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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.

20549

FORM

10-K

☒

Annual report pursuant to Section 13 or 15(d) of the Securities Exchange

Act of 1934.

For the quarterly period ended

December 31, 2020

☐

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the transition period __________ to __________

Commission File Number:

0-26486

Auburn National Bancorporation, Inc.

(Exact Name of Registrant as Specified in Its Charter)

Delaware

63-0885779

(State or other jurisdiction

of incorporation)

(I.R.S. Employer

Identification No.)

132 N. Gay Street

Auburn,

Alabama

36830

(Address of principal executive offices)

(Zip Code)

Registrant’s telephone number, including area code: (

334

)

821-9200

Securities registered pursuant to Section 12 (b) of the Act:

Title of Each Class

Trading Symbol

Name of Exchange on which Registered

Common Stock

, par value $0.01

AUBN

NASDAQ

Global Market

Securities registered to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a

well-known seasoned issuer, as defined in Rule 405 of

the Securities Act. Yes

☐

☒

Indicate by check mark if the registrant is not

required to file reports pursuant to Section 13

or Section 15(d) of the Act. Yes

☐

☒

Indicate by check mark whether the registrant (1) has

filed all reports required to be filed by Section

13 or 15(d) of the Securities Exchange Act of

1934 during the

preceding 12 months (or for such shorter period that

the registrant was required to file such reports),

and (2) has been subject to such filing requirements

for the past

90 days.

Yes

☒

☐

Indicate by check mark whether the registrant has

submitted electronically every Interactive

Data File required to be submitted pursuant

to Rule 405 of Regulation S-

T (§ 232.405 of this chapter) during the preceding

12 months (or for such shorter period that the registrant

was required to submit such files).

Yes

☒

☐

Indicate by check mark whether the registrant is a

large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting

company. See the

definitions of “large accelerated filer,” “accelerated filer” and “smaller

reporting company” in Rule 12b-2

of the Exchange Act. (Check one):

Large Accelerated filer

☐

Accelerated filer

☐

Non-accelerated filer

☒

Smaller reporting company

☒

Emerging Growth

Company

☐

If an emerging growth company, indicate by check mark if the registrant has

selected not to use the extended transition

period for complying with any new or revised

financial accounting standards provided pursuant to

Section 13(a) of the Exchange Act. Yes

☐

☒

Indicate by check mark whether the registrant has

filed a report on and attestation to its management’s assessment

of the effectiveness of its internal control over

financial reporting under Section 404(b) of

the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by

the registered public accounting firm that prepared

or issued its audit

report.

☐

Indicate by check mark if the registrant is a

shell company (as defined in Rule 12b-2

of the Act). Yes

☐

☒

State the aggregate market value of the voting

and non-voting common equity held by

non-affiliates computed by reference to the price at which

the common equity

was last sold, or the average bid and asked price

of such common equity as of the last business

day of the registrant’s most recently completed second fiscal

quarter:

132,361,395

as of June 30, 2020.

APPLICABLE ONLY TO CORPORATE REGISTRANTS

Indicate the number of shares outstanding

of each of the registrant’s classes of common stock, as of the latest

practicable date:

3,566,326

shares of common stock as

of March 8, 2021.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the Annual Meeting

of Shareholders, scheduled to be held

May 11, 2021, are incorporated by reference into Part

II, Item 5 and

Part III of this Form 10-K.

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TABLE OF CONTENTS

PART I

PAGE

ITEM 1.

BUSINESS

ITEM 1A.

RISK FACTORS

ITEM 1B.

UNRESOLVED STAFF COMMENTS

ITEM 2.

PROPERTIES

ITEM 3.

LEGAL PROCEEDINGS

ITEM 4.

MINE SAFETY DISCLOSURES

PART II

ITEM 5.

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER

MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

ITEM 6.

SELECTED FINANCIAL DATA

ITEM 7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

ITEM 7A.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

ITEM 8.

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

ITEM 9.

CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON

ACCOUNTING AND FINANCIAL DISCLOSURE

114

ITEM 9A.

CONTROLS AND PROCEDURES

114

ITEM 9B.

OTHER INFORMATION

114

PART III

ITEM 10.

DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

115

ITEM 11.

EXECUTIVE COMPENSATION

115

ITEM 12.

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND

MANAGEMENT AND RELATED STOCKHOLDER MATTERS

115

ITEM 13.

CERTAIN RELATIONSHIPS, RELATED TRANSACTIONS AND DIRECTOR

INDEPENDENCE

115

ITEM 14.

PRINCIPAL ACCOUNTING FEES AND SERVICES

115

PART IV

ITEM 15.

EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

116

ITEM 16.

FORM 10-K SUMMARY

117

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PART

SPECIAL CAUTIONARY NOTE REGARDING

FORWARD

-LOOKING STATEMENTS

Various

of the statements made herein under the captions “Management’s

Discussion and Analysis of Financial Condition

and Results of Operations”, “Quantitative and Qualitative Disclosures

about Market Risk”, “Risk Factors” and elsewhere,

are “forward-looking statements” within the meaning and protections

of Section 27A of the Securities Act of 1933 and

Section 21E of the Securities Exchange Act of 1934, as amended

(the “Exchange Act”).

Forward-looking statements include statements with respect to

our beliefs, plans, objectives, goals, expectations,

anticipations, assumptions, estimates, intentions and future performance,

and involve known and unknown risks,

uncertainties and other factors, which may be beyond our

control, and which may cause the actual results, performance,

achievements or financial condition of the Company to be materially

different from future results, performance,

achievements or financial condition expressed or implied by

such forward-looking statements.

You

should not expect us to

update any forward-looking statements.

All statements other than statements of historical fact are statements

that could be forward-looking statements.

You

can

identify these forward-looking statements through our use of

words such as “may,”

“will,” “anticipate,” “assume,”

“should,” “indicate,” “would,” “believe,” “contemplate,” “expect,”

“estimate,” “continue,” “plan,” “point to,” “project,”

“could,” “intend,” “target” and other similar words and

expressions of the future.

These forward-looking statements may

not be realized due to a variety of factors, including, without

limitation:

●

the effects of future economic, business and market conditions

and changes, foreign, domestic and locally,

including seasonality, including

as a result of natural disasters or climate change, such as rising

sea and water

levels, hurricanes and tornados, coronavirus or other epidemics

or pandemics;

●

the effects of war or other conflicts, acts of terrorism, or

other events that may affect general economic conditions;

●

governmental monetary and fiscal policies;

●

legislative and regulatory changes, including changes in banking,

securities and tax laws, regulations and rules and

their application by our regulators, including capital and liquidity

requirements, and changes in the scope and cost

of FDIC insurance;

●

the failure of assumptions and estimates, as well as differences

in, and changes to, economic, market and credit

conditions, including changes in borrowers’ credit risks and

payment behaviors from those used in our loan

portfolio reviews;

●

the risks of changes in interest rates on the levels, composition

and costs of deposits, loan demand, and the values

and liquidity of loan collateral, securities, and interest-sensitive assets

and liabilities, and the risks and uncertainty

of the amounts realizable;

●

changes in borrower credit risks and payment behaviors;

●

changes in the availability and cost of credit and capital in the

financial markets, and the types of instruments that

may be included as capital for regulatory purposes;

●

changes in the prices, values and sales volumes of residential and

commercial real estate;

●

the effects of competition from a wide variety of local,

regional, national and other providers of financial,

investment and insurance services, including the disruption effects

of financial technology and other competitors

who are not subject to the same regulations as the Company and

the Bank;

●

the failure of assumptions and estimates underlying the establishment

of allowances for possible loan losses and

other asset impairments, losses valuations of assets and liabilities and

other estimates;

●

the costs of redeveloping our headquarters and the timing and

amount of rental income upon completion of the

project;

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●

the risks of mergers, acquisitions and divestitures, including,

without limitation, the related time and costs of

implementing such transactions, integrating operations as part

of these transactions and possible failures to achieve

expected gains, revenue growth and/or expense savings from

such transactions;

●

changes in technology or products that may be more difficult,

costly, or less effective

than anticipated;

●

cyber-attacks and data breaches that may compromise our

systems, our vendor systems

or customers’

information;

●

the risks that our deferred tax assets (“DTAs”),

if any, could be reduced

if estimates of future taxable income from

our operations and tax planning strategies are less than currently estimated,

and sales of our capital stock could

trigger a reduction in the amount of net operating loss carry-forwards that

we may be able to utilize for income tax

purposes; and

●

other factors and risks described under “Risk Factors” herein and in any of

our subsequent reports that we make

with the Securities and Exchange Commission (the “Commission”

or “SEC”) under the Exchange Act.

All written or oral forward-looking statements that are made by us or

are attributable to us are expressly qualified in their

entirety by this cautionary notice.

We have no obligation and

do not undertake to update, revise or correct any of the

forward-looking statements after the date of this report, or after

the respective dates on which such statements otherwise are

made.

ITEM 1.

BUSINESS

Auburn National Bancorporation, Inc. (the “Company”) is a bank holding

company registered with the Board of Governors

of the Federal Reserve System (the “Federal Reserve”) under

the Bank Holding Company Act of 1956, as amended (the

“BHC Act”).

The Company was incorporated in Delaware in 1990, and

in 1994 it succeeded its Alabama predecessor as

the bank holding company controlling AuburnBank, an Alabama state

member bank with its principal office in Auburn,

Alabama (the “Bank”).

The Company and its predecessor have controlled the Bank since

1984.

As a bank holding

company, the Company may diversify

into a broader range of financial services and other business activities

than currently

are permitted to the Bank under applicable laws and regulations.

The holding company structure also provides greater

financial and operating flexibility than is presently permitted

to the Bank.

The Bank has operated continuously since 1907 and currently conducts

its business primarily in East Alabama, including

Lee County and surrounding areas.

The Bank has been a member of the Federal Reserve System since April

1995.

The

Bank’s primary regulators are

the Federal Reserve and the Alabama Superintendent of Banks (the

“Alabama

Superintendent”).

The Bank has been a member of the Federal Home Loan Bank of

Atlanta (the “FHLB”) since 1991.

General

The Company’s business is conducted

primarily through the Bank and its subsidiaries.

Although it has no immediate plans

to conduct any other business, the Company may engage directly

or indirectly in a number of activities that the Federal

Reserve has determined to be so closely related to banking or

managing or controlling banks as to be a proper incident

thereto.

The Company’s principal executive

offices are located at 132 N. Gay Street, Auburn, Alabama

36830, and its telephone

number at such address is (334) 821-9200.

The Company maintains an Internet website at

www.auburnbank.com

The

Company’s website and the information

appearing on the website are not included or incorporated

in, and are not part of,

this report.

The Company files annual, quarterly

and current reports, proxy statements, and other information with

the

SEC.

You

may read and copy any document we file with the SEC at the SEC’s

public reference room at 100 F Street, N.E.,

Washington, DC 20549.

Please call the SEC at 1-800-SEC-0330 for more information on the operation

of the public

reference rooms.

The SEC maintains an Internet site at

www.sec.gov

that contains reports, proxy,

and other information,

where SEC filings are available to the public free of charge.

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Services

The Bank offers checking, savings, transaction deposit

accounts and certificates of deposit, and is an active residential

mortgage lender in its primary service area.

The Bank’s primary service area

includes the cities of Auburn and Opelika,

Alabama and nearby surrounding areas in East Alabama, primarily in

Lee County.

The Bank also offers commercial,

financial, agricultural, real estate construction and consumer

loan products and other financial services.

The Bank is one of

the largest providers of automated teller services in

East Alabama and operates ATM

machines in 13 locations in its

primary service area.

The Bank offers Visa

Checkcards, which are debit cards with the Visa

logo that work like checks

but can be used anywhere Visa

is accepted, including ATMs.

The Bank’s Visa

Checkcards can be used internationally

through the Plus

network.

The Bank offers online banking, bill payment

and other electronic services through its Internet

website,

www.auburnbank.com

Our online banking services, bill payment and electronic

services are subject to certain

cybersecurity risks.

See “Risk Factors – Our information systems may experience

interruptions and security breaches.”

Competition

The banking business in East Alabama, including Lee County,

is highly competitive with respect to loans, deposits, and

other financial services.

The area is dominated by a number of regional and national

banks and bank holding companies

that have substantially greater resources, and numerous offices

and affiliates operating over wide geographic areas.

The

Bank competes for deposits, loans and other business with these banks,

as well as with credit unions, mortgage companies,

insurance companies, and other local and nonlocal financial institutions,

including institutions offering services through

the

mail, by telephone and over the Internet.

As more and different kinds of businesses enter the market

for financial services,

competition from nonbank financial

institutions may be expected to intensify further.

Among the advantages that larger financial institutions have

over the Bank are their ability to finance extensive advertisin

campaigns, to diversify their funding sources, and to allocate

and diversify their assets among loans and securities of the

highest yield in locations with the greatest demand.

Many of the major commercial banks or their affiliates operating

in the

Bank’s service area offer

services which are not presently offered directly

by the Bank and they typically have substantially

higher lending limits than the Bank.

Banks also have experienced significant competition for deposits from

mutual funds, insurance companies and other

investment companies and from money center banks’ offerings

of high-yield investments and deposits.

Certain of these

competitors are not subject to the same regulatory restrictions

as the Bank.

Selected Economic Data

Lee County’s population was estimated

to be 164,542 in 2019, and has increased approximately 17.3

from 2010 to 2019.

The largest employers in the area are Auburn University,

East Alabama Medical Center, a Wal

-Mart Distribution Center,

Mando America Corporation, and Briggs & Stratton.

Auto manufacturing and related suppliers are increasingly important

along Interstate Highway 85 to the east and west of Auburn.

Kia Motors has a large automobile factory in nearby West

Point, Georgia, and Hyundai Motors has a large

automobile factory in Montgomery,

Alabama.

Between 2010 and 2019, the Auburn-Opelika MSA grew 1

7.3%, the second fastest growing MSA in Alabama.

The U.S.

Census Bureau estimates that the Auburn-Opelika MSA population will

grow 5.41% from 2020 to 2025.

During the same

time, the U.S. Census Bureau estimates that household income

will increase 13.70%, to $66,363, which is approximately

the same as the Birmingham-Hoover MSA.

Loans and Loan Concentrations

The Bank makes loans for commercial, financial and agricultural purposes,

as well as for real estate mortgages, real estate

acquisition, construction and development and consumer

purposes.

While there are certain risks unique to each type of

lending, management believes that there is more risk associated

with commercial, real estate acquisition, construction and

development, agricultural and consumer lending than with residentia

real estate mortgage loans.

To help manage these

risks, the Bank has established underwriting standards used in

evaluating each extension of credit on an individual basis,

which are substantially similar for each type of loan.

These standards include a review of the economic conditions

affecting the borrower, the borrower’s

financial strength and capacity to repay the debt, the underlying collateral

and the

borrower’s past credit performance.

We apply these standards

at the time a loan is made and monitor them periodically

throughout the life of the loan.

See “Lending Practices” for a discussion of regulatory guidance

on commercial real estate

lending.

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The Bank has loans outstanding to borrowers in all industries

within our primary service area.

Any adverse economic or

other conditions affecting these industries would also

likely have an adverse effect on the local workforce,

other local

businesses, and individuals in the community that have entered

into loans with the Bank.

For example, the auto

manufacturing business and its suppliers have positively affected

our local economy, but automobile

manufacturing is

cyclical and adversely affected by increases in interest

rates. Decreases in automobile sales, including adverse changes

due

to interest rate increases, and the economic effects of

the impact of COVID-19, including continuing supply chain

disruptions, could adversely affect nearby Kia and Hyundai

automotive plants and their suppliers' local spending and

employment, and could adversely affect economic conditions

in the markets we serve. However,

management believes that

due to the diversified mix of industries located within the Bank’s

primary service area, adverse changes in one industry may

not necessarily affect other area industries to the same degree

or within the same time frame.

The Bank’s primary service

area also is subject to both local and national economic conditions and

fluctuations.

While most loans are made within our

primary service area, some residential mortgage loans are originated

outside the primary service area, and the Bank from

time to time has purchased loan participations from outside its

primary service area.

Employees

At December 31, 2020,

the Company and its subsidiaries had 152 full-time equivalent employees,

including 36 officers. In

response to the COVID-19 pandemic, our business continuity plan has

worked to provide essential banking services to our

communities and customers, while protecting our employees’ health.

As part of our efforts to exercise social distancing in

accordance with the guidelines of the Centers for Disease Control

and the Governor of the State of Alabama, starting March

23, 2020, we limited branch lobby service to appointment only while

continuing to operate our branch drive-thru facilities

and ATMs.

On June 1, 2020, we re-opened some of our branch lobbies as permitted

by state public health guidelines.

continue to provide services through our online and other electronic

channels.

In addition, we established remote work

access to help employees stay at home where job duties permit.

Statistical Information

Certain statistical information is included in response to Item

7 of this Annual Report on Form 10-K.

Certain statistical

information is also included in response to Item 6, Item 7A and Item

8 of this Annual Report on Form 10-K.

SUPERVISION AND REGULATION

The Company and the Bank are extensively regulated under federal

and state laws applicable to banks and bank holding

companies.

The supervision, regulation and examination of the Company and

the Bank and their respective subsidiaries by

the bank regulatory agencies are primarily intended to maintain

the safety and soundness of depository institutions and the

federal deposit insurance system, as well

as the protection of depositors, rather than holders of Company

capital stock and

other securities.

Any change in applicable law or regulation may have a material

effect on the Company’s

business.

The

following discussion is qualified in its entirety by

reference to the particular laws and rules referred

to below.

Bank Holding Company Regulation

The Company, as a bank holding company,

is subject to supervision, regulation and examination by the Federal

Reserve

under the BHC Act.

Bank holding companies generally are limited to the business

of banking, managing or controlling

banks, and certain related activities.

The Company is required to file periodic reports and other information

with the

Federal Reserve.

The Federal Reserve examines the Company and its subsidiaries.

The State of Alabama currently does

not regulate bank holding companies.

The BHC Act requires prior Federal Reserve approval for,

among other things, the acquisition by a bank holding company

of direct or indirect ownership or control of more than 5% of

the voting shares or substantially all the assets of any bank, or

for a merger or consolidation of a bank holding company

with another bank holding company.

The BHC Act generally

prohibits a bank holding company from acquiring direct or

indirect ownership or control of voting shares of any company

that is not a bank or bank holding company and from engaging directly

or indirectly in any activity other than banking or

managing or controlling banks or performing services for its authorized

subsidiary.

A bank holding company may,

however, engage in or acquire an interest

in a company that engages in activities that the Federal Reserve has

determined

by regulation or order to be so closely related to banking or managing

or controlling banks as to be a proper incident

thereto. On January 30, 2020, the Federal Reserve adopted

new rules, effective September 30, 2020 simplifying

determinations of control of banking organizations for

BHC Act purposes.

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Bank holding companies that are and remain “well-capitalized”

and “well-managed,” as defined in Federal Reserve

Regulation Y,

and whose insured depository institution subsidiaries maintain “satisfactory”

or better ratings under the

Community Reinvestment Act of 1977 (the “CRA”), may elect

to become “financial holding companies.” Financial holding

companies and their subsidiaries are permitted to acquire or

engage in activities such as insurance underwriting, securities

underwriting, travel agency activities, broad insurance agency

activities, merchant banking and other activities that the

Federal Reserve determines to be financial in nature or complementary

thereto.

In addition, under the BHC Act’s

merchant

banking authority and Federal Reserve regulations, financial holding

companies are authorized to invest in companies that

engage in activities that are not financial in nature, as long as

the financial holding company makes its investment, subject

to limitations, including a limited investment term, no day

-to-day management, and no cross-marketing with any depositary

institutions controlled by the financial holding company.

The Federal Reserve recommended repeal of

the merchant

banking powers in its September 16, 2016 study pursuant to

Section 620 of the Dodd-Frank Wall

Street Reform and

Consumer Protection Act of 2010 (the “Dodd-Frank Act”).

The Company has not elected to become a financial holding

company, but it may elect to

do so in the future.

Financial holding companies continue to be subject to

Federal Reserve supervision, regulation and examination, but the

Gramm-Leach-Bliley Act of 1999 the “GLB Act”) applies the concept

of functional regulation to subsidiary activities.

For

example, insurance activities would be subject to supervision

and regulation by state insurance authorities.

The BHC Act permits acquisitions of banks by bank holding

companies, subject to various restrictions, including that the

acquirer is “well capitalized” and “well managed”.

Under the Alabama Banking Code, with the prior approval of the

Alabama Superintendent, an Alabama bank may acquire and

operate one or more banks in other states pursuant to a

transaction in which the Alabama bank is the surviving bank.

In addition, one or more Alabama banks may enter into a

merger transaction with one or more out-of-state banks,

and an out-of-state bank resulting from such transaction

may

continue to operate the acquired branches in Alabama.

The Dodd-Frank Act permits banks, including Alabama banks,

branch anywhere in the United States.

The Company is a legal entity separate and distinct from the Bank.

Various

legal limitations restrict the Bank from lending

or otherwise supplying funds to the Company.

The Company and the Bank are subject to Sections 23A and

23B of the

Federal Reserve Act and Federal Reserve Regulation W thereunder.

Section 23A defines “covered transactions,” which

include extensions of credit, and limits a bank’s

covered transactions with any affiliate to 10%

of such bank’s capital and

surplus.

All covered and exempt transactions between a bank and its affiliates

must be on terms and conditions consistent

with safe and sound banking practices, and banks and their subsidiaries

are prohibited from purchasing low-quality assets

from the bank’s affiliates.

Finally, Sectio

23A requires that all of a bank’s extensions

of credit to its affiliates be

appropriately secured by permissible collateral, generally United

States government or agency securities.

Section 23B of

the Federal Reserve Act generally requires covered and other

transactions among affiliates to be on terms and under

circumstances, including credit standards, that are substantially the

same as or at least as favorable to the bank or its

subsidiary as those prevailing at the time for similar transactions with

unaffiliated companies.

Federal Reserve policy and the Federal Deposit Insurance Act,

as amended by the Dodd-Frank Act, require a bank holding

company to act as a source of financial

and managerial strength to its FDIC-insured bank subsidiaries

and to take measures

to preserve and protect such bank subsidiaries in situations where additional

investments in a bank subsidiary may not

otherwise be warranted.

In the event an FDIC-insured

subsidiary becomes subject to a capital restoration plan with

its

regulators, the parent bank holding company is required to

guarantee performance of such plan up to 5% of the bank’s

assets, and such guarantee is given priority in bankruptcy of the

bank holding company.

In addition, where a bank holding

company has more than one bank or thrift subsidiary,

each of the bank holding company’s

subsidiary depository institutions

may be responsible for any losses to the FDIC’s

Deposit Insurance Fund (“DIF”), if an affiliated

depository institution fails.

As a result, a bank holding company may be required to loan money to

a bank subsidiary in the form of subordinate capital

notes or other instruments which qualify as capital under bank

regulatory rules.

However, any loans from the holding

company to such subsidiary banks likely will be unsecured

and subordinated to such bank’s depositors

and to other

creditors of the bank.

See “Capital.”

As a result of legislation in 2014 and 2018, the Federal

Reserve has revised its Small Bank Holding Company Policy

Statement (the “Small BHC Policy”) to expand it to include thrift holding

companies and increase the size of “small” for

qualifying bank and thrift holding companies from $500 million

to up to $3 billion of pro forma consolidated assets.

The Federal Reserve confirmed in 2018 that the Company is

eligible for treatment as a small banking holding company

under the Small BHC Policy.

As a result, unless and until the Company fails to qualify under

the Small BHC Policy, the

Company’s capital adequacy will

continue to be evaluated on a bank only basis.

See “Capital.”

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Bank Regulation

The Bank is a state bank that is a member of the Federal Reserve.

It is subject to supervision, regulation and examination

by the Federal Reserve and the Alabama Superintendent, which monitor

all areas of the Bank’s operations,

including loans,

reserves, mortgages, issuances and redemption of capital securities, payment

of dividends, establishment of

branches,

capital adequacy and compliance with laws.

The Bank is a member of the FDIC and, as such, its deposits are

insured by

the FDIC to the maximum extent provided by law,

and is subject to various FDIC regulations.

See “FDIC Insurance

Assessments.”

Alabama law permits statewide branching by banks.

The powers granted to Alabama-chartered banks by state law

include

certain provisions designed to provide such banks competitive

equality with national banks.

The Federal Reserve has adopted the Federal Financial Institutions Examination

Council’s (“FFIEC”) rating system,

which

assigns each financial institution a confidential composite “CAMELS”

rating based on an evaluation and rating of six

essential components of an institution’s

financial condition and operations:

Capital Adequacy, Asset

Quality, Management,

Earnings, Liquidity and Sensitivity to market risk, as well as the

quality of risk management practices.

For most

institutions, the FFIEC has indicated that market risk primarily reflects

exposures to changes in interest rates.

When

regulators evaluate this component, consideration is expected

to be given to: management’s

ability to identify, measure,

monitor and control market risk; the institution’s

size; the nature and complexity of its activities and its risk profile; and

the

adequacy of its capital and earnings in relation to its level of market

risk exposure.

Market risk is rated based upon, but not

limited to, an assessment of the sensitivity of the financial institution’s

earnings or the economic value of its capital to

adverse changes in interest rates, foreign exchange rates, commodity

prices or equity prices; management’s

ability to

identify, measure, monitor

and control exposure to market risk; and the nature and complexity

of interest rate risk exposure

arising from non-trading positions. Composite ratings are based on

evaluations of an institution’s managerial,

operational,

financial and compliance performance. The composite CAMELS rating

is not an arithmetical formula or rigid weighting of

numerical component ratings. Elements of subjectivity and

examiner judgment, especially as these relate to qualitative

assessments, are important elements in assigning ratings.

The federal bank regulatory agencies are reviewing the CAMELS

rating system and their consistency.

The GLB Act and related regulations require banks and their

affiliated companies to adopt and disclose privacy policies,

including policies regarding the sharing of personal information

with third parties.

The GLB Act also permits bank

subsidiaries to engage in “financial activities” similar to those

permitted to financial holding companies. In December 2015,

Congress amended the GLB Act as part of the Fixing America’s

Surface Transportation Act. This

amendment provided

financial institutions that meet certain conditions an exemption to

the requirement to deliver an annual privacy notice. On

August 10, 2018, the federal Consumer Financial Protection Bureau

(“CFPB”) announced that it had finalized conforming

amendments to its implementing regulation, Regulation P.

A variety of federal and state privacy laws govern the collection, safeguarding,

sharing and use of customer information,

and require that financial institutions have policies regarding information

privacy and security.

Some state laws also protect

the privacy of information of state residents and require adequate

security of such data, and certain state laws may,

in some

circumstances, require us to notify affected individuals

of security breaches of computer databases that contain their

personal information. These laws may also require us to notify law enforcement,

regulators or consumer reporting agencies

in the event of a data breach, as well as businesses and governmental agencies

that own data.

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Community Reinvestment Act and Consumer Laws

The Bank is subject to the provisions of the CRA and the Fede

ral Reserve’s regulations thereunder.

Under the CRA, all

FDIC-insured institutions have a continuing and affirmative

obligation, consistent with their safe and sound operation, to

help meet the credit needs for their entire communities, including low-

and moderate-income neighborhoods.

The CRA

requires a depository institution’s

primary federal regulator to periodically assess the institution’s

record of assessing and

meeting the credit needs of the communities served by that institution,

including low- and moderate-income neighborhoods.

The bank regulatory agency’s CRA

assessment is publicly available.

Further, consideration of the CRA is required

of any

FDIC-insured institution that has applied to: (i) charter a national bank;

(ii) obtain deposit insurance coverage for a newly-

chartered institution; (iii) establish a new branch office that

accepts deposits; (iv) relocate an office; or (v) merge

consolidate with, or acquire the assets or assume the liabilities of,

an FDIC-insured financial institution.

In the case of bank

holding company applications to acquire a bank or other

bank holding company, the Federal

Reserve will assess the records

of each subsidiary depository institution of the applicant bank holding

company, and such records

may be the basis for

denying the application.

A less than satisfactory CRA rating will slow,

if not preclude, acquisitions, and new branches and

other expansion activities and may prevent a company from becoming

a financial holding company.

CRA agreements with private parties must be disclosed and annual

CRA reports must be made to a bank’s

primary federal

regulator.

A financial holding company election, and such election and financial holding

company activities are permitted

to be continued, only if any affiliated bank has not received

less than a “satisfactory” CRA rating.

The federal CRA

regulations require that evidence of discriminatory,

illegal or abusive lending practices be considered in the CRA

evaluation.

On December 13, 2019, the FDIC and OCC issued a joint notice

of proposed rulemaking seeking comment on modernizing

the agencies’ CRA regulations. The OCC issued final revised

CRA Rules effective October 1, 2020, with compliance dates

of October 1, 2020, and January 1, 2023 or 2024. The FDIC

has not issued final revised CRA regulations. On November

24, 2020, the OCC sought additional comment on the general

performance standards of its CRA regulations. On September

21, 2020, the Federal Reserve issued an advanced notice of proposed

rulemaking seeking comment on ways to strengthen,

clarify and tailor its CRA regulations, which, if adopted,

would govern the Bank’s CRA compliance.

Under the Federal

Reserve proposal, “small banks” would be limited to banks with assets

of $750 million or $1 billion, and could elect

between the existing CRA rules or any newly adopted CRA rules.

The Bank is also subject to, among other things, the Equal Credit

Opportunity Act (the “ECOA”) and the Fair Housing Act

and other fair lending laws, which prohibit discrimination based

on race or color, religion, national origin,

sex and familial

status in any aspect of a consumer or commercial credit or

residential real estate transaction.

The Department of Justice

(the “DOJ”), and the federal bank regulatory agencies have issued

an Interagency Policy Statement on Discrimination in

Lending to provide guidance to financial institutions in determining whether

discrimination exists, how the agencies will

respond to lending discrimination, and what steps lenders might take

to prevent discriminatory lending practices.

The DOJ

has prosecuted what it regards as violations of the ECOA, the

Fair Housing Act, and the fair lending laws, generally.

The federal bank regulators have updated their guidance several

times on overdrafts, including overdrafts incurred at

automated teller machines and point of sale terminals.

Overdrafts also have been a CFPB concern.

Among other things,

the federal regulators require banks to monitor accounts and

to limit the use of overdrafts by customers as a form of short-

term, high-cost credit, including, for example, giving customers who

overdraw their accounts on more than six occasions

where a fee is charged in a rolling 12 month period

a reasonable opportunity to choose a less costly alternative and decide

whether to continue with fee-based overdraft coverage.

It also encourages placing appropriate daily limits on overdraft

fees, and asks banks to consider eliminating overdraft fees for

transactions that overdraw an account by a

de minimis

amount.

Overdraft policies, processes, fees and disclosures are

frequently the subject of litigation against banks in various

jurisdictions. The federal bank regulators continue to consider

responsible small dollar lending, including overdrafts and

related fee issues and issued principals for offering small

-dollar loans in a responsible manner on May 20, 2020.

The CFPB

proposed on February 6, 2019 to rescind its mandatory underwriting

standards for loans covered by its 2017 Payday,

Vehicle

Title and Certain High-Cost Installment Loans

rule, and has separately proposed delaying the effectiveness

of such

2017 rule.

The CFPB has a broad mandate to regulate consumer financial

products and services, whether or not offered by banks

their affiliates.

The CFPB has the authority to adopt regulations and enforce

various laws, including fair lending laws, the

Truth in Lending Act, the Electronic Funds Transfer

Act, mortgage lending rules, the Truth in Savings Act,

the Fair Credit

Reporting Act and Privacy of Consumer Financial Information

rules.

Although the CFPB does not examine or supervise

banks with less than $10 billion in assets, banks of all sizes are

affected by the CFPB’s

regulations, and the precedents

set

in CFPB enforcement actions and interpretations.

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Residential Mortgages

CFPB regulations require that lenders determine whether a consumer

has the ability to repay a mortgage loan.

These

regulations establish certain minimum requirements for creditors

when making ability to repay determinations, and provide

certain safe harbors from liability for mortgages that are "qualified

mortgages" and are not “higher-priced.”

Generally,

these CFPB regulations apply to all consumer,

closed-end loans secured by a dwelling including home

-purchase loans,

refinancing and home equity loans—whether first or subordinate

lien. Qualified mortgages must generally satisfy detailed

requirements related to product features, underwriting standards,

and requirements where the total points and fees on a

mortgage loan cannot exceed specified amounts or percentages of the

total loan amount. Qualified mortgages must have:

(1) a term not exceeding 30 years; (2) regular periodic

payments that do not result in negative amortization, deferral of

principal repayment, or a balloon payment; (3) and be supported

with documentation of the borrower and its credit. On

December 10, 2020, the CFPB issued final rules related to

“qualified mortgage” loans. Lenders are required under the law

to determine that consumers have the ability to repay mortgage

loans before lenders make those loans. Loans that meet

standards for QM loans are presumed to be loans for which consumers

have the ability to repay.

