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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2024

or

¨TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from__________ to___________

Commission file number 001-38884

FRANKLIN FINANCIAL SERVICES CORPORATION

(Exact name of registrant as specified in its charter)

Pennsylvania

25-1440803

(State or other jurisdiction of incorporation or organization)

(I.R.S. Employer Identification No.)

1500 Nitterhouse Drive, Chambersburg, PA

17201-0819

(Address of principal executive offices)

(Zip Code)

(717) 264-6116

(Registrant's telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

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



Title of class

Symbol

Name of exchange on which registered

Common stock

FRAF

Nasdaq Capital Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x 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 x No ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions 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 x Smaller reporting company x 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 Act) Yes ¨ No x

There were 4,408,901 outstanding shares of the Registrant’s common stock as of July 31, 2024.

INDEX

Part I - FINANCIAL INFORMATION

Item 1

Financial Statements

Consolidated Balance Sheets as of June 30, 2024 and December 31, 2023 (unaudited)

1

Consolidated Statements of Income for the Three and Six Months ended June 30, 2024 and 2023 (unaudited)

2

Consolidated Statements of Comprehensive Income for the Three and Six Months ended

3

June 30, 2024 and 2023 (unaudited)

Consolidated Statements of Changes in Shareholders’ Equity for the Three and Six Months

4

ended June 30, 2024 and 2023 (unaudited)

Consolidated Statements of Cash Flows for the Six Months ended June 30, 2024

5

and 2023 (unaudited)

Notes to Consolidated Financial Statements (unaudited)

6

Item 2

Management’s Discussion and Analysis ofResults of Operations and Financial Condition

28

Item 3

Quantitative and Qualitative Disclosures about Market Risk

46

Item 4

Controls and Procedures 

46

Part II - OTHER INFORMATION

Item 1

Legal Proceedings

48

Item 1A

Risk Factors

48

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

48

Item 3

Defaults Upon Senior Securities

48

Item 4

Mine Safety Disclosures

48

Item 5

Other Information

48

Item 6

Exhibits

49

SIGNATURE PAGE

49

Part I FINANCIAL INFORMATION

Item 1. Financial Statements

Consolidated Balance Sheets

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

(unaudited)

June 30,

December 31,

2024

2023

Assets

Cash and due from banks

$

20,048 

$

19,505 

Short-term interest-earning deposits in other banks

159,679 

3,635 

Total cash and cash equivalents

179,727 

23,140 

Long-term interest-earning deposits in other banks

1,994 

6,229 

Debt securities available for sale, at fair value

454,465 

472,503 

Equity securities

352 

427 

Restricted stock

10,375 

2,375 

Loans held for sale

932 

213 

Loans

1,318,320 

1,256,985 

Allowance for credit losses

(17,018)

(16,052)

Net Loans

1,301,302 

1,240,933 

Premises and equipment, net

28,974 

28,543 

Right of use asset

4,380 

4,680 

Bank owned life insurance

22,502 

22,758 

Goodwill

9,016 

9,016 

Deferred tax asset, net

11,789 

11,801 

Other assets

13,318 

13,421 

Total assets

$

2,039,126 

$

1,836,039 

Liabilities

Deposits

Noninterest-bearing checking

$

282,964 

$

273,050 

Money management, savings, and interest checking

1,119,814 

1,132,482 

Time

183,680 

132,446 

Total deposits

1,586,458 

1,537,978 

Federal Reserve Bank borrowings

40,000 

90,000 

FHLB advances

240,000 

40,000 

Subordinate notes

19,680 

19,661 

Lease liability

4,527 

4,816 

Other liabilities

11,652 

11,448 

Total liabilities

1,902,317 

1,703,903 

Commitments and contingent liabilities

 

 

Shareholders' equity

Common stock, $1 par value per share,15,000,000 shares authorized with

4,710,972 shares issued and 4,412,374 shares outstanding at June 30, 2024 and

4,710,972 shares issued and 4,371,231 shares outstanding at December 31, 2023

4,711 

4,711 

Capital stock no par value, 5,000,000 shares authorized with no

shares issued and outstanding

—

—

Additional paid-in capital

43,547 

43,646 

Retained earnings

137,581 

133,993 

Accumulated other comprehensive loss

(40,881)

(40,940)

Treasury stock, 298,598 shares at June 30, 2024 and 339,741 shares at

December 31, 2023, at cost

(8,149)

(9,274)

Total shareholders' equity

136,809 

132,136 

Total liabilities and shareholders' equity

$

2,039,126 

$

1,836,039 

The accompanying notes are an integral part of these unaudited financial statements. 

1

Consolidated Statements of Income

For the Three Months Ended

For the Six Months Ended

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

June 30,

June 30,

2024

2023

2024

2023

Interest income

Loans, including fees

$

18,059

$

14,069

$

35,281

$

26,405

Interest and dividends on investments:

Taxable interest

3,901

3,327

7,814

6,777

Tax exempt interest

274

313

549

679

Dividend income

205

11

250

19

Interest-earning deposits in other banks

2,293

791

4,647

1,214

Total interest income

24,732

18,511

48,541

35,094

Interest expense

Deposits

7,018

4,378

13,522

7,808

Federal Reserve Bank borrowings

480

677

1,440

728

FHLB overnight borrowings and advances

2,762

—

5,289

—

Subordinate notes

261

261

525

526

Total interest expense

10,521

5,316

20,776

9,062

Net interest income

14,211

13,195

27,765

26,032

Provision for credit losses - loans

560

524

1,050

991

(Reversal of) provision for credit losses - unfunded commitments

(14)

8

(52)

70

Total provision for credit losses

546

532

998

1,061

Net interest income after credit loss expense

13,665

12,663

26,767

24,971

Noninterest income

Wealth management fees

2,242

1,959

4,269

3,793

Loan service charges

181

120

387

422

Gain on sale of loans

116

45

174

118

Deposit service charges and fees

572

616

1,185

1,199

Other service charges and fees

523

430

1,010

862

Debit card income

571

547

1,106

1,050

Increase in cash surrender value of life insurance

112

111

224

220

Net losses on sales of debt securities

—

(517)

—

(1,119)

Change in fair value of equity securities

(34)

(8)

(75)

(32)

Other

67

226

258

241

Total noninterest income

4,350

3,529

8,538

6,754

Noninterest Expense

Salaries and employee benefits

8,405

7,283

16,132

14,220

Net occupancy

1,149

1,112

2,331

2,222

Marketing and advertising

617

550

1,137

1,069

Legal and professional

515

454

1,030

1,005

Data processing

1,459

1,118

2,882

2,178

Pennsylvania bank shares tax

119

174

244

397

FDIC Insurance

408

198

730

380

ATM/debit card processing

339

307

662

601

Telecommunications

108

98

220

197

Nonservice pension

(7)

(29)

(36)

(59)

Lease termination

—

495

—

495

Other

1,224

888

2,310

1,962

Total noninterest expense

14,336

12,648

27,642

24,667

Income before federal income taxes

3,679

3,544

7,663

7,058

Federal income tax expense

646

568

1,269

790

Net income

$

3,033

$

2,976

$

6,394

$

6,268

Per share

Basic earnings per share

$

0.67

$

0.68

$

1.43

$

1.43

Diluted earnings per share

$

0.66

$

0.68

$

1.43

$

1.42

The accompanying notes are an integral part of these unaudited financial statements. 

2

Consolidated Statements of Comprehensive Income

For the Three Months Ended

For the Six Months Ended

June 30,

June 30,

(Dollars in thousands) (unaudited)

2024

2023

2024

2023

Net Income

$

3,033

$

2,976

$

6,394

$

6,268

Debt Securities:

Unrealized gains (losses) arising during the period

447

(5,534)

74

3,092

Reclassification adjustment for losses included in net income (1)

—

517

—

1,119

Net unrealized gains (losses)

447

(5,017)

74

4,211

Tax effect

(94)

1,052

(15)

(885)

Net of tax amount

353

(3,965)

59

3,326

Total other comprehensive gain (loss)

353

(3,965)

59

3,326

Total Comprehensive Income (Loss)

$

3,386

$

(989)

$

6,453

$

9,594

(1) Reclassified to net losses on sales of debt securities

The accompanying notes are an integral part of these unaudited financial statements.

3

Consolidated Statements of Changes in Shareholders’ Equity

For the three and six months ended June 30, 2024 and 2023

Accumulated

Additional

Other

Shares

Common

Paid-in

Retained

Comprehensive

Treasury

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

Outstanding

Stock

Capital

Earnings

Income (Loss)

Stock

Total

Balance at April 1, 2024

4,393,873

$

4,711 

$

43,459 

$

135,955 

$

(41,234)

$

(8,654)

$

134,237 

Net income

—

—

3,033 

—

—

3,033 

Other comprehensive loss

—

—

—

353 

—

353 

Cash dividends declared, $0.32 per share

—

—

(1,407)

—

—

(1,407)

Acquisition of treasury stock

(14,684)

—

—

—

—

(400)

(400)

Treasury shares issued under dividend reinvestment plan

31,255

—

(27)

—

—

853 

826 

Stock Compensation Plans:

Treasury shares issued

1,930

—

(52)

—

—

52 

—

Compensation expense

—

167 

—

—

—

167 

Balance at June 30, 2024

4,412,374

$

4,711 

$

43,547 

$

137,581 

$

(40,881)

$

(8,149)

$

136,809 

Balance at January 1, 2024

4,371,231

$

4,711 

$

43,646 

$

133,993 

$

(40,940)

$

(9,274)

$

132,136 

Net income

—

—

6,394 

—

—

6,394 

Other comprehensive loss

—

—

—

59 

—

59 

Cash dividends declared, $0.64 per share

—

—

(2,806)

—

—

(2,806)

Acquisition of treasury stock

(16,202)

—

—

—

—

(440)

(440)

Treasury shares issued under dividend reinvestment plan

43,543

—

(33)

—

—

1,188 

1,155 

Stock Compensation Plans:

Treasury shares issued

13,802

—

(362)

—

—

377 

15 

Compensation expense

—

296 

—

—

—

296 

Balance at June 30, 2024

4,412,374

$

4,711 

$

43,547 

$

137,581 

$

(40,881)

$

(8,149)

$

136,809 

Balance at April 1, 2023

4,402,675

$

4,711 

$

43,356 

$

127,877 

$

(43,996)

$

(8,365)

$

123,583 

Net income

—

—

2,976 

—

—

2,976 

Other comprehensive income

—

—

—

(3,965)

—

(3,965)

Cash dividends declared, $0.32 per share

—

—

(1,401)

—

—

(1,401)

Acquisition of treasury stock

(74,306)

—

—

—

—

(2,078)

(2,078)

Treasury shares issued under dividend reinvestment plan

20,195

—

(17)

—

—

550 

533 

Stock Compensation Plans:

Treasury shares issued

1,424

—

(35)

—

—

39 

4 

Compensation expense

—

118 

—

—

—

118 

Balance at June 30, 2023

4,349,988

$

4,711 

$

43,422 

$

129,452 

$

(47,961)

$

(9,854)

$

119,770 

Balance at January 1, 2023

4,390,397

$

4,711 

$

43,535 

$

125,892 

$

(51,287)

$

(8,654)

$

114,197 

Cumulative change in accounting principle, net of tax

—

—

98 

—

—

98 

Net income

—

—

6,268 

—

—

6,268 

Other comprehensive income

—

—

—

3,326 

—

3,326 

Cash dividends declared, $0.64 per share

—

—

(2,806)

—

—

(2,806)

Acquisition of treasury stock

(84,414)

—

—

—

—

(2,394)

(2,394)

Treasury shares issued under dividend reinvestment plan

28,679

—

32 

—

—

779 

811 

Stock Compensation Plans:

Treasury shares issued

15,326

—

(398)

—

—

415 

17 

Compensation expense

—

253 

—

—

—

253 

Balance at June 30, 2023

4,349,988

$

4,711 

$

43,422 

$

129,452 

$

(47,961)

$

(9,854)

$

119,770 

The accompanying notes are an integral part of these unaudited financial statements.

4

Consolidated Statements of Cash Flows

Six Months Ended
‎June 30,

2024

2023

(Dollars in thousands) (unaudited)

Cash flows from operating activities

Net income

$

6,394 

$

6,268 

Adjustments to reconcile net income to net cash provided by operating activities:

Depreciation and amortization

1,040 

988 

Net amortization of loans and investment securities

1,775 

1,720 

Amortization of subordinate debt issuance costs

19 

20 

Provision for credit losses

998 

1,061 

Change in fair value of equity securities

75 

32 

Realized losses on sales of debt securities

—

1,119 

Loans originated for sale

(13,227)

(8,341)

Proceeds from sale of loans

12,682 

8,616 

Gain on sale of loans held for sale

(174)

(118)

Increase in cash surrender value of life insurance

(224)

(220)

Gain from claims on life insurance policies

(78)

—

Change in fair value of derivative

(2)

—

Stock based compensation

296 

253 

Decrease in other assets

877 

1,573 

(Decrease) increase in other liabilities

(715)

414 

Net cash provided by operating activities

9,736 

13,385 

Cash flows from investing activities

Net decrease in long-term interest-earning deposits in other banks

4,235 

4,997 

Proceeds from sales and calls of investment securities available for sale

—

40,117 

Proceeds from maturities and pay-downs of securities available for sale

24,548 

16,062 

Purchase of investment securities available for sale

(8,025)

(7,248)

Increase in restricted stock

(8,000)

(50)

Net increase in loans

(61,419)

(94,417)

Proceeds from surrender of life insurance policies

559 

—

Capital expenditures

(1,451)

(228)

Net cash used in investing activities

(49,553)

(40,767)

Cash flows from financing activities

Net decrease in demand deposits, interest-bearing checking, and savings accounts

(2,754)

(70,665)

Net increase in time deposits

51,234 

32,352 

Increase in long-term borrowings

200,000 

70,000 

Net decrease in short-term borrowings

(50,000)

—

Dividends paid

(2,806)

(2,806)

Purchase of Treasury shares

(440)

(2,394)

Cash received from option exercises

15 

17 

Treasury shares issued under dividend reinvestment plan

1,155 

811 

Net cash provided by financing activities

196,404 

27,315 

Increase (decrease) in cash and cash equivalents

156,587 

(67)

Cash and cash equivalents at the beginning of the period

23,140 

64,899 

Cash and cash equivalents at the end of the period

$

179,727 

$

64,832 

Supplemental Disclosures of Cash Flow Information

Cash paid during the period for:

Interest on deposits and other borrowed funds

$

19,897 

$

7,813 

Income taxes

1,080 

1,316 

Noncash Activities

Noncash extinguishment of lease liability

—

537 

Noncash decrease in right-of-use asset

—

507 

 The accompanying notes are an integral part of these unaudited financial statements.

5

FRANKLIN FINANCIAL SERVICES CORPORATION and SUBSIDIARIES

UNAUDITED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Basis of Presentation

The consolidated financial statements include the accounts of Franklin Financial Services Corporation (the Corporation), and its wholly owned subsidiaries, Farmers and Merchants Trust Company of Chambersburg (the Bank) and Franklin Future Fund Inc. Farmers and Merchants Trust Company of Chambersburg is a commercial bank that has one wholly owned subsidiary, Franklin Financial Properties Corp. Franklin Financial Properties Corp. holds real estate assets that are leased by the Bank. Franklin Future Fund Inc. is a non-bank investment company. The activities of the non-bank subsidiary are not significant to the consolidated totals. All significant intercompany transactions and account balances have been eliminated.

In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the consolidated financial position, results of operations, and cash flows as of June 30, 2024, and for all other periods presented have been made.

Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted. It is suggested that these consolidated financial statements be read in conjunction with the audited consolidated financial statements and notes thereto included in the Corporation’s 2023 Annual Report on Form 10-K. The consolidated results of operations for the three and six month period ended June 30, 2024 are not necessarily indicative of the operating results for the full year. Management has evaluated subsequent events for potential recognition and/or disclosure through the date these consolidated financial statements were issued.

The consolidated balance sheet at December 31, 2023 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by GAAP for complete consolidated financial statements.

For purposes of reporting cash flows, cash and cash equivalents include cash and due from banks, interest-bearing deposits in other banks and cash items with original maturities less than 90 days.

