EDGAR 10-K Filing

Company CIK: 1053584
Filing Year: 2023
Filename: 1053584_10-K_2023_0001140361-23-007466.json

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ITEM 1. BUSINESS
ITEM 1:
Business.
As used in this report, the terms "we," "us," "our,” ”Macatawa” and “Company” mean Macatawa Bank Corporation and its subsidiaries, unless the context indicates another meaning. The term "Bank" means Macatawa Bank.
Macatawa Bank Corporation is a Michigan corporation, incorporated in 1997, and is a registered bank holding company. It wholly owns Macatawa Bank, a Michigan chartered bank with depository accounts insured by the FDIC. The Bank operates twenty-six branch offices and a lending and operational service facility, providing a full range of commercial and consumer banking and trust services in Kent County, Ottawa County, and northern Allegan County, Michigan.
At December 31, 2022, we had total assets of $2.91 billion, total loans of $1.18 billion, total deposits of $2.62 billion and shareholders' equity of $247.0 million. We recognized net income of $34.7 million in 2022 compared to net income of $29.0 million in 2021. As of December 31, 2022, the Company’s and the Bank’s risk-based regulatory capital ratios were significantly above those required under the regulatory standards and the Bank continued to be categorized as “well capitalized” at December 31, 2022.
The Company paid a cash dividend of $0.08 per share for each quarter of 2021 and 2022.
The Bank was a participating lender in the Small Business Administration's (“SBA”) Paycheck Protection Program (“PPP”). Fees generated based on the origination of PPP loans were deferred and amortized into interest income over the contractual period of 24 months or 60 months, as applicable. Upon SBA forgiveness, unamortized fees were then recognized into interest income.
In 2020:
•
The Bank originated 1,738 PPP loans totaling $346.7 million in principal.
•
Fees generated totaled $10.0 million.
•
765 PPP loans totaling $113.5 million were forgiven.
•
Total net fees of $5.4 million were recognized.
In 2021:
•
The Bank originated 1,000 PPP loans totaling $128.1 million in principal.
•
Fees generated totaled $5.6 million.
•
1,722 PPP loans totaling $318.4 million were forgiven.
•
Total net fees of $8.3 million were recognized.
In 2022:
•
251 PPP loans totaling $43.2 million were forgiven.
•
Total net fees of $1.3 million were recognized.
As of December 31, 2022, no PPP loans remain outstanding.
We are in an asset-sensitive position, so increases in short-term interest rates have a net positive impact on our net interest income as our interest-earning assets will reprice faster than our interest-bearing liabilities; however, decreases in short-term interest rates will have a net negative impact on net interest income. Given our asset-sensitivity, several years ago we established floors on our variable rate loans to help offset the negative impact of declining interest rates on net interest income. These floors benefited net interest income in 2022 and 2021. The aggressive rate increases by the Federal Reserve in 2022 to combat inflation has had a very positive impact on our net interest income in 2022.
Over the past several years, our nonperforming asset levels have been low. The following table reflects period end balances of these nonperforming assets as well as total loan delinquencies.
December 31,
(Dollars in thousands)
Nonperforming loans
$
$
$
Other repossessed assets
-
-
-
Other real estate owned
2,343
2,343
2,537
Total nonperforming assets
$
2,421
$
2,435
$
3,070
Total delinquencies 30 days or greater past due
$
$
$
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The following table reflects the provision for loan losses for the past three years along with certain metrics that impact the determination of the level of the provision for loan losses.
For the Year Ended December 31,
(Dollars in thousands)
Provision for loan losses
$
(1,125
)
$
(2,050
)
$
3,000
Net charge-offs (recoveries)
(521
)
(531
)
2,792
Net charge-offs (recoveries) to average loans
(0.05
)%
(0.04
)%
0.19
%
Nonperforming loans to total loans
0.01
%
0.01
%
0.04
%
Loans transferred to ORE to average loans
-
-
-
Performing troubled debt restructurings ("TDRs") to average
loans
0.63
%
0.60
%
0.60
%
We recorded a provision for loan losses benefit of $1.1 million in 2022. We recorded a provision for loan losses benefit of $2.1 million in 2021 and we recorded a provision for loan losses of $3.0 million in 2020. The level of provisions in each year was impacted by recoveries from our collection efforts and certain declines in our historical charge-off levels from prior years. The provision in 2020 was impacted by additional qualitative factors applied for the COVID-19 pandemic and a large commercial loan charge-off. The provision in 2022 and 2021 benefitted from reduction of these COVID-19 qualitative adjustments.
We experienced net charge-offs in 2020 due to a $4.1 million charge-off on a single commercial loan relationship to a movie theatre business that was in process of liquidation at the time that the COVID-19 pandemic began. Excluding that charge-off, we had net recoveries in 2020.
Economic conditions in our market areas of Grand Rapids and Holland, Michigan were good during the several years leading up to the COVID-19 pandemic and have generally recovered from the second quarter 2020 low point caused by the pandemic and mitigation efforts. The state of Michigan’s unemployment rate at the end of 2022 was 4.3%. The Grand Rapids and Holland area unemployment rate was 3.0% at the end of 2022.
In the housing markets in our primary market areas strong purchase demand exists which has caused a shortage in the inventory of existing homes for sale. In response, new living unit starts increased in 2021 and continued in 2022. In the Grand Rapids market during 2022, total living unit starts were up 68% compared to 2021 driven by apartment unit growth. The Holland-Grand Haven/Lakeshore region showed different results with living units starts down 19% in 2022 over 2021. Generally speaking, residential housing property values have increased during 2022.
Commercial banking is an important focus for us. Most of our emphasis has been on growing commercial and industrial loans. The PPP program and borrowers' reluctance to deploy funds during the pandemic had a significant impact on commercial lending in 2020 and 2021. We saw growth in our commercial and consumer loan portfolios in 2022, but overall balances remain below pre-pandemic levels (before 2020).
We have no material foreign loans, assets or activities. No material part of our business is dependent on a single customer or very few customers. Our loan portfolio is not concentrated in any one industry.
Our internet website address is www.macatawabank.com. We make available free of charge through this website our annual report on Form 10-K, our quarterly reports on Form 10-Q and our current reports on Form 8-K and amendments to those reports as soon as reasonably practicable after filing or furnishing such reports with the Securities and Exchange Commission. The information on our website address is not incorporated by reference into this report, and the information on the website is not part of this report.
Products and Services
Loan Portfolio
We have historically offered a broad range of loan products to business customers, including commercial and industrial and commercial real estate loans, and to retail customers, including residential mortgage and consumer loans. Select, well-managed loan renewal activity is taking place and we are seeing growth in our commercial loan portfolios and pipelines. Following is a discussion of our various types of lending activities.
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Commercial and Industrial Loans
Our commercial and industrial lending portfolio contains loans with a variety of purposes and security, including loans to finance operations and equipment. Generally, our commercial and industrial lending has been limited to borrowers headquartered, or doing business, in our primary market area. These credit relationships typically require the satisfaction of appropriate loan covenants and debt formulas, and generally require that the Bank be the primary depository bank of the business. These loan covenants and debt formulas are monitored through periodic, required reporting of accounts receivable aging schedules and financial statements, and in the case of larger business operations, reviews or audits by independent professional firms.
Commercial and industrial loans typically are made on the basis of the borrower's ability to make repayment from the cash flow of the borrower's business. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself and economic conditions. Further, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.
Commercial Real Estate Loans
Our commercial real estate loans consist primarily of construction and development loans and multi-family and other non-residential real estate loans.
Construction and Development Loans. These consist of construction loans to commercial customers for the construction of their business facilities. They also include construction loans to builders and developers for the construction of one- to four-family residences and the development of one- to four-family lots, residential subdivisions, condominium developments and other commercial developments.
This portfolio can be affected by job losses, declines in real estate value, declines in home sale volumes, and declines in new home building. As such, we limit our exposure to residential land development and other construction and development loans.
Multi-Family and Other Non-Residential Real Estate Loans. These are permanent loans secured by multi-family and other non-residential real estate and include loans secured by apartment buildings, condominiums, small office buildings, small business facilities, medical facilities and other non-residential building properties, substantially all of which are located within our primary market area.
Multi-family and other non-residential real estate loans generally present a higher level of risk than loans secured by owner occupied one- to four-family residences. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income producing properties and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the repayment of these loans is typically dependent upon the successful operation of the related real estate project. For example, if leases are not obtained or renewed, or a bankruptcy court modifies a lease term, or a major tenant is unable to fulfill its lease obligations, cash flow from the project will be reduced. If cash flow from the project is reduced, the borrower's ability to repay the loan may be impaired.
Retail Loans
Our retail loans are loans to consumers and consist primarily of residential mortgage loans and consumer loans.
Residential Mortgage Loans. We originate construction loans to individuals for the construction of their residences and owner-occupied residential mortgage loans, which are generally long-term with either fixed or adjustable interest rates. Our general policy is to sell the majority of our fixed rate residential mortgage loans in the secondary market due primarily to the interest rate risk associated with these loans. In 2022, with the rising rate environment, more of the production was in adjustable rate loans which we hold in portfolio, and we also began holding more of our fixed rate production in portfolio given the higher rates. For 2022, we retained loans representing 63% of the total dollar volume originated, compared to 22% in 2021.
Our borrowers generally qualify and are underwritten using industry standards for quality residential mortgage loans. We do not originate loans that are considered "sub-prime". Residential mortgage loan originations derive from a number of sources, including advertising, direct solicitation, real estate broker referrals, existing borrowers and depositors, builders and walk-in customers. Loan applications are accepted at most of our offices and online. The substantial majority of these loans are secured by one-to-four family properties in our market area.
Consumer Loans. We originate a variety of different types of consumer loans, including automobile loans, home equity lines of credit and installment loans, home improvement loans, deposit account loans and other loans for household and personal purposes. We also originate home equity lines of credit utilizing the same underwriting standards as for home equity installment loans. Home equity lines of credit are revolving line of credit loans. The majority of our existing home equity line of credit portfolio has variable rates with floors and ceilings, interest only payments and a maximum maturity of ten years.
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The underwriting standards that we employ for consumer loans include a determination of the applicant's payment history on other debts and ability to meet existing obligations and payments on the proposed loan. Although creditworthiness of the applicant is of primary consideration, the underwriting process also includes a comparison of the value of the security, if any, in relation to the proposed loan amount. Consumer loans may entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles. In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, consumer loan collections are dependent on the borrower's continuing financial stability, and are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.
Loan Portfolio Composition
The following table reflects the composition of our loan portfolio and the corresponding percentage of our total loans represented by each class of loans as of the dates indicated.
December 31
(Dollars in thousands)
Amount
% of
Total
Loans
Amount
% of
Total
Loans
Real estate - construction (1)
$
61,247
%
$
52,019
%
Real estate - mortgage
476,356
464,082
Comml and industrial, excl PPP
441,716
378,318
PPP loans
-
-
41,939
Total commercial
979,319
936,358
Residential mortgage
139,148
117,800
Consumer
59,281
54,835
Total loans
1,177,748
%
1,108,993
%
Less: allowance for loan losses
(15,285
)
(15,889
)
Total loans, net
$
1,162,463
$
1,093,104
(1)
Consists of construction and development loans.
At December 31, 2022, there was no concentration of loans exceeding 10% of total loans which were not otherwise disclosed as a category of loans in the table above.
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Maturities and Sensitivities of Loans to Changes in Interest Rates
The following table shows the amount of total loans outstanding at December 31, 2022 which, based on maturity dates, are due in the periods indicated.
Maturing
(Dollars in thousands)
Within One
Year
After One, But
Within Five
Years
After Five, But
Within Fifteen
Years
After Fifteen
Years
Total
Real estate - construction (1)
$
35,280
$
6,186
$
19,781
$
-
$
61,247
Real estate - mortgage
30,253
262,727
183,376
-
476,356
Commercial and industrial
183,959
202,689
55,068
-
441,716
Total commercial
249,492
471,602
258,225
-
979,319
Residential mortgage
3,555
51,511
84,002
139,148
Consumer
2,474
4,134
5,269
47,404
59,281
Total loans
$
252,046
$
479,291
$
315,005
$
131,406
$
1,177,748
Predetermined Interest Rates
Floating or Variable Rate
Total
Loans above maturing after one year:
Real estate - construction (1)
$
20,932
$
5,035
$
25,967
Real estate - mortgage
341,591
104,512
446,103
Commercial and industrial
188,471
69,286
257,757
Total commercial
550,994
178,833
729,827
Residential mortgage
65,004
74,064
139,068
Consumer
6,677
50,130
56,807
Total loans
$
622,675
$
303,027
$
925,702
(1)
Consists of construction and development loans.
Loan Loss Experience
A summary of our loan balances at the end of 2022 and 2021 and the daily average balances of these loans as well as changes in the allowance for loan losses arising from loans charged-off and recoveries on loans previously charged-off, and additions to the allowance which we have expensed is shown in Item 7 of this report under the headings "Portfolio Loans and Asset Quality" and “Allowance for Loan Losses” included in "Management's Discussion and Analysis of Results of Operations and Financial Condition."
Additional information about our allowance for loan losses, including a table showing the allocation of the allowance for loan losses at the end of 2022 and 2021 and the factors which influenced management’s judgment in determining the amount of the additions to the allowance charged to operating expense, may be found in Item 7 of this report under the heading "Allowance for Loan Losses" in "Management's Discussion and Analysis of Results of Operations and Financial Condition."
Deposit Portfolio
We offer a broad range of deposit services, including checking accounts, savings accounts and time deposits of various types. Transaction accounts and savings and time certificates are tailored to the principal market area at rates competitive with those offered in the area. All deposit accounts are insured by the FDIC up to the maximum amount permitted by law.
We solicit deposit services from individuals, businesses, associations, churches, nonprofit organizations, financial institutions and government authorities. Deposits are gathered primarily from the communities we serve through our network of 26 branches. We offer business and consumer checking accounts, regular and money market savings accounts, and certificates of deposit with many term options. We operate in a competitive environment, competing with other local banks similar in size and with significantly larger regional banks. We monitor rates at other financial institutions in the area to ascertain that our rates are competitive with the market. We also attempt to offer a wide variety of products to meet the needs of our customers. We set our deposit pricing to be competitive with other banks in our market area.
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We may utilize alternative funding sources as needed, including short-term borrowings, advances from the Federal Home Loan Bank of Indianapolis or the Federal Reserve Bank of Chicago, securities sold under agreements to repurchase ("repo borrowings") and brokered deposits. We had no brokered deposits or repo borrowings at December 31, 2022 or 2021.
Deposit Portfolio Composition
The following table sets forth the average deposit balances and the weighted average rates paid.
December 31
(Dollars in thousands)
Average
Amount
Average
Rate
Average
Amount
Average
Rate
Noninterest bearing demand
$
884,579
-
%
$
885,838
-
%
Interest bearing demand
704,926
0.14
681,411
0.03
Savings and money market accounts
879,273
0.28
822,235
0.03
Time
88,218
0.40
101,353
0.49
Total deposits
$
2,556,996
0.15
%
$
2,490,837
0.04
%
The following table summarizes deposits exceeding the FDIC insured limit of $250,000 by time remaining until maturity (dollars in thousands).
Non-maturity deposits
Time
Total
December 31, 2022
Three months or less
$
1,182,059
$
4,259
$
1,186,318
Over 3 months through 6 months
-
6,240
6,240
Over 6 months through 1 year
-
8,344
8,344
Over 1 year
-
10,824
10,824
$
1,182,059
$
29,667
$
1,211,726
Non-maturity deposits
Time
Total
December 31, 2021
Three months or less
$
1,167,790
$
5,706
$
1,173,496
Over 3 months through 6 months
-
7,310
7,310
Over 6 months through 1 year
-
8,747
8,747
Over 1 year
-
6,465
6,465
$
1,167,790
$
28,228
$
1,196,018
As of the date of this report, the Bank had no material foreign deposits.
Securities Portfolio
Our securities portfolio is classified as either "available for sale" or "held to maturity." Securities classified as "available for sale" may be sold prior to maturity due to changes in interest rates, prepayment risks, and availability of alternative investments, or to meet our liquidity needs.
The primary objective of our investing activities is to provide for the safety of the principal invested. Our secondary considerations include the maximization of earnings, liquidity and to help decrease our overall exposure to changes in interest rates. We have generally invested in bonds with lower credit risk, primarily those secured by government agencies or insured municipalities, to assist in the diversification of credit risk within our asset base.
We have not experienced any credit losses within our securities portfolio in 2022.
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The following table reflects the composition of our securities portfolio as of the dates indicated (including securities available for sale and held to maturity at fair value and amortized cost, respectively).
December 31,
(Dollars in thousands)
U.S. Treasury and federal agency securities
$
475,941
$
206,845
U.S. Agency MBS and CMOs
113,818
86,797
Tax-exempt state and municipal bonds
134,168
174,559
Taxable state and municipal bonds
112,171
79,561
Corporate bonds
11,924
5,304
Total
$
848,022
$
553,066
At December 31, 2022, other than our holdings in U.S. Treasury and U.S. Government Agency Securities, we had no investments in securities of any one issuer with an aggregate book value in excess of 10% of shareholders' equity. At December 31, 2022, we had no securities of issuers outside of the United States.
Schedule of Maturities of Investment Securities and Weighted Average Yields
The following is a schedule of investment securities maturities and their weighted average yield by category at December 31, 2022.
Due Within One Year
One to Five Years
Five to Ten Years
After Ten Years
(Dollars in thousands)
Amount
Average
Yield
Amount
Average
Yield
Amount
Average
Yield
Amount
Average
Yield
U.S. Treasury and federal agency securities
$
-
0.00
%
$
444,361
2.17
%
$
17,904
1.08
%
$
-
-
%
U.S. Agency MBS and CMOs
2.49
2.62
2.02
112,481
2.76
Tax-exempt state and municipal bonds (1)
34,722
1.44
83,401
1.86
29,723
3.45
-
-
Taxable state and municipal bonds
5,571
2.53
97,989
2.69
8,610
1.57
-
-
Corporate bonds
3.28
11,625
1.35
-
-
-
-
Total (1)
$
40,604
1.61
%
$
637,759
2.22
%
$
57,178
2.31
%
$
112,481
2.76
%
(1)
Yields on tax-exempt securities are computed on a fully taxable-equivalent basis and calculated on a weighted average basis using the investment balances and respective average yields for each investment category.
Trust Services
We offer trust services to further provide for the financial needs of our customers. As of December 31, 2022, the Trust Department managed assets of approximately $1.007 billion. Our types of service include both personal trust and retirement plan services.
Our personal trust services include financial planning, investment management services, trust and estate administration and custodial services. As of December 31, 2022, personal trust assets under management totaled approximately $537.5 million. Our retirement plan services encompass all types of qualified retirement plans, including profit sharing, 401(k) and pension plans. As of December 31, 2022, retirement plan assets under management totaled approximately $469.2 million.
Market Area
Our primary market area includes Ottawa, Kent and northern Allegan Counties, all located in western Michigan. This area includes two mid-sized cities, Grand Rapids and Holland, and rural areas. Grand Rapids is the second largest city in Michigan. Holland is the largest city in Ottawa County. Both cities and surrounding areas have a solid and diverse economic base, which includes health and life sciences, tourism, office and home furniture, automotive components and assemblies, pharmaceutical, transportation, equipment, food and construction supplies. Grand Valley State University, a 25,000-student regional university with more than 3,500 employees, has its three main campuses in our market area. GVSU and several smaller colleges and university affiliates located in our market area help stabilize the local economy because they are not as sensitive to the fluctuations of the broader economy. Companies operating in the market area include the Van Andel Institute, Steelcase, Herman Miller, Amway, Gentex, Corewell Health (previously Spectrum Health), Haworth, Wolverine World Wide, Johnson Controls, General Motors, Gerber, Magna, SpartanNash and Meijer.
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Competition
There are many bank, thrift, credit union and other financial institution offices located within our market area. Most are branches of larger financial institutions. We also face competition from finance companies, insurance companies, mortgage companies, securities brokerage firms, money market funds and other providers of financial services. Many of our competitors have been in business a number of years, have established customer bases, are larger and have higher lending limits than we do. We compete for loans, deposits and other financial services based on our ability to communicate effectively with our customers, to understand and meet their needs and to provide high quality customer service. Our management believes that our personal service philosophy, our local decision-making and diverse delivery channels enhances our ability to compete favorably in attracting individuals and small businesses. We actively solicit customers by offering our customers personal attention, professional service, and competitive interest rates.
Human Capital
As of December 31, 2022, we had 318 full-time equivalent employees consisting of 287 full-time and 54 part-time employees. We have assembled a staff of experienced, dedicated and qualified professionals whose goal is to meet the financial needs of our customers while providing outstanding service. The majority of our management team has at least 10 years of banking experience, and several key personnel have more than 20 years of banking experience. None of our employees are represented by collective bargaining agreements with us.
SUPERVISION AND REGULATION
The following is a summary of statutes and regulations affecting Macatawa Bank Corporation and Macatawa Bank. A change in applicable laws or regulations may have a material effect on us and our business.
The information under Item 1 - Business of this report is incorporated here by reference.
General
Financial institutions and their holding companies are extensively regulated under federal and state law. Consequently, our growth and earnings performance can be affected not only by management decisions and general economic conditions, but also by the statutes administered by, and the regulations and policies of, various governmental regulatory authorities. Those authorities include, but are not limited to, the Board of Governors of the Federal Reserve System (the "Federal Reserve Board"), the Consumer Financial Protection Bureau ("CFPB"), the FDIC, the State of Michigan’s Department of Insurance and Financial Services (“DIFS”), the Internal Revenue Service, and state taxing authorities. The effect of such statutes, regulations and policies can be significant, and cannot be predicted with a high degree of certainty.
Federal and state laws and regulations generally applicable to financial institutions and their holding companies regulate, among other things, the scope of business, investments, reserves against deposits, capital levels relative to operations, lending activities and practices, the nature and amount of collateral for loans, the establishment of branches, mergers, consolidations and declaration and payment of dividends. The system of supervision and regulation applicable to us and our bank establishes a comprehensive framework for our respective operations and is intended primarily for the protection of the FDIC's deposit insurance fund, our depositors, and the public, rather than our shareholders.
Federal law and regulations establish supervisory standards applicable to our lending activities, including internal controls, credit underwriting, loan documentation and loan-to-value ratios for loans secured by real property.
Macatawa Bank Corporation
General. Macatawa Bank Corporation is registered as a bank holding company with, and subject to regulation by, the Federal Reserve Board under the Bank Holding Company Act of 1956, as amended (the "BHCA"). Under the BHCA, Macatawa Bank Corporation is subject to periodic examination by the Federal Reserve Board, and is required to file with the Federal Reserve Board periodic reports of our operations and such additional information as the Federal Reserve Board may require.
In accordance with Federal Reserve Board policy, Macatawa Bank Corporation is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank. In addition, if the DIFS deems the Bank's capital to be impaired, the DIFS may require the Bank to restore its capital by a special assessment upon Macatawa Bank Corporation as the Bank's sole shareholder. If Macatawa Bank Corporation were to fail to pay any such assessment, the directors of the Bank would be required, under Michigan law, to sell all or part of the shares of the Bank's stock owned by Macatawa Bank Corporation to the highest bidder at either a public or private auction and use the proceeds of the sale to restore the Bank's capital.
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Investments and Activities. In general, any direct or indirect acquisition by us of any voting shares of any bank which would result in our direct or indirect ownership or control of more than 5% of any class of voting shares of such bank, and any merger or consolidation between us and another bank holding company or financial holding company, will require the prior written approval of the Federal Reserve Board under the BHCA.
The merger or consolidation of the Bank with another bank, or the acquisition by the Bank of assets of another bank, or the assumption of liability by the Bank to pay any deposits of another bank, will require the prior written approval of the FDIC under the Bank Merger Act and DIFS under the Michigan Banking Code. In addition, in certain such cases, an application to, and the prior approval of, the Federal Reserve Board under the BHCA may be required.
Capital Requirements. The Federal Reserve Board uses capital adequacy guidelines in its examination and regulation of bank holding companies. If capital falls below minimum guidelines, a bank holding company may, among other things, be denied approval to acquire or establish additional banks or non-bank businesses.
Additional information on our capital ratios may be found in Item 7 of this report under the heading "Capital Resources" included in "Management’s Discussion and Analysis of Results of Operations and Financial Condition" and in Item 8 of this report in the Notes to the Consolidated Financial Statements, and is here incorporated by reference.
Dividends. Macatawa Bank Corporation is a corporation separate and distinct from the Bank. Most of our revenues are dividends paid by the Bank. Thus, Macatawa Bank Corporation's ability to pay dividends to our shareholders is indirectly limited by restrictions on the Bank's ability to pay dividends described below. Further, in a policy statement, the Federal Reserve Board has expressed its view that a bank holding company should not pay cash dividends if its net income available to shareholders for the past four quarters, net of dividends paid during that period, is not sufficient to fully fund the dividends, its prospective rate of earnings retention is not consistent with capital needs and overall current and prospective financial condition, or it will not meet, or is in danger of not meeting, its minimum regulatory capital adequacy ratios. The Federal Reserve Board possesses enforcement powers over bank holding companies and their non-bank subsidiaries to prevent or remedy actions that represent unsafe or unsound practices or violations of applicable statutes and regulations. Among these powers is the ability to proscribe the payment of dividends by banks and bank holding companies. Similar enforcement powers over our Bank are possessed by the FDIC. The "prompt corrective action" provisions of federal law and regulation authorizes the FDIC to restrict the payment of dividends to Macatawa Bank Corporation by our Bank if the Bank fails to meet specified capital levels.
In addition, the Michigan Business Corporation Act provides that dividends may be legally declared or paid only if after the distribution a corporation can pay its debts as they come due in the usual course of business and its total assets equal or exceed the sum of its liabilities plus the amount that would be needed to satisfy the preferential rights upon dissolution of any holders of preferred stock whose preferential rights are superior to those receiving the distribution.
Additional information about restrictions on the payment of dividends by the Bank may be found in Item 8 of this report in Notes 1 and 19 to the Consolidated Financial Statements and is here incorporated by reference.
Federal Securities Regulation. Our common stock is registered under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). We are subject to the reporting, proxy solicitation, insider trading and other restrictions and requirements of the SEC under the Exchange Act. We are subject to the Sarbanes-Oxley Act, which imposes numerous reporting, accounting, corporate governance and business practices on companies, as well as financial and other professionals who have involvement with the U.S. public markets. We are generally subject to these requirements and applicable SEC rules and regulations.
Macatawa Bank
General. Macatawa Bank is a Michigan banking corporation, and its deposit accounts are insured by the Deposit Insurance Fund (the "Insurance Fund") of the FDIC. The Bank is subject to the examination, supervision, reporting and enforcement requirements of the DIFS, as the chartering authority for Michigan banks, and the FDIC, as administrator of the Insurance Fund. These agencies, and the federal and state laws applicable to the Bank and its operations, extensively regulate various aspects of the banking business, including, among other things, permissible types and amounts of loans, investments and other activities, capital adequacy, branching, interest rates on loans and on deposits, the maintenance of noninterest bearing reserves on deposit accounts, and the safety and soundness of banking practices.
Deposit Insurance. As an FDIC-insured institution, the Bank is required to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a risk-based assessment system under which all insured depository institutions are placed into one of four categories and assessed insurance premiums, based upon their respective levels of capital and results of supervisory evaluation. Institutions categorized as well-capitalized (as defined by the FDIC) and considered healthy pay the lowest premium, while institutions that are categorized as less than adequately capitalized (as defined by the FDIC) and considered of substantial supervisory concern pay the highest premium. Risk classification of all insured institutions is made by the FDIC for each semi-annual assessment period.
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The FDIC’s deposit insurance assessment base methodology uses average consolidated total assets less average tangible equity as the assessment base. Under this calculation, most well capitalized banks will pay 5 to 9 basis points annually, increasing up to 35 basis points for banks that pose significant supervisory concerns. This base rate may be adjusted for the level of unsecured debt and brokered deposits, resulting in adjusted rates ranging from 2.5 to 9 basis points annually for most well capitalized banks to 30 to 45 basis points for banks that pose significant supervisory concerns. We estimate our annual assessment rate to be 5 basis points in 2023.
Capital Requirements. The FDIC has established the following minimum capital standards for FDIC insured banks that are not relying on the Community Bank Leverage Ratio, such as the Bank: a leverage requirement consisting of a ratio of Tier 1 capital to total average assets and risk-based capital requirements consisting of a ratio of total capital to total risk-weighted assets, a ratio of Tier 1 capital to total risk-weighted assets, and a ratio of common equity Tier 1 (CET1) capital to risk weighted assets. Tier 1 capital consists principally of shareholders' equity. Common equity Tier 1 capital excludes forms of stock that are not common stock.
Basel III. The regulatory capital requirements include a common equity Tier 1 capital to risk-weighted assets ratio (CET1 ratio) of 4.5% and a capital conservation buffer of 2.5% of risk-weighted assets, which effectively results in a minimum CET1 ratio of 7.0%. The minimum ratio of Tier 1 capital to risk-weighted assets is 6.0% (which, with the capital conservation buffer, effectively results in a minimum Tier 1 capital ratio of 8.5%), which effectively results in a minimum total capital to risk-weighted assets ratio of 10.5% (with the capital conservation buffer). The minimum leverage ratio is 4.0%. The capital ratios for the Company and the Bank under Basel III continue to exceed the well capitalized minimum capital requirements.
Federal regulations define these capital categories as follows:
CET1 Risk-Based
Capital Ratio
Tier 1 Risk-Based
Capital Ratio
Total Risk-Based
Capital Ratio
Leverage Ratio
Well capitalized
6.5% or above
8% or above
10% or above
5% or above
Adequately capitalized
4.5% or above
6% or above
8% or above
4% or above
Undercapitalized
Less than 4.5%
Less than 6%
Less than 8%
Less than 4%
Significantly undercapitalized
Less than 3%
Less than 4%
Less than 6%
Less than 3%
Critically undercapitalized
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-
-
Ratio of tangible equity to total assets of 2% or less
Federal law provides the federal banking regulators with broad power to take prompt corrective action to resolve the problems of undercapitalized institutions. Depending upon the capital category to which an institution is assigned, the regulators' corrective powers include: requiring the submission of a capital restoration plan; placing limits on asset growth and restrictions on activities; requiring the institution to issue additional capital stock (including additional voting stock) or to be acquired; restricting transactions with affiliates; restricting the interest rate the institution may pay on deposits; ordering a new election of directors of the institution; requiring that senior executive officers or directors be dismissed; prohibiting the institution from accepting deposits from correspondent banks; requiring the institution to divest certain subsidiaries; prohibiting the payment of principal or interest on subordinated debt; and ultimately, appointing a receiver for the institution.
In general, a depository institution may be reclassified to a lower category than is indicated by its capital levels if the appropriate federal depository institution regulatory agency determines the institution to be otherwise in an unsafe or unsound condition or to be engaged in an unsafe or unsound practice. This could include a failure by the institution, following receipt of a less-than-satisfactory rating on its most recent examination report, to correct the deficiency.
As of December 31, 2022, the Bank was categorized as “well capitalized” under the standards set forth in the rules implementing Basel III. Additional information on our capital ratios may be found in Item 8 of this report in the Notes to the Consolidated Financial Statements, and is here incorporated by reference.
Dividends. Under Michigan law, the Bank is restricted as to the maximum amount of dividends it may pay on its common stock. The Bank may not pay dividends except out of net income after deducting its losses and bad debts. A Michigan state bank may not declare or pay a dividend unless the bank will have surplus amounting to at least 20% of its capital after the payment of the dividend.
Federal law generally prohibits a depository institution from making any capital distribution (including payment of a dividend) or paying any management fee to its holding company if the depository institution would thereafter be undercapitalized. The FDIC may prevent an insured bank from paying dividends if the bank is in default of payment of any assessment due to the FDIC. In addition, the FDIC may prohibit the payment of dividends by the Bank, if such payment is determined to be an unsafe and unsound banking practice.
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Additional information about restrictions on payment of dividends by the Bank may be found in Item 8 of this report in Notes 1 and 19 to the Consolidated Financial Statements, and is here incorporated by reference.
Insider Transactions. The Bank is subject to certain restrictions imposed by federal law on any extensions of credit to Macatawa or any subsidiary of Macatawa, on investments in the stock or other securities of Macatawa or any subsidiary of Macatawa and the acceptance of the stock or other securities of Macatawa or any subsidiary of Macatawa as collateral for loans. Certain limitations and reporting requirements are also placed on extensions of credit by the Bank to its directors and officers, to Macatawa's directors and officers, to our principal shareholders and to "related interests" of such directors, officers and principal shareholders. In addition, federal law and regulations may affect the terms upon which any person becoming a director or officer of our company or any subsidiary or a principal shareholder in our company may obtain credit from banks with which the Bank maintains a correspondent relationship.
Safety and Soundness Standards. The federal banking agencies have adopted guidelines to promote the safety and soundness of federally insured depository institutions. These guidelines establish standards for, among other things, internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, fees and benefits, asset quality and earnings.
Investments and Other Activities. Under federal law and FDIC regulations, FDIC insured state banks are prohibited, subject to certain exceptions, from making or retaining equity investments of a type, or in an amount, that are not permissible for a national bank. Federal law, as implemented by FDIC regulations, also prohibits FDIC insured state banks and their subsidiaries, subject to certain exceptions, from engaging as principal in any activity that is not permitted for a national bank or its subsidiary, respectively, unless the bank meets, and continues to meet, its minimum regulatory capital requirements and the FDIC determines the activity would not pose a significant risk to the Insurance Fund. Impermissible investments and activities must be divested or discontinued within certain time frames set by the FDIC in accordance with federal law.
Consumer Protection Laws. The Bank's business includes making a variety of types of loans to individuals. In making these loans, we are subject to state usury and regulatory laws and to various federal laws and regulations, including the privacy of consumer financial information provisions of the Gramm-Leach-Bliley Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Servicemembers Civil Relief Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Real Estate Settlement Procedures Act, and the Home Mortgage Disclosure Act, which prohibit discrimination, specify disclosures to be made to borrowers regarding credit and settlement costs, and regulate the mortgage loan servicing activities of the Bank, including the maintenance and operation of escrow accounts and the transfer of mortgage loan servicing. In receiving deposits, the Bank is subject to extensive regulation under state and federal law and regulations, including the Truth in Savings Act, the Expedited Funds Availability Act, the Electronic Funds Transfer Act, the Federal Deposit Insurance Act and the privacy of consumer financial information provisions of the Gramm-Leach-Bliley Act. Violation of these laws could result in the imposition of significant damages and fines upon the Bank and its directors and officers.
Anti-Money Laundering and OFAC Regulation. A major focus of governmental policy on financial institutions in recent years has been aimed at combating money laundering and terrorist financing. The Bank Secrecy Act of 1970 (“BSA”) and subsequent laws and regulations require the Bank to take steps to prevent the use of the Bank or its systems from facilitating the flow of illegal or illicit money or terrorist funds. Those requirements include ensuring effective Board and management oversight, establishing policies and procedures, performing comprehensive risk assessments, developing effective monitoring and reporting capabilities, ensuring adequate training and establishing a comprehensive independent audit of BSA compliance activities.
The USA PATRIOT Act of 2001 ("Patriot Act") significantly expanded the anti-money laundering ("AML") and financial transparency laws and regulations by imposing significant new compliance and due diligence obligations, creating new crimes and penalties and expanding the extra-territorial jurisdiction of the United States. Regulations promulgated under the Patriot Act impose various requirements on financial institutions, such as standards for verifying client identification at account opening and maintaining expanded records (including "Know Your Customer" and "Enhanced Due Diligence" practices) and other obligations to maintain appropriate policies, procedures and controls to aid the process of preventing, detecting, and reporting money laundering and terrorist financing. An institution subject to the Patriot Act must provide AML training to employees, designate an AML compliance officer and annually audit the AML program to assess its effectiveness. The FDIC continues to issue regulations and additional guidance with respect to the application and requirements of BSA and AML.
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The United States has imposed economic sanctions that affect transactions with designated foreign countries, nationals and others. Based on their administration by the United States Department of the Treasury's Office of Foreign Assets Control ("OFAC"), these are typically known as the "OFAC" rules. 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 "United States persons" 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 the sanctioned country have an interest, by prohibiting transfers of property subject to United States jurisdiction (including property in the possession or control of United States 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 of a financial institution to maintain and implement adequate BSA, AML and OFAC programs, or to comply with all of the relevant laws or regulations, could have serious legal and reputational consequences for the institution and result in material fines and sanctions.
Branching Authority. Michigan banks have the authority under Michigan law to establish branches anywhere in the State of Michigan, subject to receipt of all required regulatory approvals. Banks may establish interstate branch networks through acquisitions of other banks. The establishment of de novo interstate branches or the acquisition of individual branches of a bank in another state (rather than the acquisition of an out-of-state bank in its entirety) is allowed only if specifically authorized by state law.
Michigan law permits both U.S. and non-U.S. banks to establish branch offices in Michigan. The Michigan Banking Code permits, in appropriate circumstances and with the approval of the DIFS, (1) acquisition of Michigan banks by FDIC-insured banks, savings banks or savings and loan associations located in other states, (2) sale by a Michigan bank of branches to an FDIC-insured bank, savings bank or savings and loan association located in a state in which a Michigan bank could purchase branches of the purchasing entity, (3) consolidation of Michigan banks and FDIC-insured banks, savings banks or savings and loan associations located in other states having laws permitting such consolidation, (4) establishment of branches in Michigan by FDIC-insured banks located in other states, the District of Columbia or U.S. territories or protectorates having laws permitting a Michigan bank to establish a branch in such jurisdiction, and (5) establishment by foreign banks of branches located in Michigan. A Michigan bank holding company may acquire a non-Michigan bank and a non-Michigan bank holding company may acquire a Michigan bank.