We focus our residential

mortgage origination on qualified mortgages and those that meet

our investors’ requirements, but

we may make loans that do not meet the safe harbor requirements

for “qualified mortgages.”

The Economic Growth, Regulatory Relief, and Consumer Protection

Act of 2018 (the “2018 Growth Act”) provides that

certain residential mortgages held in portfolio by banks with less than

$10 billion in consolidated assets automatically are

deemed “qualified mortgages.” This relieves smaller institutions from

many of the requirements to satisfy the criteria listed

above for “qualified mortgages.” Mortgages meeting the “qualified

mortgage” safe harbor may not have negative

amortization, must follow prepayment penalty limitations included

in the Truth in Lending Act, and may not have

fees

greater than 3% of the total value of the loan.

The Bank generally services the loans it originates, including those it

sells.

The CFPB’s mortgage servicing standards

include requirements regarding force-placed insurance, certain

notices prior to rate adjustments on adjustable rate

mortgages, and periodic disclosures to borrowers. Servicers are

prohibited from processing foreclosures when a loan

modification is pending, and must wait until a loan is more than 120

days delinquent before initiating a foreclosure action.

Servicers must provide borrowers with direct and ongoing access

to its personnel, and provide prompt review of any loss

mitigation application. Servicers must maintain accurate and accessible

mortgage records for the life of a loan and until one

year after the loan is paid off or transferred. These

standards increase the cost and compliance risks of servicing mortgage

loans, and the mandatory delays in foreclosures could result in loss of

value on collateral or the proceeds we may realize

from a sale of foreclosed property.

The Federal Housing Finance Authority (“FHFA”)

updated, effective January 1, 2016, The Federal

National Mortgage

Association’s (“Fannie Mae’s”)

and the Federal Home Loan Mortgage Corporation (“Freddie

Mac’s”) (individually and

collectively, “GSE”) repurchase

rules, including the kinds of loan defects that could lead to a

repurchase request to, or

alternative remedies with, the mortgage loan originator or

seller.

These rules became effective January 1, 2016.

FHFA also

has updated these GSEs’ representations and warranties framework

and provided an independent dispute resolution

(“IDR”) process to allow a neutral third party to resolve demands

after the GSEs’ quality control and appeal processes have

been exhausted.

The Bank is subject to the CFPB’s

integrated disclosure rules under the Truth in Lending

Act and the Real Estate

Settlement Procedures Act, referred to as “TRID”, for

credit transactions secured by real property.

Our residential mortgage

strategy, product offerings,

and profitability may change as these regulations are interpreted

and applied in practice, and

may also change due to any restructuring of Fannie Mae and

Freddie Mac as part of the resolution of their conservatorships.

The 2018 Growth Act reduced the scope of TRID rules by eliminating

the wait time for a mortgage, if an additional creditor

offers a consumer a second offer with a lower

annual percentage rate. Congress encouraged federal

regulators to provide

better guidance on TRID in an effort to provide

a clearer understanding for consumers and bankers alike. The law also

provides partial exemptions from the collection, recording and reporting

requirements under Sections 304(b)(5) and (6) of

the Home Mortgage Disclosure Act (“HMDA”), for those banks with

fewer than 500 closed-end mortgages or less than

500 open-end lines of credit in both of the preceding two years,

provided the bank’s rating under

the CRA for the previous

two years has been at least “satisfactory.”

On August 31, 2018, the CFPB issued an interpretive and procedural

rule to

implement and clarify these requirements under the 2018

Growth Act.

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The Coronavirus Aid, Relief, and Economic Security Act (“CARES

Act”) was enacted on March 27, 2020. Section 4013 of

the CARES Act, “Temporary

Relief From Troubled Debt Restructurings,”

provides banks the option to temporarily

suspend certain requirements under ASC 340-10 TDR classifications

for a limited period of time to account for the effects

of COVID-19. On April 7, 2020, the Federal Reserve and the

other banking agencies and regulators issued a statement,

“Interagency Statement on Loan Modifications and Reporting

for Financial Institutions Working

With Customers

Affected

by the Coronavirus (Revised)” (the “Interagency Statement on

COVID-19 Loan Modifications”), to encourage banks to

work prudently with borrowers and to describe the agencies’

interpretation of how accounting rules under ASC 310-40

“Troubled Debt Restructurings by Creditors,”

apply to covered modifications. The Interagency Statement on

COVID-19

Loan Modifications was supplemented on June 23, 2020

by the Interagency Examiner Guidance for Assessing Safety and

Soundness Considering the Effect of the COVID-19

Pandemic on Institutions. If a loan modification is eligible,

a bank may

elect to account for the loan under section 4013 of the CARES

Act. If a loan modification is not eligible under section

4013, or if the bank elects not to account for the loan modification

under section 4013, the Revised Statement includes

criteria when a bank may presume a loan modification is not

a TDR in accordance with ASC 310-40.

Section 4021 of the CARES Act allows borrowers under 1-to

-4 family residential mortgage loans sold to Fannie Mae to

request forbearance to the servicer after affirming that

such borrower is experiencing financial hardships during the

COVID-19 emergency.

Such forbearance will be up to 180 days, subject to

up to a 180 day extension. During forbearance,

no fees, penalties or interest shall be charged beyond

those applicable if all contractual payments were fully and timely

paid. Except for vacant or abandoned properties, Fannie Mae

servicers may not initiate foreclosures on similar procedures

or related evictions or sales until December 31, 2020.

On February 9. 2021, the forbearance period was extended to March

31, 2021 after being extended to February 28, 2021.

Borrowers who are on a COVID-19 forbearance plan as of February

28, 2021 may apply for an additional forbearance extension of

up to three additional months. The Bank sells mortgage

loans to Fannie Mae and services these on an actual/actual basis.

As a result, the Bank is not obligated to make any

advances to Fannie Mae on principal and interest on such mortgage

loans where the borrower is entitled to forbearance.

Anti-Money Laundering and Sanctions

The International Money Laundering Abatement and Anti-Terrorism

Funding Act of 2001 specifies “know your customer”

requirements that obligate financial institutions to take actions

to verify the identity of the account holders in connection

with opening an account at any U.S. financial institution.

Bank regulators are required to consider compliance with anti-

money laundering laws in acting upon merger and acquisition

and other expansion proposals under the BHC Act and the

Bank Merger Act, and sanctions for violations of this Act can

be imposed in an amount equal to twice the sum involved in

the violating transaction, up to $1 million.

Under the Uniting and Strengthening America by Providing Appropriate

Tools Required

to Intercept and Obstruct

Terrorism Act of 2001

(the “USA PATRIOT

Act”), financial institutions are subject to prohibitions against specified

financial transactions and account relationships as well as to

enhanced due diligence and “know your customer” standards

in their dealings with foreign financial institutions and foreign customers.

The USA PATRIOT

Act requires financial institutions to establish anti-money laundering

programs, and sets forth

minimum standards, or “pillars” for these programs, including:

●

the development of internal policies, procedures, and controls;

●

the designation of a compliance officer;

●

an ongoing employee training program;

●

an independent audit function to test the programs; and

●

ongoing customer due diligence and monitoring.

Federal Financial Crimes Enforcement Network (“FinCEN”)

rules effective May 2018 require banks to know the beneficial

owners of customers that are not natural persons, update customer information

in order to develop a customer risk profile,

and generally monitor such matters.

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On August 13, 2020, the federal bank regulators issued a joint statement

clarifying that isolated or technical violations or

deficiencies are generally not considered the kinds of problems that

would result in an enforcement action. The statement

addresses how the agencies evaluate violations of individual

pillars of the Bank Secrecy Act and anti-money laundering

(“AML/BSA”) compliance program. It describes how the agencies incorporate

the customer due diligence regulations and

recordkeeping requirements issued by the U.S. Department of

the Treasury (“Treasury”)

as part of the internal controls

pillar of a financial institution's AML/BSA compliance program.

On September 16, 2020, FinCEN issued an advanced notice of

proposed rulemaking seeking public comment on a wide

range of potential regulatory amendments under the Bank Secrecy Act.

The proposal seeks comment on incorporating an

“effective and reasonably designed” AML/BSA program

component to empower financial institutions to allocate

resources

more effectively.

This component also would seek to implement a common

understanding between supervisory agencies

and financial institutions regarding the necessary

AML/BSA program elements, and would seek to impose minimal

additional obligations on AML programs that already comply under

the existing supervisory framework.

On October 23, 2020, FinCEN and the Federal Reserve invited

comment on a proposed rule that would amend the

recordkeeping and travel rules under the Bank Secrecy Act, which would

lower the applicable threshold from $3,000 to

$250 for international transactions and apply these to transactions

using convertible virtual currencies and digital assets

with legal tender status.

On January 1, 2021, Congress enacted the Anti-Money Laundering

Act of 2020 and the Corporate Transparency Act

(collectively, the “AML Act”),

to strengthen anti-money laundering and countering terrorism financing

programs. Among

other things, the AML Act:

• specifies

uniform disclosure of beneficial ownership information for all

U.S. and foreign entities conducting business

in the U.S.;

• increases

potential fines and penalties for BSA violations and

improves whistleblower incentives;

• codifies

the risk-based approach to AML compliance;

• modernizes

AML systems;

• expands

the duties and powers FinCEN; and

• emphasizes

coordination and information-sharing among financial institutions,

U.S. financial regulators and foreign

financial regulators.

The United States has imposed various sanctions upon various foreign

countries, such as China, Iran, North Korea, Russia

and Venezuela,

and their certain government officials and persons.

Banks are required to comply with these sanctions,

which require additional customer screening and transaction monitoring.

Other Laws and Regulations

The Company is also required to comply with various corporate

governance and financial reporting requirements under the

Sarbanes-Oxley Act of 2002, as well as related rules and regulations

adopted by the SEC, the Public Company Accounting

Oversight Board and Nasdaq. In particular,

the Company is required to report annually on internal contro

ls as part of its

annual report pursuant to Section 404 of the Sarbanes-Oxley Act.

The Company has evaluated its controls, including compliance

with the SEC rules on internal controls, and expects to

continue to spend significant amounts of time and money on compliance

with these rules. If the Company fails to comply

with these internal control rules in the future, it may materially

adversely affect its reputation, its ability to ob

tain the

necessary certifications to its financial statements, its relations

with its regulators and other financial institutions with which

it deals, and its ability to access the capital markets and offer

and sell Company securities on terms and conditions

acceptable to the Company.

The Company’s assessment of its

financial reporting controls as of December 31, 2020 are

included in this report with no material weaknesses reported.

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Payment of Dividends and Repurchases of

Capital Instruments

The Company is a legal entity separate and distinct from the Bank.

The Company’s primary source

of cash is dividends

from the Bank. Prior regulatory approval is required if the total of

all dividends declared by a state member bank (such as

the Bank) in any calendar year will exceed the sum of such bank’s

net profits for the year and its retained net profits for the

preceding

two calendar years, less any required transfers to surplus. During

2020, the Bank paid cash dividends of

approximately $3.6 million to the Company.

At December 31, 2020, the Bank could have declared and paid

additional

dividends of approximately $6.8 million without prior

regulatory approval.

In addition, the Company and the Bank are subject to various general

regulatory policies and requirements relating to the

payment of dividends, including requirements to maintain capital

above regulatory minimums. The appropriate federal and

state regulatory authorities are authorized to determine when

the payment of dividends would be an unsafe or unsound

practice, and may prohibit such

dividends. The Federal Reserve has indicated that paying dividends

that deplete a state

member bank’s capital base to

an inadequate level would be an unsafe and unsound banking practice.

The Federal Reserve

has indicated that depository institutions and their holding companies

should generally pay dividends only out of current

year’s operating earnings.

Federal Reserve Supervisory Letter SR-09-4 (February 24,

2009), as revised December 21, 2015, applies to dividend

payments, stock redemptions and stock repurchases.

Prior consultation with the Federal Reserve supervisory staff

required before:

•

redemptions or repurchases of capital instruments when the bank

holding company is experiencing financial

weakness; and

•

redemptions and purchases of common or perpetual preferred

stock which would reduce such Tier 1 capital

end of the period compared to the beginning of the period.

Bank holding company directors must consider different

factors to ensure that its dividend level is prudent relative to

maintaining a strong financial position, and is not based on overly optimistic

earnings scenarios, such as potential events

that could affect its ability to pay,

while still maintaining a strong financial position. As a general matter,

the Federal

Reserve has indicated that the board of directors of a bank holding

company should consult with the Federal Reserve and

eliminate, defer or significantly reduce the bank holding company’s

dividends if:

•

its net income available to shareholders for the past four quarters,

net of dividends previously paid during that

period, is not sufficient to fully fund the dividends;

•

its prospective rate of earnings retention is not consistent with its capital

needs and overall current and

prospective financial condition; or

•

It will not meet, or is in danger of not meeting, its minimum regulatory

capital adequacy ratios.

The Basel III Capital Rules further limit permissible dividends,

stock repurchases and discretionary bonuses by the

Company and the Bank, respectively,

unless the Company and the Bank meet capital conservation buffer

requirement

effective January 1, 2019.

See "Basel III Capital Rules."

Under a new provision of the capital rules, effective January

1, 2021, if a bank’s capital ratios

are within its buffer

requirements, the maximum amount of capital distributions it

can make is based on its eligible retained income. Eligible

retained income equals the greater of:

•

net income for the four preceding calendar quarters, net of any distributions

and associated tax effects not

already reflected in net income; or

•

the average net income over the preceding four quarters.

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Regulatory Capital Changes

Simplification

The federal bank regulators issued final rules on July 22, 2019

simplifying their capital rules.

The last of these changes

become effective on April 1, 2020.

The principal changes for standardized approaches institutions, such

the Company and

the Bank are:

●

Deductions from capital for certain items, such as temporary difference

DTAs, MSAs and

investments in

unconsolidated were decreased to those amounts that individually exceed

25% of CET1;

●

Institutions can elect to deduct investments in unconsolidated

subsidiaries or subject them to capital requirements;

and

●

Minority interests would be includable up to 10% of (i) CET1

capital, (ii) Tier 1 capital and (iii) total

capital.

HVCRE

In December 2019, the federal banking regulators published

a final rule, effective April 1, 2020, to implement the “high

volatility commercial real estate,” or “HVCRE” changes in Section 214

of the 2018 Growth Act.

The new rules define

HVCRE loans as loans

secured by land or improved real property that:

●

finance or refinance the acquisition, development, or construction

of real property;

●

the purpose of such loans must be to acquire, develop,

or improve such real property into income producing

property; and

●

the repayment of the loan must depend on the future income or

sales proceeds from, or refinancing of, such real

property.

Various

exclusions from HVCRE are specified.

Banking institutions and their holding companies are required

to assign

150% risk weight to HVCRE loans.

Community Capital Rule

On October 29, 2019, the federal banking regulators adopted,

effective January 1, 2020, an optional community banking

leverage ratio framework applicable to depository institutions

and their holding companies intended to reduce regulatory

burdens for qualifying community banking organizations

that do not use advanced approaches capital measures, and that

have:

●

less than $10 billion of assets;

●

a leverage ratio greater than 9%;

●

off-balance sheet exposures of 25% or less of total

consolidated assets; and

●

trading assets plus trading liabilities of less than 5% of total consolidated

assets.

The leverage ratio would be Tier 1

capital divided by average total consolidated assets, taking into account

the capital

simplification discussed above and the CECL related capital

transitions.

The community bank leverage ratio will be the sole capital measure,

and electing institutions will not have to calculate or

use any other capital measure.

It is estimated that 85% of depository institutions will be eligible to

use this rule.

The

Company expect they would be eligible to make such election, if they determined

it desirable.

After preliminary

consideration, the Company believes that it would still need to

calculate the regulatory capital ratios, which investors would

find helpful in comparing the Company to others.

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Capital

The Federal Reserve has risk-based capital guidelines for bank holding

companies and state member banks, respectively.

These guidelines required at year end 2019 a minimum ratio

of capital to risk-weighted assets (including certain off

-balance

sheet activities, such as standby letters of credit) and capital conservation

buffer of 10.5%.

Tier 1 capital includes common

equity and related retained earnings and a limited amount of qualifying

preferred stock, less goodwill and certain core

deposit intangibles.

Voting

common equity must be the predominant form of capital.

Tier 2 capital consists of non–

qualifying preferred stock, qualifying subordinated, perpetual, and/or

mandatory convertible debt, term subordinated debt

and intermediate term preferred stock, up to 45% of pretax

unrealized holding gains on available for sale equity securities

with readily determinable market values that are prudently valued,

and a limited amount of general loan loss allowance.

Tier 1 and Tier

2 capital equals total capital.

In addition, the Federal Reserve has established minimum leverage

ratio guidelines for bank holding companies not subject

to the Small BHC Policy,

and state member banks, which provide for a minimum leverage

ratio of Tier 1 capital to adjusted

average quarterly assets (“leverage ratio”) equal to 4%.

However, bank regulators expect banks and bank holding

companies to operate with a higher leverage ratio.

The guidelines also provide that institutions experiencing internal

growth or making acquisitions will be expected to maintain strong capital

positions substantially above the minimum

supervisory levels without significant reliance on intangible

assets.

Higher capital may be required in individual cases and

depending upon a bank holding company’s

risk profile.

All bank holding companies and banks are expected to hold capital

commensurate with the level and nature of their risks including the

volume and severity of their problem loans.

Lastly, the

Federal Reserve’s guidelines indicate

that the Federal Reserve will continue to consider a “tangible Tier

1 leverage ratio”

(deducting all intangibles) in evaluating proposals for expansion

or new activity.

The level of Tier 1 capital to

risk-adjusted

assets is becoming more widely used by the bank regulators to

measure capital adequacy. The

Federal Reserve has not

advised the Company or the Bank of any specific minimum leverage

ratio or tangible Tier 1 leverage ratio

applicable to

them. Under Federal Reserve policies, bank holding companies are

generally expected to operate with capital positions well

above the minimum ratios. The Federal Reserve believes the

risk-based ratios do not fully take into account the quality of

capital and interest rate, liquidity,

market and operational risks. Accordingly,

supervisory assessments of capital adequacy

may differ significantly from conclusions based

solely

on the level of an organization’s

risk-based capital ratio.

The Federal Deposit Insurance Corporation Improvement Act of 1991

(“FDICIA”), among other things, requires the federal

banking agencies to take “prompt corrective action” regarding depository

institutions that do not meet minimum capital

requirements.

FDICIA establishes five capital tiers: “well capitalized,”

“adequately capitalized,” “undercapitalized,”

“significantly undercapitalized” and “critically undercapitalized.”

A depository institution’s capital tier will

depend upon

how its capital levels compare to various relevant capital measures

and certain other factors, as established by regulation.

See

“Prompt Corrective Action Rules.”

Basel III Capital Rules

The Federal Reserve and the other bank regulators adopted

in June 2013 final capital rules for bank holding companies and

banks implementing the Basel Committee on Banking Supervision’s

“Basel III: A Global Regulatory Framework for more

Resilient Banks and Banking Systems.”

These new U.S. capital rules are called the “Basel III

Capital Rules,” and generally

were fully phased-in on January 1, 2019.

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The Basel III Capital Rules limit Tier

1 capital to common stock and noncumulative perpetual preferred

stock, as well as

certain qualifying trust preferred securities and cumulative perpetual

preferred stock issued before May 19, 2010, each of

which were grandfathered in Tier

1 capital for bank holding companies with less than $15 billion

in assets.

The Company

had no qualifying trust preferred securities or cumulative preferred

stock outstanding at December 31, 2020.

The Basel III

Capital Rules also introduced a new capital measure, “Common

Equity Tier I Capital” or “CET1.”

CET1 includes common

stock and related surplus, retained earnings and, subject to

certain adjustments, minority common equity interests in

subsidiaries.

CET1 is reduced by deductions for:

●

Goodwill and other intangibles, other than mortgage servicing assets

(“MSRs”), which are treated separately,

net

of associated deferred tax liabilities (“DTLs”);

●

Deferred tax assets (“DTAs”)

arising from operating losses and tax credit carryforwards net

of allowances and

DTLs;

●

Gains on sale from any securitization exposure; and

●

Defined benefit pension fund net assets (i.e., excess plan assets),

net of associated DTLs.

The Company made a one-time election in 2015 and, as a

result, CET1 will not be adjusted for certain accumulated other

comprehensive income (“AOCI”).

Additional “threshold deductions” of the following that are individually

greater than 10% of CET1 or collectively greater

than 15% of CET1 (after the above deductions are also made):

●

MSAs, net of associated DTLs;

●

DTAs arising from temporary

differences that could not be realized through net operating loss

carrybacks, net of

any valuation allowances and DTLs; and

●

Significant common stock investments in unconsolidated financial institutions,

net of associated DTLs.

As discussed below, recent

regulations change these items to simplify and improve their

capital treatment.

Noncumulative perpetual preferred stock and Tier

1 minority interest not included in CET1, subject to limits, will qualify as

additional Tier I capital.

All other qualifying preferred stock, subordinated debt and qualifying minority

interests will be

included in Tier 2 capital.

In addition to the minimum risk-based capital requirements, a

new “capital conservation buffer” of CET1

capital of at least

2.5% of total risk weighted assets, will be required.

The capital conservation buffer will be calculated

as the

lowest

of:

●

the banking organization’s

CET1 capital ratio minus 4.5%;

●

the banking organization’s

tier 1 risk-based capital ratio minus 6.0%; and

●

the banking organization’s

total risk-based capital ratio minus 8.0%.

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Full compliance with the capital conservation buffer was

required by January 1, 2019. At such time, permissible dividends,

stock repurchases and discretionary bonuses will be limited to

the following percentages based on the capital conservation

buffer as calculated above, subject

to any further regulatory limitations, including those based on risk assessments

and

enforcement actions:

Buffer %

Buffer % Limit

More than 2.50%

None

> 1.875% - 2.50%

60.0%

> 1.250% - 1.875%

40.0%

> 0.625% - 1.250%

20.0%

≤ 0.625

Effective March 20, 2020, the Federal Reserve and

the other federal banking regulators adopted an interim final rule that

amended the capital conservation buffer in light of the

disruptive effects of the COVID-19 pandemic.

The interim final rule

was adopted

as a final rule on August 26, 2020. The new rule revises the definition of

“eligible retained income” for

purposes of the maximum payout ratio to allow banking organizations

to more freely use their capital buffers to promote

lending and other financial intermediation activities, by making the limitations

on capital distributions more gradual. The

eligible retained income is now the greater of (i) net income

for the four preceding quarters, net of distributions and

associated tax effects not reflected in net income; and

(ii) the average of all net income over the preceding four quarters.

The interim final rule only affects the capital buffers,

and banking organizations were encouraged

to make prudent capital

distribution decisions.

The various capital elements and total capital under the Basel

III Capital Rules, as fully phased in on January 1, 2019

are:

Fully Phased In

January 1, 2019

Minimum CET1

4.50%

CET1 Conservation Buffer

2.50%

Total CET1

7.0%

Deductions

from CET1

100%

Minimum Tier 1 Capital

6.0%

Minimum Tier 1 Capital

plus

conservation buffer

8.5%

Minimum Total Capital

8.0%

Minimum Total Capital

plus

conservation buffer

10.5%

Changes in Risk-Weightings

The Basel III Capital Rules significantly change the risk weightings

used to determine risk weighted capital adequacy.

Among various other changes, the Basel III Capital Rules apply a 250%

risk-weighting to MSRs, DTAs

that cannot be

realized through net operating loss carry-backs and significant (greater

than 10%) investments in other financial

institutions.

A 150% risk-weighted category applies to “high volatility commercial

real estate loans,” or “HVCRE,” which

are credit facilities for the acquisition, construction or development of

real property, excluding one

-to-four family

residential properties or commercial real estate projects

where: (i) the loan-to-value ratio is not in excess of interagency real

estate lending standards; and (ii) the borrower has contributed

capital equal to not less than 15% of the real estate’s

“as

completed” value before the loan was made.

The Basel III Capital Rules also changed some of the risk weightings

used to determine risk-weighted capital adequacy.

Among other things, the Basel III Capital Rules:

●

Assigned a 250% risk weight to MSRs;

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●

Assigned up to a 1,250% risk weight to structured securities,

including private label mortgage securities, trust

preferred CDOs and asset backed securities;

●

Retained existing risk weights for residential mortgages, but assign

a 100% risk weight to most commercial real

estate loans and a 150% risk-weight for HVCRE;

●

Assigned a 150% risk weight to past due exposures (other than

sovereign exposures and residential mortgages);

●

Assigned a 250% risk weight to DTAs,

to the extent not deducted from capital (subject to certain maximums);

●

Retained the existing 100% risk weight for corporate

and retail loans; and

●

Increased the risk weight for exposures to qualifying securities firms from

20% to 100%.

HVCRE loans currently have a risk weight of 150%. Section 214

of the 2018 Growth Act, restricts the federal bank

regulators from applying this risk weight except to certain ADC loans.

The federal bank regulators issued a notice of a

proposed rule on September 18, 2018 to implement Section 214

of the 2018 Growth Act, by revising the definition

HVCRE. If this proposal is adopted, it is expected that this proposal

could reduce the Company’s risk weighted

assets and

thereby may increase the Company’s

risk-weighted capital.

The Financial Accounting Standards Board’s

(the “FASB”) Accounting

Standards Update (“ASU”) No. 2016-13 “Financial

Instruments – Credit Losses (Topic

326): Measurement of Credit Losses on Financial Instruments” on

June 16, 2016, which

changed the loss model to take into account current expected

credit losses (“CECL”) in place of the incurred loss method.

The Federal Reserve and the other federal banking agencies adopted

rules effective on April 1, 2019 that allows banking

organizations to phase in the regulatory capital effect

of a reduction in retained earnings upon adoption

of CECL over a

three year period.

On May 8, 2020, the agencies issued a statement describing the measurement

of expected credit

losses

using the CECL methodology,

and updated concepts and practices in existing supervisory guidance

that remain applicable.

CECL is effective for the Company beginning January 1,

2023 and has not been adopted early.

CECL’s

effects upon the

Company have

not yet been determined.

Prompt Corrective Action Rules

All of the federal bank regulatory agencies’ regulations establish

risk-adjusted measures and relevant capital levels that

implement the “prompt corrective action” standards.

The relevant capital measures are the total risk-based capital

ratio,

Tier 1 risk-based capital ratio, Common equity

tier 1 capital ratio, as well as, the leverage capital

ratio.

Under the

regulations, a state member bank will be:

●

well capitalized if it has a total risk-based capital ratio of 10% or

greater, a Tier

1 risk-based capital ratio of 8% or

greater, a Common equity tier 1 capital

ratio of 6.5% or greater, a leverage capital

ratio of 5% or greater and is not

subject to any written agreement, order,

capital directive or prompt corrective action directive by a federal bank

regulatory agency to maintain a specific capital level for any capital

measure;

●

“adequately capitalized” if it has a total risk-based capital ratio

of 8% or greater, a Tier

1 risk-based capital ratio of

6% or greater, a Common Equity Tier

1 capital ratio of 4.5% or greater, and generally has

a leverage capital ratio

of 4% or greater;

●

“undercapitalized” if it has a total risk-based capital ratio of less than 8%,

a Tier 1 risk-based capital ratio

of less

than 6%, a Common Equity Tier 1

capital ratio of less than 4.5% or generally has a leverage capital

ratio of less

than 4%;

●

“significantly undercapitalized” if it has a total risk-based capital ratio

of less than 6%, a Tier 1 risk-based capital

ratio of less than 4%, a Common Equity Tier

1 capital ratio of less than

3%, or a leverage capital ratio of less than

3%; or

●

“critically undercapitalized” if its tangible equity is equal to or

less than 2% to total assets.

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The federal bank regulatory agencies have authority to require

additional capital, and have indicated that higher capital

levels may be required in light of market conditions and risk.

Depository institutions that are “adequately capitalized” for bank regulatory

purposes must receive a waiver from the FDIC

prior to accepting or renewing brokered deposits, and cannot

pay interest rates or brokered deposits that exceeds market

rates by more than 75 basis points.

Banks that are less than “adequately capitalized” cannot

accept or renew brokered

deposits.

FDICIA generally prohibits a depository institution from making any capital

distribution (including paying

dividends) or paying any management fee to its holding company,

if the depository institution thereafter would be

“undercapitalized”.

Institutions that are “undercapitalized” are subject to

growth limitations and are required to submit a

capital restoration plan for approval.

A depository institution’s parent holding

company must guarantee that the institution will comply with such

capital

restoration plan.

The aggregate liability of the parent holding company is limited

to the lesser of 5% of the depository

institution’s total assets at the time

it became undercapitalized and the amount necessary to

bring the institution into

compliance with applicable capital standards.

If a depository institution fails to submit an acceptable

plan, it is treated as if

it is “significantly undercapitalized”.

If the controlling holding company fails to fulfill its obligations under

FDICIA and

files (or has filed against it) a petition under the federal Bankruptc

Code, the claim against the holding company’s

capital

restoration obligation would be entitled to a priority in such bankruptcy

proceeding over third party creditors of the bank

holding company.

Significantly undercapitalized depository institutions may be

subject to a number of requirements and restrictions,

including orders to sell sufficient voting stock to become

“adequately capitalized”, requirements to reduce total assets, and

cessation of receipt of deposits from correspondent banks.

“Critically undercapitalized” institutions are subject to the

appointment of a receiver or conservator.

Because the Company and the Bank exceed applicable capital

requirements,

Company and Bank management do not believe that the provisions

of FDICIA have had or are expected to have any

material effect on the Company and the Bank or

their respective operations.

Section 201 of the 2018 Growth Act provides that banks and

bank holding companies with consolidated assets of less than

$10 billion that meet a “community bank leverage ratio,” established

by the federal bank regulators between 8% and 10%,

are deemed to satisfy applicable risk-based capital requirements necessary

to be considered “well capitalized.” The federal

banking agencies have the discretion to determine that an institution

does not qualify for such treatment due to its risk

profile. An institution’s risk pro

file may be assessed by its off-balance sheet exposure,

trading of assets and liabilities,

notional derivatives’ exposure, and other methods.

The federal bank regulators implemented

a CARES Act provision by replacing interim final rules

adopted in March 2020,

temporarily reducing the community bank leverage ratio threshold.

The threshold is 8% through the end of 2020, 8.5%

for

2021, and 9% beginning January 1, 2022. Two

quarter grace

periods are allowed to permit banks that temporarily fall

below these thresholds to remain well-capitalized for regulatory purposes.

FDICIA

FDICIA directs that each federal bank regulatory agency prescribe

standards for depository institutions and depository

institution holding companies relating to internal controls, information

systems, internal audit systems, loan documentation,

credit underwriting, interest rate exposure, asset growth composition,

a maximum ratio of classified assets to capital,

minimum earnings sufficient to absorb

losses, a minimum ratio of market value to book value for publicly traded

shares,

safety and soundness, and such other standards as the federal

bank regulatory agencies deem appropriate.

Enforcement Policies and Actions

The Federal Reserve and the Alabama Superintendent monitor

compliance with laws and regulations.

The CFPB monitors

compliance with laws and regulations applicable to consumer

financial products and services.

Violations of laws and

regulations, or other unsafe and unsound practices, may result

in these agencies imposing fines, penalties and/or restitution,

cease and desist orders, or taking other formal or informal enforcement

actions.

Under certain circumstances, these

agencies may enforce these remedies directly against officers,

directors, employees and others participating in the affairs

a bank or bank holding company,

in the form of fines, penalties, or the recovery,

or claw-back, of compensation.

The

federal prudential banking regulators have been bringing more

enforcement actions recently.

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Fiscal and Monetary Policy

Banking is a business that depends on interest rate differentials.

In general, the difference between the interest paid by a

bank on its deposits and its other borrowings, and the interest received

by a bank on its loans and securities holdings,

constitutes the major portion of a bank’s

earnings.

Thus, the earnings and growth of the Company and the Bank, as well

the values of, and earnings on, its assets and the costs of its de

posits and other liabilities are subject to the influence of

economic conditions generally,

both domestic and foreign, and also to the monetary and fiscal policies

of the United States

and its agencies, particularly the Federal Reserve.

The Federal Reserve regulates the supply of money through

various

means, including open market dealings in United States government

securities, the setting of discount rate at which banks

may borrow from the Federal Reserve, and the reserve requirements

on deposits.

The Federal Reserve has been paying interest on depository institutions’

required and excess reserve balances since October

2008.

The payment of interest on excess reserve balances was expected

to give the Federal Reserve greater scope to use its

lending programs to address conditions in credit markets while

also maintaining the federal funds rate close to the target

rate established by the Federal Open Market Committee.

The Federal Reserve has indicated that it may use this authority

implement a mandatory policy to reduce excess liquidity,

in the event of inflation or the threat of inflation.

In April 2010, the Federal Reserve Board amended Regulation

D (Reserve Requirements of Depository Institutions)

authorizing the Reserve Banks to offer term deposits

to certain institutions.

Term deposits,

which are deposits with

specified maturity dates, will be offered through a Term

Deposit Facility.

Term deposits will

be one of several tools that

the Federal Reserve could employ to drain reserves when policymakers

judge that it is appropriate to begin moving to a less

accommodative stance of monetary policy.

