10-Q
Farmers & Merchants Bancshares, Inc. (FMFG)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
| ☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
|---|---|
| For quarterly period ended June 30, 2022 | |
| --- | |
| ☐ | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT |
| --- | --- |
| For the transition period from _______________ to ________________ | |
| --- |
Commission file number 000-55756
Farmers and Merchants Bancshares, Inc.
(Exact name of registrant as specified in its charter)
| Maryland | 81-3605835 |
|---|---|
| (State or other jurisdiction of | (I. R. S. Employer Identification No.) |
| incorporation or organization) |
4510 Lower Beckleysville Road, Suite H, Hampstead, Maryland 21074
(Address of principal executive offices) (Zip Code)
(410) 374-1510
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None.
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 periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐
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 ☑ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer”, “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act:
| 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 elected 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. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☑
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 3,053,487 as of August 12, 2022.
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Table of Contents
| Page | |
|---|---|
| PART I – FINANCIAL INFORMATION | 3 |
| Item 1. Financial Statements | 3 |
| Consolidated balance sheets at June 30, 2022 (unaudited) and December 31, 2021 | 3 |
| Consolidated statements of income (unaudited) for the three and six months ended June 30, 2022 and 2021 | 4 |
| Consolidated statements of comprehensive income (loss) (unaudited) for the three and six months ended June 30, 2022 and 2021 | 5 |
| Consolidated statements of changes in stockholders’ equity (unaudited) for the three and six months ended June 30, 2022 and 2021 | 6 |
| Consolidated statements of cash flows (unaudited) for the six months ended June 30, 2022 and 2021 | 7 |
| Notes to financial statements (unaudited) | 9 |
| Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations | 30 |
| Item 3. Quantitative and Qualitative Disclosures About Market Risk | 42 |
| Item 4. Controls and Procedures | 42 |
| PART II – OTHER INFORMATION | 43 |
| Item 1. Legal Proceedings | 43 |
| Item 1A. Risk Factors | 43 |
| Item 2. Unregistered Sales of Equity Securities and Use of Proceeds | 43 |
| Item 3. Defaults upon Senior Securities | 43 |
| Item 4. Mine Safety Disclosures | 43 |
| Item 5. Other Information | 43 |
| Item 6. Exhibits | 43 |
| SIGNATURES | 44 |
2
PART I – FINANCIAL INFORMATION
Item 1 – Financial Statements
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Balance Sheets
| December 31, | |||||
|---|---|---|---|---|---|
| 2021 | |||||
| Assets | |||||
| Cash and due from banks | 17,626,699 | $ | 25,258,932 | ||
| Federal funds sold and other interest-bearing deposits | 764,765 | 1,203,174 | |||
| Cash and cash equivalents | 18,391,464 | 26,462,106 | |||
| Certificates of deposit in other banks | 100,000 | 350,000 | |||
| Securities available for sale, at fair value | 138,203,495 | 149,237,916 | |||
| Securities held to maturity, at cost | 20,551,611 | 21,851,975 | |||
| Equity security at fair value | 501,662 | 543,605 | |||
| Restricted stock, at cost | 695,000 | 675,400 | |||
| Mortgage loans held for sale | - | 126,500 | |||
| Loans, less allowance for loan losses of 3,648,128 and 3,650,268 | 491,076,252 | 482,011,334 | |||
| Premises and equipment, net | 6,224,363 | 6,259,421 | |||
| Accrued interest receivable | 1,587,370 | 1,609,063 | |||
| Deferred income taxes, net | 6,707,600 | 2,177,450 | |||
| Other real estate owned, net | 1,242,365 | 1,242,365 | |||
| Bank owned life insurance | 11,665,419 | 11,556,163 | |||
| Goodwill and other intangibles, net | 7,046,916 | 7,051,080 | |||
| Other assets | 5,762,923 | 5,522,877 | |||
| 709,756,440 | $ | 716,677,255 | |||
| Liabilities and Stockholders' Equity | |||||
| Deposits | |||||
| Noninterest-bearing | 135,196,047 | $ | 124,175,615 | ||
| Interest-bearing | 494,276,250 | 502,239,055 | |||
| Total deposits | 629,472,297 | 626,414,670 | |||
| Securities sold under repurchase agreements | 5,649,445 | 5,414,026 | |||
| Federal Home Loan Bank of Atlanta advances | 5,000,000 | 5,000,000 | |||
| Long-term debt, net of issuance costs | 16,037,274 | 16,978,905 | |||
| Accrued interest payable | 268,749 | 295,910 | |||
| Other liabilities | 5,139,695 | 5,952,286 | |||
| 661,567,460 | 660,055,797 | ||||
| Stockholders' equity | |||||
| Common stock, par value .01 per share, authorized 5,000,000 shares; issued and outstanding 3,053,487 in 2022 and 3,037,137 in 2021 | 30,535 | 30,372 | |||
| Additional paid-in capital | 29,197,475 | 28,857,422 | |||
| Retained earnings | 32,288,555 | 29,128,600 | |||
| Accumulated other comprehensive loss | (13,327,585 | ) | (1,394,936 | ) | |
| 48,188,980 | 56,621,458 | ||||
| 709,756,440 | $ | 716,677,255 |
All values are in US Dollars.
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements .
3
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Statements of Income
(Unaudited)
| Three months ended | Six months ended | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| June 30, | June 30, | |||||||||||
| 2022 | 2021 | 2022 | 2021 | |||||||||
| Interest income | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Loans, including fees | $ | 5,370,350 | $ | 5,783,660 | $ | 11,053,712 | $ | 11,768,317 | ||||
| Investment securities - taxable | 742,087 | 329,731 | 1,386,548 | 540,955 | ||||||||
| Investment securities - tax exempt | 140,823 | 152,412 | 290,310 | 312,986 | ||||||||
| Federal funds sold and other interest earning assets | 21,887 | 15,308 | 34,302 | 29,445 | ||||||||
| Total interest income | 6,275,147 | 6,281,111 | 12,764,872 | 12,651,703 | ||||||||
| Interest expense | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Deposits | 319,204 | 533,437 | 657,764 | 1,128,957 | ||||||||
| Securities sold under repurchase agreements | 2,433 | 14,972 | 5,684 | 28,483 | ||||||||
| Federal Home Loan Bank advances and long-term debt | 181,325 | 190,181 | 365,150 | 378,287 | ||||||||
| Total interest expense | 502,962 | 738,590 | 1,028,598 | 1,535,727 | ||||||||
| Net interest income | 5,772,185 | 5,542,521 | 11,736,274 | 11,115,976 | ||||||||
| Provision for (recovery of) loan losses | - | (20,000 | ) | - | 100,000 | |||||||
| Net interest income after provision for (recovery of) loan losses | 5,772,185 | 5,562,521 | 11,736,274 | 11,015,976 | ||||||||
| Noninterest income | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Service charges on deposit accounts | 191,727 | 176,483 | 373,193 | 335,674 | ||||||||
| Mortgage banking income | 64,986 | 240,666 | 187,674 | 496,933 | ||||||||
| Bank owned life insurance income | 56,266 | 82,922 | 109,256 | 153,041 | ||||||||
| Fair value adjustment on equity security | (18,096 | ) | 511 | (44,913 | ) | (8,158 | ) | |||||
| Gain on sale of SBA loans | 64,523 | - | 158,123 | - | ||||||||
| Gain on premium call of debt security | - | - | - | 8,569 | ||||||||
| Other fees and commissions | 82,235 | 47,974 | 154,115 | 119,442 | ||||||||
| Total noninterest income | 441,641 | 548,556 | 937,448 | 1,105,501 | ||||||||
| Noninterest expense | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Salaries | 1,928,257 | 1,844,736 | 3,668,652 | 3,471,074 | ||||||||
| Employee benefits | 437,615 | 438,133 | 949,407 | 911,021 | ||||||||
| Occupancy | 213,238 | 245,318 | 441,665 | 495,530 | ||||||||
| Furniture and equipment | 224,593 | 183,689 | 439,208 | 380,372 | ||||||||
| Other | 764,883 | 797,257 | 1,869,252 | 1,646,260 | ||||||||
| Total noninterest expense | 3,568,586 | 3,509,133 | 7,368,184 | 6,904,257 | ||||||||
| Income before income taxes | 2,645,240 | 2,601,944 | 5,305,538 | 5,217,220 | ||||||||
| Income taxes | 594,507 | 569,725 | 1,204,003 | 1,155,426 | ||||||||
| Net income | $ | 2,050,733 | $ | 2,032,219 | $ | 4,101,535 | $ | 4,061,794 | ||||
| Earnings per share - basic and diluted | $ | 0.67 | $ | 0.67 | $ | 1.35 | $ | 1.35 |
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements .
4
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)
| Three Months Ended | Six Months Ended | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| June 30, | June 30, | |||||||||||
| 2022 | 2021 | 2022 | 2021 | |||||||||
| Net income | $ | 2,050,733 | $ | 2,032,219 | $ | 4,101,535 | $ | 4,061,794 | ||||
| Other comprehensive loss, net of income taxes: | ||||||||||||
| Securities available for sale | ||||||||||||
| Net unrealized loss arising during the period | (7,542,338 | ) | (207,421 | ) | (16,462,801 | ) | (1,106,751 | ) | ||||
| Reclassification adjustment for realized gains and losses included in net income | - | - | - | 8,569 | ||||||||
| Total unrealized loss on investment securities available for sale | (7,542,338 | ) | (207,421 | ) | (16,462,801 | ) | (1,098,182 | ) | ||||
| Income tax benefit | (2,075,462 | ) | (57,077 | ) | (4,530,152 | ) | (302,192 | ) | ||||
| Total other comprehensive loss | (5,466,876 | ) | (150,344 | ) | (11,932,649 | ) | (795,990 | ) | ||||
| Total comprehensive (loss) income | $ | (3,416,143 | ) | $ | 1,881,875 | $ | (7,831,114 | ) | $ | 3,265,804 |
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements .
5
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity
Three and six months Ended June 30, 2022 and 2021
(Unaudited)
| Additional | Accumulated other | Total | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| paid-in | Retained | comprehensive | stockholders' | |||||||||||
| Par value | capital | earnings | income (loss) | equity | ||||||||||
| Three months ended June 30, 2021 | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Balance, March 31, 2021 | 3,011,255 | $ | 30,113 | $ | 28,294,139 | $ | 24,728,529 | $ | 60,631 | $ | 53,113,412 | |||
| Net income | - | - | - | 2,032,219 | - | 2,032,219 | ||||||||
| Other comprehensive loss | - | - | - | - | (150,344 | ) | (150,344 | ) | ||||||
| Cash dividends, 0.28 per share | - | - | - | (843,177 | ) | - | (843,177 | ) | ||||||
| Dividends reinvested | 12,232 | 122 | 263,110 | - | - | 263,232 | ||||||||
| Balance, June 30, 2021 | 3,023,487 | $ | 30,235 | $ | 28,557,249 | $ | 25,917,571 | $ | (89,713 | ) | $ | 54,415,342 | ||
| Six months ended June 30, 2021 | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Balance, December 31, 2020 | 3,011,255 | $ | 30,113 | $ | 28,294,139 | $ | 22,698,954 | $ | 706,277 | $ | 51,729,483 | |||
| Net income | - | - | - | 4,061,794 | - | 4,061,794 | ||||||||
| Other comprehensive loss | - | - | - | - | (795,990 | ) | (795,990 | ) | ||||||
| Cash dividends, 0.28 per share | - | - | - | (843,177 | ) | - | (843,177 | ) | ||||||
| Dividends reinvested | 12,232 | 122 | 263,110 | - | - | 263,232 | ||||||||
| Balance, June 30, 2021 | 3,023,487 | $ | 30,235 | $ | 28,557,249 | $ | 25,917,571 | $ | (89,713 | ) | $ | 54,415,342 | ||
| Three months ended June 30, 2022 | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Balance, March 31, 2022 | 3,037,137 | $ | 30,372 | $ | 28,857,422 | $ | 31,179,402 | $ | (7,860,709 | ) | $ | 52,206,487 | ||
| Net income | - | - | - | 2,050,733 | - | 2,050,733 | ||||||||
| Other comprehensive loss | - | - | - | - | (5,466,876 | ) | (5,466,876 | ) | ||||||
| Cash dividends, 0.31 per share | - | - | - | (941,580 | ) | - | (941,580 | ) | ||||||
| Dividends reinvested | 16,350 | 163 | 340,053 | - | - | 340,216 | ||||||||
| Balance, June 30, 2022 | 3,053,487 | $ | 30,535 | $ | 29,197,475 | $ | 32,288,555 | $ | (13,327,585 | ) | $ | 48,188,980 | ||
| Six months ended June 30, 2022 | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** | **** |
| Balance, December 31, 2021 | 3,037,137 | $ | 30,372 | $ | 28,857,422 | $ | 29,128,600 | $ | (1,394,936 | ) | $ | 56,621,458 | ||
| Net income | - | - | - | 4,101,535 | - | 4,101,535 | ||||||||
| Other comprehensive loss | - | - | - | - | (11,932,649 | ) | (11,932,649 | ) | ||||||
| Cash dividends, 0.31 per share | - | - | - | (941,580 | ) | - | (941,580 | ) | ||||||
| Dividends reinvested | 16,350 | 163 | 340,053 | - | - | 340,216 | ||||||||
| Balance, June 30, 2022 | 3,053,487 | $ | 30,535 | $ | 29,197,475 | $ | 32,288,555 | $ | (13,327,585 | ) | $ | 48,188,980 |
All values are in US Dollars.