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ITEM 1A. RISK FACTORS
ITEM 1A:
Risk Factors.
Risks related to our Business
Changes in interest rates may negatively affect our earnings and the value of our assets.
Our earnings and cash flows depend substantially upon our net interest income. Net interest income is the difference between interest income earned on interest-earning assets, such as loans and investment securities, and interest expense paid on interest-bearing liabilities, such as deposits and borrowed funds. Interest rates are sensitive to many factors that are beyond our control, including general economic conditions, competition and policies of various governmental and regulatory agencies and, in particular, the policies of the Federal Reserve Board. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and investment securities and the amount of interest we pay on deposits and borrowings, but such changes could also affect: (i) our ability to originate loans and obtain deposits; (ii) the fair value of our financial assets and liabilities, including our securities portfolio; and (iii) the average duration of our interest-earning assets. This also includes the risk that interest-earning assets may be more responsive to changes in interest rates than interest-bearing liabilities, or vice versa (repricing risk), the risk that the individual interest rates or rates indices underlying various interest-earning assets and interest-bearing liabilities may not change in the same degree over a given time period (basis risk), and the risk of changing interest rate relationships across the spectrum of interest-earning asset and interest-bearing liability maturities (yield curve risk), including a prolonged flat or inverted yield curve environment. Any substantial, unexpected, prolonged change in market interest rates could have a material adverse effect on our financial condition and results of operations.
National, state and local economic conditions could have a material adverse effect on the Company's results of operations and financial condition.
The results of operations for financial institutions, including our Bank, may be materially and adversely affected by changes in prevailing national, state and local economic conditions. Our profitability is heavily influenced by the quality of the Company's loan portfolio and the stability of the Company's deposits. Unlike larger national or regional banks that are more geographically diversified, the Company provides banking and financial services to customers primarily in Ottawa, Kent and Allegan Counties of western Michigan. The local economic conditions in these areas have a significant impact on the demand for the Company's products and services, and the ability of the Company's customers to repay loans, the value of the collateral securing loans and the stability of the Company's deposit funding sources. A significant decline in general economic conditions, caused by inflation, recession, acts of terrorism, outbreak of hostilities, an outbreak of a widespread epidemic or pandemic of disease (or widespread fear thereof) or other international or domestic occurrences, unemployment, changes in securities, financial, capital or credit markets or other factors, could impact national and local economic conditions and have a material adverse effect on the Company's results of operations and financial condition.
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Our credit losses could increase and our allowance for loan losses may not be adequate to cover actual loan losses.
The risk of nonpayment of loans is inherent in all lending activities and nonpayment of loans may have a material adverse effect on our earnings and overall financial condition, and the value of our common stock. We make various assumptions and judgments about the collectability of our loan portfolio and provide an allowance for potential losses based on a number of factors. If our assumptions are wrong, our allowance for loan losses may not be sufficient to cover our losses, which could have an adverse effect on our operating results, and may cause us to increase the allowance in the future. The actual amount of future provisions for loan losses cannot now be determined and may exceed the amounts of past provisions for loan losses. Federal and state banking regulators, as an integral part of their supervisory function, periodically review our allowance for loan losses. These regulatory agencies may require us to increase our provision for loan losses or to recognize further loan charge-offs based upon their judgments, which may be different from ours. Any increase in the allowance for loan losses could have a negative effect on our regulatory capital ratios, net income, financial condition and results of operations.
The implementation of the Current Expected Credit Loss accounting standard could require us to increase our allowance for loan losses and may have a material adverse effect on our financial condition and results of operations.
Effective January 1, 2023, we will be required to adopt the Financial Accounting Standards Board ("the FASB") Account Standards Update 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, commonly referred to as "CECL". CECL changes the allowance for loan losses methodology from an incurred loss impairment methodology to an expected loss methodology, which is more dependent on future economic forecasts, assumptions and models than previous accounting standards and could result in increases in, and add volatility to, our allowance for loan losses and future provisions for loan losses. These forecasts, assumptions and models are inherently uncertain and are based upon management's reasonable judgment in light of information currently available.
We are subject to liquidity risk in our operations, which could adversely affect our ability to fund various obligations.
Liquidity risk is the possibility of being unable to meet obligations as they come due, pay deposits when withdrawn, and fund loan and investment opportunities as they arise because of an inability to liquidate assets or obtain adequate funding on a timely basis, at a reasonable cost and within acceptable risk tolerances. Liquidity is required to fund various obligations, including credit obligations to borrowers, mortgage originations, withdrawals by depositors, repayment of debt, operating expenses and capital expenditures. Liquidity of the Bank is derived primarily from retail deposit growth and retention, principal and interest payments on loans and investment securities, net cash provided from operations and access to other funding sources. Liquidity is essential to our business. We must maintain sufficient funds to respond to the needs of depositors and borrowers. An inability to raise funds through deposits, borrowings, the sale or pledging as collateral of loans and other assets could have a material adverse effect on our liquidity. An inability to retain the current level of deposits, including the loss of one or more of the Bank's larger deposit relationships, could have a material adverse effect on the Bank's liquidity. Our access to funding sources in amounts adequate to finance activities could be impaired by factors that affect us specifically or the financial services industry in general. Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of the business activity due to a market down turn or regulatory action that limits or eliminates access to alternate funding sources, including brokered deposits discussed above. Our ability to borrow could also be impaired by factors that are nonspecific to the Company, such as severe disruption of the financial markets or negative expectations about the prospects for the financial services industry as a whole.
Our construction and development lending exposes us to significant risks.
Construction and development loans consist of loans to commercial customers for the construction of their business facilities. They also include construction loans to builders and developers for the construction of one- to four-family residences and the development of one- to four-family lots, residential subdivisions, condominium developments and other commercial developments. This portfolio may be particularly adversely affected by job losses, declines in real estate values, declines in home sale volumes, and declines in new home building. Declining real estate values may result in sharp increases in losses, particularly in the land development and construction loan portfolios to residential developers. This type of lending is generally considered to have more complex credit risks than traditional single-family residential lending because the principal is concentrated in a limited number of loans with repayment dependent on the successful completion and sales of the related real estate project. Consequently, these loans are often more sensitive to adverse conditions in the real estate market or the general economy than other real estate loans. These loans are generally less predictable and more difficult to evaluate and monitor and collateral may be difficult to dispose of in a market decline. Additionally, we may experience significant construction loan losses if independent appraisers or project engineers inaccurately estimate the cost and value of construction loan projects.
We have significant exposure to risks associated with commercial and residential real estate.
A substantial portion of our loan portfolio consists of commercial and residential real estate-related loans, including real estate development, construction and residential and commercial mortgage loans. As of December 31, 2022, we had approximately $537.6 million of commercial real estate loans outstanding, which represented approximately 45.7% of our total loan portfolio. As of that same date, we had approximately $139.1 million in residential real estate loans outstanding, or approximately 11.8% of our total loan portfolio. Consequently, real estate-related credit risks are a significant concern for us. The adverse consequences from real estate-related credit risks tend to be cyclical and are often driven by national economic developments that are not controllable or entirely foreseeable by us or our borrowers.
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Commercial loans may expose us to greater financial and credit risk than other loans.
Our commercial loan portfolio, including commercial mortgages, was approximately $979.3 million at December 31, 2022, comprising approximately 83.2% of our total loan portfolio. Commercial loans generally carry larger loan balances and can involve a greater degree of financial and credit risk than other loans. Any significant failure to pay on time by our customers would hurt our earnings. The increased financial and credit risk associated with these types of loans are a result of several factors, including the concentration of principal in a limited number of loans and borrowers, the size of loan balances, the effects of general economic conditions on income-producing properties and the increased difficulty of evaluating and monitoring these types of loans. In addition, when underwriting a commercial or industrial loan, we may take a security interest in commercial real estate, and, in some instances upon a default by the borrower, we may foreclose on and take title to the property, which may lead to potential financial risks for us under applicable environmental laws. If hazardous substances were discovered on any of these properties, we may be liable to governmental agencies or third parties for the costs of remediation of the hazard, as well as for personal injury and property damage. Many environmental laws can impose liability regardless of whether we knew of, or were responsible for, the contamination.
Our loan portfolio has and will continue to be affected by the housing market.
Loans to residential developers involved in the development or sale of 1-4 family residential properties were approximately $21.4 million, $16.1 million and $21.4 million at December 31, 2022, 2021 and 2020, respectively. As we continue our on-going portfolio monitoring, we will make credit and reserve decisions based on the current conditions of the borrower or project combined with our expectations for the future. If the housing market deteriorates, we could experience higher charge-offs and delinquencies in this portfolio.
We are subject to significant government regulation, and any regulatory changes may adversely affect us.
The banking industry is heavily regulated under both federal and state law. These regulations are primarily intended to protect customers and the Deposit Insurance Fund, not our creditors or shareholders. We are subject to extensive regulation by the Federal Reserve, the FDIC and the DIFS, in addition to other regulatory and self-regulatory organizations. Future regulatory changes or accounting pronouncements may increase our regulatory capital requirements or adversely affect our regulatory capital levels. Regulations affecting banks and financial services companies undergo continuous change, and we cannot predict the ultimate effect of such changes, which could have a material adverse effect on our profitability or financial condition.
The Company could be adversely affected by the soundness of other financial institutions, including defaults by larger financial institutions.
The Company's ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services institutions are interrelated as a result of credit, trading, clearing, counterparty or other relationships between financial institutions. The Company has exposure to multiple counterparties, and the Company routinely executes transactions with counterparties in the financial industry. As a result, defaults by, or even rumors or questions about, one or more financial services institutions, or the financial services industry generally, could lead to market-wide liquidity problems and losses or defaults by the Company or by other institutions. This is sometimes referred to as "systemic risk" and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms and exchanges, with which the Company interacts on a daily basis, and therefore could adversely affect the Company.
We rely heavily on our management and other key personnel, and the loss of any of them may adversely affect our operations.
We are and will continue to be dependent upon the services of our management team and other key personnel. Losing the services of one or more key members of our management team could adversely affect our operations.
Our controls and procedures may fail or be circumvented.
Management regularly reviews and updates our internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. If we fail to identify and remediate control deficiencies, it is possible that a material misstatement of interim or annual financial statements will not be prevented or detected on a timely basis. In addition, any failure or circumvention of our other controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on our business, results of operations and financial condition.
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The Bank may be required to pay additional insurance premiums to the FDIC, which could negatively impact earnings.
Depending upon any future losses that the FDIC insurance fund may suffer, there can be no assurance that there will not be additional premium increases in order to replenish the fund. The FDIC may need to set a higher base rate schedule or impose special assessments due to future financial institution failures and updated failure and loss projections. Increased FDIC assessment rates could have an adverse impact on our results of operations.
If we cannot raise additional capital when needed, our ability to further expand our operations through organic growth and acquisitions could be materially impaired.
We are required by federal and state regulatory authorities to maintain specified levels of capital to support our operations. We may need to raise additional capital to support our current level of assets or our growth. Our ability to raise additional capital will depend on conditions in the capital markets at that time, which are outside our control, and on our financial performance. We cannot assure that we will be able to raise additional capital in the future on terms acceptable to us or at all. If we cannot raise additional capital when needed, our ability to expand our operations through organic growth or acquisitions could be materially limited. Additional information on the capital requirements applicable to the Bank may be found under the heading "Regulatory Capital" in Note 19 in Item 8.
We may be a defendant in a variety of litigation and other actions, which may have a material adverse effect on our financial condition and results of operations.
We may be involved from time to time in a variety of litigation arising out of our business. Our insurance may not cover all claims that may be asserted against us, and any claims asserted against us, regardless of merit or eventual outcome, may harm our reputation or cause us to incur unexpected expenses, which could be material in amount. Should the ultimate expenses, judgments or settlements in any litigation exceed our insurance coverage, they could have a material adverse effect on our financial condition and results of operations. In addition, we may not be able to obtain appropriate types or levels of insurance in the future, and we may not be able to obtain adequate replacement of our existing policies with acceptable terms, if at all.
Our future success is dependent on our ability to compete effectively in the highly competitive banking industry.
We face substantial competition in all phases of our operations from a variety of different competitors. Our future growth and success will depend on our ability to compete effectively in this highly competitive environment. We compete for deposits, loans and other financial services with numerous Michigan-based and out-of-state banks, thrifts, credit unions and other financial institutions as well as other entities which provide financial services, including technology-oriented financial services (FinTech) companies. Some of the financial institutions and financial services organizations with which we compete are not subject to the same degree of regulation as we are. Most of our competitors have been in business for many years, have established customer bases, are larger, and have substantially higher lending limits than we do. The financial services industry is also likely to become more competitive as further technological advances enable more companies to provide financial services. Competition for limited, high-quality lending opportunities and core deposits in an increasingly competitive marketplace may adversely affect our results of operations.
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Evaluation of investment securities for other-than-temporary impairment involves subjective determinations and could materially impact our results of operations and financial condition.
The evaluation of impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer's financial condition or future recovery prospects, the effects of changes in interest rates or credit spreads and the expected recovery period. Estimating future cash flows involves incorporating information received from third-party sources and making internal assumptions and judgments regarding the future performance of the underlying collateral and assessing the probability that an adverse change in future cash flows has occurred. The determination of the amount of other-than-temporary impairments is based upon our periodic evaluation and assessment of known and inherent risks associated with the respective asset class. Such evaluations and assessments are revised as conditions change and new information becomes available. Our management considers a wide range of factors about the security issuer and uses reasonable judgment in evaluating the cause of the decline in the estimated fair value of the security and in assessing the prospects for recovery. Inherent in management's evaluation of the security are assumptions and estimates about the operations of the issuer and its future earnings potential. Impairments to the carrying value of our investment securities may need to be taken in the future, which could have a material adverse effect on our results of operations and financial condition.
We depend upon the accuracy and completeness of information about customers.
In deciding whether to extend credit to customers, we rely on information provided to us by our customers, including financial statements and other financial information. We also rely on representations of customers as to the accuracy and completeness of that information and, with respect to financial statements, on reports of independent auditors. Our financial condition and results of operations could be negatively impacted to the extent that we extend credit in reliance on financial statements or other information provided by customers that is false, misleading or incomplete.
Unauthorized disclosure of sensitive or confidential client or customer information, whether through a breach of computer systems or otherwise, or failure or interruption of the Company's communication or information systems, could severely harm the Company’s business.
As part of its business, the Company collects, processes and retains sensitive and confidential client and customer information on behalf of the Company and other third parties. Despite the security measures the Company has in place for its facilities and systems, and the security measures of its third party service providers, the Company may be vulnerable to security breaches, acts of vandalism, computer viruses, misplaced or lost data, programming and/or human errors or other similar events.
The Company relies heavily on communications and information systems to conduct its business. Any failure or interruption of these systems could result in failures or disruptions in the Company’s customer relationship management, general ledger, deposit, loan and other systems. In addition, customers could lose access to their accounts and be unable to conduct financial transactions during a period of failure or interruption of these systems.
Any security breach involving the misappropriation, loss or other unauthorized disclosure of confidential customer information, whether such information is held by the Company or by its vendors, or failure or interruption of the Company's communication or information systems, could severely damage the Company’s reputation, expose it to risks of regulatory scrutiny, litigation and liability, disrupt the Company’s operations, or result in a loss of customer business, the occurrence of any of which could have a material adverse effect on the Company’s business.
Cybersecurity incidents could disrupt business operations, result in the loss of critical and confidential information, and adversely impact our reputation and results of operations.
Cybersecurity threats and incidents can range from uncoordinated individual attempts to gain unauthorized access to information technology (IT) systems to sophisticated and targeted measures known as advanced persistent threats, directed at the Company and/or its third party service providers. While we have experienced, and expect to continue to experience, these types of threats and incidents, none of them to date have been material to the Company. Although we employ comprehensive measures to prevent, detect, address and mitigate these threats (including access controls, employee training, data encryption, vulnerability assessments, continuous monitoring of our IT networks and systems and maintenance of backup and protective systems), cybersecurity incidents, depending on their nature and scope, could potentially result in the misappropriation, destruction, corruption or unavailability of critical data and confidential or proprietary information (our own or that of third parties) and the disruption of business operations. The potential consequences of a material cybersecurity incident include reputational damage, litigation with third parties and increased cybersecurity protection and remediation costs, which in turn could materially adversely affect our results of operations.
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We continually encounter technological change, and we may have fewer resources than our competitors to continue to invest in technological improvements.
The banking industry is undergoing rapid technological changes with frequent introductions of new technology-driven products and services. In addition to better serving customers, the effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, on 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. There can be no assurance that we will be able to effectively implement new technology-driven products and services or be successful in marketing such products and services to our customers.
An "ownership change" for purposes of Section 382 of the Internal Revenue Code could materially impair our ability to use our deferred tax assets.
At December 31, 2022, our gross deferred tax asset was $11.9 million. Our ability to use our deferred tax assets to offset future taxable income will be limited if we experience an "ownership change" as defined in Section 382 of the Internal Revenue Code. In general, an ownership change will occur if there is a cumulative increase in our ownership by "5-percent shareholders" (as defined in the Code) that exceeds 50 percentage points over a rolling three-year period. A corporation that experiences an ownership change will generally be subject to an annual limitation on the use of its pre-ownership change deferred tax assets equal to the equity value of the corporation immediately before the ownership change, multiplied by the long-term tax-exempt rate.
If an "ownership change" occurs, we could lose certain built-in losses that have not been recognized for tax purposes. The amount of the permanent loss would depend on the size of the annual limitation (which is in part a function of our market capitalization at the time of an "ownership change") and the remaining carry forward period (U.S. federal net operating losses generally may be carried forward for a period of 20 years).
Our ability to maintain, attract and retain customer relationships is highly dependent on our reputation.
Our customers rely on us to deliver superior, personalized financial services with the highest standards of ethics, performance, professionalism and compliance. Damage to our reputation could undermine the confidence of our current customers and our ability to attract potential customers. Such damage could also impair the confidence of our contractual counterparties and vendors and ultimately affect our ability to effect transactions. Maintenance of our reputation depends not only on our success in maintaining our service-focused culture and controlling and mitigating the various risks described herein, but also on our success in identifying and appropriately addressing issues that may arise in areas such as potential conflicts of interest, anti-money laundering, client personal information and privacy issues, employee, customer and other third party fraud, record-keeping, regulatory investigations and any litigation that may arise from the failure or perceived failure of us to comply with legal and regulatory requirements.
Employee misconduct could expose us to significant legal liability and reputational harm.
We are vulnerable to reputational harm because we operate in an industry in which integrity and the confidence of our customers are of critical importance. Our employees could engage in misconduct that adversely affects our customers, other employees, and/or our business. For example, if an employee were to engage in fraudulent, illegal, wrongful or suspicious activities, and/or activities resulting in consumer harm, we could be subject to litigation, regulatory sanctions or penalties, and suffer serious harm to our reputation (as a consequence of the negative perception resulting from such activities), financial position, customer relationships and ability to attract new customers. Our business often requires that we deal with confidential information. If our employees were to improperly use or disclose this information, even if inadvertently, we could suffer serious harm to our reputation, financial position and current and future business relationships. It is not always possible to deter employee misconduct, and the precautions we take to detect and prevent this activity may not always be effective. Misconduct or harassment by our employees, or even unsubstantiated allegations of misconduct or harassment, or improper use or disclosure of confidential information by our employees, even inadvertently, could result in a material adverse effect on our business, financial condition or results of operations.
Our operations could be interrupted if certain external vendors on which we rely experience difficulty, terminate their services or fail to comply with banking laws and regulations.
We depend to a significant extent on relationships with third party service providers. Specifically, we utilize third party core banking services and receive credit card and debit card services, branch capture services, Internet banking services and services complementary to our banking products from various third party service providers. If these third party service providers experience difficulties or terminate their services and we are unable to replace them with other service providers, our operations could be interrupted. It may be difficult for us to replace some of our third party vendors, particularly vendors providing our core banking, credit card and debit card services, in a timely manner if they were unwilling or unable to provide us with these services in the future for any reason. If an interruption were to continue for a significant period of time, it could have a material adverse effect on our business, financial condition or results of operations. Even if we are able to replace them, it may be at higher cost to us, which could have a material adverse effect on our business, financial condition or results of operations.
- 17 -
Uncertainty relating to the LIBOR calculation process and potential phasing out of LIBOR may adversely affect our results of operations.
On July 27, 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends to stop persuading or compelling banks to submit rates for the calculation of LIBOR to the administrator of LIBOR after 2021. In November 2020, the Financial Conduct Authority announced that it would continue to publish LIBOR rates through June 30, 2023. It is unclear whether, or in what form, LIBOR will continue to exist after that date. At this time, it appears that market consensus is building around using the Secured Overnight Financing Rate ("SOFR") as an acceptable alternative reference rate to LIBOR, though that remains to be determined. SOFR may fail to gain market acceptance. SOFR was developed for use in certain U.S. dollar derivatives and other financial contracts as an alternative to U.S. dollar LIBOR in part because it is considered to be a good representation of general funding conditions in the overnight U.S. Treasury repo market. However, as a rate based on transactions secured by U.S. Treasury securities, it does not measure bank-specific credit risk and, as a result, is less likely to correlate with the unsecured short-term funding costs of banks. This may mean that market participants would not consider SOFR to be a suitable substitute or successor for all of the purposes for which U.S. dollar LIBOR historically has been used, which may, in turn, lessen its market acceptance.
It is impossible to predict the effect of SOFR or any other alternative reference rate on the value of LIBOR-based securities and variable rate loans, subordinated debentures, or other securities or financial arrangements, given LIBOR's role in determining market interest rates globally. Uncertainty as to the nature of alternative reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR rates and the value of LIBOR-based loans and securities in our portfolio, and may impact the availability and cost of hedging instruments and borrowings. If LIBOR rates are no longer available, and we are required to implement alternative reference rates, such as SOFR, for the calculation of interest rates under our loan agreements with our borrowers, we may incur significant expenses in effecting the transition, and may be subject to disputes or litigation with customers over the appropriateness or comparability of LIBOR to SOFR or another alternative reference rate, which could have an adverse effect on our results of operations.
Risks Associated With the Company's Stock
The market price of our common stock can be volatile, which may make it more difficult to resell our common stock at a desired time and price.
Stock price volatility may make it more difficult for a shareholder to resell our common stock when a shareholder wants to and at prices a shareholder finds attractive or at all. Our stock price can fluctuate significantly in response to a variety of factors, regardless of operating results. These factors include, among other things:
•
Variations in our anticipated or actual operating results or the results of our competitors;
•
Changes in investors' or analysts' perceptions of the risks and conditions of our business;
•
The size of the public float of our common stock;
•
Regulatory developments, including changes to regulatory capital levels, components of regulatory capital and how regulatory capital is calculated;
•
Interest rate changes or credit loss trends;
•
Trading volume in our common stock;
•
Market conditions; and
•
General economic conditions.
The Company may issue additional shares of its common stock in the future, which could dilute a shareholder's ownership of common stock.
The Company's articles of incorporation authorize its Board of Directors, without shareholder approval, to, among other things, issue additional shares of common or preferred stock. The issuance of any additional shares of common or preferred stock could be dilutive to a shareholder's ownership of Company common stock.
To the extent that the Company issues options or warrants to purchase common stock in the future and the options or warrants are exercised, the Company's shareholders may experience further dilution. Holders of shares of Company common stock have no preemptive rights that entitle holders to purchase their pro rata share of any offering of shares of any class or series and, therefore, shareholders may not be permitted to invest in future issuances of Company common or preferred stock.
- 18 -
Although publicly traded, our common stock has substantially less liquidity than the average liquidity of stocks listed on The Nasdaq Global Select Market.
Although our common stock is listed for trading on The Nasdaq Global Select Market, our common stock has substantially less liquidity than the average liquidity for companies listed on The Nasdaq Global Select Market. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of our common stock at any given time. This marketplace depends on the individual decisions of investors and general economic and market conditions over which we have no control. This limited market may affect a shareholder’s ability to sell their shares on short notice, and the sale of a large number of shares at one time could temporarily depress the market price of our common stock. For these reasons, our common stock should not be viewed as a short-term investment.
The Company's common stock is not insured by any governmental entity.
Our common stock is not a deposit account or other obligation of any bank and is not insured by the FDIC or any other governmental entity. Investment in Company common stock is subject to risk, including possible loss.
The Company may issue debt and equity securities that are senior to Company common stock as to distributions and in liquidation, which could negatively affect the value of Company common stock.
The Company has in the past and may in the future increase its capital by entering into debt or debt-like financing or issuing debt or equity securities, which could include issuances of senior notes, subordinated notes, preferred stock or common stock. In the event of the Company's liquidation, its lenders and holders of its debt securities would receive a distribution of the Company's available assets before distributions to the holders of Company common stock. The Company's decision to incur debt and issue securities in future offerings will depend on market conditions and other factors beyond its control. The Company cannot predict or estimate the amount, timing or nature of its future offerings and debt financings. Future offerings could reduce the value of shares of Company common stock and dilute a shareholder's interest in the Company.
Our articles of incorporation and bylaws and Michigan laws contain certain provisions that could make a takeover more difficult.
Our articles of incorporation and bylaws, and the laws of Michigan, include provisions which are designed to provide our Board of Directors with time to consider whether a hostile takeover offer is in our best interest and the best interests of our shareholders. These provisions could discourage potential acquisition proposals and could delay or prevent a change in control. The provisions also could diminish the opportunities for a holder of our common stock to participate in tender offers, including tender offers at a price above the then-current price for our common stock. These provisions could also prevent transactions in which our shareholders might otherwise receive a premium for their shares over then current market prices, and may limit the ability of our shareholders to approve transactions that they may deem to be in their best interests.
The Michigan Business Corporation Act contains provisions intended to protect shareholders and prohibit or discourage certain types of hostile takeover activities. In addition to these provisions and the provisions of our articles of incorporation and bylaws, federal law requires the Federal Reserve Board's approval prior to acquisition of "control" of a bank holding company. All of these provisions may have the effect of delaying or preventing a change in control of the Company without action by our shareholders, and therefore, could adversely affect the price of our common stock.
If an entity holds as little as a 5% interest in our outstanding securities, that entity could, under certain circumstances, be subject to regulation as a "bank holding company."
Any entity, including a "group" composed of natural persons, owning or controlling with the power to vote 25% or more of our outstanding securities, or 5% or more if the holder otherwise exercises a "controlling influence" over us, may be subject to regulation as a "bank holding company" in accordance with the Bank Holding Company Act of 1956, as amended (the "BHC Act"). In addition, any bank holding company or foreign bank with a U.S. presence may be required to obtain the approval of the Federal Reserve Board under the BHC Act to acquire or retain 5% or more of our outstanding securities. Becoming a bank holding company imposes statutory and regulatory restrictions and obligations, such as providing managerial and financial strength for its bank subsidiaries. Regulation as a bank holding company could require the holder to divest all or a portion of the holder's investment in our securities or those nonbanking investments that may be deemed impermissible or incompatible with bank holding company status, such as a material investment in a company unrelated to banking.
- 19 -
Any person not defined as a company by the BHC Act may be required to obtain the approval of the Federal Reserve Board under the Change in Bank Control Act of 1978, as amended, to acquire or retain 10% or more of our outstanding securities.
Any person not otherwise defined as a company by the BHC Act and its implementing regulations may be required to obtain the approval of the Federal Reserve Board under the Change in Bank Control Act of 1978, as amended, to acquire or retain 10% or more of our outstanding securities. Applying to obtain this approval could result in a person incurring substantial costs and time delays. There can be no assurance that regulatory approval will be obtained.

