VIRGINIA NATIONAL BANKSHARES CORPORATION The following discussion provides information about the major components of the results of operations and financial condition, liquidity, and capital resources ofVirginia National Bankshares Corporation . This discussion and analysis should be read in conjunction with the consolidated financial statements and Notes to Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data.
Merger with
OnApril 1, 2021 , the Company merged withFauquier , pursuant to the Agreement and Plan of Reorganization datedSeptember 30, 2020 , including a related Plan of Merger. Pursuant to the Merger Agreement,Fauquier shareholders received 0.675 shares of Company stock for each share ofFauquier common stock, with cash paid in lieu of fractional shares, resulting in the Company issuing 2,571,213 shares of common stock. In connection with the transaction, TFB,Fauquier's wholly-owned bank subsidiary, was merged with and into the Bank.
Application of Critical Accounting Policies and Critical Accounting Critical Estimates
The accounting and reporting policies followed by the Company conform, in all material respects, to GAAP and to general practices within the financial services industry. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. While the Company bases estimates on historical experience, current information, and other factors deemed to be relevant, actual results could differ from those estimates. The Company considers accounting estimates to be critical to reported financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain and (ii) different estimates that management reasonably could have used for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on the Company's financial statements. The Company's accounting policies are fundamental to understanding management's discussion and analysis of financial condition and results of operations.
Following are the accounting policies and estimates that the Company considers as critical:
•
Loans acquired in a business combination: Acquired Loans are classified as
either (i) purchased credit-impaired loans or (ii) purchased performing loans
and are recorded at fair value on the date of acquisition. PCI loans are those
for which there is evidence of credit deterioration since origination and for
which it is probable at the date of acquisition that the Company will not
collect all contractually required principal and interest payments. When
determining fair value, PCI loans are aggregated into pools of loans based on
common risk characteristics as of the date of acquisition such as loan type,
date of origination, and evidence of credit quality deterioration such as
internal risk grades and past due and nonaccrual status. The difference between
contractually required payments at acquisition and the cash flows expected to be
collected at acquisition is referred to as the "nonaccretable difference." Any
excess of cash flows expected at acquisition over the estimated fair value is
referred to as the "accretable yield" and is recognized as interest income over
the remaining life of the loan when there is a reasonable expectation about the
amount and timing of such cash flows.
On a semi-annual basis, the Company evaluates the estimate of cash flows
expected to be collected on PCI loans. Estimates of cash flows for PCI loans
require significant judgment. Subsequent decreases to the expected cash flows
will generally result in a provision for loan losses resulting in an increase to
the allowance for loan losses. Subsequent significant increases in cash flows
may result in a reversal of post-acquisition provision for loan losses or a
transfer from nonaccretable difference to accretable yield that increases
interest income over the remaining life of the loan or pool(s) of loans.
Disposals of loans, which may include sale of loans to third parties, receipt of
payments in full or in part from the borrower or foreclosure of the collateral,
result in removal of the loan from the PCI loan portfolio at its carrying
amount.
PCI loans are not classified as nonperforming loans by the Company at the time
they are acquired, regardless of whether they had been classified as
nonperforming by the previous holder of such loans, and they will not be
classified as nonperforming so long as, at semi-annual re-estimation periods, we
believe we will fully collect the new carrying value of the pools of loans.
The Company accounts for purchased performing loans using the contractual cash
flows method of recognizing discount accretion based on the Acquired Loans'
contractual cash flows. Purchased performing loans are recorded at fair value,
including a credit discount. The fair value discount is accreted as an
adjustment to yield over the estimated lives of the loans. There is no allowance
for loan losses established at the acquisition date for purchased performing
loans. A provision for loan losses may be required for any deterioration in
these loans in future periods.
31
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Allowance for loan losses is a reserve established through a provision for loan losses charged to expense, which represents management's best estimate of probable losses that are inherent in the loan portfolio. Accounting policies related to the allowance for loan losses are considered to be critical, as these policies involve considerable subjective judgment and estimation by management. The Company's allowance for loan loss methodology includes allowance allocations calculated in accordance with ASC Topic 310, "Receivables" and allowance allocations calculated in accordance with ASC Topic 450, "Contingencies." The level of the allowance reflects management's continuing evaluation of: industry concentrations; specific credit risks; loan loss experience; current loan portfolio quality; present economic, political and regulatory conditions; and unidentified losses inherent in the current loan portfolio, as well as trends in the foregoing. Portions of the allowance may be allocated for specific credits; however, the entire allowance is available for any credit that, in management's judgment, should be charged off. While management utilizes its best judgment and information available, the ultimate adequacy of the allowance is dependent upon a variety of factors beyond the Company's control, including the performance of the Company's loan portfolio, the economy, changes in interest rates and the view of the regulatory authorities toward loan classifications. See the section captioned "Allowance for Loan Losses" elsewhere in this discussion and Note 4 - Loans and Note 5 - Allowance for Loan Losses in the Notes to Consolidated Financial Statements, included in Item 8. Financial Statements and Supplementary Data, elsewhere in this report for further details of the risk factors considered by management in estimating the necessary level of the allowance for loan losses.
•
Impaired loans are loans so designated when, based on current information and events, it is probable the Company will be unable to collect all amounts when due in accordance with the original contractual terms of the loan agreement, including scheduled principal and interest payments. If a loan is impaired, a specific valuation allowance is allocated, if necessary, so that the loan is reported net of the impairment, using either the present value of estimated future cash flows at the loan's existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income. Additional information on impaired loans, which includes both TDRs and non-accrual loans, is included in Note 4 - Loans and Note 5 - Allowance for Loan Losses, in the Notes to Consolidated Financial Statements.
•
Fair value measurements are used by the Company to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The Company's valuation methodologies may produce a fair value calculation that may not be indicative of net realized value or reflective of future fair values. While management believes the Company's valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. Additional discussion of valuation methodologies is presented in Note 17 - Fair Value Measurements, in the Notes to Consolidated Financial Statements.
•
Other-than-temporary impairment of securities accounting policies require a periodic review by management to determine if the decline in the fair value of any security appears to be other-than-temporary. Factors considered in determining whether the decline is other-than-temporary include, but are not limited to: the length of time and the extent to which fair value has been below cost; the financial condition and near-term prospects of the issuer; and the Company's intent to sell. See Note 1 - Summary of Significant Accounting Policies and Note 3 - Securities, in the Notes to Consolidated Financial Statements, for further details on the accounting policies for other-than-temporary impairment of securities and the methodology used by management to make this evaluation.
•
Intangible asset accounting policies require that goodwill and other intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but tested for impairment at least annually, or more frequently if events and circumstances exist that indicate that a goodwill impairment test should be performed. Intangible assets with definite useful lives are amortized over their estimated useful lives, which range from 3 to 10 years, to their estimated residual values.Goodwill is the only intangible asset with an indefinite life on the Company's Consolidated Balance Sheets. Additional discussion of the accounting policies and composition of goodwill and other intangibles assets is presented in Note 1 - Summary of Significant Accounting Policies, Note 2 - Business Combinations and Note 8 -Goodwill and Other Intangible Assets, in the Notes to Consolidated Financial Statements. 32 --------------------------------------------------------------------------------
•
Income tax accounting policies have the objective to recognize the amount of
taxes payable or refundable for the current year and the deferred tax assets and
liabilities for future tax consequences of events that have been recognized in
an entity's financial statements or tax returns. Judgment is required in
assessing the future tax consequences of events that have been recognized in the
Company's consolidated financial statements or tax returns. Fluctuations in the
actual outcome of these future tax consequences could impact the Company's
consolidated financial condition or results of operations.
See Note 1 - Summary of Significant Accounting Policies and Note 11 - Income
Taxes, in the Notes to Consolidated Financial Statements, for further detail on
the accounting policies for income taxes and for components of the deferred tax
assets and liabilities.
Non-GAAP Presentations
The accounting and reporting policies of the Company conform to GAAP and
prevailing practices in the banking industry. However, certain non-GAAP measures
are used by management to supplement the evaluation of the Company's
performance. These include adjusted ROAA, adjusted ROAE, adjusted net income,
adjusted earnings per share, adjusted ALLL to total loans, tangible book value
per share and the following fully-taxable equivalent measures: net interest
income-FTE, efficiency ratio-FTE and net interest margin-FTE. Interest on
tax-exempt loans and securities is presented on a taxable-equivalent basis
(which converts the income on loans and investments for which no income taxes
are paid to the equivalent yield as if income taxes were paid) using the federal
corporate income tax rate of 21 percent that was applicable for all periods
presented.
