EDGAR 10-K Filing

Company CIK: 1675644
Filing Year: 2024
Filename: 1675644_10-K_2024_0001675644-24-000036.json

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ITEM 1. BUSINESS
Item 1. Business
Overview
The Company is a registered bank holding company headquartered in Fairfax, Virginia. We operate primarily through our sole subsidiary, FVCbank, (the "Bank"), a community oriented, locally-owned and managed commercial bank organized under the laws of the Commonwealth of Virginia. We serve the banking needs of commercial businesses, nonprofit organizations, professional service entities, and their respective owners and employees located in the greater Washington, D.C. and Baltimore metropolitan areas. The Company was established as the holding company for the Bank in 2015.
Since the Bank began operations in November 2007, it has grown largely organically, through de novo branch expansion, banker and customer acquisition, and two whole-bank acquisitions. In 2012, we completed the acquisition of 1st Commonwealth Bank of Virginia ("1st Commonwealth"), a $58.9 million asset savings and loan association in Arlington, Virginia.
On October 12, 2018, we completed our acquisition of Colombo Bank ("Colombo"), which was headquartered in Rockville, Maryland, and which added banking locations in Washington, D.C., and Montgomery County and the City of Baltimore in Maryland.
Our acquisition of Colombo supported our business allowing us to expand our presence in adjacent markets where we lend, but in which we had no physical presence. Our strong infrastructure and wide range of products and services allowed us to develop deeper relationships with Colombo's customers, as well as enhance our platform for generating new relationships.
On August 31, 2021, we announced that the Bank made an investment in Atlantic Coast Mortgage, LLC ("ACM") for $20.4 million to obtain a 28.7% ownership interest in ACM. The Bank provides a warehouse lending facility to ACM, which includes a construction-to-permanent financing line, and has developed portfolio mortgage products to diversify our held to investment loan portfolio.
Market Area
We operate in one of the most economically dynamic and wealthy regions of the Washington and Baltimore Metropolitan Statistical Areas ("MSA"), focusing primarily on the Virginia counties of Arlington, Fairfax, Loudoun and Prince William and the independent cities located within those counties, as well as Washington, D.C. and its Maryland suburbs and Baltimore, Maryland and its surrounding suburbs. As of June 30, 2023, the Washington MSA had total deposits of $298.3 billion and the Baltimore MSA had total deposits of $96.5 billion, based on Federal Deposit Insurance Corporation ("FDIC") data.
Our market area's unemployment rate has generally remained below the national average for the last several years, as the region has the benefit of a highly trained and educated workforce concentrated in government and professional service businesses. These factors, along with the ability of the regional infrastructure to support remote working, have provided a greater amount of resiliency on the overall employment metrics for our market.
In addition to the presence of the federal government, the Washington MSA is defined by attractive market demographics, including strong household incomes, dense populations and the presence of a diverse group of large and small businesses. According to the U.S. Census Bureau, the region is home to four of the top ten most highly educated counties in the nation and four to the top ten most affluent counties, as measured by household income. As of December 31, 2023, the Washington MSA had a median household income of $111,252, which ranks as sixth highest among all MSAs nationally, and a population of 6.4 million. The Virginia and Maryland localities within the Washington MSA in which we primarily operate have higher median household incomes than the Washington MSA as a whole and have an unemployment rate of 2.5% as of December 31, 2023. The significant presence of national and international businesses make the Washington MSA one of the most economically vibrant and diverse markets in the country. The Washington MSA is currently home to 30 Fortune 500 companies, including eight based in Fairfax County.
The Baltimore MSA also has strong economic factors which enhance our business profile. As of December 31, 2023, the Baltimore MSA had a median household income of $90,505 which represented 4.0% growth over the previous year. The Baltimore MSA has an unemployment rate of 2.0% as of December 31, 2023. With a population of 3.0 million, the top industries of the Baltimore MSA include healthcare, education, and professional, scientific and technical services.
The local economies in which we operate that began to strengthen and improve during 2022 post pandemic, showed continued improvement in economic and commercial activity during 2023. This economic improvement resulted in lower unemployment, increased consumer confidence, and increased housing development and housing prices. Our business opportunities in the future may be tempered by higher interest rates, inflation, and contractionary monetary policy. Volatility in global economic markets, continued domestic political turmoil and various episodes of geopolitical unrest continue to provide a degree of uncertainty in financial markets. Aside from these challenges, we continue to be encouraged by the resiliency of the current economic environment and the prospects for continued growth of the Company.
Growth Strategy
Our approach features competitive customized financial services offered to customers and prospects in a personal relationship context by seasoned professionals. We provide a full range of banking services that become integral to our customers' business operations, which helps to enhance our ability to retain our relationships. We offer a better value proposition to our customers by providing high-touch service with few added fees. Our capabilities and reputation enable us to be selective in loan and customer selection, which contributes to our strong asset quality, and our ability to provide multiple services to customers.
We intend to continue expanding our market position through organic growth, through expansion of our relationships with our existing customers, acquisition of new customers and acquisition of seasoned bankers with strong customer relationships, through selective branching, and potentially opportunistic acquisitions or other strategic transactions, while increasing profitability, maintaining strong asset quality and a high level of customer service.
Our success has been driven by our mission to help our clients, communities and employees prosper. We strive to exceed our clients' expectations by delivering superior, personalized client service supported with high quality bank products and services. We invest in the growth of our employees and we give back to the communities in which we do business to foster a brighter future for everyone who lives there. Much of our early growth was the result of the active promotion by our organizing shareholders, our board of directors, our advisory board and our shareholders as many of the aforementioned are customers. We receive referrals from existing customers and all employees are encouraged to promote the Company. We believe having such a large group of individuals actively promote the Company has and will continue to augment our ability to generate both deposits and loans through staff and management led marketing and calling campaigns. As we have grown, we have increased our reliance on management originated customer relationships, but believe that our strong network of personal, customer and shareholder relationships and referrals will continue to be a significant factor in our business development strategy.
Our vision is to be known as the number one community bank in experience and service in our community. Our passion is to provide the utmost banking experience for each of our clients, to create a positive and empowering work environment for our employees, to fulfill our obligation of corporate citizenship in the communities in which we operate and to ensure that our Bank increases profitability and grows prudently, ensuring its strength and continuity, and increasing shareholder value.
Our Products and Services
We emphasize providing commercial banking services to small and medium-sized businesses, professionals, non-profit organizations and associations, and investors living and working in and near our service area. We offer retail banking services to accommodate the individual needs of both corporate customers as well as the communities we serve. We also offer online banking, mobile banking and a remote deposit service, which allows clients to facilitate and expedite deposit transactions through the use of electronic devices. A sophisticated suite of treasury management products is a key feature of our client focused, relationship driven marketing. We have partnered with experienced service providers in both insurance and merchant services to further augment the products available to our customers.
Lending Products
We provide a variety of lending products to small and medium-sized businesses, including (i) commercial real estate loans; (ii) commercial construction loans; (ii) commercial loans for a variety of business purposes such as for working capital, equipment purchases, lines of credit, and government contract financing; (iii) Small Business Administration ("SBA") lending; (iv) asset based lending and accounts receivable financing; (v) home equity loans, or home equity lines of credit; and (vi) consumer loans for constructive purposes. Through our partnership with ACM, we purchase residential mortgage loans primarily originated in our market area that meet our product criteria and pricing, to help with the diversification of our loan portfolio. Although we do not generally actively originate them, we have acquired pools of other types of loans, student loans and other consumer loans, in order to diversify the loan portfolio, put capital to work before organic loan production requires it, and to increase margin. We may also purchase participations from other banks in our market. Any acquired loans must meet our standard underwriting requirements.
Commercial Real Estate Loans. Commercial real estate loans, which comprise the largest portion of our loan portfolio, are secured by both owner occupied and investor owned commercial properties, including multi-family residential real estate. Commercial real estate loans are structured using both variable and fixed rates and renegotiable rates which adjust in three to five years, with maturities of generally five to ten years. At December 31, 2023, owner occupied commercial real estate loans represented 12.0% of the loan portfolio. At December 31, 2023, non-owner occupied commercial real estate loans represented approximately 48.0% of the loan portfolio and multi-family residential real estate comprised 10% of the portfolio. We seek to mitigate lending risks typical of this type of loan such as declines in real estate values, changes in borrower cash flow and general economic conditions. We typically require a maximum loan to value of 80% and minimum cash flow and debt service coverages, of at least 1.20 to 1.00. Personal guarantees are generally required, but may be limited. We generally require that interest rates adjust not less frequently than five years. For purposes of geographic diversification, we will also make commercial real estate loans outside of our primary and secondary markets, in an area extending south to Richmond, Virginia, and north of Baltimore, Maryland, and between Winchester, Virginia and the Eastern Shore of Maryland.
Construction Loans. Commercial construction loans for the acquisition, development and construction of commercial real estate also comprise a significant and growing portion of the portfolio. At December 31, 2023, such loans represented 8.0% of the loan portfolio. Our typical commercial construction loan involves property that will ultimately be leased to a non-owner occupant. We will finance construction projects of a speculative nature, which are well-conceived and structured with appropriate interest reserves and analyzed fully. In underwriting commercial construction loans, we consider the expected costs of the transaction, the loan to value ratio, the credit history, cash flows and liquidity of the borrower, the project and the guarantors, the debt service coverage ratios (which are stressed prior to approval), take out sources for the permanent loan or repayment of the construction loan, the reputation, experience and qualifications of the borrower, the general contractor and others involved with the project and other factors. Commercial construction loans are generally made on a variable rate basis, typically based on the Wall Street Journal Prime Rate and subject to rate floors, for terms of 12 - 24 months. Generally, we do not make commercial construction loans outside of our primary or secondary market areas.
Commercial Loans, Government Contracting. Commercial loans, for a variety of business purposes, including working capital, equipment purchases, lines of credit, and government contract financing and asset based lending and accounts receivable financing, comprise approximately 12.0% of our loan portfolio at December 31, 2023. The warehouse facility provided to ACM is also included in this loan type. We make commercial loans on a secured or unsecured basis. We generally require the owners, managing members, general partners and principals of the borrowing entity or that control more than 20% of the borrower to guaranty the loan, unless a combination of low leverage, significant income and debt service coverage ratios, and substantial experience in operating the business, strong management and internal controls and/or other factors are demonstrated. Commercial loans are typically made with variable or adjustable rates. The cash flow of the borrower/borrower's operating business is often the principal source of debt service, with a secondary emphasis on other collateral.
We have developed a special expertise in government contract financing. We lend to government contractors or subcontractors headquartered in the Washington, D.C. metropolitan area. This area of lending encompasses lines of credit for working capital, financing of government leases, mergers and acquisition financing, and, less frequently term loans, to operating companies that recognize over 50% of their total revenues from services provided to federal government agencies or rated state and municipal governments. Our borrowers are typically engaged in technology or service businesses, but may also include construction and equipment providers, or entities working on "classified" projects. A government contractor borrower must have an acceptable level of eligible accounts receivable, provide appropriate security instruments
perfecting our rights in the accounts receivable or other collateral, and are subject to periodic review and monitoring of their receivables, contract backlog and contract compliance. The contractor is typically required to have its primary deposit relationship with us. Advance rates will be up to 90% of prime eligible government receivables, and lower percentages depending on the nature of the receivables. At December 31, 2023, outstanding loans to government contractors represented 47.0% of our commercial and industrial segment. Total commitments to government contractors totaled $311.4 million at December 31, 2023. Government contract loans are typically made with variable or adjustable rates. Lines of credit typically have a one year term. As with other commercial loans, guarantees are typically required.
Consumer Residential. We actively originate loans for residential 1-4 family trust investment purposes and HELOCs in the communities we serve in the Washington and Baltimore MSAs. In addition, we have portfolio mortgage products that we developed for use by ACM to help diversify our total loan portfolio. Our HELOCs generally have a maximum loan to value of up to 85%, however, due to the favorable economic conditions and strong residential real estate market in these markets, actual loan to values are typically lower than the maximum. We provide HELOCs as a service to our customers and when we receive referrals from various mortgage brokers within our market area. As of December 31, 2023, HELOCs comprise 1.7% of total loans. Loans originated for residential 1-4 family trust investment purposes comprise 4.3% of total loans as of December 31, 2023. While we do not typically originate residential first mortgages, we will occasionally originate a mortgage loan meeting our investment preferences presented by a mortgage broker. We have also purchased portfolios of 1-4 family residential first mortgage loans on properties primarily located in our market area for yield and diversification. At December 31, 2023, consumer residential loans represented 19.9% of the loan portfolio.
Other Loans. We occasionally originate consumer loans both on an unsecured basis and secured by non-real estate collateral. We have also purchased pools of unsecured consumer loans and student loans from a third party for yield and diversification.
The lending activities in which we engage carry the risk that the borrowers will be unable to perform on their obligations. As such, interest rate policies of the Federal Reserve and general economic conditions, nationally and in our market areas, could have a significant impact on our results of operations. To the extent that economic conditions deteriorate business and individual borrowers may be less able to meet their obligations to us in full, in a timely manner, resulting in decreased earnings or losses. Economic conditions may also adversely affect the value and liquidity of property pledged as security for loans.
Our goal is to mitigate risks in the event of unforeseen threats to the loan portfolio as a result of economic downturn or other negative influences. Plans for mitigating inherent risks in managing loan assets include: carefully enforcing loan policies and procedures, evaluating each borrower's business plan during the underwriting process and throughout the loan term, identifying and monitoring primary and alternative sources for loan repayment, and obtaining collateral to mitigate economic loss in the event of liquidation. Specific loan reserves are established based upon credit and/or collateral risks on an individual loan basis. A risk rating system is employed to proactively estimate loss exposure and provide a measuring system for setting general and specific reserve allocations.
Our lending activities are subject to a variety of lending limits imposed by state and federal law. These limits will increase or decrease in response to increases or decreases in our level of capital. At December 31, 2023, the Bank had a legal lending limit of $39.2 million. At December 31, 2023, our average funded loan size outstanding, for commercial real estate (including commercial construction) and commercial loans was $2.1 million and $520 thousand, respectively. In accordance with internal lending policies, we may sell participations of loans to other banks, which allows us to manage risk involved in these loans and to meet the lending needs of our clients.
Concentrations of Credit Risk. Most of our lending is conducted with businesses and individuals in the suburbs of Washington, D.C. Our loan portfolio consists primarily of commercial real estate loans, including construction and land loans, which totaled $1.31 billion and constituted 67.8% of total loans as of December 31, 2023, and commercial loans, including loans to government contractors and the ACM warehouse lending facility, which totaled $219.9 million and constituted 12.0% of total loans as of December 31, 2023. The geographic concentration of our loans subjects our business to the general economic conditions within our market area. The risks created by such concentrations have been considered by management in the determination of the adequacy of the allowance for credit losses. Management believes the allowance for credit losses is adequate to cover probable incurred losses in our loan portfolio as of December 31, 2023.
Comprehensive risk management practices and appropriate capital levels are essential elements of a sound commercial real estate lending program. A concentration in commercial real estate adds a dimension of risk that compounds the risk inherent in individual loans. The federal banking agencies have issued guidance governing financial
institutions with concentrations in commercial real estate lending. The guidance provides that institutions that have (i) total reported loans for construction, land development, and other land which represent 100% or more of an institution's total risk-based capital; or (ii) total reported commercial real estate loans, excluding loans secured by owner-occupied commercial real estate, representing 300% or more of the institution's total risk-based capital and the institution's commercial real estate loan portfolio has increased 50% or more during the prior 36 months, are identified as having potential commercial real estate concentration risk. Institutions which are deemed to have concentrations in commercial real estate lending are expected to employ heightened levels of risk management with respect to their commercial real estate portfolios, and may be required to hold higher levels of capital. We have a concentration in commercial real estate loans, and we have experienced significant growth in our commercial real estate portfolio in recent years. As of December 31, 2023, commercial real estate loans as defined for regulatory purposes represented 399% of our total risk-based capital. Of those loans, commercial construction, development and land loans represented 57% of our total risk based capital. Owner-occupied commercial real estate loans represented an additional 81% of our total risk based capital. Management has extensive experience in commercial real estate lending, and has implemented and continues to maintain heightened portfolio monitoring and reporting, and strong underwriting criteria with respect to our commercial real estate portfolio.
Deposit Products
We offer a wide array of deposit products for individuals, professionals, government contractors and other businesses, including interest and noninterest-bearing transaction accounts, certificates of deposit, savings, and money market accounts. We are a relationship based bank, and maintenance of significant deposit relationships is a factor in our decision to make loans and the pricing of our products.
Our sophisticated treasury management and online banking platform allows a commercial customer to view balances, initiate payments, pay bills (including positive pay), issue stop payments, reconcile accounts and set up custom alerts. Online wires, ACH (including positive authorization), remote capture, cash disbursement and cash concentration are additional payment options available to businesses. We provide customers with a sophisticated escrow management product which facilitates and simplifies management of multiple escrow balances. We also provide secure credit card processing and merchant services, with reporting tailored to customer needs. Additionally, we offer online and mobile banking products to our consumer depositors, to complement our branch network.
Other Services
Through third party networks, we offer our customers access to a full range of business insurance products and business and consumer credit card products.
Competition
We are one of the few remaining locally owned and managed independent community banks headquartered in Northern Virginia. We believe that this is an advantageous position and valuable quality which positively differentiates us from our competitors and positions us for future growth from individuals and small and mid-sized business customers who value the attention and customized services which a locally owned and managed community bank can provide.
As of June 30, 2023, there were approximately $298.3 billion in total deposits shared between banking institutions located in the Washington MSA, according to the FDIC. As of the aforementioned date, our deposit market share was approximately 0.60% in the Washington MSA. Our strategic goal is to increase our market share through selective new branch additions, opportunistic acquisitions, and acquisitions of customers from larger competitors. PNC Bank, Capital One, Wells Fargo Bank, Truist Bank, and Bank of America Corporation hold the primary market shares. However, we believe these large banks generally cannot provide the same level of attention and customization of services to small businesses that we seek to provide. Through correspondents, referrals to third parties with whom we have partnered, and our own capabilities, we are a full service financial provider, able to compete in substantially all areas of banking, except trust services. Additionally, we believe we provide competitively priced products, superior customer service, flexibility and responsiveness when compared to our larger competitors.
The banking business is highly competitive. We compete as a financial intermediary with other commercial banks, savings banks, credit unions, mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market mutual funds, financial technology companies and other financial institutions operating in the Washington and Baltimore MSAs and elsewhere.
Our market area is a highly competitive, highly branched, banking market. Competition in our market area for loans to small and middle-market businesses and professionals, our target market, is intense and pricing is important. Several of our competitors have substantially greater resources and lending limits than we have, and offer certain services, such as extensive and established branch networks and trust services that we do not currently provide or currently expect to provide in the near future. Moreover, larger institutions operating in the Washington, D.C. metropolitan market have access to borrowed funds at a lower cost than may be available to us. Additionally, deposit competition among institutions in the market area is strong. As a result, it is possible that we may pay above market rates to attract deposits.
Risk Management
We believe that effective risk management is of primary importance. Risk management refers to the activities by which we identify, measure, monitor, evaluate and manage the risks we face in the course of our banking activities. These include liquidity, interest rate, credit, operational, compliance, regulatory, strategic, financial and reputational risk exposures. Our board of directors and management team have created a risk-conscious culture that is focused on quality growth, which starts with capable and experienced risk management teams and an infrastructure capable of addressing the evolving risks we face, as well as the changing regulatory and compliance landscape. Our risk management approach employs comprehensive policies and processes to establish robust governance. We believe a disciplined and conservative underwriting approach has been the key to our strong asset quality.
Our board of directors sets the tone at the top of our organization, adopting and overseeing the implementation of our risk management, establishing our overall risk appetite and risk management strategy. The board of directors approves our various operating policies, which include risk policies, procedures, limits, targets and reporting structured to guide decisions regarding the appropriate balance between risk and return considerations in our business. Our board of directors receives periodic reporting on the risks and control environment effectiveness and monitors risk levels in relation to the approved risk appetite.
Credit risk is the risk that borrowers or counterparties will be unable or unwilling to repay their obligations in accordance with the underlying contractual terms and the risk that credit assets will suffer significant deterioration in market value. We manage and control credit risk in our loan portfolio by adhering to well-defined underwriting criteria and account administration standards established by management, and approved by the board of directors. Our written loan policies document underwriting standards, approval levels, exposure limits and other limits or standards deemed necessary and prudent. Portfolio diversification at the obligor, product and geographic levels is actively managed to mitigate concentration risk. In addition, credit risk management includes an independent credit review process that assesses compliance with policies, risk rating standards and other critical credit information. In addition to implementing risk management practices that are based upon established and sound lending practices, we adhere to sound credit principles. We evaluate our customers' borrowing needs and capacity to repay, in conjunction with their character and history. Our management and board of directors place significant focus on maintaining a healthy risk profile and ensuring sustainable growth. Our risk appetite seeks to balance the risks necessary to achieve our strategic goals while ensuring that our risks are appropriately managed and remain within our defined limits.
Our management of interest rate and liquidity risk is overseen by our Asset and Liability Committee, based on a risk management infrastructure approved by our board of directors that outlines reporting and measurement requirements. In particular, this infrastructure reviews financial performance, trends, and significant variances to budget; reviews and recommends for board approval risk limits and tolerances; reviews ongoing monitoring and reporting regarding our performance with respect to these areas of risk, including compliance with board-approved risk limits and stress-testing; ensures annual back-testing and independent validation of models at a frequency commensurate with risk level; reviews all hedging strategies and recommends changes as appropriate; reviews and recommends our contingency funding plan; establishes wholesale borrowing limits to be submitted to the board of directors; and acts as a second line of defense in reviewing information and reports submitted to the committee for the purpose of identifying, investigating, and assuring remediation, to its satisfaction, of errors or irregularities, if any.
Investment Portfolio
Our investment securities portfolio is primarily maintained as an on-balance sheet contingent source of liquidity to fund loans and meet the demands of depositors. It provides additional interest income and we seek to have limited interest rate risk and credit risk. We currently classify substantially all of our investment securities as available-for-sale. Our investment policy authorizes investment primarily in securities of the U.S. government and its agencies; mortgage backed securities and collateralized mortgage obligations issued and fully backed by U.S. government agencies, securities of
municipalities and to a lesser extent corporate bonds and other obligations, in each case meeting identified credit standards. The securities portfolio, along with certain loans, may also be used to collateralize public deposits, Federal Home Loan Bank of Atlanta ("FHLB") borrowings, and Federal Reserve Bank of Richmond ("FRB") borrowings. We manage our investment portfolio according to written investment policies approved by our board of directors. Our investment strategy aims to maximize earnings while maintaining liquidity in securities with minimal credit risk and interest rate risk which is reflective in the yields obtained on those securities.
Employees
As of December 31, 2023, we had 116 full-time employees and 4 part-time employees. None of our employees are covered by a collective bargaining agreement. We consider our relationship with our employees to be good and have not experienced interruptions of operations due to labor disagreements.
Additional Information
Our common stock is currently listed on the Nasdaq Capital Market under the symbol "FVCB." We maintain a website at https://www.fvcbank.com.
We make available free of charge through our website all of our SEC filings, including our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports, as soon as reasonably practicable after electronically filing or furnishing such material to the SEC at https://www.sec.gov. Information on our website does not constitute part of, and is not incorporated into, this report or any other filing we make with the SEC.
SUPERVISION AND REGULATION
Our business and operations are subject to extensive federal and state governmental regulation and supervision. The following is a brief summary of certain statutes and rules and regulations that affect or may affect us. This summary is not intended to be an exhaustive description of the statutes or regulations applicable to our business. Supervision, regulation, and examination of the Company by the regulatory agencies are intended primarily for the protection of depositors and the Deposit Insurance Fund, rather than our shareholders.
The Company. The Company is a bank holding company registered under the Bank Holding Company Act of 1956, as amended (the "Act"), and is subject to regulation and supervision by the Federal Reserve. The Act and other federal laws subject bank holding companies to restrictions on the types of activities in which they may engage, and to a range of supervisory requirements and actions, including regulatory enforcement actions for violations of laws and regulations and unsafe and unsound banking practices. As a bank holding company, the Company is required to file with the Federal Reserve an annual report and such other additional information as the Federal Reserve may require pursuant to the Act. The Federal Reserve may also examine the Company and each of its subsidiaries. As a small bank holding company under the Federal Reserve's Small Bank Holding Company Policy Statement, the Company is not subject to risk-based capital requirements adopted by the Federal Reserve, which are substantially identical to those applicable to the Bank, and which are described below.
The Act requires approval of the Federal Reserve for, among other things, a bank holding company's direct or indirect acquisition of control of more than five percent (5%) of the voting shares, or substantially all the assets, of any bank or the merger or consolidation by a bank holding company with another bank holding company. The Act also generally permits the acquisition by a bank holding company of control, or substantially all of the assets of, any bank located in a state other than the home state of the bank holding company, except where the bank has not been in existence for the minimum period of time required by state law; but if the bank is at least five years old, the Federal Reserve may approve the acquisition.
With certain limited exceptions, a bank holding company is prohibited from acquiring control of any voting shares of any company which is not a bank or bank holding company and from engaging directly or indirectly in any activity other than banking or managing or controlling banks or furnishing services to or performing service for its authorized subsidiaries. A bank holding company may, however, engage in, or acquire an interest in a company that engages in, activities which the Federal Reserve has determined by order or regulation to be so closely related to banking or managing or controlling banks as to be properly incident thereto. In making such a determination, the Federal Reserve is required to consider whether the performance of such activities can reasonably be expected to produce benefits to the public, such as
convenience, increased competition or gains in efficiency, which outweigh possible adverse effects, such as undue concentration of resources, decreased or unfair competition, conflicts of interest or unsound banking practices. Some of the activities that the Federal Reserve has determined by regulation to be closely related to banking include making or servicing loans, performing certain data processing services, acting as a fiduciary or investment or financial advisor, and making investments in corporations or projects designed primarily to promote community welfare. The Federal Reserve may order a bank holding company or its subsidiaries to terminate any of these activities or to terminate its ownership or control of any subsidiary when it has reasonable cause to believe that the bank holding company's continued ownership, activity or control constitutes a serious risk to the financial safety, soundness, or stability of it or any of its bank subsidiaries.
The Gramm Leach-Bliley Act of 1999 ("GLB Act"), allows a bank holding company or other company to certify its status as a financial holding company, which would allow such company to engage in activities that are financial in nature, that are incidental to such activities, or are complementary to such activities. The GLB Act enumerates certain activities that are deemed financial in nature, such as underwriting insurance or acting as an insurance principal, agent or broker, underwriting, dealing in or making markets in securities, and engaging in merchant banking under certain restrictions. It also authorizes the Federal Reserve to determine by regulation what other activities are financial in nature, or incidental or complementary thereto. The Company has not elected financial holding company status.
The Act and the Federal Deposit Insurance Act ("FDIA"), require a bank holding company to serve as a source of financial and managerial strength to its bank subsidiaries. As a result of a bank holding company's source of strength obligation, a bank holding company may be required to provide funds to a bank subsidiary in the form of subordinated capital or other instruments which qualify as capital under bank regulatory rules. Any loans from the holding company to such subsidiary banks likely would be unsecured and subordinated to such bank's depositors and perhaps to other creditors of the Bank. In addition, where a bank holding company has more than one FDIC-insured bank or thrift subsidiary, each of the bank holding company's subsidiary FDIC-insured depository institutions is responsible for losses to the FDIC as a result of an affiliated depository institution's failure.
A bank holding company is generally required to give the Federal Reserve prior written notice of any purchase or redemption of its own then outstanding equity securities. The Federal Reserve may disapprove such a purchase or redemption if it determines that the proposal would constitute an unsafe and unsound practice, or would violate any law, regulation, Federal Reserve order or directive, or any condition imposed by, or written agreement with, the Federal Reserve.
As a Virginia corporation, the Company is subject to additional limitations and restrictions. For example, state law restrictions include limitations and restrictions relating to indemnification of directors, distributions to shareholders, transactions involving directors, officers or interested shareholders, maintenance of books, records, minutes, borrowing and the observance of corporate formalities.
The Bank. The Bank is a Virginia chartered commercial bank and a member of the Federal Reserve System, whose accounts are insured by the Deposit Insurance Fund of the FDIC up to the maximum legal limits of the FDIC. The Bank is subject to regulation, supervision and regular examination by the Virginia Bureau of Financial Institutions (the "VBFI") and the Federal Reserve. The regulations of these various agencies govern most aspects of the Bank's business, including required reserves against deposits, loans, investments, mergers and acquisitions, borrowing, dividends and location and number of branch offices.
The laws and regulations governing the Bank generally have been promulgated to protect depositors and the Deposit Insurance Fund, and not for the purpose of protecting shareholders.
Commercial banks, savings and loan associations and credit unions are generally able to engage in interstate banking or acquisition activities. As a result, banks in the Washington, D.C. metropolitan area can, subject to limited restrictions, acquire or merge with a bank in another jurisdiction, and can branch de novo in any jurisdiction.
Banking is a business, which depends on interest rate differentials. In general, the difference between the interest paid by a bank on its deposits and its other borrowings and the interest received by a bank on loans extended to its customers and on securities held in its investment portfolio constitutes the major portion of the Bank's earnings. Thus, the earnings and growth of the Bank are subject to the influence of economic conditions generally, both domestic and foreign, and also to the monetary and fiscal policies of the United States and its agencies, particularly the Federal Reserve, which
regulates the supply of money through various means including open market dealings in United States government securities. The nature and timing of changes in such policies and their impact on the Bank cannot be predicted.
Subsidiary banks of a bank holding company are subject to certain restrictions imposed by the Federal Reserve Act on any extensions of credit to the bank holding company or any of its subsidiaries, or investments in the stock or other securities thereof, and on the taking of such stock or securities as collateral for loans to any borrower. Further, a bank holding company and any subsidiary bank are prohibited from engaging in certain tying arrangements in connection with the extension of credit. A subsidiary bank may not extend credit, lease or sell property, or furnish any services, or fix or vary the consideration for any of the foregoing on the condition that: (i) the customer obtain or provide some additional credit, property or services from or to such bank other than a loan, discount, deposit or trust service; (ii) the customer obtain or provide some additional credit, property or service from or to the Company or any other subsidiary of the Company; or (iii) the customer not obtain some other credit, property or service from competitors, except for reasonable requirements to assure the soundness of credit extended.
Branching and Interstate Banking. The federal banking agencies are authorized to approve interstate bank merger transactions without regard to whether such transaction is prohibited by the law of any state, unless the home state of one of the banks has opted out of the interstate bank merger provisions of the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the "Riegle-Neal Act"), by adopting a law after the date of enactment of the Riegle-Neal Act and prior to June 1, 1997 which applies equally to all out-of-state banks and expressly prohibits merger transactions involving out-of-state banks. Interstate acquisitions of branches are permitted only if the law of the state in which the branch is located permits such acquisitions. Such interstate bank mergers and branch acquisitions are also subject to the nationwide and statewide insured deposit concentration limitations described in the Riegle-Neal Act. Washington, D.C., Maryland and Virginia have each enacted laws, that permit interstate acquisitions of banks and bank branches. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") authorizes national and state banks to establish de novo branches in other states to the same extent as a bank chartered by that state would be permitted to branch.
The GLB Act made substantial changes in the historic restrictions on non-bank activities of bank holding companies, and allows affiliations between types of companies that were previously prohibited. The GLB Act also allows banks to engage in a wider array of nonbanking activities through "financial subsidiaries."
Brokered Deposits. A "brokered deposit" is any deposit that is obtained from or through the mediation or assistance of a deposit broker. Deposit brokers may attract deposits from individuals and companies throughout the United States and internationally whose deposit decisions are based primarily on obtaining the highest interest rates. Certain reciprocal deposits of up to the lesser of $5 billion or 20% of an institution's deposits are excluded from the definition of brokered deposits, where the institution is "well-capitalized" and has a composite rating of 1 or 2. We have used brokered deposits in the past, and we intend to continue to use brokered deposits as one of our funding sources to support future growth. There are risks associated with using brokered deposits. In order to continue to maintain our level of brokered deposits, we may be forced to pay higher interest rates than those contemplated by our asset-liability pricing strategy. In addition, banks that become less than "well-capitalized" under applicable regulatory capital requirements may be restricted in their ability to accept or renew, or prohibited from accepting or renewing, brokered deposits. If this funding source becomes more difficult to access, we will have to seek alternative funding sources in order to continue to fund our growth. This may include increasing our reliance on FHLB borrowings, attempting to attract additional non-brokered deposits, and selling loans and securities. There can be no assurance that brokered deposits will be available, or if available, sufficient to support our continued growth. The unavailability of a sufficient volume of brokered deposits could have a material adverse effect on our business, financial condition and results of operations. The FDIC has proposed to adopt regulations that are intended to expand the ability of institutions to accept brokered deposits by, among other things, simplifying the process by which institutions and deposit brokers may obtain exemptions from the restriction or conditions on the acceptance of brokered deposits.
Anti-Money Laundering Laws and Regulations. The Company is subject to several federal laws that are designed to combat money laundering, terrorist financing, and transactions with persons, companies or foreign governments designated by U.S. authorities ("AML laws"). This category of laws includes the Bank Secrecy Act of 1970, the Money Laundering Control Act of 1986, the USA PATRIOT Act of 2001, and the Anti-Money Laundering Act of 2020.
The AML laws and their implementing regulations require insured depository institutions, broker-dealers, and certain other financial institutions to have policies, procedures, and controls to detect, prevent, and report money laundering and terrorist financing. The AML laws and their regulations also provide for information sharing, subject to conditions, between federal law enforcement agencies and financial institutions, as well as among financial institutions, for counter-
terrorism purposes. Federal banking regulators are required, when reviewing bank holding company acquisition and bank merger applications, to take into account the effectiveness of the anti-money laundering activities of the applicants. To comply with these obligations, the Company has implemented appropriate internal practices, procedures, and controls.
Office of Foreign Assets Control. The United States has imposed economic sanctions that affect transactions with designated foreign countries, foreign nationals and others, which are administered by the U.S. Treasury Department's Office of Foreign Assets Control ("OFAC"). The OFAC-administered sanctions targeting countries take many different forms. Generally, however, they contain one or more of the following elements: (i) restrictions on trade with or investment in a sanctioned country, including prohibitions against direct or indirect imports from and exports to a sanctioned country and prohibitions on a "U.S. person" engaging in financial transactions relating to making investments in, or providing investment-related advice or assistance to, a sanctioned country; and (ii) a blocking of assets in which the government or specially designated nationals of a sanctioned country have an interest by prohibiting transfers of property subject to U.S. jurisdiction (including property in the possession or control of U.S. persons). Blocked assets (e.g. property and bank deposits) cannot be paid out, withdrawn, set off or transferred in any manner without a license from OFAC. Failure to comply with these sanctions could have serious legal and reputational consequences.
Capital Adequacy. The Federal Reserve and the FDIC have adopted risk-based and leverage capital adequacy requirements, pursuant to which they assess the adequacy of capital in examining and supervising banks and bank holding companies and in analyzing bank regulatory applications. Risk-based capital requirements determine the adequacy of capital based on the risk inherent in various classes of assets and off-balance sheet items. The Dodd-Frank Act additionally requires capital requirements to be countercyclical so that the required amount of capital increases in times of economic expansion and decreases in times of economic contraction, consistent with safety and soundness.
The federal banking agencies have adopted rules to implement the framework for strengthening international capital and liquidity regulation adopted by the Basel Committee on Banking Supervision ("Basel III"). The Basel III framework, among other things, (i) introduced the concept of common equity tier one capital ("CET1"), (ii) required that most adjustments to regulatory capital measures be made to CET1 and not to the other components of capital, (iii) expanded the scope of the adjustments to capital that may be made as compared to existing regulations, and (iv) specified that Tier 1 capital consists of CET1 and "Additional Tier 1 capital" instruments meeting specified requirements.
The Basel III rules require institutions to maintain: (i) a minimum ratio of CET1 to risk-weighted assets of 4.5%, plus a "capital conservation buffer" of 2.5%, or 7.0%; (ii) a minimum ratio of Tier 1 capital to risk-weighted assets of 6.0%, plus the capital conservation buffer, or 8.5%; (iii) a minimum ratio of Total (Tier 1 plus Tier 2) capital to risk-weighted assets of 8.0%, plus the capital conservation buffer, or 10.5%; and (iv) a minimum leverage ratio of 4%, calculated as the ratio of Tier 1 capital to balance sheet exposures plus certain off-balance sheet exposures (computed as the average of the month-end ratios each month during a calendar quarter).
Basel III also provides for a "countercyclical capital buffer," generally to be imposed when federal banking agencies determine that excess aggregate credit growth becomes associated with a buildup of systemic risk. This buffer would be a CET1 add-on to the capital conservation buffer of 2.5%. The current policy of the Federal Reserve is to maintain the countercyclical capital buffer at 0% in a normal risk environment.
Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the minimum plus the capital conservation buffer (or below the combined capital conservation buffer and countercyclical capital buffer, when the latter is applied) may face constraints on their ability to pay dividends, effect equity repurchases, and pay discretionary bonuses to executive officers, which constraints vary based on the amount of the shortfall.
The Economic Growth, Regulatory Relief and Consumer Protection Act ("EGRRCPA") also directed the federal banking agencies to develop a "Community Bank Leverage Ratio" ("CBLR"), calculated by dividing tangible equity capital by average consolidated total assets. In October 2019, the federal banking agencies adopted a CBLR of 9%. If a "qualified community bank," generally a depository institution or depository institution holding company with consolidated assets of less than $10 billion, has a leverage ratio which exceeds the CBLR, then such institution is considered to have met all generally applicable leverage and risk based capital requirements, the capital ratio requirements for "well capitalized" status under Section 38 of the FDIA, and any other leverage or capital requirements to which it is subject. An institution or holding company may be excluded from qualifying community bank status based on its risk profile, including consideration of its off-balance sheet exposures; trading assets and liabilities; total notional derivatives exposures; and such other facts as the appropriate federal banking agencies determine to be appropriate. We adopted this simplified capital regime on January 1, 2020. Effective September 30, 2022, we opted out of the CBLR framework. A banking organization
that opts out of the CBLR framework can subsequently opt back into the CBLR framework if it meets the criteria listed above. We believe that the Bank met all capital adequacy requirements to which it was subject as of December 31, 2023 and December 31, 2022.
As discussed below, the Basel III rules also integrate the new capital requirements into the prompt corrective action provisions under Section 38 of the FDIA.
The capital ratios described above are the minimum levels that the federal banking agencies expect. Our state and federal regulators have the discretion to require us to maintain higher capital levels based upon our concentrations of loans, the risk of our lending or other activities, the performance of our loan and investment portfolios and other factors. Failure to maintain such higher capital expectations could result in a lower composite regulatory rating, which would impact our deposit insurance premiums and could affect our ability to borrow and costs of borrowing, and could result in additional or more severe enforcement actions. In respect of institutions with high concentrations of loans in areas deemed to be higher risk, or during periods of significant economic stress, regulators may require an institution to maintain a higher level of capital, and/or to maintain more stringent risk management measures, than those required by these regulations.
In 2016, the FASB issued the current expected credit losses ("CECL") model, which became applicable to us on January 1, 2023. CECL requires financial institutions to estimate and establish a provision for credit losses over the lifetime of the asset, at the origination or the date of acquisition of the asset, as opposed to reserving for incurred or probable losses through the balance sheet date. Upon implementation, an institution would recognize a one-time cumulative effect adjustment to the allowance for credit losses. The Federal Reserve and FDIC have adopted a rule providing for an optional three-year phase-in period for the day-one adverse regulatory capital effects upon adopting the standard. As a result of the adoption of CECL, reserves for credit losses increased $3.7 million and consisted of increases to the allowance for credit losses as well as an increase in reserves for unfunded commitments.
Prompt Corrective Action. Under Section 38 of the FDIA, each federal banking agency is required to implement a system of prompt corrective action for institutions that it regulates. The federal banking agencies have promulgated substantially similar regulations for this purpose. The following capital requirements currently apply to the Bank for purposes of Section 38.
Capital Category Total
Risk-Based
Capital Ratio Tier 1
Risk-Based
Capital Ratio Common
Equity Tier 1
Capital Ratio Leverage
Ratio Tangible
Equity to
Assets Supplemental
Leverage
Ratio
Well Capitalized 10% or greater 8% or greater 6.5% or greater 5% or greater n/a n/a
Adequately Capitalized 8% or greater 6% or greater 4.5% or greater 4% or greater n/a 3% or greater
Undercapitalized Less than 8% Less than 6% Less than 4.5% Less than 4% n/a Less than 3%
Significantly Undercapitalized Less than 6% Less than 4% Less than3% Less than 3% n/a n/a
Critically Undercapitalized n/a n/a n/a n/a Less than 2% n/a
An institution generally must file a written capital restoration plan which meets specified requirements with the appropriate federal banking agency within 45 days of the date the institution receives notice or is deemed to have notice that it is undercapitalized, significantly undercapitalized or critically undercapitalized. The appropriate federal banking agency must provide the institution with written notice of approval or disapproval within 60 days after receiving a capital restoration plan, subject to extensions by the applicable agency.
Immediately upon becoming undercapitalized, an institution shall become subject to the provisions of Section 38 of the FDIA, which (i) restrict payment of capital distributions and management fees; (ii) require that the appropriate federal banking agency monitor the condition of the institution and its efforts to restore its capital; (iii) require submission of a capital restoration plan; (iv) restrict the growth of the institution's assets; and (v) require prior approval of certain expansion proposals. The appropriate federal banking agency for an undercapitalized institution also may take any number of discretionary supervisory actions if the agency determines that any of these actions is necessary to resolve the problems of the institution at the least possible long-term cost to the Deposit Insurance Fund, subject in certain cases to specified procedures. These discretionary supervisory actions include: requiring the institution to raise additional capital; restricting transactions with affiliates; requiring divestiture of the institution or the sale of the institution to a willing purchaser; and any other supervisory action that the agency deems appropriate. These and additional mandatory and permissive supervisory actions may be taken with respect to significantly undercapitalized and critically undercapitalized institutions.
Regulatory Enforcement Authority. Federal banking law grants substantial enforcement powers to the federal banking agencies. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banking organizations and institution-affiliated parties. In general, these enforcement actions may be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with regulatory authorities.
The Dodd-Frank Act. The Dodd-Frank Act was signed into law on July 21, 2010. The Dodd-Frank Act significantly restructured the financial regulatory regime in the United States and has had a broad impact on the financial services industry as a result of the significant regulatory and compliance changes required under the act.
The EGRRCPA, which became effective May 24, 2018, amended the Dodd-Frank Act to provide regulatory relief for certain smaller and regional financial institutions, such as the Company and the Bank. The EGRRCPA, among other things, provides financial institutions with less than $10 billion in total consolidated assets with relief from certain capital requirements and exempts banks with less than $250 billion in total consolidated assets from the enhanced prudential standards and the company-run and supervisory stress tests required under the Dodd-Frank Act.
The Dodd-Frank Act has had, and may in the future have, a material impact on the Company’s operations, particularly through increased compliance costs resulting from new and possible future consumer and fair lending regulations. The future changes resulting from the Dodd-Frank Act may affect the profitability of business activities, require changes to certain business practices, impose more stringent regulatory requirements, or otherwise adversely affect the business and financial condition of the Company and the Bank. These changes may also require the Company to invest significant management attention and resources to evaluate and make necessary changes to comply with new statutory and regulatory requirements.
Consumer Financial Protection Bureau ("CFPB"). The Dodd-Frank Act created the CFPB, a new, independent federal agency with broad rulemaking, supervisory and enforcement powers under various federal consumer financial protection laws, including the Equal Credit Opportunity Act, Truth in Lending Act, Real Estate Settlement Procedures Act, Fair Credit Reporting Act, Fair Debt Collection Practices Act, the consumer financial privacy provisions of the GLB Act and certain other statutes. The CFPB has examination and primary enforcement authority with respect to depository institutions with over $10 billion in assets. Smaller institutions, including the Bank, are subject to rules promulgated by the CFPB but continue to be examined and supervised by federal banking agencies for compliance with federal consumer protection laws and regulations. The CFPB also has authority to prevent unfair, deceptive or abusive practices in connection with the offering of consumer financial products. The Dodd-Frank Act permits states to adopt consumer protection laws and standards that are more stringent than those adopted at the federal level and, in certain circumstances, permits state attorneys general to enforce compliance with both the state and federal laws and regulations.
The changes resulting from the Dodd-Frank Act and CFPB rulemakings and enforcement policies may impact the profitability of our business activities, limit our ability to make, or the desirability of making, certain types of loans, including non-qualified mortgage loans, require us to change our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business or profitability. The changes may also require us to dedicate significant management attention and resources to evaluate and make necessary changes to comply with the new statutory and regulatory requirements.
Mortgage Banking Regulation. The Bank is subject to rules and regulations related to mortgage loans that, among other things, establish standards for loan origination, prohibit discrimination, provide for inspections and appraisals of property, require credit reports on prospective borrowers, in some cases restrict certain loan features and fix maximum interest rates and fees, require the disclosure of certain basic information to mortgagors concerning credit and settlement costs, limit payment for settlement services to the reasonable value of the services rendered and require the maintenance and disclosure of information regarding the disposition of mortgage applications based on race, gender, geographical distribution and income level. The Bank is also subject to rules and regulations that require the collection and reporting of significant amounts of information with respect to mortgage loans and borrowers. The Bank’s mortgage origination activities are subject to the Federal Reserve’s Regulation Z, which implements the Truth in Lending Act. Certain provisions of Regulation Z require creditors to make a reasonable and good faith determination based on verified and documented information that a consumer applying for a mortgage loan has a reasonable ability to repay the loan according to its terms. To the extent that we make mortgage loans, we are required to comply with these rules, subject to available exceptions.
Fair and Responsible Banking. Banks and other financial institutions are subject to numerous laws and regulations intended to promote fair and responsible banking and prohibit unlawful discrimination and unfair, deceptive or abusive practices in banking. These laws include, among others, the Dodd-Frank Act, Section 5 of the Federal Trade Commission Act, the Equal Credit Opportunity Act, and the Fair Housing Act. Many states and local jurisdictions have consumer protection laws analogous, and in addition, to those listed above. These federal, state and local laws regulate the manner in which financial institutions deal with customers taking deposits, making loans or conducting other types of transactions. Failure to comply with these laws and regulations could give rise to regulatory sanctions, and actions by the U.S. Department of Justice and state attorneys general.
Financial Privacy. Under the Federal Right to Privacy Act of 1978, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records, financial institutions are required to disclose their policies for collecting and protecting confidential information. Consumers generally may prevent financial institutions from sharing personal financial information with nonaffiliated third parties except for third parties that market the institutions' own products and services. Additionally, financial institutions generally may not disclose consumer account numbers to any nonaffiliated third party for use in telemarketing, direct mail marketing or other marketing through electronic mail to consumers.
In October 2023, the CFPB proposed a new rule that would require a provider of payment accounts or products, such as the Bank, to make certain data available to consumers upon request regarding the products or services they obtain from the provider. The proposed rule is intended to give consumers control over their financial data, including with whom it is shared, and encourage competition in the provision of consumer financial products and services. For banks with over $850 million and less than $50 billion in total assets, such as the Bank, compliance would be required approximately two and one-half years after adoption of the final rule.
Community Reinvestment Act ("CRA"). The CRA requires that, in connection with examinations of insured depository institutions within their respective jurisdictions, the federal banking agencies evaluate the record of each financial institution in meeting the needs of its local community, including low- and moderate-income neighborhoods. The Bank's record of performance under the CRA is publicly available. A bank's CRA performance is also considered in evaluating applications seeking approval for mergers, acquisitions, and new offices or facilities. Failure to adequately meet these criteria could result in additional requirements and limitations being imposed on the Bank. Additionally, we must publicly disclose the terms of certain CRA-related agreements.
On October 24, 2023, the federal bank regulatory agencies jointly issued a final rule intended to strengthen and modernize the CRA regulatory framework. The final rule updates the CRA regulations to, among other things, (i) expand access to credit, investment and basic banking services in low- and moderate-income communities, (ii) adapt to changes in the banking industry, including internet and mobile banking, (iii) provide greater clarity, consistency and transparency in the application of the regulations and (iv) tailor performance standards to account for differences in bank size, business model, and local conditions. The final rule adopts a new metrics-based approach to evaluating bank retail lending and community development financing, using benchmarks based on peer and demographic data. Most of the rule’s requirements will be applicable beginning January 1, 2026. The remaining requirements, including the data reporting requirements, will be applicable on January 1, 2027.
Concentration and Risk Guidance. The federal bank regulatory agencies have issued guidance governing financial institutions with concentrations in commercial real estate lending. The guidance provides that institutions that have (i) total reported loans for construction, land development, and other land which represent 100% or more of an institution's total risk-based capital; or (ii) total reported commercial real estate loans, excluding loans secured by owner-occupied commercial real estate, representing 300% or more of the institution's total risk-based capital and the institution's commercial real estate loan portfolio has increased 50% or more during the prior 36 months, are identified as having potential commercial real estate concentration risk. Institutions that are deemed to have concentrations in commercial real estate lending are expected to employ heightened levels of risk management with respect to their commercial real estate portfolios, and may be required to hold higher levels of capital. We have determined that we have a concentration in commercial real estate lending, and while we believe we have implemented policies and procedures with respect to our commercial real estate lending consistent with the regulatory guidance, bank regulators could require us to implement additional policies and procedures consistent with their interpretation of the guidance that may result in additional costs to us.
FDIC Insurance Premiums. The deposits of the Bank are insured up to applicable limits by the FDIC’s Deposit Insurance Fund and are subject to deposit insurance assessments to maintain the Deposit Insurance Fund. The deposit insurance assessment base is based on average total assets minus average tangible equity, pursuant to a rule issued by the
FDIC as required by the Dodd-Frank Act. Deposit insurance pricing is a “financial ratios method” based on “CAMELS” composite ratings to determine assessment rates for small established institutions with less than $10 billion in assets. The CAMELS rating system is a supervisory rating system designed to take into account and reflect all financial and operational risks that a bank may face, including capital adequacy, asset quality, management capability, earnings, liquidity, and sensitivity to market risk (“CAMELS”). CAMELS composite ratings set a maximum assessment for CAMELS 1 and 2 rated banks, and set minimum assessments for lower rated institutions. For the years ended December 31, 2023 and 2022, the Bank recorded $1.4 million and $620 thousand, respectively, for FDIC insurance premiums. The increase in insurance premiums during 2023 as compared to 2022 was a result of the FDIC imposed final rule to increase the assessment base rate schedules uniformly by two basis points beginning with the first quarterly assessment period of 2023. In addition, the Bank had a larger percentage of brokered deposits during 2023, which partially increased the assessment rate for that period.
Limitations on Incentive Compensation. The federal bank regulatory agencies have issued comprehensive final guidance on incentive compensation policies intended to ensure that the incentive compensation policies of financial institutions do not undermine the safety and soundness of such institutions by encouraging excessive risk-taking. The Interagency Guidance on Sound Incentive Compensation Policies, which covers all employees that have the ability to materially affect the risk profile of financial institutions, either individually or as part of a group, is based upon the key principles that a financial institution’s incentive compensation arrangements should (i) provide incentives that do not encourage risk-taking beyond the institution’s ability to effectively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be supported by strong corporate governance, including active and effective oversight by the financial institution’s board of directors.
The Federal Reserve will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of financial institutions, such as the Company and the Bank, that are not “large, complex banking organizations.” These reviews will be tailored to each financial institution based on the scope and complexity of the institution’s activities and the prevalence of incentive compensation arrangements. The findings of the supervisory initiatives will be included in reports of examination. Deficiencies will be incorporated into the institution’s supervisory ratings, which can affect the institution’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a financial institution if its incentive compensation arrangements or related risk-management control or governance processes pose a risk to the institution’s safety and soundness, and the financial institution is not taking prompt and effective measures to correct the deficiencies. At December 31, 2023, the Company and the Bank have not been made aware of any instances of noncompliance with this guidance.
The Nasdaq Stock Market, LLC, the exchange on which our common stock is listed, enacted a listing rule that became effective in 2023 requiring listed companies to adopt policies mandating the recovery or “clawback” of excess incentive compensation earned by a current or former executive officer during the three fiscal years preceding the date the listed company is required to prepare an accounting restatement, including to correct an error that would result in a material misstatement if the error were corrected in the current period or left uncorrected in the current period. The Company has adopted a clawback policy compliant with such rule, a copy of which is attached as Exhibit 97 to this Form 10-K.
Cybersecurity. In March 2015, federal regulators issued two related statements regarding cybersecurity. One statement indicates that financial institutions should design multiple layers of security controls to establish lines of defense and to ensure that their risk management processes also address the risk posed by compromised customer credentials, including security measures to reliably authenticate customers accessing internet-based services of the financial institution. The other statement indicates that a financial institution's management is expected to maintain sufficient business continuity planning processes to ensure the rapid recovery, resumption and maintenance of the institution's operations after a cyber-attack involving destructive malware. A financial institution is also expected to develop appropriate processes to enable recovery of data and business operations and address rebuilding network capabilities and restoring data if the institution or its critical service providers fall victim to this type of cyber-attack. If we fail to observe the regulatory guidance, we could be subject to various regulatory sanctions, including financial penalties. On November 18, 2021, the federal bank regulatory agencies issued a final rule, effective April 1, 2022, imposing new notification requirements for cybersecurity incidents. The rule requires financial institutions to notify their primary federal regulator as soon as possible and no later than 36 hours after the institution determines that a cybersecurity incident has occurred that has materially disrupted or degraded, or is reasonably likely to materially disrupt or degrade, the institution’s: (i) ability to carry out banking operations, activities, or processes, or deliver banking products and services to a material portion of its customer base, in the ordinary course of business, (ii) business line(s), including associated operations, services, functions, and support, that upon failure would result in a material loss of revenue, profit, or franchise value, or (iii) operations, including associated services, functions and support, as applicable, the failure or discontinuance of which would pose a threat to the financial stability of the United States.
On July 26, 2023, the SEC issued a final rule requiring enhanced standardized disclosures regarding cybersecurity risk management, strategy, governance, and cybersecurity incident reporting by public companies, such as the Company, that are subject to the reporting requirements of the Securities Exchange Act of 1934. The final rule requires current reporting about material cybersecurity incidents and periodic disclosures about policies and procedures to identify and manage cybersecurity risks, management’s role in implementing cybersecurity policies and procedures, and the board of directors’ cybersecurity expertise and its oversight of cybersecurity risk.
To date, we have not experienced a significant compromise, significant data loss or any material financial losses related to cybersecurity attacks, but our systems and those of our customers and third-party service providers are under constant threat and it is possible that we could experience a significant event in the future. Risks and exposures related to cybersecurity attacks are expected to remain high for the foreseeable future due to the rapidly evolving nature and sophistication of these threats, as well as due to the expanding use of Internet banking, mobile banking and other technology-based products and services by us and our customers.

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ITEM 1A. RISK FACTORS
Item 1A. RISK FACTORS
The material risks and uncertainties that management believes affect us are described below. Any of these risks, if they are realized, could materially adversely affect our business, financial condition and results of operations, and consequently, the market value of our common stock. Additional risks and uncertainties not currently known to us or that we currently believe to be immaterial may also materially and adversely affect us. This Form 10-K also contains forward-looking statements that involve risks and uncertainties. If any of the matters included in the following information about risk factors were to occur, our business, financial condition, results of operations, cash flows or prospects could be materially and adversely affected.
Risks Related to the Economy, Financial Markets, Interest Rates and Liquidity
Our business and operations may be materially adversely affected by weak economic conditions.
Our business and operations, which primarily consist of banking activities, including lending money to customers and borrowing money from customers in the form of deposits, are sensitive to general business and economic conditions in the U.S. generally, and in the Washington, D.C. metropolitan area in particular. The economic conditions in our local markets may be different from the economic conditions in the U.S. as a whole. If economic conditions in the U.S. or any of our markets weaken, our growth and profitability from our operations could be constrained. In addition, foreign economic and political conditions could affect the stability of global financial markets, which could hinder economic growth. The current economic environment is characterized by rising interest rates as a result of contractionary monetary policy which could impact our ability to attract deposits and to generate attractive earnings through our loan and investment portfolios. All these factors can individually or in the aggregate be detrimental to our business, and the interplay between these factors can be complex and unpredictable. Unfavorable market conditions can result in a deterioration in the credit quality of our borrowers and the demand for our products and services, an increase in the number of loan delinquencies, defaults and charge-offs, additional provisions for credit losses, a decline in the value of our collateral, and an overall material adverse effect on the quality of our loan portfolio.
Our business is significantly affected by monetary and related policies of the U.S. federal government and its agencies. Uncertainty about the federal fiscal policymaking process, the medium and long-term fiscal outlook of the federal government, and future tax rates are concerns for businesses, consumers and investors in the U.S. Changes in any of these policies are influenced by macroeconomic conditions and other factors that are beyond our control. Adverse economic conditions and government policy responses to such conditions could have a material adverse effect on our business, financial conditions and results of operations.
We are subject to interest rate risk, which could adversely affect our profitability.
Our profitability, like that of most financial institutions, depends to a large extent on our net interest income, which is the difference between our interest income on interest-earning assets, such as loans and investment securities, and our interest expense on interest-bearing liabilities, such as deposits and borrowings.
Interest rates are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and securities and the interest we pay on deposits and borrowings, but such changes could affect our ability to originate loans and obtain deposits, the fair value of our financial assets and liabilities, and the average duration of our assets. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, our net interest income, and therefore earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings. Any substantial, unexpected or prolonged change in market interest rates could have a material adverse impact on our business, financial condition and results of operations.
When short-term interest rates rise, the rate of interest we pay on our interest-bearing liabilities may rise more quickly than the rate of interest that we receive on our interest-earning assets, which may cause our net interest income to decrease. Additionally, a shrinking yield premium between short-term and long-term market interest rates, a pattern usually indicative of investors' waning expectations of future growth and inflation, commonly referred to as a flattening of the yield curve, typically reduces our profit margin as we borrow at shorter terms than the terms at which we lend and invest.
In addition, an increase in interest rates could also have a negative impact on our results of operations by reducing the ability of borrowers to repay their current loan obligations. These circumstances could not only result in increased loan defaults, foreclosures and charge-offs, but also reduce collateral values and necessitate further increases to the allowance for credit losses, which could have a material adverse effect on our business, financial condition and results of operations.
Inflation can have an adverse impact on our business and on our customers.
In 2022 and continuing into 2023, the United States experienced the highest rates of inflation since the 1980s. In an effort to reduce inflation, the Federal Reserve increased the federal funds target rate seven times in 2022 and four times in 2023 from 0 - 0.25% at the beginning of 2022 to 5.25 - 5.50% as of December 31, 2023. Market interest rates increased in response to the Federal Reserve's actions. Inflation generally increases the cost of products and services we use in our business operations, as well as labor costs. We may find that we need to give higher than normal raises to employees and start new employees at a higher wage. Furthermore, our clients are also affected by inflation and the rising costs of products and services used in their households and businesses, which could have a negative impact on their ability to repay their loans with us. Further rate hikes would continue to increase the cost of business investment and consumer goods, which would place downward pressure on demand and cause declines in cash flow and profitability, further impacting the ability of borrowers to repay their loans. As market interest rates rise, the value of our investment securities generally decreases, although this effect can be less pronounced for floating rate instruments. Higher interest rates reduce the demand for loans and increase the attractiveness of alternative investment and savings products, like U.S. Treasury securities and money market funds, which can make it difficult to attract and retain deposits.
Insufficient liquidity could impair our ability to fund operations and meet our obligations as they become due, and could materially adversely affect our growth, business, profitability and financial condition.
Liquidity is essential to our business. Liquidity risk is the potential that we will be unable to meet our obligations as they become due because of an inability to liquidate assets or obtain adequate funding at a reasonable cost, in a timely manner and without adverse conditions or consequences. We require sufficient liquidity to fund asset growth, meet customer loan requests, customer deposit maturities and withdrawals, payments on our debt obligations as they become due and other cash commitments under both normal operating conditions and other unpredictable circumstances, including events causing industry or general financial market stress. Liquidity risk can increase due to a number of factors, including an over-reliance on a particular source of funding or market-wide phenomena such as market dislocation and major disasters. Factors that could detrimentally impact access to liquidity sources include, but are not limited to, a decrease in the level of our business activity as a result of a slowdown in our market, adverse regulatory actions against us, or changes in the liquidity needs of our depositors. Market conditions or other events could also negatively affect the level or cost of funding, affecting our ongoing ability to accommodate liability maturities and deposit withdrawals, meet contractual obligations, and fund asset growth and new business transactions at a reasonable cost, in a timely manner, and without adverse consequences. Our inability to raise funds through deposits, borrowings, the sale of loans, other sources, and our ability to maintain sufficient deposits, could have a substantial negative effect on our business, and could result in the closure of the Bank. Our access to funding sources in amounts adequate to finance our activities or on acceptable terms could be impaired by factors that affect our organization specifically or the financial services industry or economy in general. Any substantial, unexpected, and/or prolonged change in the level or cost of liquidity could impair our ability to fund operations and meet our obligations as they become due and could have a material adverse effect on our business, financial condition and results of operations.
We rely on customer deposits, including brokered deposits, and to a lesser extent on advances from the FHLB and federal funds purchased to fund our operations. Although we have historically been able to replace customer deposit withdrawals, maturing deposits, and advances if desired, we may not be able to replace such funds in the future if our financial condition, the financial condition of the FHLB or market conditions were to change. FHLB borrowings and other current sources of liquidity may not be available or, if available, sufficient to provide adequate funding for operations.
We may not be able to retain or grow our core deposit base, which could adversely impact our funding costs.
Like many financial institutions we rely on customer deposits as our primary source of funding for our lending activities, and we continue to seek customer deposits to maintain this funding base. Our future growth will largely depend on our ability to retain and grow our diverse deposit base. As of December 31, 2023, we had $1.85 billion in deposits and approximately 9% of our deposits are derived from one customer relationship. Our deposits are subject to potentially dramatic fluctuations in availability or price due to certain factors outside of our control, such as increasing competitive pressures for deposits, changes in interest rates and returns on other investment classes, customer perceptions of our financial health and general reputation and adverse developments in general economic conditions of an individual's business, which could result in significant outflows of deposits within short periods of time or significant changes in pricing necessary to maintain current customer deposits or attract additional deposits. Additionally, negative news about us or the banking industry in general could negatively impact market and/or customer perceptions of our company, which could lead to a loss of depositor confidence and an increase in deposit withdrawals, particularly among those with uninsured deposits. Furthermore, as many regional banking organizations experienced in 2023, the failure of other financial institutions may cause deposit outflows as customers spread deposits among several different banks so as to maximize their amount of FDIC insurance, move deposits to banks deemed “too big to fail” or remove deposits from the banking system entirely. As of December 31, 2023, approximately 31.1% of our deposits were uninsured when excluding collateralized deposits, and we rely on these deposits for liquidity.Any such loss of funds could result in lower loan originations and decrease in liquidity, which could have a material adverse effect on our business, financial condition and results of operations.
Recent negative developments affecting the banking industry, and resulting media coverage, have eroded customer confidence in the banking system.
The closures of Silicon Valley Bank and Signature Bank in March 2023, and First Republic Bank in May 2023, and concerns about similar future events, have generated significant market volatility among publicly traded bank holding companies and, in particular, regional banks. More recently, concerns about commercial real estate concentrations at regional and community banks have exacerbated this volatility. These market developments have negatively impacted customer confidence in the safety and soundness of regional and community banks. As a result, customers may choose to maintain deposits with larger financial institutions or invest in higher yielding short-term fixed income securities, all of which could materially adversely impact the Company’s liquidity, loan funding capacity, net interest margin, capital and results of operations. While federal bank regulators took action to ensure that depositors of the failed banks had access to their deposits, including uninsured deposit accounts, there is no guarantee that such actions will be successful in restoring customer confidence in regional and community banks and the banking system more broadly. Furthermore, there is no guarantee that regional bank failures or bank runs similar to the ones that occurred in 2023 will not occur in the future and, if they were to occur, they may have a material and adverse impact on customer and investor confidence in regional and community banks, negatively impacting the Company’s liquidity, capital, results of operations and stock price.
Unrealized losses in our securities portfolio could affect liquidity.
As market interest rates have increased, we have experienced significant unrealized losses on our available for sale securities portfolio. Unrealized losses related to available for sale securities are reflected in accumulated other comprehensive income in our consolidated statements of condition and reduce the level of our book capital and tangible common equity. However, such unrealized losses do not affect our regulatory capital ratios. During 2023, we rebalanced our investment securities portfolio by selling $102.5 million in book value available-for-sale securities with a weighted average rate of 1.54%, resulting in realized losses of $15.6 million, which are expected to be earned back over approximately 3 years. The net proceeds of the rebalancing were used to pay down FHLB advances and fund newly originated loans. We actively monitor our available-for-sale securities portfolio and we do not currently anticipate the need to realize material losses from the sale of securities for liquidity purposes. Furthermore, we believe it is unlikely that we would be required to sell any such securities before recovery of their amortized cost basis, which may be at maturity. Nonetheless, our access to liquidity sources could be affected by unrealized losses if securities must be sold at a loss; tangible capital ratios continue to decline from an increase in unrealized losses or realized credit losses; the FHLB or other funding sources reduce capacity; or bank regulators impose restrictions on us that impact the level of interest rates we may pay on deposits or our ability to access brokered deposits. Additionally, significant unrealized losses could negatively
impact market and/or customer perceptions of our company, which could lead to a loss of depositor confidence and an increase in deposit withdrawals, particularly among those with uninsured deposits.
Credit Risks
We are subject to credit risk, which could adversely affect our profitability.
Our business depends on our ability to successfully measure and manage credit risk. As a lender, we are exposed to the risk that the principal of, or interest on, a loan will not be paid timely or at all or that the value of any collateral supporting a loan will be insufficient to cover our outstanding exposure. In addition, we are exposed to risks with respect to the period of time over which the loan may be repaid, risks relating to loan underwriting, risks resulting from changes in economic and industry conditions, and risks inherent in dealing with individual loans and borrowers. The creditworthiness of a borrower is affected by many factors including local market conditions and general economic conditions. If the overall economic climate in the U.S. generally, or in our market areas specifically, experiences material disruption, our borrowers may experience difficulties in repaying their loans, the collateral we hold may decrease in value or become illiquid, and our level of nonperforming loans, charge-offs and delinquencies could rise and require significant additional provisions for credit losses.
Our risk management practices, such as monitoring the concentrations of our loans and our credit approval, review and administrative practices, may not adequately reduce credit risk, and our credit administration personnel, policies and procedures may not adequately adapt to changes in economic or any other conditions affecting related customers and the quality of the loan portfolio. Many of our loans are made to small businesses that are less able to withstand competitive, economic and financial pressures than larger borrowers. Consequently, we may have significant exposure if any of these borrowers becomes unable to pay their loan obligations as a result of economic or market conditions, or personal circumstances, such as divorce, unemployment or death. A failure to effectively measure and limit the credit risk associated with our loan portfolio may result in loan defaults, foreclosures and additional charge-offs, and may necessitate that we significantly increase our allowance for credit losses, each of which could adversely affect our net income. As a result, our inability to successfully manage credit risk could have a material adverse effect on our business, financial condition and results of operations.
A substantial portion of our loans are and will continue to be real estate related loans in the Washington, D.C. metropolitan area. Adverse changes in the real estate market or economy in this area could lead to higher levels of problem loans and charge-offs, adversely affecting our earnings and financial condition.
We make loans primarily to borrowers in the Washington, D.C. and Baltimore metropolitan areas, focusing on the Virginia counties of Arlington, Fairfax, Loudoun and Prince William and the independent cities located within those counties, Washington D.C., and its Maryland suburbs, and have a substantial portion of our loans secured by real estate. These concentrations expose us to the risk that adverse developments in the real estate market, or in the general economic conditions in such areas, or the continuation of such adverse developments, could increase the levels of nonperforming loans and charge-offs, and reduce loan demand and deposit growth. In that event, we would likely experience lower earnings or losses. Additionally, if economic conditions in the area deteriorate, or there is significant volatility or weakness in the economy or any significant sector of the area's economy, our ability to develop our business relationships may be diminished, the quality and collectability of our loans may be adversely affected, our provision for credit losses may increase, the value of collateral may decline and loan demand may be reduced.
Increases to our nonperforming assets or other problem assets will have an adverse effect on our earnings.
As of December 31, 2023, we had nonperforming loans and loans 90 days or more past due of $1.8 million, or 0.10% of total loans, net of deferred fees. If loans become 90 or more days past due and still accruing and move to nonaccrual, we will not record interest income on such loans, and may be required to reverse prior accruals, thereby adversely affecting our earnings. If the level of our nonperforming or other problem assets increases, we may be required to make additional provisions for credit losses, which will negatively impact our earnings. If we are required to foreclose on any collateral properties securing our loans, we will incur legal and other expenses in connection with the foreclosure and sale process and possible losses on the sale of other real estate owned ("OREO") or other collateral. Additionally, the resolution of nonperforming assets and other problem assets requires the active involvement of management, which can distract management from its overall supervision of operations and other income producing activities. As of December 31, 2023, we had no OREO.
Our concentrations of loans may create a greater risk of loan defaults and losses.
A substantial portion of our loans are secured by various types of real estate in the Washington, D.C. metropolitan area and substantially all of our loans are to borrowers in that area. At December 31, 2023, 87.7% of our total loans were secured by real estate; commercial real estate loans, excluding construction and land development, comprised the largest portion of these loans at 59.7% of our portfolio. This concentration exposes us to the risk that adverse developments in the real estate market, or the general economic conditions in our market, could increase our nonperforming loans and charge-offs, reduce the value of our collateral and adversely impact our results of operations and financial condition. Management believes that the commercial real estate concentration risk is mitigated by diversification among the types and characteristics of real estate collateral properties, sound underwriting practices, rigorous portfolio monitoring and ongoing market analysis. Construction and land development loans comprised 8.1% of total loans at December 31, 2023. Commercial and industrial loans, comprised 11.8%, of total loans at December 31, 2023. These categories of loans have historically carried a higher risk of default than other types of loans, such as single family residential mortgage loans. The repayment of these loans often depends on the successful operation of a business or the sale or development of the underlying property, and, as a result, are more likely to be adversely affected by adverse conditions in the real estate market or the economy in general. While we believe that our loan portfolio is well diversified in terms of borrowers and industries, these concentrations expose us to the risk that adverse developments in the real estate market, or in the general economic conditions in the Washington, D.C. metropolitan area, could increase the levels of nonperforming loans and charge-offs, and reduce loan demand. In that event, we would likely experience lower earnings or losses. Additionally, if, for any reason, economic conditions in our market area deteriorate, or there is significant volatility or weakness in the economy or any significant sector of the area's economy, our ability to develop our business relationships may be diminished, the quality and collectability of our loans may be adversely affected, our provision for credit losses may increase, the value of collateral may decline and loan demand may be reduced.
Commercial real estate loans tend to have larger balances than single family mortgage loans and other consumer loans because repayment of the loans often depends on the successful operation of the properties and the income stream of the borrowers. Because the loan portfolio contains a significant number of commercial real estate loans with relatively large balances, the deterioration of one or a few of these loans may cause a significant increase in nonperforming assets. Some segments have shown some signs of weakness as rising expenses and debt costs and lower valuations have impacted credit quality metrics. Vacancy rates have risen in the office sector, which is experiencing significant structural shifts that could take several years to fully materialize as remote work practices normalize. An increase in nonperforming loans could result in a loss of earnings from these loans, an increase in the provision for credit losses, or an increase in loan charge-offs, which could have an adverse impact on our results of operations and financial condition.
Regulatory requirements affecting our loans secured by commercial real estate could limit our ability to leverage our capital and adversely affect our growth and profitability.
The federal banking agencies have issued guidance governing financial institutions that have concentrations in commercial real estate lending. The guidance provides that institutions which have (i) total reported loans for construction, land development, and other land loans which represent 100% or more of an institution's total risk-based capital; or (ii) total reported commercial real estate loans, excluding loans secured by owner-occupied commercial real estate, representing 300% or more of the institution's total risk-based capital, where the institution's commercial real estate loan portfolio has increased 50% or more during the prior 36 months, are identified as having potential commercial real estate concentration risk. Institutions which are deemed to have concentrations in commercial real estate lending are expected to employ heightened levels of risk management with respect to their commercial real estate portfolios, and may be required to hold higher levels of capital. We have a concentration in commercial real estate loans, and we have experienced significant growth in our commercial real estate portfolio in recent years. As of December 31, 2023, commercial real estate loans, as defined for regulatory purposes, represented 399% of our total risk-based capital. Of those loans, commercial construction, development and land loans represented 57% of our total risk based capital. Owner-occupied commercial real estate loans represented an additional 81% of our total risk based capital. Management has extensive experience in commercial real estate lending, and has implemented and continues to maintain heightened portfolio monitoring and reporting, and strong underwriting criteria with respect to its commercial real estate portfolio. Nevertheless, we could be required to maintain higher levels of capital as a result of our commercial real estate concentration, which could limit our growth, require us to obtain additional capital, and have a material adverse effect on our business, financial condition and results of operations.
Our portfolio of loans to small and mid-sized community-based businesses may increase our credit risk.