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements
6
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
| Six Months Ended June 30, | 2022 | 2021 | ||||
|---|---|---|---|---|---|---|
| Reconciliation of net income to net cash provided by operating activities | **** | **** | **** | **** | **** | **** |
| Net income | $ | 4,101,535 | $ | 4,061,794 | ||
| Adjustments to reconcile net income to net cash provided by operating activities | ||||||
| Depreciation and amortization | 232,905 | 241,912 | ||||
| Provision for loan losses | - | 100,000 | ||||
| Amortization of right of use asset | 3,567 | 15,475 | ||||
| Equity security dividends reinvested | (2,970 | ) | (3,506 | ) | ||
| Fair value adjustment on equity security | 44,913 | 8,158 | ||||
| Gain on sale of SBA loans | (158,123 | ) | - | |||
| Gain on sale of premises and equipment | - | (37,613 | ) | |||
| Gain on premium call of debt security | - | (8,569 | ) | |||
| Amortization of debt issuance costs | 2,812 | 2,813 | ||||
| Amortization of premiums and accretion of discounts, net | (217,364 | ) | 130,805 | |||
| Bank owned life insurance cash surrender value | (109,256 | ) | (153,041 | ) | ||
| Increase (decrease) in | ||||||
| Deferred loan fees and costs, net | (154,672 | ) | 275,916 | |||
| Accrued interest payable | (27,161 | ) | (254,842 | ) | ||
| Other liabilities | (741,433 | ) | 133,891 | |||
| Decrease (increase) in | ||||||
| Mortgage loans held for sale | 126,500 | 355,530 | ||||
| Accrued interest receivable | 21,693 | 279,524 | ||||
| Other assets | (332,782 | ) | 335,427 | |||
| Net cash provided by operating activities | 2,790,164 | 5,483,674 |
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements
7
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
| Six Months Ended June 30, | 2022 | 2021 | ||||
|---|---|---|---|---|---|---|
| Cash flows from investing activities | **** | **** | **** | **** | **** | **** |
| Proceeds from maturity and call of securities | ||||||
| Available for sale | 12,541,788 | 17,250,486 | ||||
| Held to maturity | 1,355,000 | 2,078,569 | ||||
| Purchase of securities | ||||||
| Available for sale | (18,235,716 | ) | (62,471,145 | ) | ||
| Held to maturity | - | (342,062 | ) | |||
| Purchases of certificates of deposit | 250,000 | 500,000 | ||||
| Loans made to customers, net of principal collected | (9,657,312 | ) | 3,981,211 | |||
| Proceeds from sale of SBA loans | 1,250,154 | - | ||||
| Redemption (purchase) of stock in FHLB of Atlanta | (19,600 | ) | 225,331 | |||
| Purchase of bank owned life insurance | - | (3,700,000 | ) | |||
| Proceeds from sale of premises and equipment | - | 1,359,613 | ||||
| Purchases of premises, equipment and software | (179,836 | ) | (113,873 | ) | ||
| Net cash used in investing activities | (12,695,522 | ) | (41,231,870 | ) | ||
| Cash flows from financing activities | **** | **** | **** | **** | **** | **** |
| Net increase (decrease) in | ||||||
| Noninterest-bearing deposits | 11,020,432 | 23,557,714 | ||||
| Interest-bearing deposits | (7,875,328 | ) | 15,318,315 | |||
| Securities sold under repurchase agreements | 235,419 | (11,067,408 | ) | |||
| Long-term debt principal payments | (944,443 | ) | - | |||
| Dividends paid , net of reinvestments | (601,364 | ) | (579,945 | ) | ||
| Net cash provided by financing activities | 1,834,716 | 27,228,676 | ||||
| Net decrease in cash and cash equivalents | (8,070,642 | ) | (8,519,520 | ) | ||
| Cash and cash equivalents at beginning of period | 26,462,106 | 40,975,670 | ||||
| Cash and cash equivalents at end of period | $ | 18,391,464 | $ | 32,456,150 | ||
| Supplementary disclosure of cash flow information: | ||||||
| Cash paid during the period for interest | $ | 1,136,260 | $ | 6,385,841 | ||
| Cash paid during the period for income taxes | 1,906,122 | 650,000 | ||||
| Net unrealized loss on securities available for sale | (16,462,801 | ) | (1,098,182 | ) |
The accompanying notes to consolidated financial statements are an integral part of these consolidated financial statements
8
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
| 1. | Principles of consolidation |
|---|
The consolidated financial statements include the accounts of Farmers and Merchants Bancshares, Inc. and its wholly owned subsidiaries, Farmers and Merchants Bank (the “Bank”), and Series Protected Cell FCB-4 (the “Insurance Subsidiary”), and one subsidiary of the Bank, Reliable Community Financial Services, Inc. (collectively the “Company”, “we”, “us”, or “our”). The Insurance Subsidiary constitutes an investment by Farmers and Merchants Bancshares, Inc. in 100% of a series of membership interests issued by First Community Bankers Insurance Co., LLC, a Tennessee “series” limited liability company and licensed property and casualty insurance company. Intercompany balances and transactions, including the insurance premium paid by the Bank to the Insurance Subsidiary through an intermediary, have been eliminated.
| 2. | Basis of Presentation |
|---|
The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and in accordance with the instructions to Form 10-Q and Rule 8-03 of Regulation S-X. Accordingly, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America (“GAAP”) for complete financial statements. In the opinion of management, all adjustments necessary for a fair presentation of the results of operations for the interim periods have been made. Such adjustments were normal and recurring in nature. The results of operations for the three- and six- month periods ended June 30, 2022 do not necessarily reflect the results that may be expected for the fiscal year ending December 31, 2022 or any future interim period. The consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes for the year ended December 31, 2021, which are included in Farmers and Merchants Bancshares, Inc.’s Annual Report on Form 10-K for the year ended December 31, 2021 that was filed with the Securities and Exchange Commission (the “SEC”).
Summary of Significant Accounting Policies
The accounting and reporting policies reflected in the financial statements conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. Management makes estimates and assumptions that affect the reported amounts of assets, liabilities, and disclosures of commitments and contingent liabilities at the balance sheet date, and revenues and expenses during the year. These estimates and assumptions may affect the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.
Loans and allowance for loan losses
Loans are stated at the current amount of unpaid principal, adjusted for deferred origination costs, deferred origination fees, premiums and discounts on acquired loans, and the allowance for loan losses. Interest on loans is accrued based on the principal amounts outstanding. Origination fees and costs, along with premiums and accretable discounts, are amortized to income over the terms of loans.
9
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 2. | Basis of Presentation (continued) |
|---|
Past due status is based on the contractual terms of the loan. Management may make an exception to reporting a loan as past due if the past due status is due solely to the loan being past maturity, the Company intends to extend the loan, and the borrower is making principal and interest payments in accordance with the terms of the matured note. The accrual of interest is discontinued when any portion of the principal or interest is 90 days past due and collateral is insufficient to discharge the debt in full. If collection of principal is evaluated as doubtful, then all payments are applied to principal. Loans are considered impaired when, based on current information, management considers it unlikely that the collection of principal and interest payments will be made according to contractual terms. Generally, loans are not reviewed for impairment until the accrual of interest has been discontinued, the loans are included on the watch list, or the loans are troubled debt restructurings (“TDRs”).
The allowance for loan losses represents an amount which, in management’s judgment, will be adequate to absorb probable and estimable losses on existing loans and other extensions of credit that may become uncollectible. The Company’s allowance for loan losses consists of three elements: (i) segregating the loan portfolio into pools based upon similar characteristics and risk profiles and applying a loss factor to the pools, based on historical losses within those pools; (ii) applying qualitative factors to the loan pools that consider economic and other factors, both internal and external, affecting the Company and the pools; and (iii) determining specific reserves based on individual evaluation of impaired loans that are not included in the pools discussed above.
The allowances established for probable losses on impaired loans are based on a regular analysis and evaluation of problem loans. Management maintains a watch list of problem loans. Loans are classified based on an internal credit risk grading process that evaluates, among other things: (i) the borrower’s ability to repay; (ii) the underlying collateral, if any; (iii) the economic environment; and (iv) for commercial borrowers, the industry in which the borrower operates. Specific valuation allowances are determined when the collateral value, if the loan is collateral dependent, or the discounted cash flows of the impaired loan is lower than the carrying value.
Historical valuation allowances are calculated based on the historical loss experience of specific types of loans. The Company calculates historical loss ratios for pools of similar loans with similar characteristics based on the proportion of actual charge-offs experienced to the total population of loans in the pool over the prior twenty quarters. The historical loss ratios are updated quarterly based on actual charge-off experience. A historical valuation allowance is established for each pool of similar loans based upon the product of the annual historical loss ratio and the total dollar amount of the loans in the pool.
Adjustments to the historical valuation allowances are based on general economic conditions and other qualitative risk factors both internal and external to the Company. In general, such adjustments are determined by evaluating, among other things: (i) the impact of economic conditions on the portfolio; (ii) changes in asset quality, including delinquency trends; (iii) the impact of changing interest rates on portfolio risk; (iv) changes in legislative and regulatory policy; (v) the composition and concentrations of credit; and (vi) the effectiveness of the internal loan review function as well as changes to policies and experience of loan personnel. Management evaluates these qualitative factors on a quarterly basis. Each factor could result in an adjustment that is positive, negative, or no impact.
Loan losses are charged to the allowance when management believes that collection is unlikely. Collections of loans previously charged off are added to the allowance at the time of recovery.
10
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 2. | Basis of Presentation (continued) |
|---|
Loans acquired in connection with business combinations are recorded at fair value with no carryover of any allowance for loan losses. Fair value of the loans involves estimating the amount and timing of principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest.
Loans acquired through business combinations that meet the specific criteria of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 310-30 designated as purchase credit impaired loans are individually evaluated each period to analyze expected cash flows. To the extent that the expected cash flows of a loan have decreased due to credit deterioration, the Company establishes an allowance.
The excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable discount and is recognized into interest income over the remaining life of the loan. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the nonaccretable discount. These loans are accounted for under ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. The nonaccretable discount includes estimated future credit losses expected to be incurred over the life of the loan. Subsequent decreases in expected cash flows will require us to evaluate the need for an addition to the allowance for loan losses. Subsequent improvement in expected cash flows will result in the transfer of a corresponding amount of the nonaccretable discount, which we will then reclassify as accretable discount to be recognized into interest income over the remaining life of the loan.
Loans acquired through business combinations that do not meet the specific criteria of ASC 310-30 are accounted for under ASC 310-20, Receivables - Nonrefundable Fees and Other Costs. These loans are initially recorded at fair value, and include credit and interest rate marks associated with acquisition accounting adjustments. Purchase premiums or discounts are subsequently amortized as an adjustment to yield over the estimated contractual lives of the loans. There is no allowance for loan losses established at the acquisition date for acquired performing loans. Subsequent to acquisition, a quarterly comparison of the remaining fair value discount to the required allowance under appropriate methodology is performed. If the fair value discount remains in excess of the required allowance, then no adjustment is made. If the fair value falls below the required reserve, then a charge to the provision is recorded for the shortfall as part of the allowance for loan losses.
Goodwill and other intangible assets
Goodwill is calculated as the purchase premium, if any, after adjusting for the fair value of net assets acquired in purchase transactions. Goodwill is not amortized but is reviewed for potential impairment on at least an annual basis, with testing between annual tests if an event occurs or circumstances change that could potentially reduce the fair value of a reporting unit. Other intangible assets represent purchased assets that can be distinguished from goodwill because of contractual or other legal rights. The Company’s other intangible asset, the core deposit intangible (“CDI”), has a finite life and is amortized over 10 years on a straight line basis.
11
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 2. | Basis of Presentation (continued) |
|---|
Recent Accounting Pronouncements
In June 2016, FASB issued Accounting Standards Update (“ASU”) 2016‑13, “Financial Instruments – Credit Losses”. The ASU sets forth a “current expected credit loss” (CECL) model that requires the Company to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions, and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. ASU 2019-10 “Financial Instruments – Credit Losses (Topic 326), Derivatives and hedging (Topic 815), and Leases (Topic 842): Effective Dates” extended the implementation date to January 1, 2023 for SEC-registered smaller reporting companies and private companies. The Company is a smaller reporting company. The Company has engaged a third-party vendor to assist in the implementation of this ASU. The CECL model is being run parallel with the current calculation of the allowance for loan losses during 2022. The detailed loan data was successfully uploaded to the new model for both March 31, and June 30, 2022. Loan categories have been finalized and qualitative factors are being fine-tuned. Several members of the Company’s senior management and credit administration teams are participating in the implementation.
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 843)”: Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU Provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effect of) reference rate reform, on financial reporting. The risk of termination of the London Interbank Offered Rate (LIBOR), has caused regulators to undertake reference rate reform initiatives to identify alternative reference rates that are more observable or transaction based that are less susceptible to manipulation. ASU 2020-04 is effective between March 12, 2020 and December 31, 2022. The Company has identified its products that utilize LIBOR and has begun efforts to transition to the Secured Overnight Financing Rate in 2023. Borrowers have been notified of the pending change.
In March 2022, the FASB issued Accounting Standards Update (ASU) No. 2022-02, “Financial Instruments-Credit Losses (Topic 326), Troubled Debt Restructurings and Vintage Disclosures.” ASU 2022-02 addresses areas identified by the FASB as part of its post-implementation review of the credit losses standard (ASU 2016-13) that introduced the CECL model. The amendments eliminate the accounting guidance for troubled debt restructurings by creditors that have adopted the CECL model and enhance the disclosure requirements for loan refinancings and restructurings made with borrowers experiencing financial difficulty. In addition, the amendments require a public business entity to disclose current-period gross write-offs for financing receivables and net investment in leases by year of origination in the vintage disclosures. The amendments in this ASU should be applied prospectively, except for the transition method related to the recognition and measurement of TDRs, an entity has the option to apply a modified retrospective transition method, resulting in a cumulative-effect adjustment to retained earnings in the period of adoption. For entities that have adopted ASU 2016-13, ASU 2022-02 is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. For entities that have not yet adopted ASU 2016-13, the effective dates for ASU 2022-02 are the same as the effective dates in ASU 2016-13. Early adoption is permitted if an entity has adopted ASU 2016-13. An entity may elect to early adopt the amendments about TDRs and related disclosure enhancements separately from the amendments related to vintage disclosures. The Company is currently assessing the impact that ASU 2022-02 will have on its consolidated financial statements.
The accounting policies adopted by management are consistent with authoritative GAAP and are consistent with those followed by our peers.