Management believes that the use of these non-GAAP measures provides meaningful
information about operating performance by enhancing comparability with other
financial periods, other financial institutions, and between different sources
of interest income. The non-GAAP measures used by management enhance
comparability by excluding the effects of (1) items that do not reflect ongoing
operating performance, such as merger and merger-related expenses, (2) items
that do not reflect the implicit percentage of the ALLL to total loans, such as
the impact of fair value adjustment and PPP loans, (3) balances of intangible
assets, including goodwill, that vary significantly between institutions, and
(4) tax benefits that are not consistent across different opportunities for
investment. These non-GAAP financial measures should not be considered an
alternative to GAAP-basis financial statements, and other banks and bank holding
companies may define or calculate these or similar measures differently. Net
income is discussed in Management's Discussion and Analysis on a GAAP basis
unless noted as "non-GAAP."
33
--------------------------------------------------------------------------------A reconcilement of the non-GAAP financial measures used by the Company to evaluate and measure the Company's performance to the most directly comparable GAAP financial measures is presented below:
(Dollars in thousands, except per share data)
Reconcilement of Non-GAAP Measures: Year Ended December 31
2022 2021
Performance measures
Return on average assets 1.30 % 0.61 %
Impact of merger expenses 1 0.00 % 0.33 %
Operating return on average assets 1 (non-GAAP) 1.30 % 0.94 %
Return on average equity 16.61 % 7.17 %
Impact of merger expenses 1 0.00 % 3.91 %
Operating return on average equity 1 (non-GAAP) 16.61 % 11.08 %
Net income $ 23,438 $ 10,071
Impact of merger expenses 1 - 5,495
Net income, excluding merger expenses 1
(non-GAAP) $ 23,438 $ 15,566
Net income per share, diluted $ 4.38 $ 2.14
Impact of merger expenses 1 - 1.17
Net income per share, excluding merger expenses 1
(non-GAAP) $ 4.38 $ 3.32
Fully taxable-equivalent measures Net interest income$ 53,547 $
44,988
Fully taxable-equivalent adjustment 316 271 Net interest income (FTE) 2$ 53,863 $ 45,259 Efficiency ratio 3 57.4 % 76.7 % Impact of FTE adjustment -0.3 % -0.4 % Efficiency ratio (FTE) 4 57.1 % 76.3 % Net interest margin 3.19 % 2.92 % Fully tax-equivalent adjustment 0.02 % 0.02 % Net interest margin (FTE) 2 3.21 % 2.94 % Other financial measures ALLL to total loans 0.59 % 0.56 % Impact of acquired loans and fair value mark 0.31 % 0.39 % ALLL to total loans, excluding acquired loans and fair value mark (non-GAAP) 0.90 % 0.95 % ALLL to total loans 0.59 % 0.56 % Fair value mark to total loans 1.70 % 1.74 % ALLL + fair value mark to total loans (non-GAAP) 2.29 % 2.30 % Book value per share$ 25.00 $ 30.50 Impact of intangible assets (1.23 ) (3.14 ) Tangible book value per share (non-GAAP)$ 23.76 $
27.36
1 References to merger expenses include merger and merger-related expenses and
are net of tax.
2 FTE calculations use a Federal income tax rate of 21%.
3 The efficiency ratio, GAAP basis, is computed by dividing noninterest expense
by the sum of net interest income and noninterest income.
4 The efficiency ratio, FTE, is computed by dividing noninterest expense by the
sum of net interest income (FTE) and noninterest income.
34
--------------------------------------------------------------------------------Results of Operations
Consolidated Return on Assets and Equity and Other Key Ratios
The ratio of net income to average total assets and average shareholders' equity and certain other ratios for the years indicated are as follows:
2022 2021
Return on average assets 1.30 % 0.61 %
Operating return on average assets (non-GAAP) 1.30 % 0.94 % Return on average equity
16.61 % 7.17 %
Operating return on average equity (non-GAAP) 16.61 % 11.08 % Average equity to average assets
7.85 % 8.52 %
Cash dividend payout ratio 27.40 % 55.95 %
Efficiency ratio (FTE) 57.10 % 76.30 %
Net income for the year ended December 31, 2022 was $23.4 million , or $4.38 per
diluted share, a 132.7% increase compared to $10.1 million , or $2.14 per diluted
share for the year ended December 31, 2021 . This increase was primarily the
result of a $8.6 million increase in net interest income, a $3.2 million
increase in noninterest income, a $908 thousand reduction in provision for loan
losses and a $4.0 million decrease in noninterest expense. Each component of
such year-over-year changes are described in more detail below.
The efficiency ratio (FTE) was 57.1% for the year ended December 31, 2022 ,
compared to 76.3% for the same period of 2021, decreasing due primarily to the
increase in net interest income year-over-year and the one-time impact of merger
and merger-related expenses incurred in 2021.
The Company had four reportable segments during the period presented: the Bank,
•
Bank - The Bank's commercial banking activities involve making loans, taking deposits and offering related services to individuals, businesses and charitable organizations. Loan fee income, service charges from deposit accounts, and other non-interest-related revenue, such as fees for debit cards and ATM usage and fees for treasury management services, generate additional income for this segment.
•
Sturman Wealth Advisors - This segment offered wealth and investment advisory services. Revenue for this segment was generated primarily from investment advisory and financial planning fees, with a small and decreasing portion attributable to brokerage commissions. DuringDecember 2022 , the Company sold this segment, including interest in the client relationships, to the individual running this line of business. More information on this sale can be found underGoodwill and Other Intangible Assets in Note 8 and Sale of Sturman Wealth Segment in Note 21 of the Notes to Consolidated Financial Statements, which is found in Item 8. Financial Statements and Supplementary Data.
•
VNB Trust and Estate Services - This segment offers corporate trustee services, trust and estate administration, IRA administration and custody services and offers in-house investment management services. Revenue for this segment is generated from administration, service and custody fees, as well as management fees which are derived from Assets Under Management. Investment management services currently are offered through affiliated and third-party managers.
•
Masonry Capital -Masonry Capital offers investment management services for separately managed accounts and a private investment fund employing a value-based, catalyst-driven investment strategy. Revenue for this segment is generated from management fees which are derived from Assets Under Management and incentive income which is based on the investment returns generated on performance-based Assets Under Management. The Bank segment earned net income of$21.6 million in 2022, a$12.7 million increase over the$9.0 million netted in 2021. Sturman Wealth earned$122 thousand in 2022 compared to$384 thousand in the prior year.VNB Trust and Estate Services realized net income of$1.6 million in 2022, compared to$162 thousand in 2021.Masonry Capital realized net income of$103 thousand in 2022, compared to$561 thousand in 2021.
Details of the changes in the various components of net income are further discussed below.
Net Interest Income
Net interest income is computed as the difference between the interest income on
earning assets and the interest expense on deposits and other interest bearing
liabilities. Net interest income represents the principal source of revenue for
the Company and accounted for 79.7% of the total revenue in 2022. Net interest
margin (FTE) is the ratio of taxable-equivalent
35
--------------------------------------------------------------------------------net interest income to average earning assets for the period. The level of interest rates and the volume and mix of earning assets and interest-bearing liabilities impact net interest income (FTE) and net interest margin (FTE).
The following table details the average balance sheet, including an analysis of net interest income (FTE) for earning assets and interest bearing liabilities, for the years endedDecember 31, 2022 , 2021, and 2020. Consolidated Average Balance Sheets and Analysis of Net Interest Income (FTE) 2022 2021 2020 Interest Average Interest Average Interest Average Income Yield/ Income Yield/ Average Income Yield/ (Dollars in thousands) Average Balance Expense
Cost Average Balance Expense Cost Balance
Expense Cost ASSETS Interest earning assets: Securities Taxable securities $ 373,680$ 8,696
2.33 % $ 198,450
1,706 1.69 % Tax exempt securities 1 65,861 1,582 2.40 % 53,716 1,292 2.41 % 20,195 601 2.98 % Total securities 1 439,541 10,278 2.34 % 252,166 4,272 1.69 % 121,394 2,307 1.90 % Loans: Real estate 847,238 38,011 4.49 % 808,707 35,303 4.37 % 404,391 16,680 4.12 % Commercial 81,410 3,583 4.40 % 145,462 5,731 3.94 % 132,282 5,115 3.87 % Consumer 49,619 2,637 5.31 % 63,039 2,865 4.54 % 64,181 3,150 4.91 % Total Loans 978,267 44,231 4.52 % 1,017,208 43,899 4.32 % 600,854 24,945 4.15 % Fed funds sold 100,033 1,088 1.09 % 109,104 139 0.13 % 34,130 104 0.30 % Other interest-bearing deposits 161,260 1,467 0.91 % 160,960 233 0.14 % - - - Total earning assets 1,679,101 57,064 3.40 % 1,539,438 48,543 3.15 % 756,378 27,356 3.62 % Less: Allowance for loan losses (5,702 ) (5,297 ) (4,886 ) Total non-earning assets 124,525 115,193 46,186 Total assets$ 1,797,924 $ 1,649,334 $ 797,678 LIABILITIES AND SHAREHOLDERS' EQUITY Interest bearing liabilities: Interest bearing deposits: Interest checking $ 409,504$ 230 0.06 % $ 355,419$ 261 0.07 %$ 132,465 $ 120 0.09 % Money market and savings deposits 563,374 2,097 0.37 % 529,027 2,047 0.39 % 261,370 1,704 0.65 % Time deposits 144,564 657 0.45 % 152,211 1,108 0.73 % 100,846 1,454 1.44 % Total interest-bearing deposits 1,117,442 2,984 0.27 % 1,036,657 3,416 0.33 % 494,681 3,278 0.66 % Borrowings - - - 23,700 (280 ) -1.18 % 15,419 73 0.47 % Junior subordinated debt 3,389 200 5.90 % 2,565 148 5.77 % - - - Total interest-bearing liabilities 1,120,831 3,184 0.28 % 1,062,922 3,284 0.31 % 510,100 3,351 0.66 % Non-interest-bearing liabilities: Demand deposits 526,389 434,989 203,143 Other liabilities 9,581 10,875 4,697 Total liabilities 1,656,801 1,508,786 717,940 Shareholders' equity 141,123 140,548 79,738
Total liabilities & shareholders'
equity$ 1,797,924 $ 1,649,334 $ 797,678 Net interest income (FTE)$ 53,880 $ 45,259 $ 24,005 Interest rate spread 2 3.12 % 2.84 % 2.96 % Cost of funds 0.19 % 0.22 % 0.47 % Interest expense as a percentage of average earning assets 0.19 % 0.21 % 0.44 % Net interest margin (FTE) 3 3.21 % 2.94 % 3.17 % (1)
Tax-exempt income for investment securities has been adjusted to a fully tax-equivalent basis (FTE), using a Federal income tax rate of 21%. Refer to the Reconcilement of Non-GAAP Measures table within the Non-GAAP Presentations earlier in this section.
