average earning assets combined with a decrease in the average costs paid on deposits.

Total interest and fee income recognized on the Company's earning assets decreased $469, or 4.2%, during the first quarter of 2022 compared to the same period in 2021. The decrease was impacted by interest and fees on loans, which decreased $767, or 7.3%. The decrease was partially the result of a decline in loan fees of $340, or 32.0%, impacted by PPP fees. PPP fees decreased from $367 during the first quarter of 2021 to only $15 during the first quarter of 2022, due to loan payoffs. Total interest and fee income also decreased due to interest on loans, which decreased $427, or 4.5%, during the first quarter of 2022 as a result of lower loan yields and lower average balances. Average loan yields decreased from 5.18% to 4.91% when comparing the first quarters of 2021 to 2022. Loan yields continued to be impacted by the interest rate reductions from the Federal Reserve Bank in 2020, which led to lower loan interest revenue. Average loans for the quarter ended March 31, 2022, compared to the quarter ended March 31, 2021 decreased $18,141, or 2.2%. The decrease came mostly from the payoffs of all the Company's PPP loans during 2021 and 2022, which resulted in a decrease of $27,430 in average loan balances. Average real estate loan balances also decreased during the first quarter of 2022 impacted by principal repayments and payoffs combined with a lower volume of new originations as the trend of increased mortgage refinancings have slowed since the heavy refinancing period of 2020 and, to a lesser extent, 2021.

During the three months ended March 31, 2022, interest income from interest-bearing deposits with banks increased $26, or 92.9%, when compared to the same period in 2021. The impact came from higher average balances maintained within the Company's interest-bearing Federal Reserve Bank clearing account, which increased $11,147 during the first quarter of 2022 compared to the same period in 2021. Furthermore, during the first quarter of 2022, the Federal Reserve raised the target federal funds rate by 25 basis points due to rising inflationary concerns. This had a corresponding effect on the interest rate tied to the Federal Reserve clearing account, which also increased by 25 basis points.

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Total interest on securities increased $278, or 59.9%, during the first quarter of 2022 compared to the same period in 2021. Due to the surge in deposits and proceeds from PPP loan payoffs, the Company has taken opportunities to reinvest a portion of these excess funds into new U.S. Government, Agency and Agency mortgage-backed securities, contributing to a $69,277 increase in average securities during the first quarter of 2022 over the first quarter of 2021. The average yield on securities also increased from 1.47% to 1.50% to further enhance the growth in interest income. The change was partly impacted by the Company's decision to sell $48,732 in lower yielding securities during the fourth quarter of 2021 that carried an average yield of 0.89% and replace them with similar securities at an average yield of 1.30%.

Total interest expense incurred on the Company's interest-bearing liabilities decreased $411, or 38.1%, during the first quarter of 2021 compared to the same period in 2022. Interest expense decreased despite an increase in average interest-bearing deposits of $31,586 during the first quarter of 2022 compared to the same period in 2021. The converse relationship between increasing average interest-bearing liabilities to lower interest expense is related to the repricing efforts in a lower rate environment which drove down average costs during 2021. Lower deposit expense was mostly impacted by the continued decline in CD rates, which contributed to a $350 decrease in time deposit interest expense during the first quarter of 2022 compared to the same period in 2021. As CD rates have repriced downward, the Company has benefited from lower interest expense on newly issued CDs at lower rates. As a result of the rate repricing on time deposits, the Company's total weighted average costs on interest-bearing deposits has decreased by 23 basis points from 0.52% at March 31, 2021 to 0.29% at March 31, 2022.

The Company's net interest margin is defined as fully tax-equivalent net interest income as a percentage of average earning assets. During 2022, the Company's first quarter net interest margin finished at 3.51%, compared to 2021's first quarter net interest margin of 3.73%. The decrease in margin was largely impacted by the decrease in PPP loan fees and a low interest rate environment that impacted lower earning asset yields during 2022. While average earning assets were up during the first quarter of 2022, the increase came largely from lower yielding securities and Federal Reserve clearing account balances, which had a dilutive effect to the net interest margin during the first quarter of 2022. The Company's primary focus is to invest its funds into higher yielding assets, particularly loans, as opportunities arise. However, if loan balances do not continue to expand and remain a larger component of overall earning assets, the Company will face pressure within its net interest income and margin improvement.