Many of our commercial business and commercial real estate loans are made to small business or middle market customers. These businesses generally have fewer financial resources in terms of capital or borrowing capacity than larger entities and have a heightened vulnerability to economic conditions. If general economic conditions in the market area in which we operate negatively impact this important customer sector, our results of operations and financial condition may be adversely affected. Moreover, a portion of these loans have been made by us in recent years and the borrowers may not have experienced a complete business or economic cycle. The deterioration of our borrowers' businesses may hinder their ability to repay their loans with us, which could have a material adverse effect on our financial condition and results of operations.
Our government contractor customers, and businesses in the Washington, D.C. metropolitan area in general, may be adversely impacted by the federal government and a budget impasse.
At December 31, 2023, 11.8% of our total loans were outstanding to commercial and industrial customers. Of that, approximately 47.9% of outstanding commercial and industrial loans are to government contractors or their subcontractors specializing in the defense and homeland security and defense readiness sectors, and we have commitments of $311.4 million to such borrowers. We are actively seeking to expand our exposure to this business segment. While we believe that our loans to government contractor customers are unlikely to experience more than a delay in payment as a result of government shutdowns, the current emphasis on defense readiness presents an opportunity for many of our customers. In the event of a government shutdown, this could cause these customers to have their government contracts reduced or terminated for convenience, or have payments delayed, causing a loss of anticipated revenues or reduced cash flow, resulting in an increase in credit risk, and potentially defaults by such customers on their respective loans.
Our government contractor customers could also withdraw their deposit balances during a shutdown to fund current operations, resulting in additional liquidity risk. Additionally, temporary layoffs, salary reductions or furloughs of government employees or government contractors could have adverse impacts on other businesses in our market and the general economy of the Washington, D.C. metropolitan area, and may indirectly lead to a loss of revenues by our customers. As a result, a government shutdown could lead to an increase in the levels of past due loans, nonperforming loans, loan loss reserves and charge-offs, and a decline in liquidity.
We have extended off-balance sheet commitments to borrowers which expose us to credit and interest rate risk.
We enter into off-balance sheet arrangements in the normal course of business to meet the financing needs of our customers. These off-balance sheet arrangements include commitments to extend credit, standby letters of credit and guarantees which would impact our liquidity and capital resources to the extent customers accept or use these commitments. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit and guarantees written is represented by the contractual or notional amount of those instruments. We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments.
Our allowance for credit losses may be inadequate to absorb actual losses in the loan portfolio, which could have a material adverse effect on our business, financial condition and results of operations.
Experience in the banking industry indicates that a portion of our loans will become delinquent, and that some may only be partially repaid or may never be repaid at all. We maintain an allowance for credit losses in an amount that is believed to be appropriate to provide for expected losses inherent in the portfolio. We have a proactive program to monitor credit quality and to identify loans that may become non-performing; however, at any time there could be loans in the portfolio that may result in losses, but that have not been identified as non-performing or potential problem credits. We may be unable to identify all deteriorating credits prior to them becoming non-performing assets, or to limit losses on those loans that are identified. As a result, future additions to the allowance may be necessary. Additionally, future additions to the allowance may be required based on changes in the forecasted economic conditions, changes in the loans comprising the portfolio and changes in the financial condition of borrowers, or as a result of assumptions used by management in determining the allowance.
Although we endeavor to maintain our allowance for credit losses at a level adequate to absorb any losses in the loan portfolio, the determination of the appropriate level of the allowance for credit losses is inherently highly subjective
and requires us to make significant estimates of and assumptions regarding current credit risk and future trends, and the accuracy of our judgments depends on the outcome of future events. Further, despite our underwriting criteria and historical experience, we may be particularly susceptible to losses due to: (i) the geographic concentration of our loans, (ii) the concentration of higher risk loans, such as commercial real estate, and commercial and industrial loans, and (iii) the relative lack of seasoning of certain of our loans.
Deterioration of economic conditions affecting borrowers, new information regarding existing loans, inaccurate management assumptions, identification of additional problem loans and other factors, both within and outside of our control, may result in our experiencing higher levels of nonperforming assets and charge-offs, and incurring credit losses in excess of our current allowance for credit losses, requiring us to make material additions to our allowance for credit losses.
Our federal and state banking regulators, as an integral part of their supervisory function, periodically review the adequacy of our allowance for credit losses. These regulatory agencies may require us to increase our provision for credit losses or to recognize further loan charge-offs based upon their judgments, which may be different from ours. If we need to make significant and unanticipated increases in the loss allowance in the future, or take additional charge-offs for which we have not established adequate reserves, our results of operations and financial condition could be materially adversely affected at that time.
Lack of seasoning of our loan portfolio could increase risk of credit defaults in the future.
As a result of our organic growth over the past several years, as of December 31, 2023, approximately $1.06 billion, or 57.8%, of the loans in our loan portfolio were first originated during the past three years. The average age by loan type for loans originated in the past three years is: commercial real estate loans-1.76 years; commercial and industrial loans-1.45 years; commercial construction loans-1.44 years; consumer residential loans-1.54 years; and consumer nonresidential loans-1.34 years. In general, loans do not begin to show signs of credit deterioration or default until they have been outstanding for some period of time, a process referred to as "seasoning." As a result, a portfolio of older loans will usually behave more predictably than a newer portfolio. Therefore, the recent and current level of delinquencies and defaults may not represent the level that may prevail as the portfolio becomes more seasoned and may not serve as a reliable basis for predicting the health and nature of our loan portfolio, including net charge offs and the ratio of nonperforming assets in the future. Our limited experience with these loans may not provide us with a significant history with which to judge future collectability or performance. However, we believe that our stringent credit underwriting process, our ongoing credit review processes, and our history of successful management of our loan portfolio, mitigate these risks. Nevertheless, if delinquencies and defaults increase, we may be required to increase our provision for credit losses, which could have a material adverse effect on our business, financial condition and results of operations.
Strategic Risks
We operate in a highly competitive market and face increasing competition from a variety of traditional and new financial services providers, which could adversely impact our profitability.
The banking business is highly competitive. We compete as a financial intermediary with other commercial banks, savings banks, credit unions, mortgage banking firms, consumer finance companies, securities brokerage firms, insurance companies, money market mutual funds and other financial institutions operating in the Washington, D.C. metropolitan area and elsewhere, as well as nontraditional competitors such as fintech companies and internet-based lenders, depositories and payment systems. Our profitability depends upon our continued ability to successfully compete with traditional and new financial services providers, some of which maintain a physical presence in our market areas and others of which maintain only a virtual presence.
Our primary market area is a highly competitive, highly branched, banking market. Competition in the market area for loans to small and middle-market businesses and professionals, our target market, is intense and pricing is important. Several of our competitors have substantially greater resources and lending limits than us, and offer certain services, such as extensive and established branch networks and trust services, that we do not currently provide or currently expect to provide in the near future. Moreover, larger institutions operating in the Washington, D.C. metropolitan area may have access to borrowed funds at a lower cost than will be available to us. Additionally, deposit competition among institutions in the market area is strong. Increased competition could require us to increase the rates we pay on deposits or lower the rates that we offer on loans, which could reduce our profitability. Our failure to compete effectively in our market
could restrain our growth or cause us to lose market share, which could have a material adverse effect on our business, financial condition and results of operations.
The success of our growth strategy depends, in part, on our ability to identify and retain individuals with experience and relationships in our market.
Our success depends, in large part, on our management team and key employees. The loss of any of our management team or our key employees could materially adversely affect our ability to execute our business strategy, and we may not be able to find adequate replacements on a timely basis, or at all. We cannot ensure that we will be able to retain the services of any members of our management team or other key employees. Failure to attract and retain a qualified management team and qualified key employees could have a material adverse effect on our business, financial condition and results of operations.
In order to continue to grow successfully, we must also identify and retain experienced banking officers with local expertise and relationships. We expect that competition for experienced loan and deposit officers will continue to be intense and that there will be a limited number of qualified loan officers with knowledge of, and experience in, the community banking industry in our market area. Even if we identify individuals that we believe could assist us in building our franchise, we may be unable to recruit these individuals away from their current banks. In addition, the process of identifying and recruiting loan officers with the combination of skills and attributes required to carry out our strategy is often lengthy. Our inability to identify, recruit and retain talented personnel could limit our growth and could adversely affect our business, financial condition and results of operations. The lack of acquisition opportunities in the future, or our inability to successfully bid for such opportunities as are available, could result in a slower pace of growth.
We may not be able to successfully manage continued growth.
As our capital base grows, so does our legal lending limit. We cannot be certain as to our ability to manage increased levels of assets and liabilities, or to successfully make and supervise higher balance loans. Further, we may not be able to maintain the relatively low number and level of nonperforming loans and charge-offs that we have experienced. We may be required to make additional investments in equipment, software, physical facilities and personnel to accumulate and manage higher asset levels and loan balances, which may adversely impact earnings, shareholder returns, and our efficiency ratio. Increases in operating expenses or nonperforming assets may have an adverse impact on the value of our common stock.
There can be no assurance that we will be able to continue to grow and to remain profitable in future periods, or, if profitable, that our overall earnings will remain consistent with our prior results of operations, or increase in the future. A downturn in economic conditions in our market, particularly in the real estate market, heightened competition from other financial services providers, an inability to retain or grow our core deposit base, regulatory and legislative considerations, a failure to maintain adequate internal controls and compliance processes, and failure to attract and retain high-performing talent, among other factors, could limit our ability to grow assets, or increase profitability, as rapidly as we have in the past. Sustainable growth requires that we manage our risks by following prudent loan underwriting standards, balancing loan and deposit growth without materially increasing interest rate risk or compressing our net interest margin, maintaining more than adequate capital at all times, hiring and retaining qualified employees and successfully implementing our strategic initiatives. Our failure to sustain our historical rate of growth or adequately manage the factors that have contributed to our growth could have a material adverse effect on our earnings and profitability and therefore on our business, financial condition and results of operations.
We may face risks with respect to future expansion or acquisition activity.
We selectively seek to expand our banking operations through limited de novo branching or opportunistic acquisition activities. We cannot be certain that any expansion activity, through de novo branching, acquisition of branches of another financial institution or a whole institution, or the establishment or acquisition of nonbanking financial service companies, will prove profitable or will increase shareholder value. The success of any acquisition will depend, in part, on our ability to realize the estimated cost savings and revenue enhancements from combining our business and that of the target company. Our ability to realize increases in revenue will depend, in part, on our ability to retain customers and employees, and to capitalize on existing relationships for the provision of additional products and services. If our estimates turn out to be incorrect or we are not able to successfully combine companies, the anticipated cost savings and increased revenues may not be realized fully or at all, or may take longer to realize than expected. It is possible that the integration process could result in the loss of key employees, the disruption of each company's ongoing business, diversion of
management attention, or inconsistencies in standards, controls, procedures and policies that adversely affect our ability to maintain relationships with clients and employees or to achieve the anticipated benefits of the merger. As with any combination of banking institutions, there also may be disruptions that cause us to lose customers or cause customers to withdraw their deposits. Customers may not readily accept changes to their banking arrangements that we make as part of or following an acquisition. Additionally, the value of an acquisition to us is dependent on our ability to successfully identify and estimate the magnitude of any asset quality issues of acquired companies.
We may not be successful in overcoming these risks or other problems encountered in connection with potential acquisitions or other expansion activity. Our inability to overcome these risks could have an adverse effect on our ability to implement our business strategy and enhance shareholder value, which, in turn, could have a material adverse effect on our business, financial condition or results of operations.
Additionally, at December 31, 2023, we had $7.2 million of goodwill related to our acquisition of Colombo. Goodwill and other intangible assets are tested for impairment on an annual basis or when facts and circumstances indicate that impairment may have occurred. Our financial condition and results of operations may be adversely affected if that goodwill is determined to be impaired, which would require us to take an impairment charge.
New lines of business, products, product enhancements or services may subject us to additional risk.
From time to time, we may implement new lines of business or offer new products and product enhancements as well as new services within our existing lines of business. There are substantial risks and uncertainties associated with these efforts. In developing, implementing or marketing new lines of business, products, product enhancements or services, we may invest significant time and resources. We may underestimate the appropriate level of resources or expertise necessary to make new lines of business or products successful or to realize their expected benefits. We may not achieve the milestones set in initial timetables for the development and introduction of new lines of business, products, product enhancements or services, and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives and shifting market preferences, may also impact the ultimate implementation of a new line of business or offerings of new products, product enhancements or services. Any new line of business, product, product enhancement or service could have a significant impact on the effectiveness of our system of internal controls. We may also decide to discontinue businesses or products, due to lack of customer acceptance or profitability. Failure to successfully manage these risks in the development and implementation of new lines of business or offerings of new products, product enhancements or services could have a material adverse effect on our business, financial condition and results of operations.
Operational Risks
We depend on information technology and telecommunications systems of third parties, and any systems failures or interruptions could adversely affect our operations and financial condition.
Our business depends on the successful and uninterrupted functioning of our information technology and telecommunications systems. We outsource many of our major systems, such as data processing, deposit processing, loan origination, email and anti-money laundering monitoring systems. The failure of these systems, or the termination of a third party software license or service agreement on which any of these systems is based, could interrupt our operations, and we could experience difficulty in implementing replacement solutions. In many cases, our operations rely heavily on secured processing, storage and transmission of information and the monitoring of a large number of transactions on a minute-by-minute basis, and even a short interruption in service could have significant consequences. Because our information technology and telecommunications systems interface with and depend on third party systems, we could experience service denials if demand for such services exceeds capacity or such third party systems fail or experience interruptions. If significant, sustained or repeated, a system failure or service denial could compromise our ability to operate effectively, damage our reputation, result in a loss of customer business and subject us to additional regulatory scrutiny and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operations. In addition, failure of third parties to comply with applicable laws and regulations, or fraud or misconduct on the part of employees of any of these third parties, could disrupt our operations or adversely affect our reputation.
We are subject to cybersecurity risks and security breaches and may incur increasing costs in an effort to minimize those risks and to respond to cyber incidents, and we may experience harm to our reputation and liability exposure from security breaches.
Our business involves the storage and transmission of customers' proprietary information and security breaches could expose us to a risk of loss or misuse of this information, litigation and potential liability. While we have incurred no material cyber-attacks or security breaches to date, a number of other financial services and other companies have disclosed cyber-attacks and security breaches, some of which have involved intentional attacks. Attacks may be targeted at us, our customers or both. Although we devote significant resources to maintain, regularly update and backup our systems and processes that are designed to protect the security of our computer systems, software, networks and other technology assets and the confidentiality, integrity and availability of information belonging to us or our customers, our security measures may not be effective against all potential cyber-attacks or security breaches. Despite our efforts to ensure the integrity of our systems, it is possible that we may not be able to anticipate, or implement effective preventive measures against, all security breaches of these types, especially because the techniques used change frequently or are not recognized until launched, and because cyber-attacks can originate from a wide variety of sources, including persons who are involved with organized crime or associated with external service providers or who may be linked to terrorist organizations or hostile foreign governments. These risks may increase in the future as we continue to increase our internet-based product offerings and expand our internal usage of web-based products and applications. If an actual or perceived security breach occurs, customer perception of the effectiveness of our security measures could be harmed and could result in the loss of customers.
A successful penetration or circumvention of the security of our systems, including those of third party providers or other financial institutions, or the failure to meet regulatory requirements for security of our systems, could cause serious negative consequences, including significant disruption of our operations, misappropriation of our confidential information or that of our customers, or damage to our computers or systems or those of our customers or counterparties, significant increases in compliance costs (such as repairing systems or adding new personnel or protection technologies), and could result in violations of applicable privacy and other laws, financial loss to us or to our customers, loss of confidence in our security measures, customer dissatisfaction, significant litigation and regulatory exposure, and harm to our reputation, all of which could have a material adverse effect on our business, financial condition and results of operations.
Failure to keep up with the rapid technological changes in the financial services industry could have a material adverse effect on our competitive position and profitability.
The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and reduce costs. Our future success will depend, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements than we have. We may not be able to implement new technology
driven products and services effectively or be successful in marketing these products and services to our customers. Failure to successfully keep pace with technological change affecting the financial services industry could harm our ability to compete effectively and could have a material adverse effect on our business, financial condition or results of operations. As these technologies are improved in the future, we may be required to make significant capital expenditures in order to remain competitive, which may increase our overall expenses and have a material adverse effect on our business, financial condition and results of operations.
Our risk management framework may not be effective in mitigating risks and/or losses to us.
Our risk management framework is comprised of various processes, systems and strategies, and is designed to manage the types of risk to which we are subject, including, among others, credit, market, liquidity, interest rate and compliance. Our framework also includes financial or other modeling methodologies that involve management assumptions and judgment. Our risk management framework may not be effective under all circumstances and may not adequately mitigate any risk or loss to us. If our risk management framework is not effective, we could suffer unexpected losses and our business, financial condition, results of operations or growth prospects could be materially and adversely affected. We may also be subject to potentially adverse regulatory consequences.
We are at risk of increased losses from fraud.
Fraudulent activity that may be committed against us or our customers may result in financial losses or increased costs to us. Criminals are committing fraud at an increasing rate and are using more sophisticated techniques. Such fraudulent activity has taken many forms, ranging from wire fraud, debit card fraud, check fraud, mechanical devices attached to ATMs, social engineering and phishing attacks to obtain personal information, business email compromise, or impersonation of clients through the use of falsified or stolen credentials. While we have policies and procedures, as well as fraud detection tools, designed to prevent fraud losses, such policies, procedures and tools may be insufficient to accurately detect and prevent fraud. A significant increase in fraudulent activities could lead us to take additional steps to reduce fraud risk, which could increase our costs. Fraud losses may materially and adversely affect our business, financial condition, and results of operations.
We may be adversely affected by the soundness of other financial institutions.
Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services companies are interrelated as a result of trading, clearing, counterparty and other relationships. As a result, defaults by, or even rumors or questions about, one or more financial services companies, or the financial services industry generally, could lead to market-wide liquidity problems and losses or defaults by us or other institutions. These losses could have a material adverse effect on our business, financial condition and results of operations.
Litigation and regulatory actions, including possible enforcement actions, could subject us to significant fines, penalties, judgments or other requirements resulting in increased expenses or restrictions on our business activities.
In the normal course of business, from time to time, we may be named as a defendant in various legal actions, arising in connection with our current and/or prior business activities. Legal actions could include claims for substantial compensatory or punitive damages or claims for indeterminate amounts of damages. Further, we may in the future be subject to consent orders or other formal or informal enforcement agreements with our regulators. We may also, from time to time, be the subject of subpoenas, requests for information, reviews, investigations and proceedings (both formal and informal) by governmental agencies regarding our current and/or prior business activities. Any such legal or regulatory actions may subject us to substantial compensatory or punitive damages, significant fines, penalties, obligations to change our business practices or other requirements resulting in increased expenses, diminished income and damage to our reputation. Our involvement in any such matters, whether tangential or otherwise, and even if the matters are ultimately determined in our favor, could also cause significant harm to our reputation and divert management attention from the operation of our business. Further, any settlement, consent order, other enforcement agreement or adverse judgment in connection with any formal or informal proceeding or investigation by government agencies may result in litigation, investigations or proceedings as other litigants and government agencies begin independent reviews of the same activities. As a result, the outcome of legal and regulatory actions could have a material adverse effect on our business, financial condition and results of operations.
Increasing scrutiny and evolving expectations from customers, regulators, investors, and other stakeholders with respect to environmental, social and governance (“ESG”) practices may impose additional costs on us or expose us to new or additional risks.
Companies are facing increasing scrutiny from customers, regulators, investors, and other stakeholders related to ESG practices and disclosure. In March 2024, the SEC adopted rules requiring public companies, such as the Company, to provide climate-related disclosures in their annual reports and registration statements. Investor advocacy groups, investment funds and influential investors are also increasingly focused on these practices, especially as they relate to climate risk, hiring practices, the diversity of the work force, and racial and social justice issues. Increased ESG related compliance costs could result in increases to our overall operational costs. Failure to adapt to or comply with regulatory requirements or investor or stakeholder expectations and standards could negatively impact our reputation, ability to do business with certain partners, and our stock price. New government regulations could also result in new or more stringent forms of ESG oversight and expanding mandatory and voluntary reporting, diligence, and disclosure.
Risks Related to Our Securities
We may need to raise additional capital in the future, and we may not be able to do so.
Access to sufficient capital is critical in order to enable us to implement our business plan, support our business, expand our operations and meet applicable capital requirements. The inability to have sufficient capital, whether internally generated through earnings or raised in the capital markets, could adversely impact our ability to support and to grow our operations. If we grow our operations faster than we generate capital internally, we will need to access the capital markets. We may not be able to raise additional capital in the form of additional debt or equity on acceptable terms, or at all. Our ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital markets at that time, our financial condition and our results of operations. Economic conditions and a loss of confidence in financial institutions may increase our cost of capital and limit access to some sources of capital. Further, if we need to raise capital in the future, we may have to do so when many other financial institutions are also seeking to raise capital and would then have to compete with those institutions for investors. An inability to raise additional capital on acceptable terms when needed could have a material adverse impact on our business, financial condition and results of operations.
We have no current plans to pay cash dividends.
Holders of our common stock are entitled to receive only such dividends as our board of directors may declare out of funds legally available for such payments. The Bank is our primary operating business and the source of substantially all of our earnings, and our ability to pay dividends will be subject to the earnings, capital levels, capital needs and limitations relating to the payment of dividends by the Bank to us. The amount of dividends that a bank may pay is limited by state and federal laws and regulations. While we have sufficient retained earnings and expect our future earnings to be sufficient to pay cash dividends, our board of directors currently intends to retain earnings for the purpose of financing growth. In addition, we are a bank holding company, and our ability to declare and pay dividends to our shareholders is dependent on federal regulatory considerations, including the guidelines of the Federal Reserve regarding capital adequacy and dividends. It is the policy of the Federal Reserve that bank holding companies should generally pay dividends on common stock only out of earnings, and only if prospective earnings retention is consistent with the organization's expected future needs, asset quality and financial condition.
Risks Related to Our Industry
We operate in a highly regulated industry and the laws and regulations that govern our operations, corporate governance, executive compensation and financial accounting or reporting, including changes in them or our failure to comply with them, may adversely affect our results of operations.
We are subject to extensive regulation and supervision that govern almost all aspects of our operations. These laws and regulations, among other matters, prescribe minimum capital requirements, impose limitations on our business activities, limit the dividends or distributions that we can pay, restrict the ability of institutions to guarantee our debt, and impose certain specific accounting requirements that may be more restrictive and may result in greater or earlier charges to earnings or reductions in our capital than US generally accepted accounting principles ("GAAP"). Compliance with laws and regulations can be difficult and costly, and changes to laws and regulations often impose additional compliance costs.
We face increasing regulation and supervision of our industry. The Dodd-Frank Act instituted major changes to the banking and financial institutions regulatory regimes. Other changes to statutes, regulations, or regulatory policies, or
supervisory guidance, including changes in interpretation or implementation of statutes, regulations, policies or supervisory guidance, could affect us in substantial and unpredictable ways. Such additional regulation and supervision has increased, and may continue to increase, our costs and limit our ability to pursue business opportunities. Further, our failure to comply with these laws and regulations, even if the failure was inadvertent or reflects a difference in interpretation, could subject us to restrictions on our business activities, fines and other penalties, any of which could adversely affect our results of operations, capital base and the price of our securities. Further, any new laws, rules and regulations could make compliance more difficult or expensive or otherwise adversely affect our business and financial condition.
We are subject to an extensive body of accounting rules and best practices. Periodic changes to such rules may change the treatment and recognition of critical financial line items and affect our profitability.
The nature of our business makes us sensitive to the large body of accounting rules in the U.S. From time to time, the governing bodies that oversee changes to accounting rules and reporting requirements may release new guidance for the preparation of our financial statements. These changes can materially impact how we record and report our financial condition and results of operations. In some instances, we could be required to apply a new or revised standard retroactively, resulting in the restatement of prior period financial statements.These changes could adversely affect our capital, regulatory capital ratios, ability to make larger loans, earnings and performance metrics. Any such changes could have a material adverse effect on our business, financial condition and results of operations.
Regulatory initiatives regarding bank capital requirements may require heightened capital.
We are subject to capital adequacy guidelines and other regulatory requirements specifying minimum amounts and types of capital that we must maintain. From time to time, regulators implement changes to these regulatory capital adequacy guidelines. If we fail to meet these minimum capital guidelines and/or other regulatory requirements, our financial condition would be materially and adversely affected. The Basel III rules require bank holding companies and their subsidiaries to maintain significantly more capital as a result of higher required capital levels and more demanding regulatory capital risk weightings and calculations. The Bank must also comply with the capital requirements set forth in the “prompt corrective action” regulations pursuant to Section 38 of the FDIA. Satisfying capital requirements may require us to limit our banking operations, retain net income or reduce dividends to improve regulatory capital levels, which could negatively affect our business, financial condition and results of operations.
Our use of third party vendors and our other ongoing third party business relationships are subject to increasing regulatory requirements and attention.
We regularly use third party vendors in our business and we rely on some of these vendors for critical functions including, but not limited to, our core processing function. Third party relationships are subject to increasingly demanding regulatory requirements and attention by bank regulators. We expect our regulators to hold us responsible for deficiencies in our oversight or control of our third party vendor relationships and in the performance of the parties with which we have these relationships. As a result, if our regulators conclude that we have not exercised adequate oversight and control over our third party vendors or that such vendors have not performed adequately, we could be subject to administrative penalties or fines as well as requirements for consumer remediation, any of which could have a material adverse effect on our business, financial condition and results of operations.
General Risks
Severe weather, natural disasters, geopolitical conditions, acts of war or terrorism, public health issues, and other external events could significantly impact our business.
Severe weather, natural disasters, geopolitical conditions, acts of war or terrorism, public health issues, and other adverse external events could have a significant impact on our ability to conduct business. In addition, such events could affect the stability of our deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue, and/or cause us to incur additional expenses. The occurrence of any such event in the future could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
Item 1B. Unresolved Staff Comments
None.

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ITEM 2. PROPERTIES
Item 2. Properties
Our executive offices and the main office of the Bank are located at 11325 Random Hills Road, Fairfax, Virginia, 22030. In addition to our main office, we also maintain nine additional branch offices in Arlington, Virginia; the independent city of Manassas, Virginia; Reston, Fairfax County, Virginia; Springfield, Fairfax County, Virginia; Montgomery County and Baltimore, Maryland; and Washington, D.C. We also maintain an operations center in Manassas. We lease all but one location; our branch located in Baltimore, Maryland. We also lease a loan production office in Towson, Maryland.
We are committed to being highly selective in our branching decisions, and we intend to continue to explore opportunities for establishing additional strategically located branches in the Washington and Baltimore MSAs based primarily on commercial deposit and loan potential and demographic support. We typically establish branches as necessary to provide support for established business development professionals with substantial books of business and customer relationships. We believe that upon expiration of each of our leases we will be able to extend the leases on satisfactory terms or relocate to another acceptable location.

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ITEM 3. LEGAL PROCEEDINGS
Item 3. Legal Proceedings
In the ordinary course of our operations, we become party to various legal proceedings. Currently, we are not party to any material legal proceedings, and no such proceedings are, to management's knowledge, threatened against us.

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ITEM 4. MINE SAFETY DISCLOSURE
Item 4. Mine Safety Disclosures
None.
PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Price for Common Stock and Dividends. Our common stock is currently listed on the Nasdaq Capital Market under the symbol "FVCB." As of March 15, 2024, there were 432 holders of record of our common stock and approximately 1,644 total beneficial shareholders.
Dividends
To date, we have not paid, and we do not currently intend to pay, a cash dividend on our common stock. Holders of our common stock are only entitled to receive dividends when, as and if declared by our board of directors out of funds legally available for dividends. As we are a bank holding company and do not engage directly in business activities of a material nature, our ability to pay dividends on our common stock depends, in large part, upon our receipt of dividends from the Bank. Any future determination relating to our dividend policy will be made by our board of directors and will depend on a number of factors, including general and economic conditions, industry standards, our financial condition and operating results, our available cash and current and anticipated cash needs, capital requirements, our ability to service debt obligations senior to our common stock, banking regulations, contractual, legal, tax and regulatory restrictions, and limitations on the payment of dividends by us to our shareholders or by the Bank to us, and such other factors as our board of directors may deem relevant.
Regulations of the Federal Reserve and Virginia law place limits on the amount of dividends the Bank may pay to the Company without prior approval. Prior regulatory approval is required to pay dividends which exceed the Bank's net profits for the current year plus its retained net profits for the preceding two calendar years, less required transfers to surplus. Under Virginia law, dividends may only be paid out of retained earnings. State and federal bank regulatory agencies also have authority to prohibit a bank from paying dividends if such payment is deemed to be an unsafe or unsound practice, and the Federal Reserve has the same authority over bank holding companies. Under Virginia law, the Company generally may not pay dividends or distributions to holders of common stock if it would be unable to pay its debts as they become due in the ordinary course of business or if its total assets would be less than the sum of its total liabilities plus the amount of the liquidation preference of any class of shares with superior rights than the common stock.
The Federal Reserve has established requirements with respect to the maintenance of appropriate levels of capital by registered bank holding companies. Compliance with such standards, as presently in effect, or as they may be amended from time to time, could possibly limit the amount of dividends that the Company may pay in the future. The Federal Reserve has issued guidance on the payment of cash dividends by bank holding companies. In the statement, the Federal Reserve expressed its view that a holding company experiencing earnings weaknesses should not pay cash dividends exceeding its net income, or which could only be funded in ways that weaken the holding company's financial health, such as by borrowing. Under Federal Reserve guidance, as a general matter, the board of directors of a holding company should inform the Federal Reserve and should eliminate, defer, or significantly reduce the dividends if: (i) the holding company's net income available to shareholders for the past four quarters, net of dividends previously paid during that period, is not sufficient to fully fund the dividends; (ii) the holding company's prospective rate of earnings retention is not consistent with the capital needs and overall current and prospective financial condition; or (iii) the holding company will not meet, or is in danger of not meeting, its minimum regulatory capital adequacy ratios. As a depository institution, the deposits of which are insured by the FDIC, the Bank may not pay dividends or distribute any of its capital assets while it remains in default on any assessment due the FDIC. The Bank currently is not in default under any of its obligations to the FDIC.
On December 15, 2022, the Company announced that the Board of Directors approved a five-for-four split of the Company's common stock in the form of a 25% stock dividend for shareholders of record on January 9, 2023, payable on January 31, 2023.
Repurchases
On March 16, 2023, we publicly announced that the Board of Directors had adopted a program to repurchase up to 1,300,000 shares of our common stock, or approximately 8% of our outstanding shares of common stock at December 31, 2022, which would expire on March 31, 2024. The timing and amount of repurchases, if any, will depend on market conditions, share price, trading volume, and other factors, and there is no assurance that we will purchase shares during any period. Shares may be repurchased in the open market or through privately negotiated transactions. For the year ended
December 31, 2023, 115,750 shares of our common stock were repurchased at a total cost of $1.4 million under the program. All of these shares have been cancelled and returned to the status of authorized but unissued.
Period (a) Total Number of Shares Purchased (b) Average Price Paid per Share ($) (c) Total Number of Shares Purchased as Part of Publicly Announced Program (d) Maximum Number of Shares that May Yet Be Purchased Under the Program
October 1 - October 31, 2023 - - - -
November 1 - November 30, 2023 - - - -
December 1 - December 31, 2023 - - - 1,275,202
Total - - - 1,275,202

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ITEM 6. SELECTED FINANCIAL DATA
Item 6. Reserved

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following presents management's discussion and analysis of our consolidated financial condition at December 31, 2023 and 2022 and the results of our operations for the years ended December 31, 2023 and 2022. This discussion should be read in conjunction with our consolidated financial statements and the notes thereto appearing elsewhere in this report. In addition to historical information, this discussion contains forward-looking statements that involve risks, uncertainties and assumptions that could cause results to differ materially from management's expectations.
Overview
We are a bank holding company headquartered in Fairfax County, Virginia. Our sole subsidiary, FVCbank, was formed in November 2007 as a community-oriented, locally-owned and managed commercial bank under the laws of the Commonwealth of Virginia. The Bank offers a wide range of traditional bank loan and deposit products and services to both our commercial and retail customers. Our commercial relationship officers focus on attracting small and medium sized businesses, commercial real estate developers and builders, including government contractors, non-profit organizations, and professionals. Our approach to our market features competitive customized financial services offered to customers and prospects in a personal relationship context by seasoned professionals.
On August 31, 2021, we announced that the Bank made an investment in ACM for $20.4 million to obtain a 28.7% ownership interest in ACM. The Bank provides a warehouse lending facility to ACM, which includes a construction-to-permanent financing line, and has developed portfolio mortgage products to diversify our held to investment loan portfolio.
On December 15, 2022, the Company announced that the Board of Directors approved a five-for-four split of the Company's common stock in the form of a 25% stock dividend for shareholders of record on January 9, 2023, payable on January 31, 2023. Earnings per share and all other per share information reflected herein have been adjusted for the five-for-four split of the Company's common stock for comparative purposes.
Net interest income is our primary source of revenue. We define revenue as net interest income plus non-interest income. We manage our balance sheet and interest rate risk exposure to maximize, and concurrently stabilize, net interest income. We do this by monitoring our liquidity position and the spread between the interest rates earned on interest-earning assets and the interest rates paid on interest-bearing liabilities. We attempt to minimize our exposure to interest rate risk, but are unable to eliminate it entirely. In addition to managing interest rate risk, we also analyze our loan portfolio for exposure to credit risk. Loan defaults and foreclosures are inherent risks in the banking industry, and we attempt to limit our exposure to these risks by carefully underwriting and then monitoring our extensions of credit. In addition to net interest income, non-interest income is a complementary source of revenue for us and includes, among other things, service charges on deposits and loans, income from minority membership interest in ACM, merchant services fee income, insurance commission income, income from bank owned life insurance ("BOLI"), and gains and losses on sales of investment securities available-for-sale.
Critical Accounting Policies
General
The accounting principles we apply under GAAP are complex and require management to apply significant judgment to various accounting, reporting and disclosure matters. Management must use assumptions, judgments and estimates when applying these principles where precise measurements are not possible or practical. These policies are critical because they are highly dependent upon subjective or complex judgments, assumptions and estimates. Changes in such judgments, assumptions and estimates may have a significant impact on the consolidated financial statements. Actual results, in fact, could differ from initial estimates.
The accounting policies we view as critical are those relating to judgments, assumptions and estimates regarding the determination of the allowance for credit losses - loans & reserve for unfunded commitments, allowance for credit losses - securities, and fair value measurements.
Allowance for Credit Losses - Loans & Unfunded Commitments
We maintain the allowance for credit losses ("ACL") at a level that represents management’s best estimate of expected losses in our loan portfolio. We adopted the provisions of the CECL accounting standard as of January 1, 2023 in accordance with the required implementation date and recorded the impact of the adoption to retained earnings, net of deferred income taxes, as required by the standard. Prior to the adoption of CECL, we utilized an incurred loss model to derive our best estimate of the ACL.
Accounting Standards Codification ("ASC") 326 requires that an estimate of CECL be immediately recognized and reevaluated over the contractual life of the financial asset. The ACL is a valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the loan portfolio. Loans, or portions thereof, are charged off against the ACL when they are deemed uncollectible. Expected recoveries are recorded to the extent they do not exceed the aggregate of amounts previously and expected to be charged-off.
Reserves on loans that do not share risk characteristics are evaluated on an individual basis. Nonaccrual loans are specifically reviewed for loss potential and when deemed appropriate are assigned a reserve based on an individual evaluation. The remainder of the portfolio, representing all loans not evaluated individually for impairment, is segmented based on call report code and processed through a cash flow valuation model. In particular, loan-level probability of default ("PD") and severity (also referred to as loss given default ("LGD")) is applied to derive a baseline expected loss as of the valuation date. These expected default and severity rates, which are regression-derived and based on peer historical loan-level performance data, are calibrated to incorporate our reasonable and supportable forecast of future losses as well as any necessary qualitative adjustments.
Typically, financial institutions use their historical loss experience and trends in losses for each loan segment which are then adjusted for portfolio trends and economic and environmental factors in determining the ACL. Since the Bank’s inception in 2007, we have experienced minimal loss history within our loan portfolio. Due to the fact that limited internal loss history exists to generate statistical significance, we determined it was most prudent to rely on peer data when deriving our best estimate of PD and LGD. As part of our estimation process, we will continue to assess the reasonableness of the data, assumptions, and model methodology utilized to derive our allowance for credit losses.
For each of the modeled loan segments, we generate cash flow projections at the instrument level wherein payment expectations are adjusted for estimated prepayment speeds, PD rates, and LGD rates. The modeling of expected prepayment speeds is based on internal loan-level historical data. For our cash flow model, we utilize national unemployment for reasonable and supportable forecasting of expected default. To further adjust the ACL for expected losses not already within the quantitative component of the calculation, we may consider qualitative factors as prescribed in ASC 326.
