MAINSTREET BANCSHARES, INC. The following discussion and analysis is intended as a review of significant factors affecting the Company's consolidated financial condition and results of operations for the periods indicated. This discussion and analysis should be read in conjunction with the accompanying consolidated financial statements and the related notes and the Company's Annual Report on Form 10-K, which contains audited consolidated financial statements of the Company as of and for the year endedDecember 31, 2021 , previously filed with theSEC onMarch 23, 2022 . Results for the three and nine months endedSeptember 30, 2022 are not necessarily indicative of results for the year endingDecember 31, 2022 or any future period. Forward-Looking Statements This Quarterly Report on Form 10-Q contains certain forward-looking statements and information relating to the Company within the meaning of the Private Securities Litigation Reform Act of 1995 that are based on the beliefs of management as well as assumptions made by and information currently available to management. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include words like "believe," "expect," "anticipate," "estimate," and "intend" or future or conditional verbs such as "will," "should," "could," or "may" and similar expressions or the negative thereof. Important factors that could cause actual results to differ materially from those in the forward-looking statements included herein include, but are not limited to:
? general economic conditions, either nationally or in our market area, that are
worse than expected;
? competition among depository and other financial institutions, particularly
intensified competition for deposits;
? inflation and an interest rate environment that may reduce our margins or
reduce the fair value of certain of our financial instruments;
? adverse changes in the securities markets;
? changes in laws or government regulations or policies affecting financial
institutions, including changes in regulatory structure and in regulatory fees
and capital requirements;
? the impact of significant changes in accounting procedures or requirements on
our financial condition or results of operations;
? our ability to enter new markets successfully and capitalize on growth
opportunities;
? our ability to successfully integrate acquired entities;
? changes in consumer spending, borrowing and savings habits;
? changes in accounting policies and practices;
? changes in our organization, compensation and benefit plans;
? our ability to attract and retain key employees;
? changes in our financial condition or results of operations that reduce
capital;
? changes in the financial condition or future prospects of issuers of
securities that we own;
? the concentration of our business in the
greater
economic, political and environmental conditions on those markets;
? adequacy of or increases in the allowance for loan losses;
24--------------------------------------------------------------------------------
? cyber threats, attacks or other data security events;
? fraud or misconduct by internal or external parties;
? reliance on third parties for key services;
? deterioration of our asset quality, including an increase in loan
delinquencies, problem assets and foreclosures;
? future performance of our loan portfolio with respect to recently originated
loans;
? additional risks related to new lines of business, products, product
enhancements or services;
? results of examination of us by our regulators, including the possibility that
our regulators may require us to increase our allowance for loan losses or to
write-down assets or take other supervisory action;
? the effectiveness of our internal controls over financial reporting and our
ability to remediate any future material weakness in our internal controls
over financial reporting;
? liquidity, interest rate and operational risks associated with our business;
? implications of our status as a smaller reporting company and as an emerging
growth company;
? a work stoppage, forced quarantine, or other interruption or the
unavailability of key employees; and
the continuing impact of the novel coronavirus disease (COVID-19) outbreak and
? measures taken in response for which future developments are highly uncertain
and difficult to predict.
Should one or more of these risks or uncertainties materialize or should
underlying assumptions prove incorrect, actual results may vary materially from
those described herein. We caution readers not to place undue reliance on
forward-looking statements. The Company disclaims any obligation to revise or
update any forward-looking statements contained in this Form 10-Q to reflect
future events or developments.
Overview
As used herein, the "Company," "we," "our," and "us" refer to
MainStreet Bancshares, Inc. MainStreet Bancshares, Inc. is a bank holding company that owns 100% ofMainStreet Bank andMainStreet Community Capital, LLC . OnOctober 12, 2021 , the Company filed an election to be a financial holding company with theBoard of Governors of theFederal Reserve System (the "Federal Reserve"). The Company elected financial holding company status in order to engage in a broader range of financial activities than are permitted for bank holding companies generally. The Company and its subsidiaries are incorporated in and chartered by theCommonwealth of Virginia . The Company's executive offices are located at10089 Fairfax Boulevard ,Fairfax, Virginia . Our telephone number is (703) 481-4567, and our internet address is www.mstreetbank.com. The information contained on our website shall not be considered part of this Quarterly Report on Form 10-Q, and the reference to our website does not constitute incorporation by reference of the information contained on the website.MainStreet Bank MainStreet Bank is a community commercial bank incorporated in and chartered by theCommonwealth of Virginia . The Bank is a member of theFederal Reserve Bank of Richmond , and its deposits are insured by theFDIC . The Bank opened for business onMay 26, 2004 , and is headquartered inFairfax, Virginia . We currently operate six Bank branches; located inHerndon ,Fairfax ,McLean , Clarendon,Leesburg inVirginia , and one inWashington D.C. We emphasize providing responsive and personalized services to our clients. Due to the consolidation of financial institutions in our primary market area, we believe there is a significant opportunity for a local bank to provide a full range of financial services. By offering highly professional, personalized banking products and service delivery methods and employing advanced banking technologies, we seek to distinguish ourselves from larger, regional banks operating in our market area and believe we are able to compete effectively with other community banks. We believe we have a solid franchise that meets the financial needs of our clients and communities by providing an array of personalized products and services delivered by seasoned banking professionals with decisions made at the local level. We believe a significant customer base in our market prefers to do business with a local institution that has a local management team, a local Board of Directors and local founders and that this customer base may not be satisfied with the responsiveness of larger regional banks. By providing quality services, coupled with the opportunities provided by the economies in our market area, we have generated and expect to continue to generate organic growth. We serviceNorthern Virginia as well as the greaterWashington, D.C. metropolitan area. Our goal is to deliver a customized and targeted mix of products and services that meets or exceeds customer expectations. To accomplish this goal, we have deployed a premium operating system that gives customers access to up-to-date banking technology. These systems and our highly skilled staff have allowed us to compete with larger financial institutions. The combination of sophisticated technology and personal service sets us apart from our competition. We strive to be the leading community bank in our market. 25 -------------------------------------------------------------------------------- We offer a full range of banking services to individuals, small to medium-sized businesses and professionals through both traditional and electronic delivery. We were the first community bank in theWashington, D.C. metropolitan area to offer a full online business banking solution, including remote check scanners on a business customer's desktop. We offer mobile banking apps for iPhones, iPads and Android devices that provide for remote deposit of checks. In addition, we were the first bank headquartered in theCommonwealth of Virginia to offer CDARS, the Certificate of Deposit Account Registry Service, an innovative deposit insurance solution that providesFDIC insurance on deposits up to$150 million . We believe that enhanced electronic delivery systems and technology increase profitability through greater productivity and cost control and allow us to offer new and better products and services. Our products and services include: business and consumer checking, premium interest-bearing checking, business account analysis, savings, certificates of deposit and other depository services, as well as a broad array of commercial, real estate and consumer loans. Internet account access is available for all personal and business accounts, internet bill payment services are available on most accounts, and a robust online cash management system is available for business customers. AvenuTM OnOctober 25, 2021 ,MainStreet Bancshares, Inc. formally introduced AvenuTM, a division ofMainStreet Bank . AvenuTM represents the Company's suite of Banking as a Service ("BaaS") solutions designed to meet the banking needs of Fintech customers. We believe our approach to providing a proprietary BaaS solution is unique. Our transformational subledger combined with our high-touch compliance training goes beyond the industry standards to ensure that our Fintech partners will prosper. This division ofMainStreet Bank currently serves money service businesses, payment processers, and Banking as a Service customers and provides the Bank with valuable low-cost deposits and additional streams of fee income. Our BaaS solution is in the late stage of development. A major component of the BaaS solution includes a fintech core, which is Software as a Service (SaaS).