Provision for Loan Losses

For the three months ended March 31, 2022, the Company's provision expense decreased $1,074 from the same period in 2021. The quarterly improvement came primarily from a decrease in general allocations. As previously discussed, the Company's general allocations of the allowance for loan losses were impacted by the release of $645 in COVID-19 general reserves during the first quarter of 2022. The Company removed a portion of its COVID-19 reserves due to positive asset quality trends and lower net charge offs, which resulted in a corresponding decrease of $645 to provision expense in March 2022. Further contributing to lower provision expense were the impacts of the Company's other general reserve allocations. During the first quarter of 2022, the Company decreased its general allocations, excluding the COVID-19 risk factor, from $3,840 at December 31, 2021 to $3,266 at March 31, 2022. Lower general reserves have been affected by various improvements within the economic risk factor calculation that included: lower criticized and classified assets, lower delinquency levels, and higher annualized level of loan recoveries. Further reducing provision expense was a decrease of $132 in net charge-offs during the three months ended March 31, 2022 compared to the same period in 2021. This was primarily from lower charge-offs recorded within the commercial real estate portfolio. Lower provision expense was also impacted by a decrease in specific allocations that totaled $90 at March 31, 2021 compared to $66 in specific allocations at March 31, 2022.

Future provisions to the allowance for loan losses will continue to be based on management's quarterly in-depth evaluation that is discussed in further detail under the caption "Critical Accounting Policies - Allowance for Loan Losses" within this Management's Discussion and Analysis.

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Noninterest Income

Noninterest income for the three months ended March 31, 2022 increased $381, or 11.4%, when compared to the three months ended March 31, 2021. The increase in noninterest revenue was largely impacted by a $153, or 37.8%, increase in service charges on deposit accounts. This included a higher volume of overdraft transactions during the 2022 first quarter period.

Increases in noninterest income also came from interchange income, which increased $85, or 8.1%, during the first quarter of 2022. This was impacted by an increase in consumer spending that led to a higher volume of transactions associated with the Company's debit and credit card products.

Further impacting growth in noninterest revenue was mortgage banking income, which increased $56, or 31.3%, during the first quarter of 2022. Mortgage banking income increased largely due to Race Day, the Bank's new online mortgage company. Race Day was formed in April 2021 and began conducting business during the third quarter of 2021. During the first quarter of 2022, Race Day experienced loan sales that yielded $96 in mortgage banking revenue. This increase was partially offset by a $40 decrease in the Bank's secondary market income due to less volume of mortgage refinancings.

Other noninterest income also increased $52, or 34.7%, during the first quarter of 2022. This came largely from higher servicing fees on a select number of commercial loans.

The remaining noninterest income categories increased $35, or 2.3%, during the first quarter of 2022 compared to the same period in 2021, primarily from higher earnings on bank owned life insurance and annuity assets.

Noninterest Expense

Noninterest expense during the first quarter of 2022 increased $601, or 6.5% compared to the same period in 2021. Contributing most to the increase in noninterest expense were salaries and employee benefits, which increased $300, or 5.7%, during the three months ended March 31, 2022 compared to the same period in 2021. The expense increase was largely from the staffing of Race Day employees in 2021, which led to higher salaries expense in 2022. Other expense increases in this category also came from annual merit increases and higher retirement plan costs in 2022.

Higher noninterest expense also came from data processing expense, which increased $97, or 16.9%, during the first quarter of 2022 compared to the same period in 2021. Higher costs in this category were the direct result of the volume increase in debit and credit card transactions, which increased processing costs.

Further impacting higher overhead costs were professional fees, which increased $59, or 13.7%, during the first quarter of 2022 compared to the same period in 2021. Professional fees were impacted by accounting expenses associated with adhering to regulatory guidance, as well as higher legal expenses.

Noninterest expense was also impacted by higher software costs, which increased $54, or 12.0%, during the first quarter of 2022 compared to the same period in 2021. This increase was largely impacted by the associated software costs from Race Day, which included various software platforms and resources that were necessary to begin conducting business.

Other noninterest expense also increased $162, or 12.2%, during the first quarter of 2022 compared to the same period in 2021. This was primarily impacted by various other overhead costs associated with Race Day, including loan expenses and employee recruiting costs.

The remaining noninterest expense categories decreased $71, or 6.2%, during the first quarter of 2022 compared to the same period in 2021. These decreases were impacted mostly from expense savings related to lower marketing and furniture and equipment costs.