Financial instruments include off-balance sheet credit instruments such as commitments to make loans and commercial letters of credit issued to meet customer financing needs. Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument for off-balance sheet loan commitments is represented by the contractual amount of those instruments. Such financial instruments are recorded when they are funded. We record a reserve for unfunded commitments on off-balance sheet credit exposures through a charge to provision for credit loss expense in our Consolidated Statement of Income. The reserve for unfunded commitments is estimated by call report code segmentation as of the valuation date under the CECL model using the same methodologies as portfolio loans taking utilization rates into consideration. The reserve for unfunded commitments is reflected as a liability on our Consolidated Statement of Condition.
While our methodology in establishing the ACL attributes portions of a combined reserve to multiple elements, we believe that the combined allowance of credit losses (which is inclusive of the reserve for unfunded commitments) represents the most appropriate coverage metric for loss absorption purposes.
Our methodology utilized in the estimation of the ACL, which is performed at least quarterly, is designed to be dynamic and responsive to changes in our loan portfolio credit quality, composition, and forecasted economic conditions. The review of the reasonableness and appropriateness of the ACL is reviewed by the ACL Committee for approval as of the valuation date. Additionally, information is provided to the Board of Directors on a quarterly basis along with our consolidated financial statements.
Credit losses are an inherent part of our business and, although we believe the methodologies for determining the ACL and the current level of the allowance and reserve on unfunded commitments are appropriate, it is possible that there may be unidentified losses in the portfolio at any particular time that may become evident at a future date pursuant to additional internal analysis or regulatory comment. Additional provisions for such losses, if necessary, would be recorded, and would negatively impact earnings.
Collateral Dependent Financial Assets
Loans that do not share risk characteristics are evaluated on an individual basis. For collateral dependent financial assets where we have determined that foreclosure of the collateral is probable, or where the borrower is experiencing financial difficulty and we expect repayment of the financial asset to be provided substantially through the sale of the collateral, the ACL is measured based on the difference between the fair value of the collateral and the amortized cost basis of the asset as of the measurement date. When repayment is expected to be from the operation of the collateral, expected credit losses are calculated as the amount by which the amortized cost basis of the financial asset exceeds the net present value from the operation of the collateral. When repayment is expected to be from the sale of the collateral, expected credit losses are calculated as the amount by which the amortized cost basis of the financial asset exceeds the fair value of the underlying collateral less estimated cost to sell. The ACL may be zero if the fair value of the collateral at the measurement date exceeds the amortized cost basis of the financial asset.
Allowance for Credit Losses - Securities
We evaluate our available-for-sale and held-to-maturity debt securities portfolios for expected credit losses as of the valuation date under ASC 326. For available-for-sale debt securities in an unrealized loss position, we first assess whether we intend to sell, or if it is more likely than not that we will be required to sell, the security before recovery of our amortized cost basis. If either criterion is met, the security’s amortized cost basis is written down to fair value through income during the current period. For available-for-sale debt securities that do not meet the aforementioned criteria, we evaluate whether the decline in fair value has resulted from credit losses or other driving factors. If our assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security is compared to the amortized cost basis of the security. If the present value of cash flows expected to be collected is less than the amortized cost basis, an ACL is recorded for the credit loss (which represents the difference between the expected cash flows and amortized cost basis), limited by the amount that the fair value is less than the amortized cost basis. Any impairment that has not been recorded through an ACL is recognized in other comprehensive income.
The entire amount of an impairment loss is recognized in earnings only when: (1) we intend to sell the security; or (2) it is more likely than not that we will have to sell the security before recovery of our amortized cost basis; or (3) we do not expect to recover the entire amortized cost basis of the security. In all other situations, only the portion of the impairment loss representing the credit loss must be recognized in earnings, with the remaining portion being recognized in shareholders' equity as comprehensive income, net of deferred taxes.
Changes in the ACL are recorded as a provision for (or reversal of) credit losses. Losses are charged against the ACL when we believe the uncollectibility of an available-for-sale security is confirmed or when either of the criteria regarding intent or requirement to sell is met. Any impairment not recorded through an ACL is recognized in other comprehensive income as a noncredit-related impairment.
As part of our estimation process, we have made a policy election to exclude accrued interest from the amortized cost basis of available-for-sale debt securities and report accrued interest separately in other assets in the Consolidated Statement of Condition. Available-for-sale debt securities are placed on nonaccrual status when we no longer expect to receive all contractual amounts due, which is generally at 90 days past due. Accrued interest receivable is reversed against interest income when a security is placed on nonaccrual status. Accordingly, we do not recognize an ACL against accrued interest receivable. This approach is consistent with our nonaccrual policy implemented for our loan portfolio.
We separately evaluate our held-to-maturity investment securities for any credit losses. If we determine that a security indicates evidence of deteriorated credit quality, the security is individually-evaluated and a discounted cash flow analysis is performed and compared to the amortized cost basis. As of December 31, 2023, we had one security classified as held-to-maturity with an amortized cost basis of $264 thousand with the remainder of the securities portfolio held as available-for-sale.
Fair Value Measurements
We determine the fair values of financial instruments based on the fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value. Our investment securities available-for-sale are recorded at fair value using reliable and unbiased evaluations by an industry-wide valuation service. This service uses evaluated pricing models that vary based on asset class and include available trade, bid, and other market information. Generally, the methodology includes broker quotes, proprietary models, vast descriptive terms and conditions databases, as well as extensive quality control programs. Depending on the availability of observable inputs and prices, different valuation models could produce materially different fair value estimates. The values presented may not represent future fair values and may not be realizable.
Financial Overview
For the years ended December 31, 2023 and 2022, we focused on organic growth, capitalizing on new customer relationships we obtained through centers of influence and portfolio cultivation.
•Total assets decreased to $2.19 billion compared to $2.34 billion at December 31, 2023 and 2022, respectively, a decrease of $153.8 million, or 7%. The decrease in total assets is primarily attributable to our strategic balance sheet management which focused on repositioning the balance sheet through two investment securities restructurings and reducing our reliance on wholesale funding to limit funding costs.
•Total loans, net of deferred fees, decreased $11.9 million, or 1%, from December 31, 2022 to December 31, 2023. Asset quality remains sound with nonperforming loans and loans past due 90 days or more as a percentage of total assets of 0.08% at December 31, 2023, compared to 0.19% at December 31, 2022.
•Total deposits increased $15.1 million or 1%, from December 31, 2022 to December 31, 2023. Noninterest-bearing deposits were $396.7 million at December 31, 2023, or 21.5% of total deposits. At December 31, 2023, core deposits, which exclude wholesale deposits, increased $17.9 million from December 31, 2022, or 1%.
•Net income totaling $3.8 million was recorded for the year ended December 31, 2023 compared to $25.0 million for 2022. The year ended December 31, 2023 results include after-tax losses of $12.2 million for the first quarter 2023 and fourth quarter 2023 securities repositionings. Core bank operating earnings, which excludes the securities sales and other nonrecurring items discussed more fully below under "Results of Operations", for the year ended December 31, 2023 was $16.3 million. For a reconciliation of this non-GAAP information which excludes the effect of these non-recurring items, please refer to the table below.
•Net interest income decreased $10.8 million, or 17%, to $54.4 million for the year ended December 31, 2023 compared to the year ended December 31, 2022. Interest income on loans increased $24.7 million and interest expense on deposits increased $34.9 million for 2023, compared to 2022. Net interest margin for 2023 was 2.49% compared to 3.19% for 2022.
•The provision for credit losses for 2023 totaled $0.1 million compared to a provision for credit losses totaling $2.6 million in 2022. The provision for credit losses for 2023 was a reflection of the credit quality of the loan portfolio and the decrease in total loans for the 2023 period.
•Noninterest income for 2023 decreased to a loss of $13.4 million compared to income of $2.8 million for 2022. This decrease was primarily driven by the loss related to the sales of available-for-sale securities during 2023.
•Noninterest expense was $36.7 million and $34.5 million for the years ended December 31, 2023 and 2022, respectively. The increase of $2.2 million, or 6%, was primarily a result of increases in internet banking, software expense and state franchise taxes, which are more fully discussed below under "Results of Operations".
Reconciliation of Net Income (GAAP) to Commercial Bank Operating Earnings (Non-GAAP)
Years Ended December 31, 2023 and 2022
(Dollars in thousands, except per share data)
2023 2022
Net income (as reported) $ 3,822 $ 24,984
Add: Merger and acquisition expense - 125
Add: Loss on sale of available-for-sale investment securities 15,577 -
Add: Office space reduction and severance costs 457 -
(Subtract) Add: (Provision) Benefit for income taxes associated with non-GAAP adjustments (3,527) (28)
Non-GAAP Commercial Bank Operating Earnings, excluding above items $ 16,329 $ 25,081
Earnings per share - basic (GAAP net income) $ 0.22 $ 1.43
Earnings per share - Non-GAAP expenses including provision for income taxes $ 0.70 $ 0.01
Earnings per share - basic (non-GAAP core bank operating earnings) $ 0.92 $ 1.44
Earnings per share - diluted (GAAP net income) $ 0.21 $ 1.35
Earnings per share - Non-GAAP expenses including provision for income taxes $ 0.69 $ 0.01
Earnings per share - diluted (non-GAAP core bank operating earnings) $ 0.90 $ 1.36
Return on average assets (GAAP net income) 0.17 % 1.18 %
Non-GAAP expenses including provision for income taxes 0.55 % - %
Return on average assets (non-GAAP core bank operating earnings) 0.72 % 1.18 %
Return on average equity (GAAP net income) 1.82 % 12.34 %
Non-GAAP expenses including provision for income taxes 5.96 % 0.05 %
Return on average equity (non-GAAP core bank operating earnings) 7.78 % 12.39 %
Below shows selected financial data for the periods ended December 31, 2023 and 2022.
Selected Financial Data
(Dollars and shares in thousands, except per share data)
Years Ended December 31,
2023 2022
Income Statement Data:
Interest income $ 106,615 $ 80,682
Interest expense 52,219 15,438
Net interest income 54,396 65,244
Provision for credit losses 132 2,629
Net interest income after provision for credit losses 54,264 62,615
Non-interest income (loss) (13,370) 2,834
Non-interest expense 36,662 34,460
Net income before income taxes 4,232 30,989
Provision for income taxes 410 6,005
Net income $ 3,822 $ 24,984
Balance Sheet Data:
Total assets $ 2,190,558 $ 2,344,322
Loans receivable, net of fees 1,828,564 1,840,434
Allowance for credit losses (18,871) (16,040)
Total investment securities 171,859 278,333
Total deposits 1,845,292 1,830,162
Other borrowed funds 104,620 284,565
Total shareholders' equity 217,117 202,382
Common shares outstanding 17,807 17,476
Years Ended December 31,
2023 2022
Per Common Share Data(1):
Basic net income $ 0.22 $ 1.43
Fully diluted net income 0.21 1.35
Book value 12.19 11.58
Tangible book value(2)
11.77 11.14
Performance Ratios:
Return on average assets 0.17 % 1.18 %
Return on average equity 1.82 12.34
Net interest margin(3)
2.49 3.19
Efficiency ratio(4)
89.36 50.62
Non-interest income to average assets (0.59) 0.13
Non-interest expense to average assets 1.61 1.62
Loans receivable, net of fees to total deposits 99.09 100.56
Asset Quality Ratios:
Net charge-offs (recoveries) to average loans receivable, net of fees 0.02 % 0.03 %
Nonperforming loans to loans receivable, net of fees 0.10 0.24
Nonperforming assets to total assets 0.08 0.19
Allowance for credit losses to nonperforming loans 1,031.77 357.00
Allowance for credit losses on loans to loans receivable, net of fees 1.03 0.87
Capital Ratios (Bank Only):
Tangible common equity 10.12 % 8.86 %
Total risk-based capital 13.83 13.28
Common Equity Tier 1 capital 12.80 12.45
Leverage capital ratio 10.77 10.75
Other:
Average shareholders' equity to average total assets 9.24 % 9.53 %
Average loans receivable, net of fees to average total deposits 96.52 86.77
Average common shares outstanding (1):
Basic 17,723 17,431
Diluted 18,231 18,484
______________________
(1)Amounts for all periods include the effect of a 5-for-4 stock split declared on December 15, 2022.
(2)Non-GAAP: Tangible book value is calculated as total stockholders' equity, less goodwill and other intangible assets, divided by common shares outstanding.
(3)Net interest margin is calculated as net interest income divided by total average earning assets.
(4)Efficiency ratio is calculated as total non-interest expense divided by the total of net interest income and non-interest income.
Years Ended December 31,
Non-GAAP Reconciliation
(Dollars in thousands, except per share data) 2023 2022
Total stockholders' equity $ 217,117 $ 202,382
Less: goodwill and intangibles, net (7,585) (7,790)
Tangible Common Equity $ 209,532 $ 194,592
Book value per common share $ 12.19 $ 11.58
Less: intangible book value per common share (0.42) (0.44)
Tangible book value per common share $ 11.77 $ 11.14
Results of Operations-Years Ended December 31, 2023 and December 31, 2022
Overview
We recorded net income of $3.8 million, or $0.21 per diluted common share, for the year ended December 31, 2023, compared to net income of $25.0 million, or $1.35 per diluted common share for the year ended December 31, 2022. Our 2023 results were impacted by a decrease in net interest income, primarily due to the increase in our funding costs during 2023. In addition, we completed two balance sheet repositionings where we sold $102.5 million in book value available-for-sale investment securities, which resulted in after-tax losses of $12.2 million. Commercial bank operating earnings (non-GAAP), which exclude these securities losses and other nonrecurring expense items that were recorded during 2023 and 2022, were $16.3 million and $25.1 million, respectively. Diluted commercial bank operating earnings per share (non-GAAP) for the year ended December 31, 2023 and 2022 were $0.90 and $1.36, respectively.
Net interest income decreased $10.8 million to $54.4 million for the year ended December 31, 2023, compared to $65.2 million for the year ended December 31, 2022. For the year ended December 31, 2023, we recorded a provision for credit losses of $132 thousand compared to $2.6 million for the year ended December 31, 2022. The provision for credit losses was primarily impacted by net loan growth for both 2023 and 2022. We reported noninterest income as a loss of $13.4 million for the year ended December 31, 2023, compared to noninterest income of $2.8 million for 2022, a decrease of $16.2 million, which was primarily driven by the losses recorded on the sale of available-for-sale securities totaling $15.6 million for the year ended December 31, 2023.
Noninterest expense was $36.7 million and $34.5 million for the years ended December 31, 2023 and 2022, respectively, an increase of $2.2 million, or 6%. The increase in noninterest expense was primarily a result of an increases in internet banking and software expense and FDIC insurance fees. Included in noninterest expense for the year ended December 31, 2023 was $457 thousand related to office space reductions and severance costs. Excluding these nonrecurring expenses, noninterest expense for the year ended December 31, 2023 increased $1.7 million, or 5%, year-over year.
The return on average assets for the years ended December 31, 2023 and 2022 was 0.17% and 1.18%, respectively. The return on average equity for the years ended December 31, 2023 and 2022 was 1.82% and 12.34%, respectively. The return on average assets for the years ended December 31, 2023 and 2022 based on operating earnings (a non-GAAP metric) was 0.72% and 1.18%, respectively. The return on average equity for the years ended December 31, 2023 and 2022 based on core bank operating earnings (non-GAAP) was 7.78% and 12.39%, respectively. See the above table for a reconciliation of GAAP net income to core bank operating earnings (non-GAAP).
Net Interest Income/Margin
The following table presents average balance sheet information, interest income, interest expense and the corresponding average yields earned and rates paid for the years ended December 31, 2023 and 2022.
Average Balance Sheets and Interest Rates on Interest-Earning Assets and Interest-Bearing Liabilities
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
2023 2022
Average
Balance Interest
Income/
Expense Average
Yield/
Rate Average
Balance Interest
Income/
Expense Average
Yield/
Rate
Assets
Interest-earning assets:
Loans receivable, net of fees
Commercial real estate $ 1,103,325 $ 53,356 4.84 % $ 978,983 $ 42,646 4.36 %
Commercial and industrial 206,432 15,170 7.35 % 181,540 9,820 5.41 %
Commercial construction 154,658 10,917 7.06 % 165,088 8,762 5.31 %
Consumer real estate 358,740 17,039 4.75 % 240,055 10,079 4.20 %
Warehouse facilities 19,097 1,343 7.03 % 43,268 1,612 3.73 %
Consumer nonresidential 6,056 548 9.05 % 9,143 705 7.71 %
Total loans(1)
1,848,308 98,373 5.32 % 1,618,077 73,624 4.55 %
Investment securities(2)(3)
287,454 5,606 1.95 % 352,064 6,382 1.81 %
Interest-bearing deposits at other financial institutions 50,705 2,641 5.21 % 74,477 685 0.92 %
Total interest-earning assets and interest income 2,186,467 106,620 4.88 % 2,044,618 80,691 3.95 %
Noninterest-earning assets:
Cash and due from banks 6,168 873
Premises and equipment, net 1,121 1,410
Accrued interest and other assets 97,440 92,761
Allowance for credit losses (18,602) (14,596)
Total assets $ 2,272,594 $ 2,125,066
Liabilities and Stockholders' Equity
Interest - bearing liabilities:
Interest - bearing deposits:
Interest checking $ 581,655 $ 16,903 2.91 % $ 724,881 $ 5,966 0.82 %
Savings and money markets 254,721 6,102 2.40 % 315,653 2,662 0.84 %
Time deposits 349,270 12,791 3.66 % 203,719 2,908 1.43 %
Wholesale deposits 303,472 11,549 3.81 % 61,478 932 1.52 %
Total interest - bearing deposits 1,489,118 47,345 3.18 % 1,305,731 12,468 0.95 %
Other borrowed funds 102,050 3,844 3.77 % 70,299 1,939 2.76 %
Subordinated notes, net of issuance costs 19,590 1,030 5.26 % 19,535 1,031 5.28 %
Total interest-bearing liabilities and interest expense 1,610,758 52,219 3.24 % 1,395,565 15,438 1.11 %
Noninterest-bearing liabilities:
Demand deposits 425,914 501,962
Other liabilities 26,013 25,059
Common stockholders' equity 209,909 202,480
Total liabilities and stockholders' equity $ 2,272,594 $ 2,125,066
Net interest income and net interest margin $ 54,401 2.49 % $ 65,253 3.19 %
________________________
(1)Non-accrual loans are included in average balances and do not have a material effect on the average yield. Interest income on non-accruing loans was not material for the years presented. Net loan fees and late charges included in interest income on loans totaled $2.1 million and $3.0 million for the years ended December 31, 2023 and 2022, respectively.
(2)The average yields for investment securities are reported on a fully taxable-equivalent basis at a rate of 22% for 2023 and 21% for 2022.
(3)The average balances for investment securities includes restricted stock.
The level of net interest income is affected primarily by variations in the volume and mix of these assets and liabilities, as well as changes in interest rates. The following table shows the effect that these factors had on the interest earned from our interest-earning assets and interest incurred on our interest-bearing liabilities for the years ended December 31, 2023 and 2022.
Rate and Volume Analysis
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
2023 Compared to 2022
Average
Volume
Average
Rate Increase
(Decrease)
Interest income:
Loans(1):
Commercial real estate $ 5,417 $ 5,293 $ 10,710
Commercial and industrial 1,346 4,004 5,350
Commercial construction (554) 2,709 2,155
Consumer residential 4,983 1,977 6,960
Warehouse facilities (901) 632 (269)
Consumer nonresidential (238) 81 (157)
Total loans(1)
10,053 14,696 24,749
Investment securities(2)
(1,171) 395 (776)
Deposits at other financial institutions and federal funds sold (219) 2,175 1,956
Total interest income 8,663 17,266 25,929
Interest expense:
Interest - bearing deposits:
Interest checking (1,179) 12,116 10,937
Savings and money markets (514) 3,954 3,440
Time deposits 2,078 7,805 9,883
Wholesale deposits 3,669 6,948 10,617
Total interest - bearing deposits 4,054 30,823 34,877
Other borrowed funds 876 1,029 1,905
Subordinated notes, net of issuance costs 3 (4) (1)
Total interest expense 4,933 31,848 36,781
Net interest income $ 3,730 $ (14,582) $ (10,852)
_________________________
(1)Non-accrual loans are included in average balances and do not have a material effect on the average yield. Interest income on non-accruing loans was not material for the years presented.
(2)The average yields for investment securities are reported on a fully taxable-equivalent basis at a rate of 22% for 2023 and 21% for 2022.
Net interest income, on a tax equivalent basis, is a financial measure that we believe provides a more accurate picture of the interest margin for comparative purposes. To derive our net interest margin on a tax equivalent basis, net interest income is adjusted to reflect tax-exempt income on an equivalent before tax basis with a corresponding increase in income tax expense. For purposes of this calculation, we use our federal and state statutory tax rates for the periods presented. This measure ensures comparability of net interest income arising from taxable and tax-exempt sources.
The following table provides a reconciliation of our GAAP net interest income to our tax equivalent net interest income.
Supplemental Financial Data and Reconciliations to GAAP Financial Measures
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
2023 2022
GAAP Financial Measurements:
Interest income:
Loans $ 98,373 $ 73,624
Deposits at other financial institutions and federal funds sold 2,641 685
Investment securities available-for-sale 4,949 5,959
Investment securities held-to-maturity 6 6
Dividend on Restricted stock 646 408
Total interest income 106,615 80,682
Interest expense:
Interest-bearing deposits 47,345 12,468
Other borrowed funds 4,874 2,970
Total interest expense 52,219 15,438
Net interest income $ 54,396 $ 65,244
Non-GAAP Financial Measurements:
Add: Tax benefit on tax-exempt interest income - securities 5 9
Total tax benefit on interest income $ 5 $ 9
Tax equivalent net interest income $ 54,401 $ 65,253
Net interest margin on a tax-equivalent basis 2.49 % 3.19 %
Net interest income for the year ended December 31, 2023 was $54.4 million on a fully taxable-equivalent basis, compared to $65.3 million for the year ended December 31, 2022, a decrease of $10.9 million, or 17%. The decrease in net interest income is primarily due to an increase in funding costs, which have increased precipitously as a result of Federal Reserve monetary policy, coupled with the need to meet intense competition from market area banks, brokerages, other financial institutions and the U.S. Treasury. We have been disciplined in our approach to rising interest rates, which has resulted in a cycle-to-date beta (calculated comparing the change in deposit interest rates from March 31, 2022 to December 31, 2023, including non-interest bearing deposits and excluding wholesale deposits) of approximately 42% since the Federal Reserve enacted its contractionary monetary policy through the increase of short-term interest rates to combat inflation.
Our net interest margin, on a tax equivalent basis, for the years ended December 31, 2023 and 2022 was 2.49% and 3.19%, respectively. The decrease in our net interest margin was primarily a result of the previously mentioned increased rate environment during 2023, as our cost of funds increased more than our yield on earning assets during the year. The yield on interest-earning assets increased 93 basis points to 4.88% for the year ended December 31, 2023, compared to 3.95% for the same period of 2022, a result of the increased rate environment during 2023. Offsetting the increase in yields on earning assets was a 213 basis point increase in the cost of interest-bearing liabilities, which was primarily attributable to the repricing of our interest-bearing deposits to higher interest rates during 2023. Cost of deposits (which includes noninterest-bearing deposits) was 2.47% for the year ended December 31, 2023 compared to 0.69% for the same period of 2022. Cost of other borrowed funds increased 101 basis points to 3.77% for the year ended December 31, 2023 compared to 2.76% for the year ended December 31, 2022.
Average interest-earning assets increased by 7% to $2.19 billion at December 31, 2023 compared to $2.04 billion at December 31, 2022, which resulted in an increase in total interest income on a tax equivalent basis of $25.9 million, to $106.6 million for the year ended December 31, 2023 compared to $80.7 million for the year ended December 31, 2022. Both average volume and rate significantly impacted interest income during 2023, with volume contributing an additional $8.7 million in interest income and rate contributing an additional $17.3 million in interest income when compared to the prior year.
Average loans receivable increased $230.2 million to $1.85 billion for the year ended December 31, 2023, compared to $1.62 billion for the year ended December 31, 2022. The yield on average loans increased 77 basis points to 5.32% for the year ended December 31, 2023. The increase in average rate of loans receivable contributed $14.7 million to interest income while the increase in average loan volume contributed $10.1 million to interest income. Average balances of nonperforming loans, which consist of nonaccrual loans, are included in the net interest margin calculation and did not have a material impact on our net interest margin in 2023 and 2022.
Average investment securities decreased $64.6 million to $287.5 million for the year ended December 31, 2023, compared to $352.1 million for the year ended December 31, 2022. The decrease in average investment securities was primarily a result of repositioning the investment portfolio with the sale of $102.5 million in book value available-for-sale investment securities during 2023. The yield on average investment securities increased 14 basis points to 1.95% for the year ended December 31, 2023, primarily as a result of the sale of lower yielding securities relative to the average yield of the securities portfolio.
Average interest-earning deposits at other financial institutions, consisting primarily of excess cash reserves maintained at the Federal Reserve, decreased $23.8 million to $50.7 million for the year ended December 31, 2023, compared to $74.5 million for the year ended December 31, 2022. The decrease in average interest-earning deposits at other financial institutions was primarily a result of our deployment of excess liquidity during 2023 to reduce the Bank's reliance on wholesale funding. The yield on average interest-earning deposits increased 429 basis points to 5.21% for the year ended December 31, 2023.
Total average interest-bearing liabilities increased $215.2 million to $1.61 billion at December 31, 2023 compared to $1.40 billion at December 31, 2022, which resulted in an increase in interest expense of $36.8 million to $52.2 million for the year ended December 31, 2023 compared to $15.4 million for the year ended December 31, 2022. Average rate significantly impacted interest expense during 2023, as average volume only contributed an additional $4.9 million in interest expense while average rate increases contributed an additional $31.9 million in interest expense compared to the prior year.
Total average interest-bearing deposits increased $183.4 million to $1.49 billion at December 31, 2023 compared to $1.31 billion at December 31, 2022, which resulted in an increase in interest expense on deposits of $34.9 million to $47.3 million for the year ended December 31, 2023 compared to $12.5 million for the year ended December 31, 2022. Average noninterest-bearing deposits decreased $76.0 million, or 15%, to $425.9 million at December 31, 2023, compared to $502.0 million at December 31, 2022. During 2023, competition for deposits along with higher interest rates resulted in customers' movement of excess funds from noninterest-bearing into interest-bearing deposit products. Average interest checking deposits decreased $143.2 million to $581.7 million as of December 31, 2023 compared to $724.9 million as of December 31, 2022. Average time deposits increased $145.6 million to $349.3 million as of December 31, 2023 compared to $203.7 million at December 31, 2022, as customers preferred to fix a portion of their funds at higher interest rates. Average wholesale deposits increased $242.0 million to $303.5 million as of December 31, 2023 compared to $61.5 million as of December 31, 2022.
Average other borrowed funds increased $31.8 million to $102.1 million for the year ended December 31, 2023, compared to $70.3 million for the year ended December 31, 2022. Interest expense on other borrowed funds increased $1.9 million for the year ended December 31, 2023 to $3.8 million compared to $1.9 million for the same period of 2022.
Provision Expense and Allowance for Credit Losses
Our policy is to maintain the ACL at a level that represents our best estimate of expected losses in the loan portfolio as of the valuation date. Both the amount of the provision and the level of the allowance for credit losses are impacted by many factors, including general and industry-specific economic conditions, actual and expected credit losses, historical trends and specific conditions of individual borrowers. We adopted CECL as of January 1, 2023 in accordance with the required implementation date and recorded the impact of the adoption to retained earnings, net of deferred income
taxes, as required by the standard. Note that prior to the adoption of CECL, we utilized an incurred loss model to derive our best estimate of the ACL.
As a result of the adoption of CECL, reserves for credit losses increased $3.7 million and consisted of increases to the allowance for credit losses on loans as well as an increase in reserves for unfunded commitments (referred to as combined ACL herein). For the year ended December 31, 2023, subsequent to the aforementioned adoption, we recorded a provision for credit losses of $132 thousand for the year ended December 31, 2023 compared to $2.6 million for the year ended December 31, 2022. The allowance for credit losses at December 31, 2023 was $18.9 million compared to $16.0 million at December 31, 2022. Our allowance for credit loss ratio as a percent of total loans, net of deferred fees and costs, for December 31, 2023 and 2022 was 1.03% and 1.02%, respectively.
We lend to well-established and relationship-driven borrowers which has contributed to our track record of low historical credit losses. We continue to maintain our disciplined credit guidelines during the current rate environment. We proactively monitor the impact of interest rates on our adjustable loans as the industry navigates through this economic cycle of increased inflation and higher interest rates. Credit quality metrics improved for the year ended December 31, 2023 as nonperforming loans and loans 90 days or more past due totaled $1.8 million, or 0.08% of total assets, compared to $4.5 million, or 0.19%, of total assets at December 31, 2022. Watchlist credits increased to $28.8 million at December 31, 2023, an increase of $14.3 million from December 31, 2022, as we proactively manage the credit quality of our loan portfolio, including reducing our commercial real estate concentrations, which has resulted in limited credit losses over our history. We had no other real estate owned at December 31, 2023. We recorded net charge-offs of $375 thousand during the year ended December 31, 2023 and net charge-offs of $418 thousand for same period of 2022.
See “Asset Quality” below for additional information on the credit quality of the loan portfolio.
Noninterest Income
The following table provides detail for non-interest income for the years ended December 31, 2023 and 2022.
Noninterest Income
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
Years Ended December 31, Change from Prior Year
2023 2022 Amount Percent
Service charges on deposit accounts $ 1,028 $ 954 $ 74 7.8 %
Fees on loans 388 232 156 67.2 %
BOLI income 1,452 1,200 252 21.0 %
(Loss) income from minority membership interest (1,110) (33) (1,077) 3263.6 %
Loss on sale of available-for-sale securities (15,577) - (15,577) - %
Other fee income 449 481 (32) (6.7) %
Total non-interest income (loss) $ (13,370) $ 2,834 $ (16,204) (571.8) %
Noninterest income includes service charges on deposits and loans, loan swap fee income, income from our membership interest in ACM and other investments, income from our BOLI policies, and other fee income, and continues to supplement our operating results. Noninterest income was recorded as a loss for the year ended December 31, 2023 totaling $13.4 million compared to income of $2.8 million for same period in 2022. During 2023, we recorded $15.6 million in losses for the sale of $102.5 million in book value available-for-sale investment securities. We also recorded a loss from minority membership interest, primarily from our investment in ACM, totaling $1.1 million for the year ended December 31, 2023, compared a loss of $33 thousand for the year ended December 31, 2022.
Fee income from loans was $388 thousand for the year ended December 31, 2023, compared to $232 thousand for the same period of 2022. Service charges on deposits and other fee income was $1.5 million for the year ended December 31, 2023, compared to $1.4 million for the same period of 2022. Loan swap fees for the year ended December 31, 2023 totaled $187 thousand compared to none for the same period of December 31, 2022. Income from BOLI increased 21% to $1.5 million for the year ended December 31, 2023 as compared to $1.2 million for the year ended December 31, 2022, primarily due to the purchase of $15 million in additional BOLI during the second quarter of 2022.
Noninterest Expense
The following table reflects the components of noninterest expense for the years ended December 31, 2023 and 2022.
Noninterest Expense
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
Change from Prior Year
2023 2022 Amount Percent
Salaries and employee benefits $ 20,643 $ 20,316 $ 327 1.6 %
Occupancy expense 2,357 2,190 167 7.6 %
Internet banking and software expense 2,505 1,707 798 46.8 %
Data processing and network administration 2,468 2,303 165 7.2 %
State franchise taxes 2,338 2,036 302 14.8 %
Audit, legal and consulting fees 858 1,210 (352) (29.1) %
Merger and acquisition expense - 125 (125) (100.0) %
Loan related expenses (10) 555 (565) (101.8) %
FDIC insurance 1,433 620 813 131.1 %
Marketing, business development and advertising 724 483 241 49.9 %
Director fees 660 668 (8) (1.2) %
Postage, courier and telephone 185 181 4 2.2 %
Dues, memberships & publications 253 194 59 30.4 %
Bank insurance 449 453 (4) (0.9) %
Printing and supplies 148 147 1 0.7 %
Bank charges 98 90 8 8.9 %
State assessments 210 161 49 30.4 %
Office space reduction costs 273 - 273 100.0 %
Core deposit intangible amortization 205 262 (57) (21.8) %
Tax credit amortization 126 126 - - %
Other operating expenses 739 633 106 16.7 %
Total non-interest expense $ 36,662 $ 34,460 $ 2,202 6.4 %
Noninterest expense includes, among other things, salaries and benefits, occupancy and equipment costs, professional fees, data processing, insurance and miscellaneous expenses. Noninterest expense was $36.7 million and $34.5 million for the years ended December 31, 2023 and 2022.
Salaries and benefits expense increased $327 thousand to $20.6 million for the year ended December 31, 2023 compared to $20.3 million for the same period in 2022, which was primarily related to a decrease in salaries deferred associated with loan origination activity. Internet banking and software expense increased $798 thousand for the year ended December 31, 2023 to $2.5 million, compared to $1.7 million for the same period in 2022, primarily as a result of the implementation of enhanced customer software solutions. FDIC insurance premium expense increased $813 thousand for the year ended December 31, 2023 compared to the same period in 2022, a result of the FDIC increasing the assessment rate to replenish its deposit insurance fund. Marketing expenses increased $241 thousand to $724 thousand for the year ended December 31, 2023 compared to the same period in 2022, which was primarily related to expenses associated with low cost deposit gathering and branding efforts. Audit, legal and consulting fees decreased $352 thousand to $858 thousand for the year ended December 31, 2023 as compared to the same period of 2022, primarily as a result of expense management. Lastly, loan related expenses decreased $565 thousand during 2023 compared to the prior year, as we received a recovery of legal expenses in 2023 associated with a previous watchlist credit.
During the fourth quarter of 2023, we reduced our future occupancy expense through a reduction in office space. We wrote-off two leases totaling $273 thousand to reduce excess office space and to consolidate two branch locations in
Montgomery County, Maryland. We also reduced staffing which resulted in severance costs of $184 thousand for the year ended December 31, 2023. These initiatives reduce operating expenses in 2024 by over $1.0 million.
Income Taxes
We recorded a provision for income tax expense of $410 thousand for the year ended December 31, 2023, compared to $6.0 million for the year ended December 31, 2022. Our effective tax rate for December 31, 2023 was 9.7%, compared to 19.4% for 2022. Our effective tax rates for 2023 and 2022 are less than our combined federal and state statutory rate of 22.5% because of discrete tax benefits recorded as a result of nonqualified option exercises during the aforementioned periods.
Discussion and Analysis of Financial Condition
Overview
At December 31, 2023, total assets were $2.2 billion, a decrease of 7%, or $153.8 million, from $2.34 billion at December 31, 2022. Total loans receivable, net of deferred fees and costs, decreased 1%, or $11.9 million, to $1.83 billion at December 31, 2023, from $1.84 billion at December 31, 2022. Total investment securities decreased by $106.5 million, or 38%, to $171.9 million at December 31, 2023, from $278.3 million at December 31, 2022. Total deposits increased 1%, or $15.1 million, to $1.85 billion at December 31, 2023, from $1.83 billion at December 31, 2022. From time to time, we may utilize other borrowed funds such as federal funds purchased and FHLB advances as an additional funding source for the Bank. For December 31, 2023, we had no federal funds purchased compared to $30 million at December 31, 2022. The Bank had FHLB advances outstanding of $85.0 million and $235.0 million for the years ended December 31, 2023 and 2022, respectively. Subordinated debt, net of unamortized issuance costs, totaled $19.6 million at each of December 31, 2023 and 2022.
We review our balance sheet and interest rate sensitivity on an ongoing basis as part of our asset/liability risk management process. During 2023, with the expectation that short-term interest rates would continue to increase during year, we modeled various scenarios to improve balance sheet efficiency, reduce our cost of funds, improve margin and our capital ratios. As a result, we sold $102.5 million in book value available-for-sale investment securities. The proceeds were utilized to paydown high cost short-term FHLB advances and assist in the funding of higher yielding newly originated commercial loans through out 2023. The sale of these investment securities generated an after-tax loss of $12.2 million. These transactions were neutral to shareholders’ equity and tangible book value, as the loss recorded was already reflected in our accumulated other comprehensive loss.
Additionally, during the first quarter of 2023, we fixed $150 million of our wholesale funding through the execution of pay-fixed/receive-floating interest rate swaps. The interest rate swaps have a weighted average rate of 3.50%, have a maturity of five years, and are designated against a mix of FHLB advances and brokered certificates of deposits. Classified as cash flow hedges, the market value fluctuations will not impact future earnings, but will impact accumulated other comprehensive income.