In 2011, the Federal Reserve repealed

its historical Regulation Q to permit banks to pay interest on demand

deposits.

The

Federal Reserve also engaged in several rounds of quantitative

easing (“QE”) to reduce interest rates by buying bonds, and

“Operation Twist” to reduce

long term interest rates by buying long term bonds, while selling intermediate

term securities.

Beginning December 2013, the Federal Reserve began to taper

the level of bonds purchased, but continues to reinvest the

principal of its securities as these mature.

On March 3, 2020, the Federal Reserve reduced the Federal Funds

rate target by 50 basis points to 1.00-1.25%.

The Federal

Reserve further reduced the Federal Funds Rate target by an

additional 100 basis points to 0-0.25% on March 16,

Federal Reserve established various liquidity facilities pursuant

to section 13(3) of the Federal Reserve Act to help stabilize

the financial system.

The Federal Reserve’s current

policy is to seek maximum employment and inflation of 2%

over the longer run, with

inflation moderately running over 2% for some time. It continues

a target federal funds range of 0-0.25%, and

monthly

purposes of at least $80 billion of Treasury

securities and $40 billion of agency mortgage-backed securities until

substantial

further progress has been made towards its goals.

In light of disruptions in economic conditions caused by the outbreak

of COVID-19 and the stress in U.S. financial markets,

the Federal Reserve, Congress and the Department of the Treasury

took a host of fiscal and monetary measures to minimize

the economic effect of COVID-19.

The CARES Act provided a $2 trillion stimulus package and

various measures to provide relief from the COVID-19

pandemic, including:

●

The Paycheck Protection Program (“PPP”), which expands eligibility for

special new SBA guaranteed loans,

forgivable loans and other relief to small businesses affected

by COVID-19.

●

A new $500 billion federal stimulus program for air carriers

and other companies in severely distressed sectors of

the American economy. The

lending programs impose stock buyback, dividend, executive compensation,

and

other restrictions on direct loan recipients.

●

Optional temporary suspension of certain requirements under

ASC 340-10 TDR classifications for a limited period

of time to account for the effects of COVID-19.

●

The creation of rapid tax rebates and expansion of unemployment

benefits to provide relief to individuals.

●

Substantial federal spending and significant changes for health care

companies, providers, and patients.

Over $525 billion of PPP loans were made in 2020.

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On December 27, 2020, the Economic Aid to Hard-Hit Smal

Businesses, Nonprofits, and Venues

Act (the “Economic Aid

Act”) was signed into law. The

Economic Aid Act provides a second $900 billion stimulus

package, including $325 billion

in additional PPP loans, changed the eligibility rules to focus

more on smaller business, further enhances other Small

Business Association programs.

The nature and timing of any changes in monetary policies and

their effect on the Company and the Bank cannot be

predicted. The turnover of a majority of the Federal Reserve Board

and the members of its FOMC and the appointment of a

new Federal Reserve Chairman may result in changes in policy

and the timing and amount of monetary policy

normalization.

FDIC Insurance Assessments

The Bank’s deposits are insured

by the FDIC’s DIF,

and the Bank is subject to FDIC assessments for its deposit insurance,

as well as assessments by the FDIC to pay interest on Financing Corporation

(“FICO”) bonds.

Since 2011, and as discussed above under

“Recent Regulatory Developments”, the FDIC has been calculating

assessments

based on an institution’s average

consolidated total assets less its average tangible equity (the “FDIC

Assessment Base”) in

accordance with changes mandated by the Dodd-Frank Act.

The FDIC changed its assessment rates which shifted part of

the burden of deposit insurance premiums toward depository

institutions relying on funding sources other than deposits.

In 2016, the FDIC again changed its deposit insurance pricing and

eliminated all risk categories and now uses “financial

ratios method” based on CAMELS composite ratings to determine assessment

rates for small established institutions with

less than $10 billion in assets (“Small Banks”).

The financial ratios method sets a maximum assessment for

CAMELS 1

and 2 rated banks, and set minimum assessments for lower rated

institutions.

All basis points are annual amounts.

The following table shows the FDIC assessment schedule for

2020 applicable to Small Banks, such as the Bank.

Established Small Institution

CAMELS Composite

1 or 2

4 or 5

Initial Base Assessment Rule

3 to 16 basis points

6 to 30 basis points

16 to 30 basis points

Unsecured Debt Adjustment

-5 to 0 basis points

Total Base Assessment Rate

1.5 to 16 basis points

3 to 30 basis

points

11 to 30 basis points

On March 15, 2016 the FDIC implemented Dodd-Frank Act provisions

by raising the DIF’s minimum

Reserve Ratio from

1.15% to 1.35%.

The FDIC imposed a 4.5 basis point annual surcharge

on insured depository institutions with total

consolidated assets of $10 billion or more (“Large

Banks”).

The new rules grant credits to smaller banks for the portion of

their regular assessments that contribute to increasing the reserve

ratio from 1.15% to 1.35%.

The FDIC’s reserve ratio reached

1.36% on September 30, 2018, exceeding the minimum

requirement.

As a result, deposit

insurance surcharges on Large Banks ceased,

and smaller banks will receive credits against their deposit

assessments from

the FDIC for their portion of assessments that contributed to the growth

in the reserve ratio from 1.15% to 1.35%.

The

Bank’s credit was $0.2 million,

and was received and applied against the Bank’s

deposit insurance assessments during 2019

and 2020.

Given the extraordinary growth in deposits in the first six months of 2020

due to the pandemic and government

stimulus, the reserve ratio declined below 1.35% to 1.30%.

The FDIC issued a restoration plan on September 15, 2020

designed to restore the reserve ratio to at least the statutory minimum

of 1.35% within 8 years. Although the FDIC

maintained current assessment rates, the FDIC may increase deposit

assessment rates by up to two basis points without

notice, or more following notice and a comment period, to

meet the required reserve ratio.

On June 22, 2020, the FDIC issued a final rule designed to

mitigate the deposit insurance assessment effect of the PPP

and

the related liquidity programs established by the Federal Reserve.

Specifically, the rule removes

the effects of participating

in PPP and liquidity facilities from the various risk measures used

to calculate assessment rates and provides an offset

assessments for the increase in assessment base rates attributed

to participation in the PPP and liquidity facilities.

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Prior to June 30, 2016, when the new assessment system became

effective, the Bank’s

overall rate for assessment

calculations was 9 basis points or less, which was within the range of

assessment rates for the lowest “risk category” under

the former FDIC assessment rules.

The Company recorded FDIC insurance premiums expenses of $0.1

million in 2020

and 2019, respectively.

Lending Practices

The federal bank regulatory agencies released guidance in 2006

on “Concentrations in Commercial Real Estate Lending”

(the “Guidance”).

The Guidance defines CRE loans as exposures secured by raw land,

land development and construction

(including 1-4 family residential construction), multi-family prope

rty, and non-farm nonresidential property

where the

primary or a significant source of repayment is derived from rental

income associated with the property (that is, loans for

which 50% or more of the source of repayment comes from third

party, non-affilia

ted, rental income) or the proceeds of the

sale, refinancing, or permanent financing of this property.

Loans to REITs

and unsecured loans to developers that closely

correlate to the inherent risks in CRE markets would also be

considered CRE loans under the Guidance.

Loans on owner

occupied CRE are generally excluded.

In December 2015, the Federal Reserve and other bank regulators

issued an

interagency statement to highlight prudent risk management

practices from existing guidance that regulated financial

institutions and made recommendations regarding maintaining capital

levels commensurate with the level and nature of

their CRE concentration risk.

The Guidance requires that appropriate processes be in place

to identify, monitor and control

risks associated with real

estate lending concentrations.

This could include enhanced strategic planning, CRE underwriting policies,

risk

management, internal controls, portfolio stress testing and risk exposure

limits as well as appropriately designed

compensation and incentive programs.

Higher allowances for loan losses and capital levels may also

be required.

The

Guidance is triggered when either:

Total reported

loans for construction, land development, and other land of 100%

or more of a bank’s total capital;

Total reported

loans secured by multifamily and nonfarm nonresidential properties

and loans for construction, land

development, and other land are 300% or more of a bank’s

total risk-based capital.

This Guidance was supplemented by the Interagency Statement

on Prudent Risk Management for Commercial Real Estate

Lending (December 18, 2015).

The Guidance also applies when a bank has a sharp increase

in CRE loans or has significant

concentrations of CRE secured by a particular property type.

The Guidance did not apply to the Bank’s

CRE lending activities during 2019 or 2020.

At December 31, 2020, the Bank

had outstanding $33.5 million in construction and land development

loans and $201.1 million in total CRE loans (excluding

owner occupied), which represent approximately 34.9% and

266.0%, respectively, of the

Bank’s total risk-based capital

December 31, 2020.

The Company has always had significant exposures to loans secured

by commercial real estate due to

the nature of its markets and the loan needs of both its retail

and commercial customers.

The Company believes its long

term experience in CRE lending, underwriting policies, internal controls,

and other policies currently in place, as well as its

loan and credit monitoring and administration procedures, are

generally appropriate to manage its concentrations as

required under the Guidance.

In 2013, the Federal Reserve and other banking regulators issued their

“Interagency Guidance on Leveraged Lending”

highlighting standards for originating leveraged transactions and

managing leveraged portfolios, as well as requiring banks

to identify their highly leveraged transactions, or HLTs.

The Government Accountability Office issued a

statement on

October 23, 2017 that this guidance constituted a “rule” for purposes

of the Congressional Review Act, which provides

Congress with the right to review the guidance and issue a joint resolution

for signature by the President disapproving it.

No such action was taken, and instead, the federal bank regulators

issued a September 11, 2018 “Statement Reaffirming

the

Role of Supervisory Guidance.”

This Statement indicated that guidance does not have the

force or effect of law or provide

the basis for enforcement actions, but this guidance can outline

supervisory agencies’ views of supervisory expectations

and

priorities, and appropriate practices.

The federal bank regulators continue to identify elevated risks in

leveraged loans and

shared national credits.

The Bank did not have any loans at year-end 2020

or 2019 that were leveraged loans subject to the Interagency Guidance

on Leveraged Lending or that were shared national credits. [Note

to Auburn: Confirm]

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Other Dodd-Frank Act Provisions

In addition to the capital, liquidity and FDIC deposit insurance

changes discussed above, some of the provisions of the

Dodd-Frank Act we believe may affect us are set forth

below.

Executive Compensation

The Dodd-Frank Act provides shareholders of all public companies

with a say on executive compensation.

Under the

Dodd-Frank Act, each company must give its shareholders the opportunity

to vote on the compensation of its executives, on

a non-binding advisory basis, at least once every three years.

The Dodd-Frank Act also adds disclosure and voting

requirements for golden parachute compensation that is payable

to named executive officers in connection with sale

transactions.

The SEC is required under the Dodd-Frank Act to issue rules obligating

companies to disclose in proxy materials for annual

shareholders meetings, information that shows the relationship

between executive compensation actually paid to their

named executive officers and their financial performance,

taking into account any change in the value of the shares

of a

company’s stock and dividends

or distributions.

The Dodd-Frank Act also provides that a company’s

compensation

committee may only select a consultant, legal counsel or other

advisor on methods of compensation after taking into

consideration factors to be identified by the SEC that affect the

independence of a compensation consultant, legal counsel

or other advisor.

Section 954 of the Dodd-Frank Act added section 10D to the Exchange

Act.

Section 10D directs the SEC to adopt rules

prohibiting a national securities exchange or association from listing

a company unless it develops, implements, and

discloses a policy regarding the recovery or “claw-back” of executive

compensation in certain circumstances.

The policy

must require that, in the event an accounting restatement due

to material noncompliance with a financial reporting

requirement under the federal securities laws, the company will

recover from any current or former executive officer

any

incentive-based compensation (including stock options) received

during the three year period preceding the date of the

restatement, which is in excess of what would have been paid

based on the restated financial statements.

There is no

requirement of wrongdoing by the executive, and the claw-back

is mandatory and applies to all executive officers.

Section

954 augments section 304 of the Sarbanes-Oxley Act, which requires

the CEO and CFO to return any bonus or other

incentive or equity-based compensation received during the

12 months following the date of similarly inaccurate financial

statements, as well as any profit received from the sale of employer securities

during the period, if the restatement was due

to misconduct.

Unlike section 304, under which only the SEC may seek recoupment,

the Dodd-Frank Act requires the

Company to seek the return of compensation.

The SEC adopted rules in September 2013 to implement pay

ratios pursuant to Section 953 of the Dodd-Frank Act, which

apply to fiscal year 2017 annual reports and proxy statements.

The SEC proposed Rule 10D-1 under Section 954 on July

1, 2015 which would direct Nasdaq and the other national securities exchanges

to adopt listing standards requiring

companies to adopt policies requiring executive officers

to pay back erroneously awarded incentive-based compensation.

In February 2017, the acting SEC Chairman indicated interest

in reconsidering the pay ratio rule.

The Dodd-Frank Act, Section 955, requires the SEC, by rule,

to require that each company disclose in the proxy materials

for its annual meetings whether an employee or board

member is permitted to purchase financial instruments designed to

hedge or offset decreases in the market value of equity securities

granted as compensation or otherwise held by the

employee or board member.

The SEC proposed implementing rules in February 2015,

though the rules have not been

implemented to date.

Section 956 of the Dodd-Frank Act prohibits incentive-based

compensation arrangements that encourage inappropriate

risk

taking by covered financial institutions, are deemed to be excessive,

or that may lead to material losses.

In June 2010, the

federal bank regulators adopted Guidance on Sound Incentive

Compensation Policies, which, although targeted

to larger,

more complex organizations than the Company,

includes principles that have been applied to smaller organi

zations similar

to the Company.

This Guidance applies to incentive compensation to executives

as well as employees, who, “individually

or a part of a group, have the ability to expose the relevant banking organization

to material amounts of risk.”

Incentive

compensation should:

Provide employees incentives that appropriately balance risk

and reward;

Be compatible with effective controls and risk-management;

and

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Be supported by strong corporate governance, including active

and effective oversight by the organization’s

board of

directors.

The federal bank regulators, the SEC and other regulators proposed

regulations implementing Section 956 in April 2011,

which would have been applicable to, among others, depositor

institutions and their holding companies with $1 billion

of SBA

Approved

Mix

$ of SBA

Approved

Mix

SBA Tier:

$2 million to $10 million

—

$350,000 to less than $2 million

14,691

Up to $350,000

400

21,784

Total

423

100

36,475

100

The Company extended $36.5 million in loans to 423 small businesses

under the PPP during 2020.

We collected

approximately $1.5 million in fees related to our PPP loans,

which are being recognized net of related costs, as a yield

adjustment over the life of the underlying PPP loans.

During 2020, we received payments and forgiveness on 158

loans

totaling

$17.5 million.

The outstanding balance for the remaining 265 loans as December

31, 2020 was approximately

$19.0 million.

On December 27, 2020, the Economic Aid to Hard-Hit Small

Businesses, Nonprofits, and Venues

Act (the “Economic Aid

Act”) was signed into law. The

Economic Aid Act provides a second $900 billion stimulus

package, including $325 billion

in additional PPP loans.

As of February 28, 2021, the Company has extended $17.4

million in loans to 169 small

businesses under the PPP provided by the Economic Aid Act.

We continue to closely

monitor this pandemic, and are working to continue our services

during the pandemic and to address

developments as those occur.

Our results of operations for the year ended December 31, 2020

and our financial condition

at that date reflect only the initial effects of the pandemic,

and may not be indicative of future results or financial

conditions, including possible additional monetary or fiscal stimulus,

and the possible effects of the expiration or extension

of temporary accounting and bank regulatory relief measures

in response to the COVID-19 pandemic.

As of December 31, 2020,

all of our capital ratios were in excess of all regulatory requirements to be

well capitalized.

The

effects of the COVID-19 pandemic on our borrowers

could result in adverse changes to credit quality and our regulatory

capital ratios.

We continue to closely

monitor this pandemic, and are working to continue our services during

the pandemic

and to address developments as those occur.

CRITICAL ACCOUNTING POLICIES

The accounting and financial reporting policies of the Company conform

with U.S. generally accepted accounting

principles and with general practices within the banking industry.

In connection with the application of those principles, we

have made judgments and estimates which, in the case of the determination

of our allowance for loan losses, our

assessment of other-than-temporary impairment, recurring and non-recurring

fair value measurements, the valuation of

other real estate owned, and the valuation of deferred tax assets,

were critical to the determination of our financial position

and results of operations. Other policies also require subjective

judgment and assumptions and may accordingly impact our

financial position and results of operations.

Allowance for Loan Losses

The Company assesses the adequacy of its allowance for loan

losses prior to the end of each calendar quarter.

The level of

the allowance is based upon management’s

evaluation of the loan portfolio, past loan loss experience,

current asset quality

trends, known and inherent risks in the portfolio, adverse situations

that may affect a borrower’s ability to

repay (including

the timing of future payment), the estimated value of any underlying

collateral, composition of the loan portfolio, economic

conditions, industry and peer bank loan loss rates and other pertinent

factors, including regulatory recommendations. This

evaluation is inherently subjective as it requires material estimates including

the amounts and timing of future cash flows

expected to be received on impaired loans that may be susceptible

to significant change. Loans are charged off, in whole

in part, when management believes that the full collectability of the

loan is unlikely. A loan

may be partially charged-off

after a “confirming event” has occurred which serves to validate

that full repayment pursuant to the terms of the loan is

unlikely.

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The Company deems loans impaired when, based on current information

and events, it is probable that the Company will

be unable to collect all amounts due according to the contractual

terms of the loan agreement. Collection of all amounts due

according to the contractual terms means that both the interest

and principal payments of a loan will be collected as

scheduled in the loan agreement.

An impairment allowance is recognized if the fair value of the

loan is less than the recorded investment in the loan. The

impairment is recognized through the allowance. Loans that are

impaired are recorded at the present value of expected

future cash flows discounted at the loan’s

effective interest rate, or if the loan is collateral dependent,

impairment

measurement is based on the fair value of the collateral, less estimated

disposal costs.

The level of allowance maintained is believed by management to

be adequate to absorb probable losses inherent in the

portfolio at the balance sheet date. The allowance is increased

by provisions charged to expense and decreased by charge-

offs, net of recoveries of amounts previously charged

-off.

In assessing the adequacy of the allowance, the Company also

considers the results of its ongoing internal, independent

loan review process. The Company’s

loan review process assists in determining whether there are

loans in the portfolio

whose credit quality has weakened over time and evaluating the risk characteristics

of the entire loan portfolio. The

Company’s loan review process includes

the judgment of management, the input from our independent

loan reviewers, and

reviews that may have been conducted by bank regulatory agencies

as part of their examination process. The Company

incorporates loan review results in the determination of whether

or not it is probable that it will be able to collect all

amounts due according to the contractual terms of a loan.

As part of the Company’s quarterly assessment

of the allowance, management divides the loan portfolio

into five segments:

commercial and industrial, construction and land development, commercial

real estate, residential real estate, and consumer

installment loans. The Company analyzes each segment and

estimates an allowance allocation for each loan segment.

The allocation of the allowance for loan losses begins with a

process of estimating the probable losses inherent for these

types of loans. The estimates for these loans are established by category

and based on the Company’s internal

system of

credit risk ratings and historical loss data. The estimated loan loss allocation

rate for the Company’s internal system

credit risk grades is based on its experience with similarly graded

loans. For loan segments where the Company believes it

does not have sufficient historical loss data, the Company

may make adjustments based, in part, on loss rates of peer

bank

groups. At December 31, 2020 and 2019, and for the years then ended,

the Company adjusted its historical loss rates for the

commercial real estate portfolio segment based, in part, on loss rates of peer

bank groups.

The estimated loan loss allocation for all five loan portfolio segments

is then adjusted for management’s

estimate of

probable losses for several “qualitative and environmental” factors.

The allocation for qualitative and environmental

factors is particularly subjective and does not lend itself to exact mathematical

calculation.

This amount represents

estimated probable inherent credit losses which exist, but have not yet

been identified, as of the balance sheet date, and are

based upon quarterly trend assessments in delinquent and nonaccrual

loans, credit concentration changes, prevailing

economic conditions, changes in lending personnel experience,

changes in lending policies or procedures and other

influencing factors.

These qualitative and environmental factors are considered

for each of the five loan segments and the

allowance allocation, as determined by the processes noted

above, is increased or decreased based on the incremental

assessment of these factors.

The Company regularly re-evaluates its practices in determining the

allowance for loan losses. Since the fourth quarter of

2016, the Company has increased its look-back period each quarter

to incorporate the effects of at least one economic

downturn in its loss history. The

Company believes the extension

of its look-back period is appropriate due to the risks

inherent in the loan portfolio. Absent this extension, the early

cycle periods in which the Company experienced significant

losses would be excluded from the determination of the allowance for

loan losses and its balance would decrease. For the

year ended December 31, 2020, the Company increased its look

-back period to 47 quarters to continue to include losses

incurred by the Company beginning with the first quarter of 2009.

The Company will likely continue to increase its look-

back period to incorporate the effects of at least one

economic downturn in its loss history.

During 2020, the Company

adjusted certain qualitative and economic factors related to changes in

economic conditions driven by the impact of the

COVID-19 pandemic and resulting adverse economic conditions,

including higher unemployment in our primary market

area.

Further adjustments may be made in the future as a result of the ongoing COVID

-19 pandemic.

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Assessment for Other-Than-Temporary

Impairment of Securities

On a quarterly basis, management makes an assessment to determine

whether there have been events or economic

circumstances to indicate that a security on which there is an

unrealized loss is other-than-temporarily impaired.

For debt securities with an unrealized loss, an other-than

-temporary impairment write-down is triggered when (1)

the

Company has the intent to sell a debt security,

(2) it is more likely than not that the Company will be required

to sell the

debt security before recovery of its amortized cost basis, or

(3) the Company does not expect to recover the entire amortized

cost basis of the debt security.

If the Company has the intent to sell a debt security or if it is more

likely than not that it will

be required to sell the debt security before recovery,

the other-than-temporary write-down is equal to the entire

difference

between the debt security’s amortized

cost and its fair value.

If the Company does not intend to sell the security or it is not

more likely than not that it will be required to sell the security

before recovery, the other

-than-temporary impairment write-

down is separated into the amount that is credit related (credit loss component)

and the amount due to all other factors.

The

credit loss component is recognized in earnings and is the difference

between the security’s

amortized cost basis and the

present value of its expected future cash flows.

The remaining difference between the security’s

fair value and the present

value of future expected cash flows is due to factors that are not credit

related and is recognized in other comprehensive

income, net of applicable taxes.

The Company is required to own certain stock as a condition of

membership, such as Federal Home Loan Bank (“FHLB”)

and Federal Reserve Bank (“FRB”).

These non-marketable equity securities are accounted for at

cost which equals par or

redemption value.

These securities do not have a readily determinable fair value as their

ownership is restricted and there is

no market for these securities.

The Company records these non-marketable equity securities

as a component of other

assets, which are periodically evaluated for impairment. Ma

nagement considers these non-marketable equity securities to

be long-term investments. Accordingly,

when evaluating these securities for impairment, management considers

the

ultimate recoverability of the par value rather than by recognizing temporary

declines in value.

Fair Value

Determination

U.S. GAAP requires management to value and disclose certain of the

Company’s assets and liabilities

at fair value,

including investments classified as available-for-sale

and derivatives. ASC 820,

Fair Value

Measurements and Disclosures

which defines fair value, establishes a framework for measuring fair

value in accordance with U.S. GAAP and expands

disclosures about fair value measurements.

For more information regarding fair value measurements and disclosures,

please refer to Note 15, Fair Value,

of the consolidated financial statements that accompany this report.

Fair values are based on active market prices of identical assets or

liabilities when available.

Comparable assets or

liabilities or a composite of comparable assets in active markets are

used when identical assets or liabilities do not have

readily available active market pricing.

However, some of the Company’s

assets or liabilities lack an available or

comparable trading market characterized by frequent transactions between

willing buyers and sellers. In these cases, fair

value is estimated using pricing models that use discounted cash

flows and other pricing techniques. Pricing models and

their underlying assumptions are based upon management’s

best estimates for appropriate discount rates, default rates,

prepayments, market volatility and other factors, taking into

account current observable market data and experience.

These assumptions may have a significant effect on the reported

fair values of assets and liabilities and the related income

and expense. As such, the use of different models and

assumptions, as well as changes in market conditions, could

result in

materially different net earnings and retained earnings

results.

Other Real Estate Owned

Other real estate owned (“OREO”), consists of properties obtained

through foreclosure or in satisfaction of loans and is

reported at the lower of cost or fair value, less estimated costs to

sell at the date acquired with any loss recognized as a

charge-off through the allowance for loan

losses. Additional OREO losses for subsequent valuation adjustments

are

determined on a specific property basis and are included as a

component of other noninterest expense along with holding

costs. Any gains or losses on disposal of OREO are also reflected

in noninterest expense. Significant judgments and

complex estimates are required in estimating the fair value of OREO, and

the period of time within which such estimates

can be considered current is significantly shortened during periods

of market volatility. As a

result, the net proceeds

realized from sales transactions could differ significantly

from appraisals, comparable sales, and other estimates used

determine the fair value of other OREO.

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Deferred Tax

Asset Valuation

A valuation allowance is recognized for a deferred tax asset if, based

on the weight of available evidence, it is more-likely-

than-not that some portion or the entire deferred tax asset will not be

realized. The ultimate realization of deferred tax assets

is dependent upon the generation of future taxable income during

the periods in which those temporary differences

become

deductible. Management considers the scheduled reversal of deferred

tax liabilities, projected future taxable income and tax

planning strategies in making this assessment. Based upon

the level of taxable income over the last three years and

projections for future taxable income over the periods in which

the deferred tax assets are deductible, management believes

it is more likely than not that we will realize the benefits of these

deductible differences at December 31,

The amount

of the deferred tax assets considered realizable, however,

could be reduced if estimates of future taxable income are

reduced.

Average Balance

Sheet and Interest Rates

Year ended December 31

2020

2019

Average

Yield/

Average

Yield/

(Dollars in thousands)

Balance

Rate

Balance

Rate

Loans and loans held for sale

465,378

4.74%

474,259

4.83%

Securities - taxable

234,420

1.68%

178,410

2.24%

Securities - tax-exempt (a)

63,029

3.72%

66,628

3.99%

Total securities

297,449

2.11%

245,038

2.72%

Federal funds sold

30,977

0.41%

20,223

2.09%

Interest bearing bank deposits

56,104

0.41%

36,869

2.16%

Total interest-earning assets

849,908

3.38%

776,389

3.97%

Deposits:

NOW

154,431

0.34%

134,430

0.53%

Savings and money market

242,485

0.44%

218,630

0.44%

Certificates of deposits

165,120

1.36%

170,835

1.46%

Total interest-bearing deposits

562,036

0.68%

523,895

0.80%

Short-term borrowings

1,864

0.48%

1,443

0.49%

Total interest-bearing liabilities

563,900

0.68%

525,338

0.80%

Net interest income and margin (a)

24,830

2.92%

26,621

3.43%

(a) Tax-equivalent.

See "Table 1 - Explanation

of Non-GAAP Financial Measures".

RESULTS

OF OPERATIONS

Net Interest Income and Margin

Net interest income (tax-equivalent) was $24.8 million in 2020,

compared to $26.6 million in 2019.

This decrease was due

to a decline in the Company’s net interest

margin (tax-equivalent).

The tax-equivalent yield on total interest-earning assets decreased

by 59 basis points in 2020 from 2019 to 3.38%.

This

decrease was primarily due to the lower rate environment, including

a 150 basis point reduction in the federal funds rate

that occurred in March 2020 and changes in our asset mix from the

significant short-term liquidity increase in customer

deposits.

The cost of total interest-bearing liabilities decreased 12 basis points

in 2020 from 2019 to 0.68%.

Such costs declined less

than the declines in rates earned on our interest earning assets.

The Company continues to deploy various asset liability management

strategies to manage its risk to interest rate

fluctuations. The Company’s net

interest margin could experience pressure due to reduced

earning asset yields and

increased competition for quality loan opportunities.

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Provision for Loan Losses

The provision for loan losses represents a charge to earnings

necessary to provide an allowance for loan losses that

management believes, based on its processes and estimates,

should be adequate to provide for the probable losses on

outstanding loans. The provision for loan losses was $1.1 million

in 2020, compared to a negative provision for loan losses

of $0.3 million in 2019. The increase in the provision for loan losses

was related to adverse changes in economic conditions

and portfolio trends driven by the impact of COVID-19 pandemic, including

higher unemployment in our primary market

area. The provision for loan losses is based upon various factors,

including the absolute level of loans, loan growth, the

credit quality, and the amount of

net charge-offs or recoveries.

Based upon its assessment of the loan portfolio, management

adjusts the allowance for loan losses to an amount it believes

should be appropriate to adequately cover its estimate of probable

losses in the loan portfolio. The Company’s

allowance

for loan losses as a percentage of total loans was 1.22% at December

31, 2020, compared to 0.95% at December 31, 2019.

At December 31, 2020, the Company’s

allowance for loan losses was 1.27% of total loans, excluding

PPP loans. While the

policies and procedures used to estimate the allowance for loan losses, as well

as the resulting provision for loan losses

charged to operations, are considered adequate

by management and are reviewed from time to time by our regulators,

they

are based on estimates and judgments and are therefore approximate

and imprecise. Factors beyond our control (such as

conditions in the local and national economy,

local real estate markets, or industries) may have a material

adverse effect on

our asset quality and the adequacy of our allowance for loan losses resulting

in significant increases in the provision for

loan losses.

Noninterest Income

Year ended December 31

(Dollars in thousands)

2020

2019

Service charges on deposit accounts

585

717

Mortgage lending

2,319

866

Bank-owned life insurance

724

437

Gain from loan guarantee program

—

1,717

Securities gains (losses), net

103

(123)

Other

1,644

1,880

Total noninterest income

5,375

5,494

The decrease in service charges on deposit accounts

was driven by a decline in consumer spending activity as a result of

the

COVID-19 pandemic.

The Company’s income from mortgage

lending is primarily attributable to the (1) origination and sale

of new mortgage

loans and (2) servicing of mortgage loans. Origination income, net, is

comprised of gains or losses from the sale of the

mortgage loans originated, origination fees, underwriting fees and

other fees associated with the origination of loans, which

are netted against the commission expense associated with these

originations. The Company’s normal

practice is to

originate mortgage loans for sale in the secondary market and

to either sell or retain the MSRs when the loan is sold.

MSRs are recognized based on the fair value of the servicing

right on the date the corresponding mortgage loan is sold.

Subsequent to the date of transfer, the Company

has elected to measure its MSRs under the amortization method.

Servicing

fee income is reported net of any related amortization expense.

The Company evaluates MSRs for impairment on a quarterly basis.

Impairment is determined by grouping MSRs by

common predominant characteristics, such as interest rate and loan

type.

If the aggregate carrying amount of a particular

group of MSRs exceeds the group’s aggregate

fair value, a valuation allowance for that group is established.

The valuation

allowance is adjusted as the fair value changes.

An increase in mortgage interest rates typically results in an increase in

the

fair value of the MSRs while a decrease in mortgage interest rates

typically results in a decrease in the fair value of MSRs.

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The following table presents a breakdown of the Company’s

mortgage lending income for 2020 and 2019.

Year ended December 31

(Dollars in thousands)

2020

2019

Origination income

2,300

545

Servicing fees, net

321

Total mortgage lending income

2,319

866

The increase in mortgage lending income was primarily due to

an increase in mortgage refinance activity.

The Company’s

income from mortgage lending typically fluctuates as mortgage

interest rates change and is primarily attributable to the

origination and sale of new mortgage loans. The increase in mortgage

lending income was partially offset by a decrease in

servicing fees, net of related amortization expense as prepayment

speeds increased during 2020, resulting in increased

amortization expense.

Income from bank-owned life insurance increased primarily due

to $0.3 million in non-taxable death benefits received in

The assets that support these policies are administered

by the life insurance carriers and the income we receive (i.e.,

increases or decreases in the cash surrender value of the policies

and death benefits received) on these policies is dependent

upon the returns the insurance carriers are able to earn on the

underlying investments that support these policies. Earnings

on these policies are generally not taxable.

In 2019, the Company recognized a gain of $1.7 million resulting

from the termination of a Loan Guarantee Program (the

"Program") operated by the State of Alabama.

For more information regarding the Program, please refer

to Note 5, Loans

and Allowance for Loan Losses, of the consolidated financial

statements that accompany this report.

The decrease in other noninterest income was primarily due to

a $0.3 million pre-tax gain from an insurance recovery

received in the first quarter of 2019.

Noninterest Expense

Year ended December 31

(Dollars in thousands)

2020

2019

Salaries and benefits

11,316

11,931

Net occupancy and equipment

2,511

1,907

Professional fees

1,052

1,014

FDIC and other regulatory assessments

256

181

Other

4,419

4,664

Total noninterest expense

19,554

19,697

The decrease in salaries and benefits expense was primarily due

to lower full-time equivalent employees, incentive accruals

and an increase in deferred costs related to the PPP

loan program.