---

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

---

ITEM 2. PROPERTIES
ITEM 2:
Properties.
We own or lease facilities located in Ottawa County, Allegan County and Kent County, Michigan. Our administrative offices are located at 10753 Macatawa Drive, Holland, Michigan 49424. Our administrative offices are approximately 49,000 square feet and contain our administration, human resources, loan underwriting and processing, and deposit operations. We believe our facilities are well-maintained and adequately insured. We own each of the facilities except those identified in the “Use” column as “(Leased facility)”. Our facilities as of February 16, 2023, were as follows:
Location of Facility
Use
10753 Macatawa Drive, Holland
Main Branch, Administrative, and Loan Processing Offices
815 E. Main Street, Zeeland
Branch Office
116 Ottawa Avenue N.W., Grand Rapids
Branch Office (Leased facility, lease expires December 2025)
126 Ottawa Avenue N.W., Grand Rapids
Loan Center (Leased facility, lease expires December 2023)
141 E. 8th Street, Holland
Branch Office
489 Butternut Dr., Holland
Branch Office
145 Columbia Avenue, Holland
Satellite Office (Leased facility, lease expires March 2023)
701 Maple Avenue, Holland
Branch Office
699 E. 16th Street, Holland
Branch Office
41 N. State Street, Zeeland
Branch Office
2020 Baldwin Street, Jenison
Branch Office
6299 Lake Michigan Dr., Allendale
Branch Office
132 South Washington, Douglas
Branch Office
4758 - 136th Street, Hamilton
Branch Office (Leased facility, lease expires December 2023)
3526 Chicago Drive, Hudsonville
Branch Office
20 E. Lakewood Blvd., Holland
Branch Office
3191 - 44th Street, S.W., Grandville
Branch Office
2261 Byron Center Avenue S.W., Byron Center
Branch Office
5271 Clyde Park Avenue, S.W., Wyoming
Branch Office
4590 Cascade Road, Grand Rapids
Branch Office
3177 Knapp Street, N.E., Grand Rapids
Branch Office
15135 Whittaker Way, Grand Haven
Branch Office
12415 Riley Street, Holland
Branch Office
2750 Walker N.W., Walker
Branch Office
1575 - 68th Street S.E., Grand Rapids
Branch Office
2820 - 10 Mile Road, Rockford
Branch Office
520 Baldwin Street, Jenison
Branch Office
2440 Burton Street, S.E., Grand Rapids
Branch Office
6330 28th Street, S.E., Grand Rapids
Branch Office

---

ITEM 3. LEGAL PROCEEDINGS
ITEM 3:
Legal Proceedings.
As of the date of this report, there were no material pending legal proceedings, other than routine litigation incidental to the business of banking, to which Macatawa Bank Corporation or the Bank are a party or of which any of our properties are the subject.

---

ITEM 4. MINE SAFETY DISCLOSURE
ITEM 4:
Mine Safety Disclosures.
Not applicable.
- 20 -
PART II

---

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.
Our common stock is quoted on The Nasdaq Global Select Market under the symbol MCBC. High and low closing prices (as reported on The Nasdaq Global Select Market) of our common stock for each quarter for the years ended December 31, 2022 and 2021 are set forth in the table below.
Quarter
High
Low
Dividends
Declared
High
Low
Dividends
Declared
First Quarter
$
9.56
$
8.76
$
0.08
$
10.66
$
8.17
$
0.08
Second Quarter
9.31
8.38
0.08
10.15
8.74
0.08
Third Quarter
10.28
8.65
0.08
8.90
7.37
0.08
Fourth Quarter
11.84
9.21
0.08
9.08
7.96
0.08
Information on restrictions on payments of dividends by us may be found in Item 1 of this report under the heading “Supervision and Regulation” and is here incorporated by reference. Information regarding our equity compensation plans may be found in Item 12 of this report and is here incorporated by reference.
On February 16, 2023, there were approximately 724 owners of record and approximately 8,410 beneficial owners of our common stock.
Shareholder Return Performance Graph
The following graph shows the cumulative total shareholder return on an investment in the Company’s common stock compared to the Russell 2000 Index and the KBW Bank NASDAQ Index. The comparison assumes a $100 investment on December 31, 2017 at the initial price of $10.00 per share (adjusted for all stock dividends and splits) and assumes that dividends are reinvested. The comparisons in this table are set forth in response to Securities and Exchange Commission (SEC) disclosure requirements and therefore are not intended to forecast or be indicative of future performance of the common stock.
Period Ending
Index
12/31/17
12/31/18
12/31/19
12/31/20
12/31/21
12/31/22
Macatawa Bank Corporation
100.00
98.41
116.96
91.58
100.07
129.35
Russell 2000
100.00
88.99
111.70
134.00
153.85
122.41
KBW Bank NASDAQ
100.00
82.29
112.01
100.46
138.97
109.23
- 21 -
Issuer Purchases of Equity Securities
The following table provides information regarding the Company’s purchase of its own common stock during the fourth quarter of 2022. All employee transactions are under stock compensation plans. These include shares of Macatawa Bank Corporation common stock surrendered for cancellation to satisfy tax withholding obligations that occur upon the vesting of restricted shares. The value of the shares withheld is determined based on the closing price of Macatawa Bank Corporation common stock at the date of vesting. The Company has no publicly announced repurchase plans or programs.
Macatawa Bank Corporation Purchases of Equity Securities
Total
Number of
Shares
Purchased
Average
Price Paid
Per Share
Period
October 1 - October 31, 2022
Employee Transactions
-
-
November 1 - November 30, 2022
Employee Transactions
15,246
$
11.30
December 1 - December 31, 2022
Employee Transactions
-
-
Total for Fourth Quarter ended December 31, 2022
Employee Transactions
15,246
$
11.30