Loans Receivable, Net
Total loans receivable, net of deferred fees, were $1.83 billion at December 31, 2023, a decrease of $11.9 million, or 1%, compared to $1.84 billion at December 31, 2022.
Commercial real estate loans totaled $1.10 billion at each of December 31, 2023 and December 31, 2022, comprising 60% of total loans for each period. Owner-occupied commercial real estate loans were $212.4 million at December 31, 2023 compared to $206.8 million at December 31, 2022. Nonowner-occupied commercial real estate loans were $879.3 million at December 31, 2023 compared to $893.2 million at December 31, 2022. Commercial construction loans totaled $148.0 million at December 31, 2023, compared to $147.3 million at December 31, 2022 and comprised 8% of total loans receivable. Of the $148.0 million in construction loans at December 31, 2023, $26.3 million are collateralized by land and only $1.4 million are lot acquisition and development loans (which have a higher degree of credit risk than the remaining portion of the construction portfolio). Our regulatory commercial real estate concentration (which includes nonowner-occupied real estate and construction loans) was 399% of our total risk based capital at December 31, 2023. Our commercial real estate portfolio, including construction loans, is diversified by asset type and geographic concentration. We plan to manage this portion of our portfolio in a disciplined manner. We have comprehensive policies to monitor,
measure, and mitigate our loan concentrations within this portfolio segment, including rigorous credit approval, monitoring and administrative practices.
Commercial and industrial loans increased $1.5 million to $216.4 million at December 31, 2023, from $214.9 million at December 31, 2022. Consumer residential loans increased $32.7 million to $363.3 million at December 31, 2023, from $330.6 million at December 31, 2022. The increase in residential loans was primarily a result of purchasing ACM construction-to-permanent mortgages originated during 2022, a portfolio product offered by the Bank which met our underwriting criteria.
The following table sets forth the repricing characteristics and sensitivity to interest rate changes to the outstanding principal balance of our loan portfolio at December 31, 2023.
Loan Maturities and Interest Rate Sensitivity
At December 31, 2023
(Dollars in thousands)
One Year
or Less Between One
and Five Years Between Five and Fifteen Years After Fifteen Years Total
Commercial real estate $ 109,088 $ 623,050 $ 344,231 $ 17,844 $ 1,094,213
Commercial and industrial 118,625 48,399 53,443 - 220,467
Commercial construction 84,174 35,332 28,943 - 148,449
Consumer residential 44,294 48,968 33,764 231,319 358,345
Consumer nonresidential 4,814 348 552 28 5,742
Total loans receivable $ 360,995 $ 756,097 $ 460,933 $ 249,191 $ 1,827,216
Fixed-rate loans $ 69,951 $ 510,025 $ 455,766 $ 159,268 $ 1,195,010
Floating-rate loans 291,044 246,072 5,167 89,923 632,206
Total loans receivable $ 360,995 $ 756,097 $ 460,933 $ 249,191 $ 1,827,216
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*Payments due by period are based on the repricing characteristics and not contractual maturities.
Asset Quality
Nonperforming loans, defined as nonaccrual loans and loans contractually past due 90 days or more as to principal or interest and still accruing, were $1.8 million and $4.5 million at December 31, 2023 and 2022, respectively, a decrease of $2.7 million, or 60%. Loans that we have classified as nonperforming are a result of customer specific deterioration, mostly financial in nature, that are not a result of economic, industry, or environmental causes that we might see as a pattern for possible future losses within our loan portfolio. For each of our criticized assets, we conduct an impairment analysis to determine the level of additional or specific reserves required for any portion of the loan that may result in a loss. As a result of the analysis completed, we had specific reserves totaling $676 thousand and $86 thousand at December 31, 2023 and 2022, respectively. Our ratio of nonperforming loans to total assets was 0.08% and 0.19% at December 31, 2023 and 2022, respectively. We had no other real estate owned and there were $3.5 million in loan modifications for borrowers who were experiencing financial difficulty during the year ended December 31, 2023.
We categorize loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, collateral adequacy, credit documentation, and current economic trends, among other factors. We analyze loans individually by classifying the loans as to credit risk. This analysis includes larger, non-homogeneous loans such as commercial real estate and commercial and industrial loans. This analysis is performed on an ongoing basis as new information is obtained. At December 31, 2023, we had $6.2 million in loans identified as special mention, a decrease of $4.2 million from December 31, 2022. Special mention rated loans have a potential weakness that deserves our close attention; however, the borrower continues to pay in accordance with their contractual terms, unless modified and disclosed. The decrease from December 31, 2022 was driven by $9.3 million of loans being upgraded or paid off, offset by three additional loans identified as special mention. Loans rated as special mention do not have a specific reserve and are considered well-secured.
At December 31, 2023, we had $22.5 million in loans identified as substandard, an increase of $18.4 million from December 31, 2022. Substandard rated loans are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. For each of these substandard loans, a liquidation analysis is completed. The increase from December 31, 2022 was primarily related to one owner-occupied commercial loan totaling $20.0 million, which was downgraded due to concerns regarding the financial condition of this borrower's parent company. This loan is current and paying as agreed to with no modifications in terms since its origination. No impairment was indicated as a result of the liquidation analysis completed as the loan was and continues to be well-collateralized. At December 31, 2023, specific reserves totaling $676 thousand were allocated within the allowance for credit losses to supplement any shortfall of collateral for the additional $2.5 million in substandard loans.
We recorded annualized net charge-offs (recoveries) of 0.02% and 0.03% for the years ended December 31, 2023 and 2022, respectively. The following tables provide additional information on our asset quality for the periods presented.
Nonperforming Assets
At December 31, 2023 and 2022
(Dollars in thousands)
2023 2022
Nonperforming assets:
Nonaccrual loans, gross $ 1,689 $ 3,150
Loans contractually past-due 90 days or more and still accruing 140 1,343
Total nonperforming loans (NPLs) $ 1,829 $ 4,493
Total nonperforming assets (NPAs) $ 1,829 $ 4,493
NPLs/Total Assets 0.08 % 0.19 %
NPAs/Total Assets 0.08 % 0.19 %
Allowance for credit losses on loans/NPLs 1,031.77 % 357.00 %
Combined allowance for credit losses/NPLs 1,064.70 % 357.00 %
We are closely and proactively monitoring the effects of recent market activity. As mentioned above, our commercial real estate loan portfolio totaled $1.10 billion, or 60% of total, at both December 31, 2023 and at December 31, 2022. The commercial real estate portfolio, including construction loans, is diversified by asset type and geographic concentration. We manage this portion of the portfolio in a disciplined manner, and have comprehensive policies to monitor, measure and mitigate our loan concentrations within this portfolio segment, including rigorous credit approval, monitoring and administrative practices. Included in commercial real estate are loans secured by office buildings totaling $92.9 million, or 5% of total loans, and retail shopping centers totaling $264.0 million, or 14% of total loans, at December 31, 2023. Multi-family commercial properties totaled $178.6 million, or 10% of total loans, at December 31, 2023. The following table provides further stratification of these asset classes as of December 31, 2023 (dollars in thousands).
Owner Occupied Commercial Real Estate Non-Owner Occupied Commercial Real Estate Construction Total CRE
Asset Class Average Loan-to-Value (1)
Number of Total Loans Bank Owned Principal (2)
Average Loan-to-Value (1)
Number of Total Loans Bank Owned Principal (2)
Top 3 Geographic Concentration Number of Total Loans Bank Owned Principal (2)
Total Bank Owned Principal (2)
% of Total Loans
Office, Class A 70% 6 $7,558 47% 4 $3,776 Counties of Fairfax and Loudoun, Virginia and Montgomery County, Maryland - $- $11,334
Office, Class B 46% 35 13,751 47% 31 61,323 - - 75,074
Office, Class C 52% 7 3,793 41% 8 1,953 1 780 6,526
Subtotal 48 $25,102 43 $67,052 1 $780 $92,934 5%
Retail- Neighborhood/Community Shop - $- 44% 31 $84,627 Prince George's County, Maryland, Fairfax County, Virginia and Washington, D.C. 2 $10,944 95,571
Retail- Restaurant 57% 9 8,183 45% 16 26,931 - - 35,114
Retail- Single Tenant 59% 5 2,001 42% 20 36,255 - - 38,256
Retail- Anchored,Other 71% 1 2,046 53% 12 41,572 - - 43,618
Retail- Grocery-anchored - - 46% 8 50,154 1 1,264 51,418
Subtotal 15 $12,230 87 $239,539 4 $12,208 $263,977 14%
Multi-family, Class A (Market) - $- 27% 1 $- Washington, D.C., Baltimore City, Maryland and Arlington County, Virginia 1 $729 729
Multi-family, Class B (Market) - - 63% 21 78,559 - - 78,559
Multi-family, Class C (Market) - - 57% 57 71,902 2 6,816 78,718
Multi-Family-Affordable Housing - - 53% 10 16,524 1 4,075 20,599
Subtotal 0 $- 89 $166,985 4 $11,620 $178,605 10%
Industrial 52% 43 $70,267 50% 38 $128,238 Prince William County, Virginia, Fairfax County, Virginia and Howard County, Maryland 1 $269 198,774
Warehouse 52% 14 18,761 33% 10 11,557 - - 30,318
Flex 51% 15 18,727 54% 14 56,531 2 - 75,258
Subtotal 72 $107,755 62 $196,326 3 $269 $304,350 17%
Hotels - $- 43% 9 $52,588 1 $6,410 $58,998 3%
Mixed Use 47% 10 6,174 61% 37 68,489 - $- $74,663 4%
Other (including net deferred costs) $61,628 $87,765 $116,711 $266,104 14%
Total commercial real estate and construction loans, net of fees, at December 31, 2023 $212,889 $878,744 $147,998 $1,239,631 68%
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(1).Loan-to-value is determined at origination date against current bank owned principal.
(2).Minimum debt service coverage policy is 1.30x for owner occupied and 1.25x for non-owner occupied at origination.
The loans shown in the above table exhibit strong credit quality, reflecting only one classified delinquency at December 31, 2023. During our assessment of the allowance for credit losses on loans, we addressed the credit risks associated with these portfolio segments and believe that as a result of our conservative underwriting discipline at loan origination and our ongoing loan monitoring procedures, we have appropriately reserved for possible credit concerns in the event of a downturn in economic activity.
At December 31, 2023 and 2022, there were no performing loans considered potential problem loans. Potential problem loans are defined as loans that are not included in the 90 days or more past due, nonaccrual or restructured categories, but for which known information about possible credit problems causes us to be uncertain as to the ability of the borrowers to comply with the present loan repayment terms which may in the future result in disclosure in the past due, nonaccrual or restructured loan categories. We take a conservative approach with respect to risk rating loans in our portfolio. Based upon the status as a potential problem loan, these loans receive heightened scrutiny and ongoing intensive risk management. Additionally, our allowance for credit losses on loans estimation methodology adjusts expected losses to calibrate the likelihood of a default event to occur through the use of risk ratings.
Unexpected changes in economic growth could adversely affect our loan portfolio, including causing increases in delinquencies and default rates, which would adversely impact our charge-offs, allowance for credit losses, and provision for credit losses. Deterioration in real estate values, employment data and household incomes may also result in higher credit losses for us. Also, in the ordinary course of business, we may be subject to a concentration of credit risk to a particular industry, counterparty, borrower or issuer. A deterioration in the financial condition or prospects of a particular industry or a failure or downgrade of, or default by, any particular entity or group of entities could negatively impact our business, perhaps materially, and the systems by which we set limits and monitor the level of our credit exposure to individual entities and industries, may not function as we have anticipated.
See “Critical Accounting Policies” above for more information on our allowance for credit losses methodology.
The following tables present additional information pertaining to the activity in and allocation of the allowance for credit losses on loans by loan type and the percentage of the loan type to the total loan portfolio. The allocation of the allowance for credit losses on loans to a category of loans is not necessarily indicative of future losses or charge-offs, and does not restrict the use of the allowance to any specific category of loans.
Allowance for Credit Losses on Loans
Years Ended December 31, 2023 and 2022
(Dollars in thousands)
2023 2022
Net (charge-offs) recoveries Percentage of net charge-offs to average loans outstanding during the year Net (charge-offs) recoveries Percentage of net charge-offs to average loans outstanding during the year
Commercial real estate $ (53) - % $ - - %
Commercial and industrial (347) (0.02) % (396) (0.02) %
Consumer residential 1 - % 1 - %
Consumer nonresidential 24 - % (23) - %
Total $ (375) (0.02) % $ (418) (0.03) %
Average loans outstanding during the period $ 1,848,308 $ 1,618,077
December 31,
2023 2022
Allowance for credit losses to loans receivable, net of fees 1.03 % 0.87 %
Combined allowance for credit losses to loans receivable, net of fees 1.06 % 0.87 %
Allocation of the Allowance for Credit Losses on Loans
At December 31, 2023 and 2022
(Dollars in thousands)
2023 2022
Allocation % of Total*
Allocation % of Total*
Commercial real estate $ 10,174 59.88 % $ 10,777 59.77 %
Commercial and industrial 3,385 12.07 % 2,623 13.32 %
Commercial construction 1,425 8.13 % 1,499 8.04 %
Consumer residential 3,822 19.61 % 1,044 18.45 %
Consumer nonresidential 65 0.31 % 97 0.42 %
Total allowance for credit losses $ 18,871 100.00 % $ 16,040 100.00 %
___________________
*Percentage of loan type to the total loan portfolio.
Investment Securities
Our investment securities portfolio is used as a source of income and liquidity. The investment portfolio consists of investment securities available-for-sale and investment securities held-to-maturity. Investment securities available-for-sale are those securities that we intend to hold for an indefinite period of time, but not necessarily until maturity. These securities are carried at fair value and may be sold as part of an asset/liability strategy, liquidity management or regulatory capital management. Investment securities held-to-maturity at each of December 31, 2023 and 2022 totaled $264 thousand, and are those securities that we have the intent and ability to hold to maturity and are carried at amortized cost. The fair value of our investment securities available-for-sale was $171.6 million at December 31, 2023, a decrease of $106.5 million, or 38%, from $278.1 million at December 31, 2022, primarily as a result of the $102.5 million of book value available-for-sale investment securities sold during the year.
As of December 31, 2023 and 2022, the majority of the investment securities portfolio consisted of securities rated AAA by a leading rating agency. Investment securities which carry a AAA rating are judged to be of the best quality and carry the smallest degree of investment risk. All of our mortgage-backed securities are guaranteed by either the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, or the Government National Mortgage Association. The effective duration of the investment securities portfolio continues to be slightly over five years, which is within the industry average. Investment securities that were pledged to secure public deposits totaled $7.2 million and $104.6 million at December 31, 2023 and 2022, respectively.
In accordance with ASC 326, we complete periodic assessments on at least a quarterly basis to determine if credit deterioration exists within our investment securities portfolio and if an allowance for credit losses would be required as of a valuation date. For additional details related to management's assessment process, see the “Critical Accounting Policies” section above. As a result of the assessment performed as of December 31, 2023, the investment securities with unrealized losses are a result of pricing changes due to recent rising interest rate conditions in the current market environment and not as a result of credit deterioration. Contractual cash flows for agency-backed portfolios are guaranteed and funded by the U.S. government. Municipal securities have third party protective elements and there are no negative indications that the contractual cash flows will not be received when due. We do not intend to sell nor do we believe we will be required to sell any of our investment securities portfolio prior to the recovery of the amortized cost as of the valuation date. As such, no impairment was recognized in our investment securities portfolio as of December 31, 2023.
We hold restricted investments in equities of the FRB and FHLB. At December 31, 2023, we owned $3.6 million in FRB stock and $5.8 million in FHLB stock. At December 31, 2022, we owned $4.4 million in FRB stock and $11.1 million in FHLB stock.
The following table presents the weighted average yields of our investment portfolio for each of the maturity ranges at December 31, 2023 and 2022.
Investment Securities by Stated Yields
At December 31, 2023 and 2022
(Dollars in thousands)
Within One Year One to Five Years Five to Ten Years Over Ten Years Total
Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield
Held-to-maturity
Securities of state and local municipalities tax exempt - % 2.32 % - % - % 2.32 %
Total held-to-maturity securities - % 2.32 % - % - % 2.32 %
Available-for-sale
Securities of U.S. government and federal agencies - % - % 1.59 % - % 1.59 %
Securities of state and local municipalities 3.00 % - % - % 2.92 % 2.98 %
Corporate bonds - % 10.35 % 4.09 % - % 4.40 %
Mortgaged-backed securities - % 2.11 % 3.22 % 1.60 % 1.61 %
Total available-for-sale securities 3.00 % 9.52 % 3.23 % 1.60 % 1.89 %
Total investment securities 3.00 % 8.13 % 3.23 % 1.60 % 1.89 %
Within One Year One to Five Years Five to Ten Years Over Ten Years Total
Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield Weighted
Average
Yield
Held-to-maturity
Securities of state and local municipalities tax exempt - 2.32 - % - 2.32 %
Total held-to-maturity securities - 2.32 - % - 2.32 %
Available-for-sale
Securities of U.S. government and federal agencies - - 1.49 % - 1.49 %
Securities of state and local municipalities - 2.25 % - 2.92 % 2.43 %
Corporate bonds - 6.02 % 4.09 % - 4.27 %
Mortgaged-backed securities - 2.09 2.48 % 1.57 % 1.62 %
Total available-for-sale securities - 3.73 % 2.84 % 1.57 % 1.79 %
Total investment securities - 3.65 % 2.51 % 1.57 % 1.79 %
Deposits and Other Borrowed Funds
The following table sets forth the average balances of deposits and the percentage of each category to total average deposits for the years ended December 31, 2023 and 2022:
Average Deposit Balance
Years Ended December 31, 2023 and 2022
(Dollars in thousands) 2023 2022
Noninterest-bearing demand $ 425,914 22.24 % $ 501,962 27.77 %
Interest-bearing deposits
Interest checking 581,655 30.37 % 724,881 40.10 %
Savings and money markets 254,721 13.30 % 315,653 17.46 %
Certificate of deposits, $100,000 to $249,999 106,865 5.58 % 51,490 2.85 %
Certificate of deposits, $250,000 or more 242,405 12.66 % 152,229 8.42 %
Other time deposits 303,472 15.85 % 61,478 3.39 %
Total $ 1,915,032 100.00 % $ 1,807,693 100.00 %
Total deposits increased $15.1 million, or 1%, to $1.85 billion at December 31, 2023 from $1.83 billion at December 31, 2022. Noninterest-bearing deposits were $396.7 million at December 31, 2023, or 21% of total deposits. At December 31, 2023, core deposits, which exclude wholesale deposits, increased $17.9 million from December 31, 2022, or 1%. Time deposits (which exclude wholesale deposits) increased $45.9 million, or 18%, to $306.3 million at December 31, 2023 from December 31, 2022, and were 19% of core deposits, representing new and existing customer deposits as customers were looking to fix interest rates on their deposit balances.
Wholesale deposits were $245.3 million at December 31, 2023 compared to $248.0 million at December 31, 2022, a decrease of $2.7 million, or 1%. Wholesale deposits are partially fixed at a weighted average rate of 3.77% as we have executed $165.0 million in pay-fixed/receive-floating interest rate swaps to reduce funding costs. In addition, we are a member of the IntraFi Network (“IntraFi”), which gives us the ability to offer Certificates of Deposit Account Registry Service (“CDARS”) and Insured Cash Sweep (“ICS”) products to our customers who seek to maximize FDIC insurance protection. When a customer places a large deposit with us for IntraFi, funds are placed into certificates of deposit or other deposit products with other banks in the CDARS and ICS networks in increments of less than $250 thousand so that principal and interest are eligible for FDIC insurance protection. These deposits are part of our core deposit base. At December 31, 2023 and 2022, we had $254.1 million and $117.6 million, respectively, in either CDARS reciprocal or ICS reciprocal products.
As of December 31, 2023 and 2022, the estimated amount of total uninsured deposits (excluding collateralized deposits) was $574.6 million, or 31.1%, and $727.3 million, or 39.7%, of total deposits, respectively. The estimate of uninsured deposits generally represents the portion of deposit accounts that exceed the FDIC insurance limit of $250,000 and is calculated based on the same methodologies and assumptions used for purposes of the Bank's regulatory reporting requirements.
The following table reports maturities of the estimated amount of uninsured certificates of deposit at December 31, 2023.
Certificates of Deposit Greater than $250,000
At December 31, 2023
(Dollars in thousands)
Three months or less $ 46,571
Over three months through six months 35,475
Over six months through twelve months 30,984
Over twelve months 51,681
$ 164,711
Other borrowed funds, which include federal funds purchased, FHLB advances, and our subordinated notes, were $104.6 million at December 31, 2023, and $284.6 million at December 31, 2022. For December 31, 2023 and 2022, we had $85.0 million and $235.0 million, respectively, in FHLB advances. The decrease in FHLB advances was primarily a result of the aforementioned paydown from the proceeds of the sale of available-for-sale investment securities during 2023. These FHLB advances are fixed at a weighted average rate of 3.21% as we have executed $85.0 million in pay-fixed/receive-floating interest rate swaps to reduce funding costs. Subordinated debt, net of unamortized issuance costs, totaled $19.6 million at each of December 31, 2023 and 2022. For December 31, 2023 and 2022, we had $0 and $30.0 million federal funds purchased, respectively.
Capital Resources
Capital adequacy is an important measure of financial stability and performance. Our objectives are to maintain a level of capitalization that is sufficient to sustain asset growth and promote depositor and investor confidence.
Regulatory agencies measure capital adequacy utilizing a formula that takes into account the individual risk profile of the financial institution. The minimum capital requirements for the Bank are: (i) a CET1, capital ratio of 4.5%; (ii) a Tier 1 to risk-based assets capital ratio of 6%; (iii) a total risk based capital ratio of 8%; and (iv) a Tier 1 leverage ratio of 4%. Additionally, a capital conservation buffer requirement of 2.5% of risk-weighted assets is designed to absorb losses during periods of economic stress and is applicable to the Bank’s CET1 capital, Tier 1 capital and total capital ratios. Including the conservation buffer, we currently consider the Bank’s minimum capital ratios to be as follows: 7.00% for CET1; 8.50% for Tier 1 capital; and 10.50% for Total capital. Banking institutions with a ratio of common equity Tier 1 to risk-weighted assets above the minimum but below the minimum plus the conservation buffer will face constraints on dividends, equity repurchases, and compensation.
On January 1, 2020, the federal banking agencies adopted a “Community Bank Leverage Ratio", which is calculated by dividing tangible equity capital by average consolidated total assets. If a “qualified community bank,” generally a depository institution or depository institution holding company with consolidated assets of less than $10.00 billion, opts into the CBLR framework and has a leverage ratio that exceeds the CBLR threshold, which was initially set at 9%, then such bank will be considered to have met all generally applicable leverage and risk based capital requirements under Basel III, the capital ratio requirements for “well capitalized” status under Section 38 of the Federal Deposit Insurance Act, and any other leverage or capital requirements to which it is subject. A bank or holding company may be excluded from qualifying community bank status based on its risk profile, including consideration of its off-balance sheet exposures; trading assets and liabilities; total notional derivatives exposures; and such other facts as the appropriate federal banking agencies determine to be appropriate. At January 1, 2020, we qualified and adopted this simplified capital structure. Effective September 30, 2022, we opted out of the CBLR framework. A banking organization that opts out of the CBLR framework can subsequently opt back into the CBLR framework if it meets the criteria listed above. We believe that the Bank met all capital adequacy requirements to which it was subject as of December 31, 2023 and 2022.
Stockholders' equity at December 31, 2023 was $217.1 million, an increase of $14.7 million, compared to $202.4 million at December 31, 2022. The increase in stockholders' equity was attributable to a decrease in accumulated other comprehensive loss of $12.4 million, which was primarily related to the sale of available-for-sale investment securities and an improvement in the market value of the investment securities portfolio, and net income recorded for the year ended
December 31, 2023 totaling $3.8 million. Retained earnings decreased $2.8 million primarily as a result of the adoption of CECL on January 1, 2023.
Total stockholders' equity to total assets for December 31, 2023 and 2022 was 9.9% and 8.6%, respectively. Tangible book value per share (a non-GAAP financial measure which is defined in the table below) at December 31, 2023 and 2022 was $11.77 and $11.14, respectively.
As noted above, regulatory capital levels for the bank meets those established for "well capitalized" institutions. While we are currently considered "well capitalized," we may from time to time find it necessary to access the capital markets to meet our growth objectives or capitalize on specific business opportunities.
As the Company is a bank holding company with less than $3.00 billion in assets, and which does not (i) conduct significant off balance sheet activities, (ii) engage in significant non-banking activities, or (iii) have a material amount of securities registered under the Securities Exchange Act of 1934 (the “Exchange Act”), it is not currently subject to risk-based capital requirements adopted by the Federal Reserve, pursuant to the small bank holding company policy statement. The Federal Reserve has not historically deemed a bank holding company ineligible for application of the small bank holding company policy statement solely because its common stock is registered under the Exchange Act. There can be no assurance that the Federal Reserve will continue this practice.
The following tables shows the minimum capital requirement and our capital position at December 31, 2023 and 2022 for the Bank.
Bank Capital Components
At December 31, 2023 and 2022
(Dollars in thousands)
Actual Minimum Capital Requirement (1)
Minimum to be Well Capitalized Under Prompt Corrective Action
Amount Ratio Amount Ratio
Amount Ratio
At December 31, 2023
Total risk-based capital $ 261,403 13.83 % $ 198,413 > 10.50 % $ 188,965 > 10.00 %
Tier 1 risk-based capital 241,930 12.80 % 160,620 > 8.50 % 151,172 > 8.00 %
Common equity tier 1 capital 241,930 12.80 % 132,275 > 7.00 % 122,827 > 6.50 %
Leverage capital ratio 241,930 10.77 % 89,842 > 4.00 % 112,302 > 5.00 %
At December 31, 2022
Total risk-based capital $ 256,898 13.28 % $ 203,113 > 10.50 % $ 193,441 > 10.00 %
Tier 1 risk-based capital 240,858 12.45 % 164,425 > 8.50 % 154,753 > 8.00 %
Common equity tier 1 capital 240,858 12.45 % 135,409 > 7.00 % 125,737 > 6.50 %
Leverage capital ratio 240,858 10.75 % 87,894 > 4.00 % 109,867 > 5.00 %
________________________
(1).Includes capital conservation buffer.
Reconciliation of Book Value (GAAP) to Tangible Book Value (non-GAAP)
At December 31, 2023 and 2022
(Dollars in thousands, except per share data)
2023 2022
Total stockholders' equity (GAAP) $ 217,117 $ 202,382
Less: goodwill and intangibles, net (7,585) (7,790)
Tangible Common Equity (non-GAAP) $ 209,532 $ 194,592
Book value per common share (GAAP) $ 12.19 $ 11.58
Less: intangible book value per common share (0.42) (0.44)
Tangible book value per common share (non-GAAP) $ 11.77 $ 11.14
Liquidity
Liquidity in the banking industry is defined as the ability to meet the demand for funds of both depositors and borrowers. We must be able to meet these needs by obtaining funding from depositors or other lenders or by converting non-cash items into cash. The objective of our liquidity management program is to ensure that we always have sufficient resources to meet the demands of our depositors and borrowers. Stable core deposits and a strong capital position provide the base for our liquidity position. We believe we have demonstrated our ability to attract deposits because of our convenient branch locations, personal service, technology and pricing. As of December 31, 2023, estimated uninsured deposits (excluding collateralized deposits) for the Bank improved to 31.1% of total deposits from 39.7% at December 31, 2022.
In addition to deposits, we have access to the various wholesale funding markets. These markets include the brokered certificate of deposit market and the federal funds market. We are a member of the IntraFi Network, which allows banking customers to access FDIC insurance protection on deposits through our Bank which exceed FDIC insurance limits. As part of our membership with the IntraFi Network, we have one-way authority for both their CDARs and ICS products which provides the Bank the ability to access additional wholesale funding as needed. We also maintain secured lines of credit with the FRB and the FHLB for which we can borrow up to the allowable amount for the collateral pledged. Having diverse funding alternatives reduces our reliance on any one source for funding.
Cash flow from amortizing assets or maturing assets also provides funding to meet the needs of depositors and borrowers.
We have established a formal liquidity contingency plan which establishes a liquidity management team and provides guidelines for liquidity management. For our liquidity management program, we first determine our current liquidity position and then forecast liquidity based on anticipated changes in the balance sheet. In this forecast, we expect to maintain a liquidity cushion. We also stress test our liquidity position under several different stress scenarios, from moderate to severe. Guidelines for the forecasted liquidity cushion and for liquidity cushions for each stress scenario have been established. We believe that we have sufficient resources to meet our liquidity needs.
Our primary and secondary sources of liquidity remain strong. Liquid assets, which include cash and due from banks, federal funds sold and investment securities available for sale, totaled $232.1 million at December 31, 2023, or 11% of total assets, a decrease from $359.6 million, or 15%, at December 31, 2022. As of December 31, 2023 and 2022, $9.4 million and $104.6 million, respectively, in investment securities available for sale were pledged as collateral for municipal deposits. To maintain ready access to the Bank’s secured lines of credit, the Bank has pledged a portion of its commercial real estate and residential real estate loan portfolios to the FHLB and FRB. Additional borrowing capacity at the FHLB at December 31, 2023 was approximately $401.6 million. Borrowing capacity with the FRB was approximately $118.5 million at December 31, 2023. We also have unsecured federal funds purchased lines of $185.0 million available to us, of which none were used at December 31, 2023. We anticipate maintaining liquidity at a level sufficient to protect depositors, provide for reasonable growth and fully comply with all regulatory requirements. As of December 31, 2023, our liquidity position was significantly in excess of our estimated uninsured deposits of 31.1% of total deposits.
Liquidity is essential to our business. Our liquidity could be impaired by an inability to access the capital markets or by unforeseen outflows of cash, including deposits. This situation may arise due to circumstances that we may be unable
to control, such as general market disruption, negative views about the financial services industry generally, or an operational problem that affects a third party or us. Our ability to borrow from other financial institutions on favorable terms or at all could be adversely affected by disruptions in the capital markets or other events. While we believe we have a healthy liquidity position and do not anticipate the loss of deposits of any of the significant deposit customers, any of the factors discussed above could materially impact our liquidity position in the future.
Financial Instruments with Off-Balance-Sheet Risk and Credit Risk
We are a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet.
The Bank’s maximum exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. We evaluate each customer’s credit worthiness on a case-by-case basis and require collateral to support financial instruments when deemed necessary. The amount of collateral obtained upon extension of credit is based on our evaluation of the counterparty. Collateral held varies but may include deposits held by us, marketable securities, accounts receivable, inventory, property, plant and equipment, and income-producing commercial properties.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates up to one year or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. These instruments represent obligations to extend credit or guarantee borrowings and are not recorded on the consolidated statements of financial condition. The rates and terms of these instruments are competitive with others in the market in which we do business.
Unfunded commitments under lines of credit are commitments for possible future extensions of credit to existing customers. Those lines of credit may not be drawn upon to the total extent to which we have committed.
Standby letters of credit are conditional commitments we issued to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. We hold certificates of deposit, deposit accounts, and real estate as collateral supporting those commitments for which collateral is deemed necessary.
With the exception of these off-balance sheet arrangements, we do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, results of operations, changes in financial condition, revenue, expenses, capital expenditures, or capital resources, that is material to our business.
At December 31, 2023 and 2022, unused commitments to fund loans and lines of credit totaled $215.9 million and $235.6 million, respectively. Commercial and standby letters of credit totaled $26.0 million and $6.5 million at December 31, 2023 and 2022, respectively.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Not required.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Item 8. Financial Statements and Supplementary Data
FVCBankcorp, Inc. and Subsidiary
Fairfax, Virginia
CONSOLIDATED FINANCIAL REPORT
December 31, 2023
CONTENTS
Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated statements of condition
Consolidated statements of income
Consolidated statements of comprehensive income (loss)
Consolidated statements of cash flows
Consolidated statements of changes in stockholders' equity
Notes to consolidated financial statements
68 - 105
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and the Board of Directors
FVCBankcorp, Inc.
Fairfax, Virginia
Opinion on the Financial Statements
We have audited the accompanying consolidated statements of condition of FVCBankcorp, Inc. and its subsidiary (the Company) as of December 31, 2023 and 2022, the related consolidated statements of income, comprehensive income (loss), cash flows and changes in stockholders’ equity for the years then ended, and the related notes to the consolidated financial statements (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2023 and 2022, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.
Adoption of New Accounting Standard
As discussed in Notes 1 and 3 to the consolidated financial statements, the Company changed its method of accounting for the allowance for credit losses effective January 1, 2023, due to the adoption of Accounting Standards Update 2016-13, Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments, including all related amendments.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical
audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Allowance for Credit Losses - Loans Collectively Evaluated for Credit Losses
As further described in Notes 1 and 3 to the consolidated financial statements, the Company changed its method of accounting for credit losses on January 1, 2023, due to the adoption of Accounting Standards Update 2016-13, Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments, as amended. The allowance for credit losses on loans (ACLL) is a valuation allowance that represents management’s best estimate of expected credit losses on loans measured at amortized cost considering available information, from internal and external sources, relevant to assessing collectability over the loans’ contractual terms. Loans which share common risk characteristics are pooled and collectively evaluated by the Company using historical data, as well as assessments of current conditions and reasonable and supportable forecasts of future conditions. The Company’s ACLL related to collectively evaluated loans represented $18.2 million of the total recorded ACLL of $18.9 million as of December 31, 2023. The collectively evaluated ACLL consists of quantitative and qualitative components.
The quantitative component consists of loss estimates derived from probability of default-loss given default calculation using peer loss data adjusted for forecasts of future conditions over a reasonable and supportable period, which is then applied to projected loan cash flows. These estimates consider large amounts of data in tabulating loss and prepayment rates and require complex calculations as well as management judgment in the selection of appropriate inputs.
In addition to the quantitative component, the collectively evaluated ACLL also includes a qualitative component which aggregates management’s assessment of available information relevant to assessing collectability that is not captured in the quantitative loss estimation process. Factors considered by management in developing its qualitative estimates include changes and expected changes in the nature and volume of the loan portfolio and the existence, growth, and effect of any concentrations of credit. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.
Management exercised significant judgment when estimating the ACLL on collectively evaluated loans. We identified the estimation of the collectively evaluated ACLL as a critical audit matter as auditing the collectively evaluated ACLL involved especially complex and subjective auditor judgment in evaluating management’s assessment of the inherently subjective estimates.
The primary audit procedures we performed to address this critical audit matter included:
•Substantively testing management’s process for measuring the collectively evaluated ACLL, including:
•Evaluating conceptual soundness, assumptions, and key data inputs of the Company’s loss rate methodology, including the identification of loan segments, the calculation of loss rate inputs, and the calculation of prepayment rate inputs for each segment.
•Evaluating the methodology and testing the reasonableness of incorporating reasonable and supportable forecasts in the collectively evaluated ACLL estimate.
•Evaluating the completeness and accuracy of data inputs used as a basis for the qualitative factors.
•Evaluating the qualitative factors for directional consistency in comparison to prior periods and for reasonableness in comparison to underlying supporting data
•Testing the mathematical accuracy of the ACLL for collectively evaluated loans including both the probability of default-loss given default calculation applied to projected loan cash flows and qualitative factor components of the calculations.
/s/ YOUNT, HYDE & BARBOUR, P.C.
We have served as the Company's auditor since 2007.
Winchester, Virginia
March 21, 2024
FVCBankcorp, Inc. and Subsidiary
Consolidated Statements of Condition
December 31, 2023 and 2022
(In thousands, except share data)
2023 2022
Assets
Cash and due from banks $ 8,042 $ 7,253
Interest-bearing deposits at other financial institutions 52,480 74,300
Securities held-to-maturity (fair value of $252 thousand and $252 thousand for December 31, 2023 and 2022), net of allowance for credit losses of $0 and $0 at December 31, 2023 and 2022
264 264
Securities available-for-sale, at fair value 171,595 278,069
Restricted stock, at cost 9,488 15,612
Loans, net of allowance for credit losses of $18.9 million and $16.0 million at December 31, 2023 and 2022, respectively
1,809,693 1,824,394
Premises and equipment, net 997 1,220
Accrued interest receivable 10,321 9,435
Prepaid expenses 3,506 3,273
Deferred tax assets, net 14,823 18,533
Goodwill and intangibles, net 7,585 7,790
Bank owned life insurance (BOLI) 56,823 55,371
Operating lease right-of-use assets 8,395 9,680
Other assets 36,546 39,128
Total assets $ 2,190,558 $ 2,344,322
Liabilities and Stockholders' Equity
Liabilities
Deposits:
Noninterest-bearing $ 396,724 $ 438,269
Interest-bearing checking, savings and money market 896,969 883,480
Time deposits 551,599 508,413
Total deposits $ 1,845,292 $ 1,830,162
Federal funds purchased $ - $ 30,000
Federal Home Loan Bank ("FHLB") advances 85,000 235,000
Subordinated notes, net of issuance costs 19,620 19,565
Accrued interest payable 2,415 1,269
Operating lease liabilities 9,241 10,394
Reserves for unfunded commitments 602 -
Accrued expenses and other liabilities 11,271 15,550
Total liabilities $ 1,973,441 $ 2,141,940
Commitments and Contingent Liabilities
Stockholders' Equity 2023 2022
Preferred stock, $0.01 par value
Shares authorized 1,000,000 1,000,000
Shares issued and outstanding - -
Common stock, $0.01 par value
Shares authorized 20,000,000 20,000,000
Shares issued and outstanding 17,806,995 17,475,109 $ 178 $ 175
Additional paid-in capital 125,209 123,886
Retained earnings 115,890 114,888
Accumulated other comprehensive (loss), net (24,160) (36,567)
Total stockholders' equity $ 217,117 $ 202,382
Total liabilities and stockholders' equity $ 2,190,558 $ 2,344,322
See Notes to Consolidated Financial Statements.