Earnings per share are computed based on the weighted average number of shares outstanding during each period end. A reconciliation of the weighted average shares outstanding used to calculate basic earnings per share and diluted earnings per share follows:

For the Three Months Ended

For the Six Months Ended

June 30,

June 30,

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

2024

2023

2024

2023

Weighted average shares outstanding (basic)

4,555

4,380

4,465

4,388

Impact of common stock equivalents

7

8

8

13

Weighted average shares outstanding (diluted)

4,562

4,388

4,473

4,401

Anti-dilutive options excluded from calculation

—

74

—

25

Net income

$

3,033

$

2,976

$

6,394

$

6,268

Basic earnings per share

$

0.67

$

0.68

$

1.43

$

1.43

Diluted earnings per share

$

0.66

$

0.68

$

1.43

$

1.42

 


‎

6

Note 2. Recent Accounting Pronouncements 

Recently adopted accounting standards

ASU 2023-01, Leases (Topic 842): Common Control Arrangements

Description

This ASU requires entities to determine whether a related party arrangement between entities under common control is a lease. If the arrangement is determined to be a lease, an entity must classify and account for the lease on the same basis as an arrangement with a related party (on the basis of legally enforceable terms and conditions).

Effective Date

January 1, 2024

Effect on the Consolidated Financial Statements

The Corporation adopted the ASU on January 1, 2024 and it did not have a material effect on the Corporation's financial statements.

ASU 2023-02, Investments - Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method

Description

This ASU permits reporting entities to elect to account for their tax equity investments, regardless of the tax credit program from which the income tax credits are received, using the proportional amortization method if certain conditions are met.

Effective Date

January 1, 2024

Effect on the Consolidated Financial Statements

The Corporation adopted the ASU on January 1, 2024 and it did not have a material effect on the Corporation's financial statements.

Recently issued but not yet effective accounting standards

ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures

Description

This ASU is intended to improve the transparency of income tax disclosures by requiring consistent categories and greater disaggregation of information in the rate reconciliation table and income taxes paid to be disaggregated by jurisdiction. It also includes certain amendments to improve the effectiveness of income tax disclosures.

Effective Date

January 1, 2025

Effect on the Consolidated Financial Statements

The ASU is not expected to have an impact on the Corporation's financial statements.

ASU 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures

Description

This ASU is intended to improve reportable segment disclosure requirements primarily through enhanced disclosures about significant segment expenses.

Effective Date

Fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024.

Effect on the Consolidated Financial Statements

The Corporation is currently evaluating the impact the ASU will have on its consolidated financial statements.

ASU 2023-01, Disclosure Improvements: Codification Amendments in Response to the SEC's Disclosure Update and Simplification Initiative

Description

This ASU incorporates certain U.S. Securities and Exchange Commission (SEC) disclosure requirements into the FASB Accounting Standards Codification. The amendments in the ASU are expected to clarify or improve disclosure and presentation requirements of a variety of Codification Topics, allow users to more easily compare entities subject to the SEC's existing disclosures with those entities that were not previously subject to the requirement, and align the requirements in the Codification with the SEC's regulations.

Effective Date

The effective date for each amendment will be the date on which the SEC's removal of that related disclosure from Regulation S-X or Regulation S-K becomes effective, with early adoption prohibited.

Effect on the Consolidated Financial Statements

The ASU is not expected to have an impact on the Corporation's financial statements.

     


‎

7

Note 3. Accumulated Other Comprehensive Loss

The components of accumulated other comprehensive income (loss), net of income tax effects, included in shareholders' equity are as follows:

June 30,

December 31,

(Dollars in thousands)

2024

2023

Net unrealized losses on debt securities

$

(49,342)

$

(49,416)

Tax effect

10,362

10,377

Net of tax amount

$

(38,980)

$

(39,039)

Accumulated pension adjustment

$

(2,406)

$

(2,406)

Tax effect

505

505

Net of tax amount

$

(1,901)

$

(1,901)

Total accumulated other comprehensive (loss)

$

(40,881)

$

(40,940)

 

Note 4. Investments

Available for Sale (AFS) Securities

The amortized cost and estimated fair value of AFS securities as of June 30, 2024 and December 31, 2023 are as follows:

(Dollars in thousands)

Gross

Gross

Amortized

unrealized

unrealized

Fair

June 30, 2024

cost

gains

losses

Value

U.S. Treasury

$

83,139

$

—

$

(10,119)

$

73,020

Municipal

158,445

—

(23,744)

134,701

Corporate

26,346

—

(2,658)

23,688

Agency mortgage & asset-backed

133,119

187

(9,523)

123,783

Non-Agency mortgage & asset-backed

102,758

34

(3,519)

99,273

Total

$

503,807

$

221

$

(49,563)

$

454,465

(Dollars in thousands)

Gross

Gross

Amortized

unrealized

unrealized

Fair

December 31, 2023

cost

gains

losses

value

U.S. Treasury

$

83,494

$

—

$

(9,403)

$

74,091

Municipal

161,339

—

(22,721)

138,618

Corporate

26,336

—

(3,138)

23,198

Agency mortgage & asset-backed

142,565

90

(10,064)

132,591

Non-Agency mortgage & asset-backed

108,185

48

(4,228)

104,005

Total

$

521,919

$

138

$

(49,554)

$

472,503

At June 30, 2024 and December 31, 2023, the fair value of debt securities pledged to secure public funds, trust deposits and FHLB loan commitments totaled $231.0 million and $207.4 million, respectively. The Bank has no investment in a single issuer that exceeds 10% of shareholders’ equity, except for securities issued by the U.S. Treasury and U.S. government sponsored entities.

8

The amortized cost and estimated fair value of debt securities at June 30, 2024, by contractual maturity, are shown below. Actual maturities may differ from contractual maturities because of prepayment or call options embedded in the securities. Securities not due at a single maturity date are presented separately.

(Dollars in thousands)

Amortized
‎cost

Fair
‎value

Due in one year or less

$

—

$

—

Due after one year through five years

85,160

75,619

Due after five years through ten years

80,052

69,302

Due after ten years

102,718

86,488

267,930

231,409

Mortgage & asset-backed

235,877

223,056

$

503,807

$

454,465

The composition of the net realized gains (losses) on debt securities for the three and six months ended are as follows:

For the Three Months Ended

For the Six Months Ended

June 30,

June 30,

(Dollars in thousands)

2024

2023

2024

2023

Proceeds

$

—

$

7,262

$

—

$

40,117

Gross gains realized

$

—

$

—

$

—

$

12

Gross losses realized

—

(517)

—

(1,131)

Net (losses) gains realized

$

—

$

(517)

$

—

$

(1,119)

Tax benefit (provision) on net (losses) gains realized

$

—

$

109

$

—

$

235

Credit Impairment:

The debt securities portfolio contained 551 securities, with a fair value of $437.0 million, and $49.6 million in gross unrealized losses at June 30, 2024, essentially unchanged from the prior year-end.

AFS securities in an unrealized loss position are evaluated for credit impairment at least quarterly. For these securities, the Bank considers: (1) the extent to which the fair value is less than amortized cost; (2) adverse conditions specifically related to the security, industry or geographic area; (3) the payment structure of the debt security and the likelihood of the issuer being able to make payments that increase in the future; (4) failure of the issuer of the security to make scheduled interest or principal payments; and (5) any changes to the rating of the security by a rating agency. In addition, the Bank considers whether it intends to sell these securities or whether it will be forced to sell these securities before the earlier of amortized cost recovery or maturity. The Bank does not have the intent to sell and does not believe it will more likely than not be required to sell any of these securities prior to a recovery of their fair value to amortized cost. The unrealized losses identified on debt securities and subject to evaluation at June 30, 2024, was determined not to be attributable to credit related factors; therefore, the Bank does not have an allowance for credit loss for these investments.


‎

9

The following table summarizes debt securities in the AFS portfolio in an unrealized loss position for which an allowance for credit losses has not been recorded, aggregated by investment category, length of time that individual securities have been in continuous unrealized loss position and the number of securities in each category as of June 30, 2024 and December 31, 2023:

June 30, 2024

Less than 12 months

12 months or more

Total

Fair

Unrealized

Fair

Unrealized

Fair

Unrealized

(Dollars in thousands)

Value

Losses

Count

Value

Losses

Count

Value

Losses

Count

U.S. Treasury

$

—

$

—

—

$

73,020 

$

(10,119)

226 

$

73,020 

$

(10,119)

226 

Municipal

—

—

—

134,701 

(23,744)

50 

134,701 

(23,744)

50 

Corporate

978 

(5)

1 

22,710 

(2,653)

166 

23,688 

(2,658)

167 

Agency mortgage & asset-backed

745 

(10)

4 

108,925 

(9,513)

57 

109,670 

(9,523)

61 

Non-Agency mortgage & asset-backed

38,658 

(194)

19 

57,302 

(3,325)

28 

95,960 

(3,519)

47 

Total temporarily impaired

$

40,381 

$

(209)

24 

$

396,658 

$

(49,354)

527 

$

437,039 

$

(49,563)

551 

December 31, 2023

Less than 12 months

12 months or more

Total

Fair

Unrealized

Fair

Unrealized

Fair

Unrealized

(Dollars in thousands)

Value

Losses

Count

Value

Losses

Count

Value

Losses

Count

U.S. Treasury

$

—

$

—

—

$

74,091 

$

(9,403)

28 

$

74,091 

$

(9,403)

28 

Municipal

—

—

—

138,618 

(22,721)

168 

138,618 

(22,721)

168 

Corporate

1,483 

(167)

5 

21,715 

(2,971)

46 

23,198 

(3,138)

51 

Agency mortgage & asset-backed

6,227 

(186)

19 

118,053 

(9,878)

223 

124,280 

(10,064)

242 

Non-Agency mortgage & asset-backed

47,928 

(560)

19 

50,071 

(3,668)

56 

97,999 

(4,228)

75 

Total temporarily impaired

$

55,638 

$

(913)

43 

$

402,548 

$

(48,641)

521 

$

458,186 

$

(49,554)

564 

Equity Securities at Fair Value

The Corporation owns one equity investment with a readily determinable fair value. At June 30, 2024 and December 31, 2023, this investment was reported at fair value of $352 thousand and $427 thousand, respectively, with changes in value reported through income.

 

Note 5. Loans

The Bank reports its loan portfolio based on the primary collateral of the loan. It further classifies these loans by the primary purpose, either consumer or commercial. The Bank’s mortgage loans include long-term loans to individuals and businesses secured by mortgages on the borrower’s real property. Construction loans are made to finance the purchase of land and the construction of residential and commercial buildings thereon and are secured by mortgages on real estate. Commercial loans are made to businesses of various sizes for a variety of purposes including construction, property, plant and equipment, and working capital. Commercial loans also include loans to government municipalities. Commercial lending is concentrated in the Bank’s primary market, but also includes purchased loan participations. Consumer loans are comprised of installment, home equity and unsecured personal lines of credit.

Each class of loans involves a different kind of risk. However, risk factors such as changes in interest rates, general economic conditions and changes in collateral values are common across all classes. The risk of each loan class is presented below.

Residential Real Estate 1-4 family

The largest risk in residential real estate loans to retail customers is the borrower’s inability to repay the loan due to the loss of the primary source of income. The Bank attempts to mitigate this risk through prudent underwriting standards including employment history, current financial condition and credit history. These loans are generally owner occupied and serve as the borrower’s primary residence. The Bank usually holds a first lien position on these properties but may hold a second lien position in some home equity loans or lines of credit. Commercial purpose loans, secured by residential real estate, are usually dependent upon repayment from the rental income or other business purposes. These loans are generally non-owner occupied. In addition to the real estate collateral, these loans may have personal guarantees or UCC filings on other business assets. If a payment default occurs on a 1-4 family residential real estate loan, the collateral serves as a source of repayment, but may be subject to a change in value due to economic conditions.

10

Residential Real Estate Construction

This class includes loans to individuals for construction of a primary residence and to contractors and developers to improve real estate and construct residential properties. Construction loans to individuals generally bear the same risk as 1-4 family residential loans. Additional risks may include cost overruns, delays in construction or contractor problems.

Loans to contractors and developers are primarily dependent on the sale of improved lots or finished homes for repayment. Risks associated with these loans include the borrower’s character and capacity to complete a development, the effect of economic conditions on the valuation of lots or homes, cost overruns, delays in construction or contractor problems. In addition to real estate collateral, these loans may have personal guarantees or UCC filings on other business assets, depending on the financial strength and experience of the developer. Real estate construction loans are monitored on a regular basis by either an independent third party or the responsible loan officer, depending on the size and complexity of the project. This monitoring process includes, at a minimum, the submission of invoices or AIA documents detailing the cost incurred by the borrower, on-site inspections, and an authorizing signature for disbursement of funds.

Commercial Real Estate

Commercial real estate loans may be secured by various types of commercial property including retail space, office buildings, warehouses, hotels and motels, manufacturing facilities and, agricultural land.

Commercial real estate loans present a higher level of risk than residential real estate loans. Repayment of these loans is normally dependent on cash flow generated by the operation of a business that utilizes the real estate. The successful operation of the business, and therefore repayment ability, may be affected by general economic conditions outside of the control of the operator. On most commercial real estate loans ongoing monitoring of cash flow and other financial performance indictors is completed annually through financial statement analysis. In addition, the value of the collateral may be negatively affected by economic conditions and may be insufficient to repay the loan in the event of default. In the event of foreclosure, commercial real estate may be more difficult to liquidate than residential real estate.

Commercial

Commercial loans are made for various business purposes to finance equipment, inventory, accounts receivables, and operating liquidity. These loans are generally secured by business assets or equipment, non-real estate collateral and/or personal guarantees.

Commercial loans present a higher level of credit risk than other loans because repayment ability is usually dependent on cash-flow from a business operation that can be affected by general economic conditions. On most commercial loans ongoing monitoring of cash flow and other financial performance indicators occur at least annually through financial statement analysis. In the event of a default, collateral for these loans may be more difficult to liquidate, and the valuation of the collateral may decline more quickly than loans secured by other types of collateral.

Loans to governmental municipalities are also included in the Commercial class. These loans generally have less risk than Commercial & Industrial (C&I) loans due to the taxing authority of the municipality and its ability to assess fees on services.

This class also includes loans made as part of the Paycheck Protection Program (PPP). The PPP is a small business loan program, administered by the Small Business Administration (SBA). The PPP loans are 100 percent guaranteed by the SBA and have a maturity of two years or five years with a fixed interest rate of 1.00% for the life of the loan. Because the PPP loans are 100% guaranteed by the SBA, they present no credit risk to the Bank once the SBA guarantee is fulfilled. However, if the SBA does not grant loan forgiveness, the PPP loan would present the same risk factors as any other commercial loan.

Consumer

These loans are made for a variety of reasons to consumers and include term loans and personal lines-of credit. The loans may be secured or unsecured. Repayment is primarily dependent on the income of the borrower and to a lesser extent the sale of collateral. The underwriting of these loans is based on the consumer’s ability and willingness to repay and is determined by the borrower’s employment history, current financial condition and credit history. Collateral for these loans, if any, usually depreciates quickly and therefore, may not be adequate to repay the loan if it is repossessed. Therefore, the overall health of the economy, including unemployment rates and wages, will have an effect on the credit quality in this loan class.

11

A summary of loans outstanding, by class, at the end of the reporting periods is as follows:

June 30,

December 31,

(Dollars in thousands)

2024

2023

Residential Real Estate 1-4 Family

Consumer first liens

$

159,806

$

142,017

Commercial first lien

61,032

63,271

Total first liens

220,838

205,288

Consumer junior liens and lines of credit

70,256

68,752

Commercial junior liens and lines of credit

5,296

3,809

Total junior liens and lines of credit

75,552

72,561

Total residential real estate 1-4 family

296,390

277,849

Residential real estate - construction

Consumer

15,804

13,837

Commercial

11,466

12,063

Total residential real estate construction

27,270

25,900

Commercial real estate

743,642

703,767

Commercial

243,628

242,654

Total commercial

987,270

946,421

Consumer

7,390

6,815

1,318,320

1,256,985

Less: Allowance for credit losses

(17,018)

(16,052)

Net Loans

$

1,301,302

$

1,240,933

Included in the loan balances are the following:

Net unamortized deferred loan costs

$

1,829

$

1,615

Loans pledged as collateral for borrowings and commitments from:

FHLB

$

737,601

$

699,527

Federal Reserve Bank

77,268

83,482

$

814,869

$

783,009

Paycheck Protection Program (included in commercial loans)

$

25

$

57

 

Note 6. Loan Quality and Allowance for Credit Losses

The Bank categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, and current economic trends, among other factors. Management utilizes a risk rating scale ranging from 1-Prime to 9-Loss to evaluate loan quality. This risk rating scale is used primarily for commercial purpose loans. Consumer purpose loans are identified as either performing or nonperforming based on the payment status of the loans. Nonperforming consumer loans are loans that are nonaccrual or 90 days or more past due and still accruing. The Bank uses the following definitions for risk ratings:

Pass (1-5): are considered pass credits with lower or average risk and are not otherwise classified.

Other Assets Especially Mentioned (OAEM) (6): Loans classified as OAEM have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the borrower’s credit position at some future date.