12
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 3. | Investment Securities |
|---|
Investments in debt securities are summarized as follows:
| Amortized | Unrealized | Unrealized | Fair | |||||
|---|---|---|---|---|---|---|---|---|
| June 30, 2022 | cost | gains | losses | value | ||||
| Available for sale | ****** | ****** | ****** | ****** | ****** | ****** | ****** | ****** |
| State and municipal | $ | 751,764 | $ | 43 | $ | 18,632 | $ | 733,175 |
| SBA pools | 1,191,690 | 2,166 | 17,666 | 1,176,190 | ||||
| Corporate bonds | 10,444,988 | - | 609,385 | 9,835,603 | ||||
| Mortgage-backed securities | 144,202,367 | 7,104 | 17,750,944 | 126,458,527 | ||||
| $ | 156,590,809 | $ | 9,313 | $ | 18,396,627 | $ | 138,203,495 | |
| Held to maturity | ****** | ****** | ****** | ****** | ****** | ****** | ****** | ****** |
| State and municipal | $ | 20,551,611 | $ | 7,744 | $ | 1,498,922 | $ | 19,060,433 |
| Amortized | Unrealized | Unrealized | Fair | |||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- |
| December 31, 2021 | cost | gains | losses | value | ||||
| Available for sale | ****** | ****** | ****** | ****** | ****** | ****** | ****** | ****** |
| State and municipal | $ | 753,061 | $ | 10,437 | $ | - | $ | 763,498 |
| SBA pools | 1,418,770 | 1,656 | 22,664 | 1,397,762 | ||||
| Corporate bonds | 9,225,153 | 64,595 | 55,541 | 9,234,207 | ||||
| Mortgage-backed securities | 139,765,445 | 336,084 | 2,259,080 | 137,842,449 | ||||
| $ | 151,162,429 | $ | 412,772 | $ | 2,337,285 | $ | 149,237,916 | |
| Held to maturity | ****** | ****** | ****** | ****** | ****** | ****** | ****** | ****** |
| State and municipal | $ | 21,851,975 | $ | 1,020,877 | $ | 67,251 | $ | 22,805,601 |
13
Farmers and Merchants Bancshares, Inc. and Subsidiaries ****
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 3. | Investment Securities (continued) |
|---|
Contractual maturities, shown below, will differ from actual maturities because borrowers and issuers may have the right to call or prepay obligations with or without call or prepayment penalties.
| Available for Sale | Held to Maturity | |||||||
|---|---|---|---|---|---|---|---|---|
| Amortized | Fair | Amortized | Fair | |||||
| June 30, 2022 | cost | value | cost | value | ||||
| Within one year | $ | 251,764 | $ | 250,058 | $ | 330,000 | $ | 330,360 |
| Over one to five years | 3,615,881 | 3,482,470 | 472,108 | 467,883 | ||||
| Over five to ten years | 7,329,107 | 6,836,250 | 1,790,571 | 1,728,475 | ||||
| Over ten years | - | - | 17,958,932 | 16,533,715 | ||||
| 11,196,752 | 10,568,778 | 20,551,611 | 19,060,433 | |||||
| Mortgage-backed securities and | ||||||||
| SBA pools, due in monthly installments | 145,394,057 | 127,634,717 | - | - | ||||
| $ | 156,590,809 | $ | 138,203,495 | $ | 20,551,611 | $ | 19,060,433 |
Securities with a carrying value of $14,912,572 and $14,307,989 as of June 30, 2022 and December 31, 2021, respectively, were pledged as collateral for government deposits and securities sold under repurchase agreements.
During the six months ended June 30, 2022, there were no sales of securities. During the six months ended June 30, 2021, the Company received proceeds of $513,845 from the call at a premium of available for sale investment securities. The Company realized an $8,569 gain on the call of the securities.
14
Farmers and Merchants Bancshares, Inc. and Subsidiaries ****
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 3. | Investment Securities (continued) |
|---|
The following table sets forth the Company’s gross unrealized losses on a continuous basis for investments in debt securities, by category and length of time, at June 30, 2022 and December 31, 2021.
| June 30, 2022 | Less than 12 months | 12 months or more | Total | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Description of investments | Fair Value | Unrealized<br> <br>Loss | Fair Value | Unrealized<br> <br>Loss | Fair Value | Unrealized<br> <br>Loss | ||||||
| State and municipal | $ | 13,544,577 | $ | 1,260,183 | $ | 851,323 | $ | 257,371 | $ | 14,395,900 | $ | 1,517,554 |
| SBA pools | - | - | 961,383 | 17,666 | 961,383 | 17,666 | ||||||
| Corporate bonds | 8,935,603 | 609,385 | - | - | 8,935,603 | 609,385 | ||||||
| Mortgage-backed securities | 99,086,398 | 12,780,048 | 24,732,347 | 4,970,896 | 123,818,745 | 17,750,944 | ||||||
| Total | $ | 121,566,578 | $ | 14,649,616 | $ | 26,545,053 | $ | 5,245,933 | $ | 148,111,631 | $ | 19,895,549 |
| December 31, 2021 | Less than 12 months | 12 months or more | Total | |||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| Unrealized | Unrealized | Unrealized | ||||||||||
| Description of investments | Fair value | losses | Fair value | losses | Fair value | losses | ||||||
| State and municipal | $ | 1,324,648 | $ | 35,720 | $ | 715,650 | $ | 31,531 | $ | 2,040,298 | $ | 67,251 |
| SBA pools | - | - | 1,133,398 | 22,664 | 1,133,398 | 22,664 | ||||||
| Corporate bonds | 5,443,886 | 55,541 | - | - | 5,443,886 | 55,541 | ||||||
| Mortgage-backed securities | 117,840,965 | 2,034,858 | 4,781,586 | 224,222 | 122,622,551 | 2,259,080 | ||||||
| Total | $ | 124,609,499 | $ | 2,126,119 | $ | 6,630,634 | $ | 278,417 | $ | 131,240,133 | $ | 2,404,536 |
Management has the ability and intent to hold securities classified as held to maturity until they mature, at which time the Company should receive full value for the securities. As of June 30, 2022 and December 31, 2021, management did not have the intent to sell any of the held to maturity or available for sale securities with unrealized losses before a recovery of cost. The unrealized losses detailed in the table above were due to increases in market interest rates over the yields available at the time the underlying securities were purchased as well as other market conditions for each particular security based upon the structure and remaining principal balance. The fair values of the debt securities are expected to recover as the securities approach their maturity dates or repricing dates or if market yields for such investments decline. Based on the foregoing factors, as of June 30, 2022 and December 31, 2021, management believes that these unrealized losses are temporary and, accordingly, they have not been recognized in the Company’s consolidated statements of income. At June 30, 2022, 174 available for sale securities and 34 held to maturity securities had unrealized losses.
At June 30, 2022, none of the available for sale securities or held to maturity securities were other-than-temporarily impaired. In determining whether other-than-temporary impairment exists, management considers many factors, including (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, and (iii) whether the Bank intends to sell the security, whether it is more likely than not that the Bank will be required to sell the security before recovery of its amortized cost basis, and whether the Bank expects to recover the security’s entire amortized cost basis. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans |
|---|
Major categories of loans are as follows:
| June 30, | December 31, | |||
|---|---|---|---|---|
| 2022 | 2021 | |||
| Real estate: | ||||
| Commercial | $ | 332,294,624 | $ | 319,185,116 |
| Construction and land development | 23,690,371 | 28,221,854 | ||
| Residential | 111,493,370 | 107,436,033 | ||
| Commercial | 27,613,645 | 31,182,206 | ||
| Consumer | 197,263 | 355,958 | ||
| 495,289,273 | 486,381,167 | |||
| Less: Allowance for loan losses | 3,648,128 | 3,650,268 | ||
| Deferred origination fees net of costs | 564,893 | 719,565 | ||
| $ | 491,076,252 | $ | 482,011,334 |
Commercial loans in the table above include $1.7 million and $9.7 million of Paycheck Protection Program (“PPP”) loans as of June 30, 2022 and December 31, 2021, respectively, which are 100% guaranteed by the Small Business Administration (“SBA”). $60 million were originated during 2021 and 2020 and we collected approximately $2,323,000 in fees from the SBA. A substantial portion of the remaining PPP loans in the Company’s portfolio are expected to be forgiven by the SBA. The fees, net of related origination costs, are being recognized as interest income over the term of the loans using the straight-line method, with accelerated recognition when the loan pays off before maturity through SBA forgiveness or other means. Income from PPP loans added approximately $159,000, net of taxes, for the six months ended June 30, 2022 compared to $507,000 for the same period in 2021. As of June 30, 2022, $36,000 of deferred PPP fees, net of income taxes, have not been recognized.
Nonaccrual loans, segregated by class of loans, were as follows:
| June 30, | December 31, | |||
|---|---|---|---|---|
| 2022 | 2021 | |||
| Commercial real estate | $ | 4,740,965 | $ | 4,810,965 |
| Residential real estate | 31,500 | 31,500 | ||
| Commercial | 152,449 | 152,449 | ||
| $ | 4,924,914 | $ | 4,994,914 |
At June 30, 2022, the Company had two nonaccrual commercial real estate loans totaling $4,740,965, one nonaccrual residential real estate loan totaling $31,500, and one nonaccrual commercial loan totaling $152,449. The loans were secured by real estate, business assets, and personal guarantees. Gross interest income of $129,027 would have been recorded for the six months ended June 30, 2022 had these nonaccrual loans been current and performing in accordance with their original terms. The Company allocated $281,910 of its allowance for loan losses to these nonaccrual loans. The recorded investment of the nonaccrual loans was net of charge-offs and a nonaccretable discount totaling $8,176 at June 30, 2022.
At December 31, 2021, the Company had two nonaccrual commercial real estate loan totaling $4,810,965 and one nonaccrual residential real estate loan totaling $31,500, and one commercial loan totaling $152,449. The real estate loans were secured by real estate and business assets and were personally guaranteed. The commercial loan was secured by business assets and was personally guaranteed. Gross interest income of $219,734 would have been recorded in 2021 if these nonaccrual loans had been current and performing in accordance with their original terms. The Company allocated $281,910 of its allowance for loan losses to these nonaccrual loans. The balance of nonaccrual loans was net of charge-offs and a nonaccretable discount totaling $27,146 at December 31, 2021.
16
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (continued) |
|---|
An age analysis of past due loans, segregated by type of loan, is as follows:
| 90 Days | Past Due 90 | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 30 - 59 Days | 60 - 89 Days | or More | Total | Total | Days or More | |||||||||
| Past Due | Past Due | Past Due | Past Due | Current | Loans | and Accruing | ||||||||
| June 30, 2022 | ||||||||||||||
| Real estate: | ||||||||||||||
| Commercial | $ | - | $ | - | $ | 502,961 | $ | 502,961 | $ | 331,791,663 | $ | 332,294,624 | $ | - |
| Construction and land development | - | - | - | - | 23,690,371 | 23,690,371 | - | |||||||
| Residential | - | - | 31,500 | 31,500 | 111,461,870 | 111,493,370 | - | |||||||
| Commercial | - | - | 152,449 | 152,449 | 27,461,196 | 27,613,645 | - | |||||||
| Consumer | - | - | - | - | 197,263 | 197,263 | - | |||||||
| Total | $ | - | $ | - | $ | 686,910 | $ | 686,910 | $ | 494,602,363 | $ | 495,289,273 | $ | - |
| December 31, 2021 | ||||||||||||||
| Real estate: | ||||||||||||||
| Commercial | $ | - | $ | - | $ | 502,961 | $ | 502,961 | $ | 318,682,155 | $ | 319,185,116 | $ | - |
| Construction and land development | - | - | - | - | 28,221,854 | 28,221,854 | - | |||||||
| Residential | - | - | 249,161 | 249,161 | 107,186,872 | 107,436,033 | 217,661 | |||||||
| Commercial | - | - | 415,690 | 415,690 | 30,766,516 | 31,182,206 | 263,241 | |||||||
| Consumer | - | - | - | - | 355,958 | 355,958 | - | |||||||
| Total | $ | - | $ | - | $ | 1,167,812 | $ | 1,167,812 | $ | 485,213,355 | $ | 486,381,167 | $ | 480,902 |
Impaired loans, segregated by class of loans with average recorded investment and interest recognized for the six months ended June 30, 2022 and the year ended December 31, 2021, are set forth in the following table:
| Unpaid | Recorded | Recorded | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Contractual | Investment | Investment | Total | Average | ||||||||||
| Principal | With No | With | Recorded | Related | Recorded | Interest | ||||||||
| Balance | Allowance | Allowance | Investment | Allowance | Investment | Recognized | ||||||||
| June 30, 2022 | ||||||||||||||
| Commercial real estate | $ | 6,887,147 | $ | 6,384,186 | $ | 502,961 | $ | 6,887,147 | $ | 129,461 | $ | 6,854,040 | $ | 55,042 |
| Residential real estate | 36,390 | 36,390 | - | 36,390 | - | 37,809 | 746 | |||||||
| Commercial | 152,449 | - | 152,449 | 152,449 | 152,449 | 152,449 | - | |||||||
| 7,075,986 | 6,420,576 | 655,410 | 7,075,986 | 281,910 | 7,044,298 | 55,788 | ||||||||
| December 31, 2021 | ||||||||||||||
| Commercial real estate | $ | 6,820,932 | $ | 6,317,971 | $ | 502,961 | $ | 6,820,932 | $ | 129,461 | $ | 6,740,539 | $ | 125,079 |
| Residential real estate | 39,228 | 39,228 | - | 39,228 | - | 41,981 | 1,672 | |||||||
| Commercial | 152,449 | - | 152,449 | 152,449 | 152,449 | 76,225 | 69,005 | |||||||
| $ | 7,012,609 | $ | 6,357,199 | $ | 655,410 | $ | 7,012,609 | $ | 281,910 | $ | 6,858,745 | $ | 195,756 |
17
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (continued) |
|---|
Impaired loans include TDRs which are loans that have been modified to provide economic concessions to borrowers who have experienced financial difficulties. These concessions typically result from the Company’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance, or other actions. Certain TDRs are classified as nonperforming at the time of restructure and may only be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months.
At June 30, 2022, the Company had three commercial real estate loans totaling $6,384,186 and one residential real estate loan totaling $36,390 that were classified as TDRs. One of the commercial real estate loans with an aggregate principal balance of $167,280 was restructured as a TDR during the 3 months ended June 30, 2022. Two of the commercial real estate loans with a principal balance of $4,405,284 were restructured as TDRs during the 6 months ended June 30, 2022. All are included in impaired loans above. At June 30, 2022, all four loans were paying as agreed. There have been no charge-offs or allowances associated with these loans.
At December 31, 2021, the Company had one commercial real estate loan totaling $2,009,967 and one residential real estate loan totaling $39,288 classified as TDRs. Both loans are included in impaired loans above and were paying as agreed. There have been no charge-offs or allowances associated with these loans.
Section 4013 of the U.S. Government’s Coronavirus Aid, Relief, and Economic Security Act allows financial institutions to suspend application of certain current TDRs accounting guidance under ASC 310-40 for loan modifications related to the COVID-19 pandemic made between March 1, 2020 and the earlier of January 1, 2022 or 60 days after the end of the COVID-19 national emergency, provided certain criteria are met. This relief can be applied to loan modifications for borrowers that were not more than 30 days past due as of December 31, 2019 and to loan modifications that defer or delay the payment of principal or interest, or change the interest rate on the loan. In April 2020, federal and state banking regulators issued the Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus to provide further interpretation of when a borrower is experiencing financial difficulty, specifically indicating that if the modification is either short-term (e.g., six months) or mandated by a federal or state government in response to the COVID-19 pandemic, the borrower is not experiencing financial difficulty under ASC 310-40. The Company continues to prudently work with borrowers negatively impacted by the COVID-19 pandemic while managing credit risks and recognizing appropriate allowance for loan losses on its loan portfolio. As of June 30, 2022, one loan totalling $4.2 million, or 1% of the Company’s loan portfolio, was operating under a three-month deferral. This loan was classified as a TDR as of June 30, 2022 because it did not meet the criteria discussed above.