FVCBankcorp, Inc. and Subsidiary
Consolidated Statements of Income
For the years ended December 31, 2023 and 2022
(In thousands, except per share data)
2023 2022
Interest and Dividend Income
Interest and fees on loans $ 98,373 $ 73,624
Interest and dividends on securities held-to-maturity 6 6
Interest and dividends on securities available-for-sale 4,949 5,959
Dividends on restricted stock 646 408
Interest on deposits at other financial institutions 2,641 685
Total interest and dividend income $ 106,615 $ 80,682
Interest Expense
Interest on deposits $ 47,345 $ 12,468
Interest on federal funds purchased 11 688
Interest on short-term debt 3,833 1,251
Interest on subordinated notes 1,030 1,031
Total interest expense $ 52,219 $ 15,438
Net Interest Income $ 54,396 $ 65,244
Provision for credit losses 132 2,629
Net interest income after provision for credit losses $ 54,264 $ 62,615
Noninterest Income
Service charges on deposit accounts $ 1,028 $ 954
BOLI income 1,452 1,200
(Loss) from minority membership interest (1,110) (33)
Loss on sale of securities available-for-sale (15,577) -
Other income 837 713
Total noninterest income (loss) $ (13,370) $ 2,834
Noninterest Expenses
Salaries and employee benefits $ 20,643 $ 20,316
Occupancy and equipment expense 2,357 2,190
Internet banking and software expense 2,505 1,707
Data processing and network administration 2,468 2,303
State franchise taxes 2,338 2,036
Audit, legal and consulting fees 858 1,210
Merger and acquisition expense - 125
Loan related (benefit)/expenses (10) 555
FDIC insurance 1,433 620
Director fees 660 668
Core deposit intangible amortization 205 262
Office space reduction costs 273 -
Tax credit amortization 126 126
Other operating expenses 2,806 2,342
Total noninterest expenses $ 36,662 $ 34,460
Net income before income tax expense $ 4,232 $ 30,989
Income tax expense 410 6,005
Net income $ 3,822 $ 24,984
Earnings per share, basic $ 0.22 $ 1.43
Earnings per share, diluted $ 0.21 $ 1.35
See Notes to Consolidated Financial Statements.
FVCBankcorp, Inc. and Subsidiary
Consolidated Statements of Comprehensive Income (Loss)
For the years ended December 31, 2023 and 2022
(In thousands)
2023 2022
Net income $ 3,822 $ 24,984
Other comprehensive income (loss):
Unrealized gain (loss) on securities available for sale, net of tax expense of $0.4 million and net of tax benefit of $11.0 million in 2023 and 2022, respectively.
1,300 (37,943)
Unrealized (loss) gain on interest rate swaps, net of tax benefit of $0.3 million and net of tax expense of $0.9 million in 2023 and 2022, respectively.
(1,043) 3,419
Reclassification adjustment for securities losses realized in income, net of tax expense of $3.4 million and $0 for 2023 and 2022, respectively.
12,150 -
Total other comprehensive income (loss) $ 12,407 $ (34,524)
Total comprehensive (loss) income $ 16,229 $ (9,540)
See Notes to Consolidated Financial Statements.
FVCBankcorp, Inc. and Subsidiary
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2023 and 2022
(In thousands)
2023 2022
Cash Flows From Operating Activities
Net income $ 3,822 $ 24,984
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 390 424
Provision for credit losses 132 2,629
Net amortization of premium of securities 593 607
Net accretion of deferred loan costs and fees (1,855) (2,255)
Net accretion of acquisition accounting adjustments (421) (315)
Loss on sale of available-for-sale investment securities 15,577 -
Office space reduction costs 273 -
Loss from minority membership interest 1,110 33
Amortization of subordinated debt issuance costs 55 55
Core deposits intangible amortization 205 262
Tax credits amortization 126 126
Equity-based compensation expense 1,143 1,183
BOLI income (1,452) (1,200)
Deferred income tax expense 934 395
Changes in assets and liabilities:
Decrease in accrued interest receivable, prepaid expenses and other assets (16) (9,094)
Increase (decrease) in accrued interest payable, accrued expenses and other liabilities (4,347) 4,558
Net cash provided by operating activities $ 16,269 $ 22,392
Cash Flows From Investing Activities
(Increase) decrease in interest-bearing deposits at other financial institutions $ 21,820 $ 142,045
Purchases of securities available-for-sale - (47,160)
Proceeds from sales of securities available-for-sale 86,922 -
Proceeds from redemptions of securities available-for-sale 20,795 37,076
Net redemption (purchase) of restricted stock 6,124 (9,240)
Net increase (decrease) in loans
13,777 (334,426)
Purchase of bank-owned life insurance - (15,000)
Distribution received from minority owned investment - 1,040
Purchases of premises and equipment, net (212) (166)
Net cash provided by (used in) investing activities $ 149,226 $ (225,831)
Cash Flows From Financing Activities
Net (decrease) increase in noninterest-bearing, interest-bearing checking, savings, and money market deposits $ (28,056) $ (330,603)
Net increase (decrease) in time deposits 43,179 276,989
Redemption of subordinated debt, net - (1,250)
(Decrease) increase in federal funds purchased (30,000) 30,000
Net (decrease) increase in FHLB advances (150,000) 210,000
Repurchase of shares of common stock (1,460) (730)
Taxes from vesting of restricted stock units (113) -
Common stock issuance 1,744 1,673
Net cash (used in) provided by financing activities $ (164,706) $ 186,079
Net increase (decrease) in cash and cash equivalents $ 789 $ (17,360)
Cash and cash equivalents, beginning of year 7,253 24,613
Cash and cash equivalents, end of year $ 8,042 $ 7,253
See Notes to Consolidated Financial Statements.
FVCBankcorp, Inc. and Subsidiary
Consolidated Statements of Changes in Stockholders' Equity
For the years ended December 31, 2023 and 2022
(In thousands)
Shares Common
Stock Additional
Paid-in
Capital Retained
Earnings Accumulated
Other
Comprehensive
Income (Loss) Total
Balance at December 31, 2021
13,727 $ 137 $ 121,798 $ 89,904 $ (2,043) $ 209,796
Net income - - - 24,984 - 24,984
Other comprehensive loss - - - - (34,524) (34,524)
Repurchase of common stock (37) - (730) - - (730)
Common stock issuance for options exercised 242 3 1,670 - - 1,673
Vesting of restricted stock grants 48 - - - - -
5-for-4 stock split 3,495 35 (35) - - -
Stock-based compensation expense - - 1,183 - - 1,183
Balance at December 31, 2022
17,475 $ 175 $ 123,886 $ 114,888 $ (36,567) $ 202,382
Net income - - - 3,822 - 3,822
Impact of adoption of ASU 2016-13 - - - (2,808) - (2,808)
Other comprehensive income - - - - 12,407 12,407
Repurchase of common stock (116) (1) (1,447) (12) - (1,460)
Common stock issuance for options exercised, net 364 4 1,740 - - 1,744
Vesting of restricted stock grants 84 - (113) - - (113)
Stock-based compensation expense - - 1,143 - - 1,143
Balance at December 31, 2023
17,807 $ 178 $ 125,209 $ 115,890 $ (24,160) $ 217,117
See Notes to Consolidated Financial Statements.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Note 1. Organization and Summary of Significant Accounting Policies
Organization
FVCBankcorp, Inc. (the "Company"), a Virginia corporation, was formed in 2015 and is registered as a bank holding company under the Bank Holding Company Act of 1956, as amended. The Company is headquartered in Fairfax, Virginia. The Company conducts its business activities through the branch offices of its wholly owned subsidiary bank, FVCbank (the "Bank"). The Company exists primarily for the purposes of holding the stock of its subsidiary, the Bank.
The Bank was organized under the laws of the Commonwealth of Virginia to engage in a general banking business serving the Washington, D.C. and Baltimore metropolitan areas. The Bank commenced operations on November 27, 2007 and is a member of the Federal Reserve System (the "Federal Reserve"). It is subject to the regulations of the Board of Governors of the Federal Reserve and the State Corporation Commission of Virginia. Consequently, it undergoes periodic examinations by these regulatory authorities.
On August 31, 2021, the Bank made an investment in Atlantic Coast Mortgage, LLC ("ACM") for $20.4 million. As a result of this investment, the Bank obtained a 28.7% ownership interest in ACM. The investment is accounted for using the equity method of accounting. In addition, the Bank provides a warehouse lending facility to ACM, which includes a construction-to-permanant financing line, and has developed portfolio mortgage products to diversify the Bank's held to investment loan portfolio.
On December 15, 2022, the Company announced that the Board of Directors approved a five-for-four split of the Company's common stock in the form of a 25% stock dividend for shareholders of record on January 9, 2023, payable on January 31, 2023. Earnings per share and all other per share information reflected in the Company's consolidated financial statements have been adjusted for the five-for-four split of the Company's common stock for comparative purposes.
Summary of Significant Accounting Policies
The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States of America ("GAAP") and conform to general practices within the banking industry.
(a) Principles of Consolidation
The consolidated financial statements include the accounts of the Company. All material intercompany balances and transactions have been eliminated in consolidation.
(b) Use of Estimates
In preparing consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make estimates, judgments, and assumptions that affect the reported amounts of assets and liabilities, and disclosures of contingent assets and contingent liabilities, as of the date of the consolidated financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to accounting for impairment testing of goodwill, the allowance for credit losses - loans, the allowance for credit losses - securities, and the valuation of deferred tax assets.
(c) Accounting for Business Combinations
Business combinations are accounted for under the acquisition method. The acquisition method requires that the assets acquired and liabilities assumed be recorded, based on their estimated fair values at the date of acquisition. The excess of the cost of an acquired entity over the net of the amounts assigned to assets acquired and liabilities assumed, including identifiable intangibles, is recorded as goodwill.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
(d) Cash and Cash Equivalents
For purposes of the statements of cash flows, cash and cash equivalents include cash on hand, amounts due from banks and federal funds sold. Generally, federal funds are purchased and sold for one day periods.
(e) Investment Securities
Debt securities are classified as held-to-maturity and carried at amortized cost when management has the positive intent and ability to hold them to maturity. Debt securities are classified as available-for-sale when they might be sold before maturity. Securities available-for-sale are carried at fair value, with unrealized holding gains and losses reported in other comprehensive (loss) income, net of tax. Equity securities are carried at fair value, with changes in fair value reported in net income. Equity securities without readily determinable fair values are carried at cost, minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment.
An individual debt security is impaired when the fair value of the security is less than its amortized cost. If the Company intends to sell an available-for-sale security in an unrealized loss position or it is more likely than not will be reversed through our provision for credit losses, then the difference between the amortized cost basis of the security and its fair value is recognized in the Company's consolidated statements of income. For impaired debt securities that the Company has both the intent and ability to hold, the securities are evaluated to determine if a credit loss exists. The allowance for credit losses on the investment securities is recognized through our provision for credit losses and limited by the unrealized losses of a security measured as the difference between the security’s amortized cost and fair value.
The Company charges off any portion of an investment security that it determines is uncollectible. The amortized cost basis, excluding accrued interest, is charged off through the allowance for credit losses. Accrued interest is charged off as a reduction to interest income. Recoveries of previously charged off principal amounts are recognized in our provision for credit losses when received.
Interest income and dividends on securities are recognized in interest income on an accrual basis. Premiums and discounts are recognized in interest income using the effective interest method. Prepayments of the mortgages securing mortgage-backed securities may affect the yield to maturity. The Company uses actual principal prepayment experience and estimates of future principal prepayments in calculating the yield necessary to apply the effective interest method.
(f) Loans and Allowance for Credit Losses
Allowance for Credit Losses
The Company adopted the current expected credit loss model ("CECL") under Accounting Standards Update ("ASU") 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” on January 1, 2023. The Company recorded a net reduction of retained earnings of $2.8 million upon adoption. The adoption adjustment included an increase in the allowance for credit losses on loans of $2.9 million in addition to an increase of $800 thousand to the reserve for unfunded commitments.
Allowance for Credit Losses - Loans and Unfunded Commitments
The allowance for credit losses ("ACL") represents an estimate of the expected credit losses in the Company's held for investment loan portfolio as of a valuation date. Accounting Standards Codification ("ASC") 326 replaced the incurred loss impairment model that recognizes losses when it becomes probable that a credit loss will be incurred, with a requirement to recognize lifetime expected credit losses immediately when a financial asset is originated or purchased. The ACL is a valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the held for investment loan portfolio. Loans, or portions thereof, are charged off against the ACL when they are deemed uncollectible. Expected recoveries are recorded to the extent they do not exceed the aggregate of amounts previously charged-off and expected to be charged-off.
Reserves on loans that do not share risk characteristics are evaluated on an individual basis. Nonaccrual loans are specifically reviewed for loss potential and when deemed appropriate are assigned a reserve based on an individual evaluation. The remainder of the portfolio, representing all loans not evaluated individually for impairment, is segmented
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
based on call report code and processed through a cash flow valuation model. In particular, loan-level probability of default ("PD") and severity (also referred to as loss given default ("LGD")) is applied to derive a baseline expected loss as of the valuation date. These expected default and severity rates, which are regression-derived and based on peer historical loan-level performance data, are calibrated to incorporate the Company's reasonable and supportable forecast of future losses as well as any necessary qualitative adjustments.
Typically, financial institutions use their historical loss experience and trends in losses for each loan segment which are then adjusted for portfolio trends and economic and environmental factors in determining the ACL. Since the Bank’s inception in 2007, the Company has experienced minimal loss history within its loan portfolio. Due to the fact that limited internal loss history exists to generate statistical significance, management determined it was most prudent to rely on peer data when deriving its best estimate of PD and LGD. As part of the Company's estimation process, management will continue to assess the reasonableness of the data, assumptions, and model methodology utilized to derive its allowance for credit losses.
For each of the modeled loan segments, the Company generates cash flow projections at the instrument level wherein payment expectations are adjusted for estimated prepayment speeds, PD rates, and LGD rates. The modeling of expected prepayment speeds is based on internal loan-level historical data. The Company utilizes national unemployment for its reasonable and supportable forecasting of expected default within the cash flow model. To further adjust the allowance for credit losses for expected losses not already within the quantitative component of the calculation, the Company may consider qualitative factors as prescribed in ASC 326.
Financial instruments include off-balance sheet credit instruments such as commitments to make loans and commercial letters of credit issued to meet customer financing needs. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for off-balance sheet loan commitments is represented by the contractual amount of those instruments. Such financial instruments are recorded when they are funded. The Company records a reserve for unfunded commitments on off-balance sheet credit exposures through a charge to provision for credit loss expense in its Consolidated Statement of Income. The reserve for unfunded commitments is estimated by call report code segmentation as of the valuation date under the CECL model using the same methodologies as portfolio loans taking utilization rates into consideration. The reserve for unfunded commitments is reflected as a liability on the Company's Consolidated Balance Sheet.
The Company's methodology utilized in the estimation of the ACL, which is performed at least quarterly, is designed to be dynamic and responsive to changes in its loan portfolio credit quality, composition, and forecasted economic conditions. The review of the reasonableness and appropriateness of the ACL is reviewed by the ACL Committee for approval as of the valuation date. Additionally, information is provided to the Board of Directors on a quarterly basis along with the Company's consolidated financial statements.
Collateral Dependent Financial Assets
Loans that do not share risk characteristics are evaluated on an individual basis. For collateral dependent financial assets where the Company has determined that foreclosure of the collateral is probable, or where the borrower is experiencing financial difficulty and the Company expects repayment of the financial asset to be provided substantially through the sale of the collateral, the ACL is measured based on the difference between the fair value of the collateral and the amortized cost basis of the asset as of the measurement date. When repayment is expected to be from the operation of the collateral, expected credit losses are calculated as the amount by which the amortized cost basis of the financial asset exceeds the net present value ("NPV") from the operation of the collateral. When repayment is expected to be from the sale of the collateral, expected credit losses are calculated as the amount by which the amortized cost basis of the financial asset exceeds the fair value of the underlying collateral less estimated cost to sell. The ACL may be zero if the fair value of the collateral at the measurement date exceeds the amortized cost basis of the financial asset.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Allowance for Credit Losses - Securities
The Company evaluates its available-for-sale and held-to-maturity debt securities portfolios for expected credit losses as of the valuation date under ASC 326. For available-for-sale debt securities in an unrealized loss position, the Company first assesses whether it intends to sell, or if it is more likely than not that it would be required to sell, the security before recovery of its amortized cost basis. If either criterion is met, the security’s amortized cost basis is written down to fair value through income during the current period. For available-for-sale debt securities that do not meet the aforementioned criteria, the Company evaluates whether the decline in fair value has resulted from credit losses or other driving factors. If the Company's assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security is compared to the amortized cost basis of the security. If the present value of cash flows expected to be collected is less than the amortized cost basis, an ACL is recorded for the credit loss (which represents the difference between the expected cash flows and amortized cost basis), limited by the amount that the fair value is less than the amortized cost basis. Any impairment that has not been recorded through an ACL is recognized in other comprehensive income.
The entire amount of an impairment loss is recognized in earnings only when: (1) the Company intends to sell the security; or (2) it is more likely than not that the Company will have to sell the security before recovery of the Company's amortized cost basis; or (3) the Company does not expect to recover the entire amortized cost basis of the security. In all other situations, only the portion of the impairment loss representing the credit loss must be recognized in earnings, with the remaining portion being recognized in shareholders' equity as comprehensive income, net of deferred taxes.
Changes in the ACL are recorded as a provision for (or reversal of) credit losses. Losses are charged against the ACL when the Company believes the uncollectibility of an available-for-sale security is confirmed or when either of the criteria regarding intent or requirement to sell is met. Any impairment not recorded through an allowance for credit loss is recognized in other comprehensive income as a noncredit-related impairment.
As part of its estimation process, the Company have made a policy election to exclude accrued interest from the amortized cost basis of available-for-sale debt securities and report accrued interest separately in other assets in the Consolidated Balance Sheet. Available-for-sale debt securities are placed on nonaccrual status when we no longer expect to receive all contractual amounts due, which is generally at 90 days past due. Accrued interest receivable is reversed against interest income when a security is placed on nonaccrual status. Accordingly, the Company does not recognize an allowance for credit loss against accrued interest receivable. This approach is consistent with the Company's nonaccrual policy implemented for its loan portfolio.
The Company separately evaluates its held-to-maturity investment securities for any credit losses. If it determines that a security indicates evidence of deteriorated credit quality, the security is individually-evaluated and a discounted cash flow analysis is performed and compared to the amortized cost basis. As of December 31, 2023, the Company had one security classified as held-to-maturity with an amortized cost basis of $264 thousand with the remainder of the securities portfolio held as available-for-sale.
(g) Premises, Equipment, and Leases
Land is carried at cost. Premises, furniture, equipment, and leasehold improvements are carried at cost less accumulated depreciation and amortization. Depreciation of premises, furniture and equipment is computed using the straight-line method over estimated useful lives from three to seven years. Amortization of leasehold improvements is computed using the straight-line method over the useful lives of the improvements or the lease term, whichever is shorter. Purchased computer software which is capitalized is amortized over estimated useful lives of one to three years.
The Company follows ASU 2016-02 "Leases (Topic 842)" and all subsequent ASUs that modified Topic 842. Contracts are evaluated to determine whether they are or contain a lease in accordance with Topic 842. Lease liabilities represent the Company's obligation to make lease payments and are presented at each reporting date as the net present value of the remaining contractual cash flows. Cash flows are discounted at the Company's incremental borrowing rate in effect at the commencement date of the lease. Right-of-use assets represent the Company's right to use the underlying asset for the lease term and are calculated as the sum of the lease liability and if applicable, prepaid rent, initial direct costs and any incentives received from the lessor.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Lease payments for short-term leases are recognized as lease expense on a straight-line basis over the lease term, or for variable lease payments, in the period in which the obligation was incurred. Payments for leases with terms longer than twelve months are included in the determination of the lease liability. Payments may be fixed for the term of the lease or variable. If the lease agreement provides a known escalator, such as a specified percentage increase per year or a stated increase at a specified time, the variable payment is included in the cash flows used to determine the lease liability. If the variable payment is based upon an unknown escalator, such as the consumer price index at a future date, the increase is not included in the cash flows used to determine the lease liability. The Company's leases provide known escalators that are included in the determination of the lease liability, with the exception of three lease agreements.
Most of the Company's leases offer the option to extend the lease term. For each of the leases, the Company is reasonably certain it will exercise the options and has included the additional time and lease payments in the calculation of the lease liability. None of the Company's leases provide for residual value guarantees and none provide restrictions or covenants that would impact dividends or require incurring additional financial obligations.
(h) Goodwill and Intangible Assets
Goodwill, which represents the excess of purchase price over fair value of net assets acquired, is not amortized but is evaluated at least annually for impairment by comparing its fair value with its carrying amount. Impairment is indicated when the carrying amount of a reporting unit exceeds its estimated fair value.
Goodwill arises from business combinations and is generally determined as the excess of the fair value of the consideration transferred, plus the fair value of any noncontrolling interests in the acquiree, over the fair value of the net assets acquired and liabilities assumed as of the acquisition date. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but tested for impairment at least annually or more frequently if events and circumstances exist; that indicate that a goodwill impairment test should be performed. The Company performs the impairment test annually during the fourth quarter. Intangible assets with definite useful lives are amortized over their estimated useful lives to their estimated residual values. Goodwill is the only intangible asset with an indefinite life on our balance sheet.
No impairment was recorded for 2023 and 2022.
(i) Other Real Estate Owned
Assets acquired through, or in lieu of, loan foreclosure are held for sale. At the time of acquisition, these properties are recorded at fair value less estimated selling costs, with any write down charged to the ACL and any gain on foreclosure recorded in net income, establishing a new cost basis. Subsequent to foreclosure, valuations of the assets are periodically performed by management, and these assets are subsequently accounted for at lower of cost or fair value less estimated selling costs. Adjustments are made for subsequent decline in the fair value of the assets less selling costs. Revenue and expenses from operations and valuation changes are charged to operating income in the year of the transaction. The Company had no other real estate owned ("OREO") at December 31, 2023 and 2022.
(j) Bank Owned Life Insurance
The Company has purchased life insurance policies on certain key employees. Bank owned life insurance is recorded at the amount that can be realized under the insurance contract at the balance date, which is the cash surrender value. The increase in the cash surrender value over time is recorded as other non-interest income. The Company monitors the financial strength and condition of the counterparties.
(k) Transfers of Financial Assets
Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed surrendered when (1) the assets have been isolated from the Company - put presumptively beyond reach of the transferor and its creditors, even in bankruptcy or other receivership, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity or the ability to unilaterally cause the holder to return specific assets.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
(l) Income Taxes
Deferred taxes are provided on a liability method whereby deferred tax assets and liabilities are recognized for deductible temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term more likely than not means a likelihood of more than 50 percent; the terms examined and upon examination also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than 50 percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances, and information available at the reporting date and is subject to management's judgment. The Company had no such liability recorded as of December 31, 2023 and 2022. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized.
(m) Comprehensive Income (Loss)
Comprehensive income (loss) consists of net income and other comprehensive income (loss). Other comprehensive income (loss) includes unrealized gains (losses) on securities available-for-sale and interest rate swaps for 2023 and 2022, which are also recognized as separate components of equity.
(n) Fair Value of Financial Instruments
Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in Note 16. Fair value estimates involve uncertainties and matters of significant judgment. Changes in assumptions or in market conditions could significantly affect the estimates.
(o) Equity-based Compensation
The Company recognizes in the income statement the grant date fair value of stock options and other equity-based compensation. The Company classifies stock awards as either an equity award or a liability award. Equity classified awards are valued as of the grant date using either an observable market price or a valuation methodology. Liability classified awards are valued at fair value at each reporting date. For the years presented, all of the Company's stock options are classified as equity awards.
The fair value related to forfeitures of stock options and other equity-based compensation are recorded to the income statement as they occur, reducing equity-based compensation expense in that period. During 2018, the Company began granting restricted stock units which are granted at the fair market value of the Company's common stock on the grant date. Most restricted stock units vest in one-quarter increments on the anniversary date of the grant. The Company did not grant stock options in the years ended December 31, 2023 and 2022.
(p) 401(k) Plan
Employee 401(k) plan expense is the amount of matching contributions paid by the Company. 401(k) plan expense was $431 thousand and $424 thousand for the years ended December 31, 2023 and 2022, respectively.
(q) Earnings Per Share
Basic earnings per share represent income available to common shareholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Common stock equivalents that may be issued by the Company consist primarily
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
of outstanding stock options and restricted stock units, and the dilutive potential common shares resulting from outstanding stock options and restricted stock units are determined using the treasury method. The effects of anti-dilutive common stock equivalents are excluded from the calculation of diluted earnings per share.
(r) Reclassifications
Certain prior year amounts have been reclassified to conform to the current year's method of presentation. None of these reclassifications were significant.
(s) Recent Accounting Pronouncements
In August 2020, the Financial Accounting Standard Board ("FASB") issued ASU 2020-06 "Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity's Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity's Own Equity". The ASU simplifies accounting for convertible instruments by removing major separation models required under current GAAP. Consequently, more convertible debt instruments will be reported as a single liability instrument and more convertible preferred stock as a single equity instrument with no separate accounting for embedded conversion features. The ASU removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception, which will permit more equity contracts to qualify for it. The ASU also simplifies the diluted earnings per share calculation in certain areas. In addition, the amendment updates the disclosure requirements for convertible instruments to increase the information transparency. For public business entities, excluding smaller reporting companies, the amendments in the ASU are effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years. For all other entities, including the Company, the standard will be effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2020-06 to have a material impact on its consolidated financial statements.
In June 2022, the FASB issued ASU 2022-03, "Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions". ASU 2022-03 clarifies that a contractual restriction on the sale of an equity security is not considered part of the unit of account of the equity security and, therefore, is not considered in measuring fair value. The ASU is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2023. Early adoption is permitted. The Company does not expect the adoption of ASU 2022-03 to have a material impact on its consolidated financial statements.
In March 2023, the FASB issued ASU 2023-02, “Investments-Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method”. These amendments allow reporting entities to elect to account for qualifying tax equity investments using the proportional amortization method, regardless of the program giving rise to the related income tax credits. The ASU is effective for public business entities for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted for all entities in any interim period. The Company does not expect the adoption of ASU 2023-02 to have a material impact on its consolidated financial statements.
In November 2023, the FASB issued ASU 2023-07, “Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures.” The amendments in this ASU are intended to improve reportable segment disclosure requirements primarily through enhanced disclosures about significant segment expenses. This ASU requires disclosure of significant segment expenses that are regularly provided to the chief operating decision mark ("CODM"), an amount for other segment items by reportable segment and a description of its composition, all annual disclosures required by FASB ASU Topic 280 in interim periods as well, and the title and position of the CODM and how the CODM uses the reported measures. Additionally, this ASU requires that at least one of the reported segment profit and loss measures should be the measure that is most consistent with the measurement principles used in an entity’s consolidated financial statements. Lastly, this ASU requires public business entities with a single reportable segment to provide all disclosures required by these amendments in this ASU and all existing segment disclosures in Topic 280. This ASU is effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Early adoption is permitted. The amendments should be applied retrospectively. The Bank does not expect the adoption of ASU 2023-06 to have a material impact on its (consolidated) financial statements
In December 2023, the FASB issued ASU 2023-09, “Income Taxes (Topic 740): Improvements to Income Tax Disclosures.” The amendments in this ASU require an entity to disclose specific categories in the rate reconciliation and
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
provide additional information for reconciling items that meet a quantitative threshold, which is greater than five percent of the amount computed by multiplying pretax income by the entity’s applicable statutory rate, on an annual basis. Additionally, the amendments in this ASU require an entity to disclose the amount of income taxes paid (net of refunds received) disaggregated by federal, state, and foreign taxes and the amount of income taxes paid (net of refunds received) disaggregated by individual jurisdictions that are equal to or greater than five percent of total income taxes paid (net of refunds received). Lastly, the amendments in this ASU require an entity to disclose income (or loss) from continuing operations before income tax expense (or benefit) disaggregated between domestic and foreign and income tax expense (or benefit) from continuing operations disaggregated by federal, state, and foreign. This ASU is effective for annual periods beginning after December 15, 2024. Early adoption is permitted. The amendments should be applied on a prospective basis; however, retrospective application is permitted. The Bank does not expect the adoption of ASU 2023-06 to have a material impact on its (consolidated) financial statements.
(t) Recently Adopted Accounting Developments
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The ASU, as amended, requires an entity to measure expected credit losses for financial assets carried at amortized cost based on historical experience, current conditions, and reasonable and supportable forecasts. Among other things, the ASU also amended the impairment model for available for sale securities and addressed purchased financial assets with deterioration. This standard is commonly referred to as the current expected credit loss ("CECL") methodology. ASU 2016-13 was effective for the Company on January 1, 2023. The adjustment recorded at adoption to the overall allowance for credit losses, which consisted of adjustments to the allowance for credit losses on loans and reserve for unfunded loan commitments, was $3.7 million. The adjustment, net of tax, recorded to stockholders’ equity totaled $2.8 million at January 1, 2023.
In March 2022, the FASB issued ASU No. 2022-02, “Financial Instruments-Credit Losses (Topic 326), Troubled Debt Restructurings and Vintage Disclosures.” ASU 2022-02 addresses areas identified by the FASB as part of its post-implementation review of the credit losses standard (ASU 2016-13) that introduced the CECL model. The amendments eliminate the accounting guidance for troubled debt restructurings by creditors that have adopted the CECL model and enhance the disclosure requirements for loan refinancings and restructurings made with borrowers experiencing financial difficulty. In addition, the amendments require a public business entity to disclose current-period gross write-offs for financing receivables and net investment in leases by year of origination in the vintage disclosures. The amendments in this ASU should be applied prospectively, except for the transition method related to the recognition and measurement of troubled debt restructuring ("TDRs"), an entity has the option to apply a modified retrospective transition method, resulting in a cumulative-effect adjustment to retained earnings in the period of adoption. ASU 2022-02 was effective for the Company on January 1, 2023. ASU 2022-02 resulted in no material impact to the Company's consolidated financial statements.
In March 2022, the FASB issued ASU No. 2022-01, “Derivatives and Hedging (Topic 815), Fair Value Hedging-Portfolio Layer Method.” ASU 2022-01 clarifies the guidance in ASC 815 on fair value hedge accounting of interest rate risk for portfolios of financial assets and is intended to better align hedge accounting with an organization’s risk management strategies. In 2017, the FASB issued ASU 2017-12 to better align the economic results of risk management activities with hedge accounting. One of the major provisions of that standard was the addition of the last-of-layer hedging method. For a closed portfolio of fixed-rate prepayable financial assets or one or more beneficial interests secured by a portfolio of prepayable financial instruments, such as mortgages or mortgage-backed securities, the last-of-layer method allows an entity to hedge its exposure to fair value changes due to changes in interest rates for a portion of the portfolio that is not expected to be affected by prepayments, defaults, and other events affecting the timing and amount of cash flows. ASU 2022-01 renames that method the portfolio layer method. ASU 2022-01 was effective for the Company on January 1, 2023. ASU 2022-01 resulted in no material impact to the Company's consolidated financial statements.
In October 2021, the FASB issued ASU 2021-08, “Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers”. The ASU requires entities to apply Topic 606 to recognize and measure contract assets and contract liabilities in a business combination. The amendments improve comparability after the business combination by providing consistent recognition and measurement guidance for revenue contracts with customers acquired in a business combination and revenue contracts with customers not acquired in a business combination. ASU 2021-08 was effective for the Company on January 1, 2023. ASU 2021-08 resulted in no material impact to the Company's consolidated financial statements.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
In March 2020, the FASB issued ASU 2020-04 "Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting." These amendments provide temporary optional guidance to ease the potential burden in accounting for reference rate reform. The ASU provides optional expedients and exceptions for applying GAAP to contract modifications and hedging relationships, subject to meeting certain criteria, that reference the London Interbank Offered Rate ("LIBOR"). It is intended to help stakeholders during the global market-wide reference rate transition period. The guidance is effective for all entities as of March 12, 2020 through December 31, 2022. Subsequently, in January 2021, the FASB issued ASU 2021-01 "Reference Rate Reform (Topic 848): Scope." This ASU clarifies that certain optional expedients and exceptions in Topic 848 for contract modifications and hedge accounting apply to derivatives that are affected by the discounting transition. The ASU also amends the expedients and exceptions in Topic 848 to capture the incremental consequences of the scope clarification and to tailor the existing guidance to derivative instruments affected by the discounting transition. An entity may elect to apply ASU 2021-01 on contract modifications that change the interest rate used for margining, discounting, or contract price alignment retrospectively as of any date from the beginning of the interim period that includes March 12, 2020, or prospectively to new modifications from any date within the interim period that includes or is subsequent to January 7, 2021, up to the date that financial statements are available to be issued. An entity may elect to apply ASU 2021-01 to eligible hedging relationships existing as of the beginning of the interim period that includes March 12, 2020, and to new eligible hedging relationships entered into after the beginning of the interim period that includes March 12, 2020.
The Company had certain loans, interest rate swap agreements, investment securities, and debt obligations with interest rates indexed to LIBOR. The administrator of LIBOR announced that the most commonly used U.S. dollar LIBOR settings would cease to be published or cease to be representative after June 30, 2023. Central banks and regulators around the world commissioned working groups to find suitable replacements for LIBOR and other benchmark rates and to implement financial benchmark reforms more generally.
The Adjustable Interest Rate (LIBOR) Act, enacted in March 2022, provides a statutory framework to replace LIBOR with a benchmark rate based on Secured Overnight Funding Rate ("SOFR") for contracts governed by U.S. law that have no or ineffective fallbacks. Although governmental authorities have endeavored to facilitate an orderly discontinuation of LIBOR, no assurance can be provided that this aim will be achieved or that the use, level, and volatility of LIBOR or other interest rates, or the value of LIBOR-based securities will not be adversely affected.
To facilitate an orderly transition from interbank offered rates and other benchmark rates to ARRs, the Company established an enterprise-wide initiative led by senior management. The objective of this initiative was to identify, assess and monitor risks associated with the expected discontinuation or unavailability of benchmarks. ASU 2020-04 was effective for the Company on January 1, 2023. Adoption of ASU 2020-04 resulted in no material impact to the Company's consolidated financial statements.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Note 2. Investment Securities and Other Investments
Amortized cost and fair values of securities held-to-maturity and securities available-for-sale as of December 31, 2023 and 2022, are as follows:
December 31, 2023
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
Fair
Value
Held-to-maturity
Securities of state and local municipalities tax exempt $ 264 $ - $ (12) $ 252
Total Held-to-maturity Securities $ 264 $ - $ (12) $ 252
Available-for-sale
Securities of U.S. government and federal agencies
$ 9,998 $ - $ (1,528) $ 8,470
Securities of state and local municipalities tax exempt 1,000 - (3) 997
Securities of state and local municipalities taxable 453 - (49) 404
Corporate bonds 20,204 - (2,556) 17,648
SBA pass-through securities 62 - (5) 57
Mortgage-backed securities 170,179 - (29,237) 140,942
Collateralized mortgage obligations 3,809 - (732) 3,077
Total Available-for-sale Securities $ 205,705 $ - $ (34,110) $ 171,595
December 31, 2022
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
(Losses)
Fair
Value
Held-to-maturity
Securities of state and local municipalities tax exempt $ 264 $ - $ (12) $ 252
Total Held-to-maturity Securities $ 264 $ - $ (12) $ 252
Available-for-sale
Securities of U.S. government and federal agencies $ 13,559 $ - $ (2,555) $ 11,004
Securities of state and local municipalities tax exempt 1,385 - (9) 1,376
Securities of state and local municipalities taxable 506 - (62) 444
Corporate bonds 21,212 - (2,154) 19,058
SBA pass-through securities 74 - (7) 67
Mortgage-backed securities 282,858 - (45,424) 237,434
Collateralized mortgage obligations 9,998 - (1,312) 8,686
Total Available-for-sale Securities $ 329,592 $ - $ (51,523) $ 278,069
No allowance for credit losses was recognized as of December 31, 2023 related to the Company's investment portfolio.