(2)
Interest rate spread is the average yield earned on earning assets less the average rate paid on interest-bearing liabilities.
(3)
Net interest margin (FTE) is net interest income (FTE) expressed as a percentage of average earning assets.
36
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The purpose of the volume and rate analysis below is to describe the impact on
the net interest income (FTE) of the Company resulting from changes in average
balances and average interest rates for the periods indicated. The change in
interest due to both volume and rate has been allocated to volume and rate
changes in proportion to the relationship of the absolute dollar amounts of the
change in each. Interest income is reported on a tax-equivalent basis.
Volume and Rate Analysis
2022 compared to 2021
Change due to: Increase/
(Dollars in thousands) Volume Rate (Decrease)
Assets:
Securities $ 3,815 $ 2,191 $ 6,006
Loans:
Real estate 1,833 875 2,708
Commercial (2,780 ) 632 (2,148 )
Consumer (669 ) 441 (228 )
Total loans (1,616 ) 1,948 332
Federal funds sold (13 ) 962 949
Other interest-bearing deposits (21 ) 1,255 1,234
Total earning assets$ 2,165 $ 6,356 $
8,521
Liabilities and Shareholders' equity: Interest-bearing deposits: Interest checking$ 36 (67 )$ (31 ) Money market and savings 130 (80 ) 50 Time deposits (53 ) (398 ) (451 ) Total interest-bearing deposits 113 (545 ) (432 ) Short term borrowings 280 - 280 Junior subordinated debt 14 38 52 Total interest-bearing liabilities 407 (507 ) (100 ) Change in net interest income$ 1,758 $ 6,863 $ 8,621 37
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2021 compared to 2020
Change due to: Increase/
(Dollars in thousands) Volume Rate (Decrease)
Assets:
Securities $ 2,240 $ (275 ) $ 1,965
Loans:
Real estate 17,596 1,027 18,623
Commercial 518 98 616
Consumer (55 ) (230 ) (285 )
Total loans 18,059 895 18,954
Federal funds sold 123 (88 ) 35
Other interest-bearing deposits: 233 - 233
Total earning assets$ 20,655 $ 532 $
21,187
Liabilities and Shareholders' equity: Interest-bearing deposits: Interest checking$ 168 (27 )$ 141 Money market and savings 1,237 (894 ) 343 Time deposits 555 (901 ) (346 ) Total interest-bearing deposits 1,960 (1,822 ) 138 Short term borrowings 21 (374 ) (353 ) Junior subordinated debt 148 - 148
Total interest-bearing liabilities 2,129 (2,196 ) (67 ) Change in net interest income
$ 18,526 $ 2,728 $
21,254
For 2022, net interest income (FTE) of$53.9 million was recognized, an increase of$8.6 million over 2021. Net interest income (FTE) for 2021 totaled$45.3 million , a$21.3 million increase over the 2020 total of$24.0 million . Average earning assets increased$139.7 million or 9.1% in 2022 compared to 2021 and increased$783.1 million or 103.5% in 2021 compared to 2020. The increases in volume and rate of the securities portfolio from 2021 to 2022 were the primary contributing factors of the increase in net interest income. The declines in rates paid on deposits over the same period also positively impacted net interest income. The average balance for loans as a percentage of earnings assets for 2022 was 58.3%, compared to 66.1% and 79.4% in 2021 and 2020, respectively. The 2022 net interest margin (FTE) improved 27 bps to 3.21% from 2.94% in 2021. The 2021 net interest margin (FTE) declined 23 bps from 3.17% in 2020. The tax-equivalent yield on average earning assets for 2022 of 3.40% was 25 bps higher than the 2021 yield of 3.15%. The 2021 tax-equivalent yield on average earning assets was 47 bps lower than the comparable 2020 yield of 3.62%. Loan yields for 2022 were 4.52%, improving 20 bps from the loan yield of 4.32% for 2021. Average loans for 2022 of$978.3 million were$38.9 million lower than the 2021 average of$1.0 billion , due to the execution of the Company's planned strategy to further improve asset quality through negotiation of loan paydowns, as well as PPP forgiveness. 2021's average loan balances were$416.4 million higher than the 2020 average of$600.9 million due to loans acquired through the Merger. Interest expense as a percentage of average earning assets declined to 19 bps for 2022, compared to 21 and 44 bps for 2021 and 2020, respectively. Net interest margin will be impacted by future changes in short-term and long-term interest rate levels on deposits, as well as the impact from the competitive environment. A continuing primary driver of the Company's low cost of funds is the Company's level of non-interest bearing demand deposits and low-cost deposit accounts. Following is a table illustrating the average balances of deposit accounts as a percentage of total deposit account balances. 38 -------------------------------------------------------------------------------- (Dollars in thousands) 2022 2021 2020 Average % of Total Average % of Total Average % of Total Balance Deposits Balance Deposits Balance Deposits Non-interest demand deposits$ 526,389 32.0 %$ 434,989 29.6 %$ 203,143 29.1 % Interest checking accounts 409,504 24.9 % 355,419 24.2 % 132,465 19.0 % Money market and savings deposit accounts 563,374 34.3 % 529,027 35.9 % 261,370 37.4 % Total non-interest and low-cost deposit accounts$ 1,499,267 91.2 %$ 1,319,435 89.7 %$ 596,978 85.5 % Time deposits 144,564 8.8 % 152,211 10.3 % 100,846 14.5 % Total deposit account balances$ 1,643,831 100.0 %$ 1,471,646 100.0 %$ 697,824 100.0 % Provision for Loan Losses The level of the allowance reflects changes in the size of the portfolio or in any of its components, as well as management's continuing evaluation of industry concentrations, specific credit risks, loan loss experience, current loan portfolio quality, and economic, political and regulatory conditions. Additional information concerning management's methodology in determining the adequacy of the allowance for loan losses is contained later in this section under Allowance for Loan Losses, in addition to Note 1 - Summary of Significant Accounting Policies and Note 5 - Allowance for Loan Losses of the Notes to Consolidated Financial Statements, found in Item 8. Financial Statements and Supplementary Data. Based on management's continuing evaluation of the loan portfolio in 2022, the Company recorded a provision for loan losses of$106 thousand compared to$1.0 million in 2021 and$1.6 million in 2020. The decreases in 2022 and 2021 are the result of the Company releasing a portion of the reserves that were added during 2020 since the credit deterioration was not experienced to the extent previously anticipated. The decrease in 2022 also was impacted by the decline in overall loan balances as part of the Company's strategy to further improve asset quality through negotiation of loan paydowns as well as PPP forgiveness.
The allowance for loan losses as a percentage of total loans was 0.59% at
The following is a summary of the changes in the allowance for loan losses for
the years ended
(Dollars in thousands) 2022 2021 2020 Allowance for loan losses, January 1$ 5,984 $ 5,455 $ 4,209 Charge-offs (1,255 ) (835 ) (805 ) Recoveries 717 350 429 Provision for loan losses 106 1,014 1,622
Allowance for loan losses,
Allowance for loan losses as a percentage
of period-end total loans 0.59 % 0.56 % 0.90 %
39--------------------------------------------------------------------------------
Noninterest Income
The major components of noninterest income are detailed below. Year-to-year variances are shown for each noninterest income category.