As part of our portfolio risk management, the Company assigns a risk grade to each loan. The factors used to determine the grade are the payment history of the loan and the borrower, the value of the collateral and net worth of the guarantor, and cash flow projections of the borrower. Excellent, Above Average, Average and Acceptable grades are assigned to loans with limited or no delinquent payments and more than sufficient collateral and/or cash flow.
18
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (continued) |
|---|
A description of the general characteristics of loans characterized as watch list or classified is as follows:
Pass/Watch
Loans graded as Pass/Watch are secured by generally acceptable assets which reflect above-average risk. The loans warrant closer scrutiny by management than is routine, due to circumstances affecting the borrower, the borrower’s industry, or the overall economic environment. Borrowers may reflect weaknesses such as inconsistent or weak earnings, break even or moderately deficit cash flow, thin liquidity, minimal capacity to increase leverage, or volatile market fundamentals or other industry risks. Such loans are typically secured by acceptable collateral, at or near appropriate margins, with realizable liquidation values.
Special Mention
A special mention loan has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Company’s credit position at some future date. Special mention loans are not adversely classified and do not expose the Company to sufficient risk to warrant adverse classification.
Borrowers may exhibit poor liquidity and leverage positions resulting from generally negative cash flow or negative trends in earnings. Access to alternative financing may be limited to finance companies for business borrowers and may be unavailable for commercial real estate borrowers.
Substandard
A substandard loan is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Substandard loans have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.
Borrowers may exhibit recent or unexpected unprofitable operations, an inadequate debt service coverage ratio, or marginal liquidity and capitalization. These loans require more intense supervision by Company management.
Doubtful
A doubtful loan has all the weaknesses inherent in a substandard loan with the added characteristic that the weaknesses, based on currently existing facts, conditions, and values, make collection or liquidation in full highly questionable and improbable.
19
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (continued) |
|---|
Loans by credit grade, segregated by loan type, are as follows:
| Above | Pass | Special | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| June 30, 2022 | Excellent | average | Average | Acceptable | watch | mention | Substandard | Doubtful | Total | |||||||||
| Real estate: | ||||||||||||||||||
| Commercial | $ | - | $ | 37,521 | $ | 72,159,512 | $ | 169,371,054 | $ | 81,413,203 | $ | 182,345 | $ | 9,130,989 | $ | - | $ | 332,294,624 |
| Construction and land development | - | - | 3,563,803 | 13,592,183 | 6,534,385 | - | - | - | 23,690,371 | |||||||||
| Residential | 50,109 | 605,369 | 43,027,828 | 58,109,929 | 7,341,418 | - | 2,358,717 | - | 111,493,370 | |||||||||
| Commercial | 1,728,693 | 100,000 | 7,553,396 | 14,800,654 | 3,278,453 | - | 152,449 | - | 27,613,645 | |||||||||
| Consumer | 3,284 | 46,769 | 118,695 | - | 9,266 | - | - | 19,249 | 197,263 | |||||||||
| $ | 1,782,086 | $ | 789,659 | $ | 126,423,234 | $ | 255,873,820 | $ | 98,576,725 | $ | 182,345 | $ | 11,642,155 | $ | 19,249 | $ | 495,289,273 | |
| Above | Pass | Special | ||||||||||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| December 31, 2021 | Excellent | average | Average | Acceptable | watch | mention | Substandard | Doubtful | Total | |||||||||
| Real estate: | ||||||||||||||||||
| Commercial | $ | - | $ | 1,225,732 | $ | 73,924,748 | $ | 146,174,439 | $ | 82,018,890 | $ | 3,345,788 | $ | 12,495,519 | $ | - | $ | 319,185,116 |
| Construction and land development | - | - | 3,853,775 | 12,452,257 | 9,973,457 | 1,942,365 | - | - | 28,221,854 | |||||||||
| Residential | 41,152 | 708,162 | 46,358,477 | 48,295,430 | 9,570,815 | - | 2,461,997 | - | 107,436,033 | |||||||||
| Commercial | 9,774,570 | - | 5,292,721 | 12,585,396 | 3,377,070 | - | 152,449 | - | 31,182,206 | |||||||||
| Consumer | 5,813 | 168,037 | 147,903 | 2,280 | 11,298 | - | - | 20,627 | 355,958 | |||||||||
| $ | 9,821,535 | $ | 2,101,931 | $ | 129,577,624 | $ | 219,509,802 | $ | 104,951,530 | $ | 5,288,153 | $ | 15,109,965 | $ | 20,627 | $ | 486,381,167 |
The principal balances of loans in the Pass/Watch category as of June 30, 2022 and December 31, 2021 include loans that were granted payment deferrals due to COVID-19. The loans were downgraded to the Pass/Watch category if they were in a higher rated category at the time the deferral was granted. Loans that completed their deferral and are making scheduled payments again are being re-evaluated on a loan-by-loan basis to determine if they warrant upgrading.
The Company’s allowance for loan losses is based on management’s evaluation of the risks inherent in the Company’s loan portfolio and the general economy. The allowance for loan **** losses is maintained at the amount management considers adequate to cover estimated losses in loans receivable that are deemed probable based on information currently known to management. The allowance is based upon a number of factors, including current economic conditions, actual loss experience by pools of similar loans, diversification and size of the portfolio, adequacy of the collateral, the amount of non-performing loans and industry trends. In addition, various regulatory agencies, as an integral part of their examination processes, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to make additional provisions for estimated loan losses based upon judgments different from those of management.
20
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (Continued) |
|---|
The following table details activity in the allowance for loan losses and loan balances by portfolio as of and for the six-month periods ended June 30, 2022 and 2021 and for the year ended December 31, 2021. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.
| Allowance for loan losses ending | Outstanding loan balances | |||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Provision for | balance evaluated for impairment: | evaluated for impairment: | ||||||||||||||||||||||
| Beginning | (recovery of) | Charge | Ending | Purchase Credit | Purchase Credit | |||||||||||||||||||
| June 30, 2022 | balance | loan losses | offs | Recoveries | balance | Individually | Impaired | Collectively | Individually | Impaired | Collectively | |||||||||||||
| Real estate: | ||||||||||||||||||||||||
| Commercial | $ | 2,482,930 | $ | 6,074 | $ | (7,772 | ) | $ | - | $ | 2,481,232 | $ | 129,461 | $ | - | $ | 2,351,771 | $ | 6,887,147 | $ | 15,065 | $ | 325,392,412 | |
| Construction and land development | 214,547 | (68,084 | ) | - | 8,100 | 154,563 | - | - | 154,563 | - | 377,854 | 23,312,517 | ||||||||||||
| Residential | 603,558 | 56,699 | - | - | 660,257 | - | - | 660,257 | 36,390 | 244,554 | 111,212,426 | |||||||||||||
| Commercial | 255,413 | 24,760 | (2,468 | ) | - | 277,705 | 152,449 | - | 125,256 | 152,449 | - | 27,461,196 | ||||||||||||
| Consumer | 4,370 | (892 | ) | - | - | 3,478 | - | - | 3,478 | - | - | 197,263 | ||||||||||||
| Unallocated | 89,450 | (18,557 | ) | - | - | 70,893 | - | - | 70,893 | - | - | - | ||||||||||||
| $ | 3,650,268 | $ | - | $ | (10,240 | ) | $ | 8,100 | $ | 3,648,128 | $ | 281,910 | $ | - | $ | 3,366,218 | $ | 7,075,986 | $ | 637,473 | $ | 487,575,814 | ||
| Allowance for loan losses ending | Outstanding loan balances | |||||||||||||||||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| Provision for | balance evaluated for impairment: | evaluated for impairment: | ||||||||||||||||||||||
| Beginning | (recovery of) | Charge | Ending | Purchase Credit | Purchase Credit | |||||||||||||||||||
| June 30, 2021 | balance | loan losses | offs | Recoveries | balance | Individually | Impaired | Collectively | Individually | Impaired | Collectively | |||||||||||||
| Real estate: | ||||||||||||||||||||||||
| Commercial | $ | 2,230,129 | $ | 373,796 | $ | - | $ | 3,500 | $ | 2,607,425 | $ | - | $ | - | $ | 2,607,425 | $ | 6,609,506 | $ | - | $ | 312,713,274 | ||
| Construction and land development | 201,692 | (67,611 | ) | - | 8,100 | 142,181 | - | - | 142,181 | - | 1,544,309 | 29,867,218 | ||||||||||||
| Residential | 644,639 | (148,627 | ) | (18,970 | ) | - | 477,042 | - | - | 477,042 | 42,005 | 511,413 | 118,940,199 | |||||||||||
| Commercial | 111,390 | (18,184 | ) | - | 15,000 | 108,206 | - | - | 108,206 | - | - | 51,330,242 | ||||||||||||
| Consumer | 2,138 | 450 | - | - | 2,588 | - | - | 2,588 | - | - | 402,457 | |||||||||||||
| Unallocated | 106,550 | (39,824 | ) | - | - | 66,726 | - | - | 66,726 | - | - | - | ||||||||||||
| $ | 3,296,538 | $ | 100,000 | $ | (18,970 | ) | $ | 26,600 | $ | 3,404,168 | $ | - | $ | - | $ | 3,404,168 | $ | 6,651,511 | $ | 2,055,722 | $ | 513,253,390 | ||
| Allowance for loan losses ending | Outstanding loan balances | |||||||||||||||||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| Provision for | balance evaluated for impairment: | evaluated for impairment: | ||||||||||||||||||||||
| Beginning | (recovery of) | Charge | Ending | Purchase Credit | Purchase Credit | |||||||||||||||||||
| December 31, 2021 | balance | loan losses | offs | Recoveries | balance | Individually | Impaired | Collectively | Individually | Impaired | Collectively | |||||||||||||
| Real estate: | ||||||||||||||||||||||||
| Commercial | $ | 2,230,129 | $ | 241,301 | $ | - | $ | 11,500 | $ | 2,482,930 | $ | 129,461 | $ | - | $ | 2,353,469 | $ | 6,820,932 | $ | 56,825 | $ | 312,307,359 | ||
| Construction and land development | 201,692 | (3,345 | ) | - | 16,200 | 214,547 | - | - | 214,547 | - | 383,666 | 27,838,188 | ||||||||||||
| Residential | 644,639 | (22,111 | ) | (18,970 | ) | - | 603,558 | - | - | 603,558 | 39,228 | 568,151 | 106,828,654 | |||||||||||
| Commercial | 111,390 | 129,023 | - | 15,000 | 255,413 | 152,449 | - | 102,964 | 152,449 | - | 31,029,757 | |||||||||||||
| Consumer | 2,138 | 2,232 | - | - | 4,370 | - | - | 4,370 | - | - | 355,958 | |||||||||||||
| Unallocated | 106,550 | (17,100 | ) | - | - | 89,450 | - | - | 89,450 | - | - | - | ||||||||||||
| $ | 3,296,538 | $ | 330,000 | $ | (18,970 | ) | $ | 42,700 | $ | 3,650,268 | $ | 281,910 | $ | - | $ | 3,368,358 | $ | 7,012,609 | $ | 1,008,642 | $ | 478,359,916 |
21
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 4. | Loans (Continued) |
|---|
The following table provides activity for the accretable credit discount of purchased loans:
| 2022 | ||
|---|---|---|
| Balance at December 31, 2021 | $ | 1,629,242 |
| Accretion | 442,354 | |
| Balance at June 30, 2022 | $ | 1,186,888 |
At June 30, 2022, the nonaccretable discount on purchased impaired loans was $241,587, a decrease of $225,000 from December 31, 2021 as a result of one of the loans paying off in full. At June 30, 2022 the accretable discount on purchased impaired loans was $37,572 after the accretion of $103,036. At June 30, 2022, the remaining yield premium on purchased loans was $1,120,316. At June 30, 2022, the principal balance of purchased loans was $91,020,965 and the carrying value was $90,675,234. At June 30, 2022, there were no residential real estate loans in the process of foreclosure.
| 5. | Goodwill and Other Intangibles |
|---|
The acquisition of Carroll Bancorp, Inc. in October of 2020 resulted in the recording of goodwill and core deposit intangible (“CDI”). The following table presents the changes in both assets:
| Goodwill | CDI | Total | ||||||
|---|---|---|---|---|---|---|---|---|
| Balance at December 31, 2021 | $ | 6,978,208 | $ | 72,872 | $ | 7,051,080 | ||
| Amortization | - | (4,164 | ) | (4,164 | ) | |||
| Balance at June 30, 2022 | $ | 6,978,208 | $ | 68,708 | $ | 7,046,916 |
The CDI is being amortized over 10 years on a straight-line basis. Annual amortization will be $8,328 for each of the years ended December 31, 2022 through 2029 and $6,246 in 2030. Since the merger was a tax-free reorganization, goodwill and CDI are not deductible for income tax purposes.
| 6. | Lease Commitments |
|---|
The Company and its subsidiaries are obligated under operating leases for certain office premises.
The following table shows operating lease right of use assets and operating lease liabilities as of June 30, 2022 and December 31, 2021:
| Consolidated Balance | |||||
|---|---|---|---|---|---|
| Sheet classification | June 30, 2022 | December 31, 2021 | |||
| Operating lease right of use asset | Other assets | $ | 1,018,657 | $ | 1,093,382 |
| Operating lease liabilities | Other liabilities | 1,240,412 | 1,311,570 |
Operating lease cost included in occupancy expense in the statement of income for the three months ended June 30, 2022 and 2021was $47,323 and $51,421, respectively. Operating lease cost included in occupancy expense in the statement of income for the six months ended June 30, 2022 and 2021 was $94,852 and $101,351, respectively.
22
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 6. | Lease Commitments (continued) |
|---|
A maturity analysis of operating lease liabilities, including those option years for which the Company is reasonably certain to renew, and reconciliation of the undiscounted cash flows to the total operating lease liabilities are as follows:
| Year | Amount | ||
|---|---|---|---|
| 2022 | $ | 91,834 | |
| 2023 | 187,951 | ||
| 2024 | 193,442 | ||
| 2025 | 199,107 | ||
| 2026 | 204,952 | ||
| Thereafter | 492,394 | ||
| Total undiscounted cash flow | 1,369,680 | ||
| Discount | (129,268 | ) | |
| Lease liabilities | $ | 1,240,412 |
For operating leases as of June 30, 2022, the weighted average remaining lease term is 7.0 years and the weighted average discount rate is 3.25%. During the six-month periods ended June 30, 2022 and 2021, cash paid for amounts included in the measurement of lease liabilities was $91,285 and $85,876, respectively.
| 7. | Capital Standards |
|---|
Farmers and Merchants Bancshares, Inc. and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possible additional, discretionary actions by the regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off‑balance sheet items as calculated under regulatory accounting practices. Our capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by the Basel III Capital Rules to ensure capital adequacy require the maintenance of minimum amounts and ratios (set forth in the table below) of Common Equity Tier 1 capital, Tier 1 capital, and Total capital (as defined in the regulations) to risk‑weighted assets (as defined), and of Tier 1 capital to adjusted quarterly average assets (as defined).