The Company had securities with a market value of $0.0 million and $4.1 million pledged with the Federal Reserve Bank of Richmond (the "FRB") for the years ended December 31, 2023 and 2022, respectively. The Company had securities of $7.2 million and $104.6 million pledged with the Treasury Board of Virginia at the Community Bankers' Bank for the years ended December 31, 2023 and 2022, respectively.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The Company monitors the credit quality of held-to-maturity securities through the use of credit ratings. The Company monitors credit ratings on a periodic basis. The following table summarizes the amortized cost of held-to-maturity securities at December 31, 2023, aggregated by credit quality indicator:
Held-to-maturity
December 31, 2023
Securities of state and local municipalities tax exempt
Aa3 $ 264
Total $ 264
The following table shows fair value and gross unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2023 and 2022, respectively. One security was held as of December 31, 2023 for which the book value and fair value were equal and therefore neither an unrealized gain nor loss was reflected herein. The reference point for determining when securities are in an unrealized loss position is month-end. Therefore, it is possible that a security’s market value exceeded its amortized cost on other days during the past twelve-month period. Available-for-sale securities that have been in a continuous unrealized loss position as of December 31, 2023 are as follows:
Less Than 12 Months 12 Months or Longer Total
At December 31, 2023
Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
Securities of U.S. government and federal agencies $ - $ - $ 8,470 $ (1,528) $ 8,470 $ (1,528)
Securities of state and local municipalities tax exempt - - 997 (3) 997 (3)
Securities of state and local municipalities taxable - - 404 (49) 404 (49)
Corporate bonds - - 16,898 (2,556) 16,898 (2,556)
SBA pass-through securities - - 57 (5) 57 (5)
Mortgage-backed securities - - 140,942 (29,237) 140,942 (29,237)
Collateralized mortgage obligations - - 3,077 (732) 3,077 (732)
Total $ - $ - $ 170,845 $ (34,110) $ 170,845 $ (34,110)
Available-for-sale and held-to-maturity securities that have been in a continuous unrealized loss position as of December 31, 2022 are as follows:
Less Than 12 Months 12 Months or Longer Total
At December 31, 2022
Fair
Value Unrealized
Losses Fair
Value Unrealized
Losses Fair
Value Unrealized
Losses
Securities of U.S. government and federal agencies $ - $ - $ 11,004 $ (2,555) $ 11,004 $ (2,555)
Securities of state and local municipalities tax exempt 1,628 (21) - - 1,628 (21)
Securities of state and local municipalities taxable - - 444 (62) 444 (62)
Corporate bonds 12,344 (1,119) 5,964 (1,035) 18,308 (2,154)
SBA pass-through securities - - 67 (7) 67 (7)
Mortgage-backed securities 26,486 (1,831) 210,948 (43,593) 237,434 (45,424)
Collateralized mortgage obligations 2,601 (238) 6,085 (1,074) 8,686 (1,312)
Total $ 43,059 $ (3,209) $ 234,512 $ (48,326) $ 277,571 $ (51,535)
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Securities of U.S. government and federal agencies: The unrealized losses on two available-for-sale securities were caused by interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments.
Securities of state and local municipalities tax-exempt: The unrealized losses on two of the investments in securities of state and local municipalities was caused by interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. These investments carry an S&P investment grade rating of AA+ and AA3.
Securities of state and local municipalities taxable: The unrealized loss on one of the investments in securities of state and local municipalities was caused by interest rate increases. The contractual terms of this investment does not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. The investment carries an S&P investment grade rating of AAA.
Corporate bonds: The unrealized losses on the investments in corporate bonds were caused by interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. One of these investments carries an S&P investment grade rating of BBB. The remaining thirteen investments do not carry a rating.
SBA pass-through securities: The unrealized losses on one available-for-sale security was caused by interest rate increases. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments.
Mortgage-backed securities: The unrealized losses on the Company’s investment in 36 mortgage-backed securities were caused by interest rate increases. The contractual cash flows of those investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Company’s investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, the Company does not consider those investments to be impaired at December 31, 2023.
Collateralized mortgage obligations ("CMOs"): The unrealized loss associated with 11 CMOs was caused by interest rate increases. The contractual cash flows of these investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Company’s investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, the Company does not consider those investments to be impaired at December 31, 2023.
The Company has evaluated its available-for-sale investments securities in an unrealized loss position for credit related impairment at December 31, 2023 and 2022 and concluded no impairment existed based on several factors which included: (1) the majority of these securities are of high credit quality, (2) unrealized losses are primarily the result of market volatility and increases in market interest rates, (3) issuers continue to make timely principal and interest payments, and (4) the Company does not intend to sell any of the investments and the accounting standard of “more likely than not” has not been met for the Company to be required to sell any of the investments before recovery of its amortized cost basis. Additionally, the Company’s mortgage-backed investment securities are primarily guaranteed by the Federal National Mortgage Association, Federal Home Loan Mortgage Corporation, or the Government National Mortgage Association and do not have credit risk given the implicit and explicit government guarantees associated with these agencies.
During 2023, the Company executed a balance sheet repositioning strategy and sold available-for-sale investment securities with a total book value of $102.5 million at a pre-tax loss of $15.6 million and used the net proceeds to reduce existing high cost short-term Federal Home Loan Bank of Atlanta ("FHLB") advances and to fund higher yielding newly originated commercial loans. No securities were sold during 2022.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The amortized cost and fair value of securities at December 31, 2023, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without penalties.
December 31, 2023
Held-to-maturity Available-for-sale
Amortized Cost Fair Value Amortized Cost Fair Value
After 3 months through 1 year $ - $ - $ 1,000 $ 997
After 1 year through 5 years 264 252 1,113 1,099
After 5 years through 10 years - - 30,148 26,033
After 10 years - - 173,444 143,466
Total $ 264 $ 252 $ 205,705 $ 171,595
For the years ended December 31, 2023 and 2022, proceeds from principal repayments of securities were $20.8 million and $37.1 million, respectively. There were $86.9 million securities sold during 2023 and none in 2022. There were 15.6 million realized losses in 2023 and none in 2022.
The Company has other investments in the form of restricted stock totaling $9.5 million and $15.6 million at December 31, 2023 and 2022, respectively. The following table discloses the types of investments included in other investments:
2023 2022
Federal Reserve stock $ 3,586 $ 4,378
FHLB stock 5,755 11,087
Community Bankers' Bank stock 122 122
Atlantic Bankers' Bank stock 25 25
Total $ 9,488 $ 15,612
As a member of the FRB and the FHLB, the Bank is required to hold stock in these entities. Stock membership in Community Bankers' Bank allows the Company to secure overnight funding and participate in other services offered by this institution. These investments are carried at cost since no active trading markets exist.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Note 3. Loans and Allowance for Credit Losses
A summary of loan balances by type follows:
December 31, 2023
Total
Commercial real estate $ 1,091,633
Commercial and industrial 219,873
Commercial construction 147,998
Consumer real estate 363,317
Consumer nonresidential 5,743
$ 1,828,564
Less:
Allowance for credit losses 18,871
Loans, net $ 1,809,693
December 31, 2022
Originated Acquired Total
Commercial real estate $ 1,085,513 $ 14,748 $ 1,100,261
Commercial and industrial 242,307 2,913 245,220
Commercial construction 147,436 503 147,939
Consumer real estate 322,579 17,012 339,591
Consumer nonresidential 7,661 24 7,685
$ 1,805,496 $ 35,200 $ 1,840,696
Less:
Allowance for credit losses 16,040 - 16,040
Unearned income and (unamortized premiums), net 262 - 262
Loans, net $ 1,789,194 $ 35,200 $ 1,824,394
The loan portfolio summary is presented on amortized cost basis as of December 31, 2023. For the year ended December 31, 2022, the loan portfolio is presented at outstanding principal balance.
During 2018, as a result of the Company’s acquisition of Colombo Bank ("Colombo"), the loan portfolio was segregated between loans initially accounted for under the amortized cost method (referred to as “originated” loans) and loans acquired (referred to as “acquired” loans). The loans segregated to the acquired loan portfolio were initially measured at fair value and subsequently accounted for under either ASC 310-30 or ASC 310-20. The outstanding principal balance and related carrying amount of acquired loans included in the consolidated balance sheets as of December 31, 2022 is as follows:
December 31, 2022
Purchased credit impaired acquired loans evaluated individually for future credit losses
Outstanding principal balance $ 24
Carrying amount -
Other acquired loans
Outstanding principal balance 35,604
Carrying amount 35,200
Total acquired loans
Outstanding principal balance 35,628
Carrying amount 35,200
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following table presents changes during the year ended December 31, 2022, in the accretable yield on purchased credit impaired loans for which the Company applies ASC 310-30.
Balance at January 1, 2022 $ 3
Accretion (197)
Reclassification of nonaccretable difference due to improvement in expected cash flows 33
Other changes, net 161
Balance at December 31, 2022
$ -
An analysis of the allowance for credit losses for the years ended December 31, 2023 and 2022 follows:
Commercial
Real Estate Commercial and
Industrial Commercial
Construction Consumer Real
Estate Consumer
Nonresidential Total
Allowance for credit losses:
Beginning Balance, Prior to January 1, 2023 Adoption of ASC 326 $ 10,777 $ 2,623 $ 1,499 $ 1,044 $ 97 $ 16,040
Impact of Adoption of ASC 326 498 452 70 1,856 (12) 2,864
Charge-offs (53) (350) - - (15) (418)
Recoveries - 3 - 1 39 43
Provision (reversal) (1,048) 657 (144) 921 (44) 342
Ending Balance $ 10,174 $ 3,385 $ 1,425 $ 3,822 $ 65 $ 18,871
Commercial
Real Estate Commercial and
Industrial Commercial
Construction Consumer Real
Estate Consumer
Nonresidential Total
Allowance for credit losses:
Beginning Balance $ 8,995 $ 1,827 $ 2,009 $ 781 $ 217 $ 13,829
Charge-offs - (396) - - (101) (497)
Recoveries - - - 1 78 79
Provision (reversal) 1,782 1,192 (510) 262 (97) 2,629
Ending Balance $ 10,777 $ 2,623 $ 1,499 $ 1,044 $ 97 $ 16,040
The following table presents the amortized cost basis of collateral-dependent loans by class of loans as of December 31, 2023:
Real Estate Business / Other Assets
Collateral-Dependent Loans
Commercial real estate $ 20,765 $ -
Commercial and industrial - 1,070
Commercial construction - -
Consumer real estate 654 -
Consumer nonresidential - -
Total $ 21,419 $ 1,070
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following tables present the recorded investment in loans and evaluation method as of December 31, 2022, by portfolio segment:
Allowance for Credit Losses
Commercial
Real Estate Commercial
and Industrial Commercial
Construction Consumer
Real Estate Consumer
Nonresidential Total
Allowance for credit losses:
Ending Balance:
Individually evaluated for impairment $ - $ 86 $ - $ - $ - $ 86
Purchased credit impaired - - - - - -
Collectively evaluated for impairment 10,777 2,537 1,499 1,044 97 15,954
$ 10,777 $ 2,623 $ 1,499 $ 1,044 $ 97 $ 16,040
Loans Receivable
Commercial
Real Estate Commercial
and Industrial Commercial
Construction Consumer
Real Estate Consumer
Nonresidential Total
Financing receivables:
Ending Balance
Individually evaluated for impairment $ 1,703 $ 1,319 $ - $ 1,041 $ - $ 4,063
Purchased credit impaired loans - - - - - -
Collectively evaluated for impairment 1,098,558 243,901 147,939 338,550 7,685 1,836,633
$ 1,100,261 $ 245,220 $ 147,939 $ 339,591 $ 7,685 $ 1,840,696
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Impaired loans by class excluding purchased credit impaired at December 31, 2022, are summarized as follows:
Impaired Loans - Originated Loan Portfolio
Recorded
Investment Unpaid
Principal
Balance Related
Allowance Average
Recorded
Investment Interest
Income
Recognized
With an allowance recorded:
Commercial real estate $ - $ - $ - $ - $ -
Commercial and industrial 1,319 1,329 86 1,604 107
Commercial construction - - - - -
Consumer real estate - - - - -
Consumer nonresidential - - - - -
$ 1,319 $ 1,329 $ 86 $ 1,604 $ 107
With no related allowance:
Commercial real estate $ 1,703 $ 1,703 $ - $ 1,704 $ 135
Commercial and industrial - - - - -
Commercial construction - - - - -
Consumer real estate 1,041 1,044 - 1,048 34
Consumer nonresidential - - - - -
$ 2,744 $ 2,747 $ - $ 2,752 $ 169
There were no impaired loans in the acquired loan portfolio at December 31, 2022. No additional funds are committed to be advanced in connection with the impaired loans. There were no nonaccrual loans excluded from the impaired loan disclosure.
The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, collateral adequacy, credit documentation, and current economic trends, among other factors. The Company analyzes loans individually by classifying the loans as to credit risk. This analysis typically includes larger, non-homogeneous loans such as commercial real estate and commercial and industrial loans. This analysis is performed on an ongoing basis as new information is obtained. The Company uses the following definitions for risk ratings:
Pass - Loans listed as pass include larger non-homogeneous loans not meeting the risk rating definitions below and smaller, homogeneous loans not assessed on an individual basis.
Special Mention - Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.
Substandard - Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the enhanced possibility that the institution will sustain some loss if the deficiencies are not corrected.
Doubtful - Loans classified as doubtful include those loans which have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, based on currently known facts, conditions and values, improbable.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Loss - Loans classified as loss include those loans which are considered uncollectible and of such little value that their continuance as loans is not warranted. Even though partial recovery may be achieved in the future, it is neither practical nor desirable to defer writing off these loans.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Based on the most recent analysis performed, amortized cost basis of loans by risk category, class and year of origination was as follows as of December 31, 2023:
Prior 2019 2020 2021 2022 2023 Revolving Loans Amort. Cost Basis Revolving Loans Convert. to Term Total
Commercial Real Estate
Grade:
Pass $ 341,765 $ 82,924 $ 70,564 $ 147,252 $ 211,786 $ 57,422 $ 153,838 $ - $ 1,065,551
Special mention 1,268 1,361 - 2,688 - - - - 5,317
Substandard - - 849 - - 19,916 - - 20,765
Doubtful - - - - - - - - -
Loss - - - - - - - - -
Total $ 343,033 $ 84,285 $ 71,413 $ 149,940 $ 211,786 $ 77,338 $ 153,838 $ - $ 1,091,633
Commercial and Industrial
Grade:
Pass $ 9,997 $ 2,285 $ 6,296 $ 13,623 $ 54,784 $ 42,034 $ 88,926 $ - $ 217,945
Special mention - - - 76 - - 782 - 858
Substandard - - - - 884 - 186 - 1,070
Doubtful - - - - - - - - -
Loss - - - - - - - - -
Total $ 9,997 $ 2,285 $ 6,296 $ 13,699 $ 55,668 $ 42,034 $ 89,894 $ - $ 219,873
Commercial Construction
Grade:
Pass $ 11,149 $ - $ - $ 6,204 $ - $ 709 $ 129,936 $ - $ 147,998
Special mention - - - - - - - - -
Substandard - - - - - - - - -
Doubtful - - - - - - - - -
Loss - - - - - - - - -
Total $ 11,149 $ - $ - $ 6,204 $ - $ 709 $ 129,936 $ - $ 147,998
Consumer Real Estate
Grade:
Pass $ 35,240 $ 8,196 $ 8,914 $ 28,848 $ 196,678 $ 51,767 $ 32,963 $ - $ 362,606
Special mention - - - - - - 57 - 57
Substandard 108 - - - - - 546 - 654
Doubtful - - - - - - - - -
Loss - - - - - - - - -
Total $ 35,348 $ 8,196 $ 8,914 $ 28,848 $ 196,678 $ 51,767 $ 33,566 $ - $ 363,317
Consumer Nonresidential
Grade:
Pass $ 659 $ - $ 7 $ 3 $ 36 $ 177 $ 4,861 $ - $ 5,743
Special mention - - - - - - - - -
Substandard - - - - - - - - -
Doubtful - - - - - - - - -
Loss - - - - - - - - -
Total $ 659 $ - $ 7 $ 3 $ 36 $ 177 $ 4,861 $ - $ 5,743
Total Recorded Investment $ 400,186 $ 94,766 $ 86,630 $ 198,694 $ 464,168 $ 172,025 $ 412,095 $ - $ 1,828,564
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
As of December 31, 2023 - Total Loan Portfolio
Total
Grade:
Pass $ 1,799,843
Special mention 6,232
Substandard 22,489
Doubtful -
Loss -
Total Recorded Investment $ 1,828,564
Based on the most recent analysis performed, the risk category of loans by class of loans was as follows as of December 31, 2022:
As of December 31, 2022 - Originated Loan Portfolio
Commercial Real
Estate Commercial and
Industrial Commercial
Construction
Consumer Real
Estate
Consumer
Nonresidential
Total
Grade:
Pass $ 1,077,526 $ 237,638 $ 147,436 $ 320,735 $ 7,661 $ 1,790,996
Special mention 6,284 3,350 - 803 - 10,437
Substandard 1,703 1,319 - 1,041 - 4,063
Doubtful - - - - - -
Loss - - - - - -
Total $ 1,085,513 $ 242,307 $ 147,436 $ 322,579 $ 7,661 $ 1,805,496
As of December 31, 2022 - Acquired Loan Portfolio
Commercial Real
Estate Commercial and
Industrial Commercial
Construction
Consumer Real
Estate
Consumer
Nonresidential
Total
Grade:
Pass $ 14,748 $ 2,913 $ 503 $ 17,012 $ 24 $ 35,200
Special mention - - - - - -
Substandard - - - - - -
Doubtful - - - - - -
Loss - - - - - -
Total $ 14,748 $ 2,913 $ 503 $ 17,012 $ 24 $ 35,200
The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, collateral adequacy, credit documentation, and current economic trends, among other factors. The Company analyzes loans individually by classifying the loans as to credit risk. This analysis includes larger non-homogeneous loans such as commercial real estate and commercial and industrial loans. This analysis is performed on an ongoing basis as new information is obtained. At December 31, 2023, the Company had $6.2 million in loans identified as special mention, a decrease from $10.4 million from December 31, 2022. Special mention rated loans are loans that have a potential weakness that deserves management’s close attention; however, the borrower continues to pay in accordance with their contract. Loans rated as special mention do not have a specific reserve and are considered well-secured.
At December 31, 2023, the Company had $22.5 million in loans identified as substandard, an increase of $18.4 million from December 31, 2022. The increase in substandard loans was primarily related to the addition of one loan. Substandard rated loans are loans that are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. For each of these substandard loans, a liquidation analysis is completed At December 31, 2023, an individually assessed allowance for credit losses totaling $0.7 million, has been estimated to supplement any shortfall of collateral. The increase in substandard rated loans from December 31, 2022 was primarily related to one owner-occupied commercial loan totaling $20.0 million, which was downgraded due to concerns regarding
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
the financial condition of this borrower's parent company. This loan is current and paying as agreed to with no modifications in terms since its origination. No impairment was indicated as a result of the liquidation analysis completed as the loan was and continues to be well-collateralized.
Past due and nonaccrual loans presented by loan class were as follows as of December 31, 2023 and 2022:
As of December 31, 2023
30-59 days past due 60-89 days past due 90 days or more past due Total past due loans Current Nonaccruals Total Recorded Investment in Loans
Commercial real estate $ 1,115 $ - $ - $ 1,115 $ 1,089,669 $ 849 $ 1,091,633
Commercial and industrial 51 1,387 - 1,438 218,249 186 219,873
Commercial construction 2,569 391 - 2,960 145,038 - 147,998
Consumer real estate 1,300 - 134 1,434 361,229 654 363,317
Consumer nonresidential - - 6 6 5,737 - 5,743
Total $ 5,035 $ 1,778 $ 140 $ 6,953 $ 1,819,922 $ 1,689 $ 1,828,564
As of December 31, 2022 - Originated Loan Portfolio
30-59 days past
due 60-89 days past
due
90 days or more
past due
Total past due Current Total loans 90 days past due
and still accruing Nonaccruals
Commercial real estate $ 546 $ - $ 2,096 $ 2,642 $ 1,082,871 $ 1,085,513 $ 393 $ 1,703
Commercial and industrial 512 - 1,319 1,831 240,476 242,307 - 1,319
Commercial construction - - 125 125 147,311 147,436 125 -
Consumer real estate 805 - 953 1,758 320,821 322,579 825 128
Consumer nonresidential - 63 - 63 7,598 7,661 - -
Total $ 1,863 $ 63 $ 4,493 $ 6,419 $ 1,799,077 $ 1,805,496 $ 1,343 $ 3,150
As of December 31, 2022 - Acquired Loan Portfolio
30-59 days past
due 60-89 days past
due
90 days or more
past due
Total past due Current Total loans 90 days past due
and still accruing Nonaccruals
Commercial real estate $ - $ - $ - $ - $ 14,748 $ 14,748 $ - $ -
Commercial and industrial - - - - 2,913 2,913 - -
Commercial construction - - - - 503 503 - -
Consumer real estate - - - - 17,012 17,012 - -
Consumer nonresidential - - - - 24 24 - -
Total $ - $ - $ - $ - $ 35,200 $ 35,200 $ - $ -
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following presents nonaccrual loans as of December 31, 2023:
Nonaccrual with No Allowance for Credit Losses Nonaccrual with an Allowance for Credit Losses Total Nonaccrual Loans Interest Income Recognized
Nonaccrual Loans
Commercial real estate $ 849 $ - $ 849 $ 37
Commercial and industrial - 186 186 19
Commercial construction - - - -
Consumer real estate 654 - 654 53
Consumer nonresidential - - - -
Total $ 1,503 $ 186 $ 1,689 $ 109
There were no consumer mortgage loans secured by residential real estate properties for which formal foreclosure proceedings were in process as of December 31, 2023 and 2022, respectively.
There were overdrafts of $0.1 million and $1.3 million at December 31, 2023 and 2022, respectively, which have been reclassified from deposits to loans. At December 31, 2023 and 2022, loans with a carrying value of $530.2 million and $458.7 million were pledged to the FHLB.
Modifications with Borrowers Experiencing Financial Difficulty
On January 1, 2023, the Company adopted ASU 2022-02, which eliminates the accounting guidance for TDRs and enhances the disclosure requirements for certain loan modifications when a borrower is experiencing financial difficulty ("FDMs"). FDMs occur as a result of loss mitigation activities. A variety of solutions are offered to borrowers, including loan modifications that may result in principal forgiveness, interest rate reductions, term extensions, payment delays, repayment plans or combinations thereof. FDMs exclude loans held for sale and loans accounted for under the fair value option. Loans with guarantor support, or guaranteed loans are included in the Company's disclosed population of FDMs when those loan modifications are granted to a borrower experiencing financial difficulty.
There were five loans of $3.5 million modified during the year ended December 31, 2023 with a combination of payment delays and contractual extension to the maturity of the loan. No loans were modified with principal and interest forgiveness or an interest rate reduction. All loans modified during the year ended December 31, 2023 are performing according the modified contractual terms.
Prior to the adoption of ASC 326, the Company had zero reserves for unfunded commitments as of December 31, 2022. Upon adoption of ASC 326, the Company established a reserve for unfunded commitments of $811 thousand as of January 1, 2023. As of December 31, 2023, the reserve for unfunded commitments increased to $602 thousand.
The following table presents a breakdown of the provision for credit losses included in the Consolidated Statements of Income for the applicable periods:
For the Year Ended
December 31, 2023 December 31, 2022
Provision for (reversal of) credit losses - loans $ 342 $ 2,629
Provision for (reversal of) credit losses - unfunded commitments (210) -
Total provision for credit losses $ 132 $ 2,629
Note 4. Goodwill and Intangibles
As a result of the Company's past acquisitions, the Company recognized goodwill and core deposit intangibles.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Information concerning amortizable intangibles follows:
Acquisition of 1st Commonwealth Acquisition of Colombo Bank Total
Gross Carrying
Amount Accumulated
Amortization Gross Carrying
Amount Accumulated
Amortization Gross Carrying
Amount Accumulated
Amortization
Balance at December 31, 2021
$ 204 $ 185 $ 1,950 $ 1,074 $ 2,154 $ 1,259
2022 activity:
1st Commonwealth amortization - 19 - - - 19
Colombo Bank amortization - - - 243 - 243
Balance at December 31, 2022
$ 204 $ 204 $ 1,950 $ 1,317 $ 2,154 $ 1,521
2023 activity:
1st Commonwealth amortization - - - - - -
Colombo Bank amortization - - - 205 - 205
Balance at December 31, 2023
$ 204 $ 204 $ 1,950 $ 1,522 $ 2,154 $ 1,726
The aggregate amortization expense was $205 thousand for 2023 and $262 thousand for 2022. As of December 31, 2023, the estimated amortization expense for the next five years and thereafter is as follows:
2024 $ 165
2025 125
2026 85
2027 45
2028 8
Thereafter -
$ 428
The carrying amount of goodwill for the years ended December 31, 2023 and 2022 is as follows:
Balance at December 31, 2023 and 2022
$ 7,157
Note 5. Premises, Equipment, and Leases
The following table summarizes the cost and accumulated depreciation of premises and equipment as of December 31, 2023 and 2022:
2023 2022
Leasehold improvements $ 2,622 $ 3,068
Furniture, fixtures and equipment 3,833 4,310
Computer software 1,183 1,169
Land 61 61
Buildings 196 196
Vehicles 47 47
Premises and equipment, gross $ 7,942 $ 8,851
Less: accumulated depreciation 6,945 7,631
Premises and equipment, net $ 997 $ 1,220
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
For the years ended December 31, 2023 and 2022, depreciation expense was $390 thousand and $424 thousand, respectively.
The Company has entered into operating leases for office space over various terms. The leases cover an agreed upon period of time and generally have options to renew and are subject to annual increases as well as allocations for real estate taxes and certain operating expenses. During the fourth quarter of 2023, the Company reduced its office space and recognized $273 thousand of impairment of existing right-of-use assets and losses on disposals of equipment.
The following tables present information about leases as of and for the years ended December 31, 2023 and 2022:
2023 2022
Right-of-Use-Asset $ 8,395 $ 9,680
Lease Liability $ 9,241 $ 10,394
Weighted Average Remaining Lease Term (Years) 7.1 7.9
Weighted Average discount rate 3.27 % 3.21 %
Years Ended December 31,
2023 2022
Operating Lease Expense $ 1,733 $ 1,504
Cash paid for amounts included in lease liabilities $ 1,840 $ 1,541
Impairment loss on right-of-use asset 228 -
Modification of right-of-use assets and lease liability - 283
Right-of-use assets obtained in exchange for operating lease liabilities 820 522
The following table presents a maturity schedule of undiscounted cash flows that contribute to the lease liability as of December 31, 2023:
2024 $ 1,814
2025 1,665
2026 1,574
2027 1,448
2028 814
Thereafter 3,061
Total $ 10,376
Less: discount (1,135)
$ 9,241
Note 6. Deposits
Remaining maturities on certificates of deposit are as follows as of December 31, 2023:
2024 $ 438,745
2025 81,721
2026 12,822
2027 17,397
2028 914
Thereafter -
$ 551,599
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Total time deposits greater than $250,000 were $164.9 million and $159.5 million at December 31, 2023 and 2022, respectively.
At December 31, 2023 and 2022, the Company had one customer relationship whose related balance on deposit exceeded 5% of outstanding deposits. This customer relationship comprises 9% of outstanding deposits at December 31, 2023 and 9% of outstanding deposits at December 31, 2022.
Brokered deposits totaled $245.3 million and $248.0 million at December 31, 2023 and 2022, respectively.
Note 7. Other Borrowed Funds
Other borrowed funds at December 31, 2023 and 2022 consist of the following:
Federal Funds Purchased FHLB Advances Subordinated Debt, net
2023 2022 2023 2022 2023 2022
Balance Outstanding at December 31, $ - $ 30,000 $ 85,000 $ 235,000 $ 19,620 $ 19,565
Maximum balance at any month end during the year $ - $ 115,000 $ 245,000 $ 235,000 $ 19,620 $ 19,565
Average balance for the year $ - $ 22,164 $ 101,682 $ 48,134 $ 19,590 $ 19,535
Weighted average rate on borrowings for the year ended - % 3.11 % 3.77 % 2.60 % 5.26 % 5.28 %
The Company had $85.0 million and $235.0 million of FHLB advances at each of December 31, 2023 and 2022 respectively. $85.0 million of FHLB advances outstanding at December 31, 2023 mature during the first quarter of 2024. At December 31, 2023, 1-4 family residential loans with a lendable value of $176.6 million, multi-family residential loans with a lendable value of $66.2 million, home equity lines of credit with a lendable value of $4.9 million and commercial real estate loans with a lendable value of $177.7 million were pledged against an available line of credit with the FHLB totaling $575.0 million as of December 31, 2023. The lendable collateral value excess at December 31, 2023 totaled $260.4 million.
The Company has unsecured lines of credit with correspondent banks totaling $185.0 million at December 31, 2023 and $265.0 million at December 31, 2022, available for overnight borrowing. At December 31, 2023, the Company had no advances outstanding and $30 million in December 31, 2022.
On June 20, 2016, the Company issued $25.0 million in fixed-to-floating rate subordinated notes due June 30, 2026 in a private placement transaction. Interest was payable at 6.00% per annum, from and including June 20, 2016 to, but excluding June 30, 2021, payable semi-annually in arrears. From and including June 30, 2021 to the early redemption date, the interest rate was to reset quarterly to an interest rate per annum equal to the then current three-month LIBOR rate plus 487 basis points, payable quarterly in arrears.
The Company had the option, on any scheduled interest payment date on or after June 30, 2021, to redeem the subordinated notes, in whole or in part, upon not fewer than 30 days nor greater than 60 days' notice to holders, at a redemption price equal to 100%of the principal amount of the subordinated notes to be redeemed plus accrued and unpaid interest to, but excluding, the date of redemption. In August 2021, the Company provided a redemption notice to each holder of the subordinated notes that the notes would be redeemed in full on September 30, 2021 or such later date as the holder returned its note to the Company. $23.8 million of principal was redeemed and paid during the year ended December 31, 2021.
On October 13, 2020, the Company completed its private placement of $20 million of its 4.875% fixed-to-floating subordinated notes due 2030 (the "Notes") to certain qualified institutional buyers and accredited investors. The Notes have a maturity date of October 15, 2030 and carry a fixed rate of interest of 4.875% for the first five years. Thereafter, the Notes will pay interest at the then current three-month Secured Overnight Financing Rate plus 471 basis points, resetting quarterly. The Notes include a right of prepayment without penalty on or after October 15, 2025. The Company used the proceeds from the placement of the Notes for general corporate purposes, including to support capital ratios at the Bank, and the repayment of the $25.0 million outstanding subordinated debt called in August 2021. The Notes qualify as Tier 2
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
capital for the Company to the fullest extent permitted under the Basel III capital rules. When contributed to the capital of the Bank, the proceeds of the subordinated notes may be included in Tier 1 capital for the Bank.
Note 8. Income Taxes
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2023 and 2022 are presented below:
2023 2022
Deferred Tax Assets:
Allowance for credit losses $ 4,304 $ 3,698
Net operating loss carryforward - federal and state 3,061 2,466
Bank premises and equipment 301 265
Nonqualified stock options and restricted stock 500 658
Organizational and start-up expenses 13 10
Acquisition accounting adjustments - 257
Non-accrual loan interest 52 59
Deferred loan costs - 60
Lease liability 2,108 2,396
Unrealized loss on securities available for sale 7,777 11,876
Reserves for unfunded commitments 137 -
$ 18,253 $ 21,745
Deferred Tax Liabilities:
Right-of-use assets $ (1,894) $ (2,232)
Deferred loan costs (307) -
Acquisition accounting adjustments (564) -
Unrealized gain on interest rate swap (665) (980)
$ (3,430) $ (3,212)
Net Deferred Tax Assets $ 14,823 $ 18,533
The income tax expense charged to operations for the years ended December 31, 2023 and 2022 consists of the following:
2023 2022
Current tax (benefit) expense $ (524) $ 5,610
Deferred tax expense 934 395
$ 410 $ 6,005
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Income tax expense differed from amounts computed by applying the U.S. federal income tax rate to income, before income tax expense as a result of the following:
2023 2022
Computed "expected" tax expense $ 875 $ 6,313
Increase (decrease) in income taxes resulting from:
State income tax expense 275 503
Non-deductible expense 163 138
Tax free income (310) (259)
Tax benefits from exercise of stock options (352) (364)
Other (241) (326)
$ 410 $ 6,005
The Company files income tax returns in the U.S. federal jurisdiction. With few exceptions, the Company is no longer subject to U.S. federal examination by tax authorities for years prior to 2020.
Under the provisions of the Internal Revenue Code, the Company has $10.1 million of net operating loss carryforwards acquired from Colombo which can be offset against future taxable income. The carryforwards expire through December 31, 2037. The full realization of tax benefits associated with carryforwards depends predominately upon the recognition of ordinary income during the carryforward period. The federal portion of net operating loss carryforwards available to offset taxable income is limited to $762 thousand annually under Internal Revenue Code section 382. The Company believes it will generate sufficient future taxable income to fully utilize the remaining deferred tax assets.
Note 9. Derivative Financial Instruments
The Company enters into interest rate swap agreements ("swap agreements") to facilitate the risk management strategies needed in order to accommodate the needs of its banking customers. The Company mitigates the risk of entering into these loan agreements by entering into equal and offsetting swap agreements with highly-rated third party financial institutions. These back-to-back swap agreements are free-standing derivatives and are recorded at fair value in the Company's consolidated statements of condition (asset positions are included in other assets and liability positions are included in other liabilities) as of December 31, 2023. The Company is party to master netting arrangements with its financial institution counterparty; however, the Company does not offset assets and liabilities under these arrangements for financial statement presentation purposes. The master netting arrangements provide for a single net settlement of all swap agreements, as well as collateral, in the event of default on, or termination of, any one contract. Parties to a centrally cleared over-the-counter derivative exchange daily payments that reflect the daily change in value of the derivative. These payments, commonly referred to as variation margin, are recorded as settlements of the derivatives' mark-to-market exposure rather than collateral against the exposures, which effectively results in any centrally cleared derivative having a Level 2 fair value that approximates zero on a daily basis, and therefore, these swap agreements were not included in the offsetting table in the Fair Value Measurement section. As of December 31, 2023, the Company entered into 17 interest rate swap agreements which were collateralized by $30 thousand in cash. As of December 31, 2022, the Company entered into 15 interest rate swap agreements which were collateralized by $30 thousand in cash.
The notional amount and fair value of the Company's derivative financial instruments as of December 31, 2023 and 2022 were as follows:
December 31, 2023
Notional Amount Fair Value
Interest Rate Swap Agreements
Receive Fixed/Pay Variable Swaps $ 82,483 $ 2,853
Pay Fixed/Receive Variable Swaps 82,483 (2,853)
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
December 31, 2022
Notional Amount Fair Value
Interest Rate Swap Agreements
Receive Fixed/Pay Variable Swaps $ 74,178 $ 4,260
Pay Fixed/Receive Variable Swaps 74,178 (4,260)
Interest Rate Risk Management-Cash Flow Hedging Instruments
The Company uses FHLB advances and other wholesale funding from time to time as a source of funds for use in the Company's lending and investment activities and other general business purposes. This wholesale funding exposes the Company to increased interest rate risk as a result of the variability in cash flows (future interest payments). The Company believes it is prudent to reduce this interest rate risk. To meet this objective, the Company entered into interest rate swap agreements whereby the Company reduces the interest rate risk associated with the Company's variable rate advances (or other wholesale funding) from the designation date and going through the maturity date.
At December 31, 2023 and 2022, the information pertaining to outstanding interest rate swap agreements used to hedge variability in cash flows is as follows:
2023 2022
Notional amount $ 250,000 $ 145,000
Weighted average pay rate 3.25 % 2.12 %
Weighted average receive rate 5.34 % 4.74 %
Weighted average maturity in years 4.03 3.49
Unrealized gain/(loss) relating to interest rate swaps $ 2,915 $ 4,251
These agreements provided for the Company to receive payments determined by a specific index in exchange for making payments at a fixed rate. At December 31, 2023 and 2022, the unrealized loss or gain relating to interest rate swaps designated as hedging instruments of the variability of cash flows associated with wholesale funds are reported in other comprehensive income (loss). These amounts are subsequently reclassified into interest expense as a yield adjustment in the same period in which the related interest on the advance affects earnings. The Company measures cash flow hedging relationships for effectiveness on a monthly basis, and at December 31, 2023 and 2022, the hedges were highly effective and the amount of ineffectiveness reflected in earnings was de minimus.