‎

12

Substandard (7): Loans classified as Substandard are inadequately protected by the current net worth and paying capacity of the borrower or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.

Doubtful (8): Loans classified as Doubtful have all the weaknesses inherent in those classified as Substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

Loans that do not share risk characteristics are evaluated on an individual basis. Loans evaluated individually are not included in the pool evaluation. When management determines that foreclosure is probable or when the borrower is experiencing financial difficulty at the reporting date and repayment is expected to be provided substantially through the sale of the collateral, the expected credit losses are based on the fair value of the collateral at the reporting date, adjusted for any discounts and selling costs as appropriate.

Management monitors loan performance on a monthly basis and performs a quarterly evaluation of the adequacy of the Allowance for Credit Loss for loans (ACL). The Bank begins enhanced monitoring of all loans rated 6–OAEM or worse and obtains a new appraisal or asset valuation for any loans placed on nonaccrual and rated 7 - Substandard or worse. Management, at its discretion, may determine that additional adjustments to the appraisal or valuation are required. Valuation adjustments will be made as necessary based on factors, including, but not limited to: the economy, deferred maintenance, industry, type of property/equipment, age of the appraisal, etc. and the knowledge Management has about a particular situation. In addition, the cost to sell or liquidate the collateral is also estimated and deducted from the valuation in order to determine the net realizable value to the Bank. When determining the ACL, certain factors involved in the evaluation are inherently subjective and require material estimates that may be susceptible to significant change, including the amounts and timing of future cash flows. Management monitors the adequacy of the ACL on an ongoing basis and reports its adequacy quarterly to the Enterprise Risk Management Committee of the Board of Directors. Management believes the ACL at June 30, 2024 is adequate.


‎

13

The following table presents loans by year of origination and internally assigned risk ratings:

(Dollars in thousands)

Revolving

Revolving

Term Loans

Loans

Loans

Amortized Cost Basis by Origination Year

Amortized

Converted

As of June 30, 2024

2024

2023

2022

2021

2020

Prior

Cost Basis

to Term

Total

Residential real estate 1-4 family:

Commercial:

Risk rating:

Pass (1-5)

$

2,903 

$

9,737 

$

8,484 

$

10,766 

$

9,189 

$

21,759 

$

3,490 

$

—

$

66,328 

OAEM (6)

—

—

—

—

—

—

—

—

—

Substandard (7)

—

—

—

—

—

—

—

—

—

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total Commercial

2,903 

9,737 

8,484 

10,766 

9,189 

21,759 

3,490 

—

66,328 

Consumer:

Performing

18,756 

56,876 

32,537 

14,674 

9,621 

29,538 

47,035 

19,816 

228,853 

Nonperforming

—

—

106 

280 

—

436 

387 

—

1,209 

Total Consumer

18,756 

56,876 

32,643 

14,954 

9,621 

29,974 

47,422 

19,816 

230,062 

Total

$

21,659 

$

66,613 

$

41,127 

$

25,720 

$

18,810 

$

51,733 

$

50,912 

$

19,816 

$

296,390 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

Residential real estate construction:

Commercial:

Risk rating:

Pass (1-5)

$

1,980 

$

6,128 

$

1,059 

$

1,071 

$

184 

$

1,044 

$

—

$

—

$

11,466 

OAEM (6)

—

—

—

—

—

—

—

—

—

Substandard (7)

—

—

—

—

—

—

—

—

—

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total Commercial

1,980 

6,128 

1,059 

1,071 

184 

1,044 

—

—

11,466 

Consumer:

Performing

4,811 

10,993 

—

—

—

—

—

—

15,804 

Nonperforming

—

—

—

—

—

—

—

—

—

Total Consumer

4,811 

10,993 

—

—

—

—

—

—

15,804 

Total

$

6,791 

$

17,121 

$

1,059 

$

1,071 

$

184 

$

1,044 

$

—

$

—

$

27,270 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

Commercial real estate:

Risk rating:

Pass (1-5)

$

31,739 

$

205,456 

$

105,602 

$

96,075 

$

34,467 

$

236,387 

$

9,962 

$

—

$

719,688 

OAEM (6)

—

2,927 

1,794 

1,722 

6,732 

1,646 

594 

—

15,415 

Substandard (7)

—

6,004 

—

—

—

2,535 

—

—

8,539 

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total

$

31,739 

$

214,387 

$

107,396 

$

97,797 

$

41,199 

$

240,568 

$

10,556 

$

—

$

743,642 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

(2)

$

—

$

—

$

(2)

Commercial:

Risk rating:

Pass (1-5)

$

8,962 

$

30,446 

$

30,653 

$

41,822 

$

20,944 

$

65,039 

$

43,050 

$

—

$

240,916 

OAEM (6)

—

12 

448 

1,586 

14 

—

240 

—

2,300 

Substandard (7)

—

—

215 

—

1 

—

196 

—

412 

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total

$

8,962 

$

30,458 

$

31,316 

$

43,408 

$

20,959 

$

65,039 

$

43,486 

$

—

$

243,628 

Current period gross charge-offs

$

(7)

$

—

$

(80)

$

—

$

—

$

—

$

(62)

$

—

$

(149)

Consumer:

Performing

1,491 

1,401 

509 

1,836 

82 

48 

1,977 

—

7,344 

Nonperforming

—

23 

—

—

2 

—

21 

—

46 

Total

$

1,491 

$

1,424 

$

509 

$

1,836 

$

84 

$

48 

$

1,998 

$

—

$

7,390 

Current period gross charge-offs

$

(21)

$

—

$

(2)

$

(2)

$

(6)

$

(1)

$

(14)

$

—

$

(46)


‎

14

(Dollars in thousands)

Revolving

Revolving

Term Loans

Loans

Loans

Amortized Cost Basis by Origination Year

Amortized

Converted

As of December 31, 2023

2023

2022

2021

2020

2019

Prior

Cost Basis

to Term

Total

Residential real estate 1-4 family:

Commercial:

Risk rating:

Pass (1-5)

$

9,867 

$

9,088 

$

11,038 

$

9,691 

$

2,433 

$

22,906 

$

2,057 

$

—

$

67,080 

OAEM (6)

—

—

—

—

—

—

—

—

—

Substandard (7)

—

—

—

—

—

—

—

—

—

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total Commercial

9,867 

9,088 

11,038 

9,691 

2,433 

22,906 

2,057 

—

67,080 

Consumer:

Performing

53,128 

34,136 

15,625 

10,245 

5,222 

28,423 

43,968 

20,022 

210,769 

Nonperforming

—

—

—

—

—

—

—

—

—

Total Consumer

53,128 

34,136 

15,625 

10,245 

5,222 

28,423 

43,968 

20,022 

210,769 

Total

$

62,995 

$

43,224 

$

26,663 

$

19,936 

$

7,655 

$

51,329 

$

46,025 

$

20,022 

$

277,849 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

Residential real estate construction:

Commercial:

Risk rating:

Pass (1-5)

$

6,845 

$

2,209 

$

1,289 

$

214 

$

—

$

1,506 

$

—

$

—

$

12,063 

OAEM (6)

—

—

—

—

—

—

—

—

—

Substandard (7)

—

—

—

—

—

—

—

—

—

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total Commercial

6,845 

2,209 

1,289 

214 

—

1,506 

—

—

12,063 

Consumer:

Performing

13,837 

—

—

—

—

—

—

—

13,837 

Nonperforming

—

—

—

—

—

—

—

—

—

Total Consumer

13,837 

—

—

—

—

—

—

—

13,837 

Total

$

20,682 

$

2,209 

$

1,289 

$

214 

$

—

$

1,506 

$

—

$

—

$

25,900 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

Commercial real estate:

Risk rating:

Pass (1-5)

$

180,052 

$

110,886 

$

98,540 

$

34,307 

$

38,603 

$

214,179 

$

10,567 

$

—

$

687,134 

OAEM (6)

2,955 

1,350 

1,000 

6,823 

—

2,182 

139 

—

14,449 

Substandard (7)

—

—

—

—

—

2,134 

50 

—

2,184 

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total

$

183,007 

$

112,236 

$

99,540 

$

41,130 

$

38,603 

$

218,495 

$

10,756 

$

—

$

703,767 

Current period gross charge-offs

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

$

—

Commercial:

Risk rating:

Pass (1-5)

$

34,851 

$

33,983 

$

45,754 

$

22,847 

$

3,579 

$

64,542 

$

36,508 

$

—

$

242,064 

OAEM (6)

—

—

—

—

—

—

—

—

—

Substandard (7)

—

317 

—

—

—

—

273 

—

590 

Doubtful (8)

—

—

—

—

—

—

—

—

—

Total

$

34,851 

$

34,300 

$

45,754 

$

22,847 

$

3,579 

$

64,542 

$

36,781 

$

—

$

242,654 

Current period gross charge-offs

$

(125)

$

—

$

(130)

$

—

$

—

$

—

$

(50)

$

—

$

(305)

Consumer:

Performing

1,863 

669 

1,985 

148 

80 

5 

2,060 

—

6,810 

Nonperforming

—

—

—

—

—

—

5 

—

5 

Total

$

1,863 

$

669 

$

1,985 

$

148 

$

80 

$

5 

$

2,065 

$

—

$

6,815 

Current period gross charge-offs

$

(63)

$

—

$

(10)

$

(2)

$

(6)

$

—

$

(36)

$

—

$

(117)


‎

15

The following table presents the amortized cost basis of loans on nonaccrual status and loans past due over 90 days and still accruing as of June 30, 2024:

June 30, 2024

December 31, 2023

(Dollars in thousands)

Nonaccrual and Loans Past Due Over 90 Days+

Nonaccrual and Loans Past Due Over 90 Days+

Loans Past Due

Loans Past Due

Nonaccrual

Nonaccrual

Over 90 Days

Nonaccrual

Nonaccrual

Over 90 Days

Without ACL

With ACL

Still Accruing

Without ACL

With ACL

Still Accruing

June 30, 2024

Residential Real Estate 1-4 Family

First liens

$

—

$

—

$

41 

$

—

$

—

$

—

Junior liens and lines of credit

—

—

30 

—

—

—

Total

—

—

71 

—

—

—

Residential real estate - construction

—

—

—

—

—

—

Commercial real estate

407 

—

—

—

—

—

Commercial

316 

—

88 

147 

—

—

Consumer

—

—

6 

—

—

5 

Total

$

723 

$

—

$

165 

$

147 

$

—

$

5 

At June 30, 2024 the company had $407 thousand of commercial real estate loans and $316 thousand of commercial loans that were considered to be collateral dependent. A loan is considered to be collateral dependent when the borrower is experiencing financial difficulty, and the repayment is expected to be provided substantially through the operation or sale of collateral. These loans were secured by farmland and business assets, respectively. No loans were considered collateral dependent at December 31, 2023.

At June 30, 2024 and December 31, 2023, the Bank had $0 of residential properties in the process of foreclosure.

The following table presents the aging of payments of the loan portfolio:

(Dollars in thousands)

Loans Past Due

Total

Total

30-59 Days

60-89 Days

90 Days+

Past Due

Current

Loans

June 30, 2024

Residential Real Estate 1-4 Family

First liens

$

—

$

799 

$

41 

$

840 

$

219,998 

$

220,838 

Junior liens and lines of credit

339 

—

30 

369 

75,183 

75,552 

Total

339 

799 

71 

1,209 

295,181 

296,390 

Residential real estate - construction

—

—

—

—

27,270 

27,270 

Commercial real estate

356 

854 

407 

1,617 

742,025 

743,642 

Commercial

193 

—

404 

597 

243,031 

243,628 

Consumer

37 

3 

6 

46 

7,344 

7,390 

Total

$

925 

$

1,656 

$

888 

$

3,469 

$

1,314,851 

$

1,318,320 

Loans Past Due

Total

Total

30-59 Days

60-89 Days

90 Days+

Past Due

Current

Loans

December 31, 2023

Residential Real Estate 1-4 Family

First liens

$

62 

$

394 

$

—

$

456 

$

204,832 

$

205,288 

Junior liens and lines of credit

239 

228 

—

467 

72,094 

72,561 

Total

301 

622 

—

923 

276,926 

277,849 

Residential real estate - construction

—

—

—

—

25,900 

25,900 

Commercial real estate

3,232 

—

—

3,232 

700,535 

703,767 

Commercial

542 

112 

147 

801 

241,853 

242,654 

Consumer

21 

12 

5 

38 

6,777 

6,815 

Total

$

4,096 

$

746 

$

152 

$

4,994 

$

1,251,991 

$

1,256,985 

16

The following table presents, by class, the activity in the Allowance for Credit Losses (ACL) for the periods shown:

Residential Real Estate 1-4 Family

First

Junior Liens &

Commercial

(Dollars in thousands)

Liens

Lines of Credit

Construction

Real Estate

Commercial

Consumer

Unallocated

Total

ACL at March 31, 2024

$

1,308 

$

415 

$

337 

$

11,057 

$

3,324 

$

92 

$

—

$

16,533 

Charge-offs

—

—

—

—

(83)

(18)

—

(101)

Recoveries

—

—

3 

—

20 

3 

—

26 

Provision

76 

14 

(22)

366 

103 

23 

—

560 

ACL at June 30, 2024

$

1,384 

$

429 

$

318 

$

11,423 

$

3,364 

$

100 

$

—

$

17,018 

ACL at December 31, 2023

$

1,296 

$

419 

$

296 

$

10,657 

$

3,290 

$

94 

$

—

$

16,052 

Charge-offs

—

—

—

(2)

(149)

(46)

—

(197)

Recoveries

—

—

7 

—

80 

26 

—

113 

Provision

88 

10 

15 

768 

143 

26 

—

1,050 

ACL at June 30, 2024

$

1,384 

$

429 

$

318 

$

11,423 

$

3,364 

$

100 

$

—

$

17,018 

ACL at March 31, 2023

$

1,624 

$

690 

$

190 

$

8,236 

$

3,275 

$

94 

$

—

$

14,109 

Charge-offs

—

—

—

—

(1)

(42)

—

(43)

Recoveries

—

—

3 

—

12 

10 

—

25 

Provision

96 

(7)

(16)

847 

(432)

36 

—

524 

ACL at June 30, 2023

$

1,720 

$

683 

$

177 

$

9,083 

$

2,854 

$

98 

$

—

$

14,615 

ACL at December 31, 2022

$

459 

$

234 

$

343 

$

7,493 

$

4,846 

$

133 

$

667 

$

14,175 

Impact of adopting ASU 2016-13

1,096 

493 

(95)

584 

(1,907)

(40)

(667)

(536)

Charge-offs

—

—

—

—

(87)

(76)

—

(163)

Recoveries

2 

—

42 

—

79 

25 

—

148 

Provision

163 

(44)

(113)

1,006 

(77)

56 

—

991 

ACL at June 30, 2023

$

1,720 

$

683 

$

177 

$

9,083 

$

2,854 

$

98 

$

—

$

14,615 

On January 1, 2023, The Bank adopted ASU 2022-02, “Financial Instruments - Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures” (“ASU 2022-02”), which eliminated the accounting guidance for troubled debt restructurings (“TDRs”) while enhancing disclosure requirements for certain loan refinancing and restructurings by creditors when a borrower is experiencing financial difficulty. Modifications to borrowers experiencing financial difficulty may include interest rate reductions, principal or interest forgiveness, forbearances, term extensions, and other actions intended to minimize economic loss and to avoid foreclosure or repossession of collateral.

As of June 30, 2024 and December 31, 2023 there were no modifications made to borrowers experiencing financial difficulty.

Note 7. Leases

The Corporation leases various assets in the course of its operations that are subject to recognition on the balance sheet. The Corporation considers all of its leases to be operating leases and it has no finance leases. The leased assets may include equipment, and buildings and land (collectively real estate). The equipment leases are shorter-term than the real estate leases, and generally have a fixed payment over a defined term without renewal options. Certain equipment leases have purchase options and it was determined the option was not reasonably certain to be exercised. The real estate leases are longer-term and may contain renewal options after the initial term, but none of the real estate leases contain a purchase option. The renewal options on real estate leases were reviewed and if it was determined the option was reasonably certain to be renewed, the option term was considered in the determination of the lease liability. There is only one real estate lease with a variable payment based on an index included in the lease liability. None of the leases contain any restrictive covenants and there are no significant leases that have not yet commenced. The discount rate used to determine the lease liability is based on the Bank’s fully secured borrowing rate from the Federal Home Loan Bank for a term similar to the lease term. Operating lease expense is included in net occupancy expense in the consolidated statements of income.