---

ITEM 6. SELECTED FINANCIAL DATA
ITEM 6:
[Reserved]
- 22 -

---

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 7.
Management’s Discussion and Analysis of Results of Operations and Financial Condition.
Selected Financial Data.
The following unaudited table sets forth selected historical consolidated financial information as of and for the years ended December 31, 2022, 2021, 2020, 2019 and 2018, which is derived from our audited consolidated financial statements. You should read this information in conjunction with our consolidated financial statements and related notes included elsewhere in this report.
As of and for the Year Ended December 31,
(Dollars in thousands, except per share data)
Financial Condition
Total assets
$
2,906,919
$
2,928,751
$
2,642,026
$
2,068,770
$
1,975,124
Securities
848,022
553,066
316,300
307,969
297,320
Loans
1,177,748
1,108,993
1,429,331
1,385,627
1,405,658
Deposits
2,615,142
2,577,958
2,298,587
1,753,294
1,676,739
Long-term debt
-
-
20,619
20,619
41,238
Other borrowed funds
30,000
85,000
70,000
60,000
60,000
Shareholders' equity
247,038
254,005
239,843
217,469
190,853
Share Information*
Basic earnings (loss) per common share
$
1.01
$
0.85
$
0.88
$
0.94
$
0.78
Diluted earnings (loss) per common share
1.01
0.85
0.88
0.94
0.78
Book value per common share
7.20
7.41
7.01
6.38
5.61
Dividends per common share
0.32
0.32
0.32
0.28
0.25
Dividend payout ratio
31.68
%
37.65
%
36.36
%
29.79
%
32.05
%
Average dilutive common shares outstanding
34,259,604
34,202,179
34,120,275
34,056,200
34,018,554
Common shares outstanding at period end
34,298,640
34,259,945
34,197,519
34,103,542
34,045,411
Operations
Interest income
$
74,906
$
58,634
$
67,224
$
75,942
$
69,037
Interest expense
4,760
2,565
5,687
12,455
9,411
Net interest income
70,146
56,069
61,537
63,487
59,626
Provision for loan losses
(1,125
)
(2,050
)
3,000
(450
)
Net interest income after provision for loan losses
71,271
58,119
58,537
63,937
59,176
Total noninterest income
20,019
23,695
23,976
19,728
17,503
Total noninterest expense
48,226
46,090
45,725
44,224
44,329
Income before income tax
43,064
35,724
36,788
39,441
32,350
Federal income tax
8,333
6,710
6,623
7,462
5,971
Net income attributable to common shares
34,731
29,014
30,165
31,979
26,379
Performance Ratios
Return on average equity
14.19
%
11.74
%
13.19
%
15.66
%
14.69
%
Return on average assets
1.21
1.02
1.27
1.59
1.40
Yield on average interest-earning assets
2.73
2.19
3.00
4.04
3.91
Cost on average interest-bearing liabilities
0.28
0.15
0.38
0.94
0.76
Average net interest spread
2.45
2.04
2.62
3.10
3.15
Average net interest margin
2.56
2.09
2.75
3.38
3.38
Efficiency ratio
53.49
57.78
53.47
53.14
57.47
Capital Ratios
Period-end equity to total assets
8.50
%
8.67
%
9.08
%
10.51
%
9.66
%
Average equity to average assets
8.55
8.71
9.62
10.17
9.51
Total risk-based capital ratio (consolidated)
17.87
18.32
18.29
15.78
15.54
Credit Quality Ratios
Allowance for loan losses to total loans
1.30
%
1.43
%
1.22
%
1.24
%
1.20
%
Nonperforming assets to total assets
0.08
0.08
0.12
0.14
0.24
Nonaccrual loans to total loans
0.01
0.01
0.04
0.01
0.09
Allowance for loan losses to nonaccrual loans
19,596.15
17,270.65
3,266.04
8,472.91
1,293.18
Net charge-offs / (recoveries) to average loans
(0.05
)
(0.04
)
0.19
(0.06
)
0.01
*Retroactively adjusted to reflect the effect of all stock splits and dividends
- 23 -
Management’s discussion and analysis of results of operations and financial condition contains forward-looking statements. Please refer to the discussion of forward-looking statements at the beginning of this report.
The following section presents additional information to assess our results of operations and financial condition. This section should be read in conjunction with the consolidated financial statements and the supplemental financial data contained elsewhere in this report.
The information under Item 1 - Business of this report is incorporated here by reference.
RESULTS OF OPERATIONS
Summary: Net income was $34.7 million ($43.1 million on a pretax basis) for 2022, compared to $29.0 million ($35.7 million on a pretax basis) for 2021. Earnings per common share on a diluted basis were $1.01 for 2022 and $0.85 for 2021.
During 2022, the improvement in our earnings was the result of growth in revenue while expenses were relatively stable. Throughout 2022, the Federal Reserve Bank increased the federal funds rate several times, bringing the high end of their rate range rate from 0.25% at the beginning of the year to 4.50% by the end of 2022. Given our asset sensitive balance sheet posture, this had a very positive impact on our earnings in 2022. Net interest income increased to $70.1 million in 2022 compared to $56.1 million in 2021. Gains on sales of mortgage loans were $706,000 in 2022 compared to $4.7 million in 2021 with the decrease reflecting the impact of higher interest rates in 2022. Other categories of noninterest income were up $309,000 in 2022, partially offsetting the impact of lower gains on mortgage sales. Total noninterest expense was $48.2 million in 2022 compared to $46.1 million in 2021.
We recorded a provision for loan losses benefit of $1.1 million in 2022 and a provision for loan losses benefit of $2.1 million in 2021. The provisions in 2022 and 2021 were favorably impacted by low levels of nonperforming loans, strong asset quality and the levels of net loan charge-offs to recoveries realized in recent periods and reversals of the additional qualitative factors related to the COVID-19 pandemic. These items are discussed more fully below.
Net Interest Income: Net interest income totaled $70.1 million during 2022 compared to $56.1 million during 2021.
The increase in net interest income during 2022 compared to 2021 was due primarily to an increase in yields on earning assets, particularly overnight deposits and variable rate loans as the federal funds rate was increased by 425 basis points in 2022 in response to high inflation resulting from recovery from the COVID-19 pandemic and government stimulus. Average yields on securities, interest earning assets and net interest margin are presented on a fully taxable equivalent basis. Our net interest income as a percentage of average interest-earning assets (i.e. "net interest margin" or "margin") was 2.56% for the year ended December 31, 2022 and 2.09% for the year ended December 31, 2021.
The yield on earning assets increased 54 basis points from 2.19% for 2021 to 2.73% for 2022. The increase from 2021 to 2022 was generally due to an increase of average short-term interest rates earned on overnight deposits and variable rate loans during 2022. The average rate on overnight deposits increased from 0.13% in 2021 to 1.53% in 2022. Our margin in recent years had been negatively impacted by our decision to hold significant balances in liquid and short-term investments. In 2022, our margin benefitted significantly from this strategy. Net interest income also benefitted in 2022 from significant growth in our investment portfolio. Our average investment portfolio balance in 2022 was $749.8 million compared to $363.0 million in 2021. Total average interest earning assets totaled $2.74 billion for 2022 compared to $2.70 billion in 2021.
Net interest income for 2022 increased $14.1 million compared to the same period in 2021. Of this increase, $12.1 million was from changes in the rates earned or paid, and $2.0 million was from changes in volume of average interest earning assets and interest bearing liabilities. The largest changes occurred in interest income on federal funds (our overnight deposits), interest income on commercial loans and interest income in our investment portfolio as we deployed more of our excess investable funds primarily into taxable securities. Interest income from federal funds sold and other short-term investments increased by $12.0 million in 2022 compared to 2021. The 425 basis point increase in the federal funds rate from March 2022 through December 2022 caused a $12.3 million increase in interest income, partially offset by a decrease in average balances of federal funds sold and other short-term investments in 2022, which subtracted $324,000. The net change in interest income for commercial loans was a decrease of $3.7 million in 2022 as compared to 2021 with a $1.8 million increase due to rate offset by a $5.5 million reduction due to a decrease in average balances. PPP loans significantly impacted yields and interest income on commercial loans in 2021. Interest and fees on PPP loans included in interest income were $8.6 million higher in 2021 versus 2022. Offsetting this unfavorable swing in interest income in 2022 was the favorable impact of rising rates on our variable rate commercial loan portfolio. Interest income on this portfolio grew by $5.7 million while the yield increased from 2.95% to 4.19% from 2021 to 2022 in response to rising short-term rates in 2022. The net change in interest income for taxable securities was an increase of $8.1 million with $7.2 million due to an increase in average balances and $844,000 due to rate.
- 24 -
Yield on commercial loans increased from 4.06% in 2021 to 4.23% in 2022. Yield on residential mortgage loans decreased from 3.41% in 2021 to 3.36% in 2022, while yield on consumer loans increased from 4.05% in 2021 to 4.88% in 2022. The increases in yields on commercial loans and consumer loans were the result of the predominance of loans in these categories with variable rates of interest tied to prime and LIBOR or SOFR, which increased throughout 2022.
Our net interest margin for 2022 was negatively impacted from a 13 basis point increase in our cost of funds from 0.15% for 2021 to 0.28% for 2022. Average interest bearing liabilities increased from $1.69 billion in 2021 to $1.72 billion in 2022. Increases in the rates paid on certain deposit account types in response to the sharp market rate increases were the primary cause of the increase in our cost of funds. While our funding costs have increased, the yields on our interest earning assets increased to a much larger extent, causing net interest income and net interest margin to increase significantly from 2021 to 2022.
In 2023, we expect that net interest margin will continue to benefit from increases in the overnight funds rate and by our higher levels of short-term investment balances. The asset-sensitive profile of our balance sheet and our core deposit funding positions us well for favorable net interest margin results when market interest rates rise and remain elevated.
The following table shows an analysis of net interest margin for the years ended December 31, 2022 and 2021 (dollars in thousands).
For the years ended December 31,
Average
Balance
Interest
Earned
or Paid
Average
Yield
or Cost
Average
Balance
Interest
Earned
or Paid
Average
Yield
or Cost
Assets
Taxable securities
$
597,899
$
11,333
1.90
%
$
210,513
$
3,283
1.56
%
Tax-exempt securities (1)
151,888
2,803
2.38
152,459
3,056
2.58
Commercial loans (2)
938,817
40,197
4.23
1,068,667
43,875
4.06
Residential mortgage loans
125,202
4,211
3.36
132,472
4,521
3.41
Consumer loans
56,684
2,768
4.88
55,940
2,268
4.05
Federal Home Loan Bank stock
10,411
1.89
11,558
1.80
Federal funds sold and other short-term investments
862,240
13,395
1.53
1,067,237
1,420
0.13
Total interest earning
assets (1)
2,743,141
74,906
2.73
2,698,846
58,634
2.19
Noninterest earning assets:
Cash and due from banks
36,428
34,740
Other
85,685
103,041
Total assets
$
2,865,254
$
2,836,627
Liabilities
Deposits:
Interest bearing demand
$
704,926
$
0.14
%
$
681,411
$
0.03
%
Savings and money
market accounts
879,273
2,474
0.28
822,235
0.03
Time deposits
88,218
0.40
101,353
0.49
Borrowings:
Other borrowed funds
49,622
1.96
74,246
1,331
1.77
Long-term debt
-
-
-
10,564
2.98
Total interest bearing liabilities
1,722,039
4,760
0.28
1,689,809
2,565
0.15
Noninterest bearing liabilities:
Noninterest bearing demand accounts
884,579
885,838
Other noninterest bearing liabilities
13,795
13,905
Shareholders' equity
244,841
247,075
Total liabilities and shareholders' equity
$
2,865,254
$
2,836,627
Net interest income
$
70,146
$
56,069
Net interest spread (1)
2.45
%
2.04
%
Net interest margin (1)
2.56
%
2.09
%
Ratio of average interest earning assets to average interest bearing liabilities
159.30
%
159.71
%
(1)
Yields are presented on a tax equivalent basis using a 21% tax rate.
(2)
Loan fees of $1.8 million and $9.4 million for 2022 and 2021, respectively, are included in interest income. Included in these fee amounts were $1.3 million and $8.3 million in fees on PPP loans in 2022 and 2021, respectively. Includes average nonaccrual loans of approximately $86,000 and $431,000 for 2022 and 2021, respectively.
- 25 -
The following table presents the dollar amount of changes in net interest income due to changes in volume and rate.
For the years ended December 31,
2022 vs 2021
Increase (Decrease) Due to
Volume
Rate
Total
(Dollars in thousands)
Interest income
Taxable securities
$
7,206
$
$
8,050
Tax-exempt securities
(11
)
(242
)
(253
)
Commercial loans
(5,462
)
1,784
(3,678
)
Residential mortgage loans
(245
)
(65
)
(310
)
Consumer loans
Federal Home Loan Bank stock
(23
)
(12
)
Federal funds sold and other short-term investments
(324
)
12,299
11,975
Total interest income
1,172
15,100
16,272
Interest expense
Interest bearing demand
$
$
$
Savings and money market accounts
2,210
2,228
Time deposits
(60
)
(96
)
(156
)
Other borrowed funds
(475
)
(344
)
Long-term debt
(319
)
-
(319
)
Total interest expense
(830
)
3,025
2,195
Net interest income
$
2,002
$
12,075
$
14,077
Provision for Loan Losses: The provision for loan losses for 2022 was a benefit of $1.1 million compared to a benefit of $2.1 million for 2021. The provision for loan losses for 2022 and 2021 were impacted by our continued strong asset quality metrics. In 2022 and 2021, economic conditions improved allowing for reductions in the additional qualitative adjustments made in 2020 related to the COVID-19 pandemic. This contributed to the level of benefit recorded in 2022 and 2021. In addition, specific reserves on impaired loans decreased by $270,000 in 2022 and by $646,000 in 2021. Net loan recoveries were $521,000 in 2022 compared to $531,000 in 2021.
Our overall weighted average commercial loan grade has been below 4.00 for the past several years. Our weighted average commercial loan grade was 3.53 at December 31, 2022 and 3.60 at December 31, 2021.
The amounts of loan loss provision in each period were the result of establishing our allowance for loan losses at levels believed necessary based upon our methodology for determining the adequacy of the allowance. The sustained level of net recoveries over the past several years has had a significant effect on the historical loss component of our methodology. More information about our allowance for loan losses and our methodology for establishing its level may be found in this Item 7 of this report under the heading “Allowance for Loan Losses” below and in Item 8 of this report in Note 3 of the Consolidated Financial Statements.
Noninterest Income: Noninterest income totaled $20.0 million in 2022 compared to $23.7 million in 2021. The components of noninterest income are shown in the table below (in thousands):
Service charges and fees on deposit accounts
$
4,769
$
4,446
Net gains on mortgage loans
4,691
Trust fees
4,143
4,331
ATM and debit card fees
6,768
6,505
Bank owned life insurance (“BOLI”) income
1,033
Investment services fees
1,691
1,505
Other income
1,064
1,184
Total noninterest income
$
20,019
$
23,695
Net gains on sales of mortgage loans decreased $4.0 million from 2021 to 2022 due to much lower volumes of mortgage loans originated for sale in 2022. Net gains on mortgage loans represent gains on the sale of real estate mortgage loans in the secondary market. We sell the majority of the fixed-rate mortgage loans we originate. We do not retain the servicing rights for the loans we sell.
- 26 -
A summary of gain on sales of loans and related loan volume was as follows (in thousands):
For the Year Ended December 31,
Gain on sales of loans
$
$
4,691
Real estate mortgage loans originated for sale
$
26,236
$
124,287
Real estate mortgage loans sold
28,134
132,993
Net gain on the sale of mortgage loans as a percent of real estate mortgage loans sold ("Loan sale margin")
2.51
%
3.53
%
As demonstrated in the table above, volume of mortgage loans originated for sale was down significantly in 2022 compared to 2021. The rapid increase in interest rates during 2022 significantly impacted mortgage sale production volume. As long-term market interest rates impacting mortgage rates began to rise in the latter half of 2021, mortgage production slowed and resulting gains declined. As rates increased further in 2022, refinancing activity all but stopped and more customers chose variable rate products, which we hold in portfolio. We expect our residential mortgage loan activity to remain below normal levels as we enter 2023 given the existing rate environment.
Deposit service charges were up $323,000, primarily driven by growth in treasury management fee income charged to our commercial customers and growth in overdraft fee income. The improvement in treasury management fee income was a result of success in growing the number of business and municipal customers using these services in the last two years. These fees in 2022 were offset in part by a higher level of earnings credits due to higher deposit rates in 2022. Overdraft fees are driven by customer spending behavior and this activity dropped in 2020 and 2021 with the overall effect of government shutdowns on the economy, particularly in the second quarter of 2020, which was most impacted by the COVID-19 response. The stimulus checks sent by the federal government also helped our customers keep their accounts from overdrawing. As the economy began to normalize and customers used the economic impact payments, customer spending behavior began to return to normal in 2022.
Trust service revenue decreased $188,000 in 2022. This decrease was due primarily to market valuations of assets on which fees are assessed.
ATM and debit card processing income increased $263,000 in 2022 to $6.8 million compared to $6.5 million in 2021. This increase reflected an increase in ATM fees due to fees charged to non-Macatawa customers. This new fee was implemented in 2022. Overall ATM and debit card income has rebounded and remains at pre-pandemic levels reflecting customer preference for this payment alternative. There was overall growth in the number of debit and ATM card customers and promotional efforts to increase volume in these low cost transaction alternatives continue to be successful.
We did not sell any securities in 2022 or 2021. We continually review our securities portfolio and will dispose of securities that pose higher than desired credit or market risk, or as warranted from overall portfolio maintenance or asset-liability management.
Investment services fees increased $186,000 in 2022 due largely to an increase in the sale of annuities in the latter part of 2022.
Earnings from bank owned life insurance decreased by $155,000 in 2022 compared to 2021 due to the general performance of the underlying investments.
Other income was down by $120,000 in 2022 due largely to a reduction of title insurance fees of $123,000 as mortgage volume was down due to the higher interest rate environment.
- 27 -
Noninterest Expense: Noninterest expense was $48.2 million in 2022 and $46.1 million in 2021. The small increase in total noninterest expense reflected our active management of controllable costs. The components of noninterest expense are shown in the table below (in thousands):
Salaries and benefits
$
26,194
$
25,216
Occupancy of premises
4,200
3,986
Furniture and equipment
4,008
3,940
Legal and professional
1,042
Marketing and promotion
Data processing
3,756
3,456
FDIC assessment
Interchange and other card expense
1,586
1,517
Bond and D&O insurance
Outside services
2,139
1,922
Other noninterest expense
3,272
3,091
Total noninterest expense
$
48,226
$
46,090
Salaries and benefits expense was the largest component of noninterest expense and was $26.2 million in 2022 and $25.2 million in 2021. The increase in 2022 was primarily driven by higher base compensation, higher variable compensation tied to brokerage activity, higher medical insurance costs from increased claims and higher 401(k) contributions more than offsetting the decrease in variable compensation tied to lower mortgage loan production in 2022. Our 401(k) matching costs were lower in 2021 as we reduced our matching percentage for 2021 to 100% of the first 2% of salary contributions. This was increased back to normal level beginning January 1, 2022 at 100% of the first 3% and 50% of the next 2% of salary contributions. The table below identifies the primary components of salaries and benefits (in thousands):
Salaries and other compensation
22,694
22,171
Salary deferral from commercial loans
(855
)
(1,062
)
Bonus
1,154
1,121
Mortgage production - variable comp
1,049
Brokerage - variable comp
401(k) matching contributions
Medical insurance costs
1,546
1,085
Total salaries and benefits
$
26,194
$
25,216
Costs associated with nonperforming assets remained at low levels, totaling $20,000 in 2022 and $45,000 in 2021. During 2022, we did not add any other real estate properties. We sold one other real estate property that had a valuation allowance of 100%, so the balance remained unchanged at $2.3 million at December 31, 2022 and 2021. In 2021, we did not add any other real estate properties and sold $170,000 of other real estate. On January 30, 2023, we sold the remaining other real estate owned property at a small gain, bringing the balance of other real estate owned to $0.
FDIC assessment expense increased to $789,000 in 2022 compared to $749,000 in 2021 primarily due to our overall asset balance sheet composition. Further discussion regarding the determination of FDIC assessments for the Bank may be found in Item 1 of this report under the heading "Supervision and Regulation." This expense will increase in 2023 as the FDIC has raised the premium we pay by 67% until their bank insurance fund reaches the level imposed by regulations.
Occupancy expense increased by $214,000 in 2022 primarily due to an increase in snow removal and building maintenance costs, partially offset by depreciation of our buildings. Furniture and equipment expense increased by $68,000 in 2022 primarily due to an increase in equipment and software service contracts and software, partially offset by a decrease in software amortization costs.
Data processing expenses were $3.8 million in 2022 and $3.5 million in 2021. Increases in data processing for our systems and card programs in 2022 were the primary reasons for the increase in 2022.
Outside services increased by $217,000 in 2022 primarily due to higher recruiting costs and outsourced internal audits.
Federal Income Tax Expense: We recorded federal income tax expense of $8.3 million in 2022 and $6.7 million in 2021. Our effective tax rate was 19.35% for 2022 and 18.78% for 2021. The increase in the effective tax rate in 2022 over 2021 was due to higher levels of taxable income from both growth in taxable securities held in our investment portfolio and growth in taxable income from rising interest rates while our tax-exempt income has remained relatively flat.
- 28 -
FINANCIAL CONDITION
Summary: Total assets were $2.91 billion at December 31, 2022, decrease of $21.8 million from $2.93 billion at December 31, 2021. This change reflected increases of $68.8 million in our loan portfolio, $83.2 million in securities available for sale, $211.8 million in securities held to maturity, $3.5 million in accrued interest receivable, $877,000 in bank owned life insurance, $7.5 million in net deferred tax assets and $2.5 million in other assets, offset by decreases of $396.6 million in cash and cash equivalents, $1.5 million in premises and equipment, and $1.2 million in loans held for sale. Total deposits increased by $37.2 million and other borrowed funds and long-term debt were down by $55.0 million at December 31, 2022 compared to December 31, 2021.
Total shareholders’ equity decreased by $7.0 million from December 31, 2021 to December 31, 2022. Shareholders’ equity was increased by $34.7 million of net income in 2022, partially offset by cash dividends of $10.9 million, or $0.32 per share. Shareholders’ equity also decreased by $31.3 million in 2022 as a result of an unfavorable swing in accumulated other comprehensive income due to the effect of rising interest rates on the fair value of our available for sale securities portfolio. As of December 31, 2022 and 2021, the Bank was categorized as “well capitalized” under applicable regulatory guidelines.
Cash and Cash Equivalents: Our cash and cash equivalents, which include federal funds sold and short-term investments, were $755.2 million at December 31, 2022 compared to $1.15 billion at December 31, 2021. This $396.6 million decrease was primarily the result of growth in our loan and investment portfolios during 2022.
Securities: Securities available for sale ("AFS") were $499.3 million at December 31, 2022 compared to $416.1 million at December 31, 2021. The balance at December 31, 2022 primarily consisted of U.S. Treasury and agency securities, agency mortgage backed securities and various municipal investments. The growth in securities AFS was the result of increased purchase activity to accelerate the strategic deployment of excess liquid funds caused by our robust deposit growth. Investment purchases were focused on short-term high quality securities consistent with our existing portfolio. Our held to maturity ("HTM") portfolio increased from $137.0 million at December 31, 2021 to $348.8 million at December 31, 2022. Our HTM portfolio is comprised of U.S. Treasury securities and state municipal and privately placed commercial bonds. The commercial bond component of this category declined by $5.5 million in 2022. These bonds represent financing provided to some of our non-profit commercial customers who qualified for borrowing on a tax-exempt basis. The municipal bond component of this category decreased by $34.1 million. The U.S. Treasury securities component of this category increased by $251.3 million as we seized opportunities to deploy excess liquid funds in high quality bonds with short durations.
On January 1, 2022, we reclassified ten U.S. Treasury securities with an amortized cost of $123.5 million from available for sale to held to maturity, as we have the intent and ability to hold these securities to maturity. All ten of these U.S. Treasury securities were purchased within the fourth quarter of 2021. Subsequently and upon further analysis of these purchases, management decided to reclassify them to held to maturity given their short-term nature. These securities had net unrealized gains of $113,000 at the date of transfer, which will continue to be reported in accumulated comprehensive income, and will be amortized over the remaining life of the securities as an adjustment of yield. The effect on interest income of the amortization of net unrealized gains is offset by the amortization of the premium on the securities transferred. Total securities increased $295.0 million from $553.1 million at December 31, 2021 to $848.0 million at December 31, 2022 as we continued to deploy excess liquidity into higher yielding assets.
Portfolio Loans and Asset Quality: Total portfolio loans increased by $68.8 million to $1.18 billion at December 31, 2022 compared to $1.11 billion at December 31, 2021. During 2022, our commercial portfolio increased by $43.0 million, while our residential mortgage portfolio increased by $21.3 million and our consumer portfolio increased by $4.5 million. By December 31, 2022, all of our PPP loans had received forgiveness from the SBA, while we had $41.9 million in remaining PPP loans at December 31, 2021.
We experienced year over year growth in commercial loans in 2022 after experiencing a decline in commercial loan balances in 2021. Commercial loans grew $119.6 million in 2020, decreased $281.2 million in 2021 and increased $43.0 million in 2022. Most of the growth in 2020 and decline in 2021 was attributable to PPP loan activity. We returned to commercial loan growth in 2022 and plan for measured, high quality loan portfolio growth in 2023. Excluding PPP loans, total commercial loans grew by $84.9 million in 2022.
Commercial and commercial real estate loans remained our largest loan segment and accounted for 83.2% of the total loan portfolio at December 31, 2022 and 84.4% at December 31, 2021. Residential mortgage and consumer loans comprised 16.8% of total loans at December 31, 2022 and 15.6% at December 31, 2021.
- 29 -
A further breakdown of the composition of the loan portfolio is shown in the table below (in thousands):
December 31, 2022
December 31, 2021
Balance
Percent of
Total Loans
Balance
Percent of
Total Loans
Commercial real estate: (1)
Residential developed
$
7,234
0.6
%
$
4,862
0.4
%
Unsecured to residential developers
-
-
5,000
0.4
Vacant and unimproved
36,270
3.1
36,240
3.3
Commercial development
-
-
Residential improved
112,791
9.6
100,077
9.0
Commercial improved
259,281
22.0
259,039
23.4
Manufacturing and industrial
121,924
10.4
110,712
10.0
Total commercial real estate
537,603
45.7
516,101
46.5
Commercial and industrial, excluding PPP
441,716
37.5
378,318
34.1
Paycheck Protection Program (PPP)
-
-
41,939
3.8
Total commercial
979,319
83.2
936,358
84.4
Consumer
Residential mortgage
139,148
11.8
117,800
10.7
Unsecured
-
-
Home equity
56,321
4.8
51,269
4.6
Other secured
2,839
0.2
3,356
0.3
Total consumer
198,429
16.8
172,635
15.6
Total loans
$
1,177,748
100.0
%
$
1,108,993
100.0
%
(1)
Includes both owner occupied and non-owner occupied commercial real estate.
Commercial real estate loans increased $21.5 million since December 31, 2021 and accounted for 45.7% of our total loan portfolio at year-end 2022 and consisted primarily of loans to business owners and developers of owner and non-owner occupied commercial properties and loans to developers of single and multi-family residential properties. In the table above, we show our commercial real estate portfolio by loans secured by residential and commercial real estate, and by stage of development. Improved loans are generally secured by properties that are under construction or completed and placed in use. Development loans are secured by properties that are in the process of development or fully developed. Vacant and unimproved loans are secured by raw land for which development has not yet begun and agricultural land.
Our overall commercial and industrial loan portfolio, including PPP, increased by $21.5 million to $441.7 million at December 31, 2022 and represented 37.5% of our total loan portfolio. This change includes $41.9 million net reduction in outstanding balances on PPP loans, due to SBA forgiveness.
Our consumer residential mortgage loan portfolio, which also includes residential construction loans made to individual homeowners, comprised approximately 11.8% of portfolio loans at December 31, 2022 and 10.7% at December 31, 2021. We expect to continue to retain in our loan portfolio certain types of residential mortgage loans (primarily high quality, low loan to value, adjustable rate loans) in an effort to continue to diversify our credit risk and deploy our excess liquidity. Typically, a large portion of our residential mortgage loan production is sold on the secondary market with servicing released. However, given the significant increase in residential mortgage loan rates, we have increased the amount of such loans retained in portfolio as they will typically have lower duration due to refinancings that occur when interest rates decline.
The volume of residential mortgage loans originated for sale during 2022 decreased from 2021 as interest rates increased in 2022 and demand for refinancings declined as many potential borrowers had recently refinanced in the extended low interest rate environment. In addition, customer preference drove more production in loan product types we retain in portfolio (i.e. variable rate, short term mortgages). We expect residential mortgage originations for sale to continue to be below normal levels as we enter 2023 given the existing rate environment. Residential mortgage loans originated for sale were $26.2 million in 2022 compared to $124.3 million in 2021. The Company had no repurchase demands or claims related to residential mortgage loans sold on the secondary market during the five-year period ended December 31, 2022.
Our portfolio of other consumer loans includes loans secured by personal property and home equity fixed term and line of credit loans. Consumer loans increased by $4.5 million to $59.3 million at December 31, 2022 from $54.8 million at December 31, 2021 primarily due to an increase in home equity loans. Consumer loans comprised approximately 5.0% of our portfolio loans at December 31, 2022 and 4.9% at December 31, 2021.
- 30 -
The following table shows our loan origination activity for portfolio loans during 2022 and 2021, broken out by loan type and also shows average originated loan size (dollars in thousands):
Year ended December 31, 2022
Year ended December 31, 2021
Portfolio
Originations
Percent of
Total
Originations
Average
Loan Size
Portfolio
Originations
Percent of
Total
Originations
Average
Loan Size
Commercial real estate:
Residential developed
$
5,998
1.2
%
$
$
7,620
1.4
%
$
Unsecured to residential developers
-
-
-
-
-
-
Vacant and unimproved
10,982
2.2
18,762
3.3
1,173
Commercial development
-
-
-
-
-
-
Residential improved
51,565
10.5
101,492
17.9
Commercial improved
76,523
15.5
1,594
71,486
12.6
1,191
Manufacturing and industrial
71,641
14.6
2,470
25,827
4.6
Total commercial real estate
216,709
44.0
1,129
225,187
39.8
Commercial and industrial, excluding PPP
164,535
33.4
110,667
19.5
PPP loans
-
-
-
128,473
22.7
Total commercial
381,244
77.4
1,009
464,327
82.0
Consumer
Residential mortgage
55,289
11.2
48,930
8.6
Unsecured
-
-
-
-
-
-
Home equity
54,249
11.0
51,270
9.1
Other secured
1,855
0.4
1,567
0.3
Total consumer
111,393
22.6
101,767
18.0
Total loans
$
492,637
100.0
%
$
566,094
100.0
%
Excluding PPP originations, our loan origination activity was up $55.0 million in 2022 compared to 2021. We believe the increased origination activity is primarily the result of increased business activity occurring in our marketplace as uncertainty over economic conditions with the COVID-19 pandemic has decreased.
Our loan portfolio is reviewed regularly by our senior management, our loan officers, and an internal loan review team that is independent of our loan originators and credit administration. An administrative loan committee consisting of senior management and seasoned lending and collections personnel meets monthly to manage our internal watch list and proactively manage high risk loans.
When reasonable doubt exists concerning collectability of interest or principal of one of our loans, the loan is placed in nonaccrual status. Any interest previously accrued but not collected is reversed and charged against current earnings.
Nonperforming assets are comprised of nonperforming loans, foreclosed assets and repossessed assets. At December 31, 2022 and 2021, nonperforming assets totaled $2.4 million. There were no additions to other real estate owned in 2022 or in 2021. Based on the loans currently in their redemption period, we expect there to be few, if any, additions to other real estate owned in 2022. There were no sales of foreclosed and repossessed properties in 2022. Proceeds from sales of foreclosed properties were $170,000 in 2021 resulting in a net realized gain on sale of $20,000.
Nonperforming loans include loans on nonaccrual status and loans delinquent more than 90 days but still accruing. As of December 31, 2022, nonperforming loans totaled $78,000, or 0.01% of total portfolio loans, compared to $92,000, or 0.01% of total portfolio loans, at December 31, 2021.
Nonperforming loans at December 31, 2022 consisted of $78,000 of residential mortgage loans.
- 31 -
Foreclosed and repossessed assets include assets acquired in settlement of loans. Foreclosed assets totaled $2.3 million at December 31, 2022 and 2021. All properties acquired through or in lieu of foreclosure are initially transferred at their fair value less estimated costs to sell and then evaluated monthly for impairment after transfer using a lower of cost or market approach. Updated property valuations are obtained at least annually on all foreclosed assets. On January 30, 2023, the Company sold the remaining other real estate owned property at a small gain, bringing the balance of other real estate owned to $0.
The following table shows the composition and amount of our nonperforming assets (dollars in thousands):
December 31,
Nonaccrual loans
$
$
$
$
$
1,303
Loans 90 days or more delinquent and still accruing
-
-
-
Total nonperforming loans (NPLs)
1,304
Foreclosed assets
2,343
2,343
2,537
2,748
3,380
Repossessed assets
-
-
-
-
-
Total nonperforming assets (NPAs)
$
2,421
$
2,435
$
3,070
$
2,951
$
4,684
NPLs to total loans
0.01
%
0.01
%
0.04
%
0.01
%
0.09
%
NPAs to total assets
0.08
%
0.08
%
0.12
%
0.14
%
0.24
%
The following table shows the breakout of our troubled debt restructurings (“TDRs”) between performing and nonperforming at December 31, 2022 and 2021 (dollars in thousands):
December 31, 2022
December 31, 2021
Commercial
Consumer
Total
Commercial
Consumer
Total
Performing TDRs
$
4,121
$
2,886
$
7,007
$
4,497
$
3,024
$
7,521
Nonperforming TDRs (1)
-
-
-
-
Total TDRs
$
4,121
$
2,886
$
7,007
$
4,502
$
3,024
$
7,526
(1)
Included in nonperforming asset table above
The following table further shows the composition of our TDRs over the past five years (dollars in thousands):
December 31,
Commercial and industrial TDRs
$
3,604
$
3,375
$
3,957
$
5,797
$
6,502
Commercial real estate TDRs
1,127
1,439
2,770
3,305
Consumer TDRs
2,886
3,024
4,049
5,140
6,346
Total TDRs
$
7,007
$
7,526
$
9,445
$
13,707
$
16,153
We had a total of $7.0 million and $7.5 million of loans classified as TDRs as of December 31, 2022 and 2021, respectively. These loans may have involved the restructuring of terms to allow customers to mitigate the risk of foreclosure by meeting a lower loan payment requirement based upon their current cash flow. These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit. For each restructuring, a comprehensive credit underwriting analysis of the borrower’s financial condition and prospects of repayment under the revised terms is performed to assess whether the structure can be successful and that cash flows will be sufficient to support the restructured debt. An analysis is also performed to determine whether the restructured loan should be on accrual status. Generally, if the loan is on accrual at the time of restructure, it will remain on accrual after the restructuring. In some cases, a nonaccrual loan may be placed on accrual at restructuring if the loan’s actual payment history demonstrates it would have cash flowed under the restructured terms. After six consecutive payments under the restructured terms, a nonaccrual restructured loan is reviewed for possible upgrade to accruing status. In situations where there is a subsequent modification or renewal and the loan is brought to market terms, including a contractual interest rate not less than a market interest rate for new debt with similar credit risk characteristics, the TDR and impaired designations may be removed.
As with other impaired loans, an allowance for loan loss is estimated for each TDR based on the most likely source of repayment for each loan. For impaired commercial real estate loans that are collateral dependent, the allowance is computed based on the fair value of the underlying collateral, less estimated costs to sell. For impaired commercial loans where repayment is expected from cash flows from business operations, the allowance is computed based on a discounted cash flow computation. Certain groups of TDRs, such as residential mortgages, have common characteristics and for them the allowance is computed based on a discounted cash flow computation on the change in weighted rate for the pool. The allowance allocations for commercial TDRs where we have reduced the contractual interest rate are computed by measuring cash flows using the new payment terms discounted at the original contractual rate.
- 32 -
Allowance for loan losses: Determining the appropriate level of the allowance for loan losses is highly subjective. Timely identification of risk rating changes within the commercial loan portfolio is key to our process of establishing an appropriate allowance balance. The internal risk rating system is discussed below.
The allowance for loan losses at December 31, 2022 was $15.3 million, a decrease of $604,000, compared to $15.9 million at December 31, 2021. The balance of the allowance for loan losses was 1.30% of total portfolio loans at December 31, 2022 compared to 1.43% of total portfolio loans at December 31, 2021. The allowance for loan losses to nonperforming loan coverage ratio remained high at 19,596% at December 31, 2022 compared to 17,271% at December 31, 2021.
The following is a summary of certain key ratios regarding allowance activity and coverage.
December 31
Ratios:
Net charge-offs (recoveries) to average loans outstanding - Total
(0.05
)%
(0.04
)%
Net charge-offs (recoveries) to average loans outstanding - Commercial Loans
(0.05
)%
(0.05
)%
Net charge-offs (recoveries) to average loans outstanding - Residential Mortgage Loans
(0.02
)%
(0.01
)%
Net charge-offs (recoveries) to average loans outstanding - Consumer Loans
(0.07
)%
0.05
%
Nonaccrual loans to loans outstanding at year-end
0.01
%
0.01
%
Allowance for loan losses to loans outstanding at year-end
1.30
%
1.43
%
Allowance for loan losses to nonaccrual loans at year-end
19,596
%
17,640
%
Allowance for loan losses to nonperforming loans at year-end
19,596
%
17,271
%
The continued low level of net charge-offs over the last several years has had a significant effect on the historical loss component of our allowance for loan losses computation.
The table below shows the changes in these metrics over the past five years:
(Dollars in millions)
Commercial loans
$
979.3
$
936.4
$
1,217.6
$
1,098.0
$
1,082.1
Nonperforming loans
0.1
0.1
0.5
0.2
1.3
Other real estate owned and repo assets
2.3
2.3
2.5
2.7
3.4
Total nonperforming assets
2.4
2.4
3.0
3.0
4.7
Net charge-offs (recoveries)
(0.5
)
(0.5
)
2.8
(0.8
)
0.2
Total delinquencies
0.2
0.1
0.6
0.4
0.9
Nonperforming loans have been low over the past several years. At December 31, 2022, we have had net loan recoveries in thirty of the past thirty-two quarters. Perhaps even more importantly, our total delinquencies 30 days and greater have continued to be minimal, and were just $172,000 at December 31, 2022.
The provision for loan losses was a benefit of $1.1 million for 2022 compared to a benefit of $2.1 million for 2021. The provision in each period was impacted by the levels of nonperforming loans and net charge-off/recovery experience. We had net recoveries in 2022 totaling $521,000 compared to net recoveries of $531,000 in 2021. The ratio of net charge-offs / (recoveries) to average loans was (0.05%) for 2022 compared to (0.04%) for 2021.
We are encouraged by the low level of charge-offs over the past several years. We do, however, recognize that future charge-offs and resulting provisions for loan losses are expected to be impacted by the timing and extent of changes in the overall economy and the real estate markets.
Our allowance for loan losses is maintained at a level believed appropriate based upon our assessment of the probable estimated losses inherent in the loan portfolio. Our methodology for measuring the appropriate level of allowance and related provision for loan losses relies on several key elements, which include specific allowances for loans considered impaired, general allowance for commercial loans not considered impaired based upon applying our loan rating system, and general allocations based on historical trends for homogeneous loan groups with similar risk characteristics.
Impaired loans decreased $519,000 or 7%, to $7.0 million at December 31, 2022 compared to $7.5 million at December 31, 2021. The specific allowance for impaired loans decreased $270,000 to $295,000, or 4.2% of total impaired loans, at December 31, 2022 compared to $565,000, or 7.5% of total impaired loans, at December 31, 2021.
- 33 -
Specific allowances are established on individually impaired credits where we believe it is probable that a loss may be incurred. Specific allowances are determined based on discounting estimated cash flows over the life of the loan or based on the fair value of collateral supporting the loan. For commercial real estate loans, generally appraisals are used to estimate the fair value of the collateral and determine the appropriate specific allowance. Estimated selling costs are also considered in the estimate. When it becomes apparent that liquidation of the collateral is the only source of repayment, the collateral shortfall is charged off rather than carried as a specific allowance.
The general allowance (referred to as “formula allowance”) allocated to commercial loans that were not considered to be impaired was based upon the internal risk grade of such loans. We use a loan rating method based upon an eight point system. Loans are stratified between real estate secured and non-real estate secured. The real estate secured portfolio is further stratified by the type of real estate. Each stratified portfolio is assigned a loss allocation factor. Generally, a worse grade assigned to a loan category results in a greater allocation percentage. Changes in risk grade of loans affect the amount of the allowance allocation.
The determination of our loss factors is based upon our actual loss history by loan grade and adjusted for significant factors that, in management's judgment, affect the collectability of the portfolio as of the analysis date. We use a rolling 18 month (6 quarter) actual net charge-off history as the base for our computation for commercial loans. The 18 month period ended December 31, 2022 reflected net recoveries for most of our loan pools. We addressed this volatility in the qualitative factor considerations applied in our allowance computation. We also considered the extended period of improved asset quality in assessing the overall qualitative component.
We also have considered the effect of COVID-19 on our loan borrowers and our local economy. While significant stimulus and mitigation efforts were expected to soften the impact, we believed a downgrade to our economic qualitative factor was appropriate and we added 7 basis points to this qualitative factor at March 31, 2020. Additional allocations were provided in the second, third and fourth quarters of 2020. In the first quarter of 2021, this factor was decreased by 2 basis points in recognition of improved economic conditions but additional allocations were made to other factors for a net increase of 8 basis points in the quarter. In the second quarter 2021, we added 20 basis points to our consumer loan portfolio qualitative factors to address the risk that economic impact payments may be masking consumer delinquency and default. We maintained these qualitative factors in the third and fourth quarters of 2021. Reflecting improvement in our local economy, in the fourth quarter of 2021 we reduced the overall economic qualitative factor by 6 basis points.
As the economy recovered in 2022 to pre-pandemic levels and losses did not occur, we determined it appropriate to reverse some of the qualitative factors allocated. In the first quarter of 2022, we removed the 20 basis point allocation on consumer loans that was added in 2021 for economic impact payments possibly masking delinquencies. We also reduced the factor for economic conditions by 3 basis points, reduced the factor for changes in personnel by 4 basis points and added 2 basis points for the effect of rising interest rates. In the second quarter of 2022, we added 3 basis points for the effect of rising interest rates and reduced the factor for changes in personnel by 3 basis points. In the third quarter of 2022, we reduced the factor for credit quality trends by 2 basis points, reduced the factor for loan review quality by 1 basis point, reduced the factor for changes in lending personnel by 1 basis point, reduced the factor for external conditions by 2 basis points and increased the factor for rising interest rates by 2 basis points. We increased the factor for rising interest rates by 2 basis points in the fourth quarter of 2022.
For the year, in 2022 we removed the 20 basis point allocation on consumer loans for economic impact payments, reduced economic trends by 3 basis points, reduced credit quality trends by 2 basis points, reduced loan review quality by 1 basis point, reduced changes in personnel by 8 basis points, reduced external factors by 2 basis points and increased the effect of rising interest rates by 9 basis points.
Considering the change in our qualitative factors and changes in our commercial loan portfolio balances, the general commercial loan allowance decreased $178,000 to $12.8 million at December 31, 2022 compared to $12.9 million at December 31, 2021. The qualitative component of our allowance allocated to commercial loans was $12.7 million at December 31, 2022, down from $12.9 million at December 31, 2021.
Groups of homogeneous loans, such as residential real estate and open- and closed-end consumer loans, receive allowance allocations based on loan type. A rolling 12 month (4 quarter) historical loss experience period was applied to residential mortgage and consumer loan portfolios. As with commercial loans that are not considered impaired, the determination of the allowance allocation percentage is based principally on our historical loss experience. These allocations are adjusted for consideration of general economic and business conditions, credit quality and delinquency trends, collateral values, and recent loss experience for these similar pools of loans. The homogeneous loan allowance was $2.2 million at December 31, 2022 compared to $2.4 million at December 31, 2021.
As noted above, the formula allowance allocated to commercial loans that are not considered to be impaired is calculated by applying historical loss factors to outstanding loans based on the internal risk rating of such loans. We use a loan rating method based upon an eight point system. Loans rated a 4 or better are considered of acceptable risk. Loans rated a 5 exhibit above-normal risk to the Company and warrant a greater level of attention by management. These loans are subject to on-going review and assessment by our Administrative Loan Committee. Loans rated a 6 or worse are considered substandard, doubtful or loss, exhibit a greater relative risk of loss to the Company based upon the rating and warrant an active workout plan administered by our Special Asset Group.
- 34 -
The qualitative factors assessed and used to adjust historical loss experience reflect our assessment of the impact of economic trends, delinquency and other problem loan trends, trends in valuations supporting underlying collateral, changes in loan portfolio concentrations, effect of changes in interest rates on loan collectability, competition and changes in internal credit administration practices have on probable losses inherent in our loan portfolio. Qualitative adjustments are inherently subjective and there can be no assurance that these adjustments have properly identified probable losses in our loan portfolio. More information regarding the subjectivity involved in determining the estimate of the allowance for loan losses may be found in this Item 7 of this report under the heading "Critical Accounting Policies and Estimates."
The following table shows the allocation of the allowance for loan losses by portfolio type at the dates indicated.
December 31,
(Dollars in thousands)
Allowance
Amount
% of
Each
Category
to Total
Loans
Allowance
Amount
% of
Each
Category
to Total
Loans
Commercial and commercial real estate
$
12,827
%
$
13,256
%
Residential mortgage
1,755
1,836
Consumer
Total
$
15,285
%
$
15,889
%
The components of the allowance for loan losses were as follows:
December 31,
(Dollars in thousands)
Balance of
Loans
Allowance
Amount
Balance of
Loans
Allowance
Amount
Commercial and commercial real estate:
Impaired with allowance recorded
$
$
$
3,215
$
Impaired with no allowance recorded
3,309
-
1,287
-
Loss allocation factor on non-impaired loans
975,198
12,751
931,856
12,929
979,319
12,826
936,358
13,256
Residential mortgage and consumer:
Reserves on troubled debt restructurings
2,886
3,024
Loss allocation factor
195,543
2,239
169,611
2,395
Total
$
1,177,748
$
15,285
$
1,108,993
$
15,889
With the exception of certain TDRs, impaired commercial loans at December 31, 2022 were classified as substandard or worse per our internal risk rating system. $2.7 million of residential mortgage TDRs were associated with programs approved by the U.S. government during 2009 to minimize the number of consumer foreclosures. These loans involved the restructuring of terms on consumer mortgages to allow customers to mitigate foreclosure by meeting a lower loan payment requirement based upon their current cash flow. Also included in this category are certain consumer home equity loans that were restructured maturing home equity lines of credit that did not qualify for traditional term financing. We have been actively working with our customers to reduce the risk of foreclosure using these programs. Additional information regarding impaired loans at December 31, 2022 and 2021 may be found in Item 8 of this report in Note 3 to the Consolidated Financial Statements.
Our weighted average loan grade was 3.60 at December 31, 2021 and 3.53 at December 31, 2022. The decrease of $452,000 in reserves on commercial loans for 2022 was due to a $252,000 decrease in specific reserves on impaired loans and a $200,000 decrease in the loss allocation factor on non-impaired loans at December 31, 2022.
- 35 -
Of the $15.3 million allowance at December 31, 2022, 2% related to specific allocations on impaired loans, 83% related to formula allowance on commercial loans and 14% related to general allocations for homogeneous loans. Of the $15.9 million allowance at December 31, 2021, 4% related to specific allocations on impaired loans, 81% related to formula allowance on commercial loans and 15% related to general allocations for homogeneous loans. Of the $15.0 million total formula based allowance for loan loss allocations at December 31, 2022, $14.9 million is from general/environmental allocations and $105,000 was driven from historical experience. Of the $15.3 million total formula based allowance for loan loss allocations at December 31, 2021, $15.3 million is from general/environmental allocations and $70,000 is driven from historical experience. The above allocations are not intended to imply limitations on usage of the allowance. The entire allowance is available for any loan losses without regard to loan type.
More information regarding steps to address elevated levels of substandard, impaired and nonperforming loans may be found in this Item 7 of this report under the heading "Portfolio Loans and Asset Quality" above and in Item 8 of this report in Note 3 to the Consolidated Financial Statements.
We believe our commercial portfolio is adequately diversified, with our largest commercial concentrations in Real Estate, Rental and Leasing (28.0%), followed by Manufacturing (13.4%) and Retail Trade (11.6%).
The table below breaks down our commercial loan portfolio by industry type at December 31, 2022 and identifies the percentage of loans in each type that have a pass rating within our grading system (4 or better) and criticized rating (5 or worse) (dollars in thousands):
December 31, 2022
Total
Percent of
Total Loans
Percent Grade 4 or
Better
Percent Grade 5 or
Worse
Industry:
Agricultural Products
$
41,194
4.21
%
92.04
%
7.96
%
Mining and Oil Extraction
0.04
%
87.93
%
12.07
%
Utilities
-
0.00
%
0.00
%
0.00
%
Construction
80,670
8.24
%
97.68
%
2.32
%
Manufacturing
131,376
13.42
%
96.55
%
3.45
%
Wholesale Trade
64,377
6.57
%
100.00
%
0.00
%
Retail Trade
113,484
11.59
%
99.95
%
0.05
%
Transportation and Warehousing
62,825
6.42
%
99.73
%
0.27
%
Information
0.06
%
5.99
%
94.01
%
Finance and Insurance
47,940
4.90
%
100.00
%
0.00
%
Real Estate and Rental and Leasing
274,151
27.99
%
99.95
%
0.05
%
Professional, Scientific and Technical Services
5,698
0.58
%
96.51
%
3.49
%
Management of Companies and Enterprises
7,049
0.72
%
100.00
%
0.00
%
Administrative and Support Services
21,703
2.22
%
97.99
%
2.01
%
Education Services
5,268
0.54
%
100.00
%
0.00
%
Health Care and Social Assistance
34,486
3.52
%
100.00
%
0.00
%
Arts, Entertainment and Recreation
3,675
0.38
%
91.65
%
8.35
%
Accommodations and Food Services
52,322
5.34
%
86.71
%
13.29
%
Other Services
32,127
3.28
%
100.00
%
0.00
%
Public Administration
-
0.00
%
0.00
%
0.00
%
Private Households
-
0.00
%
0.00
%
0.00
%
Total commercial loans
$
979,319
100.00
%
98.11
%
1.89
%
Although we believe our allowance for loan losses has captured the losses that are probable in our portfolio as of December 31, 2022, there can be no assurance that all losses have been identified or that the allowance is sufficient.
Premises and Equipment: Premises and equipment totaled $40.3 million at December 31, 2022 compared to $41.8 million at December 31, 2021, down $1.5 million, as capital additions were more than offset by depreciation of current property during 2022.
Bank owned life insurance (BOLI): The Bank has purchased life insurance policies on certain officers. BOLI is recorded at its currently realizable cash surrender value and totaled $53.3 million at December 31, 2022 compared to $52.5 million at December 31, 2021.
Deposits and Other Borrowings: Total deposits increased $37.2 million to $2.62 billion at December 31, 2022, as compared to $2.58 billion at December 31, 2021. Noninterest checking account balances decreased $51.2 million in 2022. Interest bearing demand account balances increased $24.3 million and savings and money market account balances increased $56.9 million in 2022 while our certificates of deposit (primarily short-term) increased by $7.2 million in 2022. We believe our success in maintaining and increasing the balances of personal and business checking and savings accounts was primarily attributable to our focus on quality customer service, the desire of customers to deal with a local bank, the convenience of our branch network and the breadth and depth of our product line.
- 36 -
Noninterest bearing demand accounts comprised 31% of total deposits at December 31, 2022 compared to 34% of total deposits at December 31, 2021. Because of the generally low rates paid on interest bearing account alternatives, in recent years many of our business customers chose to keep their balances in these more liquid noninterest bearing demand account types. We started to see some shifting to higher paying interest accounts during 2022. Interest bearing demand, money market and savings accounts comprised 64% of total deposits at December 31, 2022 and 62% at December 31, 2021. Time accounts as a percentage of total deposits were 4% at December 31, 2022 and 3% at December 31, 2021.
Borrowed funds totaled $30.0 million at December 31, 2022 comprised of $30.0 million in Federal Home Loan Bank advances. Borrowed funds totaled $85.0 million at December 31, 2021 including $85.0 million of Federal Home Loan Bank advances. The decrease compared to December 31, 2021 was due to the FHLB exercising its put options on a $25.0 million advance carrying a rate of 0.01% and a $10.0 million advance carrying a rate of 0.45% in the second quarter of 2022. In addition, during the second quarter of 2022, we prepaid $20.0 million in FHLB advances, with interest rates ranging from 2.91% to 3.05%. Prepayment fees totaled $87,000 and were included in interest expense in the second quarter 2022. Paying these advances off early will save us over $650,000 in annual interest expense, net of the prepayment fees incurred.
Information regarding our off-balance sheet commitments may be found in Item 8 of this report in Note 17 to the Consolidated Financial Statements.
CAPITAL RESOURCES
Total shareholders’ equity decreased by $7.0 million from December 31, 2021 to December 31, 2022. Shareholders’ equity was increased by $34.7 million of net income in 2022, partially offset by cash dividends of $10.9 million, or $0.32 per share. Shareholders’ equity decreased by $31.3 million in 2022 as a result of a negative swing in accumulated other comprehensive income due to the effect of rising interest rates on the fair value of our available for sale securities portfolio. As of December 31, 2022, the Bank was categorized as “well capitalized” under applicable regulatory guidelines.
Our regulatory capital ratios (on a consolidated basis) continue to significantly exceed the levels required to be categorized as “well capitalized” according to the requirements specified by the rules implementing Basel III.
The following table shows our regulatory capital ratios (on a consolidated basis) for the past three years.
December 31,
Total capital to risk weighted assets
17.9
%
18.3
%
18.3
%
Common Equity Tier 1 to risk weighted assets
16.9
17.2
15.8
Tier 1 capital to risk weighted assets
16.9
17.2
17.1
Tier 1 capital to average assets
9.7
8.7
9.9
Our Board of Directors declared quarterly cash dividends to common shareholders beginning with the first quarter of 2014, and each subsequent quarter in 2014 through 2022. The declaration and payment of future dividends to common shareholders will be considered by the Board of Directors in its discretion and will depend on a number of factors, including our financial condition and anticipated profitability.
Capital sources include, but are not limited to, additional private and public common stock offerings, preferred stock offerings and subordinated debt.
- 37 -
Macatawa Bank:
The Bank was categorized as "well capitalized" at December 31, 2022 and 2021 according to the requirements specified by the rules implementing Basel III. The following table shows the Bank’s regulatory capital ratios for the past three years.
December 31,
Average equity to average assets
8.3
%
8.8
%
10.2
%
Total capital to risk weighted assets
17.4
17.8
17.8
Common Equity Tier 1 to risk weighted assets
16.4
16.7
16.7
Tier 1 capital to risk weighted assets
16.4
16.7
16.7
Tier 1 capital to average assets
9.4
8.4
9.6
LIQUIDITY
Liquidity of Macatawa Bank: The liquidity of a financial institution reflects its ability to manage a variety of sources and uses of funds. Our Consolidated Statements of Cash Flows categorize these sources and uses into operating, investing and financing activities. We primarily focus on developing access to a variety of borrowing sources to supplement our deposit gathering activities and provide funds for our investment and loan portfolios. Our sources of liquidity include our borrowing capacity with the Federal Reserve Bank's discount window, the Federal Home Loan Bank, federal funds purchased lines of credit and other secured borrowing sources with our correspondent banks, loan payments by our borrowers, maturity and sales of our securities available for sale, growth of our deposits, federal funds sold and other short-term investments, and the various capital resources discussed above.
Liquidity management involves the ability to meet the cash flow requirements of our customers. Our customers may be either borrowers with credit needs or depositors wanting to withdraw funds. Our liquidity management involves periodic monitoring of our assets considered to be liquid and illiquid, and our funding sources considered to be core and non-core and short-term (less than 12 months) and long-term. We have established parameters that monitor, among other items, our level of liquid assets to short-term liabilities, our level of non-core funding reliance and our level of available borrowing capacity. We maintain a diversified wholesale funding structure and actively manage our maturing wholesale sources to reduce the risk to liquidity shortages. We have also developed a contingency funding plan to stress test our liquidity requirements arising from certain events that may trigger liquidity shortages, such as rapid loan growth in excess of normal growth levels or the loss of deposits and other funding sources under extreme circumstances.
We maintain a non-core funding dependency ratio below our peer group average and have had no brokered deposits on our balance sheet since before December 2012. At December 31, 2022, the Bank held $704.0 million of federal funds sold and other short-term investments as well as $495.7 million of unpledged securities available for sale. In addition, the Bank’s available borrowing capacity from correspondent banks was approximately $307.9 million as of December 31, 2022.
In the normal course of business, we enter into certain contractual obligations, including obligations which are considered in our overall liquidity management.
In addition to normal loan funding, we also maintain liquidity to meet customer financing needs through unused lines of credit, unfunded loan commitments and standby letters of credit. The level and fluctuation of these commitments is also considered in our overall liquidity management. At December 31, 2022, we had a total of $745.7 million in unused lines of credit, $77.4 million in unfunded loan commitments and $13.5 million in standby letters of credit.
Liquidity of Holding Company: The primary sources of liquidity for the Company are dividends from the Bank, existing cash resources and the capital markets if the need to raise additional capital arises. Banking regulations and the laws of the State of Michigan in which our Bank is chartered limit the amount of dividends the Bank may declare and pay to the Company in any calendar year. Under the state law limitations, the Bank is restricted from paying dividends to the Company in excess of retained earnings. In 2021, the Bank paid dividends to the Company totaling $33.1 million. In the same period, the Company paid dividends to its shareholders totaling $10.9 million. In 2022, the Bank paid dividends to the Company totaling $11.9 million. In the same period, the Company paid dividends to its shareholders totaling $10.9 million. The Company retained the remaining balance in each period for general corporate purposes. At December 31, 2022, the Bank had a retained earnings balance of $106.6 million.
During 2022 and 2021, the Company received payments from the Bank totaling $6.7 million and $8.0 million, respectively, representing the Bank’s intercompany tax liability for the 2022 and 2021 tax years, respectively, in accordance with the Company’s tax allocation agreement.
The Company’s cash balance at December 31, 2022 was $8.1 million. The Company believes that it has sufficient liquidity to meet its cash flow obligations.
- 38 -
CRITICAL ACCOUNTING POLICIES AND ESTIMATES:
To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and future results could differ. The allowance for loan losses, other real estate owned valuation, loss contingencies and income taxes are deemed critical due to the required level of management judgment and the use of estimates, making them particularly subject to change.
Our methodology for determining the allowance for loan losses and the related provision for loan losses is described above in the "Allowance for Loan Losses" discussion. This area of accounting requires significant judgment due to the number of factors which can influence the collectability of a loan. Unanticipated changes in these factors could significantly change the level of the allowance for loan losses and the related provision for loan losses. Although, based upon our internal analysis, and in our judgment, we believe that we have provided an adequate allowance for loan losses, there can be no assurance that our analysis has properly identified all of the probable losses in our loan portfolio. As a result, we could record future provisions for loan losses that may be significantly different than the levels that we recorded in 2022.
Assets acquired through or instead of foreclosure, primarily other real estate owned, are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. New real estate appraisals are generally obtained at the time of foreclosure and are used to establish fair value. If fair value declines, a valuation allowance is recorded through expense. Estimating the initial and ongoing fair value of these properties involves a number of factors and judgments including holding time, costs to complete, holding costs, discount rate, absorption and other factors.
Loss contingencies are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. This, too, is an accounting area that involves significant judgment. Although, based upon our judgment, internal analysis, and consultations with legal counsel we believe that we have properly accounted for loss contingencies, future changes in the status of such contingencies could result in a significant change in the level of contingent liabilities and a related impact to operating earnings.
Our accounting for income taxes involves the valuation of deferred tax assets and liabilities primarily associated with differences in the timing of the recognition of revenues and expenses for financial reporting and tax purposes. At December 31, 2022, we had gross deferred tax assets of $11.9 million and gross deferred tax liabilities of $2.2 million resulting in a net deferred tax asset of $9.7 million. Accounting standards require that companies assess whether a valuation allowance should be established against their deferred tax assets based on the consideration of all available evidence using a "more likely than not" standard. With the positive results in 2022 and positive future projections, we concluded at December 31, 2022 that no valuation allowance on our net deferred tax asset was required. Changes in tax laws, changes in tax rates, changes in ownership and our future level of earnings can impact the ultimate realization of our net deferred tax asset.