In connection with the adoption of the Basel III Capital Rules, the Bank elected to opt-out of the requirement to include accumulated other comprehensive income in Common Equity Tier 1 capital. Common Equity Tier 1 capital for the Bank is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities and subject to transition provisions.
Insured depository institutions are required to meet the following in order to qualify as “well capitalized”: (i) a common equity Tier 1 risk-based capital ratio of 6.5%; (ii) a Tier 1 risk-based capital ratio of 8%; (iii) a total risk-based capital ratio of 10%; and (iv) a Tier 1 leverage ratio of 5%.
23
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 7. | Capital Standards (continued) |
|---|
The implementation of the capital conservation buffer began on January 1, 2016 at the 0.625% level and was phased in over a four-year period (increasing by that amount on each subsequent January 1, until it reached 2.5% on January 1, 2019). The Basel III Capital Rules also provide for a “countercyclical capital buffer” that is applicable to only certain covered institutions and does not have current applicability to the Bank. As of June 30, 2022, the Bank met all capital adequacy requirements under the Basel III Capital Rules on a fully phased‑in basis.
The aforementioned capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of Common Equity Tier 1 capital to risk-weighted assets above the minimum but below the conservation buffer (or below the combined capital conservation buffer and countercyclical capital buffer, when the latter is applied) will face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall.
The following table presents actual and required capital ratios as of June 30, 2022 and December 31, 2021 for the Bank under the Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as of June 30, 2022 and December 31, 2021 based on the phase-in provisions of the Basel III Capital Rules. Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules. Capital ratios of the Company are substantially the same as the Bank’s.
| Minimum | To Be Well | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Actual | Capital Adequacy | Capitalized | ||||||||||||
| June 30, 2022 | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||
| Total capital (to risk-weighted assets) | $ | 72,015 | 12.84 | % | $ | 58,907 | 10.50 | % | $ | 56,102 | 10.00 | % | |||
| Tier 1 capital (to risk-weighted assets) | 68,367 | 12.19 | % | 47,687 | 8.50 | % | 44,882 | 8.00 | % | ||||||
| Common equity tier 1 (to risk- weighted assets) | 68,367 | 12.19 | % | 39,271 | 7.00 | % | 36,466 | 6.50 | % | ||||||
| Tier 1 leverage (to average assets) | 68,367 | 9.52 | % | 28,723 | 4.00 | % | 35,904 | 5.00 | % | ||||||
| Minimum | To Be Well | ||||||||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- |
| (Dollars in thousands) | Actual | Capital Adequacy | Capitalized | ||||||||||||
| December 31, 2021 | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||
| Total capital (to risk-weighted assets) | $ | 69,957 | 13.24 | % | $ | 55,471 | 10.50 | % | $ | 52,830 | 10.00 | % | |||
| Tier 1 capital (to risk-weighted assets) | 66,307 | 12.55 | % | 44,905 | 8.50 | % | 42,264 | 8.00 | % | ||||||
| Common equity tier 1 (to risk- weighted assets) | 66,307 | 12.55 | % | 36,981 | 7.00 | % | 34,339 | 6.50 | % | ||||||
| Tier 1 leverage (to average assets) | 66,307 | 9.27 | % | 28,614 | 4.00 | % | 35,767 | 5.00 | % |
To be categorized as well capitalized, the Bank must maintain ratios as set forth in the table. As of June 30, 2022, the most recent notification from the Federal Deposit Insurance Corporation (the “FDIC”) categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There have been no conditions or events since that notification that management believes have changed the Bank’s category.
The FDIC, through formal or informal agreement, has the authority to require an institution to maintain higher capital ratios than those provided by statute, to be categorized as well capitalized under the regulatory framework for prompt corrective action.
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 8. | Fair Value |
|---|
In accordance with ASC 820, “Fair Value Measurements and Disclosure”, the Bank uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability (“an exit price”) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Bank’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.
The fair value guidance provides a consistent definition of fair value, which focuses on exit price in the principal or most advantageous market for the asset or liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is the most representative of fair value under current market conditions.
In accordance with the guidance, a hierarchy of valuation techniques is based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. The three levels of the fair value hierarchy under ASC 820 based on these two types of inputs are as follows:
| ● | Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date. |
|---|---|
| ● | Level 2: Significant other observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, and other inputs that are observable or can be corroborated by observable market data. |
| --- | --- |
| ● | Level 3: Significant unobservable inputs that reflect the Company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability. |
| --- | --- |
The Company uses the following methods and significant assumptions to estimate the fair values of the following assets:
| ● | Securities available for sale: The fair values of securities available for sale are determined by obtaining quoted prices from a nationally recognized securities pricing agent. If quoted market prices are not available, fair value is determined using quoted market prices for similar securities. |
|---|---|
| ● | Equity security at fair value: The Company’s investment in an equity mutual fund is valued based on the net asset value of the fund, which is classified as Level 1. |
| --- | --- |
25
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 8. | Fair Value (continued) |
|---|---|
| ● | Other real estate owned (“OREO”): Nonrecurring fair value adjustments to OREO reflect full or partial write-downs that are based on the OREO’s observable market price or current appraised value of the real estate. Since the market for OREO is not active, OREO subjected to nonrecurring fair value adjustments based on the current appraised value of the real estate are classified as Level 3. The appraised value is obtained annually from an independent third party appraiser and is reduced by expected sales costs, which has historically been 10% of the appraised value. |
| --- | --- |
| ● | Impaired loans: Nonrecurring fair value adjustments to impaired loans reflect full or partial write-downs and reserves that are based on the impaired loan’s observable market price or current appraised value of the collateral. Since the market for impaired loans is not active, such loans subjected to nonrecurring fair value adjustments based on the current appraised value of the collateral are classified as Level 3. The appraised value is obtained annually from an independent third party appraiser and is reduced by expected sales costs, which has historically been 10% of the appraised value. |
| --- | --- |
The following table summarizes financial assets measured at fair value on a recurring and nonrecurring basis as of June 30, 2022 and December 31, 2021, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:
| Carrying Value: | ||||||||
|---|---|---|---|---|---|---|---|---|
| Level 1 | Level 2 | Level 3 | Total | |||||
| June 30, 2022 | ||||||||
| Recurring: | ||||||||
| Available for sale securities | ||||||||
| State and municipal | $ | - | $ | 733,175 | $ | - | $ | 733,175 |
| SBA pools | - | 1,176,190 | - | 1,176,190 | ||||
| Corporate bonds | - | 9,835,603 | - | 9,835,603 | ||||
| Mortgage-backed securities | - | 126,458,527 | - | 126,458,527 | ||||
| $ | - | $ | 138,203,495 | $ | - | $ | 138,203,495 | |
| Equity security at fair value | ||||||||
| Mutual fund | $ | 501,662 | $ | - | $ | - | $ | 501,662 |
| Nonrecurring: | ||||||||
| Other real estate owned, net | $ | - | $ | - | $ | 1,242,365 | $ | 1,242,365 |
| Impaired loans | - | - | $ | 373,500 | $ | 373,500 |
26
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 8. | Fair Value (continued) | |||||||
|---|---|---|---|---|---|---|---|---|
| Carrying Value: | ||||||||
| --- | --- | --- | --- | --- | --- | --- | --- | --- |
| Level 1 | Level 2 | Level 3 | Total | |||||
| December 31, 2021 | ||||||||
| Recurring: | ||||||||
| Available for sale securities | ||||||||
| State and municipal | $ | - | $ | 763,498 | $ | - | $ | 763,498 |
| SBA pools | - | 1,397,762 | - | 1,397,762 | ||||
| Corporate Bonds | - | 8,584,207 | 650,000 | 9,234,207 | ||||
| Mortgage-backed securities | - | 137,842,449 | - | 137,842,449 | ||||
| $ | - | $ | 148,587,916 | $ | 650,000 | $ | 149,237,916 | |
| Equity security at fair value | ||||||||
| Mutual fund | $ | 543,605 | $ | - | $ | - | $ | 543,605 |
| Nonrecurring: | ||||||||
| Other real estate owned, net | $ | - | $ | - | $ | 1,242,365 | $ | 1,242,365 |
| Impaired loans | **** | - | **** | - | 373,500 | 373,500 |
The following table displays quantitative information about level 3 inputs for June 30, 2022 and December 31, 2021:
| June 30, 2022: | |||||||
|---|---|---|---|---|---|---|---|
| Assets | Fair Value | Valuation Techniques | Unobservable Input | Average | |||
| Impaired loans | |||||||
| Commercial real estate | $ | 373,500 | Discounted appraised value | Marketability/selling costs | 10 | % | |
| Commercial | - | Discounted appraised value | Marketability/selling costs | 10 | % | ||
| Total impaired loans | $ | 373,500 | Discounted appraised value | Marketability/selling costs | 10 | % | |
| OREO | $ | 1,242,365 | Discounted appraised value | Marketability/selling costs | 10 | % | |
| December 31, 2021: | |||||||
| --- | --- | --- | --- | --- | --- | --- | --- |
| Assets | Fair Value | Valuation Techniques | Unobservable Input | Average | |||
| Impaired loans | |||||||
| Commercial real estate | $ | 373,500 | Discounted appraised value | Marketability/selling costs | 10 | % | |
| Commercial | - | Discounted appraised value | Marketability/selling costs | 10 | % | ||
| Total impaired loans | $ | 373,500 | Discounted appraised value | Marketability/selling costs | 10 | % | |
| OREO | $ | 1,242,365 | Discounted appraised value | Marketability/selling costs | 10 | % |
27
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 8. | Fair Value (continued) |
|---|
The estimated fair value of financial instruments that are reported at amortized cost in the Company’s consolidated balance sheets, segregated by the level of the valuation inputs were as follows:
| June 30, 2022 | December 31, 2021 | ||||||||
|---|---|---|---|---|---|---|---|---|---|
| Carrying | Estimated | Carrying | Estimated | ||||||
| Amount | Fair Value | Amount | Fair Value | ||||||
| Financial assets | |||||||||
| Level 1 inputs | |||||||||
| Cash and cash equivalents | $ | 18,391,464 | $ | 18,391,464 | $ | 26,462,106 | $ | 26,462,106 | |
| Level 2 inputs | |||||||||
| Certificates of deposit in other banks | 100,000 | 100,000 | 350,000 | 350,000 | |||||
| Accrued interest receivable | 1,587,370 | 1,587,370 | 1,609,063 | 1,609,063 | |||||
| Securities held to maturity | 17,478,571 | 15,987,393 | 21,851,975 | 22,805,601 | |||||
| Mortgage loans held for sale | - | - | 126,500 | # | 128,829 | ||||
| Restricted stock, at cost | 695,000 | 695,000 | 675,400 | 675,400 | |||||
| Bank owned life insurance | 11,665,419 | 11,665,419 | 11,556,163 | 11,556,163 | |||||
| Level 3 inputs | |||||||||
| Securities held to maturity | 3,073,040 | 3,073,040 | 3,073,040 | 3,073,040 | |||||
| Loans, net | 491,076,252 | 486,506,004 | 482,011,334 | 487,012,970 | |||||
| Financial liabilities | |||||||||
| Level 1 inputs | |||||||||
| Noninterest-bearing deposits | $ | 135,196,047 | $ | 135,196,047 | $ | 124,175,615 | $ | 124,175,615 | |
| Securities sold under repurchase agreements | 5,649,445 | 5,649,445 | 5,414,026 | 5,414,026 | |||||
| Level 2 inputs | |||||||||
| Interest-bearing deposits | 494,276,250 | 491,506,250 | 502,239,055 | 502,396,172 | |||||
| Federal Home Loan Bank advances | 5,000,000 | 4,718,000 | 5,000,000 | 4,967,000 | |||||
| Long-term debt | 16,037,274 | 15,374,800 | 16,978,905 | 17,298,111 | |||||
| Accrued interest payable | 268,749 | 268,749 | 295,910 | 295,910 | |||||
| 9. | Earnings per Share | ||||||||
| --- | --- |
Basic earnings per share is determined by dividing net income available to stockholders by the weighted-average number of shares of common stock outstanding during the period and does not include the effect of any potentially dilutive common stock equivalents, giving retroactive effect to stock dividends declared during the period. Diluted earnings per share is determined in the same manner, except that the weighted-average number of shares of common stock outstanding is adjusted for the dilutive effect of outstanding common stock equivalents. The following table sets forth the calculation of basic and diluted earnings per share for the three- and six-month periods ended June 30, 2022 and 2021. There were no common stock equivalents outstanding during the six month periods ended June 30, 2022 or 2021.
| Three Months Ended | Six Months Ended | |||||||
|---|---|---|---|---|---|---|---|---|
| June 30, | June 30, | |||||||
| 2022 | 2021 | 2022 | 2021 | |||||
| Net income | $ | 2,050,733 | $ | 2,032,219 | $ | 4,101,535 | $ | 4,061,794 |
| Weighted average shares outstanding | 3,038,215 | 3,011,927 | 3,037,679 | 3,011,593 | ||||
| Earnings per share - basic and diluted | $ | 0.67 | $ | 0.67 | $ | 1.35 | $ | 1.35 |
Farmers and Merchants Bancshares, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
(Unaudited)
| 10. | Retirement Plans |
|---|
The Company has a profit sharing plan qualifying under Section 401(k) of the Internal Revenue Code. All employees age 21 or older with six months of service are eligible for participation in the plan. The Company matches employee contributions up to 4% of total compensation and may make additional discretionary contributions. Employee and employer contributions are 100% vested when made. The Company’s contributions to this plan were $59,426 and $64,824 for the three-month periods ended June 30, 2022 and 2021, respectively, and $139,166 and $141,743 for the six-month periods ended June 30, 2022 and 2021.
The Company has entered into agreements with 12 employees to provide certain life insurance benefits payable in connection with policies of life insurance on those employees that are owned by the Company. Each of the agreements provides for the amount of death insurance benefits to be paid to beneficiaries of the insured. For this plan, the Company expensed $1,702 and $1,661 for the three-month periods ended June 30, 2022 and 2021, respectively, and $3,405 and $3,322 for the six-month periods ended June 30, 2022 and 2021.