17

Lease costs:

The components of total lease cost were as follows:

Three Months Ended
‎June 30,

Six Months Ended
‎June 30,

(Dollars in thousands)

2024

2023

2024

2023

Operating lease cost

$

195

$

212

$

389

$

429

Short-term lease cost

1

4

2

8

Variable lease cost

37

37

87

74

Total lease cost

$

233

$

253

$

478

$

511

Supplemental Lease Information:

Six Months Ended
‎June 30,

(Dollars in thousands)

2024

2023

Cash paid for amounts included in the measurement of lease liabilities:

Operating cash flows from operating leases

$

379

$

413

Weighted-average remaining lease term (years)

11.7

11.9

Weighted-average discount rate

3.43%

3.37%

Lease Obligations:

Future undiscounted lease payments for operating leases with initial terms of one year or more as of June 30, 2024, are as follows:

(Dollars in thousands)

2024

$

354

2025

666

2026

564

2027

421

2028

393

2029 and beyond

3,205

Undiscounted cash flow

5,603

Imputed Interest

(1,076)

Total lease liability

$

4,527

Note 8. Other Real Estate Owned

The Bank had no other real estate owned at June 30, 2024 and December 31, 2023.

 

Note 9. Derivatives

The Corporation is exposed to certain risks arising from both its business operations and economic conditions.  The Corporation principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Corporation manages economic risks, including interest rate, liquidity, and credit risk, primarily by managing the amount, sources, and duration of its assets and liabilities. 

The Corporation’s existing credit derivatives result from participations in interest rate swaps provided by external lenders as part of loan participation arrangements.  Derivatives not designated as hedges are not speculative and result from a service the Corporation provides to certain lenders which participate in loans.

The table below presents the fair value of the Corporation’s derivative financial instruments as well as their classification on the Balance Sheet.

18

Fair Value of Derivative Instruments

Derivative Liabilities

(Dollars in thousands)

June 30, 2024

December 31, 2023

Notional amount

Balance Sheet Location

Fair Value

Notional amount

Balance Sheet Location

Fair Value

Derivatives not designated as hedging instruments

Other Contracts

$

6,167

Other Liabilities

$

—

$

6,268 

Other Liabilities

$

2 

Total derivatives not designated as hedging instruments

$

—

$

2 

The table below presents the effect of the Corporation’s derivative financial instruments that are not designated as hedging instruments on the Income Statement.

Effect of Derivatives as Hedging Instruments on the Income Statement

Derivatives Not Designated as Hedging Instruments under Subtopic 815-20

Location of Gain or (Loss) Recognized in Income on Derivative

Amount of Gain or (Loss) Recognized in Income on Derivatives

(Dollars in thousands)

Three Months Ended

Six Months Ended

June 30, 2024

June 30, 2023

June 30, 2024

June 30, 2023

Other Contracts

Other income

$

-

$

2 

$

1 

$

-

As of June 30, 2024, the fair value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements was $0.

Note 10. Pension

The components of pension expense for the periods presented are as follows:

Three Months Ended

Six Months Ended

June 30,

June 30,

(Dollars in thousands)

2024

2023

2024

2023

Components of net periodic cost:

Service cost

$

56

$

53

$

103

$

108

Interest cost

193

202

381

403

Expected return on plan assets

(215)

(231)

(432)

(462)

Recognized net actuarial loss

15

—

15

—

Total pension expense

$

49

$

24

$

67

$

49

The service cost component of pension expense is recorded in the salaries and employee benefits line and all other cost components are recorded in the nonservice pension line of the Consolidated Statements of Income. 

Note 11. Fair Value Measurements and Fair Values of Financial Instruments

Management uses its best judgment in estimating the fair value of the Corporation’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Corporation could have realized in a sales transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective period-ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each year-end. The Corporation uses the exit price notion to measure the fair value of financial instruments.

FASB ASC Topic 820, “Financial Instruments”, requires disclosure of the fair value of financial assets and liabilities, including those financial assets and liabilities that are not measured and reported at fair value on a recurring and nonrecurring basis. The Corporation does not report any nonfinancial assets at fair value. FASB ASC Topic 820 establishes a fair value hierarchy that prioritizes the inputs to valuation methods used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority

19

to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under FASB ASC Topic 820 are as follows:

Level 1: Valuation is based on unadjusted, quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level 2: Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market. There may be substantial differences in the assumptions used for securities within the same level. For example, prices for U.S. Agency securities have fewer assumptions and are closer to level 1 valuations than the private label mortgage-backed securities that require more assumptions and are closer to level 3 valuations.

Level 3: Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect the Corporation’s assumptions regarding what market participants would assume when pricing a financial instrument.

An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The following information regarding the fair value of the Corporation’s financial instruments should not be interpreted as an estimate of the fair value of the entire Corporation since a fair value calculation is only provided for a limited portion of the Corporation’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Corporation’s disclosures and those of other companies may not be meaningful.

The following methods and assumptions were used to estimate the fair values of the Corporation’s financial instruments measured at fair value on a recurring and nonrecurring basis.

Equity Securities: Equity securities are valued using quoted market prices from nationally recognized markets (Level 1). Equity securities are measured at fair value on a recurring basis.

Investment securities: Fair values of investment securities available-for-sale were primarily measured using information from a third-party pricing service. This service provides pricing information by utilizing evaluated pricing models supported with market data information. Standard inputs include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data from market research publications. Level 2 investment securities are primarily comprised of debt securities issued by states and municipalities, corporations, mortgage-backed securities issued by government agencies, and government-sponsored enterprises. Fair values were estimated primarily by obtaining quoted prices for similar assets in active markets or through the use of pricing models. Investment securities are measured at fair value on a recurring basis.

Collateral Dependent Loans: The fair value of collateral dependent loans with specific allocations of the allowance for credit losses is generally based on recent real estate appraisals conducted by an independent, licensed appraiser, less cost to sell. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach (Level 2). If the appraiser makes an adjustment to account for differences between the comparable sales and income data available for similar loans, or if management adjusts the appraised value, then the fair value is considered Level 3. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in a Level 3 fair value classification. Collateral dependent loans are evaluated on a quarterly basis for additional impairment and adjusted in accordance with the allowance policy. No partial charge-offs on these loans were taken in the first quarter of 2024. Collateral dependent loans are measured at fair value on a nonrecurring basis.


‎

20

Recurring Fair Value Measurements

For financial assets and liabilities measured at fair value on a recurring basis, the fair value measurements by level within the fair value hierarchy used at June 30, 2024 and December 31, 2023 are as follows:

(Dollars in thousands)

Fair Value at June 30, 2024

Asset Description

Level 1

Level 2

Level 3

Total

Equity securities, at fair value

$

352

$

—

$

—

$

352

Available for sale:

U.S. Treasury

73,020

—

—

73,020

Municipal

—

134,701

—

134,701

Corporate

—

23,688

—

23,688

Agency mortgage & asset-backed

—

123,783

—

123,783

Non-Agency mortgage & asset-backed

—

99,273

—

99,273

Total assets

$

73,372

$

381,445

$

—

$

454,817

(Dollars in thousands)

Fair Value at December 31, 2023

Asset Description

Level 1

Level 2

Level 3

Total

Equity securities, at fair value

$

427

$

—

$

—

$

427

Available for sale:

U.S. Treasury

74,091

—

—

74,091

Municipal

—

138,618

—

138,618

Corporate

—

23,198

—

23,198

Agency mortgage and asset-backed

—

132,591

—

132,591

Non-Agency mortgage and asset-backed

—

104,005

—

104,005

Total assets

$

74,518

$

398,412

$

—

$

472,930

The fair value of derivative liabilities measured at fair value was $0 at June 30, 2024, $2 thousand at December 31, 2023 and was considered immaterial.


‎

21

Nonrecurring Fair Value Measurements

The Corporation did not record any assets or liabilities at fair value for which measurement of the fair value was made on a nonrecurring basis at June 30, 2024. For financial assets and liabilities measured at fair value on a recurring basis, there were no transfers of financial assets or liabilities between Level 1 and Level 2 during the period ending June 30, 2024.

The carrying amounts and estimated fair value of financial instruments not carried at fair value are as follows:

June 30, 2024

Carrying

Fair

(Dollars in thousands)

Amount

Value

Level 1

Level 2

Level 3

Financial assets, carried at cost:

Cash and cash equivalents

$

179,727

$

179,727

$

179,727

$

—

$

—

Long-term interest-earning deposits in other banks

1,994

1,994

1,994

—

—

Loans held for sale

932

947

—

947

—

Net loans

1,301,302

1,259,496

—

—

1,259,496

Accrued interest receivable

7,515

7,515

—

—

7,515

Financial liabilities:

Deposits

$

1,586,458

$

1,585,810

$

—

$

1,585,810

$

—

Federal Reserve Bank borrowings

40,000

39,891

39,891

FHLB advances

240,000

239,310

—

239,310

—

Subordinate notes

19,680

17,474

—

17,474

—

Accrued interest payable

4,735

4,735

—

4,735

—

December 31, 2023

Carrying

Fair

(Dollars in thousands)

Amount

Value

Level 1

Level 2

Level 3

Financial assets, carried at cost:

Cash and cash equivalents

$

23,140

$

23,140

$

23,140

$

—

$

—

Long-term interest-earning deposits in other banks

6,229

6,229

6,229

—

—

Loans held for sale

213

213

—

213

—

Net loans

1,240,933

1,207,403

—

—

1,207,403

Accrued interest receivable

7,506

7,506

—

—

7,506

Financial liabilities:

Deposits

$

1,537,978

$

1,537,480

$

—

$

1,537,480

$

—

Federal Reserve Bank Borrowings

90,000

89,783

89,783

FHLB Advances

40,000

40,110

40,110

Subordinate notes

19,661

18,303

—

18,303

—

Accrued interest payable

3,856

3,856

—

3,856

—

 

Note 12. Deposits

June 30,

December 31,

(Dollars in thousands)

2024

2023

Noninterest-bearing checking

$

282,964

$

273,050

Interest-bearing checking

401,174

454,517

Money management

616,928

572,058

Savings

101,712

105,907

Total interest-bearing checking and savings

1,119,814

1,132,482

Time deposits

183,680

132,446

Total deposits

$

1,586,458

$

1,537,978

Overdrawn deposit accounts reclassified as loans

$

660

$

160

22

Time deposits greater than $250,000 at June 30, 2024 and December 31, 2023 were $48.5 million and $44.4 million, respectively.

Note 13. Borrowings

At June 30, 2024, the Bank had $40.0 million borrowed from the Federal Reserve’s Bank Term Funding Program (BTFP) with a rate of 4.81% due January 10, 2025, compared to $90.0 million at December 31, 2023. At June 30, 2024, the fair value of debt securities pledged for the BTFP was $44.1 million.

At June 30, 2024, the Bank had $240.0 million in total borrowings from the Federal Home Loan Bank of Pittsburgh (FHLB), compared to $40.0 million at December 31, 2023. The borrowings are comprised of $40.0 million in short-term borrowings with a blended rate of 5.80%, due during the third quarter of 2024, and $200.0 million in long-term borrowings with a rate of 4.32%, due January 12, 2027.

At June 30, 2024, the Corporation had $20.0 million of unsecured subordinated debt notes payable, $15.0 million which mature on September 1, 2030 and $5.0 million which mature on September 1, 2035. The notes are recorded on the consolidated balance sheet net of remaining debt issuance costs totaling $320 thousand at June 30, 2024, which is being amortized on a pro-rata basis, based on the maturity date of the notes, on an effective interest method. The subordinated notes totaling $15.0 million have a fixed interest rate of 5.00% through September 1, 2025, then convert to a variable rate of 90-day Secured Overnight Financing Rate (SOFR) plus 4.93% for the applicable interest periods through maturity. The subordinated notes totaling $5.0 million have a fixed interest rate of 5.25% through September 1, 2030, then convert to a variable rate of 90-day SOFR plus 4.92% for the applicable interest periods through maturity. The Corporation may, at its option, redeem the notes, in whole or in part, at any time 5-years prior to the maturity. The notes are structured to qualify as Tier 2 Capital for the Corporation and there are no debt covenants on the notes.

Note 14. Capital Ratios

Capital adequacy for the Bank is currently defined by regulatory agencies through the use of several minimum required ratios. The capital ratios to be considered “well capitalized” are: (1) Common Equity Tier 1 (CET1) of 6.5%, (2) Tier 1 Leverage of 5%, (3) Tier 1 Risk-Based Capital of 8%, and (4) Total Risk-Based Capital of 10%. In addition, a capital conservation buffer of 2.5% is applicable to all of the capital ratios except for the Tier 1 Leverage ratio. The capital conservation buffer is equal to the lowest value of the three applicable capital ratios less the regulatory minimum for each respective capital measurement. The Bank’s capital conservation buffer at June 30, 2024 was 5.52% compared to the regulatory buffer of 2.5%. Compliance with the capital conservation buffer is required in order to avoid limitations to certain capital distributions and is in addition to the minimum required capital requirements. As of June 30, 2024, the Bank was “well capitalized.”

In 2019, the Community Bank Leverage Ratio (CBLR) was approved by federal banking agencies as an optional capital measure available to Qualifying Community Banking Organizations (QCBO). If a bank qualifies as a QCBO and maintains a CBLR of 9% or greater, the bank would be considered “well-capitalized” for regulatory capital purposes and exempt from complying with the risk-based capital rule described above. The CBLR rule took effect January 1, 2020 and banks could opt-in through an election in the first quarter 2020 regulatory filing. The Bank met the criteria of a QCBO but did not opt-in to the CBLR.

The consolidated asset limit on small bank holding companies is $3.0 billion and a company with assets under that limit is not subject to the consolidated capital rules but may file reports that include capital amounts and ratios. The Corporation has elected to file those reports.


‎

23

The following table summarizes the regulatory capital requirements and results as of June 30, 2024 and December 31, 2023 for the Corporation and the Bank:

Regulatory Ratios

Adequately

Well

June 30,

December 31,

Capitalized

Capitalized

(Dollars in thousands)

2024

2023

Minimum

Minimum

Common Equity Tier 1 Risk-based Capital Ratio (1)

Franklin Financial Services Corporation

12.01%

11.82%

N/A

N/A

Farmers & Merchants Trust Company

12.27%

12.38%

4.50%

6.50%

Tier 1 Risk-based Capital Ratio (2)

Franklin Financial Services Corporation

12.01%

11.82%

N/A

N/A

Farmers & Merchants Trust Company

12.27%

12.38%

6.00%

8.00%

Total Risk-based Capital Ratio (3)

Franklin Financial Services Corporation

14.66%

14.45%

N/A

N/A

Farmers & Merchants Trust Company

13.52%

13.63%

8.00%

10.00%

Tier 1 Leverage Ratio (4)

Franklin Financial Services Corporation

8.38%

9.01%

N/A

N/A

Farmers & Merchants Trust Company

8.56%

9.44%

4.00%

5.00%

(1)Common equity Tier 1 capital / total risk-weighted assets

(2)Tier 1 capital / total risk-weighted assets

(3)Total risk-based capital / total risk-weighted assets

(4)Tier 1 capital / average quarterly assets

Note 15. Revenue Recognition

All of the Corporation’s revenue from contracts with customers within the scope of ASC 606 is recognized in non-interest income as presented in its consolidated statements of income. Revenue generating activities that fall within the scope of ASC 606 are described as follows:

Wealth Management Fees – these represent fees from wealth management (assets under management), fees from the management and settlement of estates and commissions from the sale of investment and insurance products. Asset management fees are generally assessed based on a tiered fee schedule, based on the value of assets under management, and are recognized monthly when the service obligation is completed. Fees for estate management services are based on the estimated fair value of the estate. These fees are generally recognized monthly over an 18-month period that Management has determined to represent the average time to fulfill the performance obligations of the contract. Management has the discretion to adjust this time period as needed based upon the nature and complexity of an individual estate. Commissions from the sale of investment and insurance products are recognized upon the completion of the transaction.

The following table presents Wealth Management Fees for the three and six months ended June 30, 2024 and 2023:

For the Three Months Ended

For the Six Months Ended

(Dollars in thousands)

June 30,

June 30,

Wealth Management Fees

2024

2023

2024

2023

Asset Management Fees

$

2,051

$

1,844

$

3,884

$

3,481

Estate Management Fees

128

61

215

152

Commissions

63

54

170

160

Total

$

2,242

$

1,959

$

4,269

$

3,793

24

Loan Service Charges – these represent fees on loans for services or charges that occur after the loan has been booked, for example, late payment fees. These also include fees for mortgages settled for third-party mortgage companies. All of these fees are transactional in nature and are recognized upon completion of the transaction which represents the performance obligation.