---

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk.
Our primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk. All of our transactions are denominated in U.S. dollars with no specific foreign exchange exposure. Macatawa Bank has only limited agricultural-related loan assets, and therefore has no significant exposure to changes in commodity prices.
Our balance sheet has sensitivity, in various categories of assets and liabilities, to changes in prevailing rates in the U.S. for the federal funds rate, prime rate, mortgage rates, U.S. Treasury rates and various money market indexes. Our asset/liability management process aids us in providing liquidity while maintaining a balance between interest earning assets and interest bearing liabilities.
We utilize a simulation model as our primary tool to assess the direction and magnitude of variations in net interest income and the economic value of equity (“EVE”) resulting from potential changes in market interest rates. Key assumptions in the model include contractual cash flows and maturities of interest-sensitive assets and interest-sensitive liabilities, prepayment speeds on certain assets, and changes in market conditions impacting loan and deposit pricing. We also include pricing floors on discretionary priced liability products which limit how low various checking and savings products could go under declining interest rates. These floors reflect our pricing philosophy in response to changing interest rates.
We forecast the next twelve months of net interest income under an assumed environment of gradual changes in market interest rates under various scenarios. The resulting change in net interest income is an indication of the sensitivity of our earnings to directional changes in market interest rates. The simulation also measures the change in EVE, or the net present value of our assets and liabilities, under an immediate shift, or shock, in interest rates under various scenarios, as calculated by discounting the estimated future cash flows using market-based discount rates.
- 39 -
The following table shows the impact of changes in interest rates on net interest income over the next twelve months and EVE based on our balance sheet as of December 31, 2022 (dollars in thousands).
Interest Rate Scenario
Economic
Value of
Equity
Percent
Change
Net Interest
Income
Percent
Change
Interest rates up 200 basis points
$
399,394
(2.88
)%
$
107,097
3.78
%
Interest rates up 100 basis points
405,735
(1.33
)
105,139
1.89
No change
411,224
-
103,193
-
Interest rates down 100 basis points
410,965
(0.06
)
100,847
(2.27
)
Interest rates down 200 basis points
387,338
(5.81
)
96,611
(6.38
)
If interest rates were to increase, this analysis suggests that we are positioned for an increase in net interest income over the next twelve months. If interest rates were to decrease, this analysis suggests that we are positioned for a decrease in net interest income over the next twelve months.
We also forecast the impact of immediate and parallel interest rate shocks on net interest income under various scenarios to measure the sensitivity of our earnings under extreme conditions.
The quarterly simulation analysis is monitored against acceptable interest rate risk parameters by the Asset/Liability Committee and reported to the Board of Directors.
In addition to changes in interest rates, the level of future net interest income is also dependent on a number of other variables, including: the growth, composition and absolute levels of loans, deposits, and other earning assets and interest-bearing liabilities; economic and competitive conditions; potential changes in lending, investing and deposit gathering strategies; and client preferences.
- 40 -