The increase in net occupancy and equipment expense was primarily

due to various expenses related to the redevelopment

of the Company’s headquarters in downtown

Auburn. This amount includes revised depreciation estimates and other

temporary relocation costs. For more information regarding changes

in accounting estimates, please refer to Note 1,

Summary of Significant Accounting Policies, of the consolidated

financial statements that accompany this report.

Income Tax

Expense

Income tax expense was $1.6 million in 2020 compared to

$2.4 million in 2019.

The Company’s effective

income tax rate

was 17.72%

in 2020, compared to 19.57% in 2019.

This change was primarily due to a decrease in the level of earnings

before taxes relative to tax-exempt sources of income. The Company’s

effective income tax rate is principally impacted

tax-exempt earnings from the Company’s

investments in municipal securities and bank-owned life insurance.

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BALANCE SHEET ANALYSIS

Securities

Securities available-for-sale were $335.2

million at December 31, 2020, compared to $235.9 million at December

31, 2019.

This increase reflects an increase in the amortized cost basis

of securities available-for-sale of $91.9 million, and

increase of $7.4 million in the fair value of securities available

-for-sale. The increase in the amortized cost

basis of

securities available-for-sale was primarily attributable

to management allocating more funding to the investment portfolio

following the significant increases in customer deposits. The

increase in the fair value of securities was primarily due to a

decrease in long-term interest rates. The average annualized

tax-equivalent yields earned on total securities were 2.11%

2020 and 2.72% in 2019.

The following table shows the carrying value and weighted average

yield of securities available-for-sale as of December

31, 2020 according to contractual maturity.

Actual maturities may differ from contractual maturities of mortgage-backed

securities (“MBS”) because the mortgages underlying the securities

may be called or prepaid with or without penalty.

December 31, 2020

1 year

1 to 5

5 to 10

After 10

Total

(Dollars in thousands)

or less

years

Fair Value

Agency obligations

5,048

24,834

55,367

12,199

97,448

Agency MBS

—

1,154

20,502

141,814

163,470

State and political subdivisions

477

632

8,405

64,745

74,259

Total available-for-sale

5,525

26,620

84,274

218,758

335,177

Weighted average yield:

Agency obligations

1.59%

1.84%

1.51%

1.22%

1.56%

Agency MBS

—

3.31%

1.67%

1.42%

1.46%

State and political subdivisions

4.01%

4.13%

2.32%

2.81%

2.77%

Total available-for-sale

1.80%

1.95%

1.63%

1.82%

1.78%

Loans

December 31

(In thousands)

2020

2019

2018

2017

2016

Commercial and industrial

82,585

56,782

63,467

59,086

49,850

Construction and land development

33,514

32,841

40,222

39,607

41,650

Commercial real estate

255,136

270,318

261,896

239,033

220,439

Residential real estate

84,154

92,575

102,597

106,863

110,855

Consumer installment

7,099

8,866

9,295

9,588

8,712

Total loans

462,488

461,382

477,477

454,177

431,506

Less:

unearned income

(788)

(481)

(569)

(526)

(560)

Loans, net of unearned income

461,700

460,901

476,908

453,651

430,946

Total loans, net of unearned

income, were $461.7 million at December 31, 2020

and $460.9 million at December 31, 2019.

Excluding PPP loans, total loans, net of unearned income, were

$442.7 million, a decrease of $18.2 million, or 4% from

December 31, 2019.

This decrease was primarily due to a decrease in commercial

real estate loans and residential real

estate loans of $15.2 million and $8.4 million, respectively,

as lower rates increased refinance activity and payoffs for

multi-family residential and consumer mortgage loans.

Four loan categories represented the majority of the

loan portfolio

at December 31, 2020: commercial real estate (55%), residential real

estate (18%), commercial and industrial (18%) and

construction and land development (7%).

Approximately 21% of the Company’s

commercial real estate loans were

classified as owner-occupied at December 31, 2020.

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Within the residential real estate portfolio

segment, the Company had junior lien mortgages of approximately $8.7

million,

or 2%, and $10.8 million, or 2%, of total loans, net of unearned

income at December 31, 2020 and 2019, respectively.

For

residential real estate mortgage loans with a consumer purpose,

the Company had no loans that required interest only

payments at December 31, 2020,

compared to approximately $0.8 million at December 31, 2019.

The Company’s

residential real estate mortgage portfolio does not include any option

ARM loans, subprime loans, or any material amount

of other high-risk consumer mortgage products.

The average yield earned on loans and loans held for sale was 4.74%

in 2020 and 4.83% in 2019.

The specific economic and credit risks associated with our loan portfolio

include, but are not limited to, the effects of

current economic conditions, including the COVID-19 pandemic’s

effects, on our borrowers’ cash flo

ws, real estate market

sales volumes, valuations, availability and cost of financing properties,

real estate industry concentrations, competitive

pressures from a wide range of other lenders, deterioration in certain

credits, interest rate fluctuations, reduced collateral

values or non-existent collateral, title defects, inaccurate appraisals,

financial deterioration of borrowers, fraud, and any

violation of applicable laws and regulations.

The Company attempts to reduce these economic and credit

risks through its loan-to-value guidelines for collateralized

loans, investigating the creditworthiness of borrowers and monitoring borrowers’

financial position. Also, we have

established and periodically review,

lending policies and procedures. Banking regulations limit a

bank’s credit exposure

prohibiting unsecured loan relationships that exceed 10% of its

capital; or 20% of capital, if loans in excess of 10% of

capital are fully secured. Under these regulations, we are prohibited

from having secured loan relationships in excess of

approximately $20.4 million. Furthermore, we have an internal

limit for aggregate credit exposure (loans outstanding plus

unfunded commitments) to a single borrower of $18.3

million. Our loan policy requires that the Loan Committee of the

Board of Directors approve any loan relationships that exceed

this internal limit. At December 31, 2020,

the Bank had no

relationships exceeding these limits.

We periodically

analyze our commercial loan portfolio to determine if a concentration

of credit risk exists in any one or

more industries. We

use classification systems broadly accepted by the financial services

industry in order to categorize our

commercial borrowers. Loan concentrations to borrowers in the

following classes exceeded 25% of the Bank’s

total risk-

based capital at December 31, 2020 (and related balances

at December 31, 2019).

December 31

(In thousands)

2020

2019

Lessors of 1-4 family residential properties

49,127

43,652

Hotel/motel

42,900

43,719

Multi-family residential properties

40,203

44,839

Shopping centers

30,000

30,407

Supplemental COVID-19 Industry Exposure

We have identified

certain commercial sectors with enhanced risk resulting from

the impact of COVID-19.

Loans within

these sectors represent 86% of the Company’s

total COVID-19 related modifications at December 31,

2020.

The table

below summarizes the loans outstanding for these sectors at December

31, 2020.

Portfolio Segment

(Dollars in

thousands)

Commercial and

industrial

Construction and

land development

Commercial real

estate

Total

% of Total Loans

December 31, 2020:

Hotel/motel

866

10,549

42,900

54,315

Shopping centers

—

30,000

30,008

Retail, excluding shopping centers

327

—

18,053

18,380

Restaurants

1,407

—

12,865

14,272

Total

2,608

10,549

103,818

116,975

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In light of disruptions in economic conditions caused by COVID

-19, the financial regulators have issued guidance

encouraging banks to work constructively with borrowers affected

by the virus in our community.

This guidance, including

the Interagency Statement on COVID-19 Loan Modifications and

the Interagency Examiner Guidance for Assessing Safety

and Soundness Considering the Effect of the COVID

-19 Pandemic on Institutions, provides that the agencies will not

criticize financial institutions that mitigate credit risk through

prudent actions consistent with safe and sound practices.

Specifically, examiners will

not criticize institutions for working with borrowers as part

of a risk mitigation strategy

intended to improve existing loans, even if the restructured

loans have or develop weaknesses that ultimately result in

adverse credit classification.

Upon demonstrating the need for payment relief, the bank will work

with qualified borrowers

that were otherwise current before the pandemic to determine

the most appropriate deferral option.

For residential

mortgage and consumer loans the borrower may elect to defer

payments for up to three months.

Interest continues to

accrue and the amount due at maturity increases.

Commercial real estate, commercial, and small business borrowers may

elect to defer payments for up to three months or pay scheduled

interest payments for a nine-month period.

The bank

recognizes that a combination of the payment relief options may be

prudent dependent on a borrower’s business type.

of December 31, 2020 we have granted loan payment deferrals

or payments of interest-only primarily on commercial and

industrial and commercial real estate loans totaling $32.3

million, or 7% of total loans.

This was a decline from $87.1

million, or 18% of total loans at September 30, 2020

and $112.7 million, or 24% of total loans at June 30,

2020.

The tables

below provide information concerning the composition of these

COVID-19 modifications as of December 31, 2020, all of

which represent second deferral requests.

COVID-19 Modifications

Modification Types

(Dollars in thousands)

of Loans

Modified

Balance

% of Portfolio

Modified

Interest Only

Payment

P&I

Payments

Deferred

Commercial and industrial

741

—

100

—

Commercial real estate

31,399

100

—

Residential real estate

133

—

100

Total

32,273

COVID-19 Modifications within Commercial Real Estate Segments

(Dollars in thousands)

of Loans

Modified

Balance of

Loans Modified

% of Total

Segment Loans

Hotel/motel

26,427

Restaurants

1,442

Section 4013 of the CARES Act provides that a qualified loan modification

is exempt by law from classification as a TDR

pursuant to GAAP.

In addition, the Interagency Statement on COVID-19 Loan Modifications

provides circumstances in

which a loan modification is not subject to classification as a TDR

if such loan is not eligible for modification under

Section 4013.

Allowance for Loan Losses

The Company maintains the allowance for loan losses at a level

that management believes appropriate to adequately cover

the Company’s estimate of probable

losses inherent in the loan portfolio. The allowance for loan losses was $5.

million at

December 31, 2020 compared to $4.4 million at December 31,

2019, which management believed to be adequate at each of

the respective dates. The judgments and estimates associated

with the determination of the allowance for loan losses are

described under “Critical Accounting Policies.”

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A summary of the changes in the allowance for loan losses and certain

asset quality ratios for each of the five years in the

five year period ended December 31, 2020 is presented below.

Year ended December 31

(Dollars in thousands)

2020

2019

2018

2017

2016

Allowance for loan losses:

Balance at beginning of period

4,386

4,790

4,757

4,643

4,289

Charge-offs:

Commercial and industrial

(7)

(364)

(52)

(449)

(97)

Commercial real estate

—

(38)

—

(194)

Residential real estate

—

(6)

(26)

(107)

(182)

Consumer installment

(38)

(52)

(40)

(67)

Total charge

-offs

(45)

(408)

(168)

(596)

(540)

Recoveries:

Commercial and industrial

117

461

Construction and land development

—

347

1,212

Commercial real estate

—

Residential real estate

109

115

127

Consumer installment

Total recoveries

177

254

201

1,010

1,379

Net recoveries (charge-offs)

132

(154)

414

839

Provision for loan losses

1,100

(250)

—

(300)

(485)

Ending balance

5,618

4,386

4,790

4,757

4,643

as a % of loans

1.22

0.95

1.00

1.05

1.08

as a % of nonperforming loans

1,052

2,345

2,691

160

196

Net (recoveries) charge-offs as a % of

average loans

(0.03)

0.03

(0.01)

(0.09)

(0.19)

As described under “Critical Accounting Policies”, management assesses

the adequacy of the allowance prior to the end of

each calendar quarter. The

level of the allowance is based upon management’s

evaluation of the loan portfolios, past loan

loss experience, known and inherent risks in the portfolio,

adverse situations that may affect the borrower’s

ability to repay

(including the timing of future payment), the estimated value

of any underlying collateral, composition of the loan

portfolio, economic conditions, industry and peer bank loan loss

rates, and other pertinent factors. This evaluation is

inherently subjective as it requires various material estimates

and judgments including the amounts and timing of future

cash flows expected to be received on impaired loans that may

be susceptible to significant change. The ratio of our

allowance for loan losses to total loans outstanding was 1.22

at December 31,

2020, compared to 0.95% at December 31,

2019.

At December 31, 2020, the Company’s

allowance for loan losses was 1.27% of total loans, excluding PPP

loans.

the future, the allowance to total loans outstanding ratio will increase

or decrease to the extent the factors that influence our

quarterly allowance assessment,

including the duration and magnitude of COVID-19

effects, in their entirety either improve

or weaken.

In addition our regulators, as an integral part of their examination process,

will periodically review the

Company’s allowance for loan

losses, and may require the Company to make additional provisions

to the allowance for

loan losses based on their judgment about information available

to them at the time of their examinations.

Nonperforming Assets

At December 31, 2020 the Company had $0.5 million in nonperforming

assets compared

to $0.2 million at December 31,

2019.

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The table below provides information concerning total nonperforming

assets and certain asset quality ratios.

December 31

(Dollars in thousands)

2020

2019

2018

2017

2016

Nonperforming assets:

Nonperforming (nonaccrual) loans

534

187

178

2,972

2,370

Other real estate owned

—

172

—

152

Total

nonperforming assets

534

187

350

2,972

2,522

as a % of loans and other real estate owned

0.12

0.04

0.07

0.66

0.59

as a % of total assets

0.06

0.02

0.04

0.35

0.30

Nonperforming loans as a % of total loans

0.12

0.04

0.66

0.55

Accruing loans 90 days or more past due

141

—

The table below provides information concerning the composition

of nonaccrual loans at December 31, 2020

and 2019,

respectively.

December 31

(In thousands)

2020

2019

Nonaccrual loans:

Commercial real estate

212

—

Residential real estate

322

187

Total nonaccrual loans / nonperforming

loans

534

187

The Company discontinues the accrual of interest income when (1)

there is a significant deterioration in the financial

condition of the borrower and full repayment of principal and

interest is not expected or (2) the principal or interest is more

than 90 days past due, unless the loan is both well-secured

and in the process of collection. At December 31, 2020

and

2019, respectively, the Company

had $0.5 million and $0.2 million in loans on nonaccrual.

At December 31, 2020 there were $0.1 million in loans 90 days

past due and still accruing interest, compared to none at

December 31, 2019.

Other Real Estate Owned

At December 31, 2020 and 2019, respectively,

the Company held no OREO properties acquired from borrowers.

Potential Problem Loans

Potential problem loans represent those loans with a well-defined

weakness and where information about possible credit

problems of borrowers has caused management to have serious doubts

about the borrower’s ability to comply with present

repayment terms.

This definition is believed to be substantially consistent with the

standards established by the Federal

Reserve, the Company’s primary regulator,

for loans classified as substandard, excluding nonaccrual loans.

Potential

problem loans, which are not included in nonperforming assets,

amounted to $2.9 million, or 1.0% of total loans at

December 31, 2020, compared to $4.4 million, or 1.0% of

total loans at December 31, 2019.

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The table below provides information concerning the composition

of potential problem loans at December 31, 2020

and

2019, respectively.

December 31

(In thousands)

2020

2019

Potential problem loans:

Commercial and industrial

218

266

Construction and land development

254

1,043

Commercial real estate

188

Residential real estate

2,229

2,899

Consumer installment

Total potential problem loans

2,912

4,371

At December 31, 2020, approximately $0.9 million or 30.3%

of total potential problem loans were past due at least 30 but

less than 90 days.

The following table is a summary of the Company’s

performing loans that were past due at least 30 days but

less than

90 days as of December 31, 2020 and 2019, respectively.

December 31

(In thousands)

2020

2019

Performing loans past due 30 to 89 days:

Commercial and industrial

230

Construction and land development

456

Commercial real estate

—

Residential real estate

1,509

1,608

Consumer installment

Total performing loans past due

30 to 89 days

1,858

2,152

Deposits

December 31

(In thousands)

2020

2019

Noninterest bearing demand

245,398

196,218

NOW

155,870

138,315

Money market

199,937

160,934

Savings

78,187

61,486

Certificates of deposit under $100,000

54,920

59,516

Certificates of deposit and other time deposits of $100,000

or more

105,481

107,683

Total deposits

839,793

724,152

Total deposits increased

$115.6 million, or 16%, to $839.8

million at December 31, 2020,

compared to $724.2 million at

December 31, 2019. Noninterest-bearing deposits were $245.4

million, or 29% of total deposits, at December 31, 2020,

compared to $196.2 million, or 27% of total deposits at December

31, 2019. These increases reflect deposits from

customers who received PPP loans, the impact of government stimulus

checks, delayed tax payments and reduced customer

spending during the COVID-19 pandemic.

The average rates paid on total interest-bearing deposits were

0.68% in 2020 and 0.80% in 2019.

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Other Borrowings

Other borrowings generally consist of short-term borrowings

and long-term debt.

Short-term borrowings generally consist

of federal funds purchased and securities sold under agreements

to repurchase with an original maturity of one year

or less.

The Bank had available federal fund lines totaling $41.0 million

with none outstanding at December 31, 2020 and 2019,

respectively. Securities sold

under agreements to repurchase totaled $2.4 million and $1.1

million at December 31, 2020

and 2019, respectively.

The average rates paid on short-term borrowings was 0.48%

and 0.49% in 2020 and 2019, respectively.

Information

concerning the average balances, weighted average rates, and

maximum amounts outstanding for short-term borrowings

during the two-year period ended December 31, 2020 is included

in Note 9 to the accompanying consolidated financial

statements included in this annual report.

The Company had no long-term debt outstanding at December

31, 2020 and 2019, respectively.

CAPITAL ADEQUACY

The Company's consolidated stockholders' equity was $107.7

million and $98.3 million as of December 31, 2020 and

2019,

respectively.

The increase from December 31, 2019 was primarily driven

by net earnings of $7.5 million and other

comprehensive income due to the change in unrealized gains

on securities available-for-sale, net of tax, of $5.5

million,

which was partially offset by cash dividends paid of $3.6

million.

On January 1, 2015, the Company and Bank became subject

to the rules of the Basel III regulatory capital framework and

related Dodd-Frank Wall

Street Reform and Consumer Protection Act changes. The

rules included the implementation of a

capital conservation buffer that is added to

the minimum requirements for capital adequacy purposes. The capital

conservation buffer was subject

to a three year phase-in period that began on January 1, 2016

and was fully phased-in on

January 1, 2019 at 2.5%. A banking organization with a

conservation buffer of less than the required

amount will be subject

to limitations on capital distributions, including dividend payments

and certain discretionary bonus payments to executive

officers. At December 31, 2020,

the Bank’s ratio was sufficient

to meet the fully phased-in conservation buffer.

Effective March 20, 2020, the Federal Reserve and

the other federal banking regulators adopted an interim final rule that

amended the capital conservation buffer.

The interim final rule was adopted as a final rule on August

26, 2020. The new

rule revises the definition of “eligible retained income” for purposes

of the maximum payout ratio to allow banking

organizations to more freely use their capital buffers

to promote lending and other financial intermediation activities,

making the limitations on capital distributions more gradual.

The eligible retained income is now the greater of (i) net

income for the four preceding quarters, net of distributions and

associated tax effects not reflected in net income; and

(ii)

the average of all net income over the preceding four quarters.

The interim final rule only affects the capital buffers,

and

banking organizations were encouraged to make prudent

capital distribution decisions.

The Federal Reserve has treated us as a “small bank holding company’

under the Federal Reserve’s policy.

Accordingly,

our capital adequacy is evaluated at the Bank level, and not for

the Company and its consolidated subsidiaries. The Bank’s

tier 1 leverage ratio was 10.32%, CET1 risk-based capital ratio

was 17.27%, tier 1 risk-based capital ratio was 17.27%, and

total risk-based capital ratio was 18.31%

at December 31, 2020.

These ratios exceed the minimum regulatory capital

percentages of 5.0% for tier 1 leverage ratio, 6.5% for CET1

risk-based capital ratio, 8.0% for tier 1 risk-based capital ratio,

and 10.0% for total risk-based capital ratio to be considered

“well capitalized.” The Bank’s

capital conservation buffer was

10.31%

at December 31, 2020.

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MARKET AND LIQUIDITY RISK MANAGEMENT

Management’s objective is to manage

assets and liabilities to provide a satisfactory,

consistent level of profitability within

the framework of established liquidity,

loan, investment, borrowing, and capital policies. The

Bank’s Asset Liability

Management Committee (“ALCO”) is charged with

the responsibility of monitoring these policies, which are designed

ensure an acceptable asset/liability composition. Two

critical areas of focus for ALCO are interest rate risk and liquidity

risk management.

Interest Rate Risk Management

In the normal course of business, the Company is exposed to

market risk arising from fluctuations in interest rates because

assets and liabilities may mature or reprice at different times.

For example, if liabilities reprice faster than assets, and

interest rates are generally rising, earnings will initially decline.

In addition, assets and liabilities may reprice at the same

time but by different amounts. For example, when the general

level of interest rates is rising, the Company may increase

rates paid on interest bearing demand deposit accounts and savings

deposit accounts by an amount that is less than the

general increase in market interest rates. Also, short-term and

long-term market interest rates may change by different

amounts. For example, a flattening yield curve may reduce the

interest spread between new loan yields and funding costs.

Further, the remaining maturity of various assets

and liabilities may shorten or lengthen as interest rates change.

For

example, if long-term mortgage interest rates decline sharply,

mortgage-backed securities in the securities portfolio may

prepay earlier than anticipated, which could reduce earnings.

Interest rates may also have a direct or indirect effect on loan

demand, loan losses, mortgage origination volume, the fair value of

MSRs and other items affecting earnings.

ALCO measures and evaluates the interest rate risk so that we can meet customer

demands for various types of loans and

deposits. ALCO determines the most appropriate amounts of

on-balance sheet and off-balance sheet items. Measurements

used to help manage interest rate sensitivity include an earnings simulation

and an economic value of equity model.

Earnings simulation

. Management believes that interest rate risk is best estimated by our

earnings simulation modeling.

On at least a quarterly basis, the following 12 month time period

is simulated to determine a baseline net interest income

forecast and the sensitivity of this forecast to changes in interest rates.

The baseline forecast assumes an unchanged or flat

interest rate environment. Forecasted levels of earning assets,

interest-bearing liabilities, and off-balance sheet financial

instruments are combined with ALCO forecasts of market interest rates

for the next 12 months and other factors in order to

produce various earnings simulations and estimates.

To help limit interest rate

risk, we have guidelines for earnings at risk which seek to

limit the variance of net interest

income from gradual changes in interest rates.

For changes up or down in rates from management’s

flat interest rate

forecast over the next 12 months, policy limits for net interest income

variances are as follows:

+/- 20% for a gradual change of 400 basis points

+/- 15% for a gradual change of 300 basis points

+/- 10% for a gradual change of 200 basis points

+/- 5% for a gradual change of 100 basis points

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The following table reports the variance of net interest income over the next

12 months assuming a gradual change in

interest rates up or down when compared to the baseline net

interest income forecast at December 31, 2020.

Changes in Interest Rates

Net Interest Income % Variance

400 basis points

(2.42)

300 basis points

(2.27)

200 basis points

(1.67)

100 basis points

(0.86)

(100) basis points

2.34

(200) basis points

(300) basis points

(400) basis points

NM=not meaningful

At December 31, 2020, our earnings simulation model indicated

that we were in compliance with the policy guidelines

noted above.

Economic Value

of Equity

Economic value of equity (“EVE”) measures the extent that estimated

economic values of our assets, liabilities and off-

balance sheet items will change as a result of interest rate changes.

Economic values are estimated by discounting expected

cash flows from assets, liabilities and off-balance sheet items,

which establishes a base case EVE. In contrast with our

earnings simulation model which evaluates interest rate risk over

a 12 month timeframe, EVE uses a terminal horizon

which allows for the re-pricing of all assets, liabilities, and off

-balance sheet items. Further, EVE

is measured using values

as of a point in time and does not reflect any actions that ALCO

might take in responding to or anticipating changes in

interest rates, or market and competitive conditions.

To help limit interest rate

risk, we have stated policy guidelines for an instantaneous

basis point change in interest rates,

such that our EVE should not decrease from our base case by more

than the following:

45% for an instantaneous change of +/-

400 basis points

35% for an instantaneous change of +/-

300 basis points

25% for an instantaneous change of +/-

200 basis points

15% for an instantaneous change of +/-

100 basis points

The following table reports the variance of EVE assuming an immediate

change in interest rates up or down when

compared to the baseline EVE at December 31, 2020.

Changes in Interest Rates

EVE % Variance

400 basis points

(22.20)

300 basis points

(15.00)

200 basis points

(8.25)

100 basis points

(2.63)

(100) basis points

1.17

(200) basis points

(300) basis points

(400) basis points

NM=not meaningful

At December 31, 2020, our EVE model indicated that we were

in compliance with the policy guidelines noted above.

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Each of the above analyses may not, on its own, be an accurate

indicator of how our net interest income will be affected

changes in interest rates. Income associated with interest-earning assets

and costs associated with interest-bearing liabilities

may not be affected uniformly by changes in interest rates.

In addition, the magnitude and duration of changes in interest

rates may have a significant impact on net interest income. For

example, although certain assets and liabilities may have

similar maturities or periods of repricing, they may react in different

degrees to changes in market interest rates, and other

economic and market factors, including market perceptions. Interest

rates on certain types of assets and liabilities fluctuate

in advance of changes in general market rates, while interest

rates on other types of assets and liabilities may lag behind

changes in general market rates. In addition, certain assets, such as

adjustable rate mortgage loans, have features (generally

referred to as “interest rate caps and floors”) which limit changes

in interest rates. Prepayment and early withdrawal levels

also could deviate significantly from those assumed in calculating the maturity

of certain instruments. The ability of many

borrowers to service their debts also may decrease during periods

of rising interest rates or economic stress, which may

differ across industries and economic sectors. ALCO reviews

each of the above interest rate sensitivity analyses along with

several different interest rate scenarios in seeking satisfactory,

consistent levels of profitability within the framework of the

Company’s established liquidity,

loan, investment, borrowing, and capital policies.

The Company may also use derivative financial instruments

to improve the balance between interest-sensitive assets and

interest-sensitive liabilities and as one tool to manage interest rate

sensitivity while continuing to meet the credit and

deposit needs of our customers. From time to time, the Company

may enter into interest rate swaps (“swaps”) to facilitate

customer transactions and meet their financing needs. These

swaps qualify as derivatives, but are not designated as hedging

instruments. At December 31, 2020 and 2019, the Company had

no derivative contracts to assist in managing interest rate

sensitivity.

Liquidity Risk Management

Liquidity is the Company’s ability

to convert assets into cash equivalents in order

to meet daily cash flow requirements,

primarily

for deposit withdrawals, loan demand and maturing obligations.

Without proper management of its liquidity,

the

Company could experience higher costs of obtaining funds due to

insufficient liquidity, while

excessive liquidity can lead

to a decline in earnings due to the cost of foregoing alternative

higher-yielding investment opportunities.

Liquidity is managed at two levels. The first is the liquidity of

the Company. The second

is the liquidity of the Bank. The

management of liquidity at both levels is essential, because the Company

and the Bank are separate and distinct legal

entities with different funding needs and sources, and each

are subject to regulatory guidelines and requirements. The

Company depends upon dividends from the Bank for liquidity to

pay its operating expenses, debt obligations and

dividends. The Bank’s payment of

dividends depends on its earnings, liquidity,

capital and the absence of any regulatory

restrictions.

The primary source of funding and liquidity for the Company has

been dividends received from the Bank. If needed, the

Company could also issue common stock or other securities. Primary uses

of funds by the Company include dividends paid

to stockholders and stock repurchases.

Primary sources of funding for the Bank include customer deposits,

other borrowings, repayment and maturity of securities,

and sale and repayment of loans.

The Bank has access to federal funds lines from various banks

and borrowings from the

Federal Reserve discount window.

In addition to these sources, the Bank has participated

in the FHLB's advance program

to obtain funding for its growth. Advances include both fixed

and variable terms and are taken out with varying maturities.

As of December 31,

2020, the Bank had a remaining available line of credit with the FHLB

totaling $281.4 million.

As of

December 31, 2020, the Bank also had $41.0 million of federal

funds lines, with none outstanding.

Primary uses of funds

include repayment of maturing obligations and growing the loan

portfolio.

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The following table presents additional information about our

contractual obligations as of December 31, 2020, which by

their terms had contractual maturity and termination dates subsequent

to December 31, 2020:

Payments due by period

1 year

1 to 3

3 to 5

More than

(Dollars in thousands)

Total

or less

years

5 years

Contractual obligations:

Deposit maturities (1)

839,792

767,683

62,904

9,205

—

Operating lease obligations

811

103

201

206

301

Total

840,603

767,786

63,105

9,411

301

(1) Deposits with no stated maturity (demand, NOW, money market, and savings deposits) are presented in the "1

year or less" column

Management believes that the Company and the Bank have adequate

sources of liquidity to meet all known contractual

obligations and unfunded commitments, including loan commitments and

reasonable borrower, depositor,

and creditor

requirements over the next 12 months.

Off-Balance Sheet Arrangements

At December 31, 2020, the Bank had outstanding standby letters

of credit of $1.2 million and unfunded loan commitments

outstanding of $75.0 million. Because these commitments generally

have fixed expiration dates and many will expire

without being drawn upon, the total commitment level does not

necessarily represent future cash requirements. If needed

fund these outstanding commitments, the Bank has the ability to

liquidate federal funds sold or securities available-for-sale,

or on a short-term basis to borrow and purchase federal funds

from other financial institutions.

Residential mortgage lending and servicing activities

Since 2009, we have primarily sold residential mortgage loans in

the secondary market to Fannie Mae while retaining the

servicing of these loans. The sale agreements for these residential mortgage

loans with Fannie Mae and other investors

include various representations and warranties regarding the origination

and characteristics of the residential mortgage

loans. Although the representations and warranties vary among investors,

they typically cover ownership of the loan,

validity of the lien securing the loan, the absence of delinquent taxes

or liens against the property securing the loan,

compliance with loan criteria set forth in the applicable agreement,

compliance with applicable federal, state, and local

laws, among other matters.

As of December 31, 2020, the unpaid principal balance of residential

mortgage loans, which we have originated and sold,

but retained the servicing rights was $267.2 million. Although these

loans are generally sold on a non-recourse basis,

except for breaches of customary seller representations and

warranties, we may have to repurchase residential mortgage

loans in cases where we breach such representations or warranties or

the other terms of the sale, such as where we fail to

deliver required documents or the documents we deliver are defective.

Investors also may require the repurchase of a

mortgage loan when an early payment default underwriting review reveals

significant underwriting deficiencies, even if the

mortgage loan has subsequently been brought current. Repurchase demands

are typically reviewed on an individual loan by

loan basis to validate the claims made by the investor and to

determine if a contractually required repurchase event has

occurred. We

seek to reduce and manage the risks of potential repurchases or other claims

by mortgage loan investors

through our underwriting, quality assurance and servicing practices,

including good communications with our residential

mortgage investors.

The Company was not required to repurchase any loans during 2020

and 2019 as a result of representation and warranty

provisions contained in the Company’s

sale agreements with Fannie Mae, and had no pending repurchase

or make-whole

requests at December 31, 2020.

We service all residential

mortgage loans originated and sold by us to Fannie Mae. As servicer,

our primary duties are to:

(1) collect payments due from borrowers; (2) advance certain delinquent

payments of principal and interest; (3) maintain

and administer any hazard, title, or primary mortgage insurance policies

relating to the mortgage loans; (4) maintain any

required escrow accounts for payment of taxes and insurance

and administer escrow payments; and (5) foreclose on

defaulted mortgage loans or take other actions to mitigate the

potential losses to investors consistent with the agreements

governing our rights and duties as servicer.

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The agreement under which we act as servicer generally specifies

a standard of responsibility for actions taken by us in

such capacity and provides protection against expenses and liabilities incurred

by us when acting in compliance with the

respective servicing agreements. However,

if we commit a material breach of our obligations as servicer,

we may be subject

to termination if the breach is not cured within a specified period

following notice. The standards governing servicing and

the possible remedies for violations of such standards are determined

by servicing guides issued by Fannie Mae as well as

the contract provisions established between Fannie Mae and

the Bank. Remedies could include repurchase of an affected

loan.

Although to date repurchase requests related to representation and

warranty provisions, and servicing activities have been

limited, it is possible that requests to repurchase mortgage loans may

increase in frequency if investors more aggressively

pursue all means of recovering losses on their purchased loans.

As of December 31, 2020, we believe that this exposure is

not material due to the historical level of repurchase requests

and loss trends, the results of our quality control reviews, and

the fact that 99% of our residential mortgage loans serviced for

Fannie Mae were current as of such date. We

maintain

ongoing communications with our investors and will continue

to evaluate this exposure by monitoring the level and number

of repurchase requests as well as the delinquency rates in our

investor portfolios.

Section 4021 of the CARES Act allows borrowers under 1-to

-4 family residential mortgage loans sold to Fannie Mae to

request forbearance to the servicer after affirming that

such borrower is experiencing financial hardships during the

COVID-19 emergency.