Deposit Service Charges and Fees – these represent fees from deposit customers for transaction based, account maintenance, and overdraft services. Transaction based fees include, but are not limited to, stop payment fees and overdraft fees. These fees are recognized at the time of the transaction when the performance obligation has been fulfilled. Account maintenance fees and account analysis fees are earned over the course of a month, representing the period of the performance obligation, and are recognized monthly.

Debit Card Income – this represents interchange fees from cardholder transactions conducted through the card payment network. Cardholders use the debit card to conduct point-of-sale transactions that produce interchange fees. The fees are transaction based and the fee is recognized with the processing of the transaction. These fees are reported net of cardholder rewards.

Other Service Charges and Fees – these are comprised primarily of merchant card fees, credit card fees, ATM surcharges and interchange fees and wire transfer fees. Merchant card fees represent fees the Bank earns from a third party for enrolling a customer in the processor’s program. Credit card fees represent a fee earned by the Bank for a successful referral to a card-issuing company. ATM surcharges and interchange fees are the result of Bank customers conducting ATM transactions that generate fee income and are processed through multiple card networks. All of these fees are transaction based and are recognized at the time of the transaction.

Gains/Losses on the Sale of Other Real Estate – these are recognized when control of the property transfers to the buyer.

Contract Balances

A contract asset balance occurs when an entity performs a service for a customer before the customer pays consideration (resulting in a contract receivable) or before payment is due (resulting in a contract asset). A contract liability balance is an entity’s obligation to transfer a service to a customer for which the entity has already received payment (or payment is due) from the customer. The Company’s noninterest revenue streams are largely based on transactional activity, or standard month-end revenue accruals such as asset management fees based on month-end market values. Consideration is often received immediately or shortly after the Company satisfies its performance obligation and revenue is recognized. The Company does not typically enter into longer-term revenue contracts with customers, and therefore, does not experience significant contract balances.

Contract Acquisition Costs

The Corporation expenses all contract acquisition costs as costs are incurred.

1Note 16. Commitments and Contingencies

In the normal course of business, the Bank is a party to financial instruments that are not reflected in the accompanying financial statements and are commonly referred to as off-balance-sheet instruments. These financial instruments are entered into primarily to meet the financing needs of the Bank’s customers and include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk not recognized in the consolidated balance sheet.

The Corporation’s exposure to credit loss in the event of nonperformance by other parties to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contract or notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as they do for on-balance-sheet instruments.


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25

The Bank had the following outstanding commitments for the periods presented:

June 30,

December 31,

(Dollars in thousands)

2024

2023

Financial instruments whose contract amounts represent credit risk

Commercial commitments to extend credit

$

320,735

$

325,982

Consumer commitments to extend credit (secured)

126,387

112,157

Consumer commitments to extend credit (unsecured)

6,366

5,964

$

453,488

$

444,103

Standby letters of credit

$

21,538

$

19,851

ACL - Unfunded Commitments (1)

$

1,970

$

2,022

(1) Reported in Other Liabilities on the Consolidated Balance Sheets

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses with the exception of home equity lines and personal lines of credit and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank, is based on Management’s credit evaluation of the counterparty. Collateral for most commercial commitments varies but may include accounts receivable, inventory, property, plant, and equipment, and income-producing commercial properties. Collateral for secured consumer commitments consists of liens on residential real estate.

Standby letters of credit are instruments issued by the Bank, which guarantee the beneficiary payment by the Bank in the event of default by the Bank’s customer in the nonperformance of an obligation or service. Most standby letters of credit are extended for one-year periods. Generally, the credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank holds collateral supporting those commitments for which collateral is deemed necessary primarily in the form of certificates of deposit and liens on real estate. Management believes that the proceeds obtained through a liquidation of such collateral would be sufficient to cover the maximum potential amount of future payments required under the corresponding guarantees.

Most of the Bank’s business activity is with customers located within its primary market and does not involve any significant concentrations of credit to any one entity or industry.

Legal Proceedings

The nature of the Corporation’s business generates a certain amount of litigation.

The Corporation establishes accruals for legal proceedings when information related to the loss contingencies represented by those matters indicates both that a loss is probable, and the amount of the loss can be reasonably estimated. When the Corporation is able to do so, it also determines estimates of possible losses, whether in excess of any accrued liability or where there is no accrued liability.

These assessments are based on the analysis of currently available information and are subject to significant judgment and a variety of assumptions and uncertainties. As new information is obtained, the Corporation may change its assessments and, as a result, take or adjust the amounts of its accruals and change its estimates of possible losses or ranges of possible losses. Due to the inherent subjectivity of the assessments and the unpredictability of outcomes of legal proceedings, any amounts that may be accrued or included in estimates of possible losses or ranges of possible losses may not represent the actual loss to the Corporation from any legal proceeding. Its exposure and ultimate losses may be higher, possibly significantly higher, than amounts it may accrue or amounts it may estimate.


‎

26

In management’s opinion, the Corporation does not anticipate, at the present time, that the ultimate aggregate liability, if any, arising out of all litigation to which the Corporation is a party at this time will have a material adverse effect on its financial position. The Corporation cannot now determine, however, whether or not any claim asserted against it will have a material adverse effect on its results of operations in any future reporting period, which will depend on, among other things, the amount of loss resulting from the claim and the amount of income otherwise reported for the reporting period. Thus, at June 30, 2024, the Corporation is unable to provide an evaluation of the likelihood of an unfavorable outcome or an estimate of the amount or range of potential loss with respect to such other matters and, accordingly, have not yet established any specific accrual for such other matters.

 

Note 17. Reclassification

Certain prior period amounts may have been reclassified to conform to the current year presentation. Such reclassifications did not affect prior year net income or shareholders’ equity.


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27

Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition

Management’s Discussion and Analysis of Results of Operations and Financial Condition

For the Three and Six Months Ended June 30, 2024 and 2023

Forward Looking Statements

Certain statements appearing herein which are not historical in nature are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements refer to a future period or periods, reflecting management’s current views as to likely future developments, and use words such as “may,” “will,” “expect,” “believe,” “estimate,” “anticipate,” or similar terms. Because forward-looking statements involve certain risks, uncertainties and other factors over which the Corporation has no direct control, actual results could differ materially from those contemplated in such statements. These factors include (but are not limited to) the following: general economic conditions, changes in the rates of inflation and the effects of inflation, changes in interest rates, ongoing disruption in the financial services industry caused by bank failures and uncertainties involving various banks, changes in the Corporation’s cost of funds, changes in government monetary policy, changes in government regulation and taxation of financial institutions, changes in technology, the intensification of competition within the Corporation’s market area, and other similar factors.

We caution readers not to place undue reliance on these forward-looking statements. They only reflect management’s analysis as of this date. The Corporation does not revise or update these forward-looking statements to reflect events or changed circumstances.

Critical Accounting Policies

Management has identified critical accounting policies for the Corporation. These policies are particularly sensitive, requiring significant judgements, estimates and assumptions to be made by Management.

There were no changes to the critical accounting policies disclosed in the 2023 Annual Report on Form 10-K in regards to application or related judgments and estimates used as of June 30, 2024. Please refer to Item 7 of the Corporation’s 2023 Annual Report on Form 10-K for a more detailed disclosure of the critical accounting policies.

Results of Operations

Summary

A summary of operating results for Franklin Financial Services Corporation for the three and six months ended June 30, 2024 are as follows:

Net income for the second quarter of 2024 was $3.0 million ($0.66 per diluted share) compared to $3.4 million ($0.77 per diluted share) for the first quarter of 2024 (a decrease of 9.8%) and $3.0 million ($0.68 per diluted share) for the second quarter of 2023.

Net income year-to-date for 2024 was $6.4 million ($1.43 per diluted share) compared to $6.3 million ($1.42 per diluted share) for the same period in 2023

For the second quarter of 2024, the provision for credit losses was $546 thousand compared to $452 thousand for the first quarter of 2024 and $532 thousand for the second quarter of 2023. Year-to-date provision expense was $998 thousand compared to $1.1 million for the same period in 2023.

Total assets were $2.039 billion as of June 30, 2024.

Total net loans increased $61.3 million (4.9%) to $1.301 billion at June 30, 2024 from $1.241 billion at December 31, 2023. 

Total deposits increased $48.5 million (3.2%) to $1.586 billion at June 30, 2024 from $1.538 billion at December 31, 2023.

At June 30, 2024, borrowings from the Federal Home Loan Bank of Pittsburgh (FHLB) were $240.0 million and $40.0 million from the Federal Reserve Bank. 

Shareholders’ equity increased by $4.7 million, year-to-date, to $136.8 million, and the book value of the Corporation’s common stock increased to $31.01 per share.


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28

For the year-to-date period, Return on Assets (ROA) was 0.63%, Return on Equity (ROE) was 9.71% and the Net Interest Margin (NIM) was 2.94%, compared to an ROA of 0.75%, ROE of 10.56% and NIM of 3.35% for the same period in 2023.

On July 11, 2024, the Board of Directors declared a $0.32 per share regular quarterly cash dividend for the third quarter of 2024 to be paid on August 28, 2024 to shareholders of record at the close of business on August 2, 2024. 


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29

Key performance ratios as of, or for the six months ended June 30, 2024 and 2023 and the year ended December 31, 2023 are listed below:

June 30,

June 30,

December 31,

(Dollars in thousands, except per share) (Unaudited)

2024

2023

2023

Balance Sheet Highlights

Total assets

$

2,039,126 

$

1,736,165 

$

1,836,039 

Debt securities available for sale

454,465 

439,851 

472,503 

Loans, net

1,301,302 

1,130,547 

1,240,933 

Deposits

1,586,458 

1,513,135 

1,537,978 

Other borrowings

280,000 

70,000 

280,000 

Shareholders' equity

136,809 

119,770 

132,136 

Summary of Operations

Interest income

$

48,541 

$

35,094 

$

76,762 

Interest expense

20,776 

9,062 

23,125 

Net interest income

27,765 

26,032 

53,637 

Provision for credit losses - loans

1,050 

991 

2,589 

(Reversal of) provision for credit losses - unfunded commitments

(52)

70 

135 

Total provision for credit losses

998 

1,061 

2,724 

Net interest income after provision for credit losses

26,767 

24,971 

50,913 

Noninterest income

8,538 

6,754 

14,851 

Noninterest expense

27,642 

24,667 

50,011 

Income before income taxes

7,663 

7,058 

15,753 

Federal income tax expense

1,269 

790 

2,155 

Net income

$

6,394 

$

6,268 

$

13,598 

Performance Measurements

Return on average assets*

0.63%

0.75%

0.78%

Return on average equity*

9.71%

10.56%

11.39%

Return on average tangible equity (1)*

10.40%

11.26%

12.32%

Efficiency ratio (1)

74.91%

71.48%

70.75%

Net interest margin*

2.94%

3.35%

3.31%

Shareholders' Value (per common share)

Diluted earnings per share

$

1.43

$

1.42

$

3.10

Basic earnings per share

1.43

1.43

3.11

Regular cash dividends declared

0.64

0.64

1.28

Book value

31.01

27.53

30.23

Tangible book value (1)

28.96

25.46

28.17

Market value

28.28

27.74

31.55

Market value/book value ratio

91.20%

100.76%

104.37%

Market value/tangible book value ratio

97.64%

108.95%

112.01%

Price/earnings multiple*

9.89

9.77

10.18

Current quarter dividend yield

4.53%

4.61%

4.06%

Dividend payout ratio year-to-date

43.88%

44.77%

41.15%

Safety and Soundness

Average equity/average assets

6.54%

7.10%

6.82%

Risk-based capital ratio (Total)

14.66%

16.84%

14.45%

Leverage ratio (Tier 1)

8.38%

9.39%

9.01%

Common equity ratio (Tier 1)

12.01%

13.88%

11.82%

Nonperforming loans / gross loans

0.07%

0.02%

0.01%

Nonperforming assets/total assets

0.04%

0.01%

0.01%

Allowance for credit losses as a % of loans

1.29%

1.28%

1.28%

Net loans (charged-off) recovered / average loans*

-0.01%

0.00%

-0.02%

Assets under Management

Trust assets under management (fair value)

$

1,128,087 

$

977,461 

$

1,094,747 

Held at third-party brokers (fair value)

143,736 

127,801 

135,423 

*Year-to-date annualized

(1)   See the section titled “GAAP versus Non-GAAP Presentation” that follows.

30

GAAP versus non-GAAP Presentations – The Corporation supplements its traditional GAAP measurements with certain non-GAAP measurements to evaluate its performance and to eliminate the effect of intangible assets.  By eliminating intangible assets (Goodwill), the Corporation believes it presents a measurement that is comparable to companies that have no intangible assets or to companies that have eliminated intangible assets in similar calculations. However, not all companies may use the same calculation method for each measurement. The non-GAAP measurements are not intended to be used as a substitute for the related GAAP measurements. Non-GAAP financial measures should be viewed in addition to, and not as an alternative for, our reported results prepared in accordance with GAAP. In the event of such a disclosure or release, the Securities and Exchange Commission’s Regulation G requires: (i) the presentation of the most directly comparable financial measure calculated and presented in accordance with GAAP and (ii) a reconciliation of the differences between the non-GAAP financial measure presented and the most directly comparable financial measure calculated and presented in accordance with GAAP. The following table shows the calculation of the non-GAAP measurements as of, or for the six months ended June 30, 2024 and 2023 and the year ended December 31, 2023.

(Dollars in thousands, except per share)

June 30, 2024

June 30, 2023

December 31, 2023

Return on Tangible Equity (non-GAAP)

Net income

$

6,394

$

6,268

$

13,598

Average shareholders' equity

132,017

120,374

119,408

Less average intangible assets

(9,016)

(9,016)

(9,016)

Average tangible equity (non-GAAP)

123,001

111,358

110,392

Return on average tangible equity (non-GAAP)*

10.40%

11.26%

12.32%

Tangible Book Value (per share) (non-GAAP)

Shareholders' equity

$

136,809

$

119,770

$

132,136

Less intangible assets

(9,016)

(9,016)

(9,016)

Tangible book value (non-GAAP)

127,793

110,754

123,120

Shares outstanding (in thousands)

4,412

4,350

4,371

Tangible book value per share (non-GAAP)

$

28.96

$

25.46

$

28.17

Efficiency Ratio

Noninterest expense

$

27,642

$

24,667

$

50,011

Net interest income

27,765

26,032

53,637

Plus tax equivalent adjustment to net interest income

522

573

1,094

Plus noninterest income, net of securities transactions

8,613

7,905

15,954

Total revenue

36,900

34,510

70,685

Efficiency ratio (Noninterest expense/total revenue)

74.91%

71.48%

70.75%

* Year-to-date annualized

Net Interest Income

The largest source of the Corporation’s earnings is net interest income, which is defined as the difference between income on interest-earning assets and the expense of interest-bearing liabilities supporting those assets. Principal categories of interest-earning assets are loans and securities, while deposits, short-term borrowings and long-term debt are the principal categories of interest-bearing liabilities. Demand deposits enhance net interest income because they are noninterest-bearing deposits. For the purpose of this discussion, balance sheet items refer to the average balance for the year and net interest income is adjusted to a fully taxable-equivalent basis. This tax-equivalent adjustment facilitates performance comparisons between taxable and tax-free assets by increasing the tax-free income by an amount equivalent to the Federal income taxes that would have been paid if this income were taxable at the Corporation’s 21% Federal statutory rate.

Comparison of the three months ended June 30, 2024 to the three months ended June 30, 2023:

Tax equivalent net interest income increased $1.0 million to $14.5 million in the second quarter of 2024 compared to $13.5 million for the same period in 2023. Tax-equivalent net interest income increased $433 thousand from balance sheet volume changes and $567 thousand from interest rate changes.

31

The following table presents average balances, tax-equivalent (T/E) interest income, and yields earned or rates paid on the assets or liabilities. Loans are classified by type of collateral and residential loans include commercial purpose loans and nonaccrual loans are included in the average loan balance used to calculate the yield. All nontaxable interest income has been adjusted to a tax-equivalent basis using a tax rate of 21%.