---

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 8:
Financial Statements and Supplementary Data.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Shareholders and Board of Directors
Macatawa Bank Corporation
Holland, Michigan
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Macatawa Bank Corporation (the “Company”) as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for each of the years then ended, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2022 and 2021, 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.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and our report dated February 16, 2023, expressed an unqualified opinion thereon.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the 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 audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated 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 consolidated 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 consolidated 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 consolidated 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 consolidated 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 consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which it relates.
Allowance for Loan Losses - General Reserve
As described in Notes 1 and 3 to the Company’s consolidated financial statements, the Company has a gross loan balance of $1.18 billion and related allowance for loan losses (“allowance”) balance of $15.3 million at December 31, 2022. The allowance consists of specific and general components. The specific component relates to loans that are classified as impaired. The general component covers non-impaired loans and is based on historical loss experience adjusted for current qualitative environmental factors. The calculation of these qualitative environmental factors involves estimates and assumptions by management.
- 41 -
We identified the qualitative environmental factors as a critical audit matter. Management’s assumptions related to the qualitative environmental factors, which are used to adjust the quantitative historical loss (both upwards and downwards), are highly subjective and could have a significant impact on the allowance. Auditing these assumptions involves especially challenging and subjective auditor judgment.
The primary procedures we performed to address this critical audit matter included:
•
Testing the design and operating effectiveness of internal controls over the data used by management to assess certain qualitative factors and their effect on the estimation of inherent losses within the loan portfolio.
•
Evaluating the reliability of the data and assumptions used by management to support their assessment of the qualitative factors by vouching to internal and external sources, including considerations of contradictory evidence.
•
Evaluating the reasonableness of management’s conclusion on the qualitative assessment and the resulting adjustment to the allowance.
/s/ BDO USA, LLP
We have served as the Company’s auditor since 2010.
Grand Rapids, Michigan
February 16, 2023
- 42 -
MACATAWA BANK CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31, 2022 and 2021
(Dollars in thousands)
ASSETS
Cash and due from banks
$
51,215
$
23,669
Federal funds sold and other short-term investments
703,955
1,128,119
Cash and cash equivalents
755,170
1,151,788
Securities available for sale, at fair value
499,257
416,063
Securities held to maturity (fair value 2022 - $332,650 and 2021 - $139,272)
348,765
137,003
Federal Home Loan Bank (FHLB) stock
10,211
11,558
Loans held for sale, at fair value
1,407
Total loans
1,177,748
1,108,993
Allowance for loan losses
(15,285
)
(15,889
)
Net loans
1,162,463
1,093,104
Premises and equipment - net
40,306
41,773
Accrued interest receivable
7,606
4,088
Bank-owned life insurance (BOLI)
53,345
52,468
Other real estate owned - net
2,343
2,343
Net deferred tax asset
9,712
2,163
Other assets
17,526
14,993
Total assets
$
2,906,919
$
2,928,751
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits
Noninterest-bearing
$
834,879
$
886,115
Interest-bearing
1,780,263
1,691,843
Total deposits
2,615,142
2,577,958
Other borrowed funds
30,000
85,000
Long-term debt
-
-
Accrued expenses and other liabilities
14,739
11,788
Total liabilities
2,659,881
2,674,746
Commitments and Contingencies
-
-
Shareholders’ equity
Common stock, no par value, 200,000,000 shares authorized; 34,298,640 and 34,259,945 shares issued and outstanding at December 31, 2022 and December 31, 2021, respectively
219,578
219,082
Retained earnings
59,036
35,220
Accumulated other comprehensive loss
(31,576
)
(297
)
Total shareholders’ equity
247,038
254,005
Total liabilities and shareholders’ equity
$
2,906,919
$
2,928,751
See accompanying notes to consolidated financial statements.
- 43 -
MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2022 and 2021
(Dollars in thousands, except per share data)
Interest income
Loans, including fees
$
47,176
$
50,664
Securities
Taxable
11,333
3,283
Tax-exempt
2,803
3,056
FHLB Stock
Federal funds sold and other short-term investments
13,395
1,420
Total interest income
74,906
58,634
Interest expense
Deposits
3,773
Other borrowings
1,331
Long-term debt
-
Total interest expense
4,760
2,565
Net interest income
70,146
56,069
Provision for loan losses
(1,125
)
(2,050
)
Net interest income after provision for loan losses
71,271
58,119
Noninterest income
Service charges and fees
4,769
4,446
Net gains on mortgage loans
4,691
Trust fees
4,143
4,331
ATM and debit card fees
6,768
6,505
BOLI income
1,033
Other
2,755
2,689
Total noninterest income
20,019
23,695
Noninterest expense
Salaries and benefits
26,194
25,216
Occupancy of premises
4,200
3,986
Furniture and equipment
4,008
3,940
Legal and professional
1,042
Marketing and promotion
Data processing
3,756
3,456
FDIC assessment
Interchange and other card expense
1,586
1,517
Bond and D&O Insurance
Other
5,411
5,013
Total noninterest expenses
48,226
46,090
Income before income tax
43,064
35,724
Income tax expense
8,333
6,710
Net income
$
34,731
$
29,014
Basic earnings per common share
$
1.01
$
0.85
Diluted earnings per common share
$
1.01
$
0.85
Cash dividends per common share
$
0.32
$
0.32
See accompanying notes to consolidated financial statements.
- 44 -
MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2022 and 2021
(Dollars in thousands)
Net income
$
34,731
$
29,014
Other comprehensive income:
Unrealized gains (losses):
Net change in unrealized losses on debt securities available for sale
(39,686
)
(5,710
)
Net unrealized gain at time of transfer on securities transferred to held-to-maturity
-
Amortization of net unrealized gains on securities transferred to held-to-maturity
(21 )
-
Tax effect
8,315
1,199
Net change in unrealized gains (losses) on securities available for sale, net of tax
(31,279
)
(4,511
)
Other comprehensive loss, net of tax
(31,279
)
(4,511
)
Comprehensive income
$
3,452
$
24,503
See accompanying notes to consolidated financial statements.
- 45 -
MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
Years ended December 31, 2022 and 2021
(Dollars in thousands, except per share data)
Common
Stock
Retained Earnings
Accumulated
Other
Comprehensive
Income (Loss)
Total
Shareholders’
Equity
Balance, January 1, 2021
$
218,528
$
17,101
$
4,214
$
239,843
Net income
-
29,014
-
29,014
Cash dividends at $0.32 per share
-
(10,895
)
-
(10,895
)
Repurchase of 14,787 shares for taxes withheld on vested restricted stock
(130
)
-
-
(130
)
Net change in unrealized gain (loss) on securities available for sale, net of tax
-
-
(4,511
)
(4,511
)
Stock compensation expense
-
-
Balance, December 31, 2021
$
219,082
$
35,220
$
(297
)
$
254,005
Net income
-
34,731
-
34,731
Cash dividends at $0.32 per share
-
(10,915
)
-
(10,915
)
Repurchase of 19,061 shares for taxes withheld on vested restricted stock
(207
)
-
-
(207
)
Net change in unrealized gain (loss) on securities available for sale and amortization,net of tax
-
-
(31,279
)
(31,279
)
Stock compensation expense
-
-
Balance, December 31, 2022
$
219,578
$
59,036
$
(31,576
)
$
247,038
See accompanying notes to consolidated financial statements.
- 46 -
MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2022 and 2021
(Dollars in thousands)
Cash flows from operating activities
Net income
$
34,731
$
29,014
Adjustments to reconcile net income to net cash from operating activities:
Depreciation, amortization and accretion
1,558
2,724
Stock compensation expense
Provision for loan losses
(1,125
)
(2,050
)
Origination of loans for sale
(26,236
)
(124,287
)
Proceeds from sales of loans originated for sale
28,134
132,993
Net gains on mortgage loans
(706
)
(4,691
)
Write-down of other real estate
-
Net (gain) loss on sales of other real estate
(47
)
Deferred income tax expense
1,095
Change in accrued interest receivable and other assets
(6,051
)
3,640
Earnings in bank-owned life insurance
(878
)
(1,033
)
Change in accrued expenses and other liabilities
3,951
(2,189
)
Net cash from operating activities
34,800
35,924
Cash flows from investing activities
Loan originations and payments, net
(68,234
)
320,869
Purchases of securities available for sale
(285,572
)
(263,766
)
Purchases of securities held to maturity
(166,566
)
(83,316
)
Purchase of bank-owned life insurance
-
(10,000 )
Proceeds from:
Maturities and calls of securities available for sale
24,450
48,673
Maturities and calls of securities held to maturity
41,873
16,311
Principal paydowns on securities available for sale
14,918
31,075
Principal paydowns on securities held to maturity
36,053
9,470
Sales of other real estate
Payout of bank-owned insurance claim
-
Redemption of FHLB stock
1,347
-
Additions to premises and equipment
(796
)
(993
)
Net cash from investing activities
(402,480
)
69,401
Cash flows from financing activities
Change in deposits
37,184
279,371
Repayments and maturities of other borrowed funds
(80,000
)
(30,619
)
Proceeds from other borrowed funds
25,000
25,000
Cash dividends paid
(10,915
)
(10,895
)
Repurchase of shares for taxes withheld on vested restricted stock
(207
)
(130
)
Net cash from financing activities
(28,938
)
262,727
Net change in cash and cash equivalents
(396,618
)
368,052
Cash and cash equivalents at beginning of period
1,151,788
783,736
Cash and cash equivalents at end of period
$
755,170
$
1,151,788
See accompanying notes to consolidated financial statements.
- 47 -
MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
Years ended December 31, 2022 and 2021
(Dollars in thousands)
Supplemental cash flow information
Interest paid
$
4,717
$
2,735
Income taxes paid
6,500
5,650
Supplemental noncash disclosures:
Transfer of securities from available for sale to held to maturity
123,469
-
Security settlement
-
1,000
See accompanying notes to consolidated financial statements.
- 48 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Principles of Consolidation: The accompanying consolidated financial statements include the accounts of Macatawa Bank Corporation (“Macatawa” or the “Company”) and its wholly-owned subsidiary, Macatawa Bank (the “Bank”). All significant intercompany accounts and transactions have been eliminated in consolidation.
Macatawa Bank is a Michigan chartered bank with depository accounts insured by the Federal Deposit Insurance Corporation. The Bank operates 26 full service branch offices providing a full range of commercial and consumer banking and trust services in Kent County, Ottawa County, and northern Allegan County, Michigan.
The Company previously owned all of the common securities of Macatawa Statutory Trust II. This was a grantor trust that issued trust preferred securities and is discussed in Note 11. Under generally accepted accounting principles, this trust is not consolidated into the financial statements of the Company. On July 7, 2021, the Company redeemed the $20.0 million outstanding trust preferred securities and $619,000
common securities associated with Macatawa Statutory Trust II.
Recent Events: In response to the COVID-19 pandemic, federal state and local governments have taken and continue to take actions designed to mitigate the effect on public health and to address the economic impact from the virus. The effects of COVID-19 and its related variants, such as Omicron and Delta, could, among other risks, have a material adverse impact on the financial condition of the Company’s customers, potentially impacting their ability to make payments to the Company as scheduled driving an increase in delinquencies and loan losses.
The Bank was a participating lender in the Small Business Administration’s (“SBA”) Paycheck Protection Program (“PPP”). PPP loans were forgivable, in whole or in part, if the proceeds were used for payroll and other permitted purposes in accordance with the requirements of the PPP. Upon SBA forgiveness, unamortized fees were then recognized into interest income.
In 2021:
•
The Bank originated 1,000 PPP loans totaling $128.1 million in principal.
•
Fees generated totaled $5.6 million.
•
1,722 PPP loans totaling $318.4 million were forgiven.
•
Total net fees of $8.3 million were recognized.
In 2022:
•
251 PPP loans totaling $43.2 million were forgiven.
•
Total net fees of $1.3 million were recognized.
As of December 31, 2022, no PPP loans remain outstanding
- 49 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Use of Estimates: To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ. The allowance for loan losses, valuation of deferred tax assets, loss contingencies, fair value of other real estate owned, determination of other-than-temporary impairment and fair values of financial instruments are particularly subject to change.
Concentration of Credit Risk: Loans are granted to, and deposits are obtained from, customers primarily in the western Michigan area as described above. Substantially all loans are secured by specific items of collateral, including residential real estate, commercial real estate, commercial assets and consumer assets. Commercial real estate loans are the largest concentration, comprising 46% of total loans at December 31, 2022. Commercial and industrial loans total 37%, while residential real estate and consumer loans make up the remaining 17%.
Other financial instruments, which potentially subject the Company to concentrations of credit risk, include deposit accounts in other financial institutions.
Cash and Cash Equivalents: Cash and cash equivalents include cash on hand, demand deposits with other financial institutions and short-term securities (securities with maturities equal to or less than 90 days and federal funds sold).
Cash Flow Reporting: Cash flows are reported net for customer loan and deposit transactions, interest-bearing time deposits with other financial institutions and short-term borrowings with maturities of 90 days or less.
Restrictions on Cash: Cash on hand or on deposit with the Federal Reserve Bank of $0 and $0 at December 31, 2022 and 2021, respectively, was required to meet regulatory reserve and clearing requirements.
Securities: 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. Securities available for sale consist of those securities which might be sold prior to maturity due to changes in interest rates, prepayment risks, yield and availability of alternative investments, liquidity needs or other factors. Securities classified as available for sale are reported at their fair value and the related unrealized gain or loss is reported in other comprehensive income, net of tax.
Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level yield method without anticipating prepayments. Gains and losses on sales are based on the amortized cost of the security sold.
Management evaluates securities for other-than-temporary impairment (“OTTI”) at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. Investment securities classified as available for sale or held-to-maturity are generally evaluated for OTTI under ASC Topic 320, Investments - Debt and Equity Instruments.
In determining OTTI, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) whether the market decline was affected by macroeconomic conditions, and (4) whether the entity has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. The assessment of whether an other-than-temporary decline exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time. Management has determined that no OTTI charges were necessary during 2022 and 2021.
Federal Home Loan Bank (FHLB) Stock: The Bank is a member of the FHLB system. Members are required to own a certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts. FHLB stock is carried at cost, classified as a restricted security, and periodically evaluated for impairment. Because this stock is viewed as a long term investment, impairment is based on ultimate recovery of par value. Management has determined that there was no impairment of FHLB stock during 2022 and 2021. Both cash and stock dividends are reported as income.
- 50 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Loans Held for Sale: Mortgage loans originated and intended for sale in the secondary market are carried at fair value, as determined by outstanding commitments from investors. As of December 31, 2022 and 2021, these loans had a net unrealized gain of $4,000 and $51,000, respectively, which are reflected in their carrying value. Changes in fair value of loans held for sale are included in net gains on mortgage loans. Loans are sold servicing released; therefore no mortgage servicing right assets are established.
Loans: Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal balance outstanding, net of unearned interest, deferred loan fees and costs and an allowance for loan losses.
Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination costs, are deferred and recognized in interest income over the respective term of the loan using the level-yield method without anticipating prepayments.
Interest income on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the loan is well-secured and in process of collection. Consumer loans are typically charged off no later than 120 days past due. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal or interest is considered doubtful. Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.
All interest accrued but not received for loans placed on nonaccrual is reversed against interest income. Interest received on such loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for probable incurred credit losses, increased by the provision for loan losses and recoveries, and decreased by charge-offs of loans. Management believes the estimated allowance for loan losses to be adequate based on known and inherent risks in the portfolio, past loan loss experience, information about specific borrower situations and estimated collateral values, economic conditions and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed.
The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. The general component covers non-classified loans and is based on historical loss experience adjusted for current qualitative environmental factors. The Company maintains a loss migration analysis that tracks loan losses and recoveries based on loan class as well as the loan risk grade assignment for commercial loans. At December 31, 2022 and 2021, an 18 month (six quarter) annualized historical loss experience was used for commercial loans and a 12 month (four quarter) historical loss experience period was applied to residential mortgage and consumer loan portfolios. These historical loss percentages are adjusted (both upwards and downwards) for certain qualitative environmental factors, including economic trends, credit quality trends, valuation trends, concentration risk, quality of loan review, changes in personnel, competition, increasing interest rates, external factors and other considerations.
A loan is impaired when, based on current information and events, it is believed to be probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired.
Commercial and commercial real estate loans with relationship balances exceeding $500,000 and an internal risk grading of 6 or worse are evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing interest rate or at the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans are collectively evaluated for impairment and, accordingly, they are not separately identified for impairment disclosures.
Troubled debt restructurings are also considered impaired with impairment generally measured at the present value of estimated future cash flows using the loan’s effective rate at inception or using the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral.
Transfers of Financial Assets: Transfers of financial assets are accounted for as sales, when control over the assets has been relinquished. Control over transferred assets is deemed to be surrendered when the assets have been isolated from the Company, 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 the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
- 51 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Foreclosed Assets : Assets acquired through or instead of loan foreclosure, primarily other real estate owned, are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. If fair value declines, a valuation allowance is recorded through expense. Costs after acquisition are expensed unless they add value to the property.
Premises and Equipment: Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Buildings and related components are depreciated using the straight-line method with useful lives ranging from 5 to 40 years. Furniture, fixtures and equipment are depreciated using the straight-line method with useful lives ranging from 3 to 15 years. Maintenance, repairs and minor alterations are charged to current operations as expenditures occur and major improvements are capitalized.
Bank-Owned Life Insurance (BOLI): The Bank has purchased life insurance policies on certain officers. BOLI is recorded at its currently realizable cash surrender value. Changes in cash surrender value are recorded in other income.
Long-term Assets: Premises and equipment and other long-term assets are reviewed for impairment when events indicate their carrying amount may not be recoverable from future undiscounted cash flows. If impaired, the assets are recorded at fair value. The Company had no impairment of long term assets in 2022 or 2021.
Loan Commitments and Related Financial Instruments: 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 face amount for these items represents the exposure to loss, before considering customer collateral or ability to repay. Such financial instruments are recorded when they are funded.
Mortgage Banking Derivatives : Commitments to fund mortgage loans (interest rate locks) to be sold into the secondary market and forward commitments for the future delivery of these mortgage loans are accounted for as derivatives not qualifying for hedge accounting. Fair values of these mortgage derivatives are estimated based on changes in mortgage interest rates from the date the interest on the loan is locked. The Bank enters into commitments to sell mortgage backed securities, which it later buys back in order to hedge its exposure to interest rate risk in its mortgage pipeline. At times, the Company also enters into forward commitments for the future delivery of mortgage loans when interest rate locks are entered into, in order to hedge the change in interest rates resulting from its commitments to fund the loans.
Changes in the fair values of these interest rate lock and mortgage backed security and forward commitment derivatives are included in net gains on mortgage loans. The fair value of interest rate lock commitments was $0 and $25,000 at December 31, 2022 and 2021, respectively. The net fair value of mortgage backed security derivatives was approximately $0 and $(13,000) at December 31, 2022 and 2021, respectively.
Revenue From Contracts With Customers: The Company records revenue from contracts with customers in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“Topic 606”). Under Topic 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) it satisfies a performance obligation. No revenue has been recognized in the current reporting period that results from performance obligations satisfied in previous periods.
The Company’s primary sources of revenue are derived from interest and dividends earned on loans, securities and other financial instruments that are not within the scope of Topic 606. The Company has evaluated the nature of its contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of Income was not necessary.
The Company generally satisfies its performance obligations on contracts with customers as services are rendered, and the transaction prices are typically fixed and charged either on a periodic basis (generally monthly) or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers.
Interest Income: The Company’s largest source of revenue is interest income which is primarily recognized on an accrual basis based on contractual terms written into loans and investment contracts.
- 52 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Noninterest Revenue: The Company derives the majority of its noninterest revenue from: (1) service charges for deposit related services, (2) gains related to mortgage loan sales, (3) trust fees and (4) debit and credit card interchange income. Most of these services are transaction based and revenue is recognized as the related service is provided.
Derivatives: Certain of the Bank’s commercial loan customers have entered into interest rate swap agreements directly with the Bank. At the same time the Bank enters into a swap agreement with its customer, the Bank enters into a corresponding interest rate swap agreement with a correspondent bank at terms mirroring the Bank’s interest rate swap with its commercial loan customer. This is known as a back-to-back swap agreement. Under this arrangement the Bank has two freestanding interest rate swaps, both of which are carried at fair value. As the terms mirror each other, there is no income statement impact to the Bank. At December 31, 2022, the total notional amount of such agreements was $125.3 million and resulted in a derivative asset with a fair value of $6.5 million which was included in other assets and a derivative liability of $6.5 million which was included in other liabilities. At December 31, 2021, the total notional amount of such agreements was $140.7 million and resulted in a derivative asset with a fair value of $3.3 million which was included in other assets and a derivative liability of $3.3 million which was included in other liabilities.
Income Taxes: Income tax expense is the sum of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are the expected future tax consequences of temporary differences between the carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.
The Company recognizes a tax position as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded.
The Company recognizes interest and/or penalties related to income tax matters in income tax expense.
Earnings Per Common Share: Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. All outstanding unvested restricted stock awards that contain rights to nonforfeitable dividends are considered participating securities for this calculation and are included in both basic and diluted earnings per share. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. In the event of a net loss, our unvested restricted stock awards are excluded from both basic and diluted earnings per share.
Comprehensive Income: Comprehensive income consists of net income and other comprehensive income (loss). Other comprehensive income (loss) includes unrealized gains and losses on securities available for sale and amortization of unrealized gain upon transfer of securities from available for sale to held to maturity.
Loss Contingencies: Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated.
Stock Splits and Dividends: Stock dividends in excess of 20% are reported as stock splits, resulting in no adjustment to the Company’s equity accounts. Stock dividends for 20% or less are reported by transferring the fair value, as of the ex-dividend date, of the stock issued from retained earnings to common stock. Fractional share amounts are paid in cash with a reduction in retained earnings. All share and per share amounts are retroactively adjusted for stock splits and dividends.
Dividend Restriction: Banking regulations require maintaining certain capital levels and impose limitations on dividends paid by the Bank to the Company and by the Company to shareholders.
Fair Values of Financial Instruments: Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed separately. Fair value estimates involve uncertainties and matters of significant judgment regarding interest rates, credit risk, prepayments and other factors, especially in the absence of broad markets for particular items. Changes in assumptions or in market conditions could significantly affect the estimates. The fair value estimates of existing on-and off-balance sheet financial instruments do not include the value of anticipated future business or the values of assets and liabilities not considered financial instruments.
- 53 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Segment Reporting: The Company, through the branch network of the Bank, provides a broad range of financial services to individuals and companies in western Michigan. These services include demand, time and savings deposits; lending; ATM and debit card processing; cash management; and trust and brokerage services. While the Company’s management team monitors the revenue streams of the various Company products and services, operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all of the Company’s banking operations are considered by management to be aggregated in one operating segment - commercial banking.
Reclassifications: Some items in the prior year financial statements were reclassified to conform to the current presentation.
Accounting Standards Updates:
FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU provides financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date by replacing the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The new guidance eliminates the probable initial recognition threshold and, instead, reflects an entity’s current estimate of all expected credit losses. The new guidance broadens the information that an entity must consider in developing its expected credit loss estimate for assets measured either collectively or individually to include forecasted information, as well as past events and current conditions. There is no specified method for measuring expected credit losses, and an entity is allowed to apply methods that reasonably reflect its expectations of the credit loss estimate. Although an entity may still use its current systems and methods for recording the allowance for credit losses, under the new rules, the inputs used to record the allowance for credit losses generally will need to change to appropriately reflect an estimate of all expected credit losses and the use of reasonable and supportable forecasts. Additionally, credit losses on available-for-sale debt securities will now have to be presented as an allowance rather than as a write-down.
This ASU expands the disclosure requirements regarding an entity’s assumptions, models and methods for estimating the allowance for credit losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by year of origination. The Company selected a software vendor for applying this new ASU for Current Expected Credit Losses (“CECL”), began implementation of the software in the second quarter of 2018, completed integration during the third quarter of 2018 and ran parallel computations with both systems using the current GAAP incurred loss model in the fourth quarter of 2018. The Company went live with this software beginning in January 2019 for its monthly incurred loss computations and began modeling the new current expected credit loss model assumptions to the allowance for loan losses computation. In the periods since, the Company modeled the various methods prescribed in the ASU against the Company’s identified loan segments, ultimately determining that the weighted average remaining life method was the appropriate method for the Company to use. The Company adopted the standard effective January 1, 2023 and estimates that the impact of adoption will result in an allowance increase of $1.2 million to $2.2 million, due primarily to the forward-looking economic forecast, which presents the most variability within this range. The required liability for unfunded commitments at January 1, 2023 is estimated at approximately $60,000. The resulting impact will be a decrease to the retained earnings account on the Company’s Consolidated Balance Sheet equal to the after-tax impact of the increase in allowance balances, with the tax impact portion being recorded as a deferred tax asset on the Company’s Consolidated Balance Sheet. The Company did not identify any available-for-sale debt securities requiring allowances to be established upon adoption of the standard on January 1, 2023. In addition, the Company evaluated its municipal bond securities and U.S. Treasury securities held to maturity on a pooled basis, determining that the securities in each pool share similar risks. The Company determined that on January 1, 2023, the municipal bond securities have a remote risk of loss and the government backed U.S. Treasury securities have a zero risk of loss. As such, the allowance for debt securities held to maturity established upon adoption of the standard on January 1, 2023 was immaterial.
- 54 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
ASU 2020-04, Reference Rate Reform (Topic 848), Facilitation of the Effects of Reference Rate Reform on Financial Reporting provides temporary optional expedients and exceptions to GAAP guidance on contract modifications and hedge accounting to ease the financial reporting burdens of the expected market transition from LIBOR and other interbank offered rates to alternative reference rates. Entities can elect not to apply certain modification accounting requirements to contracts affected by reference rate reform, if certain criteria are met. Entities that make such elections would not have to remeasure contracts at the modification date or reassess a previous accounting determination. Entities can elect various optional expedients that would allow them to continue applying hedge accounting for hedging relationships affected by reference rate reform, if certain criteria are met. We are utilizing the timeline guidance published by the Alternative Reference Rates Committee to develop and achieve internal milestones during this transitional period. We have discontinued the use of new LIBOR-based loans and interest rate derivatives, according to regulatory guidelines. ASU 2022-06 Reference Rate Reform (Topic 848): Deferral of the Sunset Date of Topic 848 deferred the sunset date of Topic 848 from December 31, 2022 to December 31, 2024. The amended guidance under Topic 848 and our ability to elect its temporary optional expedients and exceptions are effective for us through December 31, 2024. The Company has adopted the LIBOR transition relief allowed under this standard.
ASU No. 2022-01 Derivatives and Hedging (Topic 815): Fair Value Hedging - Portfolio Layer Method. This ASU expands the current last-of-layer method of hedge accounting that permits only one hedged layer to allow multiple hedged layers of a single closed portfolio. To reflect this expansion, the last-of-layer method is renamed the portfolio layer method. This ASU expands the scope of the portfolio layer method to include nonprepayable assets, specifies eligible hedging instruments in a single-layer hedge, provides additional guidance on the accounting for and disclosure of hedge basis adjustments and specifies how hedge basis adjustments should be considered when determining credit losses for the assets included in the closed portfolio. This ASU is effective for public business entities for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. As the Company does not engage in this type of hedging activity, adoption of this ASU on January 1, 2023 did not have any impact on its financial results or disclosures.
ASU No. 2022-02 Financial Instruments - Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. This ASU eliminates the accounting guidance for troubled debt restructurings (TDRs) by creditors in Subtopic 310-40, Receivables - Troubled Debt Restructurings by Creditors, while adding disclosures for certain loan restructurings by creditors when a borrower is experiencing financial difficulty. This guidance requires an entity to determine whether the modification results in a new loan or a continuation of an existing loan. Additionally, the ASU requires disclosure of current period gross writeoffs by year of origination for financing receivables. The ASU also requires disclosure of current period gross writeoffs by year of origination for financing receivables and disclosure of certain modifications of receivables made to borrowers experiencing financial difficulty. This ASU is effective for the Company for fiscal years beginning after December 15, 2022. Adoption of this ASU on January 1, 2023 did not have a material impact on the Company’s financial results and the additional required disclosures for gross writeoffs will be included in the footnotes to the Company’s March 31, 2023 consolidated financial statements.
- 55 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 2 - SECURITIES
The amortized cost and fair value of securities were as follows (dollars in thousands):
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
December 31, 2022
Available for Sale:
U.S. Treasury and federal agency securities
$
240,921
$
$
(16,310
)
$
224,634
U.S. Agency MBS and CMOs
128,165
-
(14,347
)
113,818
Tax-exempt state and municipal bonds
37,198
(498
)
36,710
Taxable state and municipal bonds
120,647
(8,525
)
112,171
Corporate bonds and other debt securities
12,387
-
(463
)
11,924
$
539,318
$
$
(40,143
)
$
499,257
Held to Maturity
U.S. Treasury
$
251,307
$
-
$
(13,677 )
237,630
Tax-exempt state and municipal bonds
97,458
(2,853
)
95,020
$
348,765
$
$
(16,530 )
$
332,650
December 31, 2021
Available for Sale:
U.S. Treasury and federal agency securities
$
208,153
$
$
(1,523
)
$
206,845
U.S. Agency MBS and CMOs
87,343
(962
)
86,797
Tax-exempt state and municipal bonds
36,298
1,258
-
37,556
Taxable state and municipal bonds
79,394
(645
)
79,561
Corporate bonds and other debt securities
5,251
(10
)
5,304
$
416,439
$
2,764
$
(3,140
)
$
416,063
Held to Maturity
Tax-exempt state and municipal bonds
$
137,003
$
2,484
$
(215
)
$
139,272
There were no sales of securities available for sale during the years ended December 31, 2022 and 2021.
Contractual maturities of debt securities at December 31, 2022 were as follows (dollars in thousands):
Held-to-Maturity Securities
Available-for-Sale Securities
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Due in one year or less
$
29,311
$
28,935
$
11,372
$
11,293
Due from one to five years
298,700
283,518
359,411
339,059
Due from five to ten years
20,754
20,197
41,780
36,424
Due after ten years
-
-
126,755
112,481
$
348,765
$
332,650
$
539,318
$
499,257
- 56 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 2 - SECURITIES (Continued)
Securities with unrealized losses at December 31, 2022 and 2021, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, are as follows (dollars in thousands):
Less than 12 Months
12 Months or More
Total
December 31, 2022
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Available for Sale:
U.S. Treasury and federal agency securities
$
144,796
$
(6,230
)
$
66,008
$
(10,080
)
$
210,804
$
(16,310
)
U.S. Agency MBS and CMOs
64,427
(4,789
)
41,340
(9,558
)
105,767
(14,347
)
Tax-exempt state and municipal bonds
31,337
(498
)
-
-
31,337
(498
)
Taxable state and municipal bonds
71,165
(3,337
)
33,452
(5,188
)
104,617
(8,525
)
Corporate bonds and other debt securities
10,668
(357
)
1,256
(106
)
11,924
(463
)
$
322,393
$
(15,211
)
$
142,056
$
(24,932
)
$
464,449
$
(40,143
)
Held to Maturity:
U.S. Treasury
$
237,630
$
(13,677 )
$
-
$
-
$
237,630
$
(13,677 )
Tax-exempt state and municipal bonds
57,671
(2,314
)
21,721
(539
)
79,392
(2,853
)
$
295,301
$
(15,991 )
$
21,721
$
(539 )
$
317,022
$
(16,530 )
Less than 12 Months
12 Months or More
Total
December 31, 2021
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Fair
Value
Unrealized
Loss
Available for Sale:
U.S. Treasury and federal agency securities
$
77,066
$
(955
)
$
18,432
$
(568
)
$
95,498
$
(1,523
)
U.S. Agency MBS and CMOs
52,254
(830
)
4,190
(132
)
56,444
(962
)
Tax-exempt state and municipal bonds
-
-
-
-
-
-
Taxable state and municipal bonds
37,648
(638
)
(7
)
38,146
(645
)
Corporate bonds and other debt securities
1,352
(10
)
-
-
1,352
(10
)
$
168,320
$
(2,433
)
$
23,120
$
(707
)
$
191,440
$
(3,140
)
Held to Maturity:
Tax-exempt state and municipal bonds
$
61,166
$
(215
)
$
-
$
-
$
61,166
$
(215
)
Other-Than-Temporary-Impairment
Management evaluates securities for OTTI at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. At December 31, 2022, 444 securities available for sale with fair values totaling $464.4 million had unrealized losses totaling $40.1 million. At December 31, 2021, 127 securities available for sale with fair values totaling $191.4 million had unrealized losses totaling $3.1 million. At December 31, 2022, 76 securities held to maturity with fair values totaling $317.0 million had unrealized losses totaling $16.5 million. At December 31, 2021, 9 securities held to maturity with fair values totaling $61.2 million had unrealized losses totaling $215,000. Management has the ability and intent to hold the securities classified as held to maturity until they mature, at which time the Company will receive full value for the securities. In addition, management believes it is more likely than not that the Company will not be required to sell any of its investment securities before a recovery of cost. Management determined that the unrealized losses for each period were attributable to changes in interest rates and not due to credit quality. As such, no OTTI charges were necessary during 2022 and 2021.
On January 1, 2022, the Company transferred all of its US Treasury securities held at that time from available for sale to held to maturity. These securities had an amortized cost of $123.5 million and an unrealized gain of $113,000 at the date of transfer. The transfer was made at fair value, with the unrealized gain becoming part of purchase premium which will be amortized over the remaining life of the securities. The other comprehensive income component is separated from the remaining available for sale securities and is amortized over the remaining life of the securities transferred. Management has the ability and intent to hold these securities until they mature, at which time the Company will receive full value for the securities.
- 57 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 2 - SECURITIES (Continued)
Securities with a carrying value of approximately $3.5 million and $4.9 million were pledged as security for public deposits, letters of credit and for other purposes required or permitted by law at December 31, 2022 and 2021, respectively.
The Company also has an investment in a fund that invests in projects qualifying for Community Reinvestment Act credit. As an equity investment, accounting standards require this $1.5 million investment be carried at fair value and reported in other assets at December 31, 2022 and 2021.
NOTE 3 - LOANS
Portfolio loans were as follows at year end (dollars in thousands):
Commercial and industrial
Commercial and industrial, excluding PPP
$
441,716
$
378,318
PPP
-
41,939
Total commercial and industrial
441,716
420,257
Commercial real estate:
Residential developed
7,234
4,862
Unsecured to residential developers
-
5,000
Vacant and unimproved
36,270
36,240
Commercial development
Residential improved
112,791
100,077
Commercial improved
259,281
259,039
Manufacturing and industrial
121,924
110,712
Total commercial real estate
537,603
516,101
Consumer
Residential mortgage
139,148
117,800
Unsecured
Home equity
56,321
51,269
Other secured
2,839
3,356
Total consumer
198,429
172,635
Total loans
1,177,748
1,108,993
Allowance for loan losses
(15,285
)
(15,889
)
$
1,162,463
$
1,093,104
The totals above are shown net of deferred fees and costs. Deferred fees on loans totaled $1.3 million and $2.6 million at December 31, 2022 and 2021, respectively. Deferred costs on loans totaled $1.4 million and $1.3 million at December 31, 2022 and 2021, respectively.
- 58 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following tables present the activity in the allowance for loan losses by portfolio segment for the years ended December 31, 2022 and 2021 (dollars in thousands):
Commercial
and
Industrial
Commercial
Real Estate
Consumer
Unallocated
Total
Beginning balance
$
5,176
$
8,051
$
2,633
$
$
15,889
Charge-offs
(38
)
-
(126
)
-
(164
)
Recoveries
-
Provision for loan losses
(1,171
)
(243
)
(1,125
)
Ending Balance
$
5,596
$
7,180
$
2,458
$
$
15,285
Commercial
and
Industrial
Commercial
Real Estate
Consumer
Unallocated
Total
Beginning balance
$
6,632
$
7,999
$
2,758
$
$
17,408
Charge-offs
-
-
(124
)
-
(124
)
Recoveries
-
Provision for loan losses
(1,787
)
(156
)
(117
)
(2,050
)
Ending Balance
$
5,176
$
8,051
$
2,633
$
$
15,889
The following tables present the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method (dollars in thousands):
December 31, 2022
Commercial
and
Industrial
Commercial
Real Estate
Consumer
Unallocated
Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment
$
$
$
$
-
$
Collectively evaluated for impairment
5,541
7,160
2,238
14,990
Total ending allowance balance
$
5,596
$
7,180
$
2,458
$
$
15,285
Loans:
Individually reviewed for impairment
$
3,603
$
$
2,886
$
-
$
7,007
Collectively evaluated for impairment
438,113
537,085
195,543
-
1,170,741
Total ending loans balance
$
441,716
$
537,603
$
198,429
$
-
$
1,177,748
December 31, 2021
Commercial
and
Industrial
Commercial
Real Estate
Consumer
Unallocated
Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment
$
$
$
$
-
$
Collectively evaluated for impairment
4,873
8,027
2,395
15,324
Total ending allowance balance
$
5,176
$
8,051
$
2,633
$
$
15,889
Loans:
Individually reviewed for impairment
$
3,375
$
1,127
$
3,024
$
-
$
7,526
Collectively evaluated for impairment
416,882
514,974
169,611
-
1,101,467
Total ending loans balance
$
420,257
$
516,101
$
172,635
$
-
$
1,108,993
- 59 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2022 (dollars in thousands):
December 31, 2022
Unpaid
Principal
Balance
Recorded
Investment
Allowance
Allocated
With no related allowance recorded:
Commercial and industrial
$
3,278
$
3,278
$
-
Commercial real estate:
Residential improved
-
-
Consumer
-
-
-
Total with no related allowance recorded
$
3,309
$
3,309
$
-
With an allowance recorded:
Commercial and industrial
$
$
$
Commercial real estate:
Commercial improved
Manufacturing and industrial
Consumer:
Residential mortgage
2,653
2,653
Unsecured
Home equity
2,886
2,886
Total with an allowance recorded
$
3,698
$
3,698
$
Total
$
7,007
$
7,007
$
- 60 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2021 (dollars in thousands):
December 31, 2021
Unpaid
Principal
Balance
Recorded
Investment
Allowance
Allocated
With no related allowance recorded:
Commercial and industrial
$
$
$
-
Commercial real estate:
Residential improved
-
Commercial improved
-
-
Consumer
-
-
-
Total with no related allowance recorded
$
1,287
$
1,287
$
-
With an allowance recorded:
Commercial and industrial
$
2,706
$
2,706
$
Commercial real estate:
Commercial improved
Manufacturing and industrial
Consumer:
Residential mortgage
2,726
2,726
Unsecured
Home equity
Other secured
-
-
-
3,024
3,024
Total with an allowance recorded
$
6,239
$
6,239
$
Total
$
7,526
$
7,526
$
- 61 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following table presents information regarding average balances of impaired loans and interest recognized on impaired loans for the years ended December 31, 2022 and 2021 (dollars in thousands):
Average of impaired loans during the period:
Commercial and industrial
$
2,703
$
1,927
Commercial real estate:
Residential developed
-
Residential improved
Commercial improved
1,605
Manufacturing and industrial
Consumer
2,882
2,731
Interest income recognized during impairment:
Commercial and industrial
Commercial real estate
Consumer
Cash-basis interest income recognized
Commercial and industrial