Except for vacant or abandoned properties, Fannie Mae servicers

may not initiate foreclosures on

similar procedures or related evictions or sales until December

31, 2020. The forbearance period has been extended,

generally, to March 31,

2021.

The Bank sells mortgage loans to Fannie Mae and services these on an

actual/actual basis.

As a result, the Bank is not obligated to make any advances to

Fannie Mae on principal and interest on such mortgage loans

where the borrower is entitled to forbearance.

Effects of Inflation and Changing Prices

The consolidated financial statements and related consolidated

financial data presented herein have been prepared in

accordance with GAAP and practices within the banking industry

which require the measurement of financial position and

operating results in terms of historical dollars without considering

the changes in the relative purchasing power of money

over time due to inflation. Unlike most industrial companies,

virtually all the assets and liabilities of a financial institution

are monetary in nature. As a result, interest rates have a more

significant impact on a financial institution’s

performance

than the effects of general levels of inflation.

Table of Contents

CURRENT ACCOUNTING DEVELOPMENTS

The following ASU has been issued by the FASB

but is not yet effective.

●

ASU 2016-13,

Financial Instruments – Credit Losses (Topic

326):

Measurement of Credit Losses on

Financial

Instruments;

Information about this pronouncement is described in more detail

below.

ASU 2016-13,

Financial Instruments - Credit Losses (Topic

326): - Measurement of Credit

Losses on Financial

Instruments

, amends guidance on reporting credit losses for assets held at

amortized cost basis and available for sale debt

securities. For assets held at amortized cost basis, the new standard

eliminates the probable initial recognition threshold in

current GAAP and, instead, requires an entity to reflect its current estimate

of all expected credit losses using a broader

range of information regarding past events, current conditions and

forecasts assessing the collectability of cash flows. The

allowance for credit losses is a valuation account that is deducted

from the amortized cost basis of the financial assets to

present the net amount expected to be collected. For

available for sale debt securities, credit losses should be measured in a

manner similar to current GAAP,

however the new standard will require that credit losses be

presented as an allowance

rather than as a write-down. The new guidance affects entities

holding financial assets and net investment in leases that are

not accounted for at fair value through net income. The amendments

affect loans, debt securities, trade receivables, net

investments in leases, off-balance sheet credit exposures,

reinsurance receivables, and any other financial assets not

excluded from the scope that have the contractual right to receive

cash. For public business entities, the new guidance was

originally effective for annual and interim periods

in fiscal years beginning after December 15, 2019. The

Company has

developed an implementation team that is following a general

timeline. The team has been working with an advisory

consultant, with whom a third-party software license has been purchased.

The Company’s preliminary evaluation

indicates

the provisions of ASU No. 2016-13 are expected to impact the Company’s

consolidated financial statements, in particular

the level of the reserve for credit losses. The Company is continuin

to evaluate the extent of the potential impact and

expects that portfolio composition and economic conditions at

the time of adoption will be a factor.

On October 16, 2019,

the FASB approved

a previously issued proposal granting smaller reporting companies a postponement

of the required

implementation date for ASU 2016-13. The Company will now be

required to implement the new standard in January 2023,

with early adoption permitted in any period prior to that date.

Table of Contents

Table 1

– Explanation of Non-GAAP Financial Measures

In addition to results presented in accordance with GAAP,

this annual report on Form 10-K includes certain designated net

interest income amounts presented on a tax-equivalent basis, a

non-GAAP financial measure, including the presentation of

total revenue and the calculation of the efficiency ratio.

The Company believes the presentation of net interest income

on a tax-equivalent basis provides comparability of net

interest income from both taxable and tax-exempt sources and

facilitates comparability within the industry.

Although the

Company believes these non-GAAP financial measures enhance

investors’ understanding of its business and performance,

these non-GAAP financial measures should not be considered

an alternative to GAAP.

The reconciliation of these non-

GAAP financial measures from GAAP to non-GAAP is presented below.

Year ended December 31

(In thousands)

2020

2019

2018

2017

2016

Net interest income (GAAP)

24,338

26,064

25,570

24,526

22,732

Tax-equivalent adjustment

492

557

613

1,205

1,276

Net interest income (Tax-equivalent)

24,830

26,621

26,183

25,731

24,008

Table of Contents

Table 2

Selected Financial Data

Year ended December 31

(Dollars in thousands, except per share amounts)

2020

2019

2018

2017

2016

Income statement

Tax-equivalent interest income (a)

28,686

30,804

29,859

29,325

28,092

Total interest expense

3,856

4,183

3,676

3,594

4,084

Tax equivalent net interest income (a)

24,830

26,621

26,183

25,731

24,008

Provision for loan losses

1,100

(250)

—

(300)

(485)

Total noninterest income

5,375

5,494

3,325

3,441

3,383

Total noninterest expense

19,554

19,697

17,874

16,784

15,348

Net earnings before income taxes and

tax-equivalent adjustment

9,551

12,668

11,634

12,688

12,528

Tax-equivalent adjustment

492

557

613

1,205

1,276

Income tax expense

1,605

2,370

2,187

3,637

3,102

Net earnings

7,454

9,741

8,834

7,846

8,150

Per share data:

Basic and diluted net earnings

2.09

2.72

2.42

2.15

2.24

Cash dividends declared

1.02

1.00

0.96

0.92

0.90

Weighted average shares outstanding

Basic and diluted

3,566,207

3,581,476

3,643,780

3,643,616

3,643,504

Shares outstanding

3,566,276

3,566,146

3,643,868

3,643,668

3,643,523

Book value

30.20

27.57

24.44

23.85

22.55

Common stock price

High

63.40

53.90

53.50

40.25

31.31

Low

24.11

30.61

28.88

30.75

24.56

Period-end

42.29

53.00

31.66

38.90

31.31

To earnings ratio

20.23

19.49

13.08

18.09

13.98

To book value

140

192

130

163

139

Performance ratios:

Return on average equity

7.12

10.35

10.14

9.17

9.65

Return on average assets

0.83

1.18

1.08

0.94

0.98

Dividend payout ratio

48.80

36.76

39.67

42.79

40.18

Average equity to average assets

11.63

11.39

10.63

10.30

10.14

Asset Quality:

Allowance for loan losses as a % of:

Loans

1.22

0.95

1.00

1.05

1.08

Nonperforming loans

1,052

2,345

2,691

160

196

Nonperforming assets as a % of:

Loans and other real estate owned

0.12

0.04

0.07

0.66

0.59

Total assets

0.06

0.02

0.04

0.35

0.30

Nonperforming loans as % of loans

0.12

0.04

0.66

0.55

Net (recoveries) charge-offs as a % of average loans

(0.03)

0.03

(0.01)

(0.09)

(0.19)

Capital Adequacy (c):

CET 1 risk-based capital ratio

17.27

17.28

16.49

16.42

16.44

Tier 1 risk-based capital ratio

17.27

17.28

16.49

16.98

17.00

Total risk-based capital ratio

18.31

18.12

17.38

17.91

17.95

Tier 1 leverage ratio

10.32

11.23

11.33

10.95

10.27

Other financial data:

Net interest margin (a)

2.92

3.43

3.40

3.29

3.05

Effective income tax rate

17.72

19.57

19.84

31.67

27.57

Efficiency ratio (b)

64.74

61.33

60.57

57.53

56.03

Selected period end balances:

Securities

335,177

235,902

239,801

257,697

243,572

Loans, net of unearned income

461,700

460,901

476,908

453,651

430,946

Allowance for loan losses

5,618

4,386

4,790

4,757

4,643

Total assets

956,597

828,570

818,077

853,381

831,943

Total deposits

839,792

724,152

724,193

757,659

739,143

Long-term debt

—

3,217

Total stockholders’ equity

107,689

98,328

89,055

86,906

82,177

(a) Tax-equivalent.

See "Table 1 - Explanation of Non-GAAP Financial Measures".

(b) Efficiency ratio is the result of noninterest expense divided by the

sum of noninterest income and tax-equivalent net interest income.

wholly-owned subsidiary, AuburnBank.

Table of Contents

Table 3

Average

Balance and Net Interest Income Analysis

Year ended December 31

2020

2019

Interest

Average

Income/

Yield/

Average

Income/

Yield/

(Dollars in thousands)

Balance

Expense

Rate

Balance

Expense

Rate

Interest-earning assets:

Loans and loans held for sale (1)

465,378

22,055

4.74%

474,259

22,930

4.83%

Securities - taxable

234,420

3,932

1.68%

178,410

4,000

2.24%

Securities - tax-exempt (2)

63,029

2,343

3.72%

66,628

2,656

3.99%

Total securities

297,449

6,275

2.11%

245,038

6,656

2.72%

Federal funds sold

30,977

125

0.41%

20,223

423

2.09%

Interest bearing bank deposits

56,104

231

0.41%

36,869

795

2.16%

Total interest-earning assets

849,908

28,686

3.38%

776,389

30,804

3.97%

Cash and due from banks

13,727

14,037

Other assets

37,010

36,119

Total assets

900,645

826,545

Interest-bearing liabilities:

Deposits:

NOW

154,431

523

0.34%

134,430

710

0.53%

Savings and money market

242,485

1,071

0.44%

218,630

969

0.44%

Certificates of deposits

165,120

2,253

1.36%

170,835

2,497

1.46%

Total interest-bearing deposits

562,036

3,847

0.68%

523,895

4,176

0.80%

Short-term borrowings

1,864

0.48%

1,443

0.49%

Total interest-bearing liabilities

563,900

3,856

0.68%

525,338

4,183

0.80%

Noninterest-bearing deposits

227,127

203,828

Other liabilities

4,884

3,228

Stockholders' equity

104,734

94,151

Total liabilities and

and stockholders' equity

900,645

826,545

Net interest income and margin

24,830

2.92%

26,621

3.43%

(1) Average loan balances

are shown net of unearned income and loans on nonaccrual status

have been included

in the computation of average balances.

(2) Yields on tax-exempt securities

have been computed on a tax-equivalent basis using an income tax

rate

of 21%.

Table of Contents

Table 4

Volume and

Rate Variance

Analysis

Years ended December 31, 2020 vs. 2019

Years ended December 31, 2019 vs. 2018

Net

Due to change in

Net

Due to change in

(Dollars in thousands)

Change

Rate (2)

Volume (2)

Change

Rate (2)

Volume (2)

Interest income:

Loans and loans held for sale

(875)

(455)

(420)

1,164

358

806

Securities - taxable

(68)

(1,010)

942

(51)

(69)

Securities - tax-exempt (1)

(313)

(180)

(133)

(265)

(88)

(177)

Total securities

(381)

(1,190)

809

(316)

(70)

(246)

Federal funds sold

(298)

(342)

(131)

(177)

Interest bearing bank deposits

(564)

(645)

228

109

119

Total interest income

(2,118)

(2,632)

514

945

443

502

Interest expense:

Deposits:

NOW

(187)

(255)

282

235

Savings and money market

102

(3)

105

114

124

(10)

Certificates of deposits

(244)

(166)

(78)

168

361

(193)

Total interest-bearing deposits

(329)

(424)

564

720

(156)

Short-term borrowings

—

(11)

(5)

(6)

Long-term debt

—

(46)

—

(46)

Total interest expense

(327)

(424)

507

715

(208)

Net interest income

(1,791)

(2,208)

417

438

(272)

710

(1) Yields on tax-exempt securities

have been computed on a tax-equivalent basis using an income

tax rate of 21%.

(2) Changes that are not solely a result of volume or rate have

been allocated to volume.

Table of Contents

Table 5

Loan Portfolio Composition

December 31

(In thousands)

2020

2019

2018

2017

2016

Commercial and industrial

82,585

56,782

63,467

59,086

49,850

Construction and land development

33,514

32,841

40,222

39,607

41,650

Commercial real estate

255,136

270,318

261,896

239,033

220,439

Residential real estate

84,154

92,575

102,597

106,863

110,855

Consumer installment

7,099

8,866

9,295

9,588

8,712

Total loans

462,488

461,382

477,477

454,177

431,506

Less: unearned income

(788)

(481)

(569)

(526)

(560)

Loans, net of unearned income

461,700

460,901

476,908

453,651

430,946

Less: allowance for loan losses

(5,618)

(4,386)

(4,790)

(4,757)

(4,643)

Loans, net

456,082

456,515

472,118

448,894

426,303

Table of Contents

Table 6

Loan Maturities and Sensitivities to Changes in Interest

Rates

December 31, 2020

1 year

1 to 5

After 5

Adjustable

Fixed

(Dollars in thousands)

or less

years

Total

Rate

Total

Commercial and industrial

20,829

26,025

35,731

82,585

15,159

67,426

82,585

Construction and land development

25,461

6,160

1,893

33,514

19,915

13,599

33,514

Commercial real estate

19,534

109,706

125,896

255,136

4,798

250,338

255,136

Residential real estate

6,853

23,549

53,752

84,154

30,272

53,882

84,154

Consumer installment

1,981

4,595

523

7,099

7,037

7,099

Total loans

74,658

170,035

217,795

462,488

70,206

392,282

462,488

Table of Contents

Table 7

Allowance for Loan Losses and Nonperforming Assets

Year ended December 31

(Dollars in thousands)

2020

2019

2018

2017

2016

Allowance for loan losses:

Balance at beginning of period

4,386

4,790

4,757

4,643

4,289

Charge-offs:

Commercial and industrial

(7)

(364)

(52)

(449)

(97)

Commercial real estate

—

(38)

—

(194)

Residential real estate

—

(6)

(26)

(107)

(182)

Consumer installment

(38)

(52)

(40)

(67)

Total charge

-offs

(45)

(408)

(168)

(596)

(540)

Recoveries:

Commercial and industrial

117

461

Construction and land development

—

347

1,212

Commercial real estate

—

Residential real estate

109

115

127

Consumer installment

Total recoveries

177

254

201

1,010

1,379

Net recoveries (charge-offs)

132

(154)

414

839

Provision for loan losses

1,100

(250)

—

(300)

(485)

Ending balance

5,618

4,386

4,790

4,757

4,643

as a % of loans

1.22

0.95

1.00

1.05

1.08

as a % of nonperforming loans

1,052

2,345

2,691

160

196

Net (recoveries) charge-offs as % of average loans

(0.03)

0.03

(0.01)

(0.09)

(0.19)

Nonperforming assets:

Nonaccrual/nonperforming loans

534

187

178

2,972

2,370

Other real estate owned

—

172

—

152

Total nonperforming assets

534

187

350

2,972

2,522

as a % of loans and other real estate owned

0.12

0.04

0.07

0.66

0.59

as a % total assets

0.06

0.02

0.04

0.35

0.30

Nonperforming loans as a % of total loans

0.12

0.04

0.66

0.55

Accruing loans 90 days or more past due

141

—

Table of Contents

Table 8

Allocation of Allowance for Loan Losses

December 31

2020

2019

2018

2017

2016

(Dollars in thousands)

Amount

Commercial and industrial

807

17.9

577

12.3

778

13.3

653

13.0

540

11.6

Construction and

land development

594

7.2

569

7.1

700

8.4

734

8.7

812

9.7

Commercial real estate

3,169

55.2

2,289

58.6

2,218

54.9

2,126

52.7

2,071

51.0

Residential real estate

944

18.2

813

20.1

946

21.5

1,071

23.5

1,107

25.7

Consumer installment

104

1.5

138

1.9

148

1.9

173

2.1

113

2.0

Total allowance for loan losses

5,618

4,386

4,790

4,757

4,643

* Loan balance in each category expressed as a percentage of total loans.

Table of Contents

Table 9

CDs and Other Time Deposits of $100,000

or More

(Dollars in thousands)

December 31, 2020

Maturity of:

3 months or less

6,417

Over 3 months through 6 months

7,965

Over 6 months through 12 months

42,978

Over 12 months

48,121

Total CDs and other

time deposits of $100,000 or more

105,481

Table of Contents

ITEM 7A.

QUANTITATIVE

AND QUALITATIVE

DISCLOSURES ABOUT MARKET RISK

The information called for by ITEM 7A is set forth in ITEM

7 under the caption “Market and Liquidity Risk Management”

and is incorporated herein by reference.

ITEM 8.

FINANCIAL STATEMENTS

AND SUPPLEMENTARY

DATA

Table of Contents

Report of Independent Registered Public Accounting

Firm

The Board of Directors and Stockholders

Auburn National Bancorporation, Inc.

Opinion on the Financial Statements

We have

audited the accompanying

consolidated balance

sheets of Auburn

National Bancorporation,

Inc. and its

subsidiaries (the

“Company”)

as of

December 31,

2020 and

2019,

the related

consolidated statements

of earnings

comprehensive income, stockholders’ equity,

and cash flows for the years then ended,

and the related notes to the

consolidated financial

statements and

schedules (collectively,

the “financial

statements”). In

our opinion,

the financial

statements present fairly,

in all material

respects, the financial

position of the

Company as of

December 31, 20

20 and

2019,

and the results of

its operations and its

cash flows for the

years then ended, in

conformity with accounting principles

generally accepted in the United States of America.

Basis for Opinion

These financial statements are the

responsibility of the Comp

any’s management. Our

responsibility is to express an opinion

on the Company’s

consolidated financial

statements based on

our audits. We

are a public

accounting firm registered

with

the Public Company Accounting Oversight Board

(United States) (PCAOB) and are required to be

independent with

respect to

the Company

in accordance

with U.S.

federal securities

laws and

the applicabl

rules and

regulations of

the

Securities and Exchange Commission and the PCAOB.

We conducted

our audits

in accordance

with the

standards of

the PCAOB.

Those standards

require that

we plan

and

perform the audits to

obtain reasonable assurance

about whether the

financial statements are

free of material misstatement,

whether due

to error

or fraud.

The Company

is not

required to

have, nor

were we

engaged to

perform, an

audit of

its

internal control over financial reporting.

As part of our audits we

are required to obtain an

understanding of internal control

over financial

reporting but

not for

the purpose

of expressing an

opinion on

the effectiveness

of the

Company’s internal

control over financial reporting. Accordingly,

we express no such opinion.

Our audits included performing

procedures to assess the

risks of material misstatement

of the financial statements,

whether

due to error or fraud,

and performing procedures that

respond to those risks. Such

procedures included examining, on

a test

basis, evidence regarding

the amounts and

disclosures in the

financial statements. Our

audits also included

evaluating the

accounting principles

used and significant estimates

made by management, as well

as evaluating the overall presentation

the financial statements. We

believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matter

The critical audit

matter communicated below

is a matter

arising from the

current period audit

of the financial

statements

that w

as communicated

or required

to be

communicated to

the audit

committee and

that: (1)

relates to

accounts or

disclosures that

are material

to the

financial statements

and (2)

involved especially

challenging, subjective,

or complex

judgments. The communication of the

critical audit matter doe

not alter in any way our opinion

on the financial

statements, taken as a whole, and we are

not, by communicating the critical audit matter

below, providing separate

opinions

on the critical audit matters or on the accounts or disclosures to

which they relate.

Allowance for Loan Losses

As described

in Note

5 to

the Company’s

consolidated financial

statements, the

Company has

a gross

loan portfolio

$462.5 million

and related

allowance for

loan losses

of $5.6

million as

of December

31, 2020.

As described

by the

Company in Note 1,

the evaluation of the

allowance for loan

losses is inherently

subjective as it requires

estimates that are

susceptible to significant

revision as more

information becomes available.

The allowance for

loan losses is

evaluated on a

regular basis and is based

upon the Company’s

review of the collectability

of the loans in

light of historical experience,

the

nature and volume

of the loan

portfolio, adverse situations

that may affect

the borrower’s

ability to repay,

estimated value

of any underlying collateral, and prevailing economic conditions.

Table of Contents

We identified

the Company’s

estimate of

the allowance

for loan losses

as a critical

audit matter.

The principal

considerations for our

determination of the allowance

for loan losses

as a critical

audit matter related

to the high degree

subjectivity in

the Company’s

judgments in

determining the

qualitative factors.

Auditing these

complex judgments

and

assumptions by

the Company

involves especially

challenging auditor

judgment due

to the

nature and

extent of

audit

evidence and effort required to address these matters,

including the extent of specialized skill or knowledge needed.

The primary procedures we performed to address this critical audit

matter included:

●

We evaluated

the relevance

and the

reasonableness of

assumptions related

to evaluation

of the

loan portfolio,

current economic conditions,

and other risk

factors used in

development of the

qualitative factors

for collectively

evaluated loans.

●

We evaluated

the reasonableness

of assumptions

and data

used by

the Company

in developing

the qualitative

factors by

comparing these

data points

to internally

developed and

third-party sources,

and other

audit evidence

gathered.

/s/ Elliott Davis, LLC

We have served as the

Company's auditor since 2015.

Greenville, South Carolina

March 9, 2021

Table of Contents

AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Consolidated Balance Sheets

December 31

(Dollars in thousands, except share data)

2020

2019

Assets:

Cash and due from banks

14,868

15,172

Federal funds sold

28,557

25,944

Interest bearing bank deposits

69,150

51,327

Cash and cash equivalents

112,575

92,443

Securities available-for-sale

335,177

235,902

Loans held for sale

3,418

2,202

Loans, net of unearned income

461,700

460,901

Allowance for loan losses

(5,618)

(4,386)

Loans, net

456,082

456,515

Premises and equipment, net

22,193

14,743

Bank-owned life insurance

19,232

19,202

Other assets

7,920

6,872

Total assets

956,597

827,879

Liabilities:

Deposits:

Noninterest-bearing

245,398

196,218

Interest-bearing

594,394

527,934

Total deposits

839,792

724,152

Federal funds purchased and securities sold under agreements

to repurchase

2,392

1,069

Accrued expenses and other liabilities

6,723

4,330

Total liabilities

848,907

729,551

Stockholders' equity:

Preferred stock of $

0.01

par value; authorized

200,000

shares;

issued shares - none

—

Common stock of $

0.01

par value; authorized

8,500,000

shares;

issued

3,957,135

Additional paid-in capital

3,789

3,784

Retained earnings

105,617

101,801

Accumulated other comprehensive income, net

7,599

2,059

Less treasury stock, at cost -

390,859

shares and

390,989

at December 31, 2020 and 2019, respectively

(9,354)

(9,355)

Total stockholders’ equity

107,690

98,328

Total liabilities and

stockholders’ equity

956,597

827,879

See accompanying notes to consolidated financial statements

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AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Consolidated Statements of Earnings

Year ended December 31

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

2020

2019

Interest income:

Loans, including fees

22,055

22,930

Securities:

Taxable

3,932

4,000

Tax-exempt

1,851

2,099

Federal funds sold and interest bearing bank deposits

356

1,218

Total interest income

28,194

30,247

Interest expense:

Deposits

3,847

4,176

Short-term borrowings

Total interest expense

3,856

4,183

Net interest income

24,338

26,064

Provision for loan losses

1,100

(250)

Net interest income after provision for

loan losses

23,238

26,314

Noninterest income:

Service charges on deposit accounts

585

717

Mortgage lending

2,319

866

Bank-owned life insurance

724

437

Gain from loan guarantee program

—

1,717

Other

1,644

1,880

Securities gains (losses), net

103

(123)

Total noninterest income

5,375

5,494

Noninterest expense:

Salaries and benefits

11,316

11,931

Net occupancy and equipment

2,511

1,907

Professional fees

1,052

1,014

FDIC and other regulatory assessments

256

181

Other

4,419

4,664

Total noninterest expense

19,554

19,697

Earnings before income taxes

9,059

12,111

Income tax expense

1,605

2,370

Net earnings

7,454

9,741

Net earnings per share:

Basic and diluted

2.09

2.72

Weighted average shares

outstanding:

Basic and diluted

3,566,207

3,581,476

See accompanying notes to consolidated financial statements

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AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income

Year ended December 31

(Dollars in thousands)

2020

2019

Net earnings

7,454

9,741

Other comprehensive income, net of tax:

Unrealized net holding gain on securities

5,617

5,730

Reclassification adjustment for net (gain) loss on securities

recognized in net earnings

(77)

Other comprehensive income

5,540

5,822

Comprehensive income

12,994

15,563

See accompanying notes to consolidated financial statements

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AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders’ Equity

Accumulated

Common

Additional

other

Common

paid-in

Retained

comprehensive

Treasury

(Dollars in thousands, except share data)

Outstanding

Stock

capital

earnings

(loss) income

stock

Total

Balance, December 31, 2018

3,643,868

3,779

95,635

(3,763)

(6,635)

89,055

Net earnings

—

9,741

—

9,741

Other comprehensive income

—

5,822

—

5,822

Cash dividends paid ($

1.00

per share)

—

(3,575)

—

(3,575)

Stock repurchases

(77,907)

—

(2,721)

Sale of treasury stock

185

—

Balance, December 31, 2019

3,566,146

3,784

101,801

2,059

(9,355)

98,328

Net earnings

—

7,454

—

7,454

Other comprehensive income

—

5,540

—

5,540

Cash dividends paid ($

0.96

per share)

—

(3,638)

—

(3,638)

Sale of treasury stock

130

—

Balance, December 31, 2020

3,566,276

3,789

105,617

7,599

(9,354)

107,690

See accompanying notes to consolidated financial statements

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AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

Year ended December 31

(In thousands)

2020

2019

Cash flows from operating activities:

Net earnings

7,454

9,741

Adjustments to reconcile net earnings to net cash provided

operating activities:

Provision for loan losses

1,100

(250)

Depreciation and amortization

1,666

1,157

Premium amortization and discount accretion, net

2,862

1,853

Deferred tax benefit

(330)

(153)

Net (gain) loss on securities available for sale

(103)

123

Net gain on sale of loans held for sale

(2,300)

(545)

Net gain on other real estate owned

(52)

(59)

Loans originated for sale

(82,726)

(30,407)

Proceeds from sale of loans

83,138

28,892

Increase in cash surrender value of bank owned life insurance

(442)

(437)

Income recognized from death benefit on bank-owned life insurance

(282)

—

Net increase in other assets

(2,656)

(872)

Net increase in accrued expenses and other liabilities

2,399

1,807

Net cash provided by operating activities

9,728

10,850

Cash flows from investing activities:

Proceeds from sales of securities available-for-sale

21,029

36,462

Proceeds from maturities of securities available-for-sale

62,021

55,078

Purchase of securities available-for-sale

(177,686)

(81,843)

(Increase) decrease in loans, net

(766)

15,771

Net purchases of premises and equipment

(8,355)

(1,809)

(Increase) decrease in FHLB stock

(9)

Proceeds from bank-owned life insurance death benefit

694

—

Proceeds from sale of other real estate owned

151

394

Net cash (used in) provided by investing activities

(102,921)

24,085

Cash flows from financing activities:

Net increase (decrease) in noninterest-bearing deposits

49,180

(5,430)

Net increase in interest-bearing deposits

66,460

5,389

Net increase (decrease) in federal funds purchased and securities sold

under agreements to repurchase

1,323

(1,231)

Stock repurchases

—

(2,721)

Dividends paid

(3,638)

(3,575)

Net cash provided by (used in) financing activities

113,325

(7,568)

Net change in cash and cash equivalents

20,132

27,367

Cash and cash equivalents at beginning of period

92,443

65,076

Cash and cash equivalents at end of period

112,575

92,443

Supplemental disclosures of cash flow

information:

Cash paid (received) during the period for:

Interest

4,055

4,092

Income taxes

678

2,295

Gain from loan guarantee program

—

(1,717)

Supplemental disclosure of non-cash transactions:

Initial recognition of operating lease right of use assets

—

891

Initial recognition of operating lease liabilities

—

889

Real estate acquired through foreclosure

See accompanying notes to consolidated financial statements

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AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING

POLICIES

Nature of Business

Auburn National Bancorporation, Inc. (the “Company”) is a bank holding

company whose primary business is conducted

by its wholly-owned subsidiary,

AuburnBank (the “Bank”). AuburnBank is a commercial bank located

in Auburn,

Alabama. The Bank provides a full range of banking services in its

primary market area, Lee County,

which includes the

Auburn-Opelika Metropolitan Statistical Area.

Basis of Presentation

The consolidated financial statements include the accounts of

the Company and its wholly-owned subsidiaries. Significant

intercompany transactions and accounts are eliminated in consolidation.

COVID-19 Uncertainty

COVID-19 has adversely affected, and may continue to

adversely affect economic activity globally,

nationally and locally.

Following the COVID-19 outbreak in December 2019 and January

2020, market interest rates declined significantly.

The

federal banking agencies encouraged financial institutions to

prudently work with borrowers and passed legislation to

provide relief from reporting loan classifications due to modifications

related to the COVID-19 outbreak. The spread

COVID-19 has caused us to modify our business practices, including

employee travel, employee work locations, and

cancellation of physical participation in meetings, events and

conferences. The rapid development and fluidity of this

situation precludes any predication as to the ultimate impact

of the COVID-19 outbreak. Nevertheless, the outbreak

presents uncertainty and risk with respect to the Company,

its performance, and its financial results.

Revenue Recognition

On January 1, 2018, the Company implemented ASU 2014

-09,

Revenue from Contracts with Customers

, codified

ASC

The Company adopted ASC 606 using the modified retrospective

transition

method. The majority of the

Company’s revenue stream is generated

from interest income on loans and deposits which are outside

the scope of ASC

606.

The Company’s sources of income that

fall within the scope of ASC 606 include service charges

on deposits, investment

services, interchange fees and gains and losses on sales of other

real estate, all of which are presented as components of

noninterest income. The following is a summary of the revenue streams

that fall within the scope of ASC 606:

Service charges on deposits, investment services, ATM

and interchange fees – Fees from these services are either

transaction-based, for which the performance obligations are satisfied

when the individual transaction is processed, or set

periodic service charges, for which the performance obligations

are satisfied over the period the service is provided.

Transaction-based fees are recognized at the time

the transaction is processed, and periodic service charges

are recognized

over the service period.

Gains on sales of other real estate

–

A gain on sale should be recognized when a contract for sale exists and

control of the

asset has been transferred to the buyer.

ASC 606 lists several criteria required to conclude that a contract

for sale exists,

including a determination that the institution will collect substantially

all of the consideration to which it is entitled. In

addition to the loan-to-value, the analysis is based on various other

factors, including the credit quality of the borrower,

the

structure of the loan, and any other factors that may affect

collectability.

Use of Estimates

The preparation of financial statements in conformity with U.S.

generally accepted accounting principles requires

management to make estimates and assumptions that affect

the reported amounts of assets and liabilities and the disclosure

of contingent assets and liabilities as of the balance sheet date

and the reported amounts of income and expense during the

reporting period. Actual results could differ from those

estimates. Material estimates that are particularly susceptible to

significant change in the near term include the determination

of the allowance for loan losses, fair value measurements,

valuation of other real estate owned, and valuation of deferred

tax assets.

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Change in Accounting Estimate

During the fourth quarter of 2019, the Company reassessed its estimate

of the useful lives of certain fixed assets. The

Company revised its original useful life estimate for certain land improvements,

buildings and improvements

and furniture,

fixtures and equipment, with a carrying value of $

0.5

million at December 31, 2019, to correspond with estimated

demolition dates planned as part of the redevelopment project

for our main campus.

This is considered a change in

accounting estimate, per ASC 250-10, where adjustments should

be made prospectively. The effects

of this change in

accounting estimate on the 2020 and 2019 consolidated

financial statements, respectively, was

a decrease in net earnings of

342

thousand, or $

0.10

per share and $

161

thousand, or $

0.04

per share.

Reclassifications

Certain amounts reported in the prior period have been reclassified

to conform to the current-period presentation. These

reclassifications had no impact on the Company’s

previously reported net earnings or total stockholders’ equity.

Subsequent Events

The Company has evaluated the effects of events

or transactions through the date of this filing that ha

ve occurred

subsequent to December 31, 2020. The Company does not believe

there are any material subsequent events that would

require further recognition or disclosure.

Accounting

Standards Adopted in 2020

In 2020, the Company adopted new guidance related to the following

Accounting Standards Update (“Update” or “ASU”):

●

ASU 2018-13,

Fair Value

Measurement (Topic

820): Disclosure Framework – Changes

to the Disclosure

Requirements for Fair Value

Measurement

; and

●

ASU 2018-15,

Intangibles – Goodwill and Other – Internal Use Software

(Subtopic 350-40): Customer’s

Accounting for Implementation Costs Incurred

in a Cloud Computing Arrangement that is a Service Contract.

Information about these pronouncements is described in more

detail below.

ASU 2018-13,

Fair Value

Measurement (Topic

820): Disclosure Framework – Changes

to the Disclosure Requirements

for

Fair Value

Measurement,

improves the disclosure requirements on fair value measurements

by eliminating the

requirements to disclose (i) the amount of and reasons for transfers

between Level 1 and Level 2 of the fair value hierarchy;

(ii) the policy for timing of transfers between levels; and (iii)

the valuation processes for Level 3 fair value measurements.

This ASU also added specific disclosure requirements for fair

value measurements for public entities including the

requirement to disclose the changes in unrealized gains and

losses for the period included in other comprehensive income

for recurring Level 3 fair value measurements and the range and

weighted average of significant unobservable inputs used

to develop Level 3 fair value measurements.

The amendments in this ASU are effective for all

entities for fiscal years beginning after December 15,

2019, and all

interim periods within those fiscal years. Early adoption was permitted

upon issuance of the ASU. Entities are permitted to

early adopt amendments that remove or modify disclosures and

delay the adoption of the additional disclosures until their

effective date. The Company adopted this ASU on January

1, 2020. Adoption of this guidance did not have a material

impact on the Company’s consolidated

financial statements.

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ASU 2018-15,

Intangibles – Goodwill and Other – Internal Use Software

(Subtopic 350-40): Customer’s

Accounting for

Implementation Costs Incurred in

a Cloud Computing Arrangement that is a Service Contract

aligns the requirements for

capitalizing implementation costs incurred in a hosting arrangement that

is a service contract with the requirements for

capitalizing implementation costs incurred to develop or

obtain internal-use software (and hosting arrangements that

include internal-use software license). This ASU requires entities to

use the guidance in FASB

ASC 350-40, Intangibles -

Goodwill and Other - Internal Use Software, to determine whether

to capitalize or expense implementation costs related to

the service contract. This ASU also requires entities to (i) expense capitalized

implementation costs of a hosting

arrangement that is a service contract over the term of the hosting

arrangement; (ii) present the expense related to the

capitalized implementation costs in the same line item on the

income statement as fees associated with the hosting element

of the arrangement; (iii) classify payments for capitalized implementation

costs in the statement of cash flows in the same

manner as payments made for fees associated with the hosting

element; and (iv) present the capitalized implementation

costs in the same balance sheet line item that a prepayment for

the fees associated with the hosting arrangement would be

presented.

The amendments in this ASU are effective for fiscal years

beginning after December 15, 2019 and interim periods

within

those fiscal years. Early adoption was permitted. The Company adopted

this ASU on January 1, 2020. Adoption of this

guidance did not have a material impact on the Company’s

consolidated financial statements.

Cash Equivalents

Cash equivalents include cash on hand, cash items in process

of collection, amounts due from banks, including interest

bearing deposits with other banks, and federal funds sold.

Securities

Securities are classified based on management’s

intention at the date of purchase. At December 31, 2020,

all of the

Company’s securities were classified

as available-for-sale. Securities available-for

-sale are used as part of the Company’s

interest rate risk management strategy,

and they may be sold in response to changes in interest rates,

changes in prepayment

risks or other factors. All securities classified as available-for-sale

are recorded at fair value with any unrealized gains and

losses reported in accumulated other comprehensive income

(loss), net of the deferred income tax effects. Interest and

dividends on securities, including the amortization of premiums and

accretion of discounts are recognized in interest

income using the effective interest method.

Premiums are amortized to the earliest call date while discounts are

accreted

over the estimated life of the security.

Realized gains and losses from the sale of securities are

determined using the

specific identification method.

On a quarterly basis, management makes an assessment to determine

whether there have been events or economic

circumstances to indicate that a security on which there is an

unrealized loss is other-than-temporarily impaired.

For debt securities with an unrealized loss, an other-than

-temporary impairment write-down is triggered when (1)

the

Company has the intent to sell a debt security,

(2) it is more likely than not that the Company will be required

to sell the

debt security before recovery of its amortized cost basis, or

(3) the Company does not expect to recover the entire amortized

cost basis of the debt security.

If the Company has the intent to sell a debt security or if it is more

likely than not that it will

be required to sell the debt security before recovery,

the other-than-temporary write-down is equal to the entire

difference

between the debt security’s amortized

cost and its fair value.

If the Company does not intend to sell the security or it is not

more likely than not that it will be required to sell the security

before recovery, the other

-than-temporary impairment write-

down is separated into the amount that is credit related (credit loss component)

and the amount due to all other factors.

The

credit loss component is recognized in earnings, as a realized

loss in securities gains (losses), and is the difference between

the security’s amortized cost basis and

the present value of its expected future cash flows.

The remaining difference

between the security’s fair value and

the present value of future expected cash flows is due to

factors that are not credit

related and is recognized in other comprehensive income, net

of applicable taxes.

Loans held for sale

Loans originated and intended for sale in the secondary market are

carried at the lower of cost or estimated fair value in the

aggregate.

Loan sales are recognized when the transaction closes, the proceeds

are collected, and ownership is transferred.

Continuing involvement, through the sales agreement, consists of the

right to service the loan for a fee for the life of the

loan, if applicable.

Gains on the sale of loans held for sale are recorded net of related

costs, such as commissions, and

reflected as a component of mortgage lending income in the consolidated

statements of earnings.

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In the course of conducting the Bank’s

mortgage lending activities of originating mortgage loans and selling those

loans in

the secondary market, the Bank makes various representations and

warranties to the purchaser of the mortgage loans.

Every loan closed by the Bank’s

mortgage center is run through a government agency automated

underwriting system.

Any exceptions noted during this process are remedied prior to

sale.

These representations and warranties also apply to

underwriting the real estate appraisal opinion of value for the

collateral securing these loans.

Failure by the Company to

comply with the underwriting and/or appraisal standards could

result in the Company being required to repurchase the

mortgage loan or to reimburse the investor for losses incurred

(make whole requests) if such failure cannot be cured by the

Company within the specified period following discovery.

Loans

Loans are reported at their outstanding principal balances, net

of any unearned income, charge-offs, and any

deferred fees

or costs on originated loans.

Interest income is accrued based on the principal balance outstanding.

Loan origination fees,

net of certain loan origination costs, are deferred and recognized

in interest income over the contractual life of the loan

using the effective interest method. Loan commitment fees

are generally deferred and amortized on a straight-line basis

over the commitment period, which results in a recorded

amount that approximates fair value.

The accrual of interest on loans is discontinued when there is

a significant deterioration in the financial condition of the

borrower and full repayment of principal and interest is not expected

or the principal or interest is more than 90 days past

due, unless the loan is both well-collateralized and in the process

of collection. Generally,

all interest accrued but not

collected for loans that are placed on nonaccrual status is reversed

against current interest income. Interest collections on

nonaccrual loans are generally applied as principal reductions.

The Company determines past due or delinquency status of

loan based on contractual payment terms.

A loan is considered impaired when it is probable the Company

will be unable to collect all principal and interest payments

due according to the contractual terms of the loan agreement.

Individually identified impaired loans are measured based on

the present value of expected payments using the loan’s

original effective rate as the discount rate, the

loan’s observable

market price, or the fair value of the collateral if the loan is collateral

dependent. If the recorded investment in the impaired

loan exceeds the measure of fair value, a valuation allowance may be

established as part of the allowance for loan losses.

Changes to the valuation allowance are recorded as

a component of the provision for loan losses.

Impaired loans also include troubled debt restructurings (“TD

Rs”). In the normal course of business, management may

grant concessions to borrowers who are experiencing financial

difficulty. The

concessions granted most frequently for

TDRs involve reductions or delays in required payments of principal

and interest for a specified time, the rescheduling of

payments in accordance with a bankruptcy plan or the charge

-off of a portion of the loan. In most cases, the conditions

the credit also warrant nonaccrual status, even after the restructuring

occurs. As part of the credit approval process, the

restructured loans are evaluated for adequate collateral

protection in determining the appropriate accrual status at the time

of restructuring. TDR loans may be returned to accrual status

if there has been at least a six-month sustained period

repayment performance by the borrower.

The Company began offering short-term loan modifications

to assist borrowers during the COVID-19 pandemic.

If the

modification meets certain conditions, the modification does not

need to be accounted for as a TDR.

For more information,

please refer to Note 5, Loans and Allowance for Loan Losses.

Allowance for Loan Losses

The allowance for loan losses is maintained at a level that manage

ment believes is adequate to absorb probable losses

inherent in the loan portfolio. Loan losses are charged

against the allowance when they are known. Subsequent recoveries

are credited to the allowance. Management’s

determination of the adequacy of the allowance is based on

an evaluation of

the portfolio, current economic conditions, growth, composition

of the loan portfolio, homogeneous pools of loans, risk

ratings of specific loans, historical loan loss factors, identified

impaired loans and other factors

related to the portfolio. This

evaluation is performed quarterly and is inherently subjective,

as it requires various material estimates that are susceptible

to significant change, including the amounts and timing of future cash

flows expected to be received on any impaired loans.

In addition, regulatory agencies, as an integral part of their examination

process, will periodically review the Company’s

allowance for loan losses, and may require the Company to record

additions to the allowance based on their judgment about

information available to them at the time of their examinations.

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Premises and Equipment

Land is carried at cost. Land improvements, buildings and improvements,

and furniture, fixtures, and equipment are carried

at cost, less accumulated depreciation computed on a straight

-line method over the useful lives of the assets or the expected

terms of the leases, if shorter. Expected

terms include lease option periods to the extent that the exercise

of such options is

reasonably assured.

Nonmarketable equity investments

Nonmarketable equity investments include equity securities that are

not publicly traded and securities acquired for various

purposes. The Bank is required to maintain certain minimum levels

of equity investments with certain regulatory and other

entities in which the Bank has an ongoing business relationship

based on the Bank’s common stock

and surplus (with

regard to the relationship with the Federal Reserve Bank) or outstanding

borrowings (with regard to the relationship with

the Federal Home Loan Bank of Atlanta). These nonmarketable

equity securities are accounted for at cost which equals par

or redemption value. These securities do not have a readily determinable

fair value as their ownership is restricted and there

is no market for these securities. These securities can only be

redeemed or sold at their par value and only to the respective

issuing government supported institution or to another member

institution. The Company records these nonmarketable

equity securities as a component of other assets, which are periodically

evaluated for impairment. Management considers

these nonmarketable equity securities to be long-term investments.

Accordingly, when evaluating these

securities for

impairment, management considers the ultimate recoverability

of the par value rather than by recognizing temporary

declines in value.

Transfers of Financial

Assets

Transfers of an entire financial asset (i.e. loan

sales), a group of entire financial assets, or a participating interest

in an entire

financial asset (i.e. loan participations sold) are accounted for

as sales when control over the assets have been surrendered.

Control over transferred assets is deemed to be surrendered

when (1) the assets have been isolated from the Company,

(2) the transferee obtains the right (free of conditions that constrain

it from taking that right) to pledge or exchange the

transferred assets, and (3) the Company does not maintain effective

control over the transferred assets through an

agreement to repurchase them before their maturity.

Mortgage Servicing Rights

The Company recognizes as assets the rights to service mortgage loans

for others, known as MSRs. The Company

determines the fair value of MSRs at the date the loan is transferred.

An estimate of the Company’s

MSRs is determined

using assumptions that market participants would use in estimating

future net servicing income, including estimates of

prepayment speeds, discount rate, default rates, cost to service,

escrow account earnings, contractual servicing fee income,

ancillary income, and late fees.

Subsequent to the date of transfer, the Company

has elected to measure its MSRs under the amortization method.

Under

the amortization method, MSRs are amortized in proportion

to, and over the period of, estimated net servicing income.

The

amortization of MSRs is analyzed monthly and is adjusted to reflect

changes in prepayment speeds, as well as other factors.

MSRs are evaluated for impairment based on the fair value of those

assets.

Impairment is determined by stratifying MSRs

into groupings based on predominant risk characteristics, such

as interest rate and loan type.

If, by individual stratum, the

carrying amount of the MSRs exceeds fair value, a valuation

allowance is established through a charge to earnings.

The

valuation allowance is adjusted as the fair value changes.

MSRs are included in the other assets category in the

accompanying consolidated balance sheets.

Securities sold under agreements to repurchase

Securities sold under agreements to repurchase generally mature

less than one year from the transaction date. Securities

sold under agreements to repurchase are reflected as a secured

borrowing in the accompanying consolidated balance sheets

at the amount of cash received in connection with each transaction.

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Income Taxes

Deferred tax assets and liabilities are the expected future tax amounts

for the temporary differences between carrying

amounts and tax bases of assets and liabilities, computed using enacted

tax rates. A valuation allowance, if needed, reduces

deferred tax assets to the amount expected to be realized.

The net deferred tax asset is reflected as a component of other

assets in the accompanying consolidated balance sheets.

Income tax expense or benefit for the year is allocated among continuing

operations and other comprehensive income

(loss), as applicable. The amount allocated to continuing operations

is the income tax effect of the pretax income or loss

from continuing operations that occurred during the year,

plus or minus income tax effects of (1) changes

in certain

circumstances that cause a change in judgment about the realization

of deferred tax assets in future years, (2) changes in

income tax laws or rates, and (3) changes in income tax status,

subject to certain exceptions.

The amount allocated to other

comprehensive income (loss) is related solely to changes in the valuation

allowance on items that are normally accounted

for in other comprehensive income (loss) such as unrealized

gains or losses on available-for-sale securities.

In accordance with ASC 740,

Income Taxes

, a tax position is recognized as a benefit only if it is “more likely than not”

that

the tax position would be sustained in a tax examination, with a tax examination

being presumed to occur.

The amount

recognized is the largest amount of tax benefit that

is greater than 50% likely of being realized on examination.

For tax

positions not meeting the “more likely than not” test, no tax benefit

is recorded. It is the Company’s

policy to recognize

interest and penalties related to income tax matters in income

tax expense. The Company and its wholly-owned subsidiaries

file a consolidated income tax return.

Fair Value

Measurements

ASC 820,

Fair Value

Measurements,

which defines fair value, establishes a framework for measuring fair value

in U.S.

generally accepted accounting principles and expands disclosures about

fair value measurements. ASC 820 applies only to

fair-value measurements that are already required

or permitted by other accounting standards.

The definition of fair value

focuses on the exit price, i.e., the price

that would be received to sell an asset or paid to transfer a liability in

an orderly

transaction between market participants at the measurement date,

not the entry price, i.e., the price that would be paid to

acquire the asset or received to assume the liability at the measurement

date. The statement emphasizes that fair value is a

market-based measurement; not an entity-specific measurement.

Therefore, the fair value measurement should be

determined based on the assumptions that market participants

would

use in pricing the asset or liability.

For more

information related to fair value measurements, please refer

to Note 15, Fair Value.

NOTE 2: BASIC AND DILUTED NET EARNINGS PER SHARE

Basic net earnings per share is computed by dividing net earnings

by the weighted average common shares outstanding for

the year.

Diluted net earnings per share reflect the potential dilution that could

occur upon exercise of securities or other

rights for, or convertible into, shares of

the Company’s common stock.

As of December 31, 2020 and 2019, respectively,

the Company had no such securities or other rights issued or

outstanding, and therefore, no dilutive effect to consider

for

the diluted net earnings per share calculation.

The basic and diluted net earnings per share computations for

the respective years are presented below.

Year ended December 31

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

2020

2019

Basic and diluted:

Net earnings

7,454

9,741

Weighted average common

shares outstanding

3,566,207

3,581,476

Net earnings per share

2.09

2.72

NOTE 3: RESTRICTED CASH BALANCES

Regulation D of the Federal Reserve Act requires that banks

maintain reserve balances with the Federal Reserve Bank

(“FRB”) based principally on the type and amount of their deposits.

Effective March 26, 2020, the FRB no longer requires

banks to maintain reserve balances on deposit with the FRB.

The Bank did not have a required reserve balance at the FRB

at December 31, 2019.

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NOTE 4: SECURITIES

At December 31, 2020 and 2019, respectively,

all securities within the scope of ASC 320,

Investments – Debt and Equity

Securities

were classified as available-for-sale.

The fair value and amortized cost for securities available-for-sale

contractual maturity at December 31, 2020 and 2019, respectively,

are presented below.

1 year

1 to 5

5 to 10

After 10

Fair

Gross Unrealized

Amortized

(Dollars in thousands)

or less

years

Value

Gains

Losses

Cost

December 31, 2020

Agency obligations (a)

5,048

24,834

55,367

12,199

97,448

3,156

94,390

Agency MBS (a)

—

1,154

20,502

141,814

163,470

3,245

133

160,358

State and political subdivisions

477

632

8,405

64,745

74,259

3,988

70,282

Total available-for-sale

5,525

26,620

84,274

218,758

335,177

10,389

242

325,030

December 31, 2019

Agency obligations (a)

4,993

27,245

18,470

—

50,708

215

50,591

Agency MBS (a)

—

560

4,510

118,207

123,277

798

261

122,740

State and political subdivisions

—

1,355

6,166

54,396

61,917

2,104

59,822

Total available-for-sale

4,993

29,160

29,146

172,603

235,902

3,117

368

233,153

(a) Includes securities issued by U.S. government agencies or

government sponsored entities.

Expected maturities of

these securities may differ from contractual maturities because

issues may have the right to call or repay obligations

with or without prepayment penalties.

Securities with aggregate fair values of $

166.9

million and $

147.8

million at December 31, 2020 and 2019, respectively,

were pledged to secure public deposits, securities sold under

agreements to repurchase, Federal Home Loan Bank

(“FHLB”) advances, and for other purposes required or permitted

by law.

Included in other assets on the accompanying consolidated balance sheets

are nonmarketable equity investments.

The

carrying amounts of nonmarketable equity investments were

1.4

million at December 31, 2020 and 2019, respectively.

Nonmarketable equity investments include FHLB of Atlanta

stock, Federal Reserve Bank (“FRB”) stock, and stock in a

privately held financial institution.

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Gross Unrealized Losses and Fair Value

The fair values and gross unrealized losses on securities at December

31, 2020 and 2019, respectively,

segregated by those

securities that have been in an unrealized loss position for

less than 12 months and 12 months or more are presented below.

Less than 12 Months

12 Months or Longer

Total

Fair

Unrealized

Fair

Unrealized

Fair

Unrealized

(Dollars in thousands)

Value

Losses

Value

Losses

Value

Losses

December 31, 2020:

Agency obligations

15,416

—

15,416

Agency MBS

41,488

133

—

41,488

133

State and political subdivisions

2,945

—

2,945

Total

59,849

242

—

59,849

242

December 31, 2019:

Agency obligations

24,734

4,993

29,727

Agency MBS

40,126

21,477

163

61,603

261

State and political subdivisions

2,741

—

2,741

Total

67,601

204

26,470

164

94,071

368

For the securities in the previous table, the Company does not

have the intent to sell and has determined it is not more likely

than not that the Company will be required to sell the security

before recovery of the amortized cost basis, which may be

maturity. On a quarterly basis,

the Company assesses each security for credit impairment. For

debt securities, the Company

evaluates, where necessary,

whether credit impairment exists by comparing the present value

of the expected cash flows to

the securities’ amortized cost basis.

In determining whether a loss is temporary,

the Company considers all relevant information including:

●

the length of time and the extent to which the fair value has been

less than the amortized cost basis;

●

adverse conditions specifically related to the security,

an industry, or a geographic

area (for example, changes in

the financial condition of the issuer of the security,

or in the case of an asset-backed debt security,

in the financial

condition of the underlying loan obligors, including changes in technology

or the discontinuance of a segment of

the business that may affect the future earnings potential of

the issuer or underlying loan obligors of the security or

changes in the quality of the credit enhancement);

●

the historical and implied volatility of the fair value of the security;

●

the payment structure of the debt security and the likelihood of the issuer

being able to make payments that

increase in the future;

●

failure of the issuer of the security to make scheduled interest

or principal payments;

●

any changes to the rating of the security by a rating agency; and

●

recoveries or additional declines in fair value subsequent to the

balance sheet date.

Agency obligations

The unrealized losses associated with agency obligations were

primarily driven by changes in interest rates and not due to

the credit quality of the securities. These securities were issued

by U.S. government agencies or government-sponsored

entities and did not have any credit losses given the explicit government

guarantee or other government support.

Agency mortgage-backed securities (“MBS”)

The unrealized losses associated with agency MBS were primarily

driven by changes in interest rates and not due to the

credit quality of the securities. These securities were issued by U.S.

government agencies or government-sponsored entities

and did not have any credit losses given the explicit government guarantee

or other government support.

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Securities of U.S. states and political subdivisions

The unrealized losses associated with securities of U.S. states and

political subdivisions were primarily driven by changes

in interest rates and were not due to the credit quality of the securities.

Some of these securities are guaranteed by a bond

insurer, but management did not rely on the

guarantee in making its investment decision. These securities

will continue to

be monitored as part of the Company’s

quarterly impairment

analysis, but are expected to perform even if the rating

agencies reduce the credit rating of the bond insurers. As a result, the

Company expects to recover the entire amortized cost

basis of these securities.

The carrying values of the Company’s

investment securities could decline in the future if the financial

condition of an

issuer deteriorates and the Company determines it is probable

that it will not recover the entire amortized cost basis for the

security. As a result, there is

a risk that other-than-temporary impairment charges

may occur in the future.

Other-Than-Temporarily

Impaired Securities

Credit-impaired debt securities are debt securities where the Company

has written down the amortized cost basis of a

security for other-than-temporary impairment and the credit

component of the loss is recognized in earnings. At

December 31,

2020 and 2019, respectively, the Company

had no credit-impaired debt securities and there were no additions

or reductions in the credit loss component of credit-impaired

debt securities during the years ended December 31, 2020

and

2019, respectively.

Realized Gains and Losses

The following table presents the gross realized gains and losses on sales

related to securities.

Year ended December 31

(Dollars in thousands)

2020

2019

Gross realized gains

184

120

Gross realized losses

(81)

(243)

Realized gains (losses), net

103

(123)

NOTE 5: LOANS AND ALLOWANCE

FOR LOAN LOSSES

December 31

(In thousands)

2020

2019

Commercial and industrial

82,585

56,782

Construction and land development

33,514

32,841

Commercial real estate:

Owner occupied

54,033

48,860

Hotel/motel

42,900

43,719

Multifamily

40,203

44,839

Other

118,000

132,900

Total commercial real estate

255,136

270,318

Residential real estate:

Consumer mortgage

35,027

48,923

Investment property

49,127

43,652

Total residential real estate

84,154

92,575

Consumer installment

7,099

8,866

Total loans

462,488

461,382

Less: unearned income

(788)

(481)

Loans, net of unearned income

461,700

460,901

Loans secured by real estate were approximately

80.6

% of the total loan portfolio at December 31, 2020.

At December 31,

2020, the Company’s geographic

loan distribution was concentrated primarily in Lee County,

Alabama and surrounding

areas.

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In accordance with ASC 310,

Receivables

, a portfolio segment is defined as the level at which an entity develops

and

documents a systematic method for determining its allowance

for loan losses. As part of the Company’s

quarterly

assessment of the allowance, the loan portfolio is disaggregated

into the following portfolio segments:

commercial and

industrial, construction and land development, commercial real

estate, residential real estate and consumer installment.

Where appropriate, the Company’s

loan portfolio segments are further disaggregated into classes. A class

is generally

determined based on the initial measurement attribute, risk characteristics

of the loan, and an entity’s method

for

monitoring and determining credit risk.

The following describe the risk characteristics relevant to each

of the portfolio segments and classes.

Commercial and industrial (“C&I”) —

includes loans to finance business operations, equipment purchases,

or other needs

for small and medium-sized commercial customers. Also

included in this category are loans to finance agricultural

production.

Generally, the primary source

of repayment is the cash flow from business operations and activities

of the

borrower.

We are

a participating lender in the PPP.

PPP loans are forgivable in whole or in part, if the proceeds

are used

for payroll and other permitted purposes in accordance with

the requirements of the PPP.

As of December 31, 2020, the

Company has

265

PPP loans with an aggregate outstanding principal balance of $

19.0

million included in this category.

Construction and land development (“C&D”) —

includes both loans and credit lines for the purpose of purchasing,

carrying and developing land into commercial developments or

residential subdivisions. Also included are loans and lines

for construction of residential, multi-family and commercial buildings.

Generally the primary source of repayment is

dependent upon the sale or refinance of the real estate collateral.

Commercial real estate

(“CRE”) —

includes loans disaggregated into three classes: (1) owner occupied

(2) multi-family

and (3) other.

Owner occupied

– includes loans secured by business facilities to finance business operations,

equipment and

owner-occupied facilities primarily for small and medium-sized

commercial customers.

Generally the primary source

of repayment is the cash flow from business operations and activities of the borrower,

who owns the property.

Hotel/motel

– includes loans for hotels and motels.

Generally, the primary

source of repayment is dependent upon

income generated from the real estate collateral.

The underwriting of these loans takes into consideration the

occupancy and rental rates, as well as the financial health of the borrower.

Multifamily

– primarily includes loans to finance income-producing multi-family

properties. Loans in this class include

loans for 5 or more unit residential property and apartments leased

to residents. Generally, the primary

source of

repayment is dependent upon income generated from the real

estate collateral. The underwriting of these loans takes

into consideration the occupancy and rental rates, as well as the financial

health of the borrower.

Other

– primarily includes loans to finance income-producing commercial properties.

Loans in this class include loans

for neighborhood retail centers, hotels, medical and professional offices,

single retail stores, industrial buildings,

and

warehouses leased generally to local businesses and residents. Generally the

primary source of repayment is dependent

upon income generated from the real estate collateral. The underwriting

of these loans takes into consideration the

occupancy and rental rates as well as the financial health of the borrower.

Residential real estate (“RRE”) —

includes loans disaggregated into two classes: (1) consumer mortgage

and (2)

investment property.

Consumer mortgage

– primarily includes first or second lien mortgages and home equity

lines to consumers that are

secured by a primary residence or second home. These loans are underwritten in

accordance with the Bank’s general

loan policies and procedures which require, among other things, proper

documentation of each borrower’s financial

condition, satisfactory credit history and property value.

Investment property

– primarily includes loans to finance income-producing 1-4 family

residential properties.

Generally, the primary source

of repayment is dependent upon income generated from leasing the

property securing the

loan. The underwriting of these loans takes into consideration the rental

rates as well as the financial health of the

borrower.

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Consumer installment —

includes loans to individuals both secured by personal property

and unsecured.

Loans include

personal lines of credit, automobile loans, and other retail loans.

These loans are underwritten in accordance with the

Bank’s general loan policies and

procedures which require, among other things, proper

documentation of each borrower’s

financial condition, satisfactory credit history,

and if applicable, property value.

The following is a summary of current, accruing past due and

nonaccrual loans by portfolio class as of December 31,

2020

and 2019.

Accruing

Total

30-89 Days

Greater than

Accruing

Non-

Total

(In thousands)

Current

Past Due

90 days

Loans

Accrual

Loans

December 31, 2020:

Commercial and industrial

82,355

230

—

82,585

—

82,585

Construction and land development

33,453

—

33,514

—

33,514

Commercial real estate:

Owner occupied

54,033

—

54,033

—

54,033

Hotel/motel

42,900

—

42,900

—

42,900

Multifamily

40,203

—

40,203

—

40,203

Other

117,759

—

117,788

212

118,000

Total commercial real estate

254,895

—

254,924

212

255,136

Residential real estate:

Consumer mortgage

33,169

1,503

140

34,812

215

35,027

Investment property

49,014

—

49,020

107

49,127

Total residential real estate

82,183

1,509

140

83,832

322

84,154

Consumer installment

7,069

7,099

—

7,099

Total

459,955

1,858

141

461,954

534

462,488

December 31, 2019:

Commercial and industrial

56,758

—

56,782

—

56,782

Construction and land development

32,385

456

—

32,841

—

32,841

Commercial real estate:

Owner occupied

48,860

—

48,860

—

48,860

Hotel/motel

43,719

—

43,719

—

43,719

Multifamily

44,839

—

44,839

—

44,839

Other

132,900

—

132,900

—

132,900

Total commercial real estate

270,318

—

270,318

—

270,318

Residential real estate:

Consumer mortgage

47,151

1,585

—

48,736

187

48,923

Investment property

43,629

—

43,652

—

43,652

Total residential real estate

90,780

1,608

—

92,388

187

92,575

Consumer installment

8,802

—

8,866

—

8,866

Total

459,043

2,152

—

461,195

187

461,382

The gross interest income which would have been recorded

under the original terms of those nonaccrual loans had they

been accruing interest, amounted to approximately $

thousand and $

thousand for the years ended December 31, 2020

and 2019, respectively.

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Allowance for Loan Losses

The allowance for loan losses as of and for the years ended December

31, 2020 and 2019, is presented below.

Year ended December 31

(In thousands)

2020

2019

Beginning balance

4,386

4,790

Charged-off loans

(45)

(408)

Recovery of previously charged-off loans

177

254

Net recoveries (charge-offs)

132

(154)

Provision for loan losses

1,100

(250)

Ending balance

5,618

4,386

The Company assesses the adequacy of its allowance for loan

losses prior to the end of each calendar quarter.

The level of

the allowance is based upon management’s

evaluation of the loan portfolio, past loan loss experience,

current asset quality

trends, known and inherent risks in the portfolio, adverse situations

that may affect a borrower’s ability to

repay (including

the timing of future payment), the estimated value of any underlying

collateral, composition of the loan portfolio, economic

conditions, industry and peer bank loan loss rates and other pertinent

factors, including regulatory recommendations. This

evaluation is inherently subjective as it requires material estimates including

the amounts and timing of future cash flows

expected to be received on impaired loans that may be susceptible

to significant change. Loans are charged off, in whole

in part, when management believes that the full collectability of the

loan is unlikely. A loan

may be partially charged-off

after a “confirming event” has occurred which serves to validate

that full repayment pursuant to the terms of the loan is

unlikely.

The Company deems loans impaired when, based on current information

and events, it is probable that the Company will

be unable to collect all amounts due according to the contractual

terms of the loan agreement. Collection of all amounts due

according to the contractual terms means that both the interest

and principal payments of a loan will be collected as

scheduled in the loan agreement.

An impairment allowance is recognized if the fair value of the

loan is less than the recorded investment in the loan. The

impairment is recognized through the allowance. Loans that are

impaired are recorded at the present value of expected

future cash flows discounted at the loan’s

effective interest rate, or if the loan is collateral dependent,

impairment

measurement is

based on the fair value of the collateral, less estimated disposal

costs.

The level of allowance maintained is believed by management to

be adequate to absorb probable losses inherent in the

portfolio at the balance sheet date. The allowance is increased

by provisions charged to expense and decreased by charge-

offs, net of recoveries of amounts previously charged

-off.

In assessing the adequacy of the allowance, the Company also

considers the results of its ongoing internal, independent

loan review process. The Company’s

loan review process assists in determining whether there are

loans in the portfolio

whose credit quality has weakened over time and evaluating the risk characteristics

of the entire loan portfolio. The

Company’s loan review process includes

the judgment of management, the input from our independent

loan reviewers, and

reviews that may have been conducted by bank regulatory agencies

as part of their examination process. The Company

incorporates loan review results in the determination of whether

or not it is probable that it will be able to collect all

amounts due according to the contractual terms of a loan.

As part of the Company’s quarterly assessment

of the allowance, management divides the loan portfolio

into five segments:

commercial and industrial, construction and land development, commercial

real estate, residential real estate, and consumer

installment loans. The Company analyzes each segment and

estimates an allowance allocation for each loan segment.

The allocation of the allowance for loan losses begins with a

process of estimating the probable losses inherent for these

types of loans. The estimates for these loans are established by category

and based on the Company’s internal

system of

credit risk ratings and historical loss data. The estimated loan loss allocation

rate for the Company’s internal system

credit risk grades is based on its experience with similarly graded

loans. For loan segments where the Company believes

does not have sufficient historical loss data, the Company

may make adjustments based, in part, on loss rates of peer

bank

groups. At December 31, 2020 and 2019, and for the years then ended,

the Company adjusted its historical loss rates for the

commercial real estate portfolio segment based, in part, on loss rates of peer

bank groups.

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The estimated loan loss allocation for all five loan portfolio segments

is then adjusted for management’s

estimate of

probable losses for several “qualitative and environmental” factors.

The allocation for qualitative and environmental factors

is particularly subjective and does not lend itself to exact mathematical

calculation. This amount represents estimated

probable inherent credit losses which exist, but have not yet been

identified, as of the balance sheet date, and are based

upon quarterly trend assessments in delinquent and nonaccrual

loans, credit concentration changes, prevailing economic

conditions, changes in lending personnel experience, changes

in lending policies or procedures and other influencing

factors. These qualitative and environmental factors are considered

for each of the five loan segments and the allowance

allocation, as determined by the processes noted above, is increased

or decreased based on the incremental assessment of

these factors.

The Company regularly re-evaluates its practices in determining the

allowance for loan losses. Since the fourth quarter of

2016, the Company has increased its look-back period each quarter

to incorporate the effects of at least one economic

downturn in its loss history. The

Company believes the extension of its look-back period

is appropriate due to the risks

inherent in the loan portfolio. Absent this extension, the early

cycle periods in which the Company experienced significant

losses would be excluded from the determination of the allowance for

loan losses and its balance would decrease. For the

year ended December 31, 2020, the Company increased its look

-back period to 47 quarters to continue to include losses

incurred by the Company beginning with the first quarter of 2009.

The Company will likely continue to increase its look-

back period to incorporate the effects of at least one

economic downturn in its loss history.

During 2020, the Company

adjusted certain qualitative and economic factors related to changes in

economic conditions driven by the impact of the

COVID-19 pandemic and resulting adverse economic conditions,

including higher unemployment in our primary market

area.

Further adjustments may be made in the future as a result of the ongoing COVID

-19 pandemic.

The following table details the changes in the allowance for loan

losses by portfolio segment for the years ended December

31, 2020 and 2019.

(in thousands)

Commercial

and industrial

Construction

and land

Development

Commercial

Real Estate

Residential

Real Estate

Consumer

Installment

Total

Balance, December 31, 2018

778

700

2,218

946

148

4,790

Charge-offs

(364)

—

(6)

(38)

(408)

Recoveries

117

—

109

254

Net (charge-offs) recoveries

(247)

—

103

(11)

(154)

Provision

(131)

(236)

(250)

Balance, December 31, 2019

577

569

2,289

813

138

4,386

Charge-offs

(7)

—

(38)

(45)

Recoveries

—

177

Net recoveries (charge-offs)

—

(18)

132

Provision

143

880

(16)

1,100

Balance, December 31, 2020

807

594

3,169

944

104

5,618

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The following table presents an analysis of the allowance for

loan losses and recorded investment in loans by portfolio

segment and impairment methodology as of December 31, 2020

and 2019.

Collectively evaluated (1)

Individually evaluated (2)

Total

Allowance

Recorded

Allowance

Recorded

Allowance

Recorded

for loan

investment

for loan

investment

for loan

investment

(In thousands)

losses

in loans

losses

in loans

losses

in loans

December 31, 2020:

Commercial and industrial

807

82,585

—

807

82,585

Construction and land development

594

33,514

—

594

33,514

Commercial real estate

3,169

254,920

—

216

3,169

255,136

Residential real estate

944

84,047

—

107

944

84,154

Consumer installment

104

7,099

—

104

7,099

Total

5,618

462,165

—

323

5,618

462,488

December 31, 2019:

Commercial and industrial

577

56,683

—

577

56,782

Construction and land development

569

32,841

—

569

32,841

Commercial real estate

2,289

270,318

—

2,289

270,318

Residential real estate

813

92,575

—

813

92,575

Consumer installment

138

8,866

—

138

8,866

Total

4,386

461,283

—

4,386

461,382

(1) Represents loans collectively evaluated for impairment in accordance

with ASC 450-20,

Loss Contingencies

(formerly FAS 5), and pursuant to amendments by ASU 2010-20 regarding allowance for unimpaired loans.

(2) Represents loans individually evaluated for impairment in accordance

with ASC 310-30,

Receivables

(formerly

FAS 114), and pursuant to amendments by ASU 2010-20 regarding allowance for impaired loans.

Credit Quality Indicators

The credit quality of the loan portfolio is summarized no less frequently

than quarterly using categories similar to the

standard asset classification system used by the federal banking agencies.

The following table presents credit quality

indicators for the loan portfolio segments and classes. These

categories are utilized to develop the associated allowance for

loan losses using historical losses adjusted for qualitative and

environmental factors and are defined as follows:

●

Pass – loans which are well protected by the current net worth

and paying capacity of the obligor (or guarantors, if

any) or by the fair value, less cost to acquire and sell, of any underlying

collateral.

●

Special Mention – loans with potential weakness that may,

if not reversed or corrected, weaken the credit or

inadequately protect the Company’s

position at some future date. These loans are not adversely classified

and do

not expose an institution to sufficient risk to warrant an

adverse classification.

●

Substandard Accruing – loans that exhibit a well-defined weakness which

presently jeopardizes debt repayment,

even though they are currently performing. These loans are characterized

by the distinct possibility that the

Company may incur a loss in the future if these weaknesses are

not corrected.

●

Nonaccrual – includes loans where management has determined

that full payment of principal and interest is in

doubt.

Table of Contents

(In thousands)

Pass

Special

Mention

Substandard

Accruing

Nonaccrual

Total loans

December 31, 2020

Commercial and industrial

79,984

2,383

218

—

82,585

Construction and land development

33,260

—

254

—

33,514

Commercial real estate:

Owner occupied

51,265

2,627

141

—

54,033

Hotel/motel

35,084

7,816

—

42,900

Multifamily

36,673

3,530

—

40,203

Other

116,498

1,243

212

118,000

Total commercial real estate

239,520

15,216

188

212

255,136

Residential real estate:

Consumer mortgage

32,518

397

1,897

215

35,027

Investment property

48,501

187

332

107

49,127

Total residential real estate

81,019

584

2,229

322

84,154

Consumer installment

7,069

—

7,099

Total

440,852

18,190

2,912

534

462,488

December 31, 2019

Commercial and industrial

54,340

2,176

266

—

56,782

Construction and land development

31,798

—

1,043

—

32,841

Commercial real estate:

Owner occupied

47,865

917

—

48,860

Hotel/motel

43,719

—

43,719

Multifamily

44,839

—

44,839

Other

132,030

849

—

132,900

Total commercial real estate

268,453

1,766

—

270,318

Residential real estate:

Consumer mortgage

45,247

962

2,527

187

48,923

Investment property

42,331

949

372

—

43,652

Total residential real estate

87,578

1,911

2,899

187

92,575

Consumer installment

8,742

—

8,866

Total

450,911

5,913

4,371

187

461,382

During the fourth quarter of 2019, the Company recognized a

gain of $1.7 million resulting from the termination of a Loan

Guarantee Program (the “Program”) operated by the State of

Alabama. The payment of $1.7

million received by the

Company in October 2019 was recorded as a gain and included

in noninterest income on the accompanying consolidated

statements of earnings.

The Program required a 1% fee on the commitment balance at

origination and in return the

Company received a guarantee of up to 50% of losses in the

event of the borrower's default. The Company had

loans

outstanding totaling $

10.3

million that were enrolled in the Program prior to its termination by the

State of Alabama.

Despite being enrolled in the Program, these loans would have met the

Company's normal loan underwriting criteria at

origination.

All of these loans were categorized as Pass within the Company's

credit quality asset classification at the date

of the Program’s termination.

Impaired loans

The following table presents details related to the Company’s

impaired loans. Loans which have been fully charged

-off do

not appear in the following table. The related allowance generally

represents the following components which correspond

to impaired loans:

●

Individually evaluated impaired loans equal to or greater than $500

thousand secured by real estate (nonaccrual

construction and land development, commercial real estate, and

residential real estate).

●

Individually evaluated impaired loans equal to or greater than $250

thousand not secured by real estate

(nonaccrual commercial and industrial and consumer loans).

Table of Contents

The following table sets forth certain information regarding the

Company’s impaired loans

that were individually evaluated

for impairment at December 31, 2020 and 2019.

December 31, 2020

(In thousands)

Unpaid

principal

balance (1)

Charge-offs

and payments

applied (2)

Recorded

investment (3)

allowance

With no allowance recorded:

Commercial real estate:

Other

216

(4)

212

—

Total commercial real estate

216

(4)

212

—

Residential real estate:

Investment property

109

(2)

107

—

Total residential real estate

109

(2)

107

—

Total

impaired loans

325

(6)

319

—

(1) Unpaid principal balance represents the contractual obligation due

from the customer.

(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well as interest payments

that have been

applied against the outstanding principal balance.

(3) Recorded investment represents the unpaid principal balance less

charge-offs and payments applied; it is shown before

any related allowance for loan losses.

December 31, 2019

(In thousands)

Unpaid

principal

balance (1)

Charge-offs

and payments

applied (2)

Recorded

investment (3)

allowance

With no allowance recorded:

Commercial and industrial

335

(236)

—

Total

impaired loans

335

(236)

—

(1) Unpaid principal balance represents the contractual obligation due

from the customer.

(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well as interest payments

that have been

applied against the outstanding principal balance.

(3) Recorded investment represents the unpaid principal balance less

charge-offs and payments applied; it is shown before

any related allowance for loan losses.

The following table provides the average recorded investment in impaired

loans and the amount of interest income

recognized on impaired loans after impairment by portfolio segment

and class.

Year ended December 31, 2020

Year ended December 31, 2019

Average

Total interest

Average

Total interest

recorded

income

recorded

income

(In thousands)

investment

recognized

investment

recognized

Impaired loans:

Commercial and industrial

—

Commercial real estate:

Owner occupied

—

Other

116

—

Total commercial real estate

116

—

Residential real estate:

Investment property

—

Total residential real estate

—

Total

175

—

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Troubled Debt

Restructurings

Impaired loans also include troubled debt restructurings (“TDRs”).

Section 4013 of the CARES Act, “Temporary

Relief

From Troubled Debt Restructurings,” provides

banks the option to temporarily suspend certain requirements

under ASC

340-10 TDR classifications for a limited period of time to account

for the effects of COVID-19. In addition, the Interagency

Statement on COVID-19 Loan Modifications, encourages banks

to work prudently with borrowers and describes the

agencies’ interpretation of how accounting rules under ASC

310-40, “Troubled Debt Restructurings by Creditors,”

apply to

certain COVID-19-related modifications. The Interagency Statement

on COVID-19 Loan Modifications was supplemented

on June 23, 2020 by the Interagency Examiner Guidance for Assessing

Safety and Soundness Considering the Effect of the

COVID-19 Pandemic on Institutions.

If a loan modification is eligible, a bank may elect to account for

the loan under

section 4013 of the CARES Act. If a loan modification is not

eligible under section 4013, or if the bank elects not to

account for the loan modification under section 4013, the Revised Statement

includes criteria when a bank may presume a

loan modification is not a TDR in accordance with ASC 310

-40.

The Company evaluates loan extensions or modifications not

qualified under Section 4013 of the CARES Act or under the

Interagency Statement on COVID-19 Loan Modifications in accordance

with FASB ASC 340

-10 with respect to the

classification of the loan as a TDR.

In the normal course of business, management may grant concessions

to borrowers that

are experiencing financial difficulty.

A concession may include, but is not limited to, delays in required

payments of

principal and interest for a specified period, reduction of the stated

interest rate of the loan, reduction of accrued interest,

extension of the maturity date, or reduction of the face amount or

maturity amount of the debt.

A concession has been

granted when, as a result of the restructuring, the Bank does not expect

to collect, when due, all amounts owed, including

interest at the original stated rate.

A concession may have also been granted if the debtor is not able

to access funds

elsewhere at a market rate for debt with similar risk characteristics

as the restructured debt.

In making the determination of

whether a loan modification is a TDR, the Company considers

the individual facts and circumstances surrounding each

modification.

As part of the credit approval process, the restructured loans are evaluated

for adequate collateral protection

in determining the appropriate accrual status at the time of restructure.

Similar to other impaired loans, TDRs are measured for impairment

based on the present value of expected payments using

the loan’s original effective

interest rate as the discount rate, or the fair value of the collateral,

less selling costs if the loan is

collateral dependent. If the recorded investment in the loan exceeds

the measure of fair value, impairment is recognized by

establishing a valuation allowance as part of the allowance for

loan losses or a charge-off to the allowance for

loan losses.

In periods subsequent to the modification, all TDRs are evaluated

individually, including

those that have payment defaults,

for possible impairment.

At December 31, 2019 the Company had no TDRs.

The following is a summary of accruing and nonaccrual TDRs

and the

related loan losses, by portfolio segment and class at December

31, 2020.

TDRs

(In thousands)

Accruing

Nonaccrual

Total

Allowance

December 31, 2020

Commercial real estate:

Other

—

212

—

Total commercial real estate

—

212

—

Investment property

—

107

—

Total residential real estate

—

107

—

Total

—

319

—

At December 31, 2020, there were no significant outstanding commitments

to advance additional funds to customers whose

loans had been restructured.

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100

There were no loans modified in a TDR during the year ended

December 31, 2019.

The following table summarizes loans

modified in a TDR during the year ended December 31,

2020 both before and after modification.

Pre-

Post-

modification

outstanding

Number of

recorded

($ in thousands)

contracts

investment

December 31, 2020

Commercial real estate:

Other

216

Total commercial real estate

216

Investment property

111

Total residential real estate

111

Total

327

Four loans were modified in a TDR during the year ended December

31, 2020.

The only concession granted by the

Company was related to a delay in the required payment of principal

and/or interest.

During the years ended December 31, 2020 and 2019,

respectively, the Company had

no loans modified in a TDR within

the previous 12 months for which there was a payment default

(defined as 90 days or more past due).

NOTE 6: PREMISES AND EQUIPMENT

Premises and equipment at December 31, 2020

and 2019 is presented below

December 31

(Dollars in thousands)

2020

2019

Land and improvements

9,829

9,874

Buildings and improvements

7,436

9,987

Furniture, fixtures, and equipment

2,715

3,109

Construction in progress

8,171

107

Total premises and equipment

28,151

23,077

Less:

accumulated depreciation

(5,958)

(8,334)

Premises and equipment, net

22,193

14,743

Depreciation expense was approximately $

905

thousand and $

662

thousand for the years ended December 31, 2020 and

2019, respectively, and is a component

of net occupancy and equipment expense in the consolidated

statements of earnings.

NOTE 7: MORTGAGE SERVICING RIGHTS,

NET

MSRs are recognized based

on the fair value

of the servicing rights

on the date the

corresponding mortgage loans

are sold.

An estimate

of the

Company’s MSRs

is determined

using assumptions

that market

participants would

use in

estimating

future net servicing

income, including estimates

of prepayment speeds,

discount rate, default

rates, cost to

service, escrow

account earnings, contractual

servicing fee income,

ancillary income, and

late fees.

Subsequent to the

date of transfer,

the

Company has

elected to

measure its

MSRs under

the amortization

method.

Under the

amortization method,

MSRs are

amortized in proportion

to, and over the

period of, estimated

net servicing income. Servicing

fee income is recorded

net of

related amortization expense and recognized in earnings as part

of mortgage lending income.

The Company has recorded MSRs related to loans sold without

recourse to Fannie Mae.

The Company generally sells

conforming, fixed-rate, closed-end, residential mortgages to Fannie

Mae.

MSRs are included in other assets on the

accompanying consolidated balance sheets.

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101

The Company evaluates MSRs for impairment on a quarterly basis.

Impairment is determined by stratifying MSRs into

groupings based on predominant risk characteristics, such as interest

rate and loan type.

If, by individual stratum, the

carrying amount of the MSRs exceeds fair value, a valuation

allowance is established. The valuation allowance is adjusted

as the fair value changes.

Changes in the valuation allowance are recognized

in earnings as a component of mortgage

lending income.

The following table details the changes in amortized MSRs and

the related valuation allowance for the years ended

December 31, 2020 and 2019.

Year ended December 31

(Dollars in thousands)

2020

2019

Beginning balance

1,299

1,441

Additions, net

671

241

Amortization expense

(640)

(383)

Ending balance

1,330

1,299

Valuation

allowance included in MSRs, net:

Beginning of period

—

End of period

—

Fair value of amortized MSRs:

Beginning of period

2,111

2,697

End of period

1,489

2,111

Data and assumptions used in the fair value calculation related

to MSRs at December 31,

2020 and 2019, respectively,

are

presented below.

December 31

(Dollars in thousands)

2020

2019

Unpaid principal balance

265,964

274,227

Weighted average prepayment

speed (CPR)

20.7

11.6

Discount rate (annual percentage)

10.0

Weighted average coupon

interest rate

3.6

3.9

Weighted average remaining

maturity (months)

253

255

Weighted average servicing

fee (basis points)

25.0

At December 31, 2020, the weighted average amortization period

for MSRs was

3.7

years.

Estimated amortization expense

for each of the next five years is presented below.

(Dollars in thousands)

December 31, 2020

2021

308

2022

227

2023

170

2024

129

2025

101

Table of Contents

102

NOTE 8:

DEPOSITS

At December 31, 2020, the scheduled maturities of certificates

of deposit and other time deposits are presented below.

(Dollars in thousands)

December 31, 2020

2021

88,292

2022

50,332

2023

12,572

2024

5,842

2025

3,363

Thereafter

—

Total certificates of deposit

and other time deposits

160,401

Additionally, at December

31, 2020 and 2019, approximately $

55.0

million and $

57.4

million, respectively, of certificates

of deposit and other time deposits were issued in denominations

greater than $250 thousand.

At December 31, 2020 and 2019, the amount of deposit accounts in

overdraft status that were reclassified to loans on the

accompanying consolidated balance sheets was not material.

NOTE 9:

SHORT-TERM BORROWINGS

At December 31, 2020 and 2019, the composition of short-term borrowings

is presented below.

2020

2019

Weighted

(Dollars in thousands)

Amount

Avg. Rate

Amount

Avg. Rate

Federal funds purchased:

As of December 31

—

Average during the year

0.78

2.58

Maximum outstanding at

any month-end

—

Securities sold under

agreements to repurchase:

As of December 31

2,392

0.50

1,069

0.50

Average during the year

1,822

0.50

1,442

0.50

Maximum outstanding at

any month-end

2,496

2,261

Federal funds purchased represent unsecured overnight borrowings

from other financial institutions by the Bank.

The Bank

had available federal fund lines totaling $

.0 million with none outstanding at December 31, 2020.

Securities sold under agreements to repurchase represent short

-term borrowings with maturities less than one year

collateralized by a portion of the Company’s

securities portfolio.

Securities with an aggregate carrying value of $

5.7

million and $

2.6

million at December 31, 2020 and 2019, respectively,

were pledged to secure securities sold under

agreements to repurchase.

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103

NOTE 10: LEASE COMMITMENTS

We lease certain

office facilities and equipment under operating leases.

Rent expense for all operating leases totaled $

0.2

million for both the years ended December 31, 2020 and 2019.

On January 1, 2019, we adopted a new accounting standard

which required the recognition of certain operating leases on our

balance sheet as lease right of use assets (reported as

component of other assets) and related lease liabilities (reported

as a component of accrued expenses and other liabilities).

Aggregate lease right of use assets were $

788

thousand and $

785

thousand at December 31, 2020 and 2019, respectively.

Aggregate lease liabilities were $

811

thousand and $

788

thousand at December 31, 2020 and 2019, respectively.

Rent

expense includes amounts related to items that are not included

in the determination of lease right of use assets including

expenses related to short-term leases totaling $

0.1

million for the year ended December 31, 2020.

Lease payments under operating leases that were applied to

our operating lease liability totaled $

112

thousand during the

year ended December 31, 2020. The following table reconciles

future undiscounted lease payments due under non-

cancelable operating leases (those amounts subject to recognition) to

the aggregate operating lease liability as of December

31, 2020.

Future lease

(Dollars in thousands)

payments

2021

127

2022

120

2023

120

2024

120

2025

111

Thereafter

300

Total undiscounted operating

lease liabilities

898

Imputed interest

Total operating lease liabilities

included in the accompanying consolidated balance sheets

811

Weighted-average

lease terms in years

7.68

Weighted-average

discount rate

3.02

NOTE 11:

OTHER COMPREHENSIVE INCOME (LOSS)

Comprehensive income

is defined as

the change in

equity from all

transactions other

than those with

stockholders, and

includes net

earnings and

other comprehensive

income (loss).

Other comprehensive

income (loss)

for the

years ended

December 31, 2020 and 2019, is presented below.

Pre-tax

Tax benefit

Net of

(Dollars in thousands)

amount

(expense)

tax amount

2020:

Unrealized net holding gain on securities

7,501

(1,884)

5,617

Reclassification adjustment for net gain on securities recognized

in net earnings

(103)

(77)

Other comprehensive income

7,398

(1,858)

5,540

2019:

Unrealized net holding gain on securities

7,651

(1,921)

5,730

Reclassification adjustment for net loss on securities recognized

in net earnings

123

(31)

Other comprehensive loss

7,774

(1,952)

5,822

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104

NOTE 12:

INCOME TAXES

For the years ended December 31, 2020 and 2019 the components

of income tax expense from continuing operations are

presented below.

Year ended December 31

(Dollars in thousands)

2020

2019

Current income tax expense:

Federal

1,459

1,939

State

476

584

Total current income tax expense

1,935

2,523

Deferred income tax benefit:

Federal

(262)

(136)

State

(68)

(17)

Total deferred

income tax benefit

(330)

(153)

Total income tax expense

1,605

2,370

Total income tax expense

differs from the amounts computed by applying the

statutory federal income tax rate of 21% to

earnings before income taxes.

A reconciliation of the differences for the years ended

December 31,

2020 and 2019, is

presented below.

2020

2019

Percent of

pre-tax

(Dollars in thousands)

Amount

earnings

Amount

earnings

Earnings before income taxes

9,059

12,111

Income taxes at statutory rate

1,902

21.0

2,543

21.0

Tax-exempt interest

(489)

(5.4)

(508)

(4.1)

State income taxes, net of

federal tax effect

345

3.8

440

3.6

Bank-owned life insurance

(152)

(1.7)

(92)

(0.8)

Other

(1)

—

(13)

(0.1)

Total income tax expense

1,605

17.7

2,370

19.6

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105

The Company had a net deferred tax liability of $1.5

million and $9 thousand included in other liabilities ts on the

consolidated balance sheets at December 31, 2020

and 2019, respectively.

The tax effects of temporary differences

that

give rise to significant portions of the deferred tax assets and

deferred tax liabilities at December 31,

2020 and 2019 are

presented below.

December 31

(Dollars in thousands)

2020

2019

Deferred tax assets:

Allowance for loan losses

1,411

1,102

Accrued bonus

183

296

Right of use liability

204

198

Other

Total deferred

tax assets

1,889

1,684

Deferred tax liabilities:

Premises and equipment

199

315

Unrealized gain on securities

2,548

690

Originated mortgage servicing rights

334

326

Right of use asset

198

197

Other

147

165

Total deferred

tax liabilities

3,426

1,693

Net deferred tax liability

(1,537)

(9)

A valuation allowance is recognized for a deferred tax asset if, based

on the weight of available evidence, it is more-likely-

than-not that some portion of the entire deferred tax asset will not be

realized.

The ultimate realization of deferred tax

assets is dependent upon the generation of future taxable income during

the periods in which those temporary differences

become deductible.

Management considers the scheduled reversal of deferred

tax liabilities, projected future taxable

income and tax planning strategies in making this assessment.

Based upon the level of historical taxable income and

projection for future taxable income over the periods which the

temporary differences resulting in the remaining

deferred

tax assets are deductible, management believes it is more-likely

-than-not that the Company will realize the benefits of

these

deductible differences at December 31,

2020.

The amount of the deferred tax assets considered realizable,

however, could

be reduced in the near term if estimates of future taxable income are

reduced.

The change in the net deferred tax asset for the years ended December

31, 2020 and 2019, is presented

below.

Year ended December 31

(Dollars in thousands)

2020

2019

Net deferred tax (liability) asset:

Balance, beginning of year

(9)

1,790

Deferred tax benefit (expense) related to continuing operations

330

153

Stockholders' equity, for

accumulated other comprehensive (income) loss

(1,858)

(1,952)

Balance, end of year

(1,537)

(9)

ASC 740,

Income Taxes,

defines the threshold for recognizing the benefits of tax return positions in

the financial statements

as “more-likely-than-not” to be sustained by the taxing authority.

This section also provides guidance on the de-

recognition, measurement, and classification of income tax uncertainties

in interim periods.

As of December 31, 2020, the

Company had no unrecognized tax benefits related to federal or

state income tax matters.

The Company does not anticipate

any material increase or decrease in unrecognized tax benefits during

2021 relative to any tax positions taken prior to

December 31, 2020.

As of December 31, 2020, the Company has accrued no interest and no

penalties related to uncertain

tax positions.

It is the Company’s policy to

recognize interest and penalties related to income tax matters

in income tax

expense.

The Company and its subsidiaries file consolidated U.S. federal

and State of Alabama income tax returns.

The Company is

currently open to audit under the statute of limitations by the Internal Revenue

Service and the State of Alabama for the

years ended December 31, 2017 through 2020.

Table of Contents

106

NOTE 13:

EMPLOYEE BENEFIT PLAN

The Company sponsors a qualified defined contribution retirement

plan, the Auburn National Bancorporation, Inc. 401(k)

Plan (the "Plan").

Eligible employees may contribute up to 100% of eligible compensation,

subject to statutory limits upon

completion of 2 months of service.

Furthermore, the Company allows employer Safe Harbor

contributions. Participants are

immediately vested in employer Safe Harbor contributions. T

he Company's matching contributions on behalf of

participants were equal to $1.00 for each $1.00 contributed

by participants, up to 3% of the participants' eligible

compensation, and $0.50 for every $1.00 contributed by participants,

up to 5% of the participants' eligible compensation,

for a maximum matching contribution of 4% of the participants' eligible

compensation. Company matching contributions to

the Plan were $

304

thousand and $

264

thousand for the years ended December 31, 2020 and 2019,

respectively, and are

included in salaries and benefits expense.

NOTE 14:

COMMITMENTS AND CONTINGENT LIABILITIES

Credit-Related Financial Instruments

The Company is party to credit related financial instruments with

off-balance sheet risk in the normal course of business

meet the financing needs of its customers.

These financial instruments include commitments to extend credit

and standby

letters of credit.

Such commitments involve, to varying degrees, elements of credit

and interest rate risk in excess of the

amount recognized in the consolidated balance sheets.

The Company’s exposure to

credit loss is represented by the contractual amount of these commitments.

The Company

follows the same credit policies in making commitments as it

does for on-balance sheet instruments.

At December 31, 2020 and 2019, the following financial instruments

were outstanding whose contract amount represents

credit risk.

December 31

(Dollars in thousands)

2020

2019

Commitments to extend credit

74,970

60,564

Standby letters of credit

1,237

1,921

Commitments to extend credit are agreements to lend to a customer

as long as there is no violation of any condition

established in the agreement.

Commitments generally have fixed expiration dates or other termination

clauses and may

require payment of a fee.

The commitments for lines of credit may expire

without being drawn upon.

Therefore, total

commitment amounts do not necessarily represent future cash

requirements.

The amount of collateral obtained, if it is

deemed necessary by the Company,

is based on management’s credit

evaluation of the customer.

Standby letters of credit are conditional commitments issued by

the Company to guarantee the performance of a customer

to a third party.

The credit risk involved in issuing letters of credit

is essentially the same as that involved in extending loan

facilities to customers.

The Company holds various assets as collateral, including

accounts receivable, inventory,

equipment, marketable securities, and property to support

those commitments for which collateral is deemed necessary.

The Company has recorded a liability for the estimated fair

value of these standby letters of credit in the amount of $

thousand and $

thousand at December 31, 2020 and 2019, respectively.

Other Commitments

At December 31, 2020, the Company has a contract with a construction

company for $

25.3

million to construct a new bank

headquarters in Auburn, Alabama.

Contingent Liabilities

The Company and the Bank are involved in various legal proceedings,

arising in connection with their business.

In the

opinion of management, based upon consultation with legal counsel,

the ultimate resolution of these proceeding will not

have a material adverse effect upon the consolidated

financial condition or results of operations of the Company

and the

Bank.

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107

NOTE 15: FAIR VALUE

Fair Value

Hierarchy

“Fair value” is defined by ASC 820,

Fair Value

Measurements and Disclosures

, as the price that would be received to sell

an asset or paid to transfer a liability in an orderly transaction occurring

in the principal market (or most advantageous

market in the absence of a principal market) for an asset or

liability at the measurement date.

GAAP establishes a fair

value hierarchy for valuation inputs that gives the highest priority to

quoted prices in active markets for identical assets or

liabilities and the lowest priority to unobservable inputs.

The fair value hierarchy is as follows:

Level 1—inputs to the valuation methodology are quoted prices, unadjusted,

for identical assets or liabilities in active

markets.

Level 2—inputs to the valuation methodology include quoted

prices for similar assets and liabilities in active markets,

quoted prices for identical or similar assets or liabilities in markets

that are not active, or inputs that are observable for the

asset or liability, either directly

or indirectly.

Level 3—inputs to the valuation methodology are unobservable

and reflect the Company’s own assumptions

about the

inputs market participants would use in pricing the asset or liability.

Level changes in fair value measurements

Transfers between levels of the fair value hierarchy

are generally recognized at the end of the reporting period.

The

Company monitors the valuation techniques utilized for each

category of financial assets and liabilities to ascertain when

transfers between levels have been affected.

The nature of the Company’s financial

assets and liabilities generally is such

that transfers in and out of any level are expected to be infrequent.

For the years ended December 31, 2020 and

2019, there

were no transfers between levels and no changes in valuation techniques

for the Company’s financial

assets and liabilities.

Assets and liabilities measured at fair value

on a recurring basis

Securities available-for-sale

Fair values of securities available for sale were primarily measured

using Level 2 inputs.

For these securities, the Company

obtains pricing from third party pricing services.

These third party pricing services consider observable data

that may

include broker/dealer quotes, market spreads, cash flows, market consensus

prepayment speeds, benchmark yields, reported

trades for similar securities, credit information and the securities’ terms

and conditions.

On a quarterly basis, management

reviews the pricing received from the third party pricing services

for reasonableness given current market conditions.

part of its review, management

may obtain non-binding third party broker quotes to validate the fair value measurements.

In addition, management will periodically submit pricing provided

by the third party pricing services to another

independent valuation firm on a sample basis.

This independent valuation firm will compare the price

provided by the

third-party pricing service with its own price and will review the significant

assumptions and valuation methodologies used

with management.

Table of Contents

108

The following table presents the balances of the assets and liabilities

measured at fair value on a recurring as of December

31, 2020 and 2019, respectively,

by caption, on the accompanying consolidated balance sheets by ASC

820 valuation

hierarchy (as described above).

Quoted Prices in

Significant

Active Markets

Other

Significant

for

Observable

Unobservable

Identical Assets

Inputs

(Dollars in thousands)

Amount

(Level 1)

(Level 2)

(Level 3)

December 31, 2020:

Securities available-for-sale:

Agency obligations

97,448

—

97,448

—

Agency MBS

163,470

—

163,470

—

State and political subdivisions

74,259

—

74,259

—

Total securities available

-for-sale

335,177

—

335,177

—

Total

assets at fair value

335,177

—

335,177

—

December 31, 2019:

Securities available-for-sale:

Agency obligations

50,708

—

50,708

—

Agency MBS

123,277

—

123,277

—

State and political subdivisions

61,917

—

61,917

—

Total securities available

-for-sale

235,902

—

235,902

—

Total

assets at fair value

235,902

—

235,902

—

Assets and liabilities measured at fair value

on a nonrecurring basis

Loans held for sale

Loans held for sale are carried at the lower of cost or fair value.

Fair values of loans held for sale are determined using

quoted market secondary market prices for similar loans.

Loans held for sale are classified within Level 2 of the fair value

hierarchy.

Impaired Loans

Loans considered impaired under ASC 310-10-35,

Receivables

, are loans for which, based on current information

and

events, it is probable that the Company will be unable to collect

all principal and interest payments due in accordance with

the contractual terms of the loan agreement.

Impaired loans can be measured based on the present value

of expected

payments using the loan’s original

effective rate as the discount rate, the loan’s

observable market price, or the fair value of

the collateral less selling costs if the loan is collateral dependent.

The fair value of impaired loans were primarily measured based on

the value of the collateral securing these loans.

Impaired loans are classified within Level 3 of the fair value

hierarchy. Collateral may be

real estate and/or business assets

including equipment, inventory,

and/or accounts receivable.

The Company determines the value of the collateral based on

independent appraisals performed by qualified licensed appraisers.

These appraisals may utilize a single valuation

approach or a combination of approaches including comparable

sales and the income approach.

Appraised values are

discounted for costs to sell and may be discounted further based on

management’s historical knowledge,

changes in market

conditions from the date of the most recent appraisal, and/or

management’s expertise and knowledge of the

customer and

the customer’s business.

Such discounts by management are subjective and are typically

significant unobservable inputs

for determining fair value.

Impaired loans are reviewed and evaluated on at least a quarterly

basis for additional

impairment and adjusted accordingly,

based on the same factors discussed above.

Table of Contents

109

Mortgage servicing rights, net

Mortgage servicing rights, net, included in other assets on the accompanying

consolidated balance sheets, are carried at the

lower of cost or estimated fair value.

MSRs do not trade in an active market with readily observable

prices.

To determine

the fair value of MSRs, the Company engages an independent

third party.

The independent third party’s

valuation model

calculates the present value of estimated future net servicing

income using assumptions that market participants would use

in estimating future net servicing income, including estimates of prepayment

speeds, discount rate, default rates, cost to

service, escrow account earnings, contractual servicing fee income,

ancillary income, and late fees.

Periodically, the

Company will review broker surveys and other market research

to validate significant assumptions used in the model.

The

significant unobservable inputs include prepayment speeds or

the constant prepayment rate (“CPR”) and the weighted

average discount rate.

Because the valuation of MSRs requires the use of significant unobservable

inputs, all of the

Company’s MSRs are classified

within Level 3 of the valuation hierarchy.

The following table presents the balances of the assets and liabilities

measured at fair value on a nonrecurring basis as of

December 31, 2020 and

2019, respectively, by caption, on the

accompanying consolidated balance sheets and by ASC 820

valuation hierarchy (as described above):

Quoted Prices in

Active Markets

Other

Significant

for

Observable

Unobservable

Identical Assets

Inputs

(Dollars in thousands)

Amount

(Level 1)

(Level 2)

(Level 3)

December 31, 2020:

Loans held for sale

3,418

—

3,418

—

Loans, net

(1)

319

—

319

Other assets

(2)

1,330

—

1,330

Total assets at fair value

5,067

—

3,418

1,649

December 31, 2019:

Loans held for sale

2,202

—

2,202

—

Loans, net

(1)

—

Other assets

(2)

1,299

—

1,299

Total assets at fair value

3,600

—

2,202

1,398

(1)

Loans considered impaired under ASC 310-10-35 Receivables.

This amount reflects the recorded investment in

impaired loans, net of any related allowance for loan losses.

(2)

Represents MSRs, net carried at lower of cost or estimated fair value.

At December 31, 2020 and 2019 and for the years then ended,

the Company had no Level 3 assets measured at fair value on

a recurring basis.

For Level 3 assets measured at fair value on a non-recurring basis

as of December 31, 2020 and 2019, the

significant unobservable inputs used in the fair value measurements

are presented below.

Weighted

Carrying

Significant

Average

(Dollars in thousands)

Amount

Valuation Technique

Unobservable Input

Range

of Input

December 31, 2020:

Impaired loans

319

Appraisal

Appraisal discounts

10.0

Mortgage servicing rights, net

1,330

Discounted cash flow

Prepayment speed or CPR

18.2

36.4

20.7

Discount rate

10.0

12.0

10.0

December 31, 2019:

Impaired loans

Appraisal

Appraisal discounts

10.0

Mortgage servicing rights, net

1,299

Discounted cash flow

Prepayment speed or CPR

11.2

22.4

11.6

Discount rate

10.0

12.0

10.0

Table of Contents

110

Fair Value

of Financial Instruments

ASC 825,

Financial Instruments

, requires disclosure of fair value information about financial

instruments,

whether or not

recognized on the face of the balance sheet, for which it is practicable

to estimate that value. The assumptions used in the

estimation of the fair value of the Company’s

financial instruments are explained below.

Where quoted market prices are

not available, fair values are based on estimates using discounted

cash flow analyses. Discounted cash flows can be

significantly affected by the assumptions used,

including the discount rate and estimates of future cash flows. The

following fair value estimates cannot be substantiated by comparison

to independent markets and should not be considered

representative of the liquidation value of the Company’s

financial instruments, but rather are a good-faith estimate of the

fair value of financial instruments held by the Company.

ASC 825 excludes certain financial instruments and all

nonfinancial instruments from its disclosure requirements.

The following methods and assumptions were used by the Company in

estimating the fair value of its financial instruments:

Loans, net

Fair values for loans were calculated using discounted cash flows. The

discount rates reflected current rates at which similar

loans would be made for the same remaining maturities. Expected

future cash flows were projected based on contractual

cash flows, adjusted for estimated prepayments.

The fair value of loans was measured using an exit

price notion.

Loans held for sale

Fair values of loans held for sale are determined using quoted

market secondary market prices for similar loans.

Time Deposits

Fair values for time deposits were estimated using discounted

cash flows. The discount rates were based on rates currently

offered for deposits with similar remaining maturities.

Fair Value Hierarchy

Carrying

Estimated

Level 1

Level 2

Level 3

(Dollars in thousands)

amount

fair value

inputs

Inputs

December 31, 2020:

Financial Assets:

Loans, net (1)

456,082

451,816

—

451,816

Loans held for sale

3,418

3,509

—

3,509

—

Financial Liabilities:

Time Deposits

160,401

162,025

—

162,025

—

December 31, 2019:

Financial Assets:

Loans, net (1)

456,515

453,705

—

453,705

Loans held for sale

2,202

2,251

—

2,251

—

Financial Liabilities:

Time Deposits

167,199

168,316

—

168,316

—

(1) Represents loans, net of unearned income and the allowance

for loan losses.

The fair value of loans was measured using an exit price notion.

Table of Contents

111

NOTE 16:

RELATED PARTY

TRANSACTIONS

The Bank has made, and expects in the future to continue to make

in the ordinary course of business, loans to directors

and

executive officers of the Company,

the Bank, and their affiliates. In management’s

opinion, these loans were made in the

ordinary course of business at normal credit terms, including

interest rate and collateral requirements, and do not represent

more than normal credit risk.

An analysis of such outstanding loans is presented below.

(Dollars in thousands)

Amount

Loans outstanding at December 31, 2019

3,149

New loans/advances

871

Repayments

(2,433)

Changes in directors and executive officers

(351)

Loans outstanding at December 31, 2020

1,236

During 2020 and 2019, certain executive officers and

directors of the Company and the Bank, including companies with

which they are affiliated, were deposit customers of

the bank.

Total deposits for

these persons at December 31, 2020 and

2019 amounted to $

18.7

million and $

19.1

million, respectively.

NOTE 17: REGULATORY

RESTRICTIONS AND CAPITAL

RATIOS

As required by the Economic Growth, Regulatory Relief, and Consumer

Protection Act in August 2018, the Federal

Reserve Board issued an interim final rule that expanded applicability

of the Board’s small bank holding

company policy

statement. The interim final rule raised the policy statement’s

asset threshold from $1 billion to $3 billion in total

consolidated assets for a bank holding company or savings and

loan holding company that: (1) is not engaged in significant

nonbanking activities; (2) does not conduct significant off

-balance sheet activities; and (3) does not have a material amount

of debt or equity securities, other than trust-preferred securities,

outstanding. The interim final rule provides that, if

warranted for supervisory purposes, the Federal Reserve may exclude

a company from the threshold increase. Management

believes the Company meets the conditions of the Federal Reserve’s

small bank holding company policy statement and is

therefore excluded from consolidated capital requirements at

December 31, 2020.

The Bank remains subject to regulatory capital requirements

administered by the federal banking agencies. Failure to meet

minimum capital requirements can initiate certain mandatory

and possibly additional discretionary - actions by regulators

that, if undertaken, could have a direct material effect

on the Company’s financial statements.

Under capital adequacy

guidelines and the regulatory framework for prompt corrective action,

the Bank must meet specific capital guidelines that

involve quantitative measures of their assets, liabilities and certain

off-balance sheet items as calculated under regulatory

accounting practices. The capital amounts and classification are

also subject to qualitative judgments by the regulators

about components, risk weightings and other factors.

As of December 31, 2020, the Bank is “well capitalized” under

the regulatory framework for prompt corrective action. To

be categorized as “well capitalized,” the Bank must maintain minimum

common equity Tier 1, total risk-based,

Tier 1 risk-

based, and Tier 1 leverage ratios as set forth

in the table. Management has not received any notification from the

Bank's

regulators that changes the Bank’s

regulatory capital status.

Table of Contents

112

The actual capital amounts and ratios for the Bank and the aforementioned

minimums as of December 31, 2020 and 2019

are presented below.

Minimum for capital

Minimum to be

Actual

adequacy purposes

well capitalized

(Dollars in thousands)

Amount

Ratio

Amount

Ratio

Amount

Ratio

At December 31, 2020:

Tier 1 Leverage Capital

96,096

10.32

37,263

4.00

46,579

5.00

Common Equity Tier 1 Capital

96,096

17.27

25,042

4.50

36,171

6.50

Tier 1 Risk-Based Capital

96,096

17.27

33,389

6.00

44,519

8.00

Total Risk-Based Capital

101,906

18.31

44,519

8.00

55,648

10.00

At December 31, 2019:

Tier 1 Leverage Capital

92,778

11.23

33,043

4.00

41,303

5.00

Common Equity Tier 1 Capital

92,778

17.28

24,162

4.50

34,901

6.50

Tier 1 Risk-Based Capital

92,778

17.28

32,216

6.00

42,955

8.00

Total Risk-Based Capital

97,291

18.12

42,955

8.00

53,693

10.00

Dividends paid by the Bank are a principal source of funds available

to the Company for payment of dividends to its

stockholders and for other needs. Applicable federal and state

statutes and regulations impose restrictions on the amounts

dividends that may be declared by the subsidiary bank. State

law and Federal Reserve policy restrict the Bank from

declaring dividends in excess of the sum of the current year’s

earnings plus the retained net earnings from the preceding

two years without prior approval. In addition to the formal statutes

and regulations, regulatory authorities also consider the

adequacy of the Bank’s total capital

in relation to its assets, deposits, and other such items. Capital adequacy

considerations

could further limit the availability of dividends from the Bank. At

December 31,

2020, the Bank could have declared

additional dividends of approximately $

6.8

million without prior approval of regulatory authorities. As a result of this

limitation, approximately $

96.9

million of the Company’s investment

in the Bank was restricted from transfer in the form

of dividends.

NOTE 18: AUBURN NATIONAL

BANCORPORATION

(PARENT COMPANY)

The Parent Company’s condensed

balance sheets and related condensed statements of earnings

and cash flows are as

follows.

CONDENSED BALANCE SHEETS

December 31

(Dollars in thousands)

2020

2019

Assets:

Cash and due from banks

4,049

4,119

Investment in bank subsidiary

103,695

94,837

Other assets

631

625

Total assets

108,375

99,581

Liabilities:

Accrued expenses and other liabilities

685

1,253

Total liabilities

685

1,253

Stockholders' equity

107,690

98,328

Total liabilities and

stockholders' equity

108,375

99,581

Table of Contents

113

CONDENSED STATEMENTS

OF EARNINGS

Year ended December 31

(Dollars in thousands)

2020

2019

Income:

Dividends from bank subsidiary

3,638

8,574

Noninterest income

862

346

Total income

4,500

8,920

Expense:

Noninterest expense

255

212

Total expense

255

212

Earnings before income tax expense and equity

in undistributed earnings of bank subsidiary

4,245

8,708

Income tax expense

110

Earnings before equity in undistributed earnings

of bank subsidiary

4,135

8,682

Equity in undistributed earnings of bank subsidiary

3,319

1,059

Net earnings

7,454

9,741

CONDENSED STATEMENTS

OF CASH FLOWS

Year ended December 31

(Dollars in thousands)

2020

2019

Cash flows from operating activities:

Net earnings

7,454

9,741

Adjustments to reconcile net earnings to net cash

provided by operating activities:

Net (increase) decrease in other assets

(6)

Net decrease in other liabilities

(561)

(215)

Equity in undistributed earnings of bank subsidiary

(3,319)

(1,059)

Net cash provided by operating activities

3,568

8,474

Cash flows from financing activities:

Dividends paid

(3,638)

(3,575)

Stock repurchases

—

(2,721)

Net cash used in financing activities

(3,638)

(6,296)

Net change in cash and cash equivalents

(70)

2,178

Cash and cash equivalents at beginning of period

4,119

1,941

Cash and cash equivalents at end of period

4,049

4,119

Table of Contents

114

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH

ACCOUNTANTS ON ACCOUNTING

AND

FINANCIAL DISCLOSURE

Not applicable.

ITEM 9A. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As required by Rule 13a-15(b) under the Securities Exchange

Act of 1934 (the “Exchange Act”), the Company’s

management, under the supervision and with the participation of its

principal executive and principal financial officer,

conducted an evaluation as of the end of the period covered

by this report, of the effectiveness of the Company’s

disclosure

controls and procedures as defined in Rule 13a-15(e) under the

Exchange Act. Based on that evaluation, and the results of

the audit process described below,

the Chief Executive Officer and Chief Financial Officer

concluded that the Company’s

disclosure controls and procedures were effective to

ensure that information required to be disclosed in the Company’s

reports under the Exchange Act is recorded, processed

summarized and reported within the time periods specified in the

SEC’s rules and regulations, and

that such information is accumulated and communicated to

the Company’s management,

including the Chief Executive Officer and the Chief Financial

Officer, as appropriate,

to allow timely decisions regarding

disclosure.

Management’s Report on Internal

Control Over Financial Reporting

The Company’s management is

responsible for establishing and maintaining adequate internal

control over financial

reporting. The Company’s internal

control system was designed to provide reasonable assurance

to the Company’s

management and board of directors regarding the preparation and fair

presentation of published financial statements. All

internal control systems, no matter how well designed, have inherent

limitations. Therefore, even those systems determined

to be effective can provide only reasonable assurance

with respect to financial statement preparation and presentation.

Under the direction of the Company’s

Chief Executive Officer and Chief Financial Officer,

management has assessed the

effectiveness of the Company’s

internal control over financial reporting as of December 31,

2020 in accordance with the

criteria set forth by the Committee of Sponsoring Organizations

of the Treadway Commission (“COSO”) i

Internal

Control – Integrated Framework (2013). Based on this assessment, management

has concluded that such internal control

over financial reporting was effective as of December

31, 2020.

This annual report does not include an attestation report of

the Company’s independent registered

public accounting firm

regarding internal control over financial reporting. Management’s

report was not subject to attestation by the Company’s

registered public accounting firm pursuant to the final rules of

the Securities and Exchange Commission that permit the

Company to provide only a management’s

report in this annual report.

Changes in Internal Control Over Financial

Reporting

During the period covered by this report, there has not been any change

in the Company’s internal controls

over financial

reporting that has materially affected, or is reasonably

likely to materially affect, the Company’s

internal controls over

financial reporting.

ITEM 9B.

OTHER INFORMATION

None.

Table of Contents

115

PART

III

ITEM 10.

DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information required by this item is set forth under the headings “Proposal

One: Election of Directors - Information about

Nominees for Directors,” and “Executive Officers,”

“Additional Information Concerning the Company’s

Board of

Directors and Committees,” “Executive Compensation,” “Audit

Committee Report” and “Compliance with Section 16(a) of

the Securities Exchange Act of 1934” in the Proxy Statement, and

is incorporated herein by reference.

The Board of Directors has adopted a Code of Conduct and

Ethics applicable to the Company’s

directors,

officers and

employees, including the Company’s

principal executive officer,

principal financial and principal accounting officer,

controller and other senior financial officers. The Code

of Conduct and Ethics, as well as the charters for the Audit

Committee, Compensation Committee, and the Nominating and

Corporate Governance Committee, can be found by

hovering over the heading “About Us” on the Company’s

website,

www.auburnbank.com

, and then clicking on “Investor

Relations”, and then clicking on “Governance Documents”.

In addition, this information is available in print to any

shareholder who requests it. Written requests

for a copy of the Company’s Code

of Conduct and Ethics or the Audit

Committee, Compensation Committee, or Nominating and

Corporate Governance Committee Charters may be sent to

Auburn National Bancorporation, Inc., 132 N. Gay Street, Auburn,

Alabama 36830, Attention: Marla Kickliter,

Senior Vice

President of Compliance and Internal Audit. Requests may also

be made via telephone by contacting Marla Kickliter,

Senior Vice President of Compliance

and Internal Audit, or Laura Carrington, Vice

President of Human Resources, at

(334) 821-9200.

ITEM 11.

EXECUTIVE COMPENSATION

Information required by this item is set forth under the headings “Additional

Information Concerning the Company’s

Board

of Directors and Committees – Board Compensation,” and “Executive

Officers” in the Proxy Statement, and is incorporated

herein by reference.

ITEM 12.

SECURITY OWNERSHIP OF CERTAIN

BENEFICIAL OWNERS AND MANAGEMENT

AND

RELATED STOCKHOLDER

MATTERS

Information required by this item is set forth under the headings “Proposal

One: Election of Directors - Information about

Nominees for Directors and Executive Officers” and

“Stock Ownership by Certain Persons” in the Proxy Statement, and

incorporated herein by reference.

ITEM 13. CERTAIN

RELATIONSHIPS

AND RELATED

TRANSACTIONS AND DIRECTOR INDEPENDENCE

Information required by this item is set forth under the headings “Additional

Information Concerning the Company’s

Board

of Directors and Committees – Committees of the Board

of Directors – Independent Directors Committee” and “Certain

Transactions and Business Relationships” in

the Proxy Statement, and is incorporated herein by reference.

ITEM 14.

PRINCIPAL ACCOUNTING FEES

AND SERVICES

Information required by this item is set forth under the heading “Independent

Public Accountants” in the Proxy Statement,

and is incorporated herein by reference.

Table of Contents

116

PART

ITEM 15.

EXHIBITS AND FINANCIAL STATEMENT

SCHEDULES

(a)

List of all Financial Statements

The following consolidated financial statements and report

of independent registered public accounting firm of the

Company are included in this Annual Report on Form 10-K:

Report of Independent Registered Public Accounting Firm

Consolidated Balance Sheets as of December 31,

2020 and 2019

Consolidated Statements of Earnings for the years ended December

31, 2020 and 2019

Consolidated Statements of Comprehensive Income for the years

ended December 31, 2020 and 2019

Consolidated Statements of Stockholders’ Equity for the years

ended December 31, 2020 and 2019

Consolidated Statements of Cash Flows for the years ended

December 31, 2020 and

2019

Notes to the Consolidated Financial Statements

(b)

Exhibits

3.1.

Certificate of Incorporation of Auburn National Bancorporation, Inc. (incorporated by reference from

Registrant's Form 10-Q dated June 30, 2002 (File No. 000-26486)).

3.2.

Amended and Restated Bylaws of Auburn National Bancorporation, Inc., adopted as of November 13, 2007

(incorporated by reference from Registrant’s Form 10-K dated March 31, 2008 (File No. 000-26486)).

4.1.

Description of the Registrant’s Securities

21.1

Subsidiaries of Registrant

31.1

Certification signed by the Chief Executive Officer pursuant to SEC Rule 13a-14(a).

31.2

Certification signed by the Chief Financial Officer pursuant to SEC Rule 13a-14(a).

32.1

Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley

Act of 2002 by Robert W. Dumas, Chairman, President and Chief Executive Officer *

32.2

Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley

Act of 2002 by David A. Hedges, EVP, Chief Financial Officer.*

101.INS

XBRL Instance Document

101.SCH

XBRL Taxonomy Extension

Schema Document

101.CAL

XBRL Taxonomy Extension

Calculation Linkbase Document

101.LAB

XBRL Taxonomy Extension

Label Linkbase Document

101.PRE

XBRL Taxonomy Extension

Presentation Linkbase Document

101.DEF

XBRL Taxonomy Extension

Definition Linkbase Document

The certifications attached as exhibits 32.1 and 32.2 to

this annual report on Form 10-K are “furnished” to the

Securities and Exchange Commission pursuant to Section 906

of the Sarbanes-Oxley Act of 2002 and shall not be

deemed “filed” by the Company for purposes of Section 18

of the Securities Exchange Act of 1934, as amended.

Table of Contents

117

(c)

Financial Statement Schedules

All financial statement schedules required pursuant to this item were

either included in the financial information set

forth in (a) above or are inapplicable and therefore have been

omitted.

ITEM 16.

FORM 10-K SUMMARY

None.

Table of Contents

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange

Act of 1934, the registrant has duly caused

this report to be signed on its behalf by the undersigned, thereunto

duly authorized, in the City of Auburn, State of

Alabama, on March 9, 2021.

AUBURN NATIONAL

BANCORPORATION,

INC.

(Registrant)

By:

/S/ ROBERT W.

DUMAS

Robert W.

Dumas

Chairman, President and CEO

Pursuant to the requirements of the Securities Exchange Act of 1934,

this report has been signed below by the following

persons on behalf of the registrant and in the capacities and on

the dates indicated.

Signature

Title

Date

/S/ ROBERT W.

DUMAS

Robert W.

Dumas

Chairman of the Board, President and Chief Executive

Officer

(Principal Executive Officer)

March 9, 2021

/S/ DAVID

A. HEDGES

David A. Hedges

EVP,

Chief Financial Officer

(Principal Financial Officer)

March 9, 2021

/S/ C. WAYNE

ALDERMAN

C. Wayne Alderman

Director

March 9, 2021

/S/ TERRY W.

ANDRUS

Terry W.

Andrus

Director

March 9, 2021

/S/ J. TUTT BARRETT

J. Tutt Barrett

Director

March 9, 2021

/S/ LAURA J. COOPER

Laura Cooper

Director

March 9, 2021

/S/ WILLIAM F. HAM,

JR.

William F.

Ham, Jr.

Director

March 9, 2021

/S/ DAVID

E. HOUSEL

David E. Housel

Director

March 9, 2021

/S/ ANNE M. MAY

Anne M. May

Director

March 9, 2021

/S/ EDWARD

LEE SPENCER, III

Edward Lee Spencer, III

Director

March 9, 2021

EX-4.1

AUBURN NATIONAL

BANCORPORATION,

INC AND SUBSIDIARIES

EXHIBIT 4.1

DESCRIPTION OF THE REGISTRANT’S SECURITIES

REGISTERED PURSUANT TO SECTION 12

OF THE

SECURITIES EXCHANGE ACT OF 1934

The following summarizes the terms of certain securities of Auburn

National Bancorporation, Inc., a

Delaware corporation (the “Company”). The Company’s

common stock is registered under Section 12(b)

of the Securities Exchange Act of 1934, as amended (the “Exchange

Act”). The following summary does

not purport to be complete and is qualified in its entirety by reference

to the Company’s Certificate

Incorporation (as amended, the “Charter”) and Amended and

Restated Bylaws (as amended, the “Bylaws”),

each previously filed with the U.S. Securities and Exchange Commission,

as well as reference to federal

and state banking laws and regulations and the Delaware General

Corporations Law (the “DGCL”).

Authorized Capital

The Company’s authorized capital

stock consists of 8,500,000 shares of common stock, $.01

par value per

share and 200,000 shares of preferred stock, $.01 par value per

share.

Common Stock

Voting

Rights.

Each holder of common stock is entitled to one vote for each share held

on all matters on

which our shareholders are entitled to vote. Directors are

elected by a majority vote, and no shareholder has

the right to cumulative voting with respect to the election of directors.

Dividend Rights.

Subject to the prior rights of holders of any then-outstanding shares of preferred

stock,

each share of common stock has equal rights to participate in dividends

when, as and if declared by the

board of directors out of funds legally available therefor.

Liquidation Rights.

Subject to the prior rights of creditors and the satisfaction of any liquidation

preference

granted to the holders of any outstanding shares of preferred

stock, if any, in the event of a liquidation,

the

holders of common stock will be entitled to share ratably in any assets

remaining after payment of all debts

and other liabilities.

Other.

Holders of common stock have no redemption or subscription,

conversion or preemptive rights.

Exchange and Trading

Symbol.

The common stock is listed for trading on the NASDAQ Global

Market

under the symbol “AUBN.”

Transfer Agent and Registrar.

The transfer agent and registrar for the common stock is Computershare

Investor Services LLC.

Preferred Stock

Shares of preferred stock may be issued for any purpose and in

any manner permitted by law,

in one or

more distinctly designated series, including as a dividend or

for such consideration as the board of directors

may determine by resolution or resolutions adopted from time

to time. The board of directors is expressly

authorized to fix and state, by resolution or resolutions adopted

from time to time prior to the issuance of

any shares of a particular series of preferred stock, the designations,

voting powers (if any), preferences,

and relative, participating, optional or other special rights, and

qualifications, limitations or restrictions

thereof. The rights of the holders of the common stock will generally

be subject to the rights of the holders

of any existing outstanding shares of preferred stock with respect

to dividends, liquidation preferences and

other matters.

As of the date hereof, the Company has no outstanding shares

of preferred stock.

Anti-takeover Effects

Certain provisions of the Charter and Bylaws could make a merger,

tender offer or proxy contest more

difficult, even if such events were perceived by many of shareholders

as beneficial to their interests. These

provisions include (1) requiring, under certain circumstances,

that a “Business Combination” (as defined in

the Charter) be approved by (i) holders of at least 80% of the

outstanding shares entitled to vote, and (ii) by

a majority of shares held by persons other than “Related Persons”

(as defined in the Charter), (2)

prohibiting shareholders from removing directors without cause, and,

in order to remove a director for

cause, requiring approval of (i) at least 80% of the outstanding shares

entitled to vote and (ii) a majority of

shares held by persons other than “Related Persons,” (3) advance notice

for nominations of directors and

shareholders’ proposals, and (4) authority to issue “blank check”

preferred stock with such designations,

rights and preferences as may be determined from time to time by the

board of directors. In addition, as a

Delaware corporation, the Company is subject to Section 203

of the Delaware General Corporation Law

which, in general, prevents an “interested shareholder,”

defined generally as a person owning 15% or more

of a corporation’s outstanding voting

stock, from engaging in a business combination with the corporation

for three years following the date that person became an interested

shareholder unless certain specified

conditions are satisfied.

Restrictions on Ownership

The ability of a third party to acquire the Company is limited under

applicable U.S. banking laws and

regulations. The Bank Holding Company Act, or BHC Act, requires

any bank holding company to obtain

Federal Reserve approval prior to acquiring, directly or indirectly,

5% or more of any class of voting

securities of the bank holding company.

Any “company” (as defined in the BHC Act) other than a bank

holding company would be required to obtain Federal Reserve approval

before acquiring “control” of a

bank holding company. “Control”

generally means (i) the ownership or control of 25% or more

of a class

of voting securities, (ii) the ability to elect a majority of the directors

or (iii) the ability otherwise to

exercise a controlling influence over management and policies. A holder

of 25% or more of the outstanding

common stock of a bank holding company,

other than an individual, is subject to regulation and

supervision as a bank holding company under the BHC Act. On

January 30, 2020, the Federal Reserve

adopted new rules, effective September 30,

2020 simplifying determinations of control of banking

organizations for BHC Act purposes.

In addition, under the Change in Bank Control Act of 1978,

as amended, and the Federal Reserve’s

regulations thereunder, any person, either individually

or acting through or in concert with one or more

persons, is required to provide notice to the Federal Reserve prior

to acquiring, directly or indirectly,

10%

or more of the outstanding voting securities of a bank holding company,

and receive nonobjection from the

Federal Reserve.

EX-21.1

AUBURN NATIONAL

BANCORPORATION,

INC. AND SUBSIDIARIES

EXHIBIT 21.1 - SUBSIDIARIES

DIRECT SUBSIDIARIES

JURISDICTION OF INCORPORATION

AuburnBank

Alabama

INDIRECT SUBSIDIARIES

Banc of Auburn, Inc.

Alabama

Auburn Mortgage Corporation

Alabama

EX-31.1

AUBURN NATIONAL

BANCORPORATION,

INC AND SUBSIDIARIES

EXHIBIT 31.1

CERTIFICATION

PURSUANT TO

RULE 13a-14 OF THE SECURITIES EXCHANGE ACT

OF 1934,

AS ADOPTED PURSUANT TO

SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

CERTIFICATION

I, Robert W.

Dumas, certify that:

I have reviewed this Annual Report on Form 10-K of Auburn National

Bancorporation, Inc.;

Based on my knowledge, this report does not contain any untrue

statement of a material fact or omit to state a

material fact necessary to make the statements made, in light of

the circumstances under which such statements were

made, not misleading with respect to the period covered by this report;

Based on my knowledge, the financial statements, and other

financial information included in this report, fairly

present in all material respects the financial condition, results of

operations and cash flows of the registrant as of,

and for, the periods presented in this report;

The registrant’s other certifying officer

and I are responsible for establishing and maintaining disclosure

controls

and procedures (as defined in Exchange Act Rules 13a-15(e)

and 15d-15(e)) and internal control over financial

reporting (as defined in Exchange Act Rules 13a-15(f) and 15d

-15(f)) for the registrant and have:

Designed such disclosure controls and procedures, or

caused such disclosure controls and procedures

to be

designed under our supervision, to ensure that material information relating

to the registrant, including its

consolidated subsidiaries, is made known to us by others within those entities,

particularly during the

period in which this report is being prepared;

Designed such internal control over financial reporting, or

caused such internal control over financial

reporting to be designed under our supervision, to provide reasonable

assurance regarding the reliability of

financial reporting and the preparation of financial statements

for external purposes in accordance with

generally accepted accounting principles;

Evaluated the effectiveness of the registrant’s

disclosure controls and procedures and presented in this

report our conclusions about the effectiveness of the disclosure

controls and procedures, as of the end of

the period covered by this report based on such evaluation; and

Disclosed in this report any change in the registrant’s

internal control over financial reporting that occurred

during the registrant’s most recent fiscal

quarter (the registrant’s fourth

fiscal quarter in the case of an

annual report) that has materially affected, or is reasonably

likely to materially affect, the registrant’s

internal control over financial reporting; and

The registrant’s other certifying officer

and I have disclosed, based on our most recent evaluation of internal

control over financial reporting, to the registrant’s

auditors and the audit committee of the registrant’s

board of

directors (or persons performing the equivalent functions):

All significant deficiencies and material weaknesses in the design or

operation of internal control over

financial reporting which are reasonably likely to adversely affect

the registrant’s ability to

record, process,

summarize and report financial information; and

Any fraud, whether or not material, that involves management

or other employees who have a significant

role in the registrant’s internal

control over financial reporting.

Date: March 9, 2021

/s/ Robert W.

Dumas

Chairman, President and CEO

EX-31.2

AUBURN NATIONAL

BANCORPORATION,

INC AND SUBSIDIARIES

EXHIBIT 31.2

CERTIFICATION

PURSUANT TO

RULE 13a-14 OF THE SECURITIES EXCHANGE ACT

OF 1934,

AS ADOPTED PURSUANT TO

SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

CERTIFICATION

I, David A. Hedges, certify that:

I have reviewed this Annual Report on Form 10-K of Auburn Natio

nal Bancorporation, Inc.;

Based on my knowledge, this report does not contain any untrue

statement of a material fact or omit to state a

material fact necessary to make the statements made, in light of

the circumstances under which such statements were

made, not misleading with respect to the period covered by this report;

Based on my knowledge, the

financial statements, and other financial information included

in this report, fairly

present in all material respects the financial condition, results of

operations and cash flows of the registrant as of,

and for, the periods presented in this report;

The registrant’s other certifying officer

and I are responsible for establishing and maintaining disclosure

controls

and procedures (as defined in Exchange Act Rules 13a-15(e)

and 15d-15(e)) and internal control over financial

reporting (as defined in Exchange Act Rules 13a-15(f) and 15d

-15(f)) for the registrant and have:

Designed such disclosure controls and procedures, or

caused such disclosure controls and procedures to be

designed under our supervision, to ensure that material information relating

to the registrant, including its

consolidated subsidiaries, is made known to us by others within those entities,

particularly during the

period in which this report is being prepared;

Designed such internal control over financial reporting, or

caused such internal control over financial

reporting to be designed under our supervision, to provide reasonable

assurance regarding the reliability of

financial reporting and the preparation of financial statements

for external purposes in accordance with

generally accepted accounting principles;

Evaluated the effectiveness of the registrant’s

disclosure controls and procedures and presented in this

report our conclusions about the effectiveness of the disclosure

controls and procedures, as of the end of

the period covered by this report based on such evaluation; and

Disclosed in this report any change in the registrant’s

internal control over financial reporting that occurred

during the registrant’s most recent fiscal

quarter (the registrant’s fourth

fiscal quarter in the case of an

annual report) that has materially affected, or is reasonably

likely to materially affect, the registrant’s

internal control over financial reporting; and

The registrant’s other certifying officer

and I have disclosed, based on our most recent evaluation

of internal

control over financial reporting, to the registrant’s

auditors and the audit committee of the registrant’s

board of

directors (or persons performing the equivalent functions):

All significant deficiencies and material weaknesses in the design or

operation of internal control over

financial reporting which are reasonably likely to adversely affect

the registrant’s ability to

record, process,

summarize and report financial information; and

Any fraud, whether or not material, that involves management

or other employees who have a significant

role in the registrant’s internal

control over financial reporting.

Date: March 9, 2021

/s/ David A. Hedges

EVP,

Chief Financial Officer

EX-32.1

AUBURN NATIONAL

BANCORPORATION,

INC AND SUBSIDIARIES

EXHIBIT 32.1

CERTIFICATION

PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report of Auburn National Bancorporation,

Inc. (the “Company”) on

Form 10-K for the period ending December 31, 2020,

as filed with the Securities and Exchange

Commission as of the date hereof (the “Report”), I, Robert

Dumas, President and Chief Executive

Officer, certify,

pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906

of the Sarbanes-Oxley Act of

2002, that:

(1)

The Report fully complies with the requirements of Section 13(a)

or 15(d) of the Securities

Exchange Act of 1934; and

(2)

The information contained in the Report fairly presents, in all material

respects, the financial

condition and results of operations of the Company.

Date: March 9, 2021

/s/ Robert

Dumas

Robert W.

Dumas

Chairman, President and CEO

EX-32.2

AUBURN NATIONAL

BANCORPORATION,

INC AND SUBSIDIARIES

EXHIBIT 32.2

CERTIFICATION

PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report of Auburn National Bancorporation,

Inc. (the “Company”) on

Form 10-K for the period ending December 31, 2020, as filed

with the Securities and Exchange

Commission as of the date hereof (the “Report”), I, David A.

Hedges, Executive Vice President,

Chief

Financial Officer,

certify, pursuant to 18

U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-

Oxley Act of 2002, that:

(1)

The Report fully complies with the requirements of Section 13(a)

or 15(d) of the Securities

Exchange Act of 1934; and

(2)

The information contained in the Report fairly presents, in all material

respects, the financial

condition and results of operations of the Company.

Date:

March 9, 2021

/s/ David A. Hedges

David A. Hedges

EVP,

Chief Financial Officer