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Efficiency

The Company's efficiency ratio is defined as noninterest expense as a percentage of fully tax-equivalent net interest income plus noninterest income. The effects from provision expense are excluded from the efficiency ratio. Management continues to place emphasis on managing its balance sheet mix and interest rate sensitivity as well as developing more innovative ways to generate noninterest revenue. Comparing the first quarters of 2022 and 2021, the Company benefited from a larger decrease in the average cost on interest-bearing liabilities than the decrease on earning asset yields. However, this benefit was completely offset by the significant decrease in PPP loan fees that were more impactful during the first quarter of 2021 than 2022. Furthermore, the Company's $601 increase in overhead expense was only partially offset by the $381 increase in noninterest income. As a result, the Company's efficiency number increased (regressed) to 70.8% during the quarterly period ended March 31, 2022 compared to 68.0% during the same period in 2021.

Provision for income taxes

The Company's income tax provision increased $202 during the three months ended March 31, 2022 compared to the same period in 2021. The change in tax expense corresponded directly to the change in associated taxable income during 2022 and 2021.

Capital Resources

Federal regulators have classified and defined capital into the following components: (i) Tier 1 capital, which includes tangible shareholders' equity for common stock, qualifying preferred stock and certain qualifying hybrid instruments, and (ii) Tier 2 capital, which includes a portion of the allowance for loan losses, certain qualifying long-term debt, preferred stock and hybrid instruments which do not qualify as Tier 1 capital.

In September 2019, consistent with Section 201 of the Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies issued a final rule providing simplified capital requirements for certain community banking organizations (banks and holding companies). Under the rule, a qualifying community banking organization ("QCBO") is eligible to opt into the Community Bank Leverage Ratio ("CBLR") framework in lieu of the Basel III capital requirements if it has less than $10 billion in total consolidated assets, limited amounts of certain trading assets and liabilities, limited amounts of off-balance sheet exposure and a leverage ratio greater than 9.0%. The new rule took effect January 1, 2020, and QCBOs were allowed to opt into the new CBLR framework in their Call Report beginning the first quarter of 2020.

A QCBO opting into the CBLR framework must maintain a CBLR of 9.0%, subject to a two quarter grace period to come back into compliance, provided that the QCBO maintains a leverage ratio of more than 8.0% during the grace period. A QCBO failing to satisfy these requirements must comply with the existing Basel III capital requirements as implemented by the banking regulators in July 2013.

The numerator of the CBLR is Tier 1 capital, as calculated under present rules. The denominator of the CBLR is the QCBO's average assets, calculated in accordance with the QCBO's Call Report instructions and less assets deducted from Tier 1 capital.

The Bank opted into the CBLR, and will, therefore, not be required to comply with the Basel III capital requirements. As of March 31, 2022, the Bank's CBLR was 10.56%.

Pursuant to the CARES Act, the federal banking regulators in April 2020 issued interim final rules to set the CBLR at 8% beginning in the second quarter of 2020 through the end of 2020. The CBLR was then increased to 8.5% in 2021 until it was returned to 9% for all community banks beginning January 1, 2022.

Cash dividends paid by the Company were $998 during the first three months of 2022. The year-to-date dividends paid totaled $0.21 per share.

Liquidity

Liquidity relates to the Company's ability to meet the cash demands and credit needs of its customers and is provided by the ability to readily convert assets to cash and raise funds in the market place. Total cash and cash equivalents, held to maturity securities maturing within one year, and available for sale securities, which totaled $353,763, represented 28.1% of total assets at March 31, 2022 compared to $329,264 and 26.3% of total assets at December 31, 2021. To further enhance the Bank's ability to meet liquidity demands, the FHLB offers advances to the Bank. At March 31, 2022, the Bank could borrow an additional $107,949 from the FHLB. Furthermore, the Bank has established a borrowing line with the Federal Reserve. At March 31, 2022, this line had total availability of $51,344. Lastly, the Bank also has the ability to purchase federal funds from a correspondent bank. For further cash flow information, see the condensed consolidated statement of cash flows above. Management does not rely on any single source of liquidity and monitors the level of liquidity based on many factors affecting the Company's financial condition.

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                          Critical Accounting Policies

The most significant accounting policies followed by the Company are presented in Note A to the financial statements in the Company's 2021 Annual Report to Shareholders. These policies, along with the disclosures presented in the other financial statement notes, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Management views critical accounting policies to be those which are highly dependent on subjective or complex judgments, estimates and assumptions, and where changes in those estimates and assumptions could have a significant impact on the financial statements. Management currently views the adequacy of the allowance for loan losses to be a critical accounting policy.

Allowance for loan losses

The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management's judgment, should be charged off.

The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans generally consist of loans with balances of $200 or more on nonaccrual status or nonperforming in nature. Loans for which the terms have been modified, and for which the borrower is experiencing financial difficulties, are considered TDRs and classified as impaired.

Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length and reasons for the delay, the borrower's prior payment record, and the amount of shortfall in relation to the principal and interest owed.

Commercial and commercial real estate loans are individually evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan's existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Smaller balance homogeneous loans, such as consumer and most residential real estate, are collectively evaluated for impairment, and accordingly, they are not separately identified for impairment disclosure. TDRs are measured at the present value of estimated future cash flows using the loan's effective rate at inception. If a TDR is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral. For TDRs that subsequently default, the Company determines the amount of reserve in accordance with the accounting policy for the allowance for loan losses.

The general component covers non-impaired loans and impaired loans that are not individually reviewed for impairment and is based on historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the most recent 3 years for the consumer and real estate portfolio segment and 5 years for the commercial portfolio segment. The total loan portfolio's actual loss experience is supplemented with other economic factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures, and practices; experience, ability, and depth of lending management and other relevant staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations. During 2020, the Company established a new economic risk factor in relation to the COVID-19 pandemic. The risk factor captures the exposure of our current historical loss metrics to the heightened losses experienced following the Great Recession that occurred from 2007 to 2009. To the extent the loss history incurred during an economic downturn exceeded our current loss history, a general allocation to the allowance for loan losses was made. The COVID-19 risk factor allocation amount is subject to change based on the actual loss history experienced and may be removed when the risk of loss in relation to the pandemic environment diminishes. The following portfolio segments have been identified: Commercial Real Estate, Commercial and Industrial, Residential Real Estate, and Consumer.

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Commercial and industrial loans consist of borrowings for commercial purposes by individuals, corporations, partnerships, sole proprietorships, and other business enterprises. Commercial and industrial loans are generally secured by business assets such as equipment, accounts receivable, inventory, or any other asset excluding real estate and generally made to finance capital expenditures or operations. The Company's risk exposure is related to deterioration in the value of collateral securing the loan should foreclosure become necessary. Generally, business assets used or produced in operations do not maintain their value upon foreclosure, which may require the Company to write down the value significantly to sell.

Commercial real estate consists of nonfarm, nonresidential loans secured by owner-occupied and nonowner-occupied commercial real estate as well as commercial construction loans. An owner-occupied loan relates to a borrower purchased building or space for which the repayment of principal is dependent upon cash flows from the ongoing business operations conducted by the party, or an affiliate of the party, who owns the property. Owner-occupied loans that are dependent on cash flows from operations can be adversely affected by current market conditions for their product or service. A nonowner-occupied loan is a property loan for which the repayment of principal is dependent upon rental income associated with the property or the subsequent sale of the property. Nonowner-occupied loans that are dependent upon rental income are primarily impacted by local economic conditions which dictate occupancy rates and the amount of rent charged. Commercial construction loans consist of borrowings to purchase and develop raw land into one- to four-family residential properties. Construction loans are extended to individuals as well as corporations for the construction of an individual or multiple properties and are secured by raw land and the subsequent improvements. Repayment of the loans to real estate developers is dependent upon the sale of properties to third parties in a timely fashion upon completion. Should there be delays in construction or a downturn in the market for those properties, there may be significant erosion in value which may be absorbed by the Company.

Residential real estate loans consist of loans to individuals for the purchase of one- to four-family primary residences with repayment primarily through wage or other income sources of the individual borrower. The Company's loss exposure to these loans is dependent on local market conditions for residential properties as loan amounts are determined, in part, by the fair value of the property at origination.

Consumer loans are comprised of loans to individuals secured by automobiles, open-end home equity loans and other loans to individuals for household, family, and other personal expenditures, both secured and unsecured. These loans typically have maturities of 6 years or less with repayment dependent on individual wages and income. The risk of loss on consumer loans is elevated as the collateral securing these loans, if any, rapidly depreciate in value or may be worthless and/or difficult to locate if repossession is necessary. During the last several years, one of the most significant portions of the Company's net loan charge-offs have been from consumer loans. Nevertheless, the Company has allocated the highest percentage of its allowance for loan losses as a percentage of loans to the other identified loan portfolio segments due to the larger dollar balances and inherent risk associated with such portfolios.

                          Concentration of Credit Risk

The Company maintains a diversified credit portfolio, with residential real estate loans currently comprising the most significant portion. Credit risk is primarily subject to loans made to businesses and individuals in southeastern Ohio and western West Virginia. Management believes this risk to be general in nature, as there are no material concentrations of loans to any industry or consumer group. To the extent possible, the Company diversifies its loan portfolio to limit credit risk by avoiding industry concentrations.

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