InAugust 2021 , the Company created a community development entity ("CDE") subsidiary,MainStreet Community Capital, LLC , aVirginia limited liability company, to apply for New Market Tax Credit ("NMTC") allocations from theU.S. Department of Treasury's Community Development Financial Institutions Fund . To promote development in economically distressed areas, the NMTC program was established under the Community Renewal Tax Relief Act of 2000 to provide tax incentives for capital investment in disadvantaged market areas that have not experienced economic expansion. The program establishes a tax credit for investment in a CDE and ongoing compliance with the program is accomplished through a governing board and an advisory board which maintains accountability to residents and businesses in the aforementioned disadvantaged areas. This CDE will be an intermediary vehicle for the provision of loans and investments in Low-Income Communities ("LICs"). InJanuary 2022 , theCommunity Development Financial Institutions Fund ("CDFI") of theUnited States Department of the Treasury certifiedMainStreet Community Capital, LLC as a registered CDE. Impact of InflationThe United States is experiencing rising inflation. In response, the Federal Open Markets Committee (FOMC) raised the Federal Funds rate 25 basis points inMarch 2022 . Since March, theFOMC met four times and raised the Federal Funds rate an additional 275 basis points. In addition to raising the Federal Funds rate, theFederal Reserve may take other means necessary to fulfill its dual mandate. The effects of rising inflation and the actions of theFederal Reserve , as well as the economy at large may impact the Bank's customers, including their willingness and ability to repay their obligations, to invest, to save or to spend. This impact could affect the Bank's customers general appetite for banking products and the credit health of the Bank's customer base. The timing and impact of inflation and rising interest rates on our business and related financial results will depend on future developments, which are highly uncertain and difficult to predict.
Critical Accounting Policies
The accounting and financial reporting policies of the Company conform to accounting principles generally accepted inthe United States of America and to general practices within the banking industry. Accordingly, the financial statements require certain estimates, judgments, and assumptions, which are believed to be reasonable, based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the periods presented. Critical accounting policies comprise those that management believes are the most critical to aid in fully understanding and evaluating our reported financial results. These policies require numerous estimates or economic assumptions that may prove inaccurate or may be subject to variations which may significantly affect our reported results and financial condition for the current period or in future periods. Following the announcement by theU.K.'s Financial Conduct Authority inJuly 2017 that it will no longer persuade or require banks to submit rates for the London InterBank Offered Rate (LIBOR) after 2021. The Company has opted to use the published Secured Overnight Funding Rate (SOFR) as a substitute and replacement for any financial instruments that are or would otherwise be tied to the LIBOR index. 26
-------------------------------------------------------------------------------- Our critical accounting policies involving significant judgments and assumptions used in the preparation of the consolidated financial statements as ofSeptember 30, 2022 , since our Annual Report on Form 10-K for the year endedDecember 31, 2021 was filed, we have removed computer software and income taxes as critical account polices. Any additional changes are discussed in our Recently Issued Accounting Pronouncements.
Comparison of Statements of Income for the Three Months Ended
General Total revenue increased$6.0 million to$23.3 million for the three months endedSeptember 30, 2022 from$17.3 million for the three months endedSeptember 30, 2021 . These increases in total revenue were offset by increases in total expenses. Total expenses increased$2.7 million to$13.7 million for the three months endedSeptember 30, 2022 from$11.0 million for the three months endedSeptember 30, 2021 . The increase in revenue for the three months endedSeptember 30, 2022 was primarily due to increases in net interest income of$4.9 million over the same period in 2021. Income was positively impacted by interest earned on federal funds sold, which earned$1.0 million in additional interest for the three months endedSeptember 30, 2022 than the same period in 2021. These increases in income were offset by increases of$1.0 million in salaries and employee benefits for the three months endedSeptember 30, 2022 compared to the three months endedSeptember 30, 2021 . Net income increased$3.0 million to$7.7 million for the three months endedSeptember 30, 2022 from$4.8 million for the three months endedSeptember 30, 2021 . Interest Income Total interest income increased$6.1 million , or 38.8%, to$21.9 million for the three months endedSeptember 30, 2022 from$15.8 million for the three months endedSeptember 30, 2021 . The increase was primarily the result of an increase in interest and fees on loans of$5.1 million and an increase in interest on federal funds sold of$1.0 million . Total average interest-earning assets increased$145.3 million , to$1.74 billion for the three months endedSeptember 30, 2022 from$1.60 billion for the same period in 2021 primarily because of an increase of$0.19 billion in the average balance of loans, a$9.1 million increase in the average balance of investment securities and was offset by a decrease of$52.0 million in the average balance of federal funds sold and interest-earning deposits, as these funds were deployed into loans and securities. The average yield on our interest-earning assets increased 107 basis points to 5.01% for the three months endedSeptember 30, 2022 as compared to 3.94% for the three months endedSeptember 30, 2021 primarily because of higher average yields on interest earning assets due to market conditions, loans related to PPP lending with a rate of 1% paying off, and theFederal Reserve increasing the benchmark interest rates by 150 basis points over the course of the quarter. Interest and fees on loans increased$5.1 million , to$20.3 million for the three months endedSeptember 30, 2022 from$15.2 million for the same period in 2021. This increase was primarily due to an increase in the average yield on loans and the average loans outstanding increasing$0.19 billion , which increased to$1.45 billion as ofSeptember 30, 2022 from$1.26 billion as ofSeptember 30, 2021 . The average yield on loans increased 78 basis points, or 16.2%, for the three months endedSeptember 30, 2022 as compared to the three months endedSeptember 30, 2021 . Included in average loans for the three months endedSeptember 30, 2022 ,$2.8 million was attributable to average PPP loans. PPP loans have an interest rate of 1% and as the level of PPP loan repayments accelerate, the Bank is seeing loan yields rise to a normalized level. TheFederal Reserve increased the federal interest rate by 150 basis points throughout the quarter so the impact of this increase will not be fully demonstrated until the fourth quarter. Interest income on federal funds sold and interest-earning deposits increased by$1.0 million to$1.0 million for the three months endedSeptember 30, 2022 , from$0.0 million for the three months endedSeptember 30, 2021 . The increase was primarily due to an increase in the average yield on these deposits despite the average balances decreasing over the same time period. The average balance of interest-earning deposits and federal funds sold decreased$52.0 million to$182.3 million for the three months endedSeptember 30, 2022 from$234.4 million for the same period in 2021. The average yield increased to 2.20% for the three months endedSeptember 30, 2022 from 0.06% for the same period in 2021. The Bank deployed the balances in these accounts to fund loan growth during the third quarter of 2022. 27