(Dollars in thousands) For the year ended December 31 Variance
2022 2021 $ %
Noninterest income:
Trust and estate services fees $ 1,423 $ 1,929 $ (506 ) -26.2 %
Performance fees 265 822 (557 ) -67.8 %
Investment management income 752 757 (5 ) -0.7 %
Advisory and brokerage income 770 1,154 (384 ) -33.3 %
Royalty income 115 40 75 187.5 %
Deposit account fees 1,799 1,459 340 23.3 %
Debit/credit card and ATM fees 2,794 2,070 724 35.0 %
Bank owned life insurance income 963 708 255 36.0 %
Resolution of commercial dispute 2,400 - 2,400 -
Gain on sale of business line 404 - 404 -
Gains (losses) on sale of assets, net 1,043 - 1,043 -
Other 933 1,526 (593 ) -38.9 %
Total noninterest income $ 13,661 $ 10,465 $ 3,196 30.5 %
Noninterest income of
•
The Company received and recognized a
•
A
•
A
Noninterest Expense
The major components of noninterest expense are detailed below. Year-over-year variances are shown for each noninterest expense category.
(Dollars in thousands) December 31, December 31, Variance
2022 2021 $ %
Noninterest expense:
Salaries and employee benefits $ 17,260 $ 16,129 $ 1,131 7.0 %
Net occupancy 4,526 3,575 951 26.6 %
Equipment 897 966 (69 ) -7.1 %
Bank franchise tax 1,216 1,136 80 7.0 %
Computer software 1,136 1,020 116 11.4 %
Data processing 2,727 2,793 (66 ) -2.4 %
FDIC deposit insurance assessment 511 858 (347 ) -40.4 %
Marketing, advertising and promotion 1,224 922 302 32.8 %
Merger and merger-related expenses - 7,423 (7,423 ) -100.0 %
Plastics expense 394 978 (584 ) -59.7 %
Professional fees 1,357 1,117 240 21.5 %
Core deposit intangible amortization 1,684 1,389 295 --
Impairment on assets held for sale 242 - 242 0.0 %
Other 5,382 4,216 1,166 27.7 %
Total noninterest expense $ 38,556 $ 42,522 $ (3,966 ) -9.3 %
Noninterest expense of $38.6 million for the year ended December 31, 2022
decreased $4.0 million from the prior year, predominantly due to no merger or
merger-related expense recognition in the current year, compared to $7.4 million
of merger and merger-related expenses incurred during the year ended December
31, 2021 . An increase in salaries and employee benefits offset this positive
variance, increasing 7.0% from $16.1 million in 2021 to $17.3 million in 2022.
This increase was due to the Merger and the addition of Fauquier's employees
effective April 1, 2021 , offset by a reduction in
40
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salaries for redundant positions, occurring throughout the 21 months since the
Effective Date. At December 31, 2022 , the Company had 157 full-time equivalent
employees compared to 173 at December 31, 2021 .
Core deposit intangible amortization expense is a result of the Merger and
amounted to
Provision for Income Taxes
The provision for income taxes is based upon the results of operations, adjusted for the effect of certain tax-exempt income and non-deductible expenses. In addition, certain items of income and expense are reported in different periods for financial reporting and tax return purposes. The tax effects of these temporary differences are recognized currently in the deferred income tax provision or benefit. Deferred tax assets or liabilities are computed based on the difference between the financial statement and the income tax bases of assets and liabilities using the applicable enacted marginal tax rate. For 2022, the Company provided$5.1 million for Federal income taxes, resulting in an effective income tax rate of 17.9%. In 2021, the Company provided$1.8 million for Federal income taxes, resulting in an effective income tax rate of 15.5%. The effective tax rate was lower in 2021 due to the impact on the combined income statement of low-income housing tax credits acquired during the Merger. The effective income tax rates for 2022 and 2021 were lower than theU.S. statutory rate of 21% due to the effect of tax-exempt income from municipal bonds and bank owned life insurance policies. More information on income taxes, including net deferred taxes can be found in Note 11 - Income Taxes of the Notes to Consolidated Financial Statements which is found in Item 8. Financial Statements and Supplementary Data. 41 --------------------------------------------------------------------------------
BALANCE SHEET ANALYSIS Securities The investment securities portfolio has a primary role in the management of the Company's liquidity requirements and interest rate sensitivity, as well as generating significant interest income. Investment securities also play a key role in diversifying the Company's balance sheet. In addition, a portion of the investment securities portfolio is pledged as collateral for public fund deposits. Changes in deposit and other funding balances and in loan production will impact the overall level of the investment portfolio. As ofDecember 31, 2022 , the Company's investment portfolio totaled$543.3 million , with obligations ofU.S. government corporations and government-sponsored enterprises amounting to$438.3 million , or approximately 81% of the total. The Company's investment portfolio totaled$308.8 million as ofDecember 31, 2021 . In 2022,$248 million ofU.S. Treasury securities were purchased at an average yield of 2.66%, with maturities ranging from one to two years. During the years endedDecember 31, 2022 andDecember 31, 2021 , there were no sales of securities. Management proactively manages the mix of earning assets and cost of funds to maximize the earning capacity of the Company. In accordance with ASC 320, "Investments - Debt and Equity Securities," the Company has categorized its unrestricted securities portfolio as Available for Sale. Securities classified as AFS may be sold in the future, prior to maturity. Any decision to sell a security classified as AFS would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Company's assets and liabilities, liquidity needs, regulatory capital considerations, and other similar factors. AFS securities are carried at fair value. Net aggregate unrealized gains or losses on these securities are included, net of taxes, as a component of shareholders' equity. All of the Company's unrestricted securities were investment grade or better as ofDecember 31, 2022 . Given the generally high credit quality of the Company's AFS investment portfolio, management expects to realize all of its investment upon market recovery or the maturity of such instruments and thus believes that any impairment in value is interest-rate-related and therefore temporary. AFS securities included gross unrealized losses of$62.1 million as ofDecember 31, 2022 . (Dollars in thousands) December 31, 2022 December 31, 2021 Amount Percent Amount Percent U.S. treasury securities$ 242,470 45 % $ - 0 % U.S. government agencies 28,755 6 % 31,581 11 % Mortgage-backed securities/CMOs 167,076 31 % 170,964 56 % Corporate bonds 18,729 3 % - 0 % Municipal bonds 81,156 15 % 101,272 33 % Total available for sale securities at fair value$ 538,186 100 %$ 303,817 100 % All mortgage-backed securities included in the above tables were issued byU.S. government agencies and corporations. AtDecember 31, 2022 , the securities issued by political subdivisions or agencies were highly rated with 100% of the municipal bonds having A+ or higher ratings. Approximately 63% of the municipal bonds are general obligation bonds, and issuers are geographically diverse. The Company held no issues that exceeded 10% of the Company's shareholders' equity atDecember 31, 2022 . The Company's holdings of restricted securities totaled$5.1 million and$5.0 million atDecember 31, 2022 andDecember 31, 2021 , respectively, and consisted of stock in theFederal Reserve Bank , stock in the FHLB, and stock inCBB Financial Corporation , the holding company forCommunity Bankers' Bank , and an investment in an SBA loan fund. The Bank is required to hold stock in theFederal Reserve Bank and the FHLB as a condition of membership with each of these correspondent banks. The amount of stock required to be held by the Bank is periodically assessed by each bank, and the Bank may be subject to purchase or surrender stock held in these banks, as determined by their respective calculations. Stock ownership in the bank holding company forCommunity Bankers' Bank provides the Bank with several benefits that are not available to non-shareholder correspondent banks. None of these stock issues are traded on the open market and can only be redeemed by the respective issuer. Restricted stock holdings are recorded at cost.
The table shown below details the amortized cost and fair value of AFS
securities at
42
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Maturity Distribution and Average Yields
Contractual Maturities of Debt Securities
at December 31, 2022
Weighted
Average Yield % of Debt(Dollars in thousands) Amortized Cost Fair Value (FTE) SecuritiesU.S. treasury securities One year or less$ 192,843 $ 191,180 2.63 % After one year to five years 52,740 51,290 2.72 %$ 245,583 $ 242,470 2.65 % 40.9 %U.S. government-sponsored agencies: After one to five years $ 900$ 808 2.00 % After five years to ten years 30,382 25,060 1.53 % Ten years or more 4,000 2,887 1.79 % $ 35,282$ 28,755 1.57 % 5.9 % Mortgage-backed securities/CMOs One year or less $ 1,515$ 1,485 0.35 % After one year to five years 9,553 8,987 1.28 % After five years to ten years 3,096 2,779 1.64 % Ten years or more 180,800 153,825 1.97 %$ 194,964 $ 167,076 1.91 % 32.5 % Corporate bonds After one year to five years $ 17,682$ 16,933 3.37 % After five to ten years 1,899 1,796 3.31 % $ 19,581$ 18,729 3.36 % 3.3 % Municipal bonds After one to five years $ 2,472$ 2,367 3.48 % After five to ten years 17,665 16,151 1.63 % Ten years or more 84,694 62,638 2.47 %$ 104,831 $ 81,156 2.33 % 17.4 %
Total Debt Securities Available for Sale
2.37 % 100.0 %
Weighted average yield is calculated based on the relative amortized cost of the securities. Yields on tax-exempt securities have been computed on a tax-equivalent basis using the federal corporate income tax rate of 21 percent.
