Nature of Business and Its Significant Accounting Policies

Financial Statement Presentation:

The unaudited interim consolidated financial statements do not include all information and notes necessary for a complete presentation of financial position, results of operations, changes in stockholder's equity, and cash flows in conformity with U.S. GAAP. In the opinion of management, the unaudited interim consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the consolidated financial position at September 30, 2023 and December 31, 2022, the results of its operations for three and nine months and its cash flows for the nine months ended September 30, 2023 and 2022 in conformity with U.S. GAAP.

Operating results for the three and nine months ended September 30, 2023 are not necessarily indicative of the results that may be expected for the year ending December 31, 2023, or for any other period.

Adoption of New Accounting Standard in 2023

Adoption of New Accounting Standard in 2023:

Effective January 1, 2023, the Company adopted Accounting Standards Update (“ASU”) 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” (“ASU 2016-13”), which replaced the prior incurred loss methodology with an expected loss methodology that is referred to as the current expected credit loss (“CECL” or the “CECL Standard”). The measurement of expected credit losses under the CECL Standard is applicable to financial assets measured at amortized cost, including portfolio loans and investment securities classified as held to maturity (“HTM”). It also applies to off-balance-sheet credit exposures including loan commitments, standby letters of credit, financial guarantees and other similar instruments. In addition, the CECL Standard changes the accounting for investment securities classified as available for sale ("AFS"), including a requirement that estimated credit losses on AFS investment securities be presented as an allowance rather than as a direct write-down of the carrying balance of investment securities which the Company does not currently intend to sell or does not believe, based on current conditions, that it is likely that the Company will be required to sell.

The Company adopted the CECL Standard using the modified retrospective method for all financial assets measured at amortized cost and off-balance sheet credit exposures. Upon adoption, we recognized an after-tax cumulative effect reduction to retained earnings totaling $1.4 million, as detailed in the table below. As discussed further below, purchased credit deteriorated assets (“PCD”) were measured on a prospective basis in accordance with the CECL Standard and all purchased credit impaired (“PCI”) loans as of December 31, 2022 were considered PCD loans upon adoption. Results for reporting periods beginning after January 1, 2023 are presented under the CECL Standard while prior period amounts continue to be reported in accordance with previously applicable accounting guidance. The adoption of the CECL Standard resulted in the following adjustments to our financial statements as of January 1, 2023:



Dollars in thousands			Change in Consolidated Balance Sheet		Tax Effect		Change to Retained Earnings from Adoption of ASU 2016-13

Allowance for credit losses ("ACL") - loans		$	1,330	$	310	$	1,020
Adjustment related to purchased credit-deteriorated loans	(1)		9		-		9
Total ACL - loans			1,339		310		1,029
Adjustment to PCD Loans			(9)		-		(9)
ACL - unfunded credit commitments			512		120		392
Total impact of CECL adoption		$	1,842	$	430	$	1,412

(1) Represents a gross-up of the balance sheet related to PCD loans resulting from the adoption of ASU 2016-13 on January 1, 2023.

Loans designated as PCI and accounted for under Accounting Standards Codification (“ASC”) 310-30 were designated as PCD loans. In accordance with the CECL Standard, the Company did not reassess whether PCI loans met the criteria of PCD loans as of the date of adoption and determined all PCI loans were PCD loans. The Company recorded an increase to the balance of PCD loans and an increase to the allowance for credit losses for loans of $9 thousand, which

represented the expected credit losses for PCD loans. The remaining non-credit discount (based on the adjusted amortized cost basis) will be accreted into interest income at the effective interest rate as of January 1, 2023 over the remaining estimated life of the loans.

On January 1, 2023, the Company adopted ASU 2022-02, “Financial Instruments-Credit Losses (Topic 326), Troubled Debt Restructurings and Vintage Disclosures” (“ASU 2022-02”). ASU 2022-02 addresses areas identified by the Financial Accounting Standards Board (“FASB”) as part of its post-implementation review of the credit losses standard (ASU 2016-13) that introduced the CECL Standard. The amendments eliminate the accounting guidance for troubled debt restructurings (“TDRs”) by creditors that have adopted the CECL Standard and enhance the disclosure requirements for certain loan refinancings and restructurings by creditors when a borrower is experiencing financial difficulty. In addition, the amendments require that the Company disclose current-period gross write-offs for financing receivables and net investment in leases by year of origination in the vintage disclosures. The Company adopted the standard prospectively and it did not have a material impact on the consolidated financial statements.