The Company adopted supplemental executive retirement plans for three of its executives. The plans provide cash compensation to the executive officers under certain circumstances, including a separation of service. The benefits vest over the period from adoption to a specified age for each executive. The Company recorded expenses related to these plans, including interest, of $45,000 and $42,000 for the three-month periods ended June 30, 2022 and 2021, respectively, and $90,000 and $84,000 for the six-month periods ended June 30, 2022 and 2021.
Retirement plan expenses are included in employee benefits on the consolidated statements of income.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Introduction
The following discussion and analysis is intended as a review of material changes in and significant factors affecting the financial condition and results of operations of Farmers and Merchants Bancshares, Inc. and its consolidated subsidiaries for the periods indicated. This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the notes thereto contained in Item 1 of Part I of this report, and with Management’s Discussion and Analysis of Financial Condition and Results of Operations, the audited consolidated financial statements and notes thereto, and the other statistical information contained in the Annual Report of Farmers and Merchants Bancshares, Inc. on Form 10-K for the year ended December 31, 2021 (the “Form 10-K”). References in this report to “us”, “we”, “our”, and “the Company” are to Farmers and Merchants Bancshares, Inc. and, unless the context clearly suggests otherwise, its consolidated subsidiaries.
Forward-Looking Statements
This report may contain forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995. Readers of this report should be aware of the speculative nature of “forward-looking statements.” Statements that are not historical in nature, including those that include the words “intend”, “believe”, “estimate”, “predict”, “potential”, or “continue” or the negative of those words and other comparable words, are based on current expectations, estimates and projections about, among other things, the industry and the markets in which we operate, and they are not guarantees of future performance. Whether actual results will conform to expectations and predictions is subject to known and unknown risks and uncertainties, including risks and uncertainties discussed in this report; general economic, market, or business conditions, including those impacted and/or driven by the COVID-19 pandemic; changes in interest rates, deposit flow, the cost of funds, and demand for loan products and financial services; changes in our competitive position or competitive actions by other companies; changes in the quality or composition of our loan and investment portfolios; our ability to manage growth; changes in laws or regulations or policies of federal and state regulators and agencies; and other circumstances beyond our control. Consequently, all of the forward-looking statements made in this report are qualified by these cautionary statements, and there can be no assurance that the actual results anticipated will be realized, or if substantially realized, will have the expected consequences on our business or operations. These and other risks are discussed in detail in the registration statements and periodic reports that Farmers and Merchants Bancshares, Inc. files with the Securities and Exchange Commission (the “SEC”) (see Item 1A of Part II of this report for further information). Except as required by applicable laws, we do not intend to publish updates or revisions of any forward-looking statements we make to reflect new information, future events or otherwise.
Farmers and Merchants Bancshares, Inc.
Farmers and Merchants Bancshares, Inc. is a Maryland corporation and a financial holding company registered with the Board of Governors of the Federal Reserve System (the “FRB”) under the Bank Holding Company Act of 1956, as amended. The Company was incorporated on August 8, 2016 for the purpose of becoming the holding company of Farmers and Merchants Bank (the “Bank”) in a share exchange transaction that was intended to constitute a tax-free exchange under Section 351 of the Internal Revenue Code of 1986, as amended (the “Reorganization”). The Reorganization was consummated on November 1, 2016, at which time the Bank became a wholly-owned subsidiary of the Company and all of the Bank’s stockholders became stockholders of the Company by virtue of the conversion of their shares of common stock of the Bank into an equal number of shares of common stock of the Company.
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The Company’s primary business activities are serving as the parent company of the Bank and holding a series investment in First Community Bankers Insurance Co., LLC, a Tennessee “series” limited liability company and licensed protected cell captive insurance company (“FCBI”). The Company owns 100% of one series of membership interests issued by FCBI, which series is deemed a “protected cell” under Tennessee law and has been designated “Series Protected Cell FCB-4” (such series investment is hereinafter referred to as the “Insurance Subsidiary”).
The Bank is a Maryland commercial bank chartered on October 24, 1919 that is engaged in a general commercial and retail banking business. The Bank has had one inactive subsidiary, Reliable Community Financial Services, Inc., a Maryland corporation that was incorporated in April 1992 to facilitate the sale of fixed rate annuity products and later positioned to sell a full array of investment and insurance products.
The Insurance Subsidiary represents one protected cell of a protected cell captive insurance company (i.e., FCBI) that was formed on November 9, 2016 to better manage our risk programs, provide insurance efficiencies, and add operating income by both keeping insurance premiums paid with respect to such risks within our affiliated group of entities and realizing certain tax benefits that are unique to captive insurance companies. The Company’s investment in the Insurance Subsidiary represents one series of membership interests in FCBI. As a “series” limited liability company, FCBI is authorized by state law and its governing instruments to issue one or more series of membership interests, each of which, for all purposes under state law, is deemed to be a legal entity separate and apart from FCBI and its other series.
Effective October 1, 2020, pursuant to a series of merger transactions, Farmers and Merchants Bancshares, Inc. acquired Carroll Bancorp, Inc., and the Bank acquired Carroll Bancshares, Inc.’s wholly-owned bank subsidiary, Carroll Community Bank.
The Company maintains an Internet site at www.fmb1919.bank on which it makes available, free of charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to the foregoing as soon as reasonably practicable after these reports are electronically filed with, or furnished to, the SEC.
Estimates and Critical Accounting Policies
This discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities. See Note 1 of the Notes to the audited consolidated financial statements as of and for the year ended December 31, 2021, which were included in Item 8 of Part II of the Form 10-K. On an on-going basis, management evaluates estimates, including those related to loan losses and intangible assets, other-than-temporary impairment (“OTTI”) of investment securities, income taxes, and fair value of investments. Management bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Management believes the following critical accounting policies affect our more significant judgments and estimates used in the preparation of the consolidated financial statements.
The allowance for loan losses represents management’s estimate of probable loan losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the balance sheet.
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Management applies various valuation methodologies to assets and liabilities which often involve a significant degree of judgment, particularly when liquid markets do not exist for the particular items being valued. Quoted market prices are referred to when estimating fair values for certain assets, such as most investment securities. However, for those items for which an observable liquid market does not exist, management utilizes significant estimates and assumptions to value such items. Examples of these items include loans, deposits, borrowings, goodwill, core deposit and other intangible assets, other assets and liabilities obtained or assumed in business combinations. These valuations require the use of various assumptions, including, among others, discount rates, rates of return on assets, repayment rates, cash flows, default rates, and liquidation values. The use of different assumptions could produce significantly different results, which could have material positive or negative effects on our results of operations, financial condition or disclosures of fair value information. In addition to valuation, we must assess whether there are any declines in value below the carrying value of assets that should be considered other than temporary or otherwise require an adjustment in carrying value and recognition of a loss in the consolidated statements of income. Examples include investment securities, goodwill and core deposit intangible, among others.
Management does not believe that any material changes in our critical accounting policies have occurred since December 31, 2021.
Paycheck Protection Program
The U.S. Government’s Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) established the Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”), which provided small businesses with resources to maintain payroll, hire back employees who may have been laid off, and to cover applicable overhead expenses. During 2021 and 2020, we originated approximately $60 million in PPP. All PPP loans are 100% guaranteed by the SBA, have up to a five-year maturity, and have an interest rate of 1%. These loans may be forgiven by the SBA if the borrower meets certain conditions, including by using at least 75% of the loan proceeds for payroll costs. The majority of the PPP loans have been forgiven as of June 30, 2022. The SBA also established processing fees from 1% to 5%, depending on the loan amount. During 2021 and 2020, the Company collected approximately $2,323,000 in fees from the SBA in connection with the originations of the PPP loans. The fees, net of related origination costs, are being recognized as interest income over the term of the loans using the straight-line method, with accelerated recognition when the loan pays off before maturity through SBA forgiveness or other means. During the six months ended June 30, 2022, approximately $219,000 in fees were recognized, compared to approximately $1,037,000 in the six months ended June 30, 2021. Approximately $50,000 of fees were unrecognized at June 30, 2022.
Financial Condition
Total assets decreased by $6,920,815, or 0.97%, to $709,756,440 at June 30, 2022 from $716,677,255 at December 31, 2021. The decrease in total assets was due primarily to decreases of $12,334,785 in debt securities and $8,070,642 in cash and cash equivalents, offset by an increase of $9,064,918 in loans and an increase of $4,530,150 in deferred income taxes.
Total liabilities increased $1,511,663, or 0.23%, to $661,567,460 at June 30, 2022 from $660,055,797 at December 31, 2021. The increase was due primarily to a $3,057,627 increase in deposits, offset by a $941,631 decrease in long-term debt and an $812,591 decrease in other liabilities.
Stockholders’ equity decreased by $8,432,478 to $43,188,980 at June 30, 2022 from $56,621,458 at December 31, 2021. The decrease was due to an increase of $11,932,649 in accumulated other comprehensive loss as a result of the decline in the market value of available for sale securities due to the significant increase in interest rates and dividends paid, net of reinvestments, of $601,364, offset by net income for the six-month period ended June 30, 2022 of $4,101,535.
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Loans
Major categories of loans at June 30, 2022 and December 31, 2021 were as follows:
| June 30, | December 31, | |||||||
|---|---|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||||
| Real estate: | ||||||||
| Commercial | $ | 332,294,624 | 67 | % | $ | 319,185,116 | 66 | % |
| Construction/Land development | 23,690,371 | 5 | % | 28,221,854 | 6 | % | ||
| Residential | 111,493,370 | 23 | % | 107,436,033 | 22 | % | ||
| Commercial | 27,613,645 | 6 | % | 31,182,206 | 6 | % | ||
| Consumer | 197,263 | 0 | % | 355,958 | 0 | % | ||
| 495,289,273 | 100 | % | 486,381,167 | 100 | % | |||
| Less: Allowance for loan losses | 3,648,128 | 3,650,268 | ||||||
| Deferred origination fees net of costs | 564,893 | 719,565 | ||||||
| $ | 491,076,252 | $ | 482,011,334 |
Loans increased by $9,064,918, or 1.9%, to $491,076,252 at June 30, 2022 from $432,011,334 at December 31, 2021. The increase was due primarily to increases of $13,109,508 in commercial real estate loans and $4,057,337 in residential loans, offset by decreases of $3,568,561 in commercial loans and $4,531,433 in construction/land development loans. The decrease in commercial loans was driven primarily by a decrease of $8,037,246 in PPP loans. The allowance for loan losses decreased slightly by $2,140 to $3,643,128 at June 30, 2022 from $3,650,268 at December 31, 2021. Deferred origination fees, net of costs, decreased to $564,892 at June 30, 2022 from $719,565 at December 31, 2021, due primarily to the forgiveness of PPP loans.
The Company has adopted policies and procedures that seek to mitigate credit risk and to maintain the quality of the loan portfolio. These policies include underwriting standards for new credits as well as the continuous monitoring and reporting of asset quality and the adequacy of the allowance for loan losses. These policies, coupled with continuous training efforts, have provided effective checks and balances for the risk associated with the lending process. Lending authority is based on the level of risk, size of the loan, and the experience of the lending officer. The Company’s policy is to make the majority of its loan commitments in the market area it serves. Management believes that this tends to reduce risk because management is familiar with the credit histories of loan applicants and has in-depth knowledge of the risk to which a given credit is subject. Although the loan portfolio is diversified, its performance will be influenced by the economy of the region.
The provision for loan losses was $0 and ($20,000) for the three-month periods ended June 30, 2022 and 2021, respectively The provision for loan losses was $0 and $100,000 for the six-month periods ended June 30, 2022 and 2021, respectively.
During the three-month periods ended June 30, 2022 and 2021, the Company had recoveries from loans written off in prior periods totaling $4,050 and $20,050, respectively, and charge-offs of $10,240 and $18,970, respectively. During the six-month periods ended June 30, 2022 and 2021, the Company had recoveries from loans written off in prior periods totaling $8,100 and $26,660, respectively, and charge-offs of $10,240 and $18,970, respectively.
Watch list loans include loans classified as Special Mention, Substandard, and Doubtful. As of June 30, 2022, the Company had $4,492,003 of loans on a watch list, other than impaired loans, for which the borrowers have the potential for experiencing financial difficulties. As of December 31, 2021, the Company had $13,140,695 of such loans. The decrease was due primarily to the repayment in full of six loans totaling approximately $6.6 million and the upgrading of one loan totaling $2.0 million. Watch List loans are subject to ongoing management attention and their classifications are reviewed regularly.
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Management believes that the $3.6 million reserve at June 30, 2022 and the $0 provision for the six-month period ended June 30, 2022 are appropriate to adequately cover the probable and estimable losses inherent in the loan portfolio. The reserve is materially unchanged from December 31, 2021. Excluding PPP loans, the Company’s loan portfolio grew by $16.9 million during the first half of 2022. An increasing portfolio could typically require an increase in the provision. In addition, several qualitative factors were increased to reflect the potential impact of rising interest rates and some new additions to our lending staff. However, as noted above, the amount of watch list loans in the portfolio declined by $8.6 million. These loans receive a much higher reserve than the rest of the portfolio, so their decline offset the increasing portfolio and impact of the higher qualitative factors. Furthermore, there was no additional deterioration to the three loans that were negatively impacted by COVID -19, so no change in their reserve.
Investment Securities
Investments in debt securities decreased by $12,334,785, or 7.21%, to $158,755,106 at June 30, 2022 from $171,089,891 at December 31, 2021. At June 30, 2022 and December 31, 2021, the Company had classified 87% of the investment portfolio as available for sale. The balance of the portfolio was classified as held to maturity.
Securities classified as available for sale are held for an indefinite period of time and may be sold in response to changing market and interest rate conditions as part of the Company’s asset/liability management strategy. Available for sale debt securities are carried at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of stockholders’ equity, net of income taxes. Securities classified as held to maturity, which the Company has both the positive intent and ability to hold to maturity, are reported at amortized cost. The Company records unrealized gains and losses on equity securities in earnings. The Company does not currently follow a strategy of making security purchases with a view to near-term sales, and, therefore, does not own trading securities. The Company manages the investment portfolio within policies that seek to achieve desired levels of liquidity, manage interest rate sensitivity, meet earnings objectives, and provide required collateral for deposit and borrowing activities.
Other Real Estate Owned
Other real estate owned (“OREO”) at June 30, 2022 and December 31, 2021 included two properties with an aggregate carrying value of $1,242,365. The first property is an apartment building in Baltimore, Maryland with a carrying value of $1,242,365 that was acquired in the Merger. The property is under an optional sales contract with no projected closing date. The other property is land in Cecil County, Maryland with a carrying value of $0. It was acquired through foreclosure in 2007. The latter property consists of 10.43 acres and is currently under contract for a gross sales price of $295,000 with closing expected in 2022. Due to the length of time the property has been held, Maryland banking law required a write-down of the value to $0 in 2019.
Deposits
Total deposits increased by $3,057,627, or 0.5%, to $629,472,297 at June 30, 2022 from $626,414,670 at December 31, 2021. The increase in deposits was due to an $11,020,432 increase in noninterest-bearing accounts and a $6,902,982 increase in savings and money market accounts, offset by a $3,264,609 decrease in interest bearing checking accounts and a $11,601,178 decrease in time deposits.
The following table shows the average balances and average costs of deposits for the six months ended June 30, 2022 and 2021:
| June 30, 2022 | June 30, 2021 | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| Average | Average | |||||||||
| Balance | Cost | Balance | Cost | |||||||
| Noninterest bearing demand deposits | $ | 127,882,743 | 0.00 | % | $ | 116,817,132 | 0.00 | % | ||
| Interest bearing demand deposits | 131,282,487 | 0.16 | % | 112,810,820 | 0.20 | % | ||||
| Savings and money market deposits | 195,108,443 | 0.11 | % | 177,924,515 | 0.17 | % | ||||
| Time deposits | 173,716,027 | 0.51 | % | 191,615,321 | 0.91 | % | ||||
| $ | 627,989,700 | 0.21 | % | $ | 599,167,788 | 0.38 | % |
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Liquidity Management
Liquidity describes our ability to meet financial obligations that arise out of the ordinary course of business. Liquidity is primarily needed to meet depositor withdrawal requirements, to fund loans, and to fund our other debts and obligations as they come due in the normal course of business. We maintain our asset liquidity position internally through short-term investments, the maturity distribution of the investment portfolio, loan repayments, and income from earning assets. On the liability side of the balance sheet, liquidity is affected by the timing of maturing liabilities and the ability to generate new deposits or borrowings as needed. The Bank is approved to borrow 75% of eligible pledged single-family residential loans and 50% of eligible pledged commercial loans as well as investment securities, or approximately $71.2 million under a secured line of credit with the Federal Home Loan Bank (“FHLB”). The Bank also has a facility with the Federal Reserve Bank of Richmond (the “Reserve Bank”) under which the Bank can borrow approximately $30.8 million. Finally, the Bank has $23,500,000 ($14,500,000 unsecured and $9,000,000 secured) of overnight federal funds lines of credit available from commercial banks. FHLB advances of $5,000,000 were outstanding as of June 30, 2022 and December 31, 2021. The Company borrowed $17,000,000 to facilitate the acquisition of Carroll as more fully described below. There were no borrowings from the Reserve Bank or our commercial bank lenders at June 30, 2022 and December 31, 2021. Management believes that we have adequate liquidity sources to meet all anticipated liquidity needs over the next 12 months. Management knows of no trend or event which is likely to have a material impact on our ability to maintain liquidity at satisfactory levels.
Borrowings and Other Contractual Obligations
The Company’s contractual obligations consist primarily of borrowings and operating leases for various facilities.
On September 30, 2020, the Company borrowed $17,000,000 from First Horizon Bank (“FHN”) for the purpose of funding a portion of the merger consideration that was payable to the stockholders of Carroll when it was merged with and into the Company on October 1, 2020. Net of issuance costs, the amount of the net long-term debt was $16,037,274 and $16,978,905 as of June 30, 2022 and December 31, 2021, respectively. The loan matures on September 30, 2025. The interest rate on the loan is fixed at 4.10%. Quarterly interest-only payments were made through October 1, 2021. During the remaining term of the loan, the Company is required to make quarterly interest and principal payments of approximately $646,472, which will be based on a nine-year straight-line amortization schedule. The remaining balance of approximately $9,916,667 will be due at maturity. To secure its obligations under this loan, the Company pledged all of its shares of common stock of the Bank to FHN.
Securities sold under agreements to repurchase represent overnight borrowings from customers. Securities owned by the Company which are used as collateral for these borrowings are primarily U.S. government agency securities.
Specific information about the Company’s borrowings and contractual obligations is set forth in the following table:
| June 30, | December 31, | |||||
|---|---|---|---|---|---|---|
| 2022 | 2021 | |||||
| Amount oustanding at period-end: | ||||||
| Securities sold under repurchase agreements | $ | 5,649,445 | $ | 5,414,026 | ||
| Federal Home Loan Bank advances | 5,000,000 | 5,000,000 | ||||
| Long-term debt (net of issuance costs) | 16,037,274 | 16,978,905 | ||||
| Weighted average rate paid at period-end: | ||||||
| Securites sold under repurchase agreements | 0.30 | % | 0.61 | % | ||
| Federal Home Loan Bank advances | 1.00 | % | 1.00 | % | ||
| Long-term debt | 4.10 | % | 4.10 | % |
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The Federal Home Loan Bank advances and the long-term debt outstanding at June 30, 2022 will require the following principal payments:
| Year ending December 31, 2022 | 944,444 |
|---|---|
| Year ending December 31, 2023 | 1,888,889 |
| Year ending December 31, 2024 | 1,888,889 |
| Year ending December 31, 2025 | 16,333,333 |
Capital Resources and Adequacy
The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possible additional, discretionary actions by the regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and 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.
Quantitative measures established by the Basel III Capital Rules to ensure capital adequacy require the maintenance of minimum amounts and ratios (set forth in the table below) of Common Equity Tier 1 capital, Tier 1 capital, and Total capital (as defined in the regulations) to risk‑weighted assets (as defined), and of Tier 1 capital to adjusted quarterly average assets (as defined).
Additional information regarding the capital requirements that apply to us can be found in Note 6 to the consolidated financial statements presented elsewhere in this report and in Item 1 of Part I of the Form 10-K under the heading, “Supervision and Regulation – Capital Requirements”.
The following table presents actual and required capital ratios as of June 30, 2022 and December 31, 2021 for the Bank under the Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as of June 30, 2022 and December 31, 2021, based on the phase-in provisions of the Basel III Capital Rules. Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules.
| Minimum | To Be Well | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (Dollars in thousands) | Actual | Capital Adequacy | Capitalized | ||||||||||||
| June 30, 2022 | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||
| Total capital (to risk-weighted assets) | $ | 72,015 | 12.84 | % | $ | 58,907 | 10.50 | % | $ | 56,102 | 10.00 | % | |||
| Tier 1 capital (to risk-weighted assets) | 68,367 | 12.19 | % | 47,687 | 8.50 | % | 44,882 | 8.00 | % | ||||||
| Common equity tier 1 (to risk- weighted assets) | 68,367 | 12.19 | % | 39,271 | 7.00 | % | 36,466 | 6.50 | % | ||||||
| Tier 1 leverage (to average assets) | 68,367 | 9.52 | % | 28,723 | 4.00 | % | 35,904 | 5.00 | % | ||||||
| December 31, 2021 | |||||||||||||||
| Total capital (to risk-weighted assets) | $ | 69,957 | 13.24 | % | $ | 55,471 | 10.50 | % | $ | 52,830 | 10.00 | % | |||
| Tier 1 capital (to risk-weighted assets) | 66,307 | 12.55 | % | 44,905 | 8.50 | % | 42,264 | 8.00 | % | ||||||
| Common equity tier 1 (to risk- weighted assets) | 66,307 | 12.55 | % | 36,981 | 7.00 | % | 34,339 | 6.50 | % | ||||||
| Tier 1 leverage (to average assets) | 66,307 | 9.27 | % | 28,614 | 4.00 | % | 35,767 | 5.00 | % |
The Company intends to fund future growth primarily with cash, federal funds, maturities of investment securities and deposit growth. Management knows of no other trend or event that will have a material impact on capital.
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Off-Balance Sheet Arrangements
In the normal course of business, the Bank makes commitments to extend credit and issues standby letters of credit. Outstanding loan commitments, unused lines of credit, and letters of credit as of June 30, 2022 and December 31, 2021 are as follows:
| June 30, | December 31, | |||
|---|---|---|---|---|
| 2022 | 2021 | |||
| Loan commitments | ||||
| Construction and land development | $ | 3,375,714 | $ | 6,810,353 |
| Commercial | 1,365,622 | 630,000 | ||
| Consumer | 28,000 | - | ||
| Commercial real estate | 25,350,263 | 23,552,400 | ||
| Residential | 7,277,853 | 3,804,617 | ||
| $ | 37,397,452 | $ | 34,797,370 | |
| Unused lines of credit | ||||
| Home-equity lines | $ | 12,813,624 | $ | 12,707,519 |
| Commercial lines | 35,673,438 | 28,828,911 | ||
| $ | 48,487,062 | $ | 41,536,430 | |
| Letters of credit | $ | 1,479,936 | $ | 1,470,742 |
Loan commitments and lines of credit are agreements to lend to a customer as long as there is no violation of any condition to the contract. Loan commitments generally have interest rates at current market amounts, fixed expiration dates, and may require payment of a fee. Lines of credit generally have variable interest rates. Such lines do not represent future cash requirements because it is unlikely that all customers will draw upon their lines in full at any time. Letters of credit are commitments issued to guarantee the performance of a customer to a third party.
The maximum exposure to credit loss in the event of nonperformance by the customer is the contractual amount of the commitment. Loan commitments, lines of credit and letters of credit are made on the same terms, including collateral, as outstanding loans. Management is not aware of any accounting loss that is likely to be incurred as a result of funding its credit commitments.
RESULTS OF OPERATIONS
Comparison of Operating Results for the Six Months Ended June 30, 2022 and 2021
General
Net income for the six months ended June 30, 2022 was $4,101,535, compared to $4,061,794 for the same period of 2021. The increase of $39,741, or 0.98%, was due to a $620,298 increase in net interest income and a $100,000 decrease in the loan loss provision, offset by a $168,053 decrease in noninterest income, a $463,927 increase in noninterest expenses, and a $43,577 increase in income taxes.
Net Interest Income
Net interest income was $11,736,274 for the six months ended June 30, 2022, compared to $11,115,976 for the same period of 2021.
37
Total interest income for the six months ended June 30, 2022 was $12,764,872, compared to $12,651,703 for the same period of 2021, an increase of $113,169, or 0.89%.
Total interest income on loans for the six months ended June 30, 2022 decreased by $714,605 when compared to the same period of 2021 due to a $38.5 million lower average loan balance for the six months ended June 30, 2022 when compared to the same period of 2021, offset by a higher loan yield of 4.53% for the six months ended June 30, 2022 versus 4.47% for the same period of 2021. Investment income for the six months ended June 30, 2022 increased by $822,917, or 96.37%, when compared to the same period of 2021 due to an $80.1 million higher average investment balance and an increase in fully-taxable equivalent yield to 2.01% for the six months ended June 30, 2022, compared to 1.99% for the same period of 2021. The fully-taxable equivalent yield on total interest-earning assets decreased 14 basis points to 3.78% for the six months ended June 30, 2022, compared to 3.92% for the same period of 2021. The average balance of total interest-earning assets increased by $29.0 million to $679.3 million for the six months ended June 30, 2022, compared to $650.3 million for the same period of 2021.
Total interest expense for the six months ended June 30, 2022 was $1,028,598, compared to $1,535,727 for the same period of 2021, a decrease of $507,129, or 33.02%. The decrease was due to a lower overall cost of funds on interest bearing deposits and borrowings of 0.39% for the six months ended June 30, 2022, compared to 0.60% for the same period of 2021, offset by a $9.5 million increase in the average balance of interest-bearing liabilities to $525.3 million for the six months ended June 30, 2022, compared to $515.8 million in the same period of 2021. Cost of funds for time deposits decreased to 0.51% for the six months ended June 30, 2022 from 0.91% for the same period of 2021. Securities sold under repurchase agreements cost of funds decreased to 0.30% for the six months ended June 30, 2022 from 0.50% for the same period of 2021.
Average noninterest-earning assets decreased by $8.0 million to $32.8 million for the six months ended June 30, 2022, compared to $40.9 million in the same period of 2021. Average noninterest-bearing deposits increased by $11.1 million to $127.9 million during the six months ended June 30, 2022, compared to $116.8 million in the same period of 2021. The average balance in stockholders’ equity decreased by $133,197 for the six months ended June 30, 2022 when compared with the same period of 2021.
38
The following table sets forth information regarding the average balances of interest-earning assets and interest-bearing liabilities, the amount of interest income and interest expense and the resulting yields on average interest-earning assets and rates paid on average interest-bearing liabilities for the six-month periods ended June 30, 2022 and 2021. Average balances are also provided for noninterest-earning assets and noninterest-bearing liabilities.
| Six Months Ended | Six Months Ended | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| June 30, 2022 | June 30, 2021 | |||||||||||||
| Average | Average | |||||||||||||
| Balance | Interest | Yield | Balance | Interest | Yield | |||||||||
| Assets*:* | ||||||||||||||
| Loans | $ | 488,119,522 | $ | 11,053,712 | 4.53 | % | $ | 526,586,402 | $ | 11,768,317 | 4.47 | % | ||
| Securities, taxable | 156,034,198 | 1,389,115 | 1.78 | % | 74,326,338 | 543,033 | 1.46 | % | ||||||
| Securities, tax exempt | 19,120,619 | 374,745 | 3.92 | % | 20,689,680 | 403,933 | 3.90 | % | ||||||
| Federal funds sold and other interest-earning assets | 16,036,876 | 36,349 | 0.45 | % | 28,720,770 | 30,971 | 0.22 | % | ||||||
| Total interest-earning assets | 679,311,215 | 12,853,921 | 3.78 | % | 650,323,190 | 12,746,254 | 3.92 | % | ||||||
| Noninterest-earning assets | 32,812,683 | 40,851,762 | ||||||||||||
| Total assets | $ | 712,123,898 | $ | 691,174,952 | ||||||||||
| Liabilities and Stockholders’ Equity*:* | ||||||||||||||
| NOW, savings, and money market | $ | 326,390,930 | 213,748 | 0.13 | % | $ | 290,735,335 | 259,248 | 0.18 | % | ||||
| Certificates of deposit | 173,716,027 | 444,016 | 0.51 | % | 191,615,321 | 869,709 | 0.91 | % | ||||||
| Securities sold under repurchase agreements | 3,820,287 | 5,684 | 0.30 | % | 11,484,379 | 28,483 | 0.50 | % | ||||||
| Long-term debt | 16,418,169 | 340,112 | 4.14 | % | 16,974,687 | 353,249 | 4.16 | % | ||||||
| FHLB advances and other borrowings | 5,000,000 | 25,038 | 1.00 | % | 5,000,000 | 25,038 | 1.00 | % | ||||||
| Total interest-bearing liabilities | 525,345,413 | 1,028,598 | 0.39 | % | 515,809,722 | 1,535,727 | 0.60 | % | ||||||
| Noninterest-bearing deposits | 127,882,743 | 116,817,132 | ||||||||||||
| Noninterest-bearing liabilities | 5,514,639 | 5,033,798 | ||||||||||||
| Total liabilities | 658,742,795 | 637,660,652 | ||||||||||||
| Stockholders' equity | 53,381,103 | 53,514,300 | ||||||||||||
| Total liabilities and stockholders' equity | $ | 712,123,898 | $ | 691,174,952 | ||||||||||
| Net interest income | $ | 11,825,323 | $ | 11,210,527 | ||||||||||
| Interest rate spread | 3.39 | % | 3.32 | % | ||||||||||
| Net yield on interest-earning assets | 3.48 | % | 3.45 | % | ||||||||||
| Ratio of average interest-earning assets to average interest-bearing liabilities | 129.31 | % | 126.08 | % | ||||||||||
| Interest on tax-exempt securities and other tax-exempt investments are reported on fully taxable equivalent basis based upon tax rates of 21% for Federal and 8.25% for State. | ||||||||||||||
| --- |
Noninterest Income
Noninterest income for the six months ended June 30, 2022 was $937,443, compared to $1,105,501 for the same period of 2021, a decrease of $168,053, or 15.2%. The decrease was due primarily to a $309,259 decrease in mortgage banking income as a result of residential refinance activity declining due to rising interest rates, offset by a $158,123 increase in the gain on the sale of SBA loans.
39
Noninterest Expense
Noninterest expense for the six months ended June 30, 2022 totaled $7,368,184, compared to $6,904,257 for the same period of 2021, an increase of $463,927, or 6.72%. The increase was due primarily to increases in salaries and benefits of $235,964, and in other expenses of $222,992. Salaries and benefits increased due to normal and usual annual salary increases that are effective January 1 as well as an increase in the overall headcount. The other expense increase was due to a $239,684 increase in professional fees as a result of recruitment fees paid to fill several positions.
Income Tax Expense
Income tax expense for the six months ended June 30, 2022 was $1,204,003 compared to $1,155,426 for the same period of 2021. The effective tax rate was 22.7% for the six months ended June 30, 2022, compared to 22.2% for the same period of 2021.
Comparison of Operating Results for the Three Months Ended June 30, 2022 and 2021
General
Net income for the three months ended June 30, 2022 was $2,050,733, compared to $2,032,219 for the same period of 2021. The increase of $18,514, or 0.91%, was due to a $229,664 increase in net interest income, offset by a $20,000 increase in the loan loss provision, a $106,915 decrease in noninterest income, a $59,453 increase in noninterest expenses, and a $24,782 increase in income taxes.
Net Interest Income
Net interest income was $5,772,185 for the three months ended June 30, 2022, compared to $5,542,521 for the same period of 2021.
Total interest income for the three months ended June 30, 2022 was $6,275,147, compared to $6,281,111 for the same period of 2021, a decrease of $5,964, or 0.09%.
Total interest income on loans for the three months ended June 30, 2022 decreased by $413,310 when compared to the same period of 2021 due to a $34.4 million lower average loan balance for the three months ended June 30, 2022 when compared to the same period of 2021, and a lower loan yield of 4.37% for the three months ended June 30, 2022 versus 4.40% for the same period of 2021. Investment income for the three months ended June 30, 2022 increased by $400,767, or 83.12%, when compared to the same period of 2021 due to a $72.4 million higher average investment balance and an increase in fully-taxable equivalent yield to 2.08% for the three months ended June 30, 2022, compared to 2.00% for the same period of 2021. The fully-taxable equivalent yield on total interest-earning assets decreased 10 basis points to 3.70% for the three months ended June 30, 2022, compared to 3.80% for the same period of 2021. The average balance of total interest-earning assets increased by $18.7 million to $683.9 million for the three months ended June 30, 2022, compared to $665.2 million for the same period of 2021.
Total interest expense for the three months ended June 30, 2022 was $502,962, compared to $738,590 for the same period of 2021, a decrease of $235,628, or 31.90%. The decrease was due to a lower overall cost of funds on interest bearing deposits and borrowings of 0.38% for the three months ended June 30, 2022, compared to 0.57% for the same period of 2021, offset by a $4.4 million increase in the average balance of interest-bearing liabilities to $526.7 million for the three months ended June 30, 2022, compared to $522.3 million in the same period of 2021. Cost of funds for time deposits decreased to 0.49% for the three months ended June 30, 2022 from 0.86% for the same period of 2021. Securities sold under repurchase agreements cost of funds decreased to 0.30% for the three months ended June 30, 2022 from 0.43% for the same period of 2021.
Average noninterest-earning assets decreased by $8.8 million to $29.8 million for the three months ended June 30, 2022, compared to $38.6 million in the same period of 2021. Average noninterest-bearing deposits increased by $9.2 million to $131.1 million during the three months ended June 30, 2022, compared to $121.9 million in the same period of 2021. The average balance in stockholders’ equity decreased by $3.7 million for the three months ended June 30, 2022 when compared with the same period of 2021 due to the change in the market value of the available-for-sale securities portfolio.
40
The following table sets forth information regarding the average balances of interest-earning assets and interest-bearing liabilities, the amount of interest income and interest expense and the resulting yields on average interest-earning assets and rates paid on average interest-bearing liabilities for the three-month periods ended June 30, 2022 and 2021. Average balances are also provided for noninterest-earning assets and noninterest-bearing liabilities.
| Three Months Ended | Three Months Ended | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| June 30, 2022 | June 30, 2021 | |||||||||||||
| Average | Average | |||||||||||||
| Balance | Interest | Yield | Balance | Interest | Yield | |||||||||
| Assets*:* | ||||||||||||||
| Loans | $ | 491,362,854 | $ | 5,370,350 | 4.37 | % | $ | 525,734,302 | $ | 5,783,660 | 4.40 | % | ||
| Securities, taxable | 159,346,098 | 743,371 | 1.87 | % | 85,334,627 | 330,789 | 1.55 | % | ||||||
| Securities, tax exempt | 18,596,437 | 182,047 | 3.92 | % | 20,233,549 | 196,176 | 3.88 | % | ||||||
| Federal funds sold and other interest-earning assets | 14,580,803 | 23,232 | 0.64 | % | 33,856,811 | 16,153 | 0.19 | % | ||||||
| Total interest-earning assets | 683,886,192 | 6,319,000 | 3.70 | % | 665,159,289 | 6,326,778 | 3.80 | % | ||||||
| Noninterest-earning assets | 29,803,177 | 38,562,515 | ||||||||||||
| Total assets | $ | 713,689,369 | $ | 703,721,804 | ||||||||||
| Liabilities and Stockholders’ Equity*:* | ||||||||||||||
| NOW, savings, and money market | $ | 330,810,077 | 108,871 | 0.13 | % | $ | 298,812,807 | 128,663 | 0.17 | % | ||||
| Certificates of deposit | 171,426,446 | 210,333 | 0.49 | % | 188,963,169 | 404,774 | 0.86 | % | ||||||
| Securities sold under repurchase agreements | 3,251,791 | 2,433 | 0.30 | % | 12,512,074 | 14,972 | 0.48 | % | ||||||
| Long-term debt | 16,210,876 | 168,737 | 4.16 | % | 16,975,038 | 177,593 | 4.18 | % | ||||||
| FHLB advances and other borrowings | 5,000,000 | 12,588 | 1.01 | % | 5,000,000 | 12,588 | 1.01 | % | ||||||
| Total interest-bearing liabilities | 526,699,190 | 502,962 | 0.38 | % | 522,263,088 | 738,590 | 0.57 | % | ||||||
| Noninterest-bearing deposits | 131,130,343 | 121,919,509 | ||||||||||||
| Noninterest-bearing liabilities | 5,429,033 | 5,418,568 | ||||||||||||
| Total liabilities | 663,258,566 | 649,601,165 | ||||||||||||
| Stockholders' equity | 50,430,803 | 54,120,639 | ||||||||||||
| Total liabilities and stockholders' equity | $ | 713,689,369 | $ | 703,721,804 | ||||||||||
| Net interest income | $ | 5,816,038 | $ | 5,588,188 | ||||||||||
| Interest rate spread | 3.32 | % | 3.24 | % | ||||||||||
| Net yield on interest-earning assets | 3.40 | % | 3.36 | % | ||||||||||
| Ratio of average interest-earning assets to average interest-bearing liabilities | 129.84 | % | 127.36 | % | ||||||||||
| Interest on tax-exempt securities and other tax-exempt investments are reported on fully taxable equivalent basis based upon tax rates of 21% for Federal and 8.25% for State. | ||||||||||||||
| --- |
41
Noninterest Income
Noninterest income for the three months ended June 30, 2022 was $441,641, compared to $543,556 for the same period of 2021, a decrease of $106,915, or 19.49%. The decrease was primarily a result of a $175,680 decrease in mortgage banking income as a result of residential refinance activity declining due to rising interest rates, offset by a $64,523 increase in the gain on the sale of SBA loans.
Noninterest Expense
Noninterest expense for the three months ended June 30, 2022 totaled $3,568,586 compared to $3,509,133 for the same period of 2021, an increase of $59,453, or 1.69%. The increase was due primarily to increases in salaries and benefits of $83,003, offset by a decrease in other expenses of $32,374. Salaries and benefits increased due to normal and usual annual salary increases that are effective January 1 as well as an increase in the overall headcount.
Income Tax Expense
Income tax expense for the three months ended June 30, 2022 was $594,507 compared to $569,725 for the same period of 2021. The effective tax rate was 22.5% for the three months ended June 30, 2022, compared to 21.9% for the same period of 2021.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Farmers and Merchants Bancshares, Inc. is a “smaller reporting company” as defined in Rule 12b-2 promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and, accordingly, is not required to include the information required by this item.
Item 4. Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act with the SEC, such as this Quarterly Report, is recorded, processed, summarized and reported within the periods specified in those rules and forms, and that such information is accumulated and communicated to our management, including Farmers and Merchants Bancshares, Inc.’s principal executive officer (“PEO”) and the principal financial officer (“PFO”), as appropriate, to allow for timely decisions regarding required disclosure. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.
An evaluation of the effectiveness of these disclosure controls as of June 30, 2022 was carried out under the supervision and with the participation of management, including the PEO and the PFO. Based on that evaluation, management, including the PEO and the PFO, has concluded that our disclosure controls and procedures are, in fact, effective at the reasonable assurance level.
During the quarter ended June 30, 2022, there was no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
42
Part II – OTHER INFORMATION
| Item 1. | Legal Proceedings |
|---|
None.
| Item 1A. | Risk Factors |
|---|
The risks and uncertainties to which our financial condition and operations are subject are discussed in detail in Item 1A of Part I of the Form 10-K. Management does not believe that any material changes in our risk factors have occurred since they were last disclosed.
| Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
|---|
None.
| Item 3. | Defaults upon Senior Securities |
|---|
None.
| Item 4. | Mine Safety Disclosures |
|---|
Not Applicable.
| Item 5. | Other Information |
|---|
None.
| Item 6. | Exhibits |
|---|
The exhibits filed or furnished with this quarterly report are listed in the following Exhibit Index:
| Exhibit | Description |
|---|---|
| 31.1 | Certifications of the Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act (filed herewith) |
| 31.2 | Certifications of the Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act (filed herewith) |
| 32 | Certification of the Principal Executive Officer and the Principal Financial Office pursuant to Section 906 of the Sarbanes-Oxley Act (furnished herewith) |
| 101 | Interactive Data Files pursuant to Rule 405 of Regulation S-T (filed herewith) |
| 104 | The cover page of Farmers and Merchants Bancshares, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2022 formatted in Inline XBRL, included within the Exhibit 101 attachments (filed herewith). |
43
SIGNATURES
Pursuant to the requirements 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.
| FARMERS AND MERCHANTS BANCSHARES, INC. | ||
|---|---|---|
| Date: | August 15, 2022 | /s/ James R. Bosley, Jr. |
| James R. Bosley, Jr. | ||
| Chief Executive Officer | ||
| (Principal Executive Officer) | ||
| Date | August 15, 2022 | /s/ Mark C. Krebs |
| Mark C. Krebs | ||
| Treasurer and Chief Financial Officer | ||
| (Principal Financial Officer & Principal Accounting Officer) |
44
Exhibit 31.1
Certifications of the Principal Executive Officer
Pursuant to Securities Exchange Act Rules 13a-14 and 15d-14
As adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, James R. Bosley, Jr., certify that:
| 1. | I have reviewed this quarterly report on Form 10-Q of Farmers and Merchants Bancshares, Inc.; |
|---|
2. 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;
3. 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;
4. 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:
| a. | 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; |
|---|---|
| b. | 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; |
| --- | --- |
| c. | 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 |
| --- | --- |
| d. | 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 |
| --- | --- |
5. 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):
| a. | 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 | |
|---|---|---|
| b. | 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: | August 15, 2022 | /s/ James R. Bosley, Jr. |
| --- | --- | --- |
| James R. Bosley, Jr. | ||
| Chief Executive Officer | ||
| (Principal Executive Officer) |
Exhibit 31.2
Certifications of the Principal Financial Officer
Pursuant to Securities Exchange Act Rules 13a-14 and 15d-14
As adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Mark C. Krebs, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Farmers and Merchants Bancshares, Inc.;
2. 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;
3. 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;
4. 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:
| a. | 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; |
|---|---|
| b. | 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; |
| --- | --- |
| c. | 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 |
| --- | --- |
| d. | 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 |
| --- | --- |
5. 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):
| a. | 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 | |
|---|---|---|
| b. | 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 | August 15, 2022 | /s/ Mark C. Krebs |
| --- | --- | --- |
| Mark C. Krebs | ||
| Treasurer and Chief Financial Officer | ||
| (Principal Financial Officer) |
Exhibit 32
Certification of Periodic Report
Pursuant to 18 U.S.C. § Section 1350
As adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
Pursuant to, and for purposes only of, 18 U.S.C. § 1350, each of the undersigned hereby certifies that (i) the Quarterly Report of Farmers and Merchants Bancshares, Inc. on Form 10-Q for the quarter ended June 30, 2022 filed with the Securities and Exchange Commission (the “Report”) fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and (ii) information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of Farmers and Merchants Bancshares, Inc.
| Date: | August 15, 2022 | /s/ James R. Bosley, Jr. |
|---|---|---|
| James R. Bosley, Jr. | ||
| Chief Executive Officer | ||
| (Principal Executive Officer) | ||
| Date | August 15, 2022 | /s/ Mark C. Krebs |
| Mark C. Krebs | ||
| Treasurer and Chief Financial Officer | ||
| (Principal Financial Officer & Principal Accounting Officer) |