-------------------------------------------------------------------------------- Interest on investment securities increased by$54,000 to$639,000 for the three months endedSeptember 30, 2022 from$585,000 for the three months endedSeptember 30, 2021 . Interest on investments inU.S Treasury,U.S. Government Agencies, andU.S Municipals decreased in total$8,000 , or 2.6%, to$317,000 for the three months endedSeptember 30, 2022 , from$325,000 for the three months endedSeptember 30, 2021 . Interest on mortgage-backed securities increased by$13,000 , or 12.3%, to$114,000 for the three months endedSeptember 30, 2022 , from$101,000 for the three months endedSeptember 30, 2021 . Subordinated debt interest income increased by$39,000 , or 42.6%, to$132,000 for the three months endedSeptember 30, 2022 , from$93,000 for the three months endedSeptember 30, 2021 . The average yield on taxable securities increased 12 basis points, to 2.03% and the average yield on tax-exempt securities decreased 19 basis points, to 3.44% on a tax equivalent basis for the three months endedSeptember 30, 2022 , from 1.91% and 3.63%, respectively, for the same period in 2021. As increased market rates resulted in declining value in investments, investment income increased due to the average balance of investment securities increasing by$9.1 million , to$112.0 million for the three months endedSeptember 30, 2022 , from$102.9 million for the three months endedSeptember 30, 2021 . Interest Expense Total interest expense increased$1.2 million , to$3.8 million for the three months endedSeptember 30, 2022 from$2.6 million for the three months endedSeptember 30, 2021 , primarily due to a$0.5 million increase in interest expense on time deposits and a$0.3 million increase in interest expense on money market deposits. There were additional increases in interest expense primarily due to newly issued subordinated debt in 2021 and 2022 and were included in the three months endedSeptember 30, 2022 over the three months endedSeptember 30, 2021 Interest expense on deposits increased$948,000 to$3.0 million for the three months endedSeptember 30, 2022 from$2.0 million for the three months endedSeptember 30, 2021 primarily as a result of an increase in average interest-bearing deposit yields and balances. The increase in average deposit balances was$30.6 million to$981.6 million during the three months endedSeptember 30, 2022 as compared to$951.0 million for the three months endedSeptember 30, 2021 . The increase in the average balance of interest-bearing deposits was primarily a result of an$28.6 million increase in the average balance of interest-bearing demand deposit accounts and by a$68.6 million increase in the average balance of time deposits. The average cost of deposits was 121 basis points for the three months endedSeptember 30, 2022 , compared to 85 basis points for the three months endedSeptember 30, 2021 . The average rate paid on money market deposits increased 58 basis points to 0.77% for the three months endedSeptember 30, 2022 from 0.19% for the three months endedSeptember 30, 2021 . The average rate paid on interest-bearing demand deposits increased 37 basis points to 0.74% for the three months endedSeptember 30, 2022 from 0.37% for the three months endedSeptember 30, 2021 primarily due to market competition and the interest rate environment. The average cost of certificates of deposit increased by 17 basis points to 1.57% for the three months endedSeptember 30, 2022 as compared to 1.40% for the three months endedSeptember 30, 2021 . The increase in the average balance of interest-bearing demand deposits for the three months endedSeptember 30, 2022 , primarily was the result of our continued effort to attract and retain low-cost deposits, and to reduce our reliance on wholesale deposits. The average balance of subordinated debt increased$31.5 million for the three months endedSeptember 30, 2022 , due to$30 million in refinanced debt issued in 2021 and an additional$43.7 million issued in the nine months endedSeptember 30, 2022 Net Interest Income Net interest income increased approximately$4.9 million , or 37.1%, to$18.1 million for the three months endedSeptember 30, 2022 from$13.2 million for the three months endedSeptember 30, 2021 because of our net interest-earning assets increasing$83.2 million to$687.3 million for the three months endedSeptember 30, 2022 from$604.1 million for the three months endedSeptember 30, 2021 . The interest rate spread increased by 66 basis points to 3.57% for the three months endedSeptember 30, 2022 from 2.91% for the three months endedSeptember 30, 2021 , on a tax equivalent basis. The net interest margin increased by 84 basis points from 3.30% for the three months endedSeptember 30, 2021 to 4.14% for the three months endedSeptember 30, 2022 on a tax equivalent basis. Refer to "Use of Certain Non-GAAP Financial Measures," below, for a reconciliation of adjusted net interest margin. 28
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Average Balances, Net Interest Income, Yields Earned and Rates Paid
The following table shows for the periods indicated the total dollar amount of
interest from average interest-earning assets and the resulting yields, as well
as the interest expense on average interest-bearing liabilities, expressed both
in dollars and rates, and the net interest margin. All average balances are
based on daily balances.
For
the Three Months Ended
2022 2021
Interest Interest
Income/ Yield/ Income/ Yield/
Average Balance Expense(6) Cost(5)(6) Average Balance Expense(6) Cost(5)(6)
(Dollars in thousands)
Interest-earning assets:
Loans (1) $ 1,446,679 $ 20,261 5.56 % $ 1,258,485 $ 15,162 4.78 %
Investment securities:
Taxable 73,914 378 2.03 % 65,974 318 1.91 %
Tax-exempt 38,074 330 3.44 % 36,919 338 3.63 %
Federal funds and
interest-bearing deposits 182,331 1,013 2.20 % 234,363 38 0.06 %
Total interest-earning assets 1,740,998 $ 21,982 5.01 % 1,595,741 $ 15,856 3.94 %
Non-interest-earning assets 61,479 88,521
Total assets $ 1,802,477 $ 1,684,262
Interest-bearing liabilities:
Interest-bearing demand
deposits $ 93,569 $ 175 0.74 % $ 64,966 $ 60 0.37 %
Savings and NOW deposits 55,100 43 0.31 % 75,968 38 0.20 %
Money market deposits 257,091 496 0.77 % 302,848 148 0.19 %
Time deposits 575,832 2,275 1.57 % 507,254 1,795 1.40 %
Total interest-bearing deposits 981,592 2,989 1.21 % 951,036 2,041 0.85 %
Federal funds purchased 2 - - 2 - -
Subordinated debt 72,107 828 4.56 % 40,609 541 5.29 %
Total interest-bearing
liabilities 1,053,701 $ 3,817 1.44 % 991,647 $ 2,582 1.03 %
Non-interest-bearing
liabilities:
Demand deposits and other
liabilities 558,337 510,008
Total liabilities 1,612,038 1,501,655
Stockholders' equity 190,439 182,607
Total liabilities and
stockholders' equity $ 1,802,477 $ 1,684,262
Net interest income $ 18,165 $ 13,274
Interest rate spread (2) 3.57 % 2.91 %
Net interest-earning assets (3) $ 687,297 $ 604,094
Net interest margin (4) 4.14 % 3.30 %
Average interest-earning assets
to average interest-bearing
liabilities 165.23 % 160.92 %
(1) Includes loans classified as non-accrual
(2) Interest rate spread represents the difference between the average yield on
average interest-earning assets and the average cost of average
interest-bearing liabilities.
(3) Net interest earning assets represent total average interest-earning assets
less total interest-bearing liabilities.
(4) Net interest margin represents net interest income divided by total average
interest-earning assets.
(5) Annualized.
(6) Income and yields for all periods presented are reported on a tax-equivalent
basis using the federal statutory tax rate of 21%. Refer to "Use of Certain
Non-GAAP Financial Measures."
29--------------------------------------------------------------------------------
Rate/ Volume Analysis
The following table presents the effects of changing rates and volumes on net
interest income for the periods indicated. The rate column shows the effects
attributable to changes in rate (changes in rate multiplied by prior average
volume). The volume column shows the effects attributable to changes in volume
(changes in average volume multiplied by prior rate). Changes attributable to
both volume and rate are allocated between the volume and rate categories. The
net column represents the sum of the prior columns.
For purposes of this table, changes attributable to both rate and volume, which
cannot be segregated, have been allocated proportionately, based on the changes
due to rate and the changes due to volume.
For the Three Months Ended
September 30, 2022 and 2021
Increase (Decrease) Due to Total Increase
Volume Rate (Decrease)
(In thousands)
Interest-earning assets:
Loans $ 2,438 $ 2,661 $ 5,099
Investment securities:
Taxable 39 21 60
Tax exempt 50 (58 ) (8 )
Federal funds and interest-bearing deposits (55 ) 1,030 975
Total interest-earning assets 2,472 3,654 6,126
Interest-bearing liabilities:
Interest-bearing demand deposits 29 86 115
Savings and NOW accounts (203 ) 551 348
Money market deposit accounts (42 ) 47 5
Time deposits 331 149 480
Total deposits 115 833 948
Subordinated debt 979 (692 ) 287
Total interest-bearing liabilities 1,094 141 1,235
Change in net interest income $ 1,378 $ 3,513 $ 4,891
Provision for Loan Losses
Management believes that the provision recorded for the period ended September
30, 2022 reflects a balance sufficient to provide for each allowance segment,
using objective data and information available to us at this time in evaluating
our standard analysis of local/national economic data, changes in underwriting
quality, portfolio concentrations, experience of lending team, and credit
quality. We will continuously review the loan portfolio to determine the depth
and breadth of potential loan losses. As we obtain additional information and to
more accurately assess the full nature and extent of elevated risk to the loan
portfolio that may arise, additional provision expenses may be required.
The provision for loan losses, which is an operating expense, is maintained to
ensure that the allowance for loan losses is maintained at levels we consider
necessary and appropriate to absorb both probable and reasonably estimated
credit losses at a balance sheet date. In determining the level of the allowance
for loan losses, we consider past and current loss experience, evaluations of
real estate collateral, current economic conditions, volume and type of lending,
adverse situations that may affect a borrower's ability to repay a loan and the
levels of non-performing loans. The amount of the allowance is based on
estimates, and actual losses may vary from such estimates as more information
becomes available over time or economic conditions change. This evaluation is
inherently subjective, as it requires estimates and assumptions that are
susceptible to significant revision as circumstances change as more information
becomes available. The allowance for loan losses is assessed monthly and
provisions are made for loan losses as required in order to maintain the
allowance.
The provision for loan losses decreased by $290,000 to a provision for loan
losses of $0 for the three months ended September 30, 2022 from a provision for
loan loss of $290,000 for the three months ended September 30, 2021 . Loan
originations, which totaled approximately $85.2 million for the three months
ended September 30, 2021 decreased $2.0 million compared to loan originations,
of $83.2 million for the three months ended September 30, 2022 . The Company has
not provisioned any allowance for loan losses for remaining PPP loans as they
are 100% guaranteed by Small Business Administration . The Company did not have
any non-performing loans at September 30, 2021 or September 30, 2022 .
On September 22, 2022 , the Company completed the sale of a loan note for
a customer that had stopped making payments and declared bankruptcy. The Company
incurred a loss of $211,000 on this transaction that was properly accounted for
in its Statement of Income as a loss on the sale of a loan. This credit had
previously identified weaknesses and deemed to be of substandard quality with an
appropriate reserve allocation. We determined that the best course of action
was to sell the note at a discount to an interested party. Had the loan sale
not occurred, the Company would have recorded a specific allocation to the
provision for loan losses and proceeded with an orderly liquidation of
collateral.
During the three months ended September 30, 2022 , special mention loans
decreased $15.6 million for a balance of $1.0 million , primarily due to credit
upgrades. Substandard loans decreased $13.0 million as of September 30, 2022 for
a balance of $11.3 million . Of the substandard loans as of September 30, 2022 ,
78% are connected to the hospitality industry. These loans were initially
impacted by the pandemic and were downgraded out of an abundance of caution
while cash flows and occupancy levels have continued to increase to pre-pandemic
levels. Management does not believe there will be losses associated with these
credits. During the three months ended September 30, 2022 , there were no
charge-offs incurred, and recoveries of $13,000 were received.
30
--------------------------------------------------------------------------------Non-Interest Income Non-interest income decreased$138,000 , or 9.3%, to$1.3 million for the three months endedSeptember 30, 2022 from$1.5 million for the three months endedSeptember 30, 2021 . The decrease in non-interest income was primarily due decreases in mortgage origination and prepayment penalty fee income in the three months endedSeptember 30, 2022 compared to the same period in 2021. The decrease associated with revenue streams was offset by an increase in loan swap fee income recognized of$518,000 for the three months endedSeptember 30, 2022 . The Company continues to focus on increasing fee income through loan swaps as it strategically benefits our customers. Non-Interest Expense Non-interest expense increased$1.4 million , or 16.9%, to$9.9 million for the three months endedSeptember 30, 2022 from$8.5 million for the three months endedSeptember 30, 2021 primarily because of increases in salary and employee benefits of$1.0 million and outside service expenses of$319,000 . Salaries and employee benefits expense increased by$1.0 million to$5.9 million for the three months endedSeptember 30, 2022 from$4.8 million for the three months endedSeptember 30 , 2021primarily as a result of twenty-nine new employees and the related salary and benefit expenses for these additional employees. Outside service expenses increased$319,000 , or 109.2%, to$611,000 for the three months endedSeptember 30, 2022 from$292,000 for the three months endedSeptember 30, 2021 due to investments in technology and costs associated withAvenu . Franchise taxes decreased approximately$21,000 to$365,000 for the three months endedSeptember 30, 2022 from$386,000 for the three months endedSeptember 30, 2021 because of the make up of the Company's capital as ofSeptember 30, 2022 compared to the balance sheet as ofSeptember 30, 2021 .FDIC insurance premiums decreased approximately$255,000 to$60,000 for the three months endedSeptember 30, 2022 from$315,000 for the three months endedSeptember 30, 2021 due to smaller than anticipated assessments from theFDIC . Advertising and marketing expenses increased$266,000 , or 60.7%, to$704,000 for the three months endedSeptember 30, 2022 from$438,000 for the three months endedSeptember 30, 2021 due to timing of contracts and continued investment in expanding the Company's brand. Income Tax Expense Income tax expense increased$653,000 , or 56.5%, to a tax expense of$1.8 million for the three months endedSeptember 30, 2022 from a tax expense of$1.2 million for the three months endedSeptember 30, 2021 . The increase in federal income tax expense for the three months endedSeptember 30, 2022 compared to the same period a year ago was driven by the increase in income before income taxes of$3.6 million , to income before income tax of$9.6 million as ofSeptember 30, 2022 compared to income before income tax expense of$5.9 million for the same period in the prior year. The Company was able to apply and claim a research and development tax credit of approximately$89,000 for its associated work in developing a software platform in 2021 and anticipates similar activity in 2022. As a result of expanding its footprint, the Company has included assessments in income tax expense for potential state tax liabilities which totaled$179,000 for the three months endedSeptember 30, 2022 . For the three months endedSeptember 30, 2022 , the Company had an effective tax expense rate of 18.9%, compared to effective tax expense rate of 19.5% for the three months endedSeptember 30, 2021 .
Comparison of Statements of Income for the Nine Months Ended
General Net income increased$1.7 million to$19.1 million for the nine months endedSeptember 30, 2022 from$17.4 million for the nine months endedSeptember 30, 2021 . The increase in net income for the nine months endedSeptember 30, 2022 was primarily due to increased levels of net interest income in response to the rising rate environment throughout 2022. During the nine months endedSeptember 30, 2022 , the Company's net interest income increased$9.7 million over the same period in 2021. Net income was also affected by increases of$2.7 million in salaries and employee benefits for the nine months endedSeptember 30, 2022 compared to the same period in 2021. Interest Income Total interest income increased$10.1 million , or 21.0%, to$58.1 million for the nine months endedSeptember 30, 2022 from$48.0 million for the nine months endedSeptember 30, 2021 . The increase was primarily the result of an increase in interest and fees on loans of$8.7 million and an increase in interest on federal funds and interest-bearing deposits of$1.2 million . Total average interest-earning assets increased$41.6 million , to$1.65 billion for the nine months endedSeptember 30, 2022 from$1.61 billion for the same period in 2021 primarily because of an increase of$126.7 million in the average balance of loans, a$17.6 million increase in the average balance of investment securities and was offset by a decrease of$102.7 million in the average balance of federal funds and interest-bearing deposits as a large portion of our cash was used to fund loan growth late throughout the year. The average yield on our interest-earning assets increased 71 basis points to 4.71% for the nine months endedSeptember 30, 2022 as compared to 4.00% for the nine months endedSeptember 30, 2021 primarily because of higher average yields on interest earning assets due to market conditions, loans related to PPP lending with a rate of 1% paying off, and theFederal Reserve increasing the benchmark interest rates by 300 basis points. Interest and fees on loans increased$8.7 million , to$54.9 million for the nine months endedSeptember 30, 2022 from$46.2 million for the same period in 2021. This increase was primarily due to an increase in the average yield on loans and the average loans outstanding increasing$126.7 million , which increased to$1.42 billion as ofSeptember 30, 2022 from$1.29 billion as ofSeptember 30, 2021 . The average yield on loans increased 39 basis points, or 8.2%, for the nine months endedSeptember 30, 2022 as compared to the nine months endedSeptember 30, 2021 . Included in average loans for the nine months endedSeptember 30, 2022 ,$17.6 million was attributable to average PPP loans. PPP loans have an interest rate of 1% and as the level of PPP loan repayments accelerate, the Bank is seeing loan yields rise to a normalized level. TheFederal Reserve increased the federal interest rate by 300 basis points over the first nine months so we continue to see the impact of these increases as we progress towards the end of the year. Interest income on federal funds sold and interest-earning deposits increased by$1.2 million to$1.2 million for the nine months endedSeptember 30, 2022 , from$73,000 for the nine months endedSeptember 30, 2021 . The increase was primarily due to an increase in the average yield on these federal funds despite the average balances decreasing over the same time period. The average balance of interest-earning deposits and federal funds sold decreased$102.7 million to$121.8 million for the nine months endedSeptember 30, 2022 from$224.5 million for the same period in 2021. The average yield increased to 1.36% for the nine months endedSeptember 30, 2022 from 0.04% for the same period in 2021. The Bank deployed the balances in these accounts to fund loan growth during the first nine months of 2022. 31
-------------------------------------------------------------------------------- Interest on investment securities increased by$220,000 to$1.9 million for the nine months endedSeptember 30, 2022 from$1.7 million for the nine months endedSeptember 30, 2021 . Interest on investments inU.S Treasury,U.S. Government Agencies, andU.S Municipals decreased in total$2,000 , or 0.2%, to$969,000 for the nine months endedSeptember 30, 2022 , from$972,000 for the nine months endedSeptember 30, 2021 . Interest on mortgage-backed securities increased by 50,000, or 18.5%, to$321,000 for the nine months endedSeptember 30, 2022 , from$271,000 for the nine months endedSeptember 30, 2021 . Subordinated debt interest income increased by$117,000 , or 43.1%, to$388,000 for the nine months endedSeptember 30, 2022 , from$271,000 for the nine months endedSeptember 30, 2021 . The average yield on taxable securities decreased 5 basis points, to 2.07% and the average yield for tax-exempt securities decreased 18 basis points, on a tax equivalent basis, for the nine months endedSeptember 30, 2022 , from 2.12% and 3.66%, respectively, for the same period in 2021. Despite decreasing yields, investment income increased due to the average balance of investment securities increasing by$17.6 million , to$112.2 million for the nine months endedSeptember 30, 2022 , from$94.6 million for the nine months endedSeptember 30, 2021 Interest Expense Total interest expense increased$333,000 , to$8.7 million for the nine months endedSeptember 30, 2022 from$8.3 million for the nine months endedSeptember 30, 2021 , primarily due to a$762,000 increase in interest expense on subordinated debt and a$175,000 increase in interest expense on interest-bearing demand deposits. These increases were offset by a decrease of$803,000 in interest expense in time deposits. The increase in subordinated debt is primarily due to refinancing subordinated debt in 2021 and newly issued subordinated debt in 2022 that was included in the nine months endedSeptember 30, 2022 as opposed to the nine months endedSeptember 30, 2021 . There were additional increases in interest expense onFederal Home Loan Bank advances of$83,000 in the nine months endedSeptember 30, 2022 over the same period in 2021. Interest expense on deposits decreased$512,000 to$6.5 million for the nine months endedSeptember 30, 2022 from$7.0 million for the nine months endedSeptember 30, 2021 primarily as a combination result of some decreases in average interest-bearing deposit yields and balances. The decrease in average deposit balances was$76.5 million to$917.8 million during the nine months endedSeptember 30, 2022 as compared to$994.3 million for the nine months endedSeptember 30, 2021 . The decrease in the average balance of interest-bearing deposits was primarily a result of a$92.7 million decrease in the average balance of money market deposit accounts but was offset by a$19.5 million decrease in the average balance of interest-bearing demand deposits. The average cost of deposits remained the same at 94 basis points for both the nine months endedSeptember 30, 2022 as for the nine months endedSeptember 30, 2021 . The average rate paid on money market deposits increased 15 basis points to 0.40% for the nine months endedSeptember 30, 2022 from 0.25% for the nine months endedSeptember 30, 2021 . The average rate paid on interest-bearing demand deposits increased 19 basis points to 0.53% for the nine months endedSeptember 30, 2022 from 0.34% for the nine months endedSeptember 30, 2021 primarily due to market competition. The average cost of certificates of deposit decreased by 22 basis points to 1.37% for the nine months endedSeptember 30, 2022 as compared to 1.59% for the nine months endedSeptember 30, 2021 . The increase in the average balance of interest-bearing demand deposits for the nine months endedSeptember 30, 2022 , primarily was the result of our continued effort to attract and retain low-cost deposits. and to reduce our reliance on wholesale deposits. Interest expense on advances from theFederal Home Loan Bank increased$83,000 to$83,000 for the nine months endedSeptember 30, 2022 , from$0 for the nine months endedSeptember 30, 2021 as a result an average balance of$24.0 million of outstanding advances on theFederal Home Loan Bank for the nine months endedSeptember 30, 2022 compared to no advances for the nine months endedSeptember 30, 2021 . The average balance of subordinated debt increased$62.8 million for the nine months endedSeptember 30, 2022 , due to an additional$30 million in refinanced debt issued in 2021 and$43.7 million issued in the nine months endedSeptember 30, 2022 . Net Interest Income Net interest income increased approximately$9.7 million , or 24.6%, to$49.4 million for the nine months endedSeptember 30, 2022 from$39.7 million for the nine months endedSeptember 30, 2021 because of our net interest-earning assets increasing$63.1 million to$649.4 million for the nine months endedSeptember 30, 2022 from$586.3 million for the nine months endedSeptember 30, 2021 . The interest rate spread increased by 64 basis points to 3.56% for the nine months endedSeptember 30, 2022 from 2.92% for the nine months endedSeptember 30, 2021 . The net interest margin increased by 70 basis points from 3.31% for the nine months endedSeptember 30, 2021 to 4.01% for the nine months endedSeptember 30, 2022 on a tax equivalent basis. Refer to "Use of Certain Non-GAAP Financial Measures," below, for a reconciliation of adjusted net interest margin. 32
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Average Balances, Net Interest Income, Yields Earned and Rates Paid
The following table shows for the periods indicated the total dollar amount of
interest from average interest-earning assets and the resulting yields, as well
as the interest expense on average interest-bearing liabilities, expressed both
in dollars and rates, and the net interest margin. All average balances are
based on daily balances.
For
the Nine Months Ended
2022 2021
Interest Interest
Income/ Yield/ Income/ Yield/
Average Balance Expense (6) Cost(5)(6) Average Balance Expense(6) Cost(5)(6)
(Dollars in thousands)
Interest-earning assets:
Loans (1) $ 1,420,013 $ 54,900 5.17 % $ 1,293,359 $ 46,211 4.78 %
Investment securities:
Taxable 73,496 1,136 2.07 % 57,503 910 2.12 %
Tax-exempt 38,703 1,008 3.48 % 37,072 1,015 3.66 %
Federal funds and
interest-bearing deposits 121,832 1,241 1.36 % 224,521 73 0.04 %
Total interest-earning assets 1,654,044 $ 58,285 4.71 % 1,612,455 $ 48,209 4.00 %
Non-interest-earning assets 71,361 76,758
Total assets $ 1,725,405 $ 1,689,213
Interest-bearing liabilities:
Interest-bearing demand
deposits $ 86,836 $ 345 0.53 % $ 67,345 $ 170 0.34 %
Savings and NOW deposits 66,714 122 0.24 % 72,591 127 0.23 %
Money market deposits 252,992 766 0.40 % 345,662 645 0.25 %
Time deposits 511,242 5,236 1.37 % 508,722 6,039 1.59 %
Total interest-bearing
deposits 917,784 6,469 0.94 % 994,320 6,981 0.94 %
Federal funds purchased 2 - - 1 - -
Subordinated debt 62,807 2,108 4.49 % 31,815 1,346 5.66 %
Federal Home Loan Bank
advances 24,011 83 0.46 % - - -
Total interest-bearing
liabilities 1,004,604 $ 8,660 1.15 % 1,026,136 $ 8,327 1.08 %
Non-interest-bearing
liabilities:
Demand deposits and other liabilities 531,115 486,510 Total liabilities 1,535,719 1,512,646 Stockholders' Equity 189,686 176,567 Total liabilities and stockholders' equity$ 1,725,405 $ 1,689,213 Net interest income$ 49,625 $ 39,882 Interest rate spread (2) 3.56 % 2.92 % Net interest-earning assets (3) $ 649,440 $ 586,319 Net interest margin (4) 4.01 % 3.31 % Average interest-earning assets to average interest-bearing liabilities 164.65 %
157.14 %
(1) Includes loans classified as non-accrual
(2) Interest rate spread represents the difference between the average yield on
average interest-earning assets and the average cost of average
interest-bearing liabilities.
(3) Net interest earning assets represent total average interest-earning assets
less total interest-bearing liabilities.
(4) Net interest margin represents net interest income divided by total average
interest-earning assets.
(5) Annualized.
(6) Income and yields for all periods presented are reported on a tax-equivalent
basis using the federal statutory tax rate of 21%. Refer to "Use of Certain
Non-GAAP Financial Measures."
33--------------------------------------------------------------------------------
Rate/ Volume Analysis
The following table presents the effects of changing rates and volumes on net
interest income for the periods indicated. The rate column shows the effects
attributable to changes in rate (changes in rate multiplied by prior average
volume). The volume column shows the effects attributable to changes in volume
(changes in average volume multiplied by prior rate). Changes attributable to
both volume and rate are allocated between the volume and rate categories. The
net column represents the sum of the prior columns.
For purposes of this table, changes attributable to both rate and volume, which
cannot be segregated, have been allocated proportionately, based on the changes
due to rate and the changes due to volume.
For the Nine Months Ended
September 30, 2022 and 2021
Increase (Decrease) Due to Total Increase
Volume Rate (Decrease)
(In thousands)
Interest-earning assets:
Loans $ 4,740 $ 3,949 $ 8,689
Investment securities:
Taxable 262 (36 ) 226
Tax exempt 60 (67 ) (7 )
Federal funds and interest-bearing deposits (65 ) 1,233 1,168
Total interest-earning assets 4,997 5,079 10,076
Interest-bearing liabilities:
Interest-bearing demand deposits 60 115 175
Savings and NOW accounts (13 ) 8 (5 )
Money market deposit accounts (283 ) 404 121
Time deposits 50 (853 ) (803 )
Total deposits (186 ) (326 ) (512 )
Federal Home Loan Bank advances 83 - 83
Subordinated debt 1,243 (481 ) 762
Total interest-bearing liabilities 1,140 (807 ) 333
Change in net interest income $ 3,857 $ 5,886 $ 9,743
Provision for Loan Losses
Management believes that the provision recorded for the period ended September
30, 2022 reflects a balance sufficient to provide for each allowance segment,
using objective data and information available to us at this time in evaluating
our standard analysis of local/national economic data, changes in underwriting
quality, portfolio concentrations, experience of lending team, and credit
quality. We will continuously review the loan portfolio to determine the depth
and breadth of potential loan losses. As we obtain additional information and to
more accurately assess the full nature and extent of elevated risk to the loan
portfolio that may arise, additional provision expenses may be required.
The provision for loan losses, which is an operating expense, is maintained to
ensure that the allowance for loan losses is maintained at levels we consider
necessary and appropriate to absorb both probable and reasonably estimated
credit losses at a balance sheet date. In determining the level of the allowance
for loan losses, we consider past and current loss experience, evaluations of
real estate collateral, current economic conditions, volume and type of lending,
adverse situations that may affect a borrower's ability to repay a loan and the
levels of non-performing loans. The amount of the allowance is based on
estimates, and actual losses may vary from such estimates as more information
becomes available over time or economic conditions change. This evaluation is
inherently subjective, as it requires estimates and assumptions that are
susceptible to significant revision as circumstances change as more information
becomes available. The allowance for loan losses is assessed monthly and
provisions are made for loan losses as required in order to maintain the
allowance.
Provision for loan losses increased by $2.8 million to a provision for loan
losses of $1.3 million for the nine months ended September 30, 2022 from a
non-recurring recovery of provision expense of $1.5 million for the nine months
ended September 30, 2021 , primarily related to recovering most of the special
COVID pandemic provision in 2021. The provision for loan losses for the nine
months ended September 30, 2022 represents normal loan loss provisioning
associated with loan growth. Loan originations, which totaled approximately
$264.9 million for the nine months ended September 30, 2021 increased $70.7
million compared to loan originations of $335.7 million for the nine months
ended September 30, 2022 . The Company has not provisioned any allowance for loan
losses for remaining PPP loans as they are 100% guaranteed by Small Business
Administration . The Company did not have any non-performing loans at September
30, 2021 or at September 30, 2022 . During the nine months ended September 30,
2021 the Company increased some qualitative assumptions in the allowance for
loan loss model to account for potential economic uncertainty and potential
hidden credit risk.
During the nine months ended September 30, 2022 , special mention loans decreased
$16.1 million for a balance of $725,000 . Substandard loans increased
$6.0 million for a balance of $11.3 million as of September 30, 2022 Of the
substandard loans, 79% are connected to the hospitality industry. These loans
were initially impacted by the pandemic and were downgraded out of an abundance
of caution while cash flows and occupancy levels have continued to increase to
pre-pandemic levels. Management does not believe there will be losses associated
with these credits. During the nine months ended September 30, 2022 , there were
no charge-offs incurred, and recoveries of $18,000 were received.
34
--------------------------------------------------------------------------------Non-Interest Income Non-interest income decreased$714,000 , or 15.9%, to$3.8 million for the nine months endedSeptember 30, 2022 from$4.5 million for the nine months endedSeptember 30, 2021 . The decrease in non-interest income was because mortgage originations and other loan fees were down$340,000 and$370,000 , respectively, for the nine months endedSeptember 30, 2022 , compared to the same period in the prior year. These decreases were offset by increases in loan swap fee income of$619,000 and$109,000 in bank owned life insurance income for the nine months endedSeptember 30, 2022 . The deposit account services fees largely remained consistent in the nine months endedSeptember 30, 2022 and the same period in 2021. The Company continues to focus on increasing fee income through loan swaps as it strategically benefits our customers. Non-Interest Expense Non-interest expense increased$4.2 million , or 17.4%, to$28.3 million for the nine months endedSeptember 30, 2022 from$24.1 million for the nine months endedSeptember 30, 2021 primarily because of increases in salary and employee benefits of$2.7 million and advertising and marketing expenses of$569,000 . Salaries and employee benefits expense increased by$2.7 million to$17.0 million for the nine months endedSeptember 30, 2022 from$14.3 million for the nine months endedSeptember 30 , 2021primarily as a result of twenty nine employees and the related salary and benefit expenses for these additional employees. Advertising and marketing expenses increased$569,000 , or 47.4%, to$1.7 million for the nine months endedSeptember 30, 2022 from$1.1 million for the nine months endedSeptember 30, 2021 due to new strategic partnerships and timing of initiatives. Other outside services expense increased$637,000 , or 70.2%, to$1.5 million for the nine months endedSeptember 30, 2022 as the Company continues to build out itsAvenu platform. Franchise taxes decreased approximately$93,000 to$1.1 million for the nine months endedSeptember 30, 2022 from$1.2 million for the nine months endedSeptember 30, 2021 because of the make up of the Company's capital as ofSeptember 30, 2022 compared to the balance sheet as ofSeptember 30, 2021 .FDIC insurance premiums decreased approximately$585,000 to$450,000 for the nine months endedSeptember 30, 2022 from$1.0 million for the nine months endedSeptember 30, 2021 due to lower than anticipated assessments from theFDIC . Income Tax Expense Income tax expense increased$338,000 , or 8.2%, to a tax expense of$4.5 million for the nine months endedSeptember 30, 2022 from a tax expense of$4.1 million for the nine months endedSeptember 30, 2021 . The increase in federal income tax expense for the nine months endedSeptember 30, 2022 compared to the same period a year ago was driven by the increase in income before income taxes of$2.1 million , to income before income tax of$23.6 million for the nine months endedSeptember 30, 2022 compared to income before income tax expense of$21.5 million for the same period in the prior year. The Company was able to apply and claim a research and development tax credit of approximately$89,000 for its associated work in developing a software platform and anticipates similar activity in 2022. As a result of expanding its footprint, the Company has included assessments in income tax expense for potential state tax liabilities which totaled$403,000 for the nine months endedSeptember 30, 2022 . For the nine months endedSeptember 30, 2022 , the Company had an effective tax expense rate of 18.9%, compared to effective tax expense rate of 19.2% for the nine months endedSeptember 30, 2021 .
Comparison of Statements of Financial Condition at
Total Assets Total assets increased$212.7 million , or 12.9%, to$1.9 billion atSeptember 30, 2022 from$1.6 billion atDecember 31, 2021 . The increase was primarily the result of increases in the loan portfolio of$106.3 million ,$62.4 million in securities available-for-sale and$29.3 million in other assets. These increases were offset by a decrease of$2.7 million in held-to-maturity securities as ofSeptember 30, 2022 .Investment Securities Investment securities increased$59.7 million , or 49.7%, from$120.3 million atDecember 31, 2021 to$180.0 million atSeptember 30, 2022 . The increase was primarily in the available-for-sale portfolio, particularly inU.S treasury securities. AtSeptember 30, 2022 , our held-to-maturity portion of the securities portfolio, at amortized cost, was$17.7 million , and our available-for-sale portion of the securities portfolio, at fair value, was$162.3 million compared to our held-to-maturity portion of the securities portfolio of$20.3 million and our available-for-sale portion of the securities portfolio of$99.9 million atDecember 31, 2021 . Net Loans Net loans increased$106.3 million , or 7.9%, to$1.45 billion atSeptember 30, 2022 from$1.34 billion atDecember 31, 2021 . Residential real estate loans increased$72.7 million , or 24.2%, to$373.1 million atSeptember 30, 2022 from$300.4 million atDecember 31, 2021 . Commercial real estate loans increased by$103.9 million from$534.2 million atDecember 31, 2021 to$638.1 million atSeptember 30, 2022 . Commercial and industrial loans decreased by$89.5 million from$164.0 million atDecember 31, 2021 to$74.5 million atSeptember 30, 2022 . Paycheck Protection Program ("PPP") loans comprised$1.8 million of this portfolio as ofSeptember 30, 2022 . Commercial and industrial loans, excluding PPP loans, decreased by$33.0 million fromDecember 31, 2021 toSeptember 30, 2022 . Construction loans increased$29.5 million to$366.7 million atSeptember 30, 2022 from$337.2 million atDecember 31, 2021 . Consumer loans decreased by$9.6 million from$23.2 million atDecember 31, 2021 to$13.6 million atSeptember 30, 2022 . The$9.6 million decrease in consumer loans is primarily a result of management's decision to let the indirect lending portfolio amortize off the balance sheet. 35 --------------------------------------------------------------------------------
Allowance for Loan Losses
The allowance for loan losses represents an amount that, in our judgment, will
be adequate to absorb probable losses inherent in the loan portfolio. The
provision for loan losses increases the allowance, and loans charged off, net of
recoveries, reduce the allowance. The table below summarizes the allowance
activity for the periods indicated:
For the Nine For the Year
Months Ended Ended December
September 30, 31,
2022 2021
(Dollars in thousands)
Balance at beginning of year $ 11,697 $ 12,877
Charge-offs:
Consumer - (32 )
Total charge-offs - (32 )
Recoveries:
Commercial and industrial - 11
Consumer 17 16
Total recoveries 17 27
Net (charge-offs) recoveries 17 (5 )
Provision for (recovery of) loan losses 1,280 (1,175 )
Balance at end of period $ 12,994 $ 11,697
Ratios:
Net charge offs to average loans outstanding 0.00 % 0.00 %
Allowance for loan losses to non-performing loans at end of period
N/A N/A
Allowance for loan losses to gross loans at end of
period 0.89 % 0.86 %
Deposits
Deposits increased $142.0 million , or 10.1% to $1.55 billion at September 30,
2022 from $1.41 billion at December 31, 2021 . Our core deposits decreased $50.0
million , or 4.5%, to $1.16 billion at September 30, 2022 from $1.11 billion at
December 31, 2021 . Non-interest bearing demand deposits increased $35.3 million ,
or 6.7%, to $566.0 million at September 30, 2022 from $530.7 million at December
31, 2021 . Interest bearing demand deposits increased $24.5 million , or 35.3%,
to $93.7 million at September 30, 2022 from $69.2 million at December 31, 2021 .
Certificates of deposits increased $126.6 million , or 27.6%, to $585.8 million
at September 30, 2022 from $459.1 million at December 31, 2021 . Offsetting these
increases were savings and NOW deposits which decreased $30.9 million , or 36.3%
to $54.2 million at September 30, 2022 from $85.2 million at December 31, 2021 .
The increase in interest bearing demand deposit accounts and time deposits were
primarily the result of executing on a strategy to continue decreasing our cost
of funds while continuing to driving loan growth.
Nonperforming Assets
The following table presents information regarding nonperforming assets at the
dates indicated:
September 30, December 31,
2022 2021
(Dollars in thousands)
Other real estate owned - 775
Total non-performing assets $ - $ 775
Ratios:
Total non-performing loans to gross loans receivable 0.00 % 0.00 %
Total non-performing loans to total assets 0.00 % 0.00 %
Total non-performing assets to total assets 0.00 % 0.05 %
36--------------------------------------------------------------------------------
Liquidity and Capital Resources
Liquidity Management. Liquidity describes our ability to meet the financial obligations that arise in the ordinary course of business. Liquidity is primarily needed to meet the borrowing and deposit withdrawal requirements of our customers and to fund current and planned expenditures. Deposits are the primary source of funds for lending and investing activities; however, the Company also utilizes wholesale deposits as a funding source in addition to customer deposits. Scheduled payments, as well as prepayments, and maturities from portfolios of loans and investment securities also provide a stable source of funds. FHLB advances, other secured borrowings, federal funds purchased, and other short-term borrowed funds, as well as longer-term debt issued through the capital markets, all provide supplemental liquidity sources. The Company's funding activities are monitored and governed through the Company's asset/liability management process.MainStreet Bank had noFederal Home Loan Bank advances outstanding and unused borrowing capacity of$448.4 million as ofSeptember 30, 2022 . Additionally, atSeptember 30, 2022 , we had the ability to borrow up to$104.0 million from other financial institutions. The Board of Directors, management, and the Asset Liability Committee (ALCO) are responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We believe that we have enough sources of liquidity to satisfy our short and long-term liquidity needs as ofSeptember 30, 2022 . We monitor and adjust our investments in liquid assets based upon our assessment of expected loan demand; expected deposit flows; yields available on interest-earning deposits and securities; and the objectives of our asset/liability management program. Excess liquid assets are invested generally in interest-earning deposits and short-and intermediate-term securities. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and cash equivalents, which include federal funds sold and interest-earning deposits in other banks. The levels of these assets are dependent on our operating, financing, lending and investing activities during any given period. AtSeptember 30, 2022 , cash and cash equivalents totaled$104.7 million . The Company has availability on secured and unsecured lines for an additional$552.4 million . Finally, securities classified as available-for-sale, which provide additional sources of liquidity, totaled$162.3 million atSeptember 30, 2022 . Our cash flows are provided by and used in three primary activities: operating activities, investing activities, and financing activities. Net cash provided by operating activities was$22.9 million and$25.1 million for the nine months endedSeptember 30, 2022 andSeptember 30, 2021 , respectively. There were no sales of securities in the nine months endedSeptember 30, 2022 or for nine months endedSeptember 30, 2021 . Net cash used in investing activities, which consist primarily of disbursements for loan originations and the purchase of securities, offset by principal collections on loans and proceeds from maturing securities, was$186.2 million and net cash provided of$983,000 for the nine months endedSeptember 30, 2022 andSeptember 30, 2021 , respectively. Net cash provided by financing activities was$174.9 million and$140,000 for the nine months endedSeptember 30, 2022 and 2021, respectively, which consisted primarily of increases subordinated debt net of issuance costs of$42.6 million offset and increases in interest bearing deposits of$106.6 million for the nine months endedSeptember 30, 2022 . We are committed to maintaining a strong liquidity position. We monitor our liquidity position daily. We anticipate that we have sufficient funds to meet our current funding commitments. Certificates of deposit due within one year ofSeptember 30, 2022 , totaled$424.3 million of total deposits. If these deposits do not remain with us, we will be required to seek other sources of funds, including other deposits,Federal Home Loan Bank advances and commitments from other financial institutions. Depending on market conditions, we may be required to pay higher rates on such deposits or borrowings than we currently pay. We believe, however, based on experience that a significant portion of such deposits will remain with us. We can attract and retain deposits by adjusting the interest rates offered. Effects of Inflation. Inflation has caused a substantial rise in interest rates during 2022, which has had a negative effect in the securities market. As a result of rising interest rates, the Company has recorded an accumulated other comprehensive loss on securities available for sale of approximately$9.8 million as compared to recording other comprehensive income in the amount of$197,000 as ofDecember 31, 2022 . Thus, this has ran counter to total equity growth during 2022 even though net earnings has been strong. Management does not anticipate these losses to be other than temporary as these unrealized losses do not currently appear related to any credit deterioration within the portfolio but from higher interest rates. Capital Management.MainStreet Bank is subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. AtSeptember 30, 2022 ,MainStreet Bank exceeded all regulatory capital requirements and was considered "well capitalized" under regulatory guidelines. OnJanuary 19, 2022 , the Board of Directors of the Company declared an initial cash dividend to common shareholders. Subsequent quarterly dividends have been declared and paid since that time. The Board of Directors will consider future dividends on a quarterly basis after its review of the Company's financial condition, results of operations, and other factors.Regulatory Capital Information presented forSeptember 30, 2022 andDecember 31, 2021 , reflects the Basel III capital requirements that became effectiveJanuary 1, 2015 for the Bank. Under these capital requirements and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk- weightings and other factors. 37
-------------------------------------------------------------------------------- The Basel III Capital Rules, a comprehensive capital framework forU.S. banking organizations, became effective for the Company and the Bank onJanuary 1, 2015 (subject to a phase-in period for certain provisions). Under the Basel III rules, the Company must hold a capital conservation buffer above the adequately capitalized risk-based capital ratios. The capital conservation buffer for 2022 is 2.50%. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios of Total capital, Common Equity Tier 1 capital, and Tier 1 capital (as defined in the regulations) to risk weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as ofSeptember 30, 2022 , the Company and the Bank meet all capital adequacy requirements to which each is subject. The Bank's actual capital amounts and ratios are presented in the table (dollars in thousands): To Be Well Capitalized Under the Actual Capital Adequacy Purposes Prompt Corrective Action Provision (Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio As of September 30, 2022 Total capital (to risk-weighted assets)$ 266,660 16.39 %$ 130,184 ? 8.0%$ 162,730 > 10.0% Common equity tier 1 capital (to risk-weighted assets)$ 253,666 15.59 %$ 73,229 ? 4.5%$ 130,184 > 8.0% Tier 1 capital (to risk-weighted assets)$ 253,666 15.59 %$ 97,638 ? 6.0%$ 130,184 > 8.0% Tier 1 capital (to average assets)$ 253,666 14.01 %$ 72,422 ? 4.0%$ 90,527 > 5.0% As of December 31, 2021 Total capital (to risk-weighted assets)$ 227,359 16.06 %$ 113,249 ? 8.0%$ 141,562 ? 10.0% Common equity tier 1 capital (to risk-weighted assets)$ 215,662 15.23 %$ 63,703 ? 4.5%$ 113,249 ? 8.0% Tier 1 capital (to risk-weighted assets)$ 215,662 15.23 %$ 84,937 ? 6.0%$ 113,249 ? 8.0% Tier 1 capital (to average assets)$ 215,662 12.90 %$ 66,898 ? 4.0%$ 83,622 ? 5.0%
Off-Balance Sheet Arrangements and Contractual Obligations
Commitments. As a financial services provider, we routinely are a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. While these contractual obligations represent our future cash requirements, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans we make. AtSeptember 30, 2022 , we had outstanding loan commitments of$393.4 million and no outstanding stand-by letters of credit. We anticipate that we will have sufficient funds available to meet our current lending commitments.
Use of Certain Non-GAAP Financial Measures
The accounting and reporting policies of the Company conform toU.S. GAAP and prevailing practices in the banking industry. However, certain non-GAAP measures are used by management to supplement the evaluation of the Company's performance. These measures include adjusted net interest income and net interest margin. Management believes that the use of these non-GAAP measures provides meaningful information about operating performance by enhancing comparability with other financial periods and other financial institutions. The non-GAAP measures used by management enhance comparability by excluding the effects of items that do not reflect ongoing operating performance, including non-recurring gains or charges. These non-GAAP financial measures should not be considered an alternative toU.S. GAAP-basis financial statements, and other bank holding companies may define or calculate these or similar measures differently. A reconciliation of the non-GAAP financial measures used by the Company to evaluate and measure the Company's performance to the most directly comparableU.S. GAAP financial measures is presented below. 38 --------------------------------------------------------------------------------
For the three months ended For the nine months ended
September 30, September 30,
(Dollars in thousands, except for per
share data) 2022 2021 2022 2021
Net interest margin, fully-taxable
equivalent (FTE)
Net interest income (GAAP) $ 18,096 $ 13,203 $ 49,413 $ 39,669
FTE adjustment on tax-exempt securities 69 71 212 213
Net interest income (FTE) (non-GAAP) 18,165 13,274 49,625 39,882
Average interest earning assets 1,740,998 1,595,741 1,654,044 1,612,455
Net interest margin (GAAP) 4.12 % 3.28 % 3.99 % 3.29 %
Net interest margin (FTE) (non-GAAP) 4.14 % 3.30 % 4.01 % 3.31 %
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