Note 10. Financial Instruments with Off-Balance Sheet Risk
The Company is party to credit-related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet.
The Company's exposure to credit loss is represented by the contractual amount of these commitments. The Company follows the same credit policies in making commitments as it does for on-balance sheet instruments.
At December 31, 2023 and 2022, the following financial instruments were outstanding which contract amounts represent credit risk:
2023 2022
Commitments to grant loans $ 36,650 $ 135,441
Unused commitments to fund loans and lines of credit 215,892 235,617
Commercial and standby letters of credit 26,024 6,503
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
may require payment of a fee. The commitments for equity lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management's credit evaluation of the customer.
Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit usually do not contain a specified maturity date and may not be drawn upon to the total extent to which the Company is committed. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management's credit evaluation of the customer.
Commercial and standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Substantially all letters of credit issued have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company generally holds collateral supporting those commitments, if deemed necessary.
The Company enters into rate lock commitments to finance residential mortgage loans with its customers. These commitments offer the borrower an interest rate guarantee provided the loan meets underwriting guidelines and closes within the timeframe established by the Company.
The Company maintains its cash accounts with the FRB and correspondent banks. The total amount of cash on deposit in correspondent banks exceeding the federally insured limits was $41 thousand and $1.4 million at December 31, 2023 and 2022, respectively.
Note 11. Minimum Regulatory Capital Requirements
Banks and bank holding companies are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, financial institutions must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. A financial institution’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
In August, 2018, the Federal Reserve updated the Small Bank Holding Company Policy Statement (the “Statement”), in compliance with the Economic Growth, Regulatory Relief and Consumer Protection Act of 2018 (“EGRRCPA”). The Statement, among other things, exempts bank holding companies that have assets below a specified asset threshold from the consolidated regulatory capital requirements. The rule expanded the exemption to bank holding companies with consolidated total assets of less than $3 billion. Prior to August 2018, the statement exempted bank holding companies with consolidated total assets of less than $1 billion. As a result of the rule, the Company qualifies as a small bank holding company and is no longer subject to regulatory capital requirements on a consolidated basis.
The final rules implementing Basel Committee on Banking Supervision’s capital guidelines for U.S. banks (“Basel III”) became effective for the Bank on January 1, 2015 with full compliance with all of the requirements being fully phased in January 1, 2019. As a part of the requirements, the Common Equity Tier 1 Capital ratio is calculated and utilized in the assessment of capital for all institutions. Under the Basel III rules, institutions must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios.
Prompt corrective action regulations, which also apply to the Bank, provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required.
Pursuant to the EGRRCPA, federal banking agencies have provided for an optional, simplified measure of capital adequacy, the community bank leverage ratio (“CBLR”) framework, for qualifying community bank organizations with
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
less than $10 billion in consolidated total assets. Organizations that qualify could opt in to the CBLR framework beginning January 1, 2020 or any time thereafter. An institution that maintains a leverage ratio that exceeds the CBLR is considered to have met all generally applicable leverage and risk based capital requirements (including the Basel III rules), the capital ratio requirements for “well capitalized” status under the prompt corrective action regulations, and any other leverage or capital requirements to which it is subject. On January 1, 2020, the Company opted in to the CBLR framework.
Effective September 30, 2022, we opted out of the CBLR framework. A banking organization that opts out of the CBLR framework can subsequently opt back into the CBLR framework if it meets the criteria proscribed. As of December 31, 2023 and 2022, the Bank meets all capital adequacy requirements to which it is subject and is considered well capitalized under the prompt corrective action regulations.
The capital ratios for the Bank as of December 31, 2023 and 2022 are shown in the following table.
Actual Minimum Capital Requirement Minimum to be Well Capitalized Under Prompt Corrective Action
Amount Ratio Amount Ratio (1)
Amount Ratio
At December 31, 2023
Total risk-based capital $ 261,403 13.83 % $ 198,413 10.50 % $ 188,965 > 10.00 %
Tier 1 risk-based capital 241,930 12.80 % 160,620 8.50 % 151,172 > 8.00 %
Common equity tier 1 capital 241,930 12.80 % 132,275 7.00 % 122,827 > 6.50 %
Leverage capital ratio 241,930 10.77 % 89,842 4.00 % 112,302 > 5.00 %
At December 31, 2022
Total risk-based capital $ 256,898 13.28 % $ 203,113 10.50 % $ 193,441 > 10.00 %
Tier 1 risk-based capital 240,858 12.45 % 164,425 8.50 % 154,753 > 8.00 %
Common equity tier 1 capital 240,858 12.45 % 135,409 7.00 % 125,737 > 6.50 %
Leverage capital ratio 240,858 10.75 % 87,894 4.00 % 109,867 > 5.00 %
________________________
(1). Ratios include capital conservation buffer.
Dividend Restrictions - The Company's principal source of funds for dividend payments is dividends received from the Bank. Banking regulations limit the amounts of dividends that may be paid without approval of regulatory agencies. As of December 31, 2023, $33.9 million of retained earnings is available to pay dividends.
Note 12. Related Party Transactions
Officers, directors and their affiliates had borrowings of $47.6 million and $37.9 million at December 31, 2023 and 2022, respectively, with the Company. During the years ended December 31, 2023 and 2022, total principal additions were $10.6 million and $19.9 million, respectively, and total principal payments were $0.9 million and $1.5 million, respectively.
Related party deposits amounted to $33.0 million and $38.4 million at December 31, 2023 and 2022, respectively.
Note 13. Stock-Based Compensation Plan
The Company’s Amended and Restated 2008 Option Plan (the "Plan"), which is stockholder-approved, was adopted to advance the interests of the Company by providing selected key employees of the Company, their affiliates, and directors with the opportunity to acquire shares of common stock in connection with their service to the Company. In May 2022, the stockholders approved an amendment to the Plan to extend the term and increase the number of shares authorized for issuance under the Plan by 200,000 shares. The Company has granted stock options and restricted stock units under the Plan.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The maximum number of shares with respect to which awards may be made is 2,929,296 shares of common stock, subject to adjustment for certain corporate events. Option awards are granted with an exercise price equal to the market price of the Company's stock at the date of grant, generally vest annually over four years of continuous service and have a contractual terms of ten years. At December 31, 2023, 146,432 shares were available to grant under the Plan. No options were granted during 2023 and 2022. For the year ended December 31, 2023, 63,634 shares were withheld from issuance upon exercise of options in order to cover the cost of the exercise by the participant. For the year ended December 31, 2022, there were 4,772 shares withheld from issuance upon exercise of options in order to cover the cost of the exercise by the participant.
A summary of option activity under the Plan as of December 31, 2023, and changes during the year then ended is presented below:
Options Shares Weighted
Average
Exercise
Price Weighted
Average
Remaining
Contractual
Term Aggregate
Intrinsic
Value (1)
Outstanding at January 1, 2023 1,621,920 $ 6.82 1.81
Granted - -
Exercised (427,135) 5.99
Forfeited or expired (20,654) 5.76
Outstanding and Exercisable at December 31, 2023
1,174,131 $ 7.14 1.3 $ 8,287,812
________________________
(1)The aggregate intrinsic value of stock options represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holders had all option holders exercised their options on December 31, 2023. This amount changes based on changes in the market value of the Company's stock.
As of December 31, 2023, all outstanding shares of the Plan are fully vested and amortized. Tax benefits recognized for qualified and non-qualified stock option exercises during 2023 and 2022 totaled $352 thousand and $364 thousand, respectively.
A summary of the Company's restricted stock grant activity as of December 31, 2023 is shown below.
Number of
Shares Weighted Average
Grant Date
Fair Value
Nonvested at January 1, 2023 278,245 $ 14.63
Granted 11,438 10.77
Vested (96,062) 14.67
Forfeited (14,506) 15.36
Balance at December 31, 2023
179,115 $ 14.30
The compensation cost that has been charged to income for the plan was $1.1 million and $1.2 million for 2023 and 2022, respectively. For the year ended December 31, 2023, 10,071 shares were withheld from issuance upon vesting of restricted stock units in order to cover the cost of the exercise by the participant. There were no shares withheld from issuance upon vesting of restricted stock units in order to cover the cost of the vesting by the participant for the year ended December 31, 2022. As of December 31, 2023, there was $1.9 million of total unrecognized compensation cost related to nonvested restricted shares granted under the Plan. The cost is expected to be recognized over a weighted-average period of 25 months .
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Note 14. Fair Value Measurements
Determination of Fair Value
The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with Fair Value Measurements and Disclosures topic of FASB ASC, the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date (exit price). Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.
The fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.
Fair Value Hierarchy
In accordance with this guidance, the Company groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.
Level 1 - Valuation is based on quoted prices in active markets for identical assets and liabilities.
Level 2 - Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model -based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.
Level 3 - Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market.
The following describes the valuation techniques used by the Company to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements:
Securities available-for-sale: Securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that considers observable market data (Level 2).
Derivatives assets and liabilities:
Cash flow hedges: The Company has loan interest rate swap derivatives and interest rate swap derivatives on certain time deposits and borrowings, which the latter are designated as cash flow hedges. These derivatives are recorded at fair value using published yield curve rates from a national valuation service. These observable rates and inputs are applied to a third party industry-wide valuation model, and therefore, the valuations fall into a Level 2 category.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following table presents the balances of financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2023 and 2022:
Fair Value Measurements at
December 31, 2023 Using
Balance as of
December 31, 2023
Quoted Prices
in Active
Markets for
Identical
Assets Significant
Other
Observable
Inputs Significant
Unobservable
Inputs
Description (Level 1) (Level 2) (Level 3)
Assets
Available-for-sale
Securities of U.S. government and federal agencies $ 8,470 $ - $ 8,470 $ -
Securities of state and local municipalities tax exempt 997 - 997 -
Securities of state and local municipalities taxable 404 - 404 -
Corporate bonds 17,648 - 17,648 -
SBA pass-through securities 57 - 57 -
Mortgage-backed securities 140,942 - 140,942 -
Collateralized mortgage obligations 3,077 - 3,077 -
Total Available-for-Sale Securities $ 171,595 $ - $ 171,595 $ -
Derivative assets - interest rate swaps $ 2,853 $ - $ 2,853 $ -
Derivative assets - cash flow hedge 2,915 - 2,915 -
Liabilities
Derivative liabilities - interest rate swaps $ 2,853 $ - $ 2,853 $ -
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Fair Value Measurements at
December 31, 2022 Using
Balance as of
December 31, 2022
Quoted Prices
in Active
Markets for
Identical
Assets Significant
Other
Observable
Inputs Significant
Unobservable
Inputs
Description (Level 1) (Level 2) (Level 3)
Assets
Available-for-sale
Securities of U.S. government and federal agencies
$ 11,004 $ - $ 11,004 $ -
Securities of state and local municipalities tax exempt 1,376 - 1,376 $ -
Securities of state and local municipalities taxable 444 - 444 -
Corporate bonds 19,058 - 19,058 -
SBA pass-through securities 67 - 67 -
Mortgage-backed securities 237,434 - 237,434 -
Collateralized mortgage obligations 8,686 - 8,686 -
Total Available-for-Sale Securities $ 278,069 $ - $ 278,069 $ -
Derivative assets - interest rate swaps $ 4,260 $ - $ 4,260 $ -
Derivative assets - cash flow hedge $ 4,251 $ - $ 4,251 -
Liabilities
Derivative liabilties - interest rate swaps $ 4,260 $ - $ 4,260 $ -
Certain financial assets are measured at fair value on a nonrecurring basis in accordance with GAAP. Adjustments to the fair value of these assets usually result from the application of lower of cost or market accounting or write-downs of individual assets.
The following describes the valuation techniques used by the Company to measure certain financial assets recorded at fair value on a nonrecurring basis in the financial statements:
At December 31, 2023, all of the Company's individually evaluated loans were evaluated based upon the fair value of the collateral. In accordance with ASC 820, individually evaluated loans where an allowance is established based on the the fair value of collateral (i.e., those loans that are collateral dependent) require classification in the fair value hierarchy. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing a market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Company using observable market data (Level 2). However, if the collateral is a house or building in the process of construction, has the value derived by discounting comparable sales due to lack of similar properties, or is discounted by the Company due to marketability, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’s financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3).
Impaired Loans (prior to adoption of ASC 326): Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on the present value of future cash flows, observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing a market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Company using observable market data (Level 2). However, if the collateral
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
is a house or building in the process of construction, has the value derived by discounting comparable sales due to lack of similar properties, or is discounted by the Company due to marketability, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’s financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the allowance for credit losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as provision for credit losses on the Consolidated Statements of Income.
The following table summarizes the Company's assets that were measured at fair value on a nonrecurring basis at December 31, 2023 and 2022:
Fair Value Measurements
Using
Balance as of
December 31, 2023
Quoted Prices
in Active
Markets for
Identical
Assets Significant
Other
Observable
Inputs Significant
Unobservable
Inputs
Description (Level 1) (Level 2) (Level 3)
Assets
Collateral-dependent loans
Commercial real estate $ 849 $ - $ - $ 849
Commercial and industrial $ 396 $ - $ - $ 396
Total Collateral-dependent loans $ 1,245 $ - $ - $ 1,245
Fair Value Measurements
Using
Balance as of
December 31, 2022
Quoted Prices
in Active
Markets for
Identical
Assets Significant
Other
Observable
Inputs Significant
Unobservable
Inputs
Description (Level 1) (Level 2) (Level 3)
Assets
Impaired loans
Commercial and industrial $ 1,233 $ - $ - $ 1,233
Total Impaired loans $ 1,233 $ - $ - $ 1,233
The following table displays quantitative information about Level 3 Fair Value Measurements for December 31, 2023 and 2022:
Quantitative information about Level 3 Fair Value Measurements for December 31, 2023
Assets Fair Value Valuation Technique(s) Unobservable input Range
(Avg.)
Collateral-dependent loans
Commercial real estate $ 849 Discounted appraised value Marketability/Selling costs 10% - 10%
10.00 %
Commercial and industrial
$ 396 Discounted appraised value Marketability/Selling costs 10% - 10%
10.00 %
Quantitative information about Level 3 Fair Value Measurements for December 31, 2022
Assets Fair Value Valuation Technique(s) Unobservable input Range
(Avg.)
Impaired loans
Commercial and industrial $ 1,233 Discounted appraised value Marketability/Selling costs 8% - 8 %
8.00 %
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following presents the carrying amount, fair value and placement in the fair value hierarchy of the Company's financial instruments as of December 31, 2023 and 2022. Fair values for December 31, 2023 and 2022 are estimated under the exit price notion in accordance with the prospective adoption of ASU 2016-01, "Recognition and Measurement of Financial Assets and Financial Liabilities."
Fair Value Measurements as of December 31, 2023 using
Carrying
Amount
Quoted Prices in
Active Markets
for Identical
Assets
Significant
Unobservable
Inputs Significant
Unobservable
Inputs
Level 1 Level 2 Level 3
Financial assets:
Cash and due from banks $ 8,042 $ 8,042 $ - $ -
Interest-bearing deposits at other institutions 52,480 52,480 - -
Securities held-to-maturity 264 - 252 -
Securities available-for-sale 171,595 - 171,595 -
Restricted stock 9,488 - 9,488 -
Loans, net 1,809,693 - - 1,725,785
Bank owned life insurance 56,823 - 56,823 -
Accrued interest receivable 10,321 - 10,321 -
Derivative assets - interest rate swaps 2,853 - 2,853 -
Derivative assets - cash flow hedge 2,915 - 2,915 -
Financial liabilities:
Checking, savings and money market accounts $ 1,293,693 $ - $ 1,293,693 $ -
Time deposits 551,599 - 551,949 -
FHLB advances 85,000 - 85,000 -
Subordinated notes 19,620 - 18,565 -
Accrued interest payable 2,415 - 2,415 -
Derivative liabilities - interest rate swaps 2,853 - 2,853 -
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Fair Value Measurements as of December 31, 2022 using
Carrying
Amount
Quoted Prices in
Active Markets
for Identical
Assets
Significant
Unobservable
Inputs Significant
Unobservable
Inputs
Level 1 Level 2 Level 3
Financial assets:
Cash and due from banks $ 7,253 $ 7,253 $ - $ -
Interest-bearing deposits at other institutions 74,300 74,300 - -
Securities held-to-maturity 264 - 252 -
Securities available-for-sale 278,069 - 278,069 -
Restricted stock 15,612 - 15,612 -
Loans, net 1,824,394 - - 1,756,984
Bank owned life insurance 55,371 - 55,371 -
Accrued interest receivable 9,435 - 9,435 -
Derivative assets - interest rate swaps 4,260 - 4,260 -
Derivative assets - cash flow hedge 4,251 - 4,251 -
Financial liabilities:
Checking, savings and money market accounts $ 1,321,749 $ - $ 1,321,749 $ -
Time deposits $ 508,413 - 510,754 -
Fed funds purchased 30,000 - 30,000 -
FHLB advances 235,000 - 235,000 -
Subordinated notes 19,565 - 18,856 -
Accrued interest payable 1,269 - 1,269 -
Derivative liabilties - interest rate swaps 4,260 - 4,260 -
Note 15. Earnings Per Share
Basic earnings per share ("EPS") excludes dilution and is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if contracts to issue common stock were exercised or converted into common stock, or resulted in the issuance of stock which then shared in the earnings of the Company. Weighted average shares - diluted includes only the potential dilution of stock options and unvested restricted stock units as of as of December 31, 2023 and 2022, respectively.
The following shows the weighted average number of shares used in computing earnings per share and the effect of weighted average number of shares of dilutive potential common stock. Dilutive potential common stock has no effect on income available to common shareholders. There were no anti-dilutive shares for each of the years ended December 31, 2023 and 2022.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The holders of restricted stock do not share in dividends and do not have voting rights during the vesting period.
For the Years Ended
December 31,
2023 2022
Net income $ 3,822 $ 24,984
Weighted average - basic shares 17,723 17,431
Effect of dilutive securities, restricted stock units and options
508 1,053
Weighted average - diluted shares 18,231 18,484
Basic EPS $ 0.22 $ 1.43
Diluted EPS $ 0.21 $ 1.35
Note 16. Supplemental Cash Flow Information
For the Years Ended
December 31,
(In thousands) 2023 2022
Supplemental Disclosure of Cash Flow Information:
Cash paid for:
Interest on deposits and borrowed funds $ 51,017 $ 15,140
Income taxes 2,360 6,070
Noncash investing and financing activities:
Unrealized gain (loss) on securities available-for-sale
17,413 (48,958)
Unrealized (loss) gain on interest rate swaps (1,337) 4,328
Adoption of CECL accounting standard (2,808) -
Right-of-use assets obtained in the exchange for lease liabilities during the current period 820 522
Modification of right-of-use assets and lease liability 455 283
Note 17. Accumulated Other Comprehensive Income (Loss)
Changes in accumulated other comprehensive income (loss) ("AOCI") for the years ended December 31, 2023 and 2022 are shown in the following table. The Company has two components of AOCI, which are available-for-sale securities and cash flow hedges, for each of the years ended December 31, 2023 and 2022.
Available-for-
Sale Securities Cash Flow
Hedges Total
Balance, beginning of period $ (39,926) $ 3,359 $ (36,567)
Net unrealized (losses) gains during the period 1,300 (1,043) 257
Net reclassification adjustment for losses realized in income 12,150 - 12,150
Other comprehensive (loss) income, net of tax 13,450 (1,043) 12,407
Balance, end of period $ (26,476) $ 2,316 $ (24,160)
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Available-for-
Sale Securities Cash Flow
Hedges Total
Balance, beginning of period $ (1,983) $ (60) $ (2,043)
Net unrealized (losses) gains during the period (37,943) 3,419 (34,524)
Other comprehensive income (loss), net of tax (37,943) 3,419 (34,524)
Balance, end of period $ (39,926) $ 3,359 $ (36,567)
During 2023, $102.5 million in investment securities available-for-sale, or 31% of the investment portfolio, were sold with a realized after-tax loss of $12.1 million that was reclassified from AOCI into income. There were no gains or losses that were reclassified from AOCI into income for the year ended December 31, 2022, respectively.
Note 18. Revenue Recognition
The Company recognizes revenue in accordance with ASU 2014-09 ‘‘Revenue from Contracts with Customers’’ ("Topic 606") and all subsequent ASUs that modified Topic 606 in recognizing revenue. Topic 606 does not apply to revenue associated with financial instruments, including revenue from loans and securities. In addition, certain non-interest income streams such as fees associated with mortgage servicing rights, gain on sale of securities, bank-owned life insurance income, financial guarantees, derivatives, and certain credit card fees are also not in scope of the new guidance. Topic 606 is applicable to non-interest revenue streams such as trust and asset management income, deposit related fees, interchange fees, merchant income, and insurance commissions. However, the recognition of these revenue streams did not change significantly upon adoption of Topic 606. Substantially all of the Company’s revenue is generated from contracts with customers. Non-interest revenue streams in-scope of Topic 606 are discussed below.
Service Charges on Deposit Accounts
Service charges on deposit accounts consist of account analysis fees (i.e., net fees earned on analyzed business and personal checking accounts), monthly service fees, check orders, and other deposit account related fees. The Company’s performance obligation for account analysis fees and monthly service fees is generally satisfied, and the related revenue recognized, over the period in which the service is provided. Check orders and other deposit account related fees are largely transactional based, and therefore, the Company’s performance obligation is satisfied, and related revenue recognized, at a point in time. Payment for service charges on deposit accounts is primarily received immediately or in the following month through a direct charge to customers’ accounts.
Fees, Exchange and Other Service Charges
Fees, exchange, and other service charges are primarily comprised of debit and credit card income, ATM fees, merchant services income, and other service charges and are included in other income on the Company’s consolidated statements of income. Debit and credit card income is primarily comprised of interchange fees earned whenever the Company’s debit and credit cards are processed through card payment networks such as Visa. ATM fees are primarily generated when a Company cardholder uses a non-Company ATM or a non-Company cardholder uses a Company ATM. Merchant services income mainly represents fees charged to merchants to process their debit and credit card transactions, in addition to account management fees. Other service charges include revenue from processing wire transfers, bill pay service, cashier’s checks, and other services. The Company’s performance obligation for fees, exchange, and other service charges are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payment is typically received immediately or in the following month. This income is reflected in other income on the Company’s consolidated statements of income.
Other Income
Other non-interest income consists of loan swap fees, insurance commissions, and other miscellaneous revenue streams not meeting the criteria above. When the Company enters into an interest rate swap agreement, the Company may receive an additional one-time payment fee which is recognized as income when received. The Company receives monthly recurring commissions based on a percentage of premiums issued and revenue is recognized when received. Any residual miscellaneous fees are recognized as they occur, and therefore, the Company determined this consistent practice satisfies the obligation for performance.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
The following presents noninterest income, segregated by revenue streams in-scope and out-of-scope of Topic 606, for the years ended December 31, 2023 and 2022:
Years Ended December 31,
2023 2022
Non-interest Income
In-scope of Topic 606
Service Charges on Deposit Accounts $ 1,028 $ 954
Fees, Exchange, and Other Service Charges 350 374
Other income 96 104
Non-interest Income (in-scope of Topic 606) 1,474 1,432
Non-interest Income (out-scope of Topic 606) (14,844) 1,402
Total Non-interest (Loss) Income $ (13,370) $ 2,834
Contract Balances
A contract asset balance occurs when an entity performs a service for a customer before the customer pays consideration (resulting in a contract receivable) or before payment is due (resulting in a contract asset). A contract liability balance is an entity’s obligation to transfer a service to a customer for which the entity has already received payment (or payment is due) from the customer. The Company’s non-interest revenue streams are largely based on transactional activity. Consideration is often received immediately or shortly after the Company satisfies its performance obligation and revenue is recognized. The Company does not typically enter into long-term revenue contracts with customers, and therefore, does not experience significant contract balances. As of December 31, 2023 and 2022, the Company did not have any significant contract balances.
Contract Acquisition Costs
Under Topic 606, an entity is required to capitalize, and subsequently amortize into expense, certain incremental costs of obtaining a contract with a customer if these costs are expected to be recovered. The incremental costs of obtaining a contract are those costs that an entity incurs to obtain a contract with a customer that it would not have incurred if the contract had not been obtained (for example, sales commission). The Company utilizes the practical expedient which allows entities to immediately expense contract acquisition costs when the asset that would have resulted from capitalizing these costs would have been amortized in one year or less. The Company did not capitalize any contract acquisition cost during the years ended December 31, 2023 or 2022.
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
Note 19. Parent Company Only Financial Statements
The FVCBankcorp, Inc. (Parent Company only) condensed financial statements are as follows:
PARENT COMPANY ONLY CONDENSED STATEMENTS OF CONDITION
December 31, 2023 and 2022
Assets 2023 2022
Cash and cash equivalents $ 85 $ 531
Securities available-for-sale 991 991
Investment in subsidiary 227,658 214,382
Other assets 8,391 6,404
Total assets $ 237,125 $ 222,308
Liabilities and Stockholders' Equity
Subordinated notes $ 19,620 $ 19,565
Other liabilities 388 361
Total liabilities $ 20,008 $ 19,926
Total stockholders' equity $ 217,117 $ 202,382
Total liabilities and stockholders' equity $ 237,125 $ 222,308
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
PARENT COMPANY ONLY CONDENSED STATEMENTS OF INCOME
For the Years Ended December 31, 2023 and 2022
2023 2022
Income:
Interest on securities available-for-sale $ 101 $ 67
Income from minority membership interest 1,654 626
Dividend income 683 730
Total income $ 2,438 $ 1,423
Expense:
Interest on subordinated notes $ 1,030 $ 1,031
Salaries and employee benefits 1,151 1,192
Occupancy and equipment 80 80
Audit, legal and consulting fees 256 375
Other operating expenses 252 194
Total expense $ 2,769 $ 2,872
Net (loss) before income tax benefit and equity in undistributed earnings of subsidiary $ (331) $ (1,449)
Income tax benefit (477) (580)
Equity in undistributed earnings of subsidiary 3,676 25,853
Net income $ 3,822 $ 24,984
Notes to Consolidated Financial Statements
($ in thousands, except per share data)
PARENT COMPANY ONLY CONDENSED STATEMENTS OF CASH FLOWS
For The Years Ended December 31, 2023 and 2022
2023 2022
Cash Flows From Operating Activities
Net income $ 3,822 $ 24,984
Equity in undistributed earnings of subsidiary (3,676) (25,853)
Amortization of subordinated debt issuance costs 55 55
Stock-based compensation expense 1,143 1,183
Change in other assets and liabilities (1,961) (1,413)
Net cash (used in) provided by operating activities $ (617) $ (1,044)
Cash Flows From Investing Activities
Net cash used in investing activities $ - $ -
Cash Flows From Financing Activities
Repayment of subordinated notes, net $ - $ (1,250)
Repurchase of shares of common stock (1,460) (730)
Vesting of restricted stock options (113) -
Common stock issuance 1,744 1,673
Net cash provided by (used in) financing activities $ 171 $ (307)
Net decrease in cash and cash equivalents $ (446) $ (1,351)
Cash and cash equivalents, beginning of year 531 1,882
Cash and cash equivalents, end of year $ 85 $ 531
67`Note 20: Subsequent Events
The Company surrendered $47.9 million of its bank-owned life insurance (“BOLI”). These policies yielded 2.74% (3.34% on a tax-equivalent basis). This transaction resulted in a non-recurring increase of $2.2 million to the Company’s tax provisioning related to the gain associated with the expected cash payout, which will be included in the Company’s first quarter earnings. The projected earn-back period is approximately one year. The Company expects to use the proceeds to pay down high cost funding and fund new loan growth. From an earnings perspective, this balance sheet re-positioning is expected to be accretive to net interest income, net interest margin and return on average assets in future periods.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
No changes in the Company's independent registered public accounting firm or disagreements on accounting and financial disclosure required to be reported hereunder have taken place.

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ITEM 9A. CONTROLS AND PROCEDURES
Item 9A. Controls and Procedures
Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to provide assurance that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods required by the Securities and Exchange Commission and that such information is accumulated and communicated to the Company's management including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. An evaluation of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of the end of the period covered by this report was carried out under the supervision and with the participation of management, including the Company's Chief Executive Officer and Chief Financial Officer. Based on the evaluation, the aforementioned officers concluded that the Company's disclosure controls and procedures were effective as of the end of such period.
Management's Report on Internal Control over Financial Reporting
Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. The Company's internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of the Company's financial reporting and the preparation of published financial statements in accordance with generally accepted accounting principles.
Management assessed the effectiveness of the Company's internal control over financial reporting as of December 31, 2023. In making this assessment, management used the 2013 criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO") in Internal Control-Integrated Framework. Based on management's assessment, management believes that as of December 31, 2023, the Company's internal control over financial reporting was effective based on criteria set forth by COSO in its 2013 Internal Control-Integrated Framework.
The Company's annual report does not include an attestation report of the Company's independent registered public accounting firm, Yount, Hyde & Barbour. P.C. ("YHB"), Auditor Firm ID: 613 regarding internal control over financial reporting under Public Company Accounting Oversight Board standards. Management's report was not subject to attestation by YHB pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management's report in its annual report.
The 2023 consolidated financial statements have been audited by the independent registered public accounting firm of YHB. Personnel from YHB were given unrestricted access to all financial records and related data, including minutes of all meetings of the Board of Directors and Committees thereof. Management believes that all representations made to the independent registered public accounting firm were valid and appropriate. The resulting report from YHB accompanies the consolidated financial statements.
Changes in Internal Control Over Financial Reporting
There was no change in the Company's internal control over financial reporting identified in connection with the evaluation of internal controls that occurred during the fourth quarter of 2023 that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

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ITEM 9B. OTHER INFORMATION
Item 9B. Other Information
(a) None.
(b) During the quarter ended December 31, 2023, no director or Section 16 officer of the Company adopted or terminated any Rule 10b5-1 trading arrangements or non-Rule 10b5-1 trading arrangements.
.

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Item 10. Directors, Executive Officers and Corporate Governance
Pursuant to General Instruction G(3) of Form 10-K, the information contained under the captions "Election of Directors," "Executive Officers," "Ownership of Company Securities - Delinquent Section 16(a) Reports" and "Corporate Governance and The Board of Directors" in the Company's Proxy Statement for the 2024 Annual Meeting of Shareholders is incorporated by reference.

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ITEM 11. EXECUTIVE COMPENSATION
Item 11. Executive Compensation
Pursuant to General Instruction G(3) of Form 10-K, the information contained under the captions "Executive Compensation," "Corporate Governance and The Board of Directors - Director Compensation" and "Corporate Governance and The Board of Directors - "Compensation Committee Interlocks and Insider Participation" in the Company's Proxy Statement for the 2024 Annual Meeting of Shareholders is incorporated by reference.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Security Ownership of Certain Beneficial Owners and Management. Pursuant to General Instruction G(3) of Form 10-K, the information contained under the caption "Ownership of Company Securities - Security Ownership of Directors, Executive Officers and Certain Beneficial Owners" in the Company's Proxy Statement for the 2024 Annual Meeting of Shareholders is incorporated by reference.
Equity Compensation Plan Information. The following table sets forth information as of December 31, 2023, with respect to compensation plans under which shares of our Common Stock are authorized for issuance.
Plan Category Number of Securities to Be
Issued Upon Exercise of
Outstanding Options,
Warrants and Rights Weighted Average
Exercise Price of
Outstanding Options,
Warrants and Rights Number of Securities
Remaining Available
for Future Issuance
Under Equity
Compensation Plans(1)
Equity Compensation Plans Approved by Stockholders:
Amended and Restated 2008 Stock Plan 1,174,131 $ 7.14 146,432
Equity Compensation Plans Not Approved by Stockholders (2) - - -
Total 1,174,131 $ 7.14 146,432
________________________
(1)Amounts exclude any securities to be issued upon exercise of outstanding options, warrants and rights.
(2)The Company does not have any equity compensation plans that have not been approved by stockholders.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Item 13. Certain Relationships and Related Transactions, and Director Independence
Pursuant to General Instruction G(3) of Form 10-K, the information contained under the captions "Executive Compensation - Certain Relationships and Related Transactions" and "Corporate Governance and The Board of Directors - Director Independence" in the Company's Proxy Statement for the 2024 Annual Meeting of Shareholders is incorporated by reference.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Item 14. Principal Accountant Fees and Services
Pursuant to General Instruction G(3) of Form 10-K, the information contained under the captions "Audit information - Fees of Independent Registered Public Accountants" and "Audit Information - Audit Committee Pre-Approval Policies and Procedures" in the Company's Proxy Statement for the 2024 Annual Meeting of Shareholders is incorporated by reference.

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
Item 15. Exhibit and Financial Statement Schedules
(a)Exhibits
Number Description
3.1 Articles of Incorporation of FVCBankcorp, Inc. (incorporated by reference to Exhibit 3.1 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
3.2 Amendment, dated May 11, 2018, to Articles of Incorporation of FVCBankcorp, Inc. (incorporated by reference to Exhibit 3.2 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
3.3 Bylaws of FVCBankcorp, Inc., as amended (incorporated by reference to Exhibit 3.1 of the Current Report on Form 8-K filed on April 9, 2020)
4.1 Specimen Certificate for Common Stock (incorporated by reference to Exhibit 4.1 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
4.2 Form of Subordinated Note due October 15, 2030 (incorporated by reference to Exhibit 4.1 of the Current Report on Form 8-K filed on October 14, 2020)
4.3 Description of FVCBankcorp, Inc.'s Securities
10.1 Amended and Restated Employment Agreement, dated as of March 16, 2021, by and among FVCBankcorp, Inc., FVCbank and David W. Pijor (incorporated by reference to Exhibit 10.1 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
10.2 Amended and Restated Change in Control Agreement, dated as of March 16, 2021, by and among FVCBankcorp, Inc., FVCbank and Patricia A. Ferrick (incorporated by reference to Exhibit 10.2 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
10.3 Supplemental Executive Retirement Plan Agreement, dated June 7, 2022, between FVCBankcorp, Inc. and David W. Pijor (incorporated by reference to Exhibit 10.1 of the Current Report on Form 8-K filed on June 7, 2022).
10.4 Supplemental Executive Retirement Plan Agreement, dated June 7, 2022, between FVCBankcorp, Inc. and Patricia A. Ferrick (incorporated by reference to Exhibit 10.2 of the Current Report on Form 8-K filed on June 7, 2022).
10.5 Supplemental Executive Retirement Plan Agreement, dated June 7, 2022, between FVCBankcorp, Inc. and Jennifer L. Deacon (incorporated by reference to Exhibit 10.3 of the Current Report on Form 8-K filed on June 7, 2022).
10.6 Supplemental Executive Retirement Plan Agreement, dated June 7, 2022, between FVCBankcorp, Inc. and William G. Byers (incorporated by reference to Exhibit 10.4 of the Current Report on Form 8-K filed on June 7, 2022).
10.7 Form of Subordinated Note Purchase Agreement dated October 13, 2020 (incorporated by reference to Exhibit 10.1 of the Current Report on Form 8-K filed on October 14, 2020)
10.8 FVCBankcorp, Inc. Amended and Restated 2008 Stock Plan, as amended (incorporated by reference to Appendix A of the Proxy Statement for the Annual Meeting of Shareholders held on May 18, 2022, filed on April 8, 2022)
10.9 1st Commonwealth Bank of Virginia 2009 Stock Option Plan (incorporated by reference to Exhibit 10.6 of the Registration Statement on Form S-1 filed on August 20, 2018 (Registration No. 333-226942))
21 Subsidiaries of the Registrant
23.1 Consent of Yount, Hyde & Barbour, P.C.
31.1 Rule 13a-14(a) Certification of Chief Executive Officer
31.2 Rule 13a-14(a) Certification of Chief Financial Officer
32.1 Statement of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350
32.2 Statement of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350
97 FVC Bankcorp, Inc. Clawback policy
101 Interactive data files pursuant to Item 405 of Regulation S-T
(i) Consolidated Statements of Condition at December 31, 2023 and 2022
(ii) Consolidated Statement of Income for the years ended December 31, 2023 and 2022
(iii) Consolidated Statement of Comprehensive Income for the years ended December 31, 2023 and 2022
(iv) Consolidated Statement of Changes in Stockholders' Equity for the years ended December 31, 2023 and 2022
(v) Consolidated Statement of Cash Flows for the years ended December 31, 2023 and 2022
(vi) Notes to the Consolidated Financial Statements
104 The cover page from the Company's Annual Report on Form 10-K for the year ended December 31, 2023, formatted in Inline Extensible Business Reporting Language (included with Exhibit 101).