For the Three Months Ended June 30,

2024

2023

Average

Income or

Average

Average

Income or

Average

(Dollars in thousands)

balance

expense

yield/rate

balance

expense

yield/rate

Interest-earning assets:

Interest-earning deposits in other banks

$

169,186 

$

2,293 

5.44%

$

64,851 

$

791 

4.89%

Investment securities:

Taxable

416,355 

4,106 

3.96%

398,289 

3,338 

3.36%

Tax exempt

50,341 

339 

2.70%

56,136 

387 

2.77%

Investments

466,696 

4,445 

3.82%

454,425 

3,725 

3.29%

Loans:

Residential real estate 1-4 family:

First liens

214,883 

2,721 

5.08%

165,322 

1,809 

4.39%

Junior liens and lines of credit

74,087 

1,118 

6.05%

72,923 

1,006 

5.53%

Residential real estate - construction

28,236 

481 

6.83%

18,537 

285 

6.16%

Commercial real estate

734,571 

10,494 

5.73%

608,963 

7,962 

5.24%

Commercial

244,249 

3,287 

5.40%

244,333 

3,081 

5.06%

Consumer

6,857 

154 

9.01%

6,219 

129 

8.31%

Loans

1,302,883 

18,255 

5.62%

1,116,297 

14,272 

5.13%

Total interest-earning assets

1,938,765 

$

24,993 

5.17%

1,635,573 

$

18,788 

4.61%

Other assets

92,554 

95,670 

Total assets

$

2,031,319 

$

1,731,243 

Interest-bearing liabilities:

Deposits:

Interest-bearing checking

$

414,217 

$

602 

0.58%

$

446,491 

$

431 

0.39%

Money Management

604,989 

4,518 

3.00%

563,760 

3,316 

2.36%

Savings

102,800 

39 

0.15%

120,193 

45 

0.15%

Time

180,525 

1,859 

4.13%

84,093 

586 

2.80%

Total interest-bearing deposits

1,302,531 

7,018 

2.16%

1,214,537 

4,378 

1.45%

Subordinated notes

19,675 

261 

5.31%

19,638 

261 

5.31%

Federal Reserve Bank borrowings

40,000 

480 

4.81%

61,209 

677 

4.44%

FHLB advances

240,000 

2,762 

4.62%

—

—

-

Total interest-bearing liabilities

1,602,206 

10,521 

2.63%

1,295,384 

5,316 

1.65%

Noninterest-bearing deposits

281,267 

298,330 

Other liabilities

15,892 

14,595 

Shareholders' equity

131,954 

122,934 

Total liabilities and shareholders' equity

$

2,031,319 

$

1,731,243 

T/E net interest income/Net interest margin

14,472 

2.99%

13,472 

3.30%

Tax equivalent adjustment

(261)

(277)

Net interest income

$

14,211 

$

13,195 

Net Interest Spread

2.54%

2.96%

Cost of Funds

2.24%

1.34%

Cost of Deposits

1.78%

1.16%

Provision for Credit Losses

For the second quarter of 2024, the provision for credit losses on loans was $560 thousand and the provision for unfunded commitments was a reversal of $14 thousand, resulting in a total provision for credit loss expense of $546

32

thousand. The loan provision expense was due primarily to growth in the loan portfolio as the historical credit loss rate and the qualitative loss factor have not materially changed.

For the second quarter of 2023, the provision for credit losses on loans was $524 thousand and the provision for unfunded commitments was $8 thousand, resulting in a total provision for credit loss expense of $532 thousand.

The ACL ratio for loans was 1.29% at June 30, 2024 compared to 1.28% at December 31, 2023. The ACL for unfunded commitments was $2.0 million at June 30, 2024 and December 31, 2023. For more information refer to the Loan Quality and Allowance for Credit Losses discussion in the Financial Condition section.

Noninterest Income

For the second quarter of 2024, noninterest income increased $821 thousand from the same period in 2023. Wealth Management fees increased, primarily because of growth in assets under management. Loan service charges, gains on sale of loans, other service charges and debit card income increased but were partially offset by a decrease in deposit fees. The decrease in other income was due, in part, to a nonrecurring IRS refund payment to the bank in 2023. There were no debt securities sales in 2024 compared to a loss of $517 thousand from sales in 2023.

The following table presents a comparison of noninterest income for the three months ended June 30, 2024 and 2023:

For the Three Months Ended

June 30,

Change

(Dollars in thousands)

2024

2023

Amount

%

Noninterest Income

Wealth management fees

$

2,242

$

1,959

$

283

14.4

Loan service charges

181

120

61

50.8

Gain on sale of loans

116

45

71

157.8

Deposit service charges and fees

572

616

(44)

(7.1)

Other service charges and fees

523

430

93

21.6

Debit card income

571

547

24

4.4

Increase in cash surrender value of life insurance

112

111

1

0.9

Net losses on sales of debt securities

—

(517)

517

NA

Change in fair value of equity securities

(34)

(8)

(26)

325.0

Other

67

226

(159)

(70.4)

Total noninterest income

$

4,350

$

3,529

$

821

23.3

33

Noninterest Expense

Noninterest expense for the second quarter of 2024 increased $1.7 million compared to the same period in 2023. Salaries and benefits increased $1.1 million primarily in salaries due to a highly competitive labor market and wage increases, and an increase in health insurance costs. Data processing costs increased due to software expenses. FDIC insurance increased due to growth in the balance sheet. The increase in other expense is due, in part, to the amortization of solar tax credit investments and taxes paid to states other than Pennsylvania.

The following table presents a comparison of noninterest expense for the three months ended June 30, 2024 and 2023:

For the Three Months Ended

(Dollars in thousands)

June 30,

Change

Noninterest Expense

2024

2023

Amount

%

Salaries and benefits

$

8,405

$

7,283

$

1,122

15.4

Net occupancy

1,149

1,112

37

3.3

Marketing and advertising

617

550

67

12.2

Legal and professional

515

454

61

13.4

Data processing

1,459

1,118

341

30.5

Pennsylvania bank shares tax

119

174

(55)

(31.6)

FDIC insurance

408

198

210

106.1

ATM/debit card processing

339

307

32

10.4

Telecommunications

108

98

10

10.2

Nonservice pension

(7)

(29)

22

(75.9)

Lease termination

—

495

(495)

(100.0)

Other

1,224

888

336

37.8

Total noninterest expense

$

14,336

$

12,648

$

1,688

13.3

Provision for Income Taxes

For the second quarter of 2024, the Corporation recorded a Federal income tax expense of $646 thousand compared to $568 thousand for the same quarter in 2023. The effective tax rate for the second quarter of 2024 was 17.6% compared to 16.6% for the same period in 2023. The federal statutory tax rate is 21% for 2024 and 2023.

Comparison of the six months ended June 30, 2024 to the six months ended June 30, 2023:

Tax equivalent net interest income increased $1.7 million to $28.3 million in the first half of 2024 compared to $26.6 million for the same period in 2023. Tax-equivalent net interest income increased $801 thousand from balance sheet volume changes and $881 thousand from interest rate changes.


‎

34

For the Six Months Ended June 30,

2024

2023

Average

Income or

Average

Average

Income or

Average

(Dollars in thousands)

balance

expense

yield/rate

balance

expense

yield/rate

Interest-earning assets:

Interest-earning deposits in other banks

$

172,722 

$

4,647 

5.40%

$

54,326 

$

1,214 

4.50%

Investment securities:

Taxable

420,915 

8,064 

3.84%

402,784 

6,796 

3.40%

Tax exempt

50,869 

679 

2.67%

59,701 

843 

2.85%

Investments

471,784 

8,743 

3.72%

462,485 

7,639 

3.33%

Loans:

Residential real estate 1-4 family:

First liens

210,823 

5,249 

4.99%

157,841 

3,423 

4.37%

Junior liens and lines of credit

73,269 

2,184 

5.98%

72,926 

1,931 

5.34%

Residential real estate - construction

27,716 

956 

6.92%

21,456 

591 

5.56%

Commercial real estate

723,713 

20,510 

5.68%

586,218 

14,894 

5.12%

Commercial

242,388 

6,476 

5.36%

238,820 

5,723 

4.83%

Consumer

6,873 

298 

8.70%

6,165 

252 

8.23%

Loans

1,284,782 

35,673 

5.57%

1,083,426 

26,814 

4.99%

Total interest-earning assets

1,929,288 

$

49,063 

5.10%

1,600,237 

$

35,667 

4.49%

Other assets

90,762 

96,154 

Total assets

$

2,020,050 

$

1,696,391 

Interest-bearing liabilities:

Deposits:

Interest-bearing checking

$

417,760 

$

1,199 

0.58%

$

458,211 

$

841 

0.37%

Money Management

594,511 

8,729 

2.94%

560,672 

6,054 

2.18%

Savings

103,569 

79 

0.15%

123,527 

94 

0.15%

Time

169,508 

3,515 

4.16%

73,213 

819 

2.26%

Total interest-bearing deposits

1,285,348 

13,522 

2.11%

1,215,623 

7,808 

1.30%

Subordinated notes

19,670 

525 

5.34%

19,632 

526 

5.36%

Overnight borrowings

1,083 

31 

5.74%

—

—

-

Federal Reserve Bank borrowings

62,253 

1,440 

4.64%

33,094 

728 

4.44%

FHLB advances

227,912 

5,258 

4.63%

—

—

-

Total interest-bearing liabilities

1,596,266 

20,776 

2.61%

1,268,349 

9,062 

1.44%

Noninterest-bearing deposits

275,287 

293,196 

Other liabilities

16,480 

14,472 

Shareholders' equity

132,017 

120,374 

Total liabilities and shareholders' equity

$

2,020,050 

$

1,696,391 

T/E net interest income/Net interest margin

28,287 

2.94%

26,605 

3.35%

Tax equivalent adjustment

(522)

(573)

Net interest income

$

27,765 

$

26,032 

Net Interest Spread

2.49%

3.05%

Cost of Funds

2.23%

1.17%

Cost of Deposits

1.74%

1.04%


‎

35

Provision for Credit Losses

For the first half of 2024, the provision for credit losses on loans was $1.1 million and the provision for unfunded commitments was a reversal of $52 thousand, resulting in a total provision for credit loss expense of $998 thousand. The loan provision expense was due primarily to growth in the loan portfolio as the historical credit loss rate and the qualitative loss factor have not materially changed.

For the first half of 2023, the provision for credit losses on loans was $991 thousand and the provision for unfunded commitments was $70 thousand, resulting in a total provision for credit loss expense of $1.1 million.

The ACL ratio for loans was 1.29% at June 30, 2024 compared to 1.28% at December 31, 2023. The ACL for unfunded commitments was $2.0 million at June 30, 2024 and December 31, 2023. For more information refer to the Loan Quality and Allowance for Credit Losses discussion in the Financial Condition section.

Noninterest Income

For the first half of 2024, noninterest income increased $1.8 million from the same period in 2023. Wealth Management fees increased, primarily due to growth in assets under management. Gains on sales of loans, other service charges (increases in ATM fees) and debit card income increased but were partially offset by a decrease in loan fees from commercial service charges. There were no debt securities sales in 2024 compared to a loss of $1.1 million from sales in 2023.

The following table presents a comparison of noninterest expense for the six months ended June 30, 2024 and 2023:

For the Six Months Ended

June 30,

Change

(Dollars in thousands)

2024

2023

Amount

%

Noninterest Income

Wealth management fees

$

4,269

$

3,793

$

476

12.5

Loan service charges

387

422

(35)

(8.3)

Gain on sale of loans

174

118

56

47.5

Deposit service charges and fees

1,185

1,199

(14)

(1.2)

Other service charges and fees

1,010

862

148

17.2

Debit card income

1,106

1,050

56

5.3

Increase in cash surrender value of life insurance

224

220

4

1.8

Net losses on sales of debt securities

—

(1,119)

1,119

(100.0)

Change in fair value of equity securities

(75)

(32)

(43)

134.4

Other

258

241

17

7.1

Total noninterest income

$

8,538

$

6,754

$

1,784

26.4

Noninterest Expense

Noninterest expense for the first half of 2024 increased $3.0 million compared to the same period in 2023. Salaries and benefits increased $1.9 million primarily in salaries due to a highly competitive labor market and health insurance costs. Data processing costs increased due to software expenses. FDIC insurance increased due to growth in the balance sheet. Other expenses increased partially from the amortization of investments in solar tax credits and entertainment tax credits, partially offset with a decrease in Pennsylvania bank shares tax expense.


‎

36

The following table presents a comparison of noninterest expense for the six months ended June 30, 2024 and 2023:

For the Six Months Ended

(Dollars in thousands)

June 30,

Change

Noninterest Expense

2024

2023

Amount

%

Salaries and employee benefits

$

16,132

$

14,220

$

1,912

13.4

Net occupancy

2,331

2,222

109

4.9

Marketing and advertising

1,137

1,069

68

6.4

Legal and professional

1,030

1,005

25

2.5

Data processing

2,882

2,178

704

32.3

Pennsylvania bank shares tax

244

397

(153)

(38.5)

FDIC insurance

730

380

350

92.1

ATM/debit card processing

662

601

61

10.1

Telecommunications

220

197

23

11.7

Nonservice pension

(36)

(59)

23

(39.0)

Lease termination

—

495

(495)

(100.0)

Other

2,310

1,962

348

17.7

Total noninterest expense

$

27,642

$

24,667

$

2,975

12.1

Provision for Income Taxes

For the first half of 2024, the Corporation recorded a Federal income tax expense of $1.3 million compared to $790 thousand for the same quarter in 2023. The effective tax rate for the first half of 2024 was 16.6% compared to 11.2% for the same period in 2023. The 2023 rate reflects the benefit of $280 thousand in tax credits recorded in the first quarter of 2023. Without the tax credits, the 2023 rate would have been 15.2%. The federal statutory tax rate is 21% for 2024 and 2023.

Financial Condition

Cash and Cash Equivalents:

Cash and cash equivalents totaled $179.7 million at June 30, 2024, an increase of $156.6 million from the prior year-end balance of $23.1 million, as a result of the $200.0 million FHLB advance that has not yet been fully invested. Short-term interest-earning deposits are held primarily at the Federal Reserve ($158.7 million).

Investment Securities:

AFS Securities: At June 30, 2024, the AFS securities portfolio had an amortized cost of $503.8 million, a decrease of $18.1 million from the prior year-end, and had a fair value of $454.5 million, a decrease of $18.0 million from the prior year-end. During the first half of 2024, the portfolio returned $24.5 million of principal while $8.0 million was reinvested into the portfolio. The Bank did not sell any of its holdings during 2024. The AFS portfolio had a net unrealized loss of $49.3 million at June 30, 2024 compared to a net unrealized loss of $49.4 million at the prior year-end. The AFS portfolio averaged $466.7 million with a tax-equivalized yield of 3.82% for the three months ended June 30, 2024. This compares to an average of $454.4 million and a tax-equivalized yield of 3.29% for the same period in 2023.

The AFS portfolio holdings are classified by type of security issuer. U.S. Treasury and Agency mortgage & asset-backed securities are direct obligations of the U.S. Treasury or are issued by a U.S. Government Agency or a government sponsored entity and securitized by pools of residential mortgages and other loan assets. Municipal securities are issued by state and local government entities and consist of taxable and tax-exempt securities. Many municipal securities have credit enhancements in the form of private bond insurance or other credit support. Corporate securities are mostly subordinated notes issued by community banks with the remainder consisting of five trust preferred securities. Non-Agency mortgage & asset-backed securities are issued by private entities and securitized by residential and commercial mortgages as well as other loan assets. Many of these securities benefit from credit enhancements in the form of subordinated tranches and overcollateralization.

At December 31, 2023, the Bank held four Build America Bonds within the municipal portfolio with an amortized cost of $4.6 million.  These bonds were purchased at a premium and included a call provision under an extraordinary redemption clause.  This call provision was exercised on two bonds during the first half of 2024 resulting in accelerated amortization of $261 thousand.  The Bank expects the remaining bonds to be called under this extraordinary redemption clause and if this occurs the remaining premium to amortize as of June 30, 2024 is $319 thousand.

37

Restricted Stock at Cost: The Bank held $10.4 million of restricted stock at June 30, 2024. Except for $30 thousand, this investment represents stock in FHLB Pittsburgh. The Bank is required to hold this stock to be a member of FHLB and it is carried at cost of $100 per share. The level of FHLB stock held is determined by FHLB and is comprised of a minimum membership amount plus a variable activity amount. FHLB stock is evaluated for impairment primarily based on an assessment of the ultimate recoverability of its cost. As a government sponsored entity, FHLB has the ability to raise funding through the U.S. Treasury that can be used to support its operations. There is not a public market for FHLB stock and the benefits of FHLB membership (e.g., liquidity and low-cost funding) add value to the stock beyond purely financial measures. Management intends to remain a member of the FHLB and believes that it will be able to fully recover the cost basis of this investment.

See Note 4 of the accompanying financial statements for additional information on Investment Securities.

Loans:

Residential real estate: This category is comprised of consumer purpose loans secured by residential real estate and to a lesser extent, commercial purpose loans secured by residential real estate. The consumer purpose category represents traditional residential mortgage loans and home equity products (primarily junior liens and lines of credit). Commercial purpose loans in this category represent loans made for various business needs but are secured with residential real estate. In addition to the real estate collateral, it is possible that additional security is provided by personal guarantees or UCC filings. These loans are underwritten as commercial loans and are not originated to be sold.