In December 2018, the Board of Governors of the Federal Reserve System (the “Federal Reserve”), the Federal Deposit Insurance Corporation (“FDIC”) and the Office of Comptroller of the Currency (“OCC”) approved a final rule to address changes to credit loss accounting under U.S. GAAP, including banking organizations’ adoption of the CECL Standard. The final rule provides banking organizations the option to phase-in, over a three-year period, the day-one adverse effects on regulatory capital that may result from the adoption of the new accounting standard. The Company has elected to phase-in the impact of the adoption of this standard on the Company’s regulatory capital over the three-year transition period. See Note 9 – Regulatory Capital Requirements for further information.

Restricted Stock, Equity Securities and Other Investments

Restricted Stock, Equity Securities and Other Investments:

Federal Reserve Bank (“FRB”) stock, at cost, Federal Home Loan Bank (“FHLB”) stock, at cost, Atlantic Central Bankers Bank (“ACBB”) stock, at cost, and Community Bankers Bank (“CBB”) stock, at cost, are equity interests in the FRB, FHLB, ACBB, and CBB, respectively. These securities do not have a readily determinable fair value for purposes

of ASC 321 “Investments-Equity Securities” (“ASC 321”) because their ownership is restricted and they lack an active market. As there is no readily determinable fair value for these securities, they are carried at cost less any impairment.

Equity securities with readily determinable fair values are carried at fair value, with changes in fair value reported in net income. Any equity securities without readily determinable fair values are carried at cost, minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for identical or similar investments. The entirety of any impairment on equity securities is recognized in earnings. Equity securities are included in “Other investments” on the Consolidated Balance Sheets.

Other investments include an equity ownership of Solomon Hess SBA Loan Fund LLC, for which the value is adjusted for its pro rata share of assets in the fund. Other investments also include equity securities the Company holds with Community Capital Management in their Community Reinvestment Act (“CRA”) Qualified Investment Fund.

Loans and the Allowance for Credit Losses

Loans and the Allowance for Credit Losses:

Loans are generally carried at the amount of unpaid principal, adjusted for deferred loan fees and costs, which are amortized over the term of the loan using the effective interest rate method. Interest on loans is accrued based on the principal amounts outstanding. It is the Company’s policy to discontinue the accrual of interest when a borrower is determined to be experiencing financial difficulty or when principal or interest on the loan is delinquent for ninety days or more. When a loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed against current period interest income. Cash collections on loans classified as nonaccrual are applied as reductions of the loan principal balance and no interest income is recognized on those loans until the principal balance has been collected. As a general rule, a nonaccrual loan may be restored to accrual status when (1) none of its principal and interest is due and unpaid, and the Company expects repayment of the remaining contractual principal and interest, or (2) when it otherwise becomes well secured and in the process of collection.

The allowance for credit losses is maintained at a level believed to be adequate by management to absorb expected losses inherent in the loan portfolio and is based on the size and current risk characteristics of the loan portfolio, the concentration of credits within each segment, the effects of any changes in lending policies, procedures, including underwriting standards and collections, charge-off and recovery practices, the effects of changes in the experience, depth and ability of management, the quality of the Company’s loan review system and the degree of oversight by the Company’s Board of Directors, an assessment of individually evaluated loans and actual loss experience, the value of the underlying collateral, the condition of various market segments, both locally and nationally, and current reasonable and supportable forecasts of economic events in specific industries and geographical areas, including unemployment levels, and other pertinent factors, including regulatory guidance and general economic conditions, along with external factors such as competition and the legal environment. The Company’s allowance for credit losses incorporates forward-looking information and applies a reversion methodology beyond the reasonable and supportable forecast period of twelve months. After the forecast period, the Company’s model immediately reverts back to the historical loss rate adjusted for the quantitative factors described above for the remaining contractual life of the financial assets. Determination of the allowance for credit losses is inherently subjective, as it requires significant estimates, which may be susceptible to significant change. Loan losses are charged off against the allowance for credit losses, while recoveries of amounts previously charged off are credited to the allowance for credit losses. A provision for credit losses is charged to operations based on management's periodic evaluation of the factors previously mentioned, as well as other pertinent factors. Evaluations are conducted at least quarterly and more often if deemed necessary. Expected credit losses are estimated over the contractual term of the loans, and are adjusted for expected prepayments.

The Company’s allowance for credit losses measures the expected lifetime loss using pooled assumptions and loan level details for loans that share common risk characteristics and evaluates an individual reserve in instances where the loans do not share the same risk characteristics.

Loans that share common risk characteristics are considered collectively assessed. Loss estimates within the collectively assessed population are based on a combination of pooled assumptions and loan-level characteristics. Quantitative loss estimation models have been developed based largely on internal and peer historical data at the loan and portfolio levels and the economic conditions during the same time period.

Expected losses for the Company’s collectively assessed loan segments are estimated using the average charge-off method, which calculates an estimate of losses based upon historical experience and is applied prospectively across the life of each loan. This method calculates future cash flows at the individual loan level based upon loan characteristics. Life calculations for each loan grouping incorporates future cash flows at the loan level, in addition to prepayment assumptions.

Loans that do not share risk characteristics are evaluated on an individual basis. The individual reserve component relates to loans that have shown substantial credit deterioration as measured by risk rating and/or delinquency status. In addition, the Company has elected the practical expedient that would include loans for individual assessment consideration if the repayment of the loan is expected substantially through the operation or sale of collateral because the borrower is experiencing financial difficulty. Where the source of repayment is the sale of collateral, the specific reserve is based on the fair value of the underlying collateral, less selling costs, compared to the amortized cost basis of the loan. If the specific reserve is based on the operation of the collateral, the reserve is calculated based on the fair value of the collateral calculated as the present value of expected cash flows from the operation of the collateral, compared to the amortized cost basis. If the Company determines that the value of a collateral dependent loan is less than the recorded investment in the loan, the Company charges off the deficiency if it is determined that such amount is deemed uncollectible.

The Company obtains appraisals from a pre-approved list of independent, third party appraisers located in the market in which the collateral is located. At a minimum, it is ascertained that the appraiser is currently licensed in the state in which the property is located, experienced in the appraisal of properties similar to the property being appraised, has knowledge of current real estate market conditions and financing trends, and is reputable. Independent appraisals or valuations are obtained on all individually assessed loans, and these appraisals or valuations are updated every twelve months. External valuation sources are the primary source to value collateral dependent loans; however, the Company may also utilize values obtained through other valuation sources. These alternative sources of value are used only if deemed to be more representative of value based on updated information regarding collateral resolution. The specific reserve on loans individually assessed is updated, reviewed, and approved on a quarterly basis at or near the end of each reporting period.

The Company performs regular credit reviews of the loan portfolio to review the credit quality and adherence to its underwriting standards. Upon origination, each commercial loan is assigned a risk rating, with loans closer to one having less risk. This risk rating scale is the Company’s primary credit quality indicator.

Loan Charge-off Policies

Loans are generally fully or partially charged down to the fair value of securing collateral when:

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management deems the asset to be uncollectible;

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repayment is deemed to be made beyond the reasonable time frames;

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the asset has been classified as a loss by internal or external review; or

●

the borrower has filed bankruptcy and the loss becomes evident owing to a lack of assets.

Acquired Loans

Loans acquired in connection with acquisitions are recorded at their acquisition date fair value with no carryover of related allowance for credit losses. Acquired loans are classified into two categories: (1) PCD loans, which are purchased financial instruments with more than insignificant credit deterioration, and (2) loans with insignificant credit deterioration (“non-PCD”). PCD loans are defined as a loan or group of loans that have experienced more than insignificant credit deterioration since origination. Non-PCD loans will have an allowance for credit losses established on the acquisition date, which is recognized in the current period provision for credit losses. For PCD loans, an allowance for credit losses is recognized on day 1 by adding it to the fair value of the loan, which is the “Day 1 amortized cost basis”. There is no provision for credit losses recognized on PCD loans because the initial allowance for credit losses is established by grossing-up the amortized cost of the PCD loan. Determining the fair value of the acquired loans involves estimating the principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest. Management considers a number of factors in evaluating the acquisition date fair value including the remaining life of the acquired loans, delinquency status, estimated prepayments, payment options and other loan features, internal risk grade, estimated value of the underlying collateral and interest rate environment.

PCD loans are accounted for in accordance with ASC 326-20, Financial Instruments- Credit Losses- Measured at Amortized Cost (“ASC 326-20”), if, at acquisition, the loan or pool of loans has experienced more than insignificant credit deterioration since origination. At acquisition, the Company considers several factors as indicators that an acquired loan or pool of loans has experienced more than insignificant credit deterioration. These factors include loans 30 days or more past due, loans with an internal risk grade of below average or lower, loans classified as nonaccrual by the acquired institution, and the materiality of the credit.

Under ASC 326-20, a group of loans with similar risk characteristics can be assessed to determine if the pool of loans is PCD. However, if a loan does not have similar risk characteristics as any other acquired loan, the loan is individually assessed to determine if it is PCD. In addition, the initial allowance for credit losses related to acquired loans can be estimated for a pool of loans if the loans have similar risk characteristics. Even if the loans were individually assessed to determine if they were PCD, they can be grouped together in the initial allowance for credit losses calculation if they share similar risk characteristics. If a PCD loan has an unfunded commitment at acquisition, the initial allowance for credit losses calculation reflects only the expected credit losses associated with the funded portion of the PCD loan. Expected credit losses associated with the unfