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ORRSTOWN FINANCIAL SERVICES INC – 10-Q – Management's Discussion and Analysis of Financial Condition and Results of Operations
Edgar Glimpses
The following discussion and analysis is intended to assist readers in understanding the consolidated financial condition and results of operations ofOrrstown and should be read in conjunction with the preceding unaudited condensed consolidated financial statements and notes thereto included in this Quarterly Report on Form 10-Q, as well as with the audited consolidated financial statements and notes thereto for the year endedDecember 31, 2021 , included in our Annual Report on Form 10-K. Throughout this discussion, the yield on earning assets is stated on a fully taxable-equivalent basis and balances represent average daily balances unless otherwise stated.
Overview
The Company, headquartered inShippensburg, Pennsylvania , is a one-bank holding company that has elected status as a financial holding company. The consolidated financial information presented herein reflects the Company and its wholly-owned subsidiary, the Bank. AtSeptember 30, 2022 , the Company had total assets of$2.9 billion , total liabilities of$2.6 billion and total shareholders' equity of$217.4 million . For the three and nine months endedSeptember 30, 2022 , the Company had a net loss of$4.8 million and net income of$12.4 million , respectively. As discussed in the notes to the unaudited condensed consolidated financial statements above, during the fourth quarter of 2022, the Company agreed to settle a litigation matter, which resulted in a provision for legal settlement ("legal settlement") of$13.0 million , before the tax effect, recorded in the third quarter of 2022. In addition, during the third quarter of 2022, the Company announced strategic initiatives designed to drive long-term growth and improve operating efficiencies through planned branch closures and staffing model adjustments, which resulted in pre-tax non-interest expenses ("restructuring charge") of$3.2 million . Excluding the legal settlement and the restructuring charge, net income for the three and nine months endedSeptember 30, 2022 totaled$7.9 million and$25.2 million , respectively. For the three months endedSeptember 30, 2022 , diluted loss per share totaled$0.47 . For the nine months endedSeptember 30, 2022 , diluted earnings per share totaled$1.16 . Excluding the legal settlement and restructuring charge, diluted earnings per share totaled$0.75 and$2.34 for the three and nine months endedSeptember 30, 2022 , respectively.
Cautionary Note About Forward-Looking Statements
Certain statements appearing herein, which are not historical in nature, are
forward-looking statements within the meaning of Section 27A of the Securities
Act and Section 21E of the Exchange Act, and are intended to be covered by the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
In addition, we may make other written and oral communications, from time to
time, that contain such statements. Such forward-looking statements reflect the
current views of the Company's management with respect to, among other things,
future events and the Company's financial performance. These statements are
often, but not always, made through the use of words or phrases such as "may,"
"will," "expect," "estimate," "anticipate" or similar terms, or the negative
variations of those words or other comparable words of a future or
forward-looking nature. Forward-looking statements are statements that include
projections, predictions, expectations, estimates or beliefs about events or
results or otherwise are not statements of historical facts, many of which, by
their nature, are inherently uncertain and beyond the Company's control, and
include, but are not limited to, statements related to new business development,
new loan opportunities, growth in the balance sheet and fee-based revenue lines
of business, merger and acquisition activity, cost savings initiatives, reducing
risk assets, and mitigating losses in the future. Accordingly, the Company
cautions you that any such forward-looking statements are not guarantees of
future performance and are subject to risks, assumptions and uncertainties that
are difficult to predict. Although the Company believes that the expectations
reflected in these forward-looking statements are reasonable as of the date
made, actual results may prove to be materially different from the results
expressed or implied by the forward-looking statements and there can be no
assurances that the Company will achieve the desired level of new business
development and new loans, growth in the balance sheet and fee-based revenue
lines of business, successful merger and acquisition activity and cost savings
initiatives, continue to reduce risk assets or mitigate losses in the future. In
addition to risks and uncertainties related to the COVID-19 pandemic (including
those related to variants) and resulting governmental and societal responses,
factors that could cause actual results to differ from those expressed or
implied by the forward-looking statements include, but are not limited to, the
following: the failure to reach an agreement acceptable to all parties to settle
and resolve the shareholder class action; the failure to obtain court approval
of the proposed settlement; the number of plaintiffs who opt-out of the proposed
settlement; whether the proposed settlement is appealed; ineffectiveness of the
Company's strategic growth plan due to changes in current or future market
conditions; the effects of competition and how it may impact our community
banking model, including industry consolidation and development of competing
financial products and services; the integration of the Company's strategic
acquisitions; the inability to fully achieve expected savings, efficiencies or
synergies from mergers and acquisitions, or taking longer than estimated for
such savings, efficiencies and synergies to be realized; changes in laws and
regulations; interest rate movements; changes in credit quality; inability to
raise capital, if necessary, under favorable conditions; volatility in the
securities markets; the demand for our products and services; deteriorating
economic conditions; geopolitical tensions; operational risks including, but not
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limited to, cybersecurity incidents, fraud, natural disasters and future pandemics; expenses associated with pending litigation and legal proceedings; the failure of the SBA to honor its guarantee of loans issued under the SBA PPP; the timing of the repayment of SBA PPP loans and the impact it has on fee recognition; our ability to convert new relationships gained through the SBA PPP efforts to full banking relationships; and other risks and uncertainties, including those detailed in our Annual Report on Form 10-K for the year endedDecember 31, 2021 , and our Quarterly Reports on Form 10-Q under the sections titled "Risk Factors" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" and in other filings made with theSEC . The statements are valid only as of the date hereof and we disclaim any obligation to update this information.
Economic Climate, Inflation and Interest Rates
Preliminary real GDP for the third quarter of 2022 reflected an annualized
increase of 2.6%, which is an improvement from the declines of 1.6% and 0.6%
during the first and second quarters of 2022, respectively. The annualized
growth for the third quarter of 2021 was 2.3%. The increase in the third quarter
of 2022 was the result of increases in exports, due primarily to petroleum,
nondurable goods, and travel, government spending, due to defense spending, and
consumer spending; however, real GDP continues to be hampered by decreases in
residential fixed investments and private inventory caused by lower new
single-family construction and retail trade. The personal consumption
expenditures ("PCE") price index increased to 4.2% in the third quarter of 2022,
compared to an increase of 7.3% for the final estimate in the second quarter of
2022. Excluding food and energy prices, the PCE price index increased 4.5% in
the third quarter of 2022 compared to 4.7% in the second quarter of 2022. The
national unemployment rate slightly decreased by 0.1% to 3.5% in September 2022
compared to 3.6% in June 2022 , down from 4.8% in September 2021 . Within the
Company's geographic footprint, the unemployment rate has decreased in
Pennsylvania by 1.9% from 6.7% at August 2021 to 4.8% at August 2022 , and
decreased in Maryland by 1.4% from 5.8% at August 2021 to 4.4% in August 2022 .
These decreases in unemployment rates are consistent to the counties in which
the Company operates branches and other corporate offices. There continued to be
notable job gains in healthcare, leisure and hospitality during the third
quarter of 2022. Although there was a strong economic recovery in 2021 from the
pandemic, the fluctuations in real GDP during 2022 are indicative of inflation,
supply chain challenges, geopolitical tensions and labor shortages.
At September 30, 2022 , the 10-year Treasury bond reached 3.83%, an increase of
0.85% from 2.98% at June 30, 2022 , as it continued to rise due to inflationary
pressures. In an attempt to combat the impact of inflation, the rising consumer
price index, supply chain disruptions, the state of the labor market and
geopolitical tensions, the Federal Reserve Open Markets Committee ("FOMC")
approved increases to the Fed Funds rate of:
•25 basis points on
•50 basis points on
•75 basis points on
•75 basis points on
•75 basis points on
•75 basis points on
The majority of the assets and liabilities of a financial institution are monetary in nature and, therefore, differ greatly from most commercial and industrial companies that have significant investments in fixed assets or inventories. However, inflation does have an impact on the Company, particularly with respect to the growth of total assets and noninterest expenses, which tend to rise during periods of general inflation. Risks also exist due to supply and demand imbalances, employment shortages, the interest rate environment, and geopolitical tensions. It is reasonably foreseeable that estimates made in the financial statements could be materially and adversely impacted in the near term as a result of these conditions, including expected credit losses on loans and the fair value of financial instruments that are carried at fair value.
Critical Accounting Estimates
The Company's accounting and reporting policies are in accordance with GAAP and follow accounting and reporting guidelines prescribed by bank regulatory authorities and general practices within the financial services industry in which it operates. Our financial position and results of operations are affected by management's application of accounting policies, including estimates, and assumptions and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the balance sheet date and through the date the financial statements are filed with theSEC . Different assumptions in the application of these policies could result in material changes in the consolidated financial position and/or consolidated results of operations and related disclosures. The more critical accounting estimates include accounting for credit losses and valuation methodologies. 46
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Accordingly, these critical accounting estimates are discussed in detail in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . Significant accounting policies and any changes in accounting principles and effects of new accounting pronouncements are discussed in Note 1, Summary of Significant Accounting Policies, to the Consolidated Financial Statements under Part II, Item 8, "Financial Statements and Supplementary Data," in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . Additional disclosures regarding the effects of new accounting pronouncements are included in this report in Note 1, Summary of Significant Accounting Policies, to the unaudited condensed consolidated financial statements under Part I, Item 1, "Financial Information." RESULTS OF OPERATIONS
Three months ended
Summary
Net loss totaled$4.8 million for the three months endedSeptember 30, 2022 compared with net income of$7.2 million for the same period in 2021. Diluted loss per share for the three months endedSeptember 30, 2022 totaled$0.47 compared to diluted earnings per share of$0.65 for the three months endedSeptember 30, 2021 . Net interest income positively influenced results of operations, and totaled$25.5 million for the three months endedSeptember 30, 2022 compared to$20.6 million for the three months endedSeptember 30, 2021 . Noninterest income totaled approximately$6.1 million and$7.7 million for the three months endedSeptember 30, 2022 and 2021, respectively. Noninterest expenses totaled$36.4 million for the three months endedSeptember 30, 2022 compared to$19.0 million for the three months endedSeptember 30, 2021 . Excluding the legal settlement and the restructuring charge, for the three months endedSeptember 30, 2022 , net income totaled$7.9 million and diluted earnings per share totaled$0.75 . See "Supplemental Reporting of Non-GAAP Measures." The comparison of operating results for 2022 with 2021 reflects the impact of the legal settlement and restructuring charge, increases in the provision for loan losses, salaries and employee benefits expense and costs of funds and a decrease in mortgage banking income, partially offset by the net interest income benefit from the deployment of cash into higher yielding commercial loans and investment securities, as well as rising interest rates. 47
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Net Interest Income
Net interest income increased by$4.9 million from$20.6 million to$25.5 million from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 . Interest income on loans increased by$3.3 million , from$19.9 million to$23.2 million , and interest income on investment securities increased by$1.9 million , from$2.2 million to$4.1 million , for the three months endedSeptember 30, 2022 compared to the same period in the prior year. Total interest expense increased from$1.6 million for the three months endedSeptember 30, 2021 to$2.0 million for the three months endedSeptember 30, 2022 . The following table presents net interest income, net interest spread and net interest margin for the three months endedSeptember 30, 2022 and 2021 on a taxable-equivalent basis: Three Months Ended September 30, 2022 Three Months Ended September 30, 2021 Taxable- Taxable- Taxable- Taxable- Average Equivalent Equivalent Average Equivalent Equivalent Balance Interest Rate Balance Interest Rate Assets Federal funds sold & interest-bearing bank balances$ 38,068 $ 200 2.08 %$ 347,242 $ 135 0.15 % Investment securities (1) 528,988 4,377 3.31 464,417 2,339 2.00 Loans (1)(2)(3) 2,051,707 23,219 4.49 1,919,926 19,945 4.12 Total interest-earning assets 2,618,763 27,796 4.22 2,731,585 22,419 3.26 Other assets 196,277 195,089 Total$ 2,815,040 $ 2,926,674 Liabilities and Shareholders' Equity Interest-bearing demand deposits$ 1,379,082 912 0.26$ 1,411,243 286 0.08 Savings deposits 237,462 90 0.15 209,112 53 0.10 Time deposits 265,015 370 0.55 349,215 598 0.68 Total interest-bearing deposits 1,881,559 1,372 0.29 1,969,570 937
0.19
Securities sold under agreements to repurchase 23,480 10 0.18 23,578 8
0.13
FHLB advances and other borrowings 10,394 78 3.02 45,071 123 1.09 Subordinated notes 32,000 504 6.29 31,938 503 6.29 Total interest-bearing liabilities 1,947,433 1,964 0.40 2,070,157 1,571
0.30
Noninterest-bearing demand deposits 575,777 548,923 Other 49,964 38,409 Total liabilities 2,573,174 2,657,489 Shareholders' equity 241,866 269,185 Total$ 2,815,040 $ 2,926,674 Taxable-equivalent net interest income /net interest spread 25,832 3.82 % 20,848 2.96 % Taxable-equivalent net interest margin 3.92 % 3.03 % Taxable-equivalent adjustment (377) (228) Net interest income$ 25,455 $ 20,620
NOTES TO ANALYSIS OF NET INTEREST INCOME:
Yields and interest income on tax-exempt assets
have been computed on a taxable-equivalent
(1) basis assuming a 21% tax rate.
(2) Average balances include nonaccrual loans.
(3) Interest income on loans includes prepayment and late fees, where applicable.
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Net interest income on a taxable-equivalent basis increased by$5.0 million to$25.8 million for the three months endedSeptember 30, 2022 from$20.8 million for the three months endedSeptember 30, 2021 . The Company's net interest spread increased by 86 basis points to 3.82% for the three months endedSeptember 30, 2022 compared to 2.96% for the three months endedSeptember 30, 2021 . Taxable-equivalent net interest margin increased 89 basis points to 3.92% for the three months endedSeptember 30, 2022 from 3.03% for the three months endedSeptember 30, 2021 . The taxable-equivalent yield on interest-earning assets increased 96 basis points from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 reflecting the deployment of cash into higher yielding loans and investment securities, as well as the impact of rising interest rates on the loan and investment securities portfolios, which was partially offset by the increase of 10 basis points in the cost of interest-bearing liabilities from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 . The cost of interest-bearing liabilities increased 10 basis points from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 reflecting an increase to deposit rates due to the rising rate environment, partially offset by the runoff in higher cost time deposit balances and the repayment of overnight borrowings during the third quarter of 2021. Average loans increased by$131.8 million to$2.1 billion during the three months endedSeptember 30, 2022 from$1.9 billion for the three months endedSeptember 30, 2021 , as commercial and home equity loan growth in three months endedSeptember 30, 2022 was partially offset by the impact of SBA PPP loan forgiveness. Average investment securities increased by$64.6 million from$464.4 million for the three months endedSeptember 30, 2021 to$529.0 million for the same period in 2022 due to investment purchases. Average interest-bearing liabilities declined by$122.7 million to$1.9 billion for the 2022 period from$2.1 billion for the 2021 period due primarily to a decrease in average balances in time deposits and overnight borrowings. The yield on loans increased by 37 basis points to 4.49% for the three months endedSeptember 30, 2022 compared to 4.12% for the three months endedSeptember 30, 2021 . Taxable-equivalent interest income earned on loans increased by$3.3 million year-over-year primarily due to an increase in the average balances of commercial loans excluding SBA PPP loans, and the impact of the rising interest rate environment. The increase in interest income from loan growth, excluding SBA PPP loans, was partially offset by a decrease in interest income from SBA PPP loans due to reduced fee income as a lower amount of SBA PPP loans were forgiven during the three months endedSeptember 30, 2022 compared to the three months endedSeptember 30, 2021 . SBA PPP loans, net of deferred fees and costs, averaged$25.0 million during the three months endedSeptember 30, 2022 compared to$303.2 million during the three months endedSeptember 30, 2021 . This decrease was due to the forgiveness of SBA PPP loans sinceSeptember 30, 2021 . The average balance of commercial loans, excluding SBA PPP loans, increased by$385.9 million from$1.2 billion during the three months endedSeptember 30, 2021 to$1.6 billion during the three months endedSeptember 30, 2022 . Average home equity loans increased by$24.7 million from$155.0 million for the three months endedSeptember 30, 2021 to$179.7 million for the three months endedSeptember 30, 2022 . Average installment and other consumer loans decreased by$11.2 million from$36.6 million for the three months endedSeptember 30, 2021 to$25.4 million for the three months endedSeptember 30, 2022 . Average residential mortgage loans increased by$10.6 million from$203.0 million during the three months endedSeptember 30, 2021 to$213.6 million during the three months endedSeptember 30, 2022 due to jumbo and adjustable-rate mortgage production. For the three months endedSeptember 30, 2022 , interest income on loans included$523 thousand of interest and net deferred fee income associated with the SBA PPP loans compared to$3.4 million of such interest and fee income for the three months endedSeptember 30, 2021 . Accretion of purchase accounting adjustments included in interest income was$157 thousand and$296 thousand for the three months endedSeptember 30, 2022 and 2021, respectively. The three months endedSeptember 30, 2022 and 2021 included$64 thousand and$154 thousand , respectively, of accelerated accretion related to the payoff of acquired loans. Interest income on investment securities on a tax-equivalent basis increased by$2.1 million to$4.4 million for the three months endedSeptember 30, 2022 from$2.3 million for the three months endedSeptember 30, 2021 , with the taxable equivalent yield increasing from 2.00% for the three months endedSeptember 30, 2021 to 3.31% for the three months endedSeptember 30, 2022 . This 131 basis point increase reflects the higher interest rate environment in 2022 and investment purchases at higher yields. Average balance of federal funds sold and interest-bearing bank balances decreased by$309.1 million from$347.2 million for the three months endedSeptember 30, 2021 to$38.1 million for the same period in 2022, due primarily to the deployment of cash into loans and investment securities. The related interest income increased by$65 thousand to$200 thousand for the three months endedSeptember 30, 2022 from$135 thousand for the three months endedSeptember 30, 2021 . This increase was caused by the increase in the interest rate at the FRB as a result of multiple Fed Funds rate increases by theFOMC during 2022. 49
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Interest expense on interest-bearing liabilities increased by$393 thousand year-over-year due to the increase in the cost of interest-bearing liabilities by 10 basis points from 0.30% for the three months endedSeptember 30, 2021 to 0.40% for the three months endedSeptember 30, 2022 . This increase is due to deposit rate increases made in 2022, partially offset by the impact of a decrease in the average balance of interest-bearing deposits of$88.0 million that resulted from continued runoff of certificates of deposit and the repayment of overnight borrowings in the third quarter of 2021.
Provision for Loan Losses
The Company recorded a provision for loan losses of$1.5 million for the three months endedSeptember 30, 2022 compared to$365 thousand for the same period in 2021. In calculating the provision for loan losses, both quantitative and qualitative factors, including the Company's historical net charge-off data and economic and market conditions, were considered. For the three months endedSeptember 30, 2022 and 2021, the provision for loan losses was driven primarily by loan growth; however, the increase in the provision for loan losses for the three months endedSeptember 30, 2021 attributable to loan growth was partially offset by the release of a portion of the Company's COVID-19 related reserve of$991 thousand . Net charge-offs in the three months endedSeptember 30, 2022 totaled$70 thousand , compared to net recoveries of$219 thousand in the comparable prior year period. Nonaccrual loans were 0.25% of gross loans atSeptember 30, 2022 , compared with 0.47% of gross loans atSeptember 30, 2021 . Nonaccrual loans decreased by$3.8 million from$9.1 million atSeptember 30, 2021 to$5.3 million atSeptember 30, 2022 and classified loans decreased by$9.2 million from$26.9 million atSeptember 30, 2021 to$19.6 million atSeptember 30, 2022 . In addition, special mention loans decreased by$16.7 million from$70.8 million atSeptember 30, 2021 to$54.1 million atSeptember 30, 2022 , primarily due to risk rating upgrades. The decrease in non-accrual loans includes the payoff of one loan of$2.6 million , loans returning to accrual status of$721 thousand , and charge-offs of$101 thousand , partially offset by loans transferred to non-accrual status of$881 thousand . The remaining decrease in non-accrual loans is due to paydowns. The decrease in criticized and classified loans reflects upgrades to commercial loan ratings, including loans that were previously downgraded due to the impact of the COVID-19 pandemic.
Additional information is included in the "Credit Risk Management" section
herein.
Noninterest Income
The following table compares noninterest income for the three months endedSeptember 30, 2022 and 2021: Three Months Ended September 30, $ Change % Change 2022 2021 2022-2021 2022-2021 Service charges on deposit accounts $ 977$ 796 $ 181 22.7 % Interchange income 1,014 1,030 (16) (1.6) % Other service charges and fees 239 197 42 21.3 % Swap fee income 197 67 130 194.0 % Trust and investment management income 2,006 1,930 76 3.9 % Brokerage income 947 987 (40) (4.1) % Mortgage banking activities (1,014) 1,333 (2,347) (176.1) % Income from life insurance 583 569 14 2.5 % Other income 1,123 263 860 327.0 % Investment securities (losses) gains (14) 479 (493) (102.9) % Total noninterest income $ 6,058$ 7,651 $ (1,593) (20.8) %
The following factors contributed to the more significant changes in noninterest
income between the three months ended
•Service charges on deposit accounts increased by$181 thousand due to higher customer transaction activity as the economy continued to recover from the COVID-19 pandemic and changes to the deposit fee structure that took effect inApril 2022 .
•Swap fee income increased by
are dependent on client needs and loan size.
•Mortgage banking income decreased by$2.3 million due to a significant decline in the fair value of the held-for-sale mortgages caused by current market conditions, including the rapidly rising interest rates and lower housing inventory. The difficult mortgage market has also slowed residential mortgage loan production, thereby causing 50
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corresponding reductions in the residential mortgage loan pipeline and secondary market sales during the three months endedSeptember 30, 2022 . Mortgage loans sold totaled$12.7 million in the third quarter of 2022 compared with$48.0 million in the third quarter of 2021. •Other income increased by$860 thousand due primarily to distributions of$964 thousand from investments in non-housing limited partnerships partially offset by the decrease of$128 thousand in the tax credits recognized from the Bank's investment in solar renewable energy partnerships in the third quarter of 2022 compared to the third quarter of 2021.
•Investment securities gains decreased by
thousand
securities during the third quarter of 2021.
•Other line items within noninterest income showed fluctuations between 2022 and
2021 attributable to normal business operations.
Noninterest Expenses
The following table compares noninterest expenses for the three months ended
Three Months Ended September 30, $ Change % Change
2022 2021 2022-2021 2022-2021
Salaries and employee benefits $ 12,705 $ 11,498 $ 1,207 10.5 %
Occupancy 1,166 1,154 12 1.0 %
Furniture and equipment 1,214 1,220 (6) (0.5) %
Data processing 1,192 990 202 20.4 %
Automated teller machine and interchange
fees 329 294 35 11.9 %
Advertising and bank promotions 278 735 (457) (62.2) %
FDIC insurance 294 218 76 34.9 %
Professional services 887 562 325 57.8 %
Directors' compensation 213 155 58 37.4 %
Taxes other than income 488 16 472 2950.0 %
Intangible asset amortization 272 314 (42) (13.4) %
Provision for legal settlement 13,000 - 13,000 100.0 %
Restructuring expenses 3,155 - 3,155 100.0 %
Other operating expenses 1,219 1,879 (660) (35.1) %
Total noninterest expenses $ 36,412 $ 19,035 $ 17,377 91.3 %
The following factors contributed to the more significant changes in noninterest
expenses between the three months ended
•Salaries and employee benefits expense increased by
to additions to staff that filled vacancies, merit-based and incentive
compensation increases and higher employee benefit costs.
•Data processing increased by
system costs and investments in technology.
•Advertising and bank promotions expense decreased by
primarily to the timing difference of
•FDIC expense increased by
rate driven by commercial loan growth and a lower deduction in the
assessment rate calculation from SBA PPP loans due to forgiveness.
•Professional services expense increased by$325 thousand due to an increase in compliance and technology consulting services resulting from the need to supplement these services due to vacancies in staff and higher legal expenses partially associated with outstanding litigation.
•Directors' compensation expense increased by
addition of a new director and an increase in the stock price on issued
restricted stock awards.
•Taxes other than income increased by$472 thousand due to the timing difference of$450 thousand of eligible tax credits associated with the contributions made to the PA EITC during 2022 and 2021.
•During the fourth quarter of 2022, the Company agreed to settle a litigation
matter, which resulted in a provision for legal settlement of
recorded in the third quarter of 2022.
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•During the third quarter of 2022, the Company announced that five branch locations would be closing and staffing model adjustments would be made to drive long-term growth and improve operating efficiencies in 2023 and forward. As a result of these initiatives, the Company recorded a pre-tax restructuring charge of$3.2 million , which consisted of building and fixed asset write-offs of$1.9 million and early retirement/severance costs of$1.3 million . •Other operating expenses decreased by$660 thousand due to a loss of$514 thousand from the termination of an interest rate swap designated as a cash flow hedge recorded in the three months endedSeptember 30, 2021 . Also, the fair value of derivatives increased by$160 thousand from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 .
•Other line items within noninterest expenses showed fluctuations between 2022
and 2021 attributable to normal business operations.
Income Tax (Benefit) Expense
Income tax benefit totaled$1.6 million , an effective tax rate of 24.6%, for the three months endedSeptember 30, 2022 compared with income tax expense of$1.7 million , an effective tax rate of 18.9%, for the three months endedSeptember 30, 2021 . Excluding the impact of the legal settlement, the effective tax rate was 17.6% for the three months endedSeptember 30, 2022 . The Company's effective tax rate is less than the 21% federal statutory rate, principally due to tax-exempt income, which includes interest income on tax-exempt loans and investment securities and income from life insurance policies, federal income tax credits, and the impact of non-tax deductible expenses. The decrease in the effective tax rate from the three months endedSeptember 30, 2021 to the three months endedSeptember 30, 2022 was due primarily to an increase in projected income from tax-exempt investment securities and loans for the 2022 fiscal year compared to the prior year.
Nine months ended
Summary
Net income totaled$12.4 million for the nine months endedSeptember 30, 2022 compared with net income of$26.2 million for the same period in 2021. Diluted earnings per share for the nine months endedSeptember 30, 2022 totaled$1.16 , compared with$2.36 for the nine months endedSeptember 30, 2021 . Net interest income positively influenced results of operations, and totaled$72.1 million for the nine months endedSeptember 30, 2022 , compared to$64.4 million for the nine months endedSeptember 30, 2021 . Noninterest income totaled$20.7 million and$21.9 million for the nine months endedSeptember 30, 2022 and 2021, respectively. Noninterest expenses totaled$74.6 million for the nine months endedSeptember 30, 2022 compared to$53.9 million for the nine months endedSeptember 30, 2021 . The comparison of operating results for 2022 with 2021 reflects the impact in 2022 of the litigation matter and the restructuring charge, increases in the provision for loan losses, and salaries and employee benefits expense and a decrease in mortgage banking income, partially offset by the net interest income benefit from the deployment of cash in higher yielding commercial loans and investment securities, as well as rising interest rates, and increases in other non-interest fees. Excluding the impact from the legal settlement and the restructuring charge, for the nine months endedSeptember 30, 2022 , net income totaled$25.2 million and diluted earnings per share totaled$2.34 . See "Supplemental Reporting of Non-GAAP Measures." 52
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Net Interest Income
Net interest income increased by$7.7 million from$64.4 million for the nine months endedSeptember 30, 2021 to$72.1 million for the nine months endedSeptember 30, 2022 . Total interest expense decreased from$5.4 million for the nine months endedSeptember 30, 2021 to$4.4 million for the nine months endedSeptember 30, 2022 . Interest income on loans increased by$3.8 million , from$62.7 million to$66.5 million , and interest income on investment securities increased by$2.7 million , from$6.8 million to$9.5 million , compared to the same period in the prior year. Interest expense on deposits decreased by$652 thousand from$3.4 million for the nine months endedSeptember 30, 2021 to$2.8 million for the nine months endedSeptember 30, 2022 . The following table presents net interest income, net interest spread and net interest margin for the nine months endedSeptember 30, 2022 and 2021 on a taxable-equivalent basis: Nine Months Ended September 30, 2022 Nine Months Ended September 30, 2021 Taxable- Taxable- Taxable- Taxable- Average Equivalent Equivalent Average Equivalent Equivalent Balance Interest Rate Balance Interest Rate Assets Federal funds sold & interest-bearing bank balances$ 122,509 $ 536 0.59 %$ 261,697 $ 255 0.13 % Investment securities (1) 508,582 10,276 2.70 456,919 7,272 2.13 Loans (1)(2)(3) 2,011,881 66,738 4.43 1,988,834 62,895 4.23 Total interest-earning assets 2,642,972 77,550 3.92 2,707,450 70,422 3.48 Other assets 191,090 188,924 Total$ 2,834,062 $ 2,896,374 Liabilities and Shareholders' Equity Interest-bearing demand deposits$ 1,399,035 1,470 0.14$ 1,380,241 1,014 0.10 Savings deposits 234,054 209 0.12 197,792 149 0.10 Time deposits 279,557 1,079 0.52 376,142 2,247 0.80 Total interest-bearing deposits 1,912,646 2,758 0.19 1,954,175 3,410
0.23
Securities sold under agreements to repurchase 23,685 24 0.14 22,490 25
0.15
FHLB Advances and other borrowings 4,693 121 3.44 53,608 458 1.14 Subordinated notes 31,985 1,510 6.29 31,924 1,507 6.29 Total interest-bearing liabilities 1,973,009 4,413 0.30 2,062,197 5,400
0.35
Noninterest-bearing demand deposits 562,826 537,247 Other 46,058 37,413 Total liabilities 2,581,893 2,636,857 Shareholders' equity 252,169 259,517 Total$ 2,834,062 $ 2,896,374 Taxable-equivalent net interest income /net interest spread 73,137 3.62 % 65,022 3.13 % Taxable-equivalent net interest margin 3.70 % 3.21 % Taxable-equivalent adjustment (991) (646) Net interest income$ 72,146 $ 64,376
NOTES TO ANALYSIS OF NET INTEREST INCOME:
Yields and interest income on tax-exempt assets
have been computed on a taxable-equivalent
(1) basis assuming a 21% tax rate.
(2) Average balances include nonaccrual loans.
(3) Interest income on loans includes prepayment and late fees, where applicable.
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Net interest income on a taxable-equivalent basis increased by$8.1 million to$73.1 million for the nine months endedSeptember 30, 2022 from$65.0 million for the nine months endedSeptember 30, 2021 . The Company's net interest spread increased by 49 basis points to 3.62% for the nine months endedSeptember 30, 2022 compared to 3.13% for the nine months endedSeptember 30, 2021 . Taxable-equivalent net interest margin increased by 49 basis points to 3.70% for the nine months endedSeptember 30, 2022 from 3.21% for the nine months endedSeptember 30, 2021 . The taxable-equivalent yield on interest-earning assets increased by 44 basis points from the nine months endedSeptember 30, 2021 to the nine months endedSeptember 30, 2022 reflecting the deployment of cash into higher yielding loans and investment securities, as well as the impact of rising interest rates on the loan and investment securities portfolios. The decrease in the cost of interest-bearing liabilities of five basis points from the nine months endedSeptember 30, 2021 to the nine months endedSeptember 30, 2022 also contributed to the increase in the tax-equivalent net interest margin, which reflected the runoff of higher cost time deposit balances and the repayment of overnight borrowings in the third quarter of 2021. Average loans remained approximately$2.0 billion , during both the nine months endedSeptember 30, 2022 and 2021, as commercial and home equity loan growth for the nine months endedSeptember 30, 2022 was offset primarily by the impact of SBA PPP loan forgiveness. Average investment securities increased by$51.7 million from$456.9 million for the nine months endedSeptember 30, 2021 to$508.6 million for the same period in 2022 due to investment purchases. Average interest-bearing liabilities declined by$89.2 million to$2.0 billion for the 2022 period from$2.1 billion for the 2021 period due to decreased average balances in time deposits and overnight borrowings. The yield on loans increased by 20 basis points to 4.43% for the nine months endedSeptember 30, 2022 compared to 4.23% for the nine months endedSeptember 30, 2021 . Taxable-equivalent interest income earned on loans increased by$3.8 million year-over-year due to an increase in the average balance of commercial loans, excluding SBA PPP loans, and from the impact of the rising interest rate environment. The increase in interest income from loan growth was partially offset by the decrease in interest income from SBA PPP loans. This decrease is due to reduced fee income as a lower amount of SBA PPP loans were forgiven during the nine months endedSeptember 30, 2022 compared to the nine months endedSeptember 30, 2021 . SBA PPP loans, net of deferred fees and costs, averaged$83.8 million during the nine months endedSeptember 30, 2022 compared to$412.2 million during the nine months endedSeptember 30, 2021 . This decrease was due to the forgiveness of SBA PPP loans sinceSeptember 30, 2021 . The average balance of commercial loans, excluding SBA PPP loans, increased by$361.2 million from$1.2 billion in the nine months endedSeptember 30, 2021 to$1.5 billion during the nine months endedSeptember 30, 2022 . Average home equity loans increased by$16.9 million from$155.0 million for the nine months endedSeptember 30, 2021 to$171.9 million for the nine months endedSeptember 30, 2022 . Average installment and other consumer loans decreased by$14.2 million from$41.4 million for the nine months endedSeptember 30, 2021 to$27.2 million for the nine months endedSeptember 30, 2022 . Average residential mortgage loans decreased by$12.5 million from$216.9 million during the nine months endedSeptember 30, 2021 to$204.4 million during the nine months endedSeptember 30, 2022 due to significant refinancing activity in late 2021. For the nine months endedSeptember 30, 2022 , interest income on loans includes$5.9 million of interest and net deferred fee income associated with SBA PPP loans compared to$13.0 million of such interest and fee income for the nine months endedSeptember 30, 2021 . Accretion of purchase accounting adjustments included in interest income was$966 thousand and$1.4 million for the nine months endedSeptember 30, 2022 and 2021, respectively. The nine months endedSeptember 30, 2022 and 2021 included$647 thousand and$919 thousand , respectively, of accelerated accretion related to the payoff of acquired loans. Interest income on investment securities on a tax-equivalent basis increased by$3.0 million to$10.3 million for the nine months endedSeptember 30, 2022 from$7.3 million for the nine months endedSeptember 30, 2021 , with the taxable equivalent yield increasing from 2.13% for the nine months endedSeptember 30, 2021 to 2.70% for the nine months endedSeptember 30, 2022 . The 57 basis point increase reflected the higher interest rate environment in 2022 and investment security purchases at higher yields. The average balance of federal funds sold and interest-bearing bank balances decreased by$139.2 million from$261.7 million for the nine months endedSeptember 30, 2021 , to$122.5 million for the same period in 2022 due primarily to the deployment of cash into loans and investment securities. The related interest income on a tax-equivalent basis increased by$281 thousand to$536 thousand for the nine months endedSeptember 30, 2022 , from$255 thousand for the nine months endedSeptember 30, 2021 . This increase was caused by the increase in the interest rate at the FRB as a result of multiple Fed Funds rate increases by theFOMC during 2022. Interest expense on interest-bearing liabilities decreased by$1.0 million year-over-year, reflecting a decrease in the average balance of interest-bearing deposits of$41.5 million due primarily to continued runoff of higher yielding certificates of 54
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deposit. The cost of interest-bearing liabilities declined by five basis points from 0.35% for the nine months endedSeptember 30, 2021 to 0.30% for the nine months endedSeptember 30, 2022 due to the timing of deposit rate decreases in 2021 and increases in 2022 combined with the continued runoff of higher yielding certificates of deposits and the repayment and maturities of overnight borrowings in the third quarter of 2021.
Provision for Loan Losses
The Company recorded a provision for loan losses of$3.6 million for the nine months endedSeptember 30, 2022 compared to a negative provision for loan losses of$10 thousand for the same period in 2021. In calculating the provision for loan losses, both quantitative and qualitative factors, including the Company's historical charge-off data and economic and market conditions, were considered. For the nine months endedSeptember 30, 2022 , the provision for loan losses was driven primarily by an increase in commercial loans. The negative provision for loan losses recorded in the nine months endedSeptember 30, 2021 was due to the release of a portion of the Company's remaining COVID-19 related reserve of$2.7 million . Net charge-offs in the nine months endedSeptember 30, 2022 totaled$46 thousand , compared to net charge-offs of$176 thousand in the comparable prior year period. Nonaccrual loans were 0.25% of gross loans atSeptember 30, 2022 , compared with 0.47% of gross loans atSeptember 30, 2021 . Nonaccrual loans decreased by$3.8 million fromSeptember 30, 2021 toSeptember 30, 2022 and classified loans decreased by$9.2 million to$19.6 million fromSeptember 30, 2021 toSeptember 30, 2022 . In addition, loans with a special mention risk rating decreased by$16.7 million from$70.8 million atSeptember 30, 2021 to$54.1 million atSeptember 30, 2022 due to risk rating upgrades. The decrease in non-accrual loans includes the payoff of one loan of$2.6 million , loans returning to accrual status of$721 thousand , and charge-offs of$101 thousand , partially offset by loans transferred to non-accrual status of$881 thousand . The remaining decrease in non-accrual loans is due to paydowns. The decrease in criticized and classified loans reflects upgrades to commercial loan ratings, including loans that were previously downgraded due to the impact of the COVID-19 pandemic.
Additional information is included in the "Credit Risk Management" section
herein.
Noninterest Income
The following table compares noninterest income for the nine months endedSeptember 30, 2022 and 2021: Nine Months Ended September 30, $ Change % Change 2022 2021 2022-2021 2022-2021
Service charges on deposit accounts $ 2,861
$ 630 28 % Interchange income 3,059 3,049 10 - % Other service charges and fees 622 527 95 18 % Swap fee income 1,935 135 1,800 1,333 % Trust and investment management income 5,852 5,862 (10) - % Brokerage income 2,864 2,708 156 6 % Mortgage banking activities 205 4,684 (4,479) (96) % Income from life insurance 1,742 1,690 52 3 % Other income 1,749 338 1,411 417 % Investment securities (losses) gains (163) 635 (798) (126) % Total noninterest income $ 20,726$ 21,859 $ (1,133) (5) %
The following factors contributed to the more significant changes in noninterest
income between the nine months ended
•Service charges on deposit accounts increased by$630 thousand due to higher customer transaction activity as the economy continued to recover from the COVID-19 pandemic and changes to the deposit fee structure that took effect inApril 2022 .
•Swap fee income increased by
locking in interest rates on commercial loans in the rising interest rate
environment.
•Mortgage banking income decreased by$4.5 million due primarily to a significant decline in the fair value of held-for-sale mortgages caused by current market conditions, including rapidly rising interest rates and lower housing inventory. The difficult mortgage market also slowed residential mortgage loan production, thereby causing corresponding reductions in the residential mortgage loan pipeline and secondary market sales during the nine months endedSeptember 30, 2022 compared to the same period in 2021. Mortgage loans sold totaled$67.6 million 55
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in the first nine months of 2022 compared with$157.1 million in the first nine months of 2021. In addition, the Company recorded an MSR valuation reserve reversal of$79 thousand in the nine months endedSeptember 30, 2022 compared to an MSR valuation reserve reversal of$695 thousand in the nine months endedSeptember 30, 2021 . Significant market interest rate reductions in 2021, which were caused by the COVID-19 pandemic resulted in decreases in the MSR fair values. Rate increases in 2022 offset this impact. •Other income increased by$1.4 million due primarily to distributions of$964 thousand from investments in non-housing limited partnerships and gains on the sales of two SBA loans totaling$306 thousand . •During the nine months endedSeptember 30, 2022 , the Company recorded net investment securities losses of$163 thousand due to a loss of$171 thousand on one non-agency CMO security that was called by the issuer in the second quarter of 2022. The loss was partially offset by a gain of$8 thousand from the sale of$3.1 million in principal balance of one security. During the nine months endedSeptember 30, 2021 , the Company sold 18 securities with a principal balance of$148.4 million for a gain of$609 thousand .
•Other line items within noninterest income showed fluctuations between 2022 and
2021 attributable to normal business operations.
Noninterest Expenses
The following table compares noninterest expenses for the nine months ended
Nine Months Ended September 30, $ Change % Change
2022 2021 2022-2021 2022-2021
Salaries and employee benefits $ 35,354 $ 31,907 $ 3,447 10.8 %
Occupancy 3,586 3,492 94 2.7 %
Furniture and equipment 3,784 3,800 (16) (0.4) %
Data processing 3,410 3,041 369 12.1 %
Automated teller machine and interchange
fees 952 862 90 10.4 %
Advertising and bank promotions 1,514 1,434 80 5.6 %
FDIC insurance 767 570 197 34.6 %
Professional services 2,417 1,862 555 29.8 %
Directors' compensation 674 624 50 8.0 %
Taxes other than income 1,160 929 231 24.9 %
Intangible asset amortization 845 972 (127) (13.1) %
Provision for legal settlement 13,000 - 13,000 100.0 %
Restructuring expenses 3,155 - 3,155 100.0 %
Other operating expenses 3,952 4,358 (406) (9.3) %
Total noninterest expenses $ 74,570 $ 53,851 $ 20,719 38.5 %
The following factors contributed to the more significant changes in noninterest
expenses between the nine months ended
•Salaries and employee benefits expense increased by$3.4 million due primarily to the additions to staff that filled vacancies, merit-based and incentive compensation increases and higher employee benefit costs, including healthcare expenses.
•Data processing increased by
system costs and investments in technology.
•FDIC insurance expense increased by$197 thousand due to an increase in the assessment rate driven by commercial loan growth and a lower deduction in theFDIC assessment rate calculation from SBA PPP loans due to forgiveness.
•Professional services increased by
compliance and technology consulting services resulting from the need to
supplement these services due to vacancies in staff and higher legal expenses
partially due to outstanding litigation.
•Taxes other than income increased by$231 thousand due to an increase year-over year in the PennsylvaniaBank Shares Tax expense, as the Bank's total equity balance grew between the annual assessments measured atJanuary 1st . 56
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•During the fourth quarter of 2022, the Company agreed to settle a litigation
matter, which resulted in a provision for legal settlement of
recorded in the third quarter of 2022.
•During the third quarter of 2022, the Company announced that five branch locations would be closing and staffing model adjustments would be made to drive long-term growth and improve operating efficiencies in 2023 and forward. As a result of these initiatives, the Company recorded a pre-tax restructuring charge of$3.2 million , which consisted of building and fixed asset write-offs of$1.9 million and early retirement/severance costs of$1.3 million . •Other operating expenses decreased by$406 thousand due to a loss of$514 thousand from the termination of an interest rate derivative designated as a cash flow hedge recorded in the nine months endedSeptember 30, 2021 and the fair value of derivatives increased by$287 thousand between the nine months endedSeptember 30, 2022 and 2021. These decreases were offset by an increase in the reserve for unfunded commitments of$196 thousand due to reversals in 2021 following a review of historical loss and line utilization experience. In addition, there was an increase of$151 thousand in employee related costs, which includes travel, meals and seminars as employees returned to a normal operating environment post COVID-19.
•Other line items within noninterest expenses showed fluctuations between 2022
and 2021 attributable to normal business operations.
Income Tax Expense
Income tax expense totaled$2.3 million , an effective tax rate of 15.7%, for the nine months endedSeptember 30, 2022 compared with$6.2 million , an effective tax rate of 19.2%, for the nine months endedSeptember 30, 2021 . Excluding the impact of the provision for legal settlement, the effective tax rate was 18.2% for the nine months endedSeptember 30, 2022 . The Company's effective tax rate is less than the 21% federal statutory rate, principally due to lower pre-tax income and the impact of tax-exempt income, which includes interest income on tax-exempt loans and investment securities and income from life insurance policies, federal income tax credits, and the impact of non-tax deductible expenses. The decrease in the effective tax rate from the nine months endedSeptember 30, 2021 to the nine months endedSeptember 30, 2022 was primarily due to an increase in projected income from tax-exempt investment securities and loans for the 2022 fiscal year compared to the prior year.
FINANCIAL CONDITION
Management devotes substantial time to overseeing the investment of funds in loans and investment securities and the formulation of policies directed toward the profitability and management of the risks associated with these investments.
The Company utilizes investment securities to manage interest rate risk, enhance income through interest and dividend income, provide liquidity and provide collateral for certain deposits and borrowings. AtSeptember 30, 2022 , AFS securities totaled$503.6 million , an increase of$31.2 million , from$472.4 million atDecember 31, 2021 . During the nine months endedSeptember 30, 2022 , the Company purchased$73.7 million of municipal securities,$41.2 million of agency MBS and CMO, and$16.7 million of non-agency CMO, and sold$3.1 million of a municipal security for a gain of$22 thousand . During the first quarter of 2022, the Company recorded a loss of$171 thousand on one$14.7 million par value non-agency CMO, which was called by the issuer in the second quarter of 2022. There was no OTTI recorded during the third quarter of 2022. The balance of investment securities included net unrealized losses of$54.5 million atSeptember 30, 2022 compared to net unrealized gains of$5.6 million atDecember 31, 2021 . This change was due to significant market interest rate increases in 2022. 57
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The following table summarizes the credit ratings and collateral associated with
the Company's investment portfolio, excluding equity securities, at
Amortized Book
Sector Portfolio Mix Value Fair Value Credit Enhancement AAA AA A BBB NR Collateral Type
Unsecured ABS 1 % $ 5,230 $ 4,731 28 % - % - % - % - % 100 % Unsecured Consumer Debt
Student Loan ABS 1 7,284 7,079 26 - - - - 100 Seasoned Student Loans
Federal Family Federal Family
Education Loan ABS 18 99,582 97,456 8 87 13 - - - Education Loan (1)
PACE Loan ABS - 2,777 2,542 6 100 - - - - PACE Loans
Non-Agency CMBS 2 10,047 10,045 18 - - - - 100 Bridge to HUD
Non-Agency CMBS
Non-Agency RMBS 3 17,012 15,116 13 100 - - - - Reverse Mortgages (2)
Municipal - General
Obligation 22 122,576 107,870 5 90 5 - -
Municipal - Revenue 24 132,026 112,166 - 83 12 - 5
SBA ReRemic 1 5,840 5,737 - 100 - - - SBA Guarantee (3)
Residential Mortgages
Agency MBS 24 135,223 123,353 - 100 - - - (3)
U.S. Treasury
securities 4 20,074 17,115 - 100 - - -
Bank CDs - 249 249 - - - - 100 FDIC Insured CD
100 % $ 557,920 $ 503,459 20 % 71 % 4 % - % 5 %
(1) Minimum of 18% guaranteed by U.S. government
(2) Reverse mortgages fund over time; credit enhancement is estimated based on prior experience
(3) 75% guaranteed by U.S. government agencies
Note : Ratings in table are the lowest of the six rating agencies (
Poor's
Loan Portfolio
The Company offers a variety of products to meet the credit needs of its
borrowers, principally commercial real estate loans, commercial and industrial
loans, retail loans secured by residential properties, and, to a lesser extent,
installment loans. No loans are extended to non-domestic borrowers or
governments.
The risks associated with lending activities differ among loan classes and are
subject to the impact of changes in interest rates, market conditions of
collateral securing the loans and general economic conditions. Any of these
factors may adversely impact a borrower's ability to repay loans, and also
impact the associated collateral. See Note 3, Loans and Allowance for Loan
Losses, to the unaudited condensed consolidated financial statements under Part
I, Item 1, "Financial Information," for a description of the Company's loan
classes and differing levels of associated credit risk.
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The following table presents the loan portfolio, excluding residential LHFS, by
segment and class at
September 30, December 31,
2022 2021
Commercial real estate:
Owner occupied $ 313,125 $ 238,668
Non-owner occupied 573,605 551,783
Multi-family 114,561 93,255
Non-owner occupied residential 105,267 106,112
Acquisition and development:
1-4 family residential construction 20,810 12,279
Commercial and land development 148,512 93,925
Commercial and industrial (1) 378,574 485,728
Municipal 12,683 14,989
Residential mortgage:
First lien 220,970 198,831
Home equity - term 5,869 6,081
Home equity - lines of credit 180,267 160,705
Installment and other loans 13,684 17,630
$ 2,087,927 $ 1,979,986
(1) This balance includes
of deferred fees and costs, at
respectively.
Total loans increased by$107.9 million fromDecember 31, 2021 toSeptember 30, 2022 . This increase is due to growth in commercial loans, excluding SBA PPP loans, of$243.3 million , home equity lines of credit of$19.6 million and first lien residential mortgages of$22.1 million , partially offset by a decrease of$172.9 million in SBA PPP loans due to loan forgiveness during the nine months endedSeptember 30, 2022 . Overall loan growth, excluding SBA PPP loans, was 16% for the nine months endedSeptember 30, 2022 .
Asset Quality
Risk Elements
The Company's loan portfolio is subject to varying degrees of credit risk. Credit risk is managed through the Company's underwriting standards, on-going credit reviews, and monitoring of asset quality measures. Additionally, loan portfolio diversification, which limits exposure to a single industry or borrower, and collateral requirements also mitigate the Company's risk of credit loss. The loan portfolio consists principally of loans to borrowers in south centralPennsylvania and the greaterBaltimore, Maryland region. As the majority of loans are concentrated in these geographic regions, a substantial portion of the borrowers' ability to honor their obligations may be affected by the level of economic activity in the market areas. Nonperforming assets include nonaccrual loans and foreclosed real estate. In addition, restructured loans still accruing and loans past due 90 days or more and still accruing are also deemed to be risk assets. For all loan classes, the accrual of interest income generally ceases when principal or interest is past due 90 days or more and collateral is inadequate to cover principal and interest or immediately if, in the opinion of management, full collection is unlikely. Interest will continue to accrue on loans past due 90 days or more if the collateral is adequate to cover principal and interest, and the loan is in the process of collection. Interest accrued, but not collected, as of the date of placement on nonaccrual status, is generally reversed and charged against interest income, unless fully collateralized. Subsequent payments received are either applied to the outstanding principal balance or recorded as interest income, depending on management's assessment of the ultimate collectability of principal. Loans are returned to accrual status, for all loan classes, when all the principal and interest amounts contractually due are brought current, the loans have performed in accordance with the contractual terms of the note for a reasonable period of time, generally six months, and the ultimate collectability of the total contractual principal and interest is reasonably assured. Past due status is based on contract terms of the loan. Loans, the terms of which are modified, are classified as TDRs if a concession was granted for legal or economic reasons related to a borrower's financial difficulties. Concessions granted under a TDR typically involve a temporary deferral of scheduled loan payments, an extension of a loan's stated maturity date, temporary reduction in interest rates, or below market 59
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rates. If a modification occurs while the loan is on accruing status, it will continue to accrue interest under the modified terms. Nonaccrual TDRs are restored to accrual status if scheduled principal and interest payments, under the modified terms, are current for six months after modification, and the borrower continues to demonstrate its ability to meet the modified terms. TDRs are evaluated individually for impairment if they have been restructured during the most recent calendar year, or if they are not performing according to their modified terms. The following table presents the Company's total nonperforming and other risk assets, including the aggregate balances of nonaccrual loans, restructured loans still accruing, loans past due 90 days or more, and OREO as ofSeptember 30, 2022 andDecember 31, 2021 . Loans 30-89 days past due and relevant asset quality ratios as ofSeptember 30, 2022 andDecember 31, 2021 are also presented. September 30, December 31, 2022 2021 Nonaccrual loans$ 5,303 $ 6,449 OREO - - Total nonperforming assets 5,303 6,449 Restructured loans still accruing 689 804 Loans past due 90 days or more and still accruing 232 1,201
Total nonperforming and other risk assets (total risk assets)
Loans 30-89 days past due and still accruing
$ 2,421 $ 5,925 Asset quality ratios: Total nonperforming loans to total loans 0.25 % 0.33 % Total nonperforming assets to total assets 0.19 % 0.23 % Total nonperforming assets to total loans and OREO 0.25 % 0.33 % Total risk assets to total loans and OREO 0.30 % 0.43 % Total risk assets to total assets 0.22 % 0.30 % ALL to total loans 1.18 % 1.07 % ALL to nonperforming loans 465.94 % 328.42 %
ALL to nonperforming loans and restructured loans still accruing 412.37 %
292.02 % Total nonperforming and other risk assets decreased by$2.2 million , or 26%, fromDecember 31, 2021 toSeptember 30, 2022 . Non-accrual loans decreased by$1.1 million fromDecember 31, 2021 toSeptember 30, 2022 due primarily to$721 thousand of loans returning to accrual status and payment activity of$972 thousand , partially offset by additions in loans classified as non-accrual loans of$583 thousand . Loans past due 90 days and still accruing decreased by$969 thousand fromDecember 31, 2021 toSeptember 30, 2022 due to the collection on a loan guaranteed by the SBA during the first quarter of 2022.
The following table presents detail of impaired loans, excluding accruing PCI
loans, at
September 30, 2022 December 31, 2021
Restructured Restructured
Nonaccrual Loans Still Nonaccrual Loans Still
Loans Accruing Total Loans Accruing Total
Commercial real estate:
Owner occupied $ 2,849 $ - $ 2,849 $ 3,763 $ - $ 3,763
Non-owner occupied residential 90 - 90 122 - 122
Commercial and industrial 45 - 45 250 - 250
Residential mortgage:
First lien 1,904 689 2,593 1,831 804 2,635
Home equity - term 5 - 5 7 - 7
Home equity - lines of credit 372 - 372 436 - 436
Installment and other loans 38 - 38 40 - 40
$ 5,303 $ 689 $ 5,992 $ 6,449 $ 804 $ 7,253
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The following table presents our exposure to relationships with an impaired balance, which excludes accruing PCI loans, and the partial charge-offs taken to date and specific reserves established on those relationships atSeptember 30, 2022 andDecember 31, 2021 . Of the relationships deemed to be impaired atSeptember 30, 2022 , one had a recorded balance in excess of$1.0 million , and 56 relationships, which represents 50% of total impaired loans, had recorded balances of less than$250 thousand . Partial # of Recorded Charge-offs Specific Relationships Investment to Date ReservesSeptember 30, 2022 Relationships greater than$1,000,000 1
Relationships greater than
- - - - Relationships greater than$250,000 but less than$500,000 2 577 - - Relationships less than$250,000 56 3,009 280 28 59
Relationships greater than
1
Relationships greater than
1 602 17 - Relationships greater than$250,000 but less than$500,000 2 601 - - Relationships less than$250,000 63 3,515 303 28 67$ 7,253 $ 320 $ 28 The Company takes partial charge-offs on collateral-dependent loans when carrying value exceeds estimated fair value, as determined by the most recent appraisal adjusted for current (within the quarter) conditions, less costs to dispose. Impairment reserves remain in place if updated appraisals are pending, and represent management's estimate of potential loss. Internal loan reviews are completed annually on all commercial relationships with a committed loan balance in excess of$1.0 million , which includes confirmation of risk rating by an independent credit officer. In addition, all commercial relationships greater than$500 thousand rated Substandard, Doubtful or Loss are reviewed and corresponding risk ratings are reaffirmed by the Bank's Problem Loan Committee, with subsequent reporting to the Management ERM Committee. In its individual loan impairment analysis, the Company determines the extent of any full or partial charge-offs that may be required, or any reserves that may be needed. The determination of the Company's charge-offs or impairment reserve include an evaluation of the outstanding loan balance and the related collateral securing the credit. Through a combination of collateral securing the loans and partial charge-offs taken to date, the Company believes that it has adequately provided for the potential losses that it may incur on these relationships atSeptember 30, 2022 . However, over time, additional information may result in increased reserve allocations or, alternatively, it may be deemed that the reserve allocations exceed those that are needed. In an effort to assist clients which were negatively impacted by the COVID-19 pandemic, the Bank offered various mitigation options, including a loan payment deferral program. Under this program, most commercial deferrals were for a 90-day period, while most consumer deferrals were for a 180-day period. As ofSeptember 30, 2022 , the Company had a loan deferral under this program for a consumer client with a total loan balance of$214 thousand as ofSeptember 30, 2022 . As ofDecember 31, 2021 , the Company had a consumer loan under this deferral program of$56 thousand for which the deferral period subsequently expired in 2022. In accordance with the revised Interagency Statement on Loan Modifications by Financial Institutions Working with Customers Affected by the Coronavirus issued onApril 7, 2020 , these deferrals are exempt from TDR status as they meet the specified requirements. The following table summarizes COVID-19 related modifications, including deferrals and forbearances: Amount of Loans Percent of Non-PPP Loans Loan Type September 30, 2022 December 31, 2021 September 30, 2022 December 31, 2021 Consumer loans $ 214 $ 56 - % - % Total loans $ 214 $ 56 - % - % 61
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Credit Risk Management
Allowance for Loan Losses
The Company maintains the ALL at a level deemed adequate by management for
probable incurred credit losses. The ALL is established and maintained through a
provision for loan losses, which is charged to earnings. On a quarterly basis,
management assesses the adequacy of the ALL using a defined methodology which
considers specific credit evaluation of impaired loans, historical loss
experience and qualitative factors. Management addresses the requirements for
loans individually identified as impaired, loans collectively evaluated for
impairment, and other bank regulatory guidance in its assessment.
The ALL is evaluated based on review of the collectability of loans in light of
historical experience; the nature and volume of the loan portfolio; adverse
situations that may affect a borrower's ability to repay; estimated value of any
underlying collateral; and prevailing economic conditions. This evaluation is
inherently subjective as it requires estimates that are susceptible to
significant revision as more information becomes available. A description of the
methodology for establishing the allowance and provision for loan losses and
related procedures in establishing the appropriate level of reserve is included
in Note 3, Loans and Allowance for Loan Losses, to the unaudited condensed
consolidated financial statements under Part I, Item 1, "Financial Information."
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The following table summarizes the Company's internal risk ratings at
Special Non-Impaired Impaired -
Pass Mention Substandard Substandard Doubtful PCI Loans Total
September 30, 2022
Commercial real estate:
Owner occupied $ 302,001 $ 3,392 $ 2,649 $ 2,849 $ - $ 2,234 $ 313,125
Non-owner occupied 566,996 3,931 2,388 - - 290 573,605
Multi-family 106,306 8,010 245 - - - 114,561
Non-owner occupied
residential 102,136 1,979 493 90 - 569 105,267
Acquisition and
development:
1-4 family residential
construction 20,810 - - - - - 20,810
Commercial and land
development 132,621 15,891 - - - - 148,512
Commercial and industrial 349,319 20,891 6,236 45 - 2,083 378,574
Municipal 12,683 - - - - - 12,683
Residential mortgage:
First lien 213,812 - 223 2,593 - 4,342 220,970
Home equity - term 5,849 - - 5 - 15 5,869
Home equity - lines of
credit 179,850 - 45 372 - - 180,267
Installment and other
loans 13,639 - - 38 - 7 13,684
$ 2,006,022 $ 54,094 $ 12,279 $ 5,992 $ - $ 9,540 $ 2,087,927
December 31, 2021
Commercial real estate:
Owner occupied $ 219,250 $ 7,239 $ 6,087 $ 3,763 $ - $ 2,329 $ 238,668
Non-owner occupied 528,010 23,297 166 - - 310 551,783
Multi-family 84,414 8,238 603 - - - 93,255
Non-owner occupied
residential 102,588 1,065 1,153 122 - 1,184 106,112
Acquisition and
development:
1-4 family residential
construction 12,279 - - - - - 12,279
Commercial and land
development 92,049 1,385 491 - - - 93,925
Commercial and industrial 470,579 7,917 4,720 250 - 2,262 485,728
Municipal 14,989 - - - - - 14,989
Residential mortgage:
First lien 191,386 - 225 2,635 - 4,585 198,831
Home equity - term 6,058 - - 7 - 16 6,081
Home equity - lines of
credit 160,203 20 46 436 - - 160,705
Installment and other
loans 17,584 - - 40 - 6 17,630
$ 1,899,389 $ 49,161 $ 13,491 $ 7,253 $ - $ 10,692 $ 1,979,986
Potential problem loans are defined as performing loans which have
characteristics that cause management concern over the ability of the borrower
to perform under present loan repayment terms and which may result in the
reporting of these loans as nonperforming loans in the future. Generally,
management feels that Substandard loans that are currently performing and not
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considered impaired result in some doubt as to the borrower's ability to continue to perform under the terms of the loan, and represent potential problem loans. Non-impaired Substandard loans totaled$12.3 million atSeptember 30, 2022 . Additionally, the Special Mention classification is intended to be a temporary classification reflective of loans that have potential weaknesses that may, if not monitored or corrected, weaken the asset or inadequately protect the Company's position at some future date. Special Mention loans represent an elevated risk, but their weakness does not yet justify a more severe, or classified, rating. These loans require inquiry by lenders on the cause of the potential weakness and, once analyzed, the loan classification may be downgraded to Substandard or, alternatively, could be upgraded to Pass. Special Mention loans increased by$4.9 million fromDecember 31, 2021 toSeptember 30, 2022 primarily due to downgrades for one borrower within Acquisition and Development and the other borrower within the Commercial and Industrial loan categories. These risk rating downgrades were partially offset by continued improvements in economic conditions resulting in upgrades to other commercial loans, including those that were previously downgraded due to the impact of the COVID-19 pandemic.
The following table summarizes activity in the ALL for the three and nine months
ended
Commercial Consumer
Acquisition Commercial
Commercial and and Residential Installment
Real Estate Development Industrial Municipal Total Mortgage and Other Total Unallocated Total
Three Months Ended
September 30, 2022
Balance, beginning of
period $ 12,294 $ 3,024 $
4,471
Provision for loan losses
551 342 296 (1) 1,188 309 (5) 304 8 1,500 Charge-offs - - (87) - (87) - (24) (24) - (111) Recoveries - 1 32 - 33 2 6 8 - 41
Balance, end of period
4,712$ 25 $ 20,949 $ 3,315 $ 200 $ 3,515 $ 245 $ 24,709 September 30, 2021 Balance, beginning of period$ 11,315 $ 1,243 $
3,495
Provision for loan losses (179)
290 386 (2) 495 (147) 18 (129) (1) 365 Charge-offs (89) - (55) - (144) - (20) (20) - (164) Recoveries 305 8 60 - 373 5 5 10 - 383
Balance, end of period
3,886$ 27 $ 16,806 $ 2,721 $ 230 $ 2,951 $ 208 $ 19,965 Nine Months Ended September 30, 2022 Balance, beginning of period$ 12,037 $ 2,062 $
3,814
Provision for loan losses
776 1,295 980 (5) 3,046 508 13 521 8 3,575 Charge-offs - - (202) - (202) (10) (42) (52) - (254) Recoveries 32 10 120 - 162 32 14 46 - 208
Balance, end of period
4,712$ 25 $ 20,949 $ 3,315 $ 200 $ 3,515 $ 245 $ 24,709 September 30, 2021 Balance, beginning of period$ 11,151 $ 1,114 $
3,942
Provision for loan losses
133 418 109 (13) 647 (578) (69) (647) (10) (10) Charge-offs (270) - (621) - (891) (92) (49) (141) - (1,032) Recoveries 338 9 456 - 803 29 24 53 - 856
Balance, end of period
3,886$ 27 $ 16,806 $ 2,721 $ 230 $ 2,951 $ 208 $ 19,965 The ALL totaled$24.7 million atSeptember 30, 2022 , an increase of$3.5 million fromDecember 31, 2021 , resulting from a provision for loan losses of$3.6 million , which was inclusive of net charge-offs of$46 thousand during the nine months endedSeptember 30, 2022 . AtSeptember 30, 2022 , the ALL as a percentage of the total loan portfolio was 1.18% compared to 1.03% atSeptember 30, 2021 . The ALL increased in the nine months endedSeptember 30, 2022 primarily as a result of commercial loan growth. Despite generally favorable delinquency and nonperforming loan data, the impact of current economic conditions may result in the need for additional provisions for loan losses in future quarters. Classified loans totaled$19.6 million atSeptember 30, 2022 , or 0.9% of total loans outstanding, reflecting a decrease from$23.1 million , or 1.2% of loans outstanding, atDecember 31, 2021 . The asset quality ratios, including the nonperforming loans and risk assets metrics, previously noted are indicative of the continued benefit the Company has received from favorable 64
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historical charge-off statistics and generally stable economic and market
conditions for the last few years, even while the commercial loan portfolio has
been growing.
The following table summarizes the ending loan balances individually or collectively evaluated for impairment based on loan type, as well as the ALL allocation for each, atSeptember 30, 2022 andDecember 31, 2021 , including PCI loans: Commercial Consumer Acquisition Commercial Commercial and and Residential Installment Real Estate Development Industrial Municipal Total Mortgage and Other Total Unallocated TotalSeptember 30, 2022 Loans allocated by: Individually evaluated for impairment$ 2,939 $ -$ 45 $ -$ 2,984 $ 2,970 $ 38$ 3,008 $ -$ 5,992 Collectively evaluated for impairment 1,103,619 169,322 378,529 12,683 1,664,153 404,136 13,646 417,782 - 2,081,935$ 1,106,558 $ 169,322 $ 378,574 $ 12,683 $ 1,667,137 $ 407,106 $ 13,684 $ 420,790 $ -$ 2,087,927 ALL allocated by: Individually evaluated for impairment $ - $ - $ - $ - $ - $ 28 $ -$ 28 $ -$ 28 Collectively evaluated for impairment 12,845 3,367 4,712 25 20,949 3,287 200 3,487 245 24,681$ 12,845 $ 3,367 $ 4,712 $ 25 $ 20,949 $ 3,315 $ 200 $ 3,515 $ 245 $ 24,709 December 31, 2021 Loans allocated by: Individually evaluated for impairment$ 3,885 $ -$ 250 $ -$ 4,135 $ 3,078 $ 40$ 3,118 $ -$ 7,253 Collectively evaluated for impairment 985,933 106,204 485,478 14,989 1,592,604 362,539 17,590 380,129 - 1,972,733$ 989,818 $ 106,204 $ 485,728 $ 14,989 $ 1,596,739 $ 365,617 $ 17,630 $ 383,247 $ -$ 1,979,986 ALL allocated by: Individually evaluated for impairment $ - $ - $ - $ - $ - $ 28 $ -$ 28 $ -$ 28 Collectively evaluated for impairment 12,037 2,062 3,814 30 17,943 2,757 215 2,972 237 21,152$ 12,037 $ 2,062 $ 3,814 $ 30 $ 17,943 $ 2,785 $ 215 $ 3,000 $ 237 $ 21,180
In addition to the specific reserve allocations on impaired loans noted
previously, eight loans, with aggregate outstanding principal balances of
thousand
thousand
collateral-dependent loans, partial charge-offs are taken to the extent the
loans' principal balance exceeds their fair value.
Management believes the allocation of the ALL among the various loan classes adequately reflects the probable incurred credit losses in each portfolio and is based on the methodology outlined in Note 3, Loans and Allowance for Loan Losses, to the Consolidated Financial Statements under Part I, Item 1, "Financial Information." Management re-evaluates and makes enhancements to its reserve methodology to better reflect the risks inherent in the different segments of the portfolio, particularly in light of increased charge-offs, with noticeable differences between the different loan classes. Management believes these enhancements to the ALL methodology improve the accuracy of quantifying probable incurred credit losses inherent in the portfolio. Management charges actual loan losses to the reserve and bases the provision for loan losses on its overall analysis. The unallocated portion of the ALL reflects estimated inherent losses within the portfolio that have not been detected, as well as the risk of error in the specific and general reserve allocation, other potential exposure in the loan portfolio, variances in management's assessment of national and local economic conditions and other factors management believes appropriate at the time. The unallocated portion of the ALL was 1.0% and 1.1% of the ALL balance atSeptember 30, 2022 andDecember 31, 2021 , respectively. The Company monitors the unallocated portion of the ALL and, by policy, has determined it should not 65
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exceed 3% of the total reserve. Future negative provisions for loan losses may result if the unallocated portion was to increase, and management determined the reserves were not required for the anticipated risk in the portfolio. Management believes the Company's ALL is adequate based on currently available information. Future adjustments to the ALL and enhancements to the methodology may be necessary due to changes in economic conditions, regulatory guidance, or management's assumptions as to future delinquencies or loss rates.
Deposits
Deposits grew by
at both
Noninterest-bearing deposits increased by$8.8 million , or 2%, to$562.0 million , fromDecember 31, 2021 toSeptember 30, 2022 . Interest-bearing deposits totaled$1.9 billion atSeptember 30, 2022 , an increase of$32.1 million , or less than 1%, from the$1.9 billion balance atDecember 31, 2021 , despite a decrease in time deposits, due to maturities, of$48.1 million , or 16%.
Deposit growth in the first nine months of 2022 was principally due to
seasonality from public fund clients and retail deposit generation.
Shareholders' Equity, Capital Adequacy and Regulatory Matters
Capital management in a regulated financial services industry must properly balance return on equity to its shareholders while maintaining sufficient levels of capital and related risk-based regulatory capital ratios to satisfy statutory regulatory requirements. The Company's capital management strategies have been developed to provide attractive rates of returns to its shareholders, while maintaining a "well capitalized" position of regulatory strength. Shareholders' equity totaled$217.4 million atSeptember 30, 2022 , a decrease of$54.3 million , or 20%, from$271.7 million atDecember 31, 2021 . The decrease was primarily attributable to other comprehensive losses of$47.9 million due to an increase in unrealized losses on AFS securities and interest rate swaps designated as cash flow hedges, caused by a substantial increase in market interest rates, as well as dividends paid of$6.2 million and shared-based compensation costs of$12.5 million , partially offset by net income of$12.4 million . For the nine months endedSeptember 30, 2022 , total comprehensive losses totaled$35.5 million , a decrease of$64.0 million , from total comprehensive income of$28.5 million for the same period in 2021. This decrease was primarily due to an increase in unrealized losses on AFS securities, net of taxes, of$48.8 million and a decrease in net income of$13.8 million , due partially to the provision for legal settlement of$13.0 million and a restructuring charge of$3.2 million , compared to the same period in 2021. The unrealized losses included in the unaudited consolidated statements of comprehensive (loss) income are the result of the significant increase in market interest rates. AtSeptember 30, 2022 , book value per common share was$20.34 per share compared to$24.29 per share atDecember 31, 2021 . Tangible book value per share also decreased from$22.32 per share atDecember 31, 2021 to$18.34 per share atSeptember 30, 2022 . These decreases are primarily a result of the decrease in shareholders' equity. See "Supplemental Reporting of Non-GAAP Measures." The Company routinely evaluates its capital levels in light of its risk profile to assess its capital needs. The Company and the Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. The consolidated asset limit on small bank holding companies is$3.0 billion and a company with assets under that limit is not subject to the FRB consolidated capital rules, but may file reports that include capital amounts and ratios. The Company has elected to file those reports. AtSeptember 30, 2022 andDecember 31, 2021 , the Bank was considered well-capitalized under applicable banking regulations. The decrease of 1.1% inTotal Risk-Based Capital from 14.0% atDecember 31, 2021 to 12.9% atSeptember 30, 2022 was due primarily to an increase in risk-weighted assets from the deployment of cash into commercial loans and an increase in deferred tax assets resulting from the increase in unrealized losses on AFS securities and interest rate swaps designated as cash flow hedges. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific guidelines that involve quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Prompt corrective action provisions are not applicable to bank holding companies, including financial holding companies. 66
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Note 8,Shareholders' Equity and Regulatory Capital , to the Notes to Unaudited Condensed Consolidated Financial Statements under Part I, Item 1, "Financial Information," includes a table presenting capital amounts and ratios for the Company and the Bank atSeptember 30, 2022 andDecember 31, 2021 . In addition to the minimum capital ratio requirement and minimum capital ratio to be well capitalized presented in the referenced table in Note 8, the Bank must maintain a capital conservation buffer as more fully described in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2021 , Item 1 - Business, under the topic Basel III Capital Rules. AtSeptember 30, 2022 , the Bank's capital conservation buffer, based on the most restrictive Total Capital to risk weighted assets capital ratio, was 4.9%, which is greater than the 2.5% requirement. Liquidity The primary function of asset/liability management is to ensure adequate liquidity and manage the Company's sensitivity to changing interest rates. Liquidity management involves the ability to meet the cash flow requirements of clients who may be either depositors wanting to withdraw funds or borrowers needing assurance that sufficient funds will be available to meet their credit needs. The Company's primary sources of funds consist of deposit inflows, loan repayments, maturities and sales of investment securities, the sale of mortgage loans and borrowings from the FHLB ofPittsburgh . While maturities and scheduled amortization of loans and investment securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions and competition. The Company's maximum borrowing capacity from the FHLB is$987.9 million atSeptember 30, 2022 . The Company regularly adjusts its investments in liquid assets based upon our assessment of expected loan demand, expected deposit flows, yields available on interest-earning deposits and investment securities and the objectives of our asset/liability management policy. Unencumbered investment securities totaled$99.5 million atSeptember 30, 2022 . AtSeptember 30, 2022 , the Company had$19.1 million of investment securities pledged at the FRB Discount Window, with no associated borrowings outstanding.
Supplemental Reporting of Non-GAAP Measures
As a result of acquisitions, the Company had intangible assets consisting of goodwill and core deposit and other intangible assets totaling$22.1 million and$22.9 million atSeptember 30, 2022 andDecember 31, 2021 , respectively. Additionally, the Company incurred, before taxes,$3.2 million and$13.0 million in restructuring charges and provision for legal settlement, respectively, during the three and nine months endedSeptember 30, 2022 .
Management believes providing certain "non-GAAP" financial information will
assist investors in their understanding of the effect on recent financial
results from non-recurring charges.
Tangible book value per share and the impact of the legal settlement and restructuring charge on net income and diluted earnings per share, as used by the Company in this supplemental reporting presentation, are determined by methods other than in accordance with GAAP. While we believe this information is a useful supplement to GAAP-based measures presented in this Form 10-Q, readers are cautioned that this non-GAAP disclosure has limitations as an analytical tool, should not be viewed as a substitute for financial measures determined in accordance with GAAP, and should not be considered in isolation or as a substitute for analysis of our results and financial condition as reported under GAAP, nor are such measures necessarily comparable to non-GAAP performance measures that may be presented by other companies. This supplemental presentation should not be construed as an inference that our future results will be unaffected by similar adjustments to be determined in accordance with GAAP. The decrease in tangible book value per share (non-GAAP) fromDecember 31, 2021 toSeptember 30, 2022 is primarily due to an increase in other comprehensive losses, net of taxes, of$47.9 million due to higher unrealized losses on AFS securities and interest rate swaps designated as cash flow hedges and share repurchases. 67
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The following table presents the computation of each non-GAAP based measure
shown together with its most directly comparable GAAP based measure.
(dollars and shares in thousands)
September 30, 2022 December 31, 2021 Tangible Book Value per Common Share Shareholders' equity $ 217,378 $ 271,656 Less: Goodwill 18,724 18,724 Other intangible assets 3,338 4,183 Related tax effect (701) (878) Tangible common equity (non-GAAP) $
196,017 $ 249,627
Common shares outstanding 10,686 11,183
Book value per share (most directly comparable GAAP
based measure)
$ 20.34 $ 24.29 Intangible assets per share 2.00 1.97 Tangible book value per share (non-GAAP) $ 18.34 $ 22.32
Adjusted Net Income and Adjusted Diluted Earnings Per
Share
September 30, 2022 (dollars and shares in thousands) Three Months Ended Nine Months Ended
Net (loss) income (most directly comparable GAAP based
measure)
$ (4,828) $ 12,411 Plus: Restructuring charges 3,155 3,155 Plus: Provision for legal settlement 13,000 13,000 Less: Related tax effect (3,393) (3,393) Adjusted net income (non-GAAP) $ 7,934 $ 25,173 Weighted average shares - diluted (most directly comparable GAAP-based measure) 10,369 10,758
Diluted (losses) earnings per share (most directly
comparable GAAP-based measure)
(0.47) 1.16 Weighted average shares - diluted (non-GAAP) 10,529 10,758 Diluted earnings per share, adjusted (non-GAAP) 0.75 2.34
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GLOBAL INDEMNITY GROUP, LLC – 10-Q – MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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