As stated, the preceding table reflects the distribution of the contractual maturities of the investment portfolio atDecember 31, 2022 . Management's investment portfolio strategy is to structure the portfolio so that it is a constant source of liquidity for the balance sheet. In order to achieve greater liquidity in the portfolio, securities that have a monthly flow of principal repayments become a key component. To illustrate the difference between contractual maturity and average life, consider the difference for the fixed rate mortgage-backed securities (MBS) component of this portfolio. AtDecember 31, 2022 , the weighted average maturity of the fixed rate MBS sector was 17.5 years, and the projected average life for this group of securities is 7.7 years. Another indication of the investment portfolio's liquidity potential is shown by the projected annual principal cash flow from maturities, callable bonds, and monthly principal repayments. For the next three years, the principal cash flows are estimated to be$220.9 million for 2023,$77.2 million for 2024, and$31.0 million for 2025, based upon rates remaining at current levels. This represents approximately 61% of the investment portfolio's AFS balance atDecember 31, 2022 that will be available to support the future liquidity needs of the Company. Cash flow projections are subject to change based upon changes to market interest rates. 43 --------------------------------------------------------------------------------
Loan Portfolio
The Company's objective is to maintain the historically strong credit quality of the loan portfolio by maintaining rigorous underwriting standards. These standards coupled with regular evaluation of the creditworthiness of, and the designation of lending limits for, each borrower has helped the Company achieve this objective. The primary portfolio strategy includes seeking industry and loan size diversification in order to minimize credit exposure and originating loans in markets with which the Company is familiar. The predominant market area for loans includesCharlottesville ,Albemarle County ,Fauquier County ,Prince William County ,Winchester ,Frederick County ,Manassas ,Richmond and areas in theCommonwealth of Virginia ,State of Maryland ,District of Columbia and portions ofWest Virginia that are within a 100 mile radius of anyVirginia National Bank location. The Company's loan portfolio totaled$936.4 million as ofDecember 31, 2022 or 57.7% of total assets. Loan balances decreased$124.8 million , or 11.8%, from the balance of$1.1 billion as ofDecember 31, 2021 . Note that all loan balances are presented net of credit and other fair value discounts, when applicable. The table below shows the composition of the loan portfolio: (Dollars in thousands) As of December 31, 2022 2021 Commercial loans$ 71,139 $ 96,696 Real estate mortgage: Construction and land 37,541 79,331
1-4 family residential mortgages 323,185 358,148 Commercial
459,125 473,632
Total real estate mortgage
45,425 53,404
Total loans $ 936,415 $ 1,061,211 Less: Allowance for loan losses (5,552 ) (5,984 ) Net loans
$ 930,863 $ 1,055,227 The Company's planned strategy to further improve asset quality through negotiation of loan paydowns as well as PPP forgiveness resulted in a decrease in loan balances fromDecember 31, 2021 toDecember 31, 2022 . The decrease fromDecember 31, 2021 is due predominantly to: (1) workouts and paydowns of Acquired Loans of$61.8 million , (2) paydowns of legacy organic loans due mainly to business sales, property sales, refinances and participation fluctuations of$55.3 million , and (3) the forgiveness of SBA PPP loans in the amount of$20.5 million . As ofDecember 31, 2022 , only$231 thousand of PPP loans remain outstanding on the Bank's balance sheet.
At
Based on underwriting standards, loans may be secured in whole or in part by collateral such as liquid assets, accounts receivable, equipment, inventory and real property. The collateral securing any loan may depend on the type of loan and may vary in value based on market conditions. The Company's real estate loan portfolio decreased by$91.3 million to a balance of$819.9 million atDecember 31, 2022 from$911.1 million atDecember 31, 2021 . This category comprises 87.6% of all loans, and these loans are secured by mortgages on real property located principally in our market area. Of this amount, approximately$323.2 million represented loans on 1-4 family residential properties. Commercial real estate loans totaled$459.1 million as ofDecember 31, 2022 . Sources of repayment are from the borrower's operating profits, cash flows and liquidation of pledged collateral. The remaining real estate loans were comprised of construction and land development loans which totaled$37.5 million as ofDecember 31, 2022 . As ofDecember 31, 2022 , the Company's commercial and industrial loan portfolio totaled$71.1 million , a$25.6 million decline from the$96.7 million balance at year-end 2021. This category, representing approximately 7.6% of all loans, includes loans made to individuals and small to medium-sized businesses, as well as loans purchased on the syndicated and government guaranteed markets. The Company participated in the PPP loan initiative during 2020 and 2021 with balances of$20.7 million and$231 thousand as ofDecember 31, 2021 andDecember 31, 2022 , respectively. Forgiveness of a significant amount of PPP loans during 2022 contributed to the overall balance reductions. Consumer loans, comprised of student loans purchased, revolving credit, and other fixed payment loans, totaled$45.4 million as ofDecember 31, 2022 or 4.9% of all loans. Consumer loans ended 2022 with balances$8.0 million lower than the prior year-end, primarily due to normal amortization within the student loan portfolio. 44 -------------------------------------------------------------------------------- The following table presents the maturity/repricing distribution of the Company's loans atDecember 31, 2022 . The table also presents the portion of loans that have fixed interest rates or variable/floating interest rates that fluctuate over the life of the loans in accordance with changes in an interest rate index such as theWall Street Journal prime rate orU.S. Treasury bond indices. Maturities and Sensitivities of Loans to Changes in Interest Rates (Dollars in thousands) As of December 31, 2022 One Year After One to After Five to After or Less Five Years 15 Years 15 Years Total Fixed Rate: Commercial loans$ 5,254 $ 15,610 $ 4,769$ 26 $ 25,659 Real estate construction and land 4,106 9,173 5,657 - 18,936 1-4 family residential mortgages 5,150 16,277 96,243 63,477 181,147 Commercial mortgages 20,785 126,007 44,826 - 191,618 Consumer 3,570 11,288 798 248 15,904
Total fixed rate loans
$ 63,751 $ 433,264 Variable Rate: Commercial loans$ 22,193 $ 19,650 $ 3,637 $ -$ 45,480 Real estate construction and land 3,613 8,807 6,185 - 18,605 1-4 family residential mortgages 43,517 93,403 5,118 - 142,038 Commercial mortgages 101,730 148,806 16,971 - 267,507 Consumer 29,521 - - - 29,521 Total variable rate loans$ 200,574 $ 270,666 $ 31,911 $ -$ 503,151 Total loans$ 239,439 $ 449,021 $ 184,204 $ 63,751 $ 936,415 Total loans atDecember 31, 2022 and 2021 included loans purchased in connection with the Merger. These loans were recorded at estimated fair value on the date of acquisition without the carryover of the related ALLL. The following table presents the outstanding principal balance and the carrying amount of purchased loans: (Dollars in thousands) December 31, 2022 Acquired Loans - Acquired Loans - Acquired Purchased Purchased Loans - Credit Impaired Performing Total Outstanding principal balance $ 43,250 $ 290,604$ 333,854 Carrying amount: Commercial $ 630 $ 12,606 $ 13,236 Real estate construction and land 1,461 8,530 9,991 1-4 family residential mortgages 9,076 164,280 173,356 Commercial mortgages 20,828 99,206 120,034 Consumer 72 1,277 1,349 Total acquired loans $ 32,067 $ 285,899$ 317,966
For a description of the Company's accounting for purchased performing and PCI loans, see "Critical Accounting Estimates" earlier in Item 7.
Loan Asset Quality
Intrinsic to the lending process is the possibility of loss. While management endeavors to minimize this risk, it recognizes that loan losses will occur and that the amount of these losses will fluctuate depending on the risk characteristics of the loan portfolio, which in turn depend on current and future economic conditions, the financial condition of borrowers, the realization of collateral, and the credit management process. Generally, loans are placed on non-accrual status when management believes, after considering economic and business conditions and collections efforts, that it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement, or when the loan is past due for 90 days or more, unless the debt is both well-secured and in the process of collection. AtDecember 31, 2022 and 2021, the Company had loans classified as non-accrual with balances of$673 thousand and$495 thousand , respectively. The non-accrual balance as ofDecember 31, 2022 consists of four loans to three borrowers. 45 --------------------------------------------------------------------------------
Acquired Loans that otherwise would be in non-accrual status are not included in this figure, as they earn interest through the yield accretion.
Loans 90 days or more past due and still accruing interest amounted to$705 thousand as ofDecember 31, 2022 , compared to$801 thousand as ofDecember 31, 2021 . The 2022 balance includes a$646 thousand loan which was brought current shortly after year-end. The current portfolio only includes three non-insured student loans that are 90 days or more past due and still accruing interest, amounting to$59 thousand . Loans acquired during the Merger that are greater than 90 days past due and still accruing interest are included in this figure, net of their fair value mark. TDRs occur when the Company agrees to modify the original terms of a loan by granting a concession that it would not otherwise consider due to the deterioration in the financial condition of the borrower. These concessions are done in an attempt to improve the paying capacity of the borrower, and in some cases to avoid foreclosure, and are made with the intent to restore the loan to a performing status once sufficient payment history can be demonstrated. These concessions could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. TDRs that are considered to be performing continue to accrue interest under the terms of the restructuring agreement. TDRs that have been placed in non-accrual status are considered to be nonperforming. Total performing TDR balances declined to$788 thousand as ofDecember 31, 2022 compared to$1.0 million as ofDecember 31, 2021 . Based on regulatory guidance issued in 2016 on Student Lending, the Company classified 46 of its student loans purchased as TDRs for a total of$700 thousand as ofDecember 31, 2022 and 58 of its student loans purchased as TDRs for a total of$935 thousand as ofDecember 31, 2021 . Nonperforming TDR balances remained at$495 thousand as ofDecember 31, 2022 andDecember 31, 2021 . The table below summarizes the Company's credit ratios as ofDecember 31, 2022 and 2022: (Dollars in thousands) 2022 2021 Total loans$ 936,415 $ 1,061,211 Nonaccrual loans$ 673 $ 495
Allowance for loan losses
0.59 % 0.56 %
ALLL to nonaccrual loans 824.96 % 1208.89 %
See Note 4 - Loans and Note 5 - Allowance for Loan Losses in the accompanying
Notes to Consolidated Financial Statements included in Item 8. Financial
Statements and Supplementary Data for further details regarding the Company's
loan asset quality measurements.
46
--------------------------------------------------------------------------------Allowance for Loan Losses
In general, the Company determines the adequacy of its allowance for loan losses by considering the risk classification and delinquency status of loans and other factors. Management may also establish specific allowances for loans which management believes require allowances greater than those allocated according to their risk classification. The purpose of the allowance is to provide for losses inherent in the loan portfolio. Since risks to the loan portfolio include general economic trends as well as conditions affecting individual borrowers, the allowance is an estimate. The Company is committed to determining, on an ongoing basis, the adequacy of its allowance for loan losses. The Company applies historical loss rates to various pools of loans based on risk rating classifications. In addition, the adequacy of the allowance is further evaluated by applying estimates of loss that could be attributable to any one of the following eight qualitative factors:
1)
Changes in national and local economic conditions, including the condition of various market segments;
2)
Changes in the value of underlying collateral;
3)
Changes in volume of classified assets, measured as a percentage of capital;
4)
Changes in volume of delinquent loans;
5)
The existence and effect of any concentrations of credit and changes in the level of such concentrations;
6)
Changes in lending policies and procedures, including underwriting standards;
7)
Changes in the experience, ability and depth of lending management and staff; and
8)
Changes in the level of policy exceptions.
Management utilizes a loss migration model for determining the quantitative risk assigned to unimpaired loans in order to capture historical loss information at the loan level, track loss migration through risk grade deterioration, and increase efficiencies related to performing the calculations by further segmenting the loan classes. The quantitative risk factor for each loan class primarily utilizes a migration analysis loss method based on loss history for the prior twelve quarters.
See Note 4 - Loans and Note 5 - Allowance for Loan Losses in the Notes to Consolidated Financial Statements, included in Item 8. Financial Statements and Supplementary Data, for further details of the risk factors considered by management in estimating the necessary level of the allowance for loan losses.
Activity for the allowance for loan losses is provided in the following table:
As of and for the year endedDecember 31, 2022 Real Estate Real Commercial Construction Estate Consumer (Dollars in thousands) Loans and Land Mortgages Loans Total Allowance for Loan Losses: Balance as of beginning of year$ 252 $ 399$ 4,478 $ 855 $ 5,984 Charge-offs (600 ) - - (654 ) (1,254 ) Recoveries 519 9 11 178 717 Provision for (recovery of) loan losses 23 (187 ) (51 ) 320 105
Balance at end of year
Average loans$ 81,410 $ 59,564 $ 787,674 $ 49,619 $ 978,267 Net charge-offs (recoveries) to average loans 0.10 % -0.02 % 0.00 % 0.96 % 0.05 % 47
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As of and for the year endedDecember 31, 2021 Real Estate Real Commercial Construction Estate Consumer (Dollars in thousands) Loans and Land Mortgages Loans Total Allowance for Loan Losses: Balance as of beginning of year$ 209 $ 160$ 3,897 $ 1,189 $ 5,455 Charge-offs (147 ) - - (688 ) (835 ) Recoveries 191 12 6 141 350 Provision for (recovery of) loan losses (1 ) 227 575 213 1,014
Balance at end of year
Average loans$ 145,462 $ 82,642 $ 726,065 $ 63,039 $ 1,017,208 Net charge-offs (recoveries) to average loans -0.03 % -0.01 % 0.00 % 0.87 % 0.05 % As ofDecember 31, 2022 , the ALLL was$5.6 million , a net decrease of$432 thousand from$5,984 atDecember 31, 2021 . Management's estimates for the ALLL resulted in the Company's allowance to total loans outstanding ratio of 0.59% atDecember 31, 2022 , compared to 0.56% atDecember 31, 2021 . Note that without the impact of acquired loans and the fair value mark, the ALLL to total loans outstanding would have been 0.90% as ofDecember 31, 2022 and 0.95% as ofDecember 31, 2021 ; furthermore, the ALLL to total loans plus the fair value mark amount to 2.29% as ofDecember 31, 2022 and 2.30% as ofDecember 31, 2021 (for reconcilement of non-GAAP measures, see the "Non-GAAP Presentation" section earlier in Item 7). During 2022, there were$1.3 million in loan balances charged off, with a total of$717 thousand in recoveries of previously charged-off balances, resulting in net charge-offs of$538 thousand . During 2021, there were$835 thousand in loan balances charged off, with a total of$350 thousand in recoveries of previously charged-off balances, resulting in net charge-offs of$485 thousand . The ratio of net charge-offs to average loans was 0.05% and 0.05% for 2022 and 2021, respectively.
The table below provides an allocation of year-end allowance for loan losses by loan type; however, allocation of a portion of the allowance to one loan category does not preclude its availability to absorb losses in other categories.
Allocation of the Allowance for Loan Losses
December 31, 2022
(Dollars in thousands) Percentage of loans
in each category to
Allowance total loans
Commercial loans $ 194 7.60 %
Real estate construction and land 221 4.01 %
Real estate mortgages 4,438 83.54 %
Consumer 699 4.85 %
Total $ 5,552 100.00 %
December 31, 2021
(Dollars in thousands) Percentage of loans
in each category to
Allowance total loans
Commercial loans $ 252 9.11 %
Real estate construction 399 7.48 %
Real estate mortgages 4,478 78.38 %
Consumer 855 5.03 %
Total $ 5,984 100.00 %
Deposits
Depository accounts represent the Company's primary source of funding and are
comprised of demand deposits, interest-bearing checking accounts, money market
deposit accounts and time deposits. These deposits have been provided
predominantly by individuals, businesses and charitable organizations in the
Charlottesville /Albemarle County , Fauquier County , Manassas , Prince William
County , Richmond and Winchester market areas.
48
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Depository accounts held by the Company as of December 31, 2022 , totaled $1.5
billion , a decrease of $317.8 million or 17.69% compared to the December 31,
2021 total of $1.8 billion .
At December 31, 2022 , the balances of non-interest bearing demand deposits were
$495.6 million or 33.5% of total deposits, a 5.10% decrease from $522.3 million
at December 31, 2021 . Interest-bearing transaction and money market accounts
totaled $867.6 million at December 31, 2022 , a decrease of $244.3 million
compared to $1.1 billion at December 31, 2021 . The Company offers ICS®, which
allows customers access to multi-million-dollar FDIC insurance on funds placed
into demand deposit and/or money market deposit accounts. As of December 31,
2022 , the reciprocal ICS® balances included in demand deposit and money market
accounts were $42.0 million and $92.6 million , respectively. The Company's
low-cost deposit accounts, which include both non-interest and interest bearing
checking accounts as well as money market accounts, represented 92.2% of total
deposit account balances at December 31, 2022 and compared favorably to the
91.0% of total deposit account balances at December 31, 2021 .
Certificates of deposit and other time deposit balances decreased $46.9 million
to $115.1 million at December 31, 2022 from the balance of $162.0 million at
December 31, 2021 . Included in this deposit total were reciprocal relationships
under CDARS™, whereby depositors can obtain FDIC insurance on deposits up to $50
million . These reciprocal CDARS™ deposits totaled $4.0 million and $6.1 million
at December 31, 2022 and 2021, respectively.
Average Balances and Rates Paid
(Dollars in thousands) Years Ended December 31
2022 2021
Average Average Average Average
Balance Rate Balance Rate
Non-interest-bearing demand
deposits $ 526,389 $ 434,989
Interest-bearing deposits:
Interest checking 409,504 0.06 % 355,419 0.07 %
Money market and savings deposits 563,374 0.37 % 529,027 0.39 %
Time deposits 144,564 0.45 % 152,211 0.73 %
Total interest-bearing deposits $ 1,117,442 0.27 % $ 1,036,657 0.33 %
Total deposits $ 1,643,831 $ 1,471,646 As of
Maturities of time deposits in excess ofFDIC insurance limits as ofDecember 31, 2022 were as follows: (Dollars in thousands) Amount Percentage Three months or less$ 18,657 64.49 % Over three months to six months 3,373 11.66 % Over six months to one year 1,395 4.82 % Over one year 5,505 19.03 % Totals$ 28,930 100.00 % Borrowings Borrowings, consisting primarily of FHLB advances and federal funds purchased, are additional sources of funds for the Company. The level of these borrowings is determined by various factors, including customer demand and the Company's ability to earn a favorable spread on the funds obtained. The Company has a collateral dependent line of credit with the FHLB. During the third quarter of 2021, the Company prepaid 100% of its outstanding FHLB advances, which positively impacted interest expense by$416 thousand as a result of accelerating the accretion of the fair value purchase mark on such acquiredFauquier debt. A prepayment penalty in the amount of$243 thousand was incurred and is reported in noninterest expense, netting to an overall gain on the transaction of$173 thousand . The Company had no outstanding borrowings from the FHLB atDecember 31, 2022 orDecember 31, 2021 . As ofDecember 31, 2022 , the Company had an off-balance sheet letter of credit in the amount of$30.0 million , issued in favor of the Commonwealth ofVirginia Department of the Treasury to secure public fund depository accounts. This letter of credit is secured by commercial mortgages. 49 --------------------------------------------------------------------------------
Additional borrowing arrangements maintained by the Bank include formal federal
funds lines with six correspondent banks. The Company had no outstanding
balances in federal funds purchased as of
Total borrowings consist of the following as ofDecember 31, 2022 , 2021, and 2020: (Dollars in thousands) 2022 2021 2020 FHLB advances $ - $ -$ 30,000 Total borrowings $ - $ -$ 30,000 Maximum amount at any month-end during the year $ -$ 42,575 $ 40,000 Annual average balance outstanding $ -$ 23,700 $ 15,419 Annual average interest rate paid - 0.82 % 0.47 % Annual average interest rate, including impact of fair value mark - -1.18 % 0.47 % Annual interest rate at end of period - - 0.48 %
Details on available borrowing lines can be found later under Liquidity in the Asset/Liability Management section.
Junior Subordinated Debt
In 2006, a subsidiary ofFauquier , Fauquier Statutory Trust II, privately issued$4.0 million face amount of the trust'sFloating Rate Capital Securities in a pooled capital securities offering. Simultaneously, the trust used the proceeds of that sale to purchase$4.0 million principal amount of theFauquier's Floating Rate Junior Subordinated Deferrable Interest Debentures due 2036. As ofDecember 31, 2022 , total capital securities were$3.4 million , as adjusted to fair value as of the date of the Merger. The interest rate on the capital security resets every three months at 1.70% above the then current three-month LIBOR and is paid quarterly. Management is in communication with the issuer regarding the alternative reference rate that will apply after the discontinuance of LIBOR. The Trust II issuance of capital securities and the respective subordinated debentures are callable at any time. The subordinated debentures are an unsecured obligation of the Company and are junior in right of payment to all present and future senior indebtedness of the Company. The capital securities are guaranteed by the Company on a subordinated basis.
ASSET/LIABILITY MANAGEMENT
The Company's primary earnings source is its net interest income; therefore, the Company devotes significant time and resources to assist in the management of interest rate risk and asset quality. The Company's net interest income is affected by changes in market interest rates and by the level and composition of interest-earning assets and interest-bearing liabilities. The Company's objectives in its asset/liability management are to utilize its capital effectively, to provide adequate liquidity and to enhance net interest income, without taking undue risks or subjecting the Company unduly to interest rate fluctuations. The Company takes a coordinated approach to the management of its liquidity, capital and interest rate risk. This risk management process is governed by policies and limits established by the Bank's Asset/Liability Committee, which are reviewed and approved by the Bank's Board of Directors. This committee, which is comprised of directors and members of management, meets to review, among other things, economic conditions, interest rates, yield curves, cash flow projections, expected customer actions, liquidity levels, capital ratios and repricing characteristics of assets, liabilities and financial instruments.
Market Risk
Market risk is the risk of loss in a financial instrument arising from adverse
changes in market indices such as interest rates. The Company's principal market
risk exposure is interest rate risk. Interest rate risk is the exposure to
changes in market interest rates. Interest rate sensitivity is the relationship
between market interest rates and net interest income due to the repricing
characteristics of assets and liabilities. The Company monitors the interest
rate sensitivity of its balance sheet positions by examining its near-term
sensitivity and its longer-term gap position. In its management of interest rate
risk, the Company utilizes several financial and statistical tools including
traditional gap analysis and sophisticated income simulation models.
A traditional gap analysis is prepared based on the maturity and repricing
characteristics of interest-earning assets and interest-bearing liabilities for
selected time bands. The mismatch between repricings or maturities within a time
band is commonly referred to as the "gap" for that period. A positive gap (asset
sensitive) where interest rate sensitive assets
50
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exceed interest rate sensitive liabilities generally will result in the net
interest margin increasing in a rising rate environment and decreasing in a
falling rate environment. A negative gap (liability sensitive) will generally
have the opposite result on the net interest margin. The Company's balance sheet
structure is primarily short-term in nature with a substantial portion of
rate-sensitive assets and rate-sensitive liabilities repricing or maturing
within one year, as shown in the Gap Interest Sensitivity Analysis table below.
Gap Interest Sensitivity Analysis
As of December 31, 2022
Within 90 to 365 One to Four Over Non Rate
90 Days Days Years Four Years Sensitive Total
Assets
Loans $ 218,098 $ 104,438 $ 453,756 $ 173,673 $ (13,550 ) $ 936,415
Investment securities 57,122 187,914 146,348 213,930 (61,991 ) 543,323
Federal funds sold 45 - - - - 45
Interest-bearing deposits
in other banks 19,098 - - - - 19,098
Non-interest-earning assets
and
allowance for loan losses - - - - 123,972 123,972
Total assets $ 294,363 $ 292,352 $ 600,104 $ 387,603 $ 48,431 $ 1,622,853
Liabilities and
Shareholders' Equity
Interest checking $ 10,000 $ 29,998 $ 119,995 $ 239,990 $ - $ 399,983
Money market and savings
deposits 14,208 99,449 113,656 240,287 - 467,600
Time deposits 5,331 86,458 21,898 1,409 10 115,106
Junior subordinated debt - 3,413 - - - 3,413
Non-interest bearing
liabilities and
shareholders' equity - - - - 636,751 636,751
Total liabilities and
shareholders' equity $ 29,539 $ 219,318 $ 255,549 $ 481,686 $ 636,761 $ 1,622,853
Period gap $ 264,824 $ 73,034 $ 344,555 $ (94,083 ) N/A $ 588,330
Cumulative gap $ 264,824 $ 337,858 $ 682,413 $ 588,330 N/A $ 588,330
Ratio of cumulative gap to
cumulative
earning assets 89.97 % 57.58 % 57.50 % 37.37 %
The Company utilizes the gap analysis to complement its income simulations
modeling. However, the traditional gap analysis does not assess the relative
sensitivity of assets and liabilities to changes in interest rates and other
factors that could have an impact on interest rate sensitivity or net interest
income.
ALCO routinely monitors simulated net interest income sensitivity over a rolling
two-year horizon. It also utilizes additional tools to monitor potential
longer-term interest rate risk. The income simulation models measure the
Company's net interest income volatility or sensitivity to interest rate changes
utilizing statistical techniques that allow the Company to consider various
factors which impact net interest income. These factors include actual
maturities, estimated cash flows, repricing characteristics, deposit
growth/retention and, most importantly, the relative sensitivity of the
Company's assets and liabilities to changes in market interest rates. This
relative sensitivity is important to consider as the Company's core deposit base
has not been subject to the same degree of interest rate sensitivity as its
assets. The core deposit costs are internally managed and tend to exhibit less
sensitivity to changes in interest rates than the Company's adjustable rate
assets whose yields are based on external indices and generally change in
concert with market interest rates. The Company's interest rate sensitivity is
determined by identifying the probable impact of changes in market interest
rates on the yields on the Company's assets and the rates that would be paid on
its liabilities. This modeling technique involves a degree of estimation based
on certain assumptions that management believes to be reasonable. Utilizing this
process, management projects the impact of changes in interest rates on net
interest margin. The Company has established certain policy limits for the
potential volatility of its net interest margin assuming certain levels of
changes in market interest rates with the objective of maintaining a stable net
interest margin under various probable rate scenarios. Management generally has
maintained a risk position well within the policy limits.
As market conditions vary from those assumed in the income simulation models,
actual results will also differ due to: prepayment/refinancing levels likely
deviating from those assumed, the varying impact of interest rate change caps or
floors on adjustable rate assets, the potential effect of changing debt service
levels on customers with adjustable rate loans, depositor early withdrawals and
product preference changes, and other variables. Furthermore, this sensitivity
analysis does not reflect actions that the ALCO might take in responding to or
anticipating changes in interest rates.
In simulating the effects of upward and downward changes in market rates to net
interest income over a rolling two-year horizon, the model utilizes a "static"
balance sheet approach where balance sheet composition or mix as of the
measurement date is maintained over the two-year horizon. Similarly, the base
case simulation performed assumes interest rates on the measurement date are
unchanged for the next 24 months. Then the simulation assumes all rate indices
are instantaneously
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shocked upward and downward by 100 bps to 400 basis points, in 100 basis point
increments. Due to the low level of interest rates, the shock down analysis
where the rates fall 300 basis points or more are not considered meaningful and
are therefore not shown in the results below as of December 31, 2022 .
(Dollars in thousands) Change in Net Interest Income Change in Yield Curve Percentage
Amount
+400 bps 15.42 % $ 15,451
+300 bps 14.97 % 15,002
+200 bps 10.34 % 10,363
+100 bps 5.35 % 5,365
Base case 0.00 % -
-100 bps -2.85 % (2,853 )
-200 bps -5.86 % (5,870 )
In addition to monitoring the effects to interest income, the model computes the
effects to the economic value of equity using the same "static" balance sheet
with immediate and parallel rate changes for the same rate change horizons. The
Asset/Liability Committee monitors the results compared to policy limits that
have been established.
As individual rate indices have not historically moved to the same degree,
non-parallel rate shocks are also performed to add a degree of sophistication
over the parallel rate shocks. In these analyses, the effects to net interest
income and market value of equity are computed using eight different scenarios.
Changing slopes and twists of the yield curve are achieved by incorporating both
likely and unlikely change across different tenors. Since Federal funds rates
may not change to the same degree or direction that longer term Treasury bonds
may move, the different scenarios are analyzed so that management and the
Asset/Liability Committee can monitor risks as they more severely stress the
Company's balance sheet.
The shape of the yield curve can cause downward pressure on net interest income.
In general, if and to the extent that the yield curve is flatter (i.e., the
differences between interest rates for different maturities are relatively
smaller) than previously anticipated, then the yield on the Company's interest
earning assets and its cash flows will tend to be lower. Management believes
that an inverted or relatively flat yield curve could adversely the Company's
net interest income in 2023.
Liquidity
Liquidity represents the Company's ability to provide funds to meet customer
demand for loan and deposit withdrawals without impairing profitability.
Effective management of balance sheet liquidity is necessary to fund growth in
earning assets and to pay liability maturities and depository customers'
withdrawal requirements. The Company maintains a Liquidity Management Policy
that is approved by the Board of Directors. The policy sets limits in a number
of areas, including limits on the amount of non-core liabilities, and funding
long-term assets with non-core liabilities.
The Bank's customer base has provided a stable source of funds and liquidity.
Limits contained within the Bank's Investment Policy also provides for
appropriate levels of liquidity through maturities and cash flows within the
securities portfolio. Other sources of balance sheet liquidity are obtained from
the repayment of loan proceeds and overnight investments. The Bank has numerous
secondary sources of liquidity including access to borrowing arrangements from a
number of correspondent banks. Available borrowing arrangements maintained by
the Bank include formal federal funds lines with six major regional
correspondent banks, access to advances from the Federal Home Loan Bank and
access to the discount window at the Federal Reserve Bank .
Borrowing Lines
As of December 31, 2022
Correspondent Banks $ 117,000
Federal Home Loan Bank of Atlanta 39,120
Total Available $ 156,120 As of
Any excess funds are sold on a daily basis in the federal funds market or
maintained on account at the
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of the federal funds lines. On
Capital
The Basel III Capital Rules require banks and bank holding companies to comply with the following minimum capital ratios: (i) a ratio of common equity Tier 1 capital to risk-weighted assets of at least 4.5%, plus a 2.5% "capital conservation buffer" (effectively resulting in a minimum ratio of common equity Tier 1 to risk-weighted assets of at least 7%); (ii) a ratio of Tier 1 capital to risk-weighted assets of at least 6.0%, plus the 2.5% capital conservation buffer (effectively resulting in a minimum Tier 1 capital ratio of 8.5%); (iii) a ratio of total capital to risk-weighted assets of at least 8.0%, plus the 2.5% capital conservation buffer (effectively resulting in a minimum total capital ratio of 10.5%); and (iv) a leverage ratio of 4%, calculated as the ratio of Tier 1 capital to balance sheet exposures plus certain off-balance sheet exposures (computed as the average for each quarter of the month-end ratios for the quarter). The Tier 1, common equity Tier 1, total capital to risk-weighted assets, and leverage ratios of the Bank were 16.82%, 16.82%, 17.38% and 9.62%, respectively, as ofDecember 31, 2022 , exceeding the minimum requirements. With respect to the Bank, to be "well capitalized" under the PCA regulations, a bank must have the following minimum capital ratios: (i) a common equity Tier 1 capital ratio of at least 6.5%; (ii) a Tier 1 capital to risk-weighted assets ratio of at least 8.0%; (iii) a total capital to risk-weighted assets ratio of at least 10.0%; and (iv) a leverage ratio of at least 5.0%. The Bank exceeds the thresholds to be considered well capitalized as ofDecember 31, 2022 .
On
In order to qualify for the CBLR framework, a community banking organization must have a Tier 1 leverage ratio of greater than 9 percent, less than$10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well-capitalized ratio requirements under the PCA regulations and will not be required to report or calculate risk-based capital. The CBLR framework was made available for community banking organizations to use in theirMarch 31, 2020 Call Report. The Company has not opted into the CBLR framework. The Basel III capital regulations and CBLR framework are discussed in greater detail under the caption "Supervision and Regulation," found earlier in this report under "Item 1. Business." In addition, information regarding the Company's risk-based capital atDecember 31, 2022 andDecember 31, 2021 is presented in Note 15 - Capital Requirements of the Notes to Consolidated Financial Statements, contained in Item 8. Financial Statements and Supplementary Data. Using the most recent capital requirements, the Bank's capital ratios remain above the levels designated by bank regulators as "well capitalized" atDecember 31, 2022 .
Impact of Inflation and Changing Prices
The Company's financial statements included herein have been prepared in accordance with GAAP, which requires the financial position and operating results to be measured principally in terms of historical dollars without considering the change in the relative purchasing power of money over time due to inflation. Inflation affects the Company's results of operations mainly through increased operating costs, but since nearly all of the Company's assets and liabilities are monetary in nature, changes in interest rates affect the financial condition of the Company to a greater degree than changes in the rate of inflation. Although interest rates are greatly influenced by changes in the inflation rate, they do not necessarily change at the same rate or in the same magnitude as the inflation rate. The Company's management reviews pricing of its products and services, in light of current and expected costs due to inflation, to mitigate the inflationary impact on financial performance. Off-Balance Sheet Arrangements The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments consist primarily of commitments to extend credit and standby letters of credit. Additional information concerning the Company's off-balance sheet arrangements is contained in Note 13 of the Notes to Consolidated Financial Statements, found in Item 8. Financial Statements and Supplementary Data. Related Party Transactions
The Company and its subsidiaries have business dealings with companies owned by
directors and beneficial shareholders of the Company. In 2022 and 2021,
leasing/rental expenditures of
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--------------------------------------------------------------------------------(including reimbursements for taxes, insurance, and other expenses) were paid to an entity indirectly owned by a director of the Company.
Contractual Commitments
In the normal course of business, the Company and its subsidiaries enter into contractual obligations, including obligations on lease arrangements, contractual commitments for capital expenditures, and service contracts. The significant contractual obligations include the leasing of certain of its banking and operations offices under operating lease agreements on terms ranging from 1 to 10 years, most with renewal options. Following is a schedule of future minimum rental payments under non-cancelable operating leases that have initial or remaining terms in excess of one year as ofDecember 31, 2022 : (Dollars in thousands) 1 year or less 1-3 years 3-5 years After 5 years Total Operating lease obligations $ 1,567$ 2,387 $ 1,398 $ 1,141$ 6,493
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not required for smaller reporting company.
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