Commercial real estate
Consumer
- 62 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
Nonaccrual loans include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans. The following tables present the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of December 31, 2022 and 2021 (dollars in thousands):
December 31, 2022
Nonaccrual
Over 90 days
Accruing
Commercial and industrial
$
-
$
-
Commercial real estate
-
-
Consumer:
Residential mortgage
-
-
Total
$
$
-
December 31, 2021
Nonaccrual
Over 90 days
Accruing
Commercial and industrial
$
-
$
-
Commercial real estate:
Residential improved
-
Commercial improved
-
-
-
Consumer:
Residential mortgage
-
-
Total
$
$
-
- 63 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following table presents the aging of the recorded investment in past due loans as of December 31, 2022 by class of loans (dollars in thousands):
December 31, 2022
30-90
Days
Greater
Than
90 Days
Total
Past Due
Loans Not
Past Due
Total
Commercial and industrial
$
-
$
-
$
-
$
441,716
$
441,716
Commercial real estate:
Residential developed
-
-
-
7,234
7,234
Unsecured to residential developers
-
-
-
-
-
Vacant and unimproved
-
-
-
36,270
36,270
Commercial development
-
-
-
Residential improved
-
-
-
112,791
112,791
Commercial improved
-
259,210
259,281
Manufacturing and industrial
-
-
-
121,924
121,924
-
537,532
537,603
Consumer:
Residential mortgage
-
139,071
139,148
Unsecured
-
-
-
Home equity
-
56,297
56,321
Other secured
-
-
-
2,839
2,839
198,328
198,429
Total
$
$
$
$
1,177,576
$
1,177,748
The following table presents the aging of the recorded investment in past due loans as of December 31, 2021 by class of loans (dollars in thousands):
December 31, 2021
30-90
Days
Greater
Than
90 Days
Total
Past Due
Loans Not
Past Due
Total
Commercial and industrial
$
$
$
$
420,217
$
420,257
Commercial real estate:
Residential developed
-
-
-
4,862
4,862
Unsecured to residential developers
-
-
-
5,000
5,000
Vacant and unimproved
-
-
-
36,240
36,240
Commercial development
-
-
-
Residential improved
-
100,072
100,077
Commercial improved
-
-
-
259,039
259,039
Manufacturing and industrial
-
-
-
110,712
110,712
-
516,096
516,101
Consumer:
Residential mortgage
-
117,716
117,800
Unsecured
-
-
-
Home equity
-
-
-
51,269
51,269
Other secured
-
-
-
3,356
3,356
-
172,551
172,635
Total
$
$
$
$
1,108,864
$
1,108,993
- 64 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The Company had allocated $295,000 and $565,000 of specific reserves to customers whose loan terms have been modified in troubled debt restructurings (“TDRs”) as of December 31, 2022 and 2021, respectively. These loans may have involved the restructuring of terms to allow customers to mitigate the risk of foreclosure by meeting a lower loan payment requirement based upon their current cash flow. These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit. The Company has been active at utilizing these programs and working with its customers to reduce the risk of foreclosure. For commercial loans, these modifications typically include an interest only period and, in some cases, a lowering of the interest rate on the loan. In some cases, the modification will include separating the note into two notes with the first note structured to be supported by current cash flows and collateral, and the second note made for the remaining unsecured debt. The second note is charged off immediately and collected only after the first note is paid in full. This modification type is commonly referred to as an A-B note structure. For consumer mortgage loans, the restructuring typically includes a lowering of the interest rate to provide payment and cash flow relief. For each restructuring, a comprehensive credit underwriting analysis of the borrower’s financial condition and prospects of repayment under the revised terms is performed to assess whether the structure can be successful and that cash flows will be sufficient to support the restructured debt. An analysis is also performed to determine whether the restructured loan should be on accrual status. Generally, if the loan is on accrual at the time of restructure, it will remain on accrual after the restructuring. In some cases, a nonaccrual loan may be placed on accrual at restructuring if the loan’s actual payment history demonstrates it would have cash flowed under the restructured terms. After six consecutive payments under the restructured terms, a nonaccrual restructured loan is reviewed for possible upgrade to accruing status.
Based upon regulatory guidance issued in 2014, the Company has determined that in situations where there is a subsequent modification or renewal and the loan is brought to market terms, including a contractual interest rate not less than a market interest rate for new debt with similar credit risk characteristics, the TDR and impaired loan designations may be removed. In addition, the TDR designation may also be removed from loans modified under an A-B note structure. If the remaining “A” note is at a market rate at the time of restructuring (taking into account the borrower’s credit risk and prevailing market conditions), the loan can be removed from TDR designation in a subsequent calendar year after six months of performance in accordance with the new terms. The market rate relative to the borrower’s credit risk is determined through analysis of market pricing information gathered from peers and use of a loan pricing model. The general objective of the model is to achieve a consistent return on equity from one credit to the next, taking into consideration differences in credit risk. In the model, credits with higher risk receive a higher potential loss allocation, and therefore require a higher interest rate to achieve the target return on equity.
As with other impaired loans, an allowance for loan loss is estimated for each TDR based on the most likely source of repayment for each loan. For impaired commercial real estate loans that are collateral dependent, the allowance is computed based on the fair value of the underlying collateral, less estimated costs to sell. For impaired commercial loans where repayment is expected from cash flows from business operations, the allowance is computed based on a discounted cash flow computation. Certain groups of TDRs, such as residential mortgages, have common characteristics and for them the allowance is computed based on a discounted cash flow computation on the change in weighted rate for the pool. The allowance allocations for commercial TDRs where we have reduced the contractual interest rate are computed by measuring cash flows using the new payment terms discounted at the original contractual rate.
The following table presents information regarding TDRs as of December 31, 2022 and 2021 (dollars in thousands):
Number of
Loans
Outstanding
Recorded
Balance
Number of
Loans
Outstanding
Recorded
Balance
Commercial and industrial
$
3,604
$
3,375
Commercial real estate
1,127
Consumer
2,886
3,024
$
7,007
$
7,526
- 65 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
The following table presents information related to accruing TDRs as of December 31, 2022 and 2021. The table presents the amount of accruing TDRs that were on nonaccrual status prior to the restructuring, accruing at the time of restructuring and those that were upgraded to accruing status after receiving six consecutive monthly payments in accordance with the restructured terms as of December 31, 2022 and 2021 (dollars in thousands):
Accruing TDR - nonaccrual at restructuring
$
-
$
-
Accruing TDR - accruing at restructuring
3,728
4,553
Accruing TDR - upgraded to accruing after six consecutive payments
3,279
2,968
$
7,007
$
7,521
The following tables present information regarding troubled debt restructurings executed during the years ended December 31, 2022 and 2021 (dollars in thousands):
Number of
Loans
Pre-TDR
Balance
Writedown
Upon
TDR
Number of
Loans
Pre-TDR
Balance
Writedown
Upon
TDR
Commercial and industrial
-
$
-
$
-
-
$
-
$
-
Commercial real estate
-
-
-
-
-
-
Consumer
-
-
-
-
$
$
-
-
$
-
$
-
According to the accounting standards, not all loan modifications are TDRs. TDRs are modifications or renewals where the Company has granted a concession to a borrower in financial distress. The Company reviews all modifications and renewals for determination of TDR status. In some situations a borrower may be experiencing financial distress, but the Company does not provide a concession. These modifications are not considered TDRs. In other cases, the Company might provide a concession, such as a reduction in interest rate, but the borrower is not experiencing financial distress. This could be the case if the Company is matching a competitor’s interest rate. These modifications would also not be considered TDRs. Finally, any renewals at existing terms for borrowers not experiencing financial distress would not be considered TDRs. As with other loans not considered TDR or impaired, allowance allocations are based on the historical based allocation for the applicable loan grade and loan class.
Payment defaults on TDRs have been minimal and during the twelve months ended December 31, 2022 and 2021 the balance of loans that became delinquent by more than 90 days past due or that were transferred to nonaccrual within 12 months of restructuring were not material.
- 66 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
Credit Quality Indicators: The Company categorizes loans into risk categories based on relevant information about the ability of the borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information and current economic trends, among other factors. The Company analyzes commercial loans individually and classifies these relationships by credit risk grading. The Company uses an eight point grading system, with grades 5 through 8 being considered classified, or watch, credits. All commercial loans are assigned a grade at origination, at each renewal or any amendment. When a credit is first downgraded to a watch credit (either through renewal, amendment, loan officer identification or the loan review process), an Administrative Loan Review (“ALR”) is generated by the credit department and the loan officer. All watch credits have an ALR completed monthly which analyzes the collateral position and cash flow of the borrower and its guarantors. The loan officer is required to complete both a short term and long term plan to rehabilitate or exit the credit and to give monthly comments on the progress to these plans. Management meets quarterly with loan officers to discuss each of these credits in detail and to help formulate solutions where progress has stalled. When necessary, the loan officer proposes changes to the assigned loan grade as part of the ALR. Additionally, Loan Review reviews all loan grades upon origination, renewal or amendment and again as loans are selected though the loan review process. The credit will stay on the ALR until either its grade has improved to a 4 or the credit relationship is at a zero balance. The Company uses the following definitions for the risk grades:
1. Excellent - Loans supported by extremely strong financial condition or secured by the Bank’s own deposits. Minimal risk to the Bank and the probability of serious rapid financial deterioration is extremely small.
2. Above Average - Loans supported by sound financial statements that indicate the ability to repay or borrowings secured (and margined properly) with marketable securities. Nominal risk to the Bank and probability of serious financial deterioration is highly unlikely. The overall quality of these credits is very high.
3. Good Quality - Loans supported by satisfactory asset quality and liquidity, good debt capacity coverage, and good management in all critical positions. Loans are secured by acceptable collateral with adequate margins. There is a slight risk of deterioration if adverse market conditions prevail.
4. Acceptable Risk - Loans carrying an acceptable risk to the Bank, which may be slightly below average quality. The borrower has limited financial strength with considerable leverage. There is some probability of deterioration if adverse market conditions prevail. These credits should be monitored closely by the Relationship Manager.
5. Marginally Acceptable - Loans are of marginal quality with above normal risk to the Bank. The borrower shows acceptable asset quality but very little liquidity with high leverage. There is inconsistent earning performance without the ability to sustain adverse market conditions. The primary source of repayment is questionable, but the secondary source of repayment still remains an option. Very close attention by the Relationship Manager and management is needed.
6. Substandard - Loans are inadequately protected by the net worth and paying capacity of the borrower or the collateral pledged. The primary and secondary sources of repayment are questionable. Heavy debt condition may be evident and volume and earnings deterioration may be underway. It is possible that the Bank will sustain some loss if the deficiencies are not immediately addressed and corrected.
7. Doubtful - Loans supported by weak or no financial statements, as well as the ability to repay the entire loan, are questionable. Loans in this category are normally characterized less than adequate collateral, insolvent, or extremely weak financial condition. A loan classified doubtful has all the weaknesses inherent in one classified substandard with the added characteristic that the weaknesses makes collection or liquidation in full highly questionable. The possibility of loss is extremely high, however, activity may be underway to minimize the loss or maximize the recovery.
8. Loss - Loans are considered uncollectible and of little or no value as a bank asset.
- 67 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 3 - LOANS (Continued)
At year end, the risk grade category of commercial loans by class of loans was as follows (dollars in thousands):
December 31, 2022
Total
Commercial and industrial
$
15,040
$
21,451
$
175,762
$
220,987
$
8,309
$
$
-
$
-
$
441,716
Commercial real estate:
Residential developed
-
-
-
7,234
-
-
-
-
7,234
Unsecured to residential developers
-
-
-
-
-
-
-
-
-
Vacant and unimproved
-
1,231
18,406
16,633
-
-
-
-
36,270
Commercial development
-
-
-
-
-
-
-
Residential improved
-
-
25,585
87,176
-
-
-
112,791
Commercial improved
-
17,802
83,769
151,641
5,762
-
-
259,281
Manufacturing & industrial
-
11,422
32,977
73,566
1,646
2,313
-
-
121,924
$
15,040
$
51,906
$
336,602
$
557,237
$
15,747
$
2,787
$
-
$
-
$
979,319
December 31, 2021
Total
Commercial and industrial
$
56,979
$
19,300
$
110,877
$
227,087
$
2,700
$
3,314
$
-
$
-
$
420,257
Commercial real estate:
Residential developed
-
-
-
4,862
-
-
-
-
4,862
Unsecured to residential developers
-
-
-
5,000
-
-
-
-
5,000
Vacant and unimproved
-
1,763
13,492
20,985
-
-
-
-
36,240
Commercial development
-
-
-
-
-
-
-
Residential improved
-
-
24,450
75,503
-
-
100,077
Commercial improved
-
15,115
71,211
165,268
7,127
-
-
259,039
Manufacturing & industrial
-
-
41,757
65,601
3,354
-
-
-
110,712
$
56,979
$
36,178
$
261,958
$
564,306
$
13,300
$
3,632
$
$
-
$
936,358
Commercial loans rated a 6, 7 or 8 per the Company’s internal risk rating system are considered substandard, doubtful or loss, respectively.
Commercial loans classified as substandard or worse were as follows at year-end (dollars in thousands):
Not classified as impaired
$
2,422
$
Classified as impaired
3,404
Total commercial loans classified substandard or worse
$
2,787
$
3,637
The Company considers the performance of the loan portfolio and its impact on the allowance for loan losses. For consumer loan classes, the Company also evaluates credit quality based on the aging status of the loan, which was previously presented, and by payment activity. The following tables present the recorded investment in consumer loans based on payment activity as of December 31, 2022 and 2021 (dollars in thousands):
December 31, 2022
Residential
Mortgage
Consumer
Unsecured
Home
Equity
Consumer
Other
Performing
$
139,071
$
$
56,321
$
2,839
Nonperforming
-
-
-
Total
$
139,148
$
$
56,321
$
2,839
December 31, 2021
Residential
Mortgage
Consumer
Unsecured
Home
Equity
Consumer
Other
Performing
$
117,716
$
$
51,269
$
3,356
Nonperforming
-
-
-
Total
$
117,800
$
$
51,269
$
3,356
- 68 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 4 - OTHER REAL ESTATE OWNED
Other real estate owned was as follows (dollars in thousands):
Beginning balance
$
2,369
$
2,731
Additions, transfers from loans
-
-
Proceeds from sales of other real estate owned and repossessed assets
(47
)
(170
)
Valuation allowance reversal upon sale
(26
)
(172
)
Gain (loss) on sales of other real estate owned and repossessed assets
(20
)
2,343
2,369
Less: valuation allowance
-
(26
)
Ending balance
$
2,343
$
2,343
Activity in the valuation allowance was as follows (dollars in thousands):
Beginning balance
$
$
Additions charged to expense
-
Reversals upon sale
(26
)
(172
)
Ending balance
$
-
$
At December 31, 2022, the balance of other real estate owned included no foreclosed residential real estate properties recorded as a result of obtaining physical possession of the property. At December 31, 2022, the recorded investment of consumer mortgage loans secured by residential real estate properties for which formal foreclosure proceedings are in process was $0. On January 30, 2023, the Company sold the remaining real estate owned property at a small gain, bringing the balance of other real estate owned to $0.
NOTE 5 - FAIR VALUE
ASC Topic 820, Fair Value Measurements and Disclosures, establishes a 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 three levels of inputs that may be used to measure fair value include:
Level 1 : Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2 : Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3 : Significant unobservable inputs that reflect a reporting entity's own assumptions about the assumptions that market participants would use in pricing an asset or liability.
Investment Securities: The fair values of investment securities are determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). The fair values of certain securities held to maturity are determined by computing discounted cash flows using observable and unobservable market inputs (Level 3 inputs).
Loans Held for Sale: The fair value of loans held for sale is based upon binding quotes from third party investors (Level 2 inputs).
Impaired Loans: Loans identified as impaired are measured using one of three methods: the loan’s observable market price, the fair value of collateral or the present value of expected future cash flows. For each period presented, no impaired loans were measured using the loan’s observable market price. If an impaired loan has had a charge-off or if the fair value of the collateral is less than the recorded investment in the loan, we establish a specific reserve and report the loan as nonrecurring Level 3. The fair value of collateral of impaired loans is generally based on recent real estate appraisals, less costs to sell. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.
- 69 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 5 - FAIR VALUE (Continued)
Interest
Rate Swaps: For interest rate swap agreements, we measure fair value utilizing pricing provided by a third-party pricing source that that uses market observable inputs, such as forecasted yield curves, and other observable inputs and accordingly, interest rate swap agreements are classified as Level 2.
Assets and liabilities measured at fair value on a recurring basis are summarized below (in thousands):
Fair
Value
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
Significant
Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
December 31, 2022
Available for sale securities
U.S. Treasury and federal agency securities
$
224,634
$
-
$
224,634
$
-
U.S. Agency MBS and CMOs
113,818
-
113,818
-
Tax-exempt state and municipal bonds
36,710
-
36,710
-
Taxable state and municipal bonds
112,171
-
112,171
-
Corporate bonds and other debt securities
11,924
-
11,924
-
Other equity securities
1,304
-
1,304
-
Loans held for sale
-
-
Interest rate swaps
6,463
-
6,463
-
Total assets measured at fair value on recurring basis
$ 507,239
$ -
$ 507,239
$ -
Interest rate swaps
(6,463
)
-
(6,463
)
-
Total liabilities measured at fair value on recurring basis
$ (6,463 )
$ -
$ (6,463 )
$ -
December 31, 2021
Available for sale securities
U.S. Treasury and federal agency securities
$
206,845
$
-
$
206,845
$
-
U.S. Agency MBS and CMOs
86,797
-
86,797
-
Tax-exempt state and municipal bonds
37,556
-
37,556
-
Taxable state and municipal bonds
79,561
-
79,561
-
Corporate bonds and other debt securities
5,304
-
5,304
-
Other equity securities
1,470
-
1,470
-
Loans held for sale
1,407
-
1,407
-
Interest rate swaps
3,277
-
3,277
-
Total assets measured at fair value on recurring basis
$ 422,217
$ -
$ 422,217
$ -
Interest rate swaps
(3,277
)
-
(3,277
)
-
Total liabilities measured at fair value on recurring basis
$ (3,277 )
$ -
$ (3,277 )
$ -
- 70 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 5 - FAIR VALUE (Continued)
Assets measured at fair value on a non-recurring basis are summarized below (in thousands):
Fair
Value
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
Significant Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
December 31, 2022
Impaired loans
$
$
-
$
-
$
December 31, 2021
Impaired loans
$
2,903
$
-
$
-
$
2,903
Quantitative information about Level 3 fair value measurements measured on a non-recurring basis were as follows at year end (dollars in thousands).
Asset
Fair
Value
Valuation
Technique
Unobservable
Inputs
Range (%)
December 31, 2022
Impaired loans
$
Sales comparison approach
Adjustment for differences
between comparable sales
1.5 to 20.0
Income approach
Capitalization rate
9.5 to 11.0
Asset
Fair
Value
Valuation
Technique
Unobservable
Inputs
Range (%)
December 31, 2021
Impaired loans
$
2,903
Sales comparison approach
Adjustment for differences
between comparable sales
1.5 to 20.0
Income approach
Capitalization rate
9.5 to 11.0
- 71 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 5 - FAIR VALUE (Continued)
The carrying amounts and estimated fair values of financial instruments, not previously presented, were as follows at year end (dollars in thousands).
Level in
Fair Value
Hierarchy
Carrying
Amount
Fair
Value
Carrying
Amount
Fair
Value
Financial assets
Cash and due from banks
Level 1
$ 51,215
$
51,215
$
23,669
$
23,669
Federal funds sold and other short-term investments
Level 1
703,955
703,955
1,128,119
1,128,119
Securities held to maturity - U.S. Treasury
Level 2
251,307
237,630
-
-
Securities held to maturity - tax-exempt and muni
Level 3
97,458
95,020
137,003
139,272
FHLB stock
Level 3
10,211
10,211
11,558
11,558
Loans, net
Level 2
1,162,135
1,131,387
1,090,201
1,106,324
Bank owned life insurance
Level 3
53,345
53,345
52,468
52,468
Accrued interest receivable
Level 2
7,606
7,606
4,088
4,088
Financial liabilities
Deposits
Level 2
(2,615,142 )
(2,615,860
)
(2,577,958
)
(2,577,885
)
Other borrowed funds
Level 2
(30,000 )
(28,666
)
(85,000
)
(86,322
)
Accrued interest payable
Level 2
(114 )
(114
)
(72
)
(72
)
Off-balance sheet credit-related items
Loan commitments
-
-
-
-
The methods and assumptions used to estimate fair value are described as follows.
Carrying amount is the estimated fair value for cash and cash equivalents, bank owned life insurance, accrued interest receivable and payable, demand deposits, short-term borrowings and variable rate loans or deposits that reprice frequently and fully. Security fair values are determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities as discussed above. For fixed rate loans, interest-bearing time deposits in other financial institutions and deposits, and for variable rate loans or deposits with infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk (including consideration of widening credit spreads). Fair value of debt is based on current rates for similar financing. It was not practicable to determine the fair value of FHLB stock due to restrictions placed on its transferability, so fair value approximates its cost. The fair value of off-balance sheet credit-related items is not significant.
The estimated fair values of financial instruments disclosed above as of December 31, 2022 and 2021 follow the guidance in ASU 2016-01 which prescribes an “exit price” approach in estimating and disclosing fair value of financial instruments incorporating discounts for credit, liquidity and marketability factors.
- 72 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 6 - DERIVATIVES
Derivatives
not designated as hedges are not speculative and result from a service provided to certain commercial loan borrowers. The Company executes interest rate swaps with commercial banking customers desiring longer-term fixed rate loans, while simultaneously entering into interest rate swaps with a correspondent bank to offset the impact of the interest rate swaps with the commercial banking customers. The net result is the desired floating rate loans and a minimization of the risk exposure of the interest rate swap transactions. As the interest rate swaps associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the commercial banking customer interest rate swaps and the offsetting interest rate swaps with the correspondent bank are recognized directly to earnings. Since they offset perfectly, there is no net impact to earnings.
The fair value of derivative instruments as of December 31, 2022 and 2021 are reflected in the following table (dollars in thousands):
Notional
Amount
Balance Sheet Location
Fair Value
December 31, 2022
Derivative assets
Interest rate swaps
$
62,661
Other Assets
$
6,463
Derivative liabilities
Interest rate swaps
62,661
Other Liabilities
6,463
Notional
Amount
Balance Sheet Location
Fair Value
December 31, 2021
Derivative assets
Interest rate swaps
$
70,356
Other Assets
$
3,277
Derivative liabilities
Interest rate swaps
70,356
Other Liabilities
3,277
The fair value of interest rate swaps in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk related to these agreements, was $6.5 million and $3.3 million as of December 31, 2022 and 2021, respectively. The Bank has a master netting arrangement with the correspondent bank and has the right to offset, however it has elected to present the assets and liabilities gross. The Bank is required to pledge collateral to the correspondent bank equal to or in excess of the net liability position. The Bank’s derivative liability with the correspondent bank was $0 and $1.0 milllion at December 31, 2022 and 2021, respectively. Securities pledged as collateral totaling $1.7 million and $3.0 million was provided to the counterparty correspondent bank as of December 31, 2022 and 2021, respectively.
Interest
rate swaps entered into with commercial loan customers had notional amounts aggregating $62.7 million as of December 31, 2022 and $70.4 million at December 31, 2021. Associated credit exposure is generally mitigated by securing the interest rate swaps with the underlying collateral of the loan instrument that has been hedged.
NOTE 7 - PREMISES AND EQUIPMENT - NET
Year-end premises and equipment were as follows (dollars in thousands):
Land
$
15,861
$
15,861
Building
44,879
44,701
Leasehold improvements
Furniture and equipment
18,055
21,732
Construction in progress
-
79,093
82,547
Less accumulated depreciation
(38,787
)
(40,774
)
$
40,306
$
41,773
Depreciation expense was $2.3 million and $2.5 million for 2022 and 2021, respectively.
- 73 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 8 - LEASES
The Company enters into leases in the normal course of business. As of December 31, 2022, the Company operated four offices for which the land and buildings are leased. All of the Company’s leases are operating leases under applicable accounting standards and the lease agreements have maturity dates ranging from March 2023 through January 2026, some of which include extension options. The weighted average remaining life of the lease term for these leases was 2 years as of December 31, 2022. As permitted by applicable accounting standards, the Company has elected not to recognize leases with original lease terms of 12 months or less (short-term leases) on the Company’s Consolidated Balance Sheets.
Leases are classified as either operating or finance leases at the lease commencement date, and as previously noted, all of the Company’s leases have been determined to be operating leases. Lease expense for operating leases and short-term leases is recognized on a straight-line basis over the lease term. Right-of-use assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease.
Right-of-use assets and lease liabilities are recognized at the lease commencement date based on the estimated present value of lease payments over the lease term.
The Company uses its incremental borrowing rate, on a collateralized basis, at lease commencement to calculate the present value of lease payments when the rate implicit in the lease is not known. The weighted average discount rate for leases was 0.58% as of December 31, 2022.
The right-of-use assets and lease liabilities were $625,000 and $627,000, respectively, as of December 31, 2022, and were $866,000 and $861,000, respectively at December 31, 2021. Right-of-use assets are included in other assets and lease liabilities are included in accrued expenses and other liabilities on the Company’s Consolidated Balance Sheets.
Total operating lease expense charged to operations under all operating lease agreements was $451,000 in 2022 and $431,000 in 2021.
Future undiscounted lease payments for operating leases with initial terms of one year or more as of December 31, 2022 are as follows (dollars in thousands):
$
-
-
Thereafter
-
Total undiscounted lease payments
Less effect of discounting
(2
)
Present value of estimated lease payments (lease liability)
$
- 74 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 9 - DEPOSITS
Deposits at year-end were as follows (dollars in thousands):
Noninterest-bearing demand
$
834,879
$
886,115
Interest bearing demand
760,889
736,573
Savings and money market accounts
922,418
865,528
Certificates of deposit
96,956
89,742
$
2,615,142
$
2,577,958
The following table depicts the maturity distribution of certificates of deposit at December 31, 2022 (dollars in thousands):
$
59,326
35,756
1,067
Thereafter
$
96,956
Time deposits that exceed the FDIC insurance limit of $250,000 at December 31, 2022 and 2021 were approximately $29.7 million and $28.2 million, respectively.
NOTE 10 - OTHER BORROWED FUNDS
Other borrowed funds include advances from the Federal Home Loan Bank and borrowings from the Federal Reserve Bank.
Federal Home Loan Bank Advances
At year-end, advances from the Federal Home Loan Bank were as follows (dollars in thousands):
Principal Terms
Advance
Amount
Range of Maturities
Weighted
Average
Interest Rate
December 31, 2022
Single maturity fixed rate advances
$
10,000
February 2024
2.63
%
Putable advances
20,000
November 2024
1.81
%
$
30,000
Principal Terms
Advance
Amount
Range of Maturities
Weighted
Average
Interest Rate
December 31, 2021
Single maturity fixed rate advances
$
30,000
May 2023 to July 2024
2.87
%
Putable advances
55,000
November 2024 to July 2031
0.74
%
$
85,000
Each advance is subject to a prepayment fee if paid prior to its maturity date. Fixed rate advances are payable at maturity. Amortizable mortgage advances are fixed rate advances with scheduled repayments based upon amortization to maturity. Advances were collateralized by residential and commercial real estate loans totaling $446.1 million and $361.9 million under a blanket lien arrangement at December 31, 2022 and 2021, respectively. The remaining $20.0 million putable advance at December 31, 2022 had a one time put option on November 13, 2020. The FHLB did not exercise this option.
- 75 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE
10 - OTHER BORROWED FUNDS (Continued)
Scheduled repayments of FHLB advances as of December 31, 2022 were as follows (in thousands):
$
-
30,000
-
-
-
Thereafter
-
$
30,000
On January 21, 2022, the FHLB exercised its option to put an advance totaling $25.0 million to the Company. This advance carried an interest rate of 0.01% and had a maturity date of July 21, 2031 . The Company paid off this advance as required on January 21, 2022. On January 21, 2022, the Company executed a new $25.0 million advance with the FHLB with similar terms. This advance carried an interest rate of 0.05% and a maturity date of January 21, 2032. The first put date for this advance was April 21, 2022. The FHLB exercised its put option on this advance and it was paid off by the Company as required on April 21, 2022. on May 27, 2022, the FHLB exercised its put option on a $10.0 million advance that carried an interest rate of 0.45% and the Company paid the advance off as required on May 27, 2022. In addition, on May 27, 2022, the Company prepaid $20.0 million in FHLB advances, with interest rates ranging from 2.91% to 3.05%. Prepayment fees of $87,000 were incurred and are included in interest expense.
Federal Reserve Bank Borrowings
The Company has a financing arrangement with the Federal Reserve Bank. There were no borrowings outstanding at December 31, 2022 and 2021, and the Company had approximately $5.5 million and $4.0 million in unused borrowing capacity based on commercial and mortgage loans pledged to the Federal Reserve Bank totaling $5.8 million and $4.4 million at December 31, 2022 and 2021, respectively.
NOTE 11 - LONG TERM DEBT
Macatawa Statutory Trust II issued $619,000 of common securities and $20.0 million aggregate liquidation amount of trust preferred securities with a floating interest rate of three-month LIBOR plus 2.75%, maturing on March 18, 2034. On July 7, 2021, the Company redeemed all of the $20.0 million of outstanding trust preferred securities and $619,000 of common securities associated with Macatawa Statutory Trust II.
NOTE 12 - RELATED PARTY TRANSACTIONS
Loans to principal officers, directors, and their affiliates were as follows (dollars in thousands).
Beginning balance
$
25,779
$
26,815
New loans and renewals
14,535
9,450
Repayments and renewals
(14,407
)
(10,486
)
Effect of changes in related parties
-
-
Ending balance
$
25,907
$
25,779
Deposits from principal officers, directors, and affiliates at December 31, 2022 and 2021 were $153.3 million and $205.4 million, respectively. The majority of the deposit balances for each year are associated with institutional accounts of affiliated organizations.
During 2015, the Bank entered into a back-to-back swap agreement (see Note 1 - Derivatives) with a company affiliated with one of the Company’s directors. The total notional amount of the agreement was $10.7 million and $12.0 million at December 31, 2022 and 2021, respectively.
- 76 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 13 - STOCK-BASED COMPENSATION
On May 5, 2015, the Company’s shareholders approved the Macatawa Bank Corporation Stock Incentive Plan of 2015 (the 2015 Plan). The 2015 Plan provides for grant of up to 1,500,000 shares of Macatawa common stock in the form of stock options or restricted stock awards to employees and directors. There were 973,550 shares under the “2015 Plan” available for future issuance as of December 31, 2022. The Company issues new shares under the 2015 Plan from its authorized but unissued shares.
Restricted Stock Awards
Restricted stock awards have vesting periods of three years with vesting at the rate of one-third each year. Restricted stock awards have no other performance conditions required for vesting. A summary of changes in the Company’s nonvested restricted stock awards for the year follows:
Nonvested Stock Awards
Shares
Weighted-
Average
Grant-Date Fair
Value
Aggregate
Intrinsic
Value
Outstanding at January 1, 2021
183,551
$
8.63
$
2,024,568
Granted
67,603
11.18
745,661
Vested
(83,220
)
8.80
(917,917
)
Forfeited
(9,847
)
8.80
(108,612
)
Outstanding at December 31, 2022
158,087
$
9.62
$
1,743,700
Compensation cost related to restricted stock awards totaled $703,000
and $684,000 for 2022 and 2021, respectively.
As of December 31, 2022, there was $1.4 million of total remaining unrecognized compensation cost related to nonvested restricted stock awards granted under the Company’s stock-based compensation plans. The cost is expected to be recognized over a weighted-average period of 1.42 years. The total grant date fair value of restricted stock awards vested during 2022 was $732,000. The total grant date fair value of restricted stock awards vested during 2021 was $660,000.
NOTE 14 - EMPLOYEE BENEFITS
The Company sponsors a 401(k) plan which covers substantially all employees. Employees may elect to contribute to the plan up to the maximum percentage of compensation and dollar amount subject to statutory limitations. Beginning January 1, 2013, the Company’s contribution was set using a matching formula of 100% of the first 3% of employee contributions and 50% of employee contributions in excess of 3%, up to 5%. The Company suspended its matching contributions in the second quarter of 2020 and resumed contributions in the third quarter of 2020. For 2021, the Company reduced its matching formula to 100% of the first 2% of employee contributions. For 2022, the Company has reimplemented its normal matching formula of 100% of the first 3% of employee contributions and 50% of employee contributions in excess of 3%, up to 5%. The Company’s contributions were approximately $755,000 and $412,000 for 2022 and 2021, respectively.
NOTE 15 - EARNINGS PER COMMON SHARE
A reconciliation of the numerators and denominators of basic and diluted earnings per common share are as follows (dollars in thousands, except per share data):
Net income
$
34,731
$
29,014
Weighted average shares outstanding, including participating stock awards - Basic
34,259,604
34,202,179
Dilutive potential common shares:
Stock options
-
-
Weighted average shares outstanding - Diluted
34,259,604
34,202,179
Basic earnings per common share
$
1.01
$
0.85
Diluted earnings per common share
$
1.01
$
0.85
- 77 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 16 - FEDERAL INCOME TAXES
Income tax expense was as follows (dollars in thousands):
Current
$
7,567
$
5,615
Deferred
1,095
$
8,333
$
6,710
The difference between the financial statement tax expense and amount computed by applying the statutory federal tax rate to pretax income was reconciled as follows (dollars in thousands):
Statutory rate
%
%
Statutory rate applied to income before taxes
$
9,044
$
7,502
Adjust for:
Tax-exempt interest income
(589
)
(642
)
Bank-owned life insurance
(184
)
(217
)
Other, net
$
8,333
$
6,710
The realization of deferred tax assets (net of a recorded valuation allowance) is largely dependent upon future taxable income, future reversals of existing taxable temporary differences and the ability to carryback losses to available tax years. In assessing the need for a valuation allowance, we consider positive and negative evidence, including taxable income in carry-back years, scheduled reversals of deferred tax liabilities, expected future taxable income and tax planning strategies. Management believes it is more likely than not that all of the deferred tax assets will be realized against deferred tax liabilities and projected future taxable income.
The net deferred tax asset recorded included the following amounts of deferred tax assets and liabilities (dollars in thousands):
Deferred tax assets
Allowance for loan losses
$
3,210
$
3,337
Net deferred loan fees
-
Nonaccrual loan interest
Valuation allowance on other real estate owned and property held for sale
-
Unrealized loss on securities available for sale
8,394
Other
Gross deferred tax assets
11,873
4,065
Valuation allowance
-
-
Total net deferred tax assets
11,873
4,065
Deferred tax liabilities
Depreciation
$
(1,098
)
$
(1,199
)
Prepaid expenses
(309
)
(288
)
Net deferred loan costs
(21
)
-
Other
(733
)
(415
)
Gross deferred tax liabilities
(2,161
)
(1,902
)
Net deferred tax asset
$
9,712
$
2,163
- 78 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 16 - FEDERAL INCOME TAXES (Continued)
There were no unrecognized tax benefits at December 31, 2022 and 2021 and the Company does not expect the total amount of unrecognized tax benefits to significantly increase or decrease in the next twelve months. The Company is no longer subject to examination by the Internal Revenue Service for years before 2019.
NOTE 17 - COMMITMENTS AND OFF BALANCE-SHEET RISK
Some financial instruments are used to meet customer financing needs and to reduce exposure to interest rate changes. These financial instruments include commitments to extend credit and standby letters of credit. These involve, to varying degrees, credit and interest rate risk in excess of the amount reported in the financial statements.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the commitment, and generally have fixed expiration dates. Standby letters of credit are conditional commitments to guarantee a customer’s performance to a third party. Exposure to credit loss if the other party does not perform is represented by the contractual amount for commitments to extend credit and standby letters of credit. Collateral or other security is normally not obtained for these financial instruments prior to their use and many of the commitments are expected to expire without being used.
A summary of the contractual amounts of financial instruments with off-balance-sheet risk was as follows at year-end (dollars in thousands):
Commitments to extend credit
$
77,384
$
128,648
Letters of credit
13,455
10,141
Unused lines of credit
745,674
677,902
The notional amount of commitments to fund mortgage loans to be sold into the secondary market was $0 and approximately $1.3 million at December 31, 2022 and 2021, respectively.
The Bank enters into commitments to sell mortgage backed securities, which it later buys back in order to hedge its exposure to interest rate risk in its mortgage pipeline. These commitments were $0 and approximately $9.5 million at December 31, 2022 and 2021, respectively.
At year-end 2022 approximately 72.0% of the Bank’s commitments to make loans were at fixed rates, offered at current market rates. The remainder of the commitments to make loans were at variable rates tied to SOFR and the prime rate and generally expire within 30 days. The majority of the unused lines of credit were at variable rates tied to SOFR and the prime rate.
NOTE 18 - CONTINGENCIES
The Company and its subsidiaries periodically become defendants in certain claims and legal actions arising in the ordinary course of business. As of December 31, 2022, there were no material pending legal proceedings to which we or any of our subsidiaries are a party or which any of our properties are the subject.
- 79 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 19 - SHAREHOLDERS’ EQUITY
Regulatory Capital
The Company and the Bank are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings, and other factors and the regulators can lower classifications in certain cases. Failure to meet various capital requirements can initiate regulatory action that could have a direct material effect on the financial statements.
The prompt corrective action regulations provide five categories, including well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If a bank is only adequately capitalized, regulatory approval is required to, among other things, accept, renew or roll-over brokered deposits. If a bank is undercapitalized, capital distributions and growth and expansion are limited, and plans for capital restoration are required.
The regulatory capital requirements include a common equity Tier 1 capital to risk-weighted assets ratio (CET1 ratio) of 4.5% and a capital conservation buffer of 2.5% of risk-weighted assets, which effectively results in a minimum CET1 ratio of 7.0%. The minimum ratio of Tier 1 capital to risk-weighted assets is 6.0% (which, with the capital conservation buffer, effectively results in a minimum Tier 1 capital ratio of 8.5%), which effectively results in a minimum total capital to risk-weighted assets ratio of 10.5% (with the capital conservation buffer). The minimum leverage ratio is 4.0%.
Actual capital levels (dollars in thousands) and minimum required levels were as follows at year-end:
Actual
Minimum
Capital
Adequacy
Minimum Capital
Adequacy With
Capital Buffer
To Be Well
Capitalized Under
Prompt Corrective
Action Regulations
Amount
Ratio
Amount
Ratio
Amount
Ratio
Amount
Ratio
December 31, 2022
CET1 capital (to risk weighted
assets)
Consolidated
$
278,615
16.9
%
$
74,003
4.5
%
$
115,116
7.0
%
N/A
N/A
Bank
270,274
16.4
73,992
4.5
115,098
7.0
$
106,877
6.5
%
Tier 1 capital (to risk weighted
assets)
Consolidated
278,615
16.9
98,670
6.0
139,783
8.5
N/A
N/A
Bank
270,274
16.4
98,655
6.0
139,762
8.5
131,540
8.0
Total capital (to risk weighted
assets)
Consolidated
293,900
17.9
131,561
8.0
172,673
10.5
N/A
N/A
Bank
285,559
17.4
131,540
8.0
172,647
10.5
164,426
10.0
Tier 1 capital (to average
assets)
Consolidated
278,615
9.7
114,589
4.0
N/A
N/A
N/A
N/A
Bank
270,274
9.4
114,582
4.0
N/A
N/A
143,227
5.0
December 31, 2021
CET1 capital (to risk weighted
assets)
Consolidated
$
254,302
17.2
%
$
66,381
4.5
%
$
103,259
7.0
%
N/A
N/A
Bank
246,239
16.7
66,370
4.5
103,242
7.0
$
95,867
6.5
%
Tier 1 capital (to risk weighted
assets)
Consolidated
254,302
17.2
88,508
6.0
125,386
8.5
N/A
N/A
Bank
246,239
16.7
88,493
6.0
125,365
8.5
117,991
8.0
Total capital (to risk weighted
assets)
Consolidated
270,191
18.3
118,011
8.0
154,889
10.5
N/A
N/A
Bank
262,128
17.8
117,991
8.0
154,863
10.5
147,488
10.0
Tier 1 capital (to average
assets)
Consolidated
254,302
8.7
116,664
4.0
N/A
N/A
N/A
N/A
Bank
246,239
8.4
116,654
4.0
N/A
N/A
145,818
5.0
The Bank was categorized as “well capitalized” at December 31, 2022 and 2021.
- 80 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 20 - CONDENSED FINANCIAL STATEMENTS (PARENT COMPANY ONLY)
Following are condensed parent company only financial statements (dollars in thousands):
CONDENSED BALANCE SHEETS
ASSETS
Cash and cash equivalents
$
8,092
$
7,831
Investment in Bank subsidiary
238,697
245,942
Investment in other subsidiaries
-
-
Other assets
Total assets
$
247,038
$
254,022
LIABILITIES AND SHAREHOLDERS’ EQUITY
Long-term debt
-
-
Other liabilities
-
Total liabilities
$
-
Total shareholders’ equity
247,038
254,005
Total liabilities and shareholders’ equity
$
247,038
$
254,022
CONDENSED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
INCOME
Dividends from subsidiaries
$
11,913
$
33,118
Other
-
-
Total income
11,913
33,118
EXPENSE
Interest expense
-
Other expense
Total expense
1,141
Income before income tax and equity in undistributed earnings of subsidiaries
11,112
31,977
Equity in undistributed earnings of subsidiaries
23,445
(3,211
)
Income before income tax
34,557
28,766
Income tax benefit
(174
)
(248
)
Net income
$
34,731
$
29,014
Comprehensive income
$
3,452
$
24,503
- 81 -
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2022 and 2021
NOTE 20 - CONDENSED FINANCIAL STATEMENTS (PARENT COMPANY ONLY) (Continued)
CONDENSED STATEMENTS OF CASH FLOWS
Cash flows from operating activities
Net income
$
34,731
$
29,014
Adjustments to reconcile net income to net cash from operating activities:
Equity in undistributed earnings of subsidiaries
(23,445
)
3,211
Stock compensation expense
Change in other assets
-
(41
)
Change in other liabilities
(17
)
(135
)
Net cash from operating activities
11,383
32,138
Cash flows from investing activities
Investment in subsidiaries
-
-
Net cash from investing activities
-
-
Cash flows from financing activities
Repayment of other borrowings
-
(20,000
)
Cash dividends paid
(10,915
)
(10,895
)
Repurchases of shares
(207
)
(130
)
Net cash from financing activities
(11,122
)
(31,025
)
Net change in cash and cash equivalents
1,113
Cash and cash equivalents at beginning of year
7,831
6,718
Cash and cash equivalents at end of year
$
8,092
$
7,831
NOTE 21 - QUARTERLY FINANCIAL DATA (Unaudited)
(Dollars in thousands except per share data)
Earnings Per Common Share
Interest
Income
Net Interest
Income
Provision for
Loan Losses
Net
Income
Basic
Diluted
First quarter
$
13,143
$
12,665
$
(1,500
)
$
6,000
$
0.18
$
0.18
Second quarter
15,435
14,843
-
6,568
0.19
0.19
Third quarter
20,875
19,771
-
10,045
0.29
0.29
Fourth quarter
25,454
22,867
12,118
0.35
0.35
First quarter
$
15,274
$
14,490
$
-
$
7,778
$
0.23
$
0.23
Second quarter
15,184
14,457
(750
)
7,818
0.23
0.23
Third quarter
14,842
14,296
(550
)
7,202
0.21
0.21
Fourth quarter
13,334
12,826
(750
)
6,216
0.18
0.18
- 82 -

---

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ITEM 9:
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.
None.

---

ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9A:
Controls and Procedures.
(a)
Evaluation of Disclosure Controls and Procedures.
Under the supervision of and with the participation of our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (Exchange Act), as of December 31, 2022. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, as the Company’s are designed to do, and management necessarily was required to apply its judgment in evaluating whether the benefits of the controls and procedures that the Company adopts outweigh their costs. Our management, including our CEO and CFO, after evaluating the effectiveness of the Company's disclosure controls and procedures, have concluded that, as of December 31, 2022, the Company's disclosure controls and procedures were effective to ensure that information required to be disclosed by us in the reports that we file under the Exchange Act is recorded, processed, summarized and reported within time periods specified in the Commission's rules and forms.
(b)
Changes in Internal Controls.
There were no changes in the Company’s internal controls over financial reporting during the quarter ended December 31, 2022 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
(c)
Management's Report on Internal Control over Financial Reporting.
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system was designed by, or under the supervision of, our CEO and CFO and effected by our Board of Directors, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements and related notes for external purposes in accordance with generally accepted accounting principles in the United States of America.
An internal control system, no matter how well designed, has inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable, not absolute, assurance that the control system’s objectives have been met. The inherent limitations include the realities that judgments in decision-making can be deficient and breakdowns can occur because of simple errors or mistakes.
Company management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2022. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (2013). Based on this assessment, management concluded that the Company maintained effective internal control over financial reporting as of December 31, 2022 based on those criteria.
BDO USA, LLP, an independent registered public accounting firm that audited the consolidated financial statements included herein, has issued an attestation report on our internal control over financial reporting as of December 31, 2022, as stated in their report below.
(d)
Report of Independent Registered Public Accounting Firm.
- 83 -
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Shareholders and Board of Directors
Macatawa Bank Corporation
Holland, Michigan
Opinion on Internal Control over Financial Reporting
We have audited Macatawa Bank Corporation’s (the “Company’s”) internal control over financial reporting as of December 31, 2022, based on criteria established in Internal
Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO criteria”). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of the Company as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income, changes in shareholders' equity, and cash flows for each of the years then ended, and the related notes and our report dated February 16, 2023 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying “Item 9A, Management’s Report on Internal Control over Financial Reporting”. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the 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 audit of internal control over financial reporting in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ BDO USA, LLP
Grand Rapids, Michigan
February 16, 2023
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ITEM 9B. OTHER INFORMATION
ITEM 9B:
Other Information.
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 10:
Directors, Executive Officers and Corporate Governance.
The information under the headings "The Board of Directors - General, - Qualifications and Biographical Information, and - Board Committees - Audit Committee," "Executive Officers," "Delinquent Section 16(a) Reports," "Corporate Governance - Code of Ethics" and "Shareholder Proposals" in our definitive Proxy Statement relating to our May 02, 2023 Annual Meeting of Shareholders is here incorporated by reference.

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ITEM 11. EXECUTIVE COMPENSATION
ITEM 11:
Executive Compensation.
Information under the heading "Executive Compensation" in our definitive Proxy Statement relating to our May 02, 2023 Annual Meeting of Shareholders is here 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.
Information under the heading "Ownership of Macatawa Stock" in our definitive Proxy Statement relating to our May 02, 2023 Annual Meeting of Shareholders is here incorporated by reference.
The following table sets forth certain information regarding the Company's equity compensation plans as of December 31, 2022. The following information has been adjusted to reflect the effect of all stock dividends and stock splits.
Equity Compensation Plan Information
Plan Category
(a)
Number of securities
to
be issued upon
exercise
of outstanding
options,
warrants and rights
(b)
Weighted-average
Exercise price of
outstanding options,
warrants and rights
(c)
Number of securities remaining
available for future issuance
under
equity compensation plans
(excluding securities reflected in
column (a))
Equity compensation plans approved by security holders (1)
N/A
973,550
Equity compensation plans not approved by security holders
N/A
Total
N/A
973,550
(1)
Consists of the Macatawa Bank Corporation Stock Incentive Plan of 2015. The number of shares reflected in column (c) above with respect to the Macatawa Bank Corporation Stock Compensation Plan of 2015 (973,550 shares) represents shares that may be issued other than upon the exercise of an outstanding option, warrant or right. This plan contains customary anti-dilution provisions that are applicable in the event of a stock split or certain other changes in capitalization.
The Company has no equity compensation plans not approved by shareholders.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 13:
Certain Relationships and Related Transactions, and Director Independence.
Information under the headings "Transactions with Related Persons" and "The Board of Directors - Board Committees" in our definitive Proxy Statement relating to our May 02, 2023 Annual Meeting of Shareholders is here incorporated by reference.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
ITEM 14:
Principal Accountant Fees and Services.
Information under the headings "Independent Auditors - Fees and - Audit Committee Approval Policies" in our definitive Proxy Statement relating to our May 02, 2023 Annual Meeting of Shareholders is here incorporated by reference.
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PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
ITEM 15:
Exhibits and Financial Statement Schedules.
(a) 1.
The following documents are filed as part of Item 8 of this report:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2022 and 2021
Consolidated Statements of Income for the years ended December 31, 2022 and 2021
Consolidated Statements of Comprehensive Income for the years ended December 31, 2022 and 2021
Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2022 and 2021
Consolidated Statements of Cash Flows for the years ended December 31, 2022 and 2021
Notes to Consolidated Financial Statements
(a) 2.
Financial statement schedules are omitted because they are not required or because the information is set forth in the consolidated financial statements or related notes.
(a) 3.
The following exhibits are filed as part of this report:
Exhibit Number and Description
3.1
Restated Articles of Incorporation. Previously filed with the Commission on October 27, 2016 in Macatawa Bank Corporation’s Quarterly Report on Form 10-Q, Exhibit 3.1. Here incorporated by reference.
3.2
Bylaws. Previously filed with the Commission on February 19, 2015 in Macatawa Bank Corporation’s Annual Report on Form 10-K for the year ended December 31, 2014. Exhibit 3.2.
4.1
Restated Articles of Incorporation. Exhibit 3.1 is here incorporated by reference.
4.2
Bylaws. Exhibit 3.2 is here incorporated by reference.
4.3
Long-Term Debt. The registrant has outstanding long-term debt which at the time of this report does not exceed 10% of the registrant's total consolidated assets. The registrant agrees to furnish copies of the agreements defining the rights of holders of such long-term debt to the SEC upon request.
4.4
Description of Rights of Shareholders. Previously filed with the Commission on February 20, 2020 in Macatawa Bank Corporation’s Annual Report on Form 10-K for the year ended December 31, 2019, Exhibit 4.4. Here incorporated by reference.
10.1*
Form of Restricted Stock Agreement. Previously filed with the Commission on February 14, 2019 in Macatawa Bank Corporation’s Annual Report on Form 10-K for the year ended December 31, 2018, Exhibit 10.1. Here incorporated by reference.
10.2*
Macatawa Bank Corporation Stock Incentive Plan of 2015. Previously filed with the Commission on March 20, 2015 in Macatawa Bank Corporation’s 2015 Definitive Proxy Statement on Form DEF 14A. Here incorporated by reference.
10.3*
Change in control agreements between Macatawa Bank Corporation and its Chief Executive Officer, its Chief Operating Officer, and its Chief Financial Officer. Previously filed with the Commission on Form 8-K on June 22, 2015, Exhibits 10.1 and 10.2, and on Form 8-K on February 1, 2017, Exhibit 10.1. Here incorporated by reference.
10.4*
Form of Indemnity Agreement between Macatawa Bank Corporation and certain of its directors. Previously filed with the Commission on February 18, 2016 in Macatawa Bank Corporation’s Annual Report on Form 10-K for the year ended December 31, 2015, Exhibit 10.10. Here incorporated by reference.
10.5*
Board Representation Agreement dated November 5, 2008, between Macatawa Bank Corporation and White Bay Capital, LLC. Previously filed with the Commission on February 19, 2015, in Macatawa Bank Corporation’s Annual Report on Form 10-K for the year ended December 31, 2014, Exhibit 10.11. Here incorporated by reference.
Subsidiaries of the Registrant.
23.1
Consent of BDO USA, LLP, independent registered public accounting firm.
Powers of Attorney.
31.1
Certification of Chief Executive Officer.
31.2
Certification of Chief Financial Officer.
32.1
Certification pursuant to 18 U.S.C. § 1350.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
* Management contract or compensatory plan.
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The Registrant will furnish a copy of any exhibits listed on the Exhibit Index to any shareholder of the Registrant without charge upon written request to Chief Financial Officer, Macatawa Bank Corporation, 10753 Macatawa Drive, Holland, Michigan 49424.