Total residential real estate loans increased by $18.5 million over year-end 2023, primarily in consumer first lien loans. For the first six months of 2024, the Bank originated $51.6 million in mortgages compared to $35.0 million for the same period in 2023, including $13.3 million for sale through the secondary market. The Bank does not originate or hold any loans that would be considered sub-prime or Alt-A and does not generally originate mortgages outside of its primary market area.

Residential real estate construction: This category contains loans for the vertical construction of 1-4 family residential properties. The largest component of this category represents loans to residential real estate developers ($15.8 million), while loans for individuals to construct personal residences totaled $11.5 million at June 30, 2024. The Bank’s exposure to residential construction loans is concentrated primarily in south central Pennsylvania. Real estate construction loans, including residential real estate and land development loans, occasionally provide an interest reserve in order to assist the developer during the development stage when minimal cash flow is generated. All real estate construction loans are underwritten in the same manner, regardless of the use of an interest reserve.

Commercial real estate (CRE): This category includes commercial, industrial, farm and agricultural loans and land development loans, where real estate serves as the primary collateral for the loans. Total commercial real estate loans increased to $743.6 million from $703.8 million at the end of 2023. Included in commercial real estate are approximately $563 million of nonowner occupied loans located primarily in the Bank’s market area of south-central Pennsylvania.

The following table presents the largest sectors by collateral in the commercial real estate category:

(Dollars in thousands)

Commercial Real Estate (CRE) Sectors

June 30, 2024

% of CRE

Apartment buildings

$

134,840

18%

Hotels & motels

92,219

12%

Office buildings

90,341

12%

Shopping centers

76,832

10%

Development land

65,508

9%

Also included in CRE are real estate construction loans totaling $154.7 million. At June 30, 2024, the Bank had $55.3 million in real estate construction loans funded with an interest reserve and capitalized $1.4 million of interest in the first six months of 2024 from these reserves on active projects for commercial construction. Real estate construction loans are monitored on a regular basis by either an independent third-party inspector or the assigned loan officer depending on loan amount or complexity of the project. This monitoring process includes at a minimum, the submission of invoices and American Institute of Architects (AIA) documents (depending on the complexity of the project) detailing costs incurred by the borrower, on-site inspections, and a signature by the assigned loan officer for disbursement of funds.

Commercial: This category includes commercial, industrial, farm, agricultural, and municipal loans. Commercial loans increased $974 thousand to $243.6 million at June 30, 2024, compared to $242.7 million at the end of 2023. At June 30, 2024, the Bank had approximately $111.3 million in tax-free loans.

38

The following table presents the largest sectors by industry in the commercial category:

(Dollars in thousands)

Commercial

June 30, 2024

% of Commercial

Public administration

$

45,518

19%

Utilities

41,156

17%

Real estate, rental & leasing

24,592

10%

Retail trade

19,452

8%

Manufacturing

17,209

7%

Participations: The Bank may supplement its own commercial loan production by purchasing loan participations. These participations are primarily located in south-central Pennsylvania. At June 30, 2024, the outstanding commercial participations were $104.7 million, or 9.8%, of commercial purpose loans and 7.9% of total gross loans compared to $97.8 million at December 31, 2023, or 9.5%, of commercial purpose loans and 7.8% of total gross loans. The Bank’s total exposure (including outstanding balances and unfunded commitments) to purchased participations is $133.9 million, compared to $135.4 million at December 31, 2023. The commercial loan participations are comprised of $30.2 million of Commercial loans and $74.5 million of CRE loans, reported in the respective loan class.

Consumer loans: This category had a balance of $7.4 million at June 30, 2024, compared to $6.8 million at prior year-end and is comprised primarily of installment loans and personal lines of credit.

The following table presents a summary of loans outstanding, by class as of:

June 30,

December 31,

Change

(Dollars in thousands)

2024

2023

Amount

%

Residential Real Estate 1-4 Family

Consumer first liens

$

159,806

$

142,017

$

17,789

12.5

Commercial first lien

61,032

63,271

(2,239)

(3.5)

Total first liens

220,838

205,288

15,550

7.6

Consumer junior liens and lines of credit

70,256

68,752

1,504

2.2

Commercial junior liens and lines of credit

5,296

3,809

1,487

39.0

Total junior liens and lines of credit

75,552

72,561

2,991

4.1

Total residential real estate 1-4 family

296,390

277,849

18,541

6.7

Residential real estate - construction

Consumer

15,804

13,837

1,967

14.2

Commercial

11,466

12,063

(597)

(4.9)

Total residential real estate construction

27,270

25,900

1,370

5.3

Commercial real estate

743,642

703,767

39,875

5.7

Commercial

243,628

242,654

974

0.4

Total commercial

987,270

946,421

40,849

4.3

Consumer

7,390

6,815

575

8.4

1,318,320

1,256,985

61,335

4.9

Less: Allowance for credit losses

(17,018)

(16,052)

(966)

6.0

Net Loans

$

1,301,302

$

1,240,933

$

60,369

4.9

Loan Quality:

Management monitors loan performance on a monthly basis and performs a quarterly evaluation of the adequacy of the Allowance for Credit Loss for loans (ACL). The Bank begins enhanced monitoring of all loans rated 6–OAEM or worse and obtains a new appraisal or asset valuation for any loans placed on nonaccrual and rated 7 - Substandard or worse. Management, at its discretion, may determine that additional adjustments to the appraisal or valuation are required. Valuation adjustments will be made as necessary based on factors, including, but not limited to: the economy, deferred maintenance, industry, type of property/equipment, age of the appraisal, etc. and the knowledge Management has about a particular situation. In addition, the cost to sell or liquidate the collateral is also estimated and deducted from the valuation

39

in order to determine the net realizable value to the Bank. When determining the ACL, certain factors involved in the evaluation are inherently subjective and require material estimates that may be susceptible to significant change, including the amounts and timing of future cash flows. Management monitors the adequacy of the ACL on an ongoing basis and reports its adequacy quarterly to the Board Enterprise Risk Management Committee of the Board of Directors. Management believes the ACL at June 30, 2024 is adequate.

Watch list loans exhibit financial weaknesses that increase the potential risk of default or loss to the Bank. However, inclusion on the watch list, does not by itself, mean a loss is certain. The watch list totaled $27.9 million at June 30, 2024 compared to $17.2 million at December 31, 2023. The watch list includes both performing and nonperforming loans. Included in the watchlist total are $723 thousand of nonaccrual loans as of June 30, 2024 and $147 thousand as of December 31, 2023. The credit composition of the watch list (loans rated 6, 7, or 8), by primary collateral is shown in Note 6 of the accompanying financial statements.

Delinquent loans are a result of borrowers’ cash flow and/or alternative sources of cash being insufficient to repay loans. The Bank’s likelihood of collateral liquidation to repay the loans becomes more probable the further behind a borrower falls, particularly when loans reach 90 days or more past due. Management monitors the performance status of loans by the use of an aging report. The aging report can provide an early indicator of loans that may become severely delinquent and possibly result in a loss to the Bank. See Note 6 in the accompanying financial statements for a table that presents the aging of payments in the loan portfolio.

Nonaccruing loans generally represent Management’s determination that the borrower will be unable to repay the loan in accordance with its contractual terms and that collateral liquidation may or may not fully repay both interest and principal. It is the Bank’s policy to evaluate the probable collectability of principal and interest due under terms of loan contracts for all loans 90-days or more past due, nonaccrual loans, or individually evaluated loans. Further, it is the Bank’s policy to discontinue accruing interest on loans that are not adequately secured and in the process of collection. Upon determination of nonaccrual status, the Bank subtracts any current year accrued and unpaid interest from its income, and any prior year accrued and unpaid interest from the allowance for credit losses. Management continually monitors the status of nonperforming loans, the value of any collateral and potential of risk of loss. Nonaccrual loans are rated no better than 7-Substandard.

The Bank’s Loan Management Committee reviews these loans and risk ratings on a quarterly basis in order to proactively identify and manage problem loans. In addition, a committee meets monthly to discuss possible workout strategies for all credits rated 7-Substandard or worse. Management also tracks other commercial loan risk measurements including high loan to value loans, concentrations, participations and policy exceptions and reports these to the Board Enterprise Risk Management Committee of the Board of Directors. The Bank also uses an external loan review consultant to assist with internal loan review with a goal of reviewing up to 80% of commercial loans each year. The FDIC defines certain supervisory loan-to-value lending limits. The Bank’s internal loan–to-value limits are all equal to or have a lower loan-to-value limit than the supervisory limits. However, in certain instances, the Bank may make a loan that exceeds the supervisory loan-to-value limit. At June 30, 2024, the Bank had loans of $9.3 million (0.7% of gross loans) that exceeded the supervisory limit, compared to 1.1% at year-end 2023.

Loan quality, as measured by nonaccrual loans, totaled $723 thousand at June 30, 2024 compared to $147 thousand at December 31, 2023 and the nonperforming loan to gross loans ratio was 0.04% at June 30, 2024 compared to 0.01% at December 31, 2023. Loans past due 90-days or more, but still accruing, totaled $165 thousand at June 30, 2024.

In addition to monitoring nonaccrual loans, the Bank also closely monitors loans to borrowers experiencing financial difficulty when, based on current information and events, it is probable that the Bank will be unable to collect all interest and principal payments due according to the originally contracted terms of the loan agreement.

Modifications to borrowers experiencing financial difficulty may include interest rate reductions, principal or interest forgiveness, forbearances, term extensions, and other actions intended to minimize economic loss and to avoid foreclosure or repossession of collateral.

As of June 30, 2024 and December 31, 2023 there were no modifications made to borrowers experiencing financial difficulty.


‎

40

Allowance for Credit Losses:

Allowance for Credit Losses – Loans

The ACL for loans is established through provisions for credit losses charged against income. Loans deemed to be uncollectible are charged against the ACL, and subsequent recoveries, if any, are credited to the ACL.

The ACL for loans is an estimate of the losses expected to be realized over the life of the loan portfolio. The ACL is determined for two distinct categories of loans: 1) loans evaluated individually for expected credit losses (specific reserve), and 2) loans evaluated collectively for expected credit losses (pooled reserve). Management’s periodic evaluation of the adequacy of the ACL for loans is based on the Bank’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic forecasts and conditions, diversification of the loan portfolio, delinquency statistics, results of internal loan reviews, borrowers’ actual or perceived financial and managerial strengths, and other relevant factors. This evaluation is inherently subjective, as it requires material assumptions and estimates that may be susceptible to significant change, including the amounts and timing of future cash flows expected to be received on loans evaluated individually.

Loans evaluated individually for credit losses are primarily commercial purpose loans that do not share similar characteristics with those loans evaluated in the pool. These loans may exhibit performance characteristics where it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. All commercial purpose loans greater than $250 thousand and rated Substandard (7), Doubtful (8) or on nonaccrual status may be considered for individual evaluation. Impairment is measured on a loan-by-loan basis by one of the following methods: the fair value of the collateral if the loan is collateral dependent, the present value of expected future cash flows discounted at the loan’s effective interest rate or the loan’s obtainable market price. Commercial purpose loans with a balance less than $250 thousand, and consumer purpose loans are not evaluated individually for a specific reserve but are included in the pooled reserve calculation. Loans that are evaluated for a specific reserve, but not needing a specific reserve are not included in the pooled reserve calculation.

The Corporation has elected to exclude accrued interest receivable from the measurement of the ACL. When a loan is placed on nonaccrual status, any outstanding current accrued interest is reversed against income and prior year accrued interest is deducted from the ACL.

The pooled reserve represents the ACL for pools of homogenous loans, not evaluated individually. The pooled reserve is calculated using a quantitative and qualitative component for the loan pools.

The following inputs are used to calculate the quantitative component for the loan pool:

Segregating loans into homogeneous pools by the FRB Call Code which is primarily a collateral-based and secondarily a purpose-based segmentation.

The average remaining life of each pool is calculated using the weighted average remaining maturity method (WARM). The WARM method produces an estimated remaining balance by pool, by year, until maturity.

A historical credit loss rate is calculated for each pool, using the average historical loss, by FRB Call Code, for a peer group of Pennsylvania community banks over the last eight quarters. The loss rate is calculated over a historical period the Bank believes best represents a period that will be the most similar and relevant to the next four quarters.

The historical credit loss rate is applied to each WARM bucket through the next four quarter period.

At the end of the four quarter period, the credit loss rate applied to each WARM bucket reverts to the peer group historical loss rate for the respective pool.

Collectively these estimated losses represent the quantitative component of the pooled reserve.

The qualitative component for the pool utilizes a risk matrix comprised of eight risk factors and assigns a risk level to each factor. The risk factors give consideration to changes in: lending policy, procedures and practice; economic conditions; nature and volume of loans; experience of lending team; volume of past due loans; quality of the loan review system; concentrations of credit; and other external factors. The risk factors are weighted to reflect Management’s estimate of how the factor affects potential losses. The risk levels within each factor are measured in basis points and range from minimal risk to very high risk and are determined independently for commercial loans, residential mortgage loans and consumer loans.

The ACL for pooled loans is the sum of the quantitative and qualitative loss estimates. At June 30, 2024, approximately 68% of the ACL for Loans was from the qualitative component, unchanged from year-end 2023.


‎

41

Allowance for Credit Losses – Unfunded Commitments

The ACL for unfunded commitments is recorded in other liabilities on the consolidated balance sheet. The ACL represents management’s estimate of expected losses from unfunded commitments and is determined by estimating future usage of the commitments, based on historical usage. The estimated loss is calculated in a manner similar to that used for the ACL for loans, previously described. The ACL is increased or decreased through the provision for credit losses.

The following table shows the allocation of the allowance for credit losses and other loan performance ratios, by class, as of June 30, 2024 and December 31, 2023:

(Dollars in thousands)

Residential Real Estate 1-4 Family

Junior Liens &

Commercial

First Liens

Lines of Credit

Construction

Real Estate

Commercial

Consumer

Total

2024

Loans at June 30, 2024

$

220,838 

$

75,552 

$

27,270 

$

743,642 

$

243,628 

$

7,390 

$

1,318,320 

Average Loans through June 30, 2024

210,823 

73,269 

27,716 

723,713 

242,388 

6,873 

1,284,782 

Nonaccrual Loans at June 30, 2024

—

—

—

407 

316 

—

723 

Allowance for Credit Loss at June 30, 2024

1,384 

429 

318 

11,423 

3,364 

100 

17,018 

YTD Net (Charge-offs)/Recoveries at June 30, 2024

—

—

7 

(2)

(69)

(20)

(84)

Loans/Total Gross Loans at June 30, 2024

17%

6%

2%

56%

18%

1%

100%

Nonaccrual Loans/Total Gross Loans at June 30, 2024

0.00%

0.00%

0.00%

0.05%

0.13%

0.00%

0.05%

Allowance for Credit Loss/Gross Loans at June 30, 2024

0.63%

0.57%

1.17%

1.54%

1.38%

1.35%

1.29%

Net (Charge-offs) Recoveries/Average Loans at June 30, 2024*

0.00%

0.00%

0.03%

0.00%

-0.03%

-0.29%

-0.01%

Allowance for Credit Loss/Nonaccrual Loans at June 30, 2024

2353.80%

2023

Loans at December 31, 2023

$

205,288 

$

72,561 

$

25,900 

$

703,767 

$

242,654 

$

6,815 

$

1,256,985 

Average Loans for 2023

173,986 

72,623 

21,124 

626,817 

243,045 

6,285 

1,143,880 

Nonaccrual Loans at December 31, 2023

—

—

—

—

147 

—

147 

Allowance for Credit Losses at December 31, 2023

1,296 

419 

296 

10,657 

3,290 

94 

16,052 

Net Recoveries/(Charge-offs) for 2023

2 

—

49 

1 

(193)

(35)

(176)

Loans/Total Gross Loans at December 31, 2023

16%

6%

2%

56%

19%

1%

100%

Nonaccrual Loans/Total Gross Loans at December 31, 2023

0.00%

0.00%

0.00%

0.00%

0.06%

0.00%

0.01%

Allowance for Credit Loss/Gross Loans at December 31, 2023

0.63%

0.58%

1.14%

1.51%

1.36%

1.38%

1.28%

Net Recoveries(Charge-offs)/Average Loans for 2023

0.00%

0.00%

0.23%

0.00%

-0.08%

-0.56%

-0.02%

Allowance for Credit Loss/Nonaccrual Loans at December 31, 2023

10919.73%

*Annualized

Deposits:

Total deposits increased $48.5 million during the first half of 2024 to $1.586 billion. Interest-bearing checking decreased by $53.3 million primarily in municipal deposits and savings decreased by $4.2 million, while the Bank’s Money Management increased $44.9 million. Time deposits increased $51.2 million as customers shifted to higher rate products. The Bank has $22.0 million of brokered CDs at June 30, 2024.

As of June 30, 2024, the Bank had deposits of $222.8 million placed in the IntraFi Network deposit program ($101.1 million in interest-bearing checking and $129.6 million in money management) and $19.4 million in reciprocal time deposits in the CDARS program included in time deposits. These programs allow the Bank to offer full FDIC coverage to large depositors, but with the convenience to the customer of only having to deal with one bank. The Bank solicits these deposits from within its market and it believes they present no greater risk than any other local deposit. Only reciprocal deposits that exceed 20% of liabilities are considered brokered deposits. At June 30, 2024, the Bank’s reciprocal deposits were 13.3% of total liabilities compared to 14.3% at year-end 2023.

The Bank estimates that approximately 90% of its deposits are FDIC insured or collateralized as of June 30, 2024.


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42

The following table presents a summary of deposits for the periods ended:

June 30,

December 31,

Change

(Dollars in thousands)

2024

2023

Amount

%

Noninterest-bearing checking

$

282,964

$

273,050

$

9,914

3.6

Interest-bearing checking

401,174

454,517

(53,343)

(11.7)

Money management

616,928

572,058

44,870

7.8

Savings

101,712

105,907

(4,195)

(4.0)

Total interest-bearing checking and savings

1,119,814

1,132,482

(12,668)

(1.1)

Time deposits

183,680

132,446

51,234

38.7

Total deposits

$

1,586,458

$

1,537,978

$

48,480

3.2

Overdrawn deposit accounts reclassified as loans

$

660

$

160

Borrowings:

At June 30, 2024, the Bank had $40.0 million borrowed from the Federal Reserve’s Bank Term Funding Program (BTFP) with a rate of 4.81% due January 10, 2025. At June 30, 2024, the fair value of debt securities pledged for the BTFP was $44.1 million.

At June 30, 2024, the Bank had $240.0 million in total borrowings from the Federal Home Loan Bank of Pittsburgh (FHLB). The borrowings are comprised of $40.0 million in short-term borrowings with a blended rate of 5.80%, due during the third quarter of 2024, and $200.0 million in long-term borrowings with a rate of 4.32%, due January 12, 2027.

On August 4, 2020, the Corporation completed the sale of a subordinated debt note offering. The Corporation sold $15.0 million of subordinated debt notes with a maturity date of September 1, 2030. These notes are noncallable for 5 years and carry a fixed interest rate of 5.00% per year for 5 years and then convert to floating rate of SOFR plus 4.93% per year for the remainder of the term. The notes can be redeemed at par beginning 5 years prior to maturity. The Corporation also sold $5.0 million of subordinated debt notes with a maturity date of September 1, 2035. These notes are noncallable for 10 years and carry a fixed interest rate of 5.25% per year for 10 years and then convert to floating rate of SOFR plus 4.92% per year for the remainder of the term. The notes can be redeemed at par beginning 5 years prior to maturity. The notes are structured to qualify as Tier 2 capital for the Corporation and any funds it invests in the Bank qualify as Tier 1 capital at the Bank. The Corporation paid an issuance fee of 2% of the total issue that will be amortized to maturity date of each issue on a pro-rata basis. The proceeds are intended to be used for general corporate purposes.

Shareholders’ Equity:

Total shareholders’ equity increased $4.7 million to $136.8 million as of June 30, 2024 from December 31, 2023. Retained earnings increased $3.6 million in 2024 and accumulated other comprehensive income/(loss) (AOCI) remained essentially unchanged since year-end 2023. The increase in retained earnings was from net income of $6.4 million partially offset by cash dividends of $2.8 million. The Corporation’s Dividend Reinvestment Plan (DRIP) added $644 thousand in new capital from optional cash contributions and $511 thousand from the reinvestment of quarterly dividends. The Corporation’s dividend payout ratio was 43.88% for the first half of 2024 compared to 44.77% for the same period in 2023.

As part of its quarterly dividend decision, the Corporation considers, among other factors, current and future income projections, dividend yield, payout ratio, current and future capital ratios, reserves and allocations. For the second quarter of 2024, the Corporation paid a $0.32 per share dividend, compared to $0.32 paid in the second quarter of 2023. On July 11, 2024, the Board of Directors declared a $0.32 per share regular quarterly dividend for the third quarter of 2024, which will be paid on August 28, 2024.

In December 2023, the Board of Directors authorized a repurchase plan for the repurchase of up to 150,000 shares of the Corporation’s $1.00 par value common stock at market prices in open market or privately negotiated transactions over a one-year period. During the first six months of 2024, the Corporation repurchased 14,684 shares for $440 thousand.


‎

43

Capital adequacy for the Bank is currently defined by regulatory agencies through the use of several minimum required ratios. The capital ratios to be considered “well capitalized” are: (1) Common Equity Tier 1 (CET1) of 6.5%, (2) Tier 1 Leverage of 5%, (3) Tier 1 Risk-Based Capital of 8%, and (4) Total Risk-Based Capital of 10%. In addition, a capital conservation buffer of 2.5% is applicable to all of the capital ratios except for the Tier 1 Leverage ratio. The capital conservation buffer is equal to the lowest value of the three applicable capital ratios less the regulatory minimum for each respective capital measurement. The Bank’s capital conservation buffer at June 30, 2024 was 5.52% compared to the regulatory buffer of 2.5%. Compliance with the capital conservation buffer is required in order to avoid limitations to certain capital distributions and is in addition to the minimum required capital requirements. As of June 30, 2024, the Bank was “well capitalized.”

In 2019, the Community Bank Leverage Ratio (CBLR) was approved by federal banking agencies as an optional capital measure available to Qualifying Community Banking Organizations (QCBO). If a bank qualifies as a QCBO and maintains a CBLR of 9% or greater, the bank would be considered “well-capitalized” for regulatory capital purposes and exempt from complying with the risk-based capital rule described above. The CBLR rule took effect January 1, 2020 and banks could opt-in through an election in the first quarter 2020 regulatory filing. The Bank met the criteria of a QCBO but did not opt-in to the CBLR.

The consolidated asset limit on small bank holding companies is $3.0 billion and a company with assets under that limit is not subject to the consolidated capital rules but may file reports that include capital amounts and ratios. The Corporation has elected to file those reports.

The following table summarizes the regulatory capital requirements and results as of June 30, 2024 and December 31, 2023 for the Corporation and the Bank:

Regulatory Ratios

Adequately

Well

June 30,

December 31,

Capitalized

Capitalized

(Dollars in thousands)

2024

2023

Minimum

Minimum

Common Equity Tier 1 Risk-based Capital Ratio (1)

Franklin Financial Services Corporation

12.01%

11.82%

N/A

N/A

Farmers & Merchants Trust Company

12.27%

12.38%

4.50%

6.50%

Tier 1 Risk-based Capital Ratio (2)

Franklin Financial Services Corporation

12.01%

11.82%

N/A

N/A

Farmers & Merchants Trust Company

12.27%

12.38%

6.00%

8.00%

Total Risk-based Capital Ratio (3)

Franklin Financial Services Corporation

14.66%

14.45%

N/A

N/A

Farmers & Merchants Trust Company

13.52%

13.63%

8.00%

10.00%

Tier 1 Leverage Ratio (4)

Franklin Financial Services Corporation

8.38%

9.01%

N/A

N/A

Farmers & Merchants Trust Company

8.56%

9.44%

4.00%

5.00%

(1)Common equity Tier 1 capital / total risk-weighted assets

(2)Tier 1 capital / total risk-weighted assets

(3)Total risk-based capital / total risk-weighted assets

(4)Tier 1 capital / average quarterly assets


‎

44

Economy

The Corporation’s primary market area includes Franklin, Fulton, Cumberland, Huntingdon, and Dauphin County, PA, and Washington County, MD. This area is diverse in demographic and economic composition. County populations range from a low of approximately 15,000 in Fulton County to over 280,000 in Dauphin County. The market area has a diverse economic base and local industries include warehousing, truck and rail shipping centers, light and heavy manufacturers, health care, higher education institutions, farming and agriculture, and a varied service sector. The market area provides easy access to the major metropolitan markets on the east coast via trucking and rail transportation. Because of this, warehousing and distribution companies continue to find the area attractive. The local economy is not overly dependent on any one industry or business and Management believes that the Bank’s primary market area continues to be well suited for growth.

Impact of Inflation

The impact of inflation upon financial institutions such as the Corporation differs from its effect upon other commercial enterprises. Unlike many companies, the assets and liabilities of the Corporation are financial in nature. As such, interest rates and changes in interest rates may have a more significant effect on the Corporation’s financial results than on other types of industries. Because of this, the Corporation watches the actions of the Federal Reserve Open Market Committee (FOMC) as it makes decisions about interest rate changes and how such changes affect market rates and the Corporation. Although inflation (and inflation expectations) may affect the interest rate environment, it is not possible to measure with any precision the effect of inflation on the Corporation.

Liquidity

The Corporation must meet the financial needs of the customers that it serves, while providing a satisfactory return on the shareholders’ investment. In order to accomplish this, the Corporation must maintain sufficient liquidity in order to respond quickly to the changing level of funds required for both loan and deposit activity. The goal of liquidity management is to meet the ongoing cash flow requirements of depositors who want to withdraw funds and of borrowers who request loan disbursements. The Bank regularly reviews its liquidity position by measuring its projected net cash flows (in and out) at a 30 and 90-day interval. The Bank stresses the measurements by assuming a level of deposit out-flows that have not historically been realized. In addition to this forecast, other funding sources are reviewed as a method to provide emergency funding if necessary. The objective of this measurement is to identify the amount of cash that could be raised quickly without the need to liquidate assets. The Bank also stresses its liquidity position utilizing different longer-term scenarios. The varying degrees of stress create pressure on deposit flows in its local market, reduce access to wholesale funding and limit access of funds available through brokered deposit channels. In addition to stressing cash flow, specific liquidity risk indicators are monitored to help identify risk areas. This analysis helps identify and quantify the potential cash surplus/deficit over a variety of time horizons to ensure the Bank has adequate funding resources. Assumptions used for liquidity stress testing are subjective. Should an evolving liquidity situation or business cycle present new data, potential assumption changes will be considered. The Bank believes it can meet all anticipated liquidity demands.

Historically, the Corporation has satisfied its liquidity needs from earnings, repayment of loans and amortizing investment securities, maturing investment securities, loan sales, deposit growth and its ability to access existing lines of credit. All investment securities are classified as available for sale; therefore, marketable securities that are unencumbered ($168.0 million fair value) are an additional source of readily available liquidity, either by selling the security or, more preferably, to provide collateral for additional borrowing. The Bank also has access to other wholesale funding via the brokered CD market.

The FHLB system has always been a major funding source for the Bank. There are no current indicators that lead the Bank to believe the FHLB would discontinue its lending function or restrict the Bank’s ability to borrow. If either of these events would occur, it would have a negative effect on the Bank, and it is unlikely that the Bank could replace the level of FHLB funding in a short time. The Bank has established credit at the Federal Reserve Discount Window and at correspondent banks.

45

The following table shows the Bank’s available liquidity at June 30, 2024.

(Dollars in thousands)

Liquidity Source

Capacity

Outstanding

Available

Federal Home Loan Bank

$

538,487

$

240,000

$

298,487

Federal Reserve Bank Discount Window

54,048

—

54,048

Correspondent Banks

76,000

—

76,000

Total

$

668,535

$

240,000

$

428,535

Off Balance Sheet Commitments

The Corporation’s financial statements do not reflect various commitments that are made in the normal course of business, which may involve some liquidity risk. These commitments consist mainly of unfunded loans and letters of credit made under the same standards as on-balance sheet instruments. Because these instruments have fixed maturity dates, and because many of them will expire without being drawn upon, they do not generally present any significant liquidity risk to the Corporation.

June 30,

December 31,

(Dollars in thousands)

2024

2023

Financial instruments whose contract amounts represent credit risk

Commercial commitments to extend credit

$

320,735

$

325,982

Consumer commitments to extend credit (secured)

126,387

112,157

Consumer commitments to extend credit (unsecured)

6,366

5,964

$

453,488

$

444,103

Standby letters of credit

$

21,538

$

19,851

ACL - Unfunded Commitments (1)

$

1,970

$

2,022

(1) Reported in Other Liabilities on the Consolidated Balance Sheet

The Corporation has entered into various contractual obligations to make future payments. These obligations include time deposits, long-term debt, operating leases, deferred compensation and pension payments. These amounts have not changed materially, except as reported, from those reported in the Corporation’s 2023 Annual Report on Form 10-K.

Management believes that any amounts actually drawn upon can be funded in the normal course of operations. The Corporation has no investment in or financial relationship with any unconsolidated entities that are reasonably likely to have a material effect on liquidity.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

There were no material changes in the Corporation’s exposure to market risk during the six months ended June 30, 2024. For more information on market risk refer to the Corporation’s 2023 Annual Report on Form 10-K.

Item 4. Controls and Procedures

Evaluation of Controls and Procedures

The Corporation carried out an evaluation, under the supervision and with the participation of the Corporation’s management, including the Corporation’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures, as defined in Exchange Act Rules 13a-15(e) and 15d-15(e). Based upon the evaluation, the Corporation’s Chief Executive Officer and Chief Financial Officer concluded that as of June 30, 2024, the Corporation’s disclosure controls and procedures are effective. Disclosure controls and procedures are controls and procedures that are designed to ensure that information required to be disclosed in the Corporation’s reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. There were no changes in the Corporation’s internal control over financial reporting during the quarterly period ended June 30, 2024, that have materially affected, or are reasonably likely to materially affect, the internal control over financial reporting.

46

The management of the Corporation is responsible for establishing and maintaining adequate internal control over financial reporting. The Corporation’s internal control system is designed 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.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.


‎

47

Part II – OTHER INFORMATION

Item 1. Legal Proceedings

The nature of the Corporation’s business generates a certain amount of litigation in the ordinary course of business.

In management’s opinion, there are no other legal proceedings pending to which the Corporation is a party or to which its property is subject which, if determined adversely to the Corporation, would be material to the Corporation’s financial condition or results of operations. No material proceedings are pending or are known to be threatened or contemplated against us by any governmental authorities.

Item 1A. Risk Factors

There were no material changes in the Corporation’s risk factors during the three and six months ended June 30, 2024. For more information, refer to the Corporation’s 2023 Annual Report on Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

In December 2023, the Board of Directors approved an open market repurchase plan to repurchase 150,000 shares of the Corporation’s $1.00 par value common stock at market prices in open market or privately negotiated transactions over a one-year period.

Period

Number of Shares Purchased as Part of Publicly Announced Program

Weighted Average Price Paid per Share

Dollar Amount of Shares Purchased as Part of Publicly Announced Program

Maximum Number of Shares Yet To Be Purchased Under Program

April 2024

—

$

—

$

—

150,000

May 2024

2,555

$

26.55

67,843

147,445

June 2024

12,129

$

27.41

332,486

135,316

14,684

$

400,329

Item 3. Defaults Upon Senior Securities

None

Item 4. Mine Safety Disclosures

Not Applicable

Item 5. Other Information

None of our directors or executive officers adopted or terminated a Rule 10b5-1 trading arrangement or adopted or terminated a non-Rule 10b5-1 trading arrangement (as defined in Item 408(c) of Regulation S-K) during the quarter ended June 30, 2024.


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48

Item 6.   Exhibits

Exhibits

3.1

Amended and Restated Articles of Incorporation of the Corporation (Filed as Exhibit 3.1 to Quarterly Report on Form 10-Q for the quarter ended June 30, 2020 and incorporated herein by reference).

3.2

Bylaws of the Corporation. (Filed on Form 8-K, as Exhibit 99 with the commission on September 2, 2022 and incorporated herein by reference).

31.1

Rule 13a – 14(a)/15d-14(a) Certifications – Principal Executive Officer

31.2

Rule 13a – 14(a)/15d-14(a) Certifications – Principal Financial Officer

32.1

Section 1350 Certifications – Principal Executive Officer

32.2

Section 1350 Certifications – Principal Financial Officer

101

Interactive Data File (XBRL)

104

Cover Page Interactive Data File (the cover page XBRL tags are imbedded in the XBRL document)

FRANKLIN FINANCIAL SERVICES CORPORATION

and SUBSIDIARIES

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.

Franklin Financial Services Corporation

August 9, 2024

/s/ Timothy G. Henry

Timothy G. Henry

Chief Executive Officer and President

(Principal Executive Officer)

August 9, 2024

/s/ Mark R. Hollar

Mark R. Hollar

Treasurer and Chief Financial Officer

(Principal Financial and Accounting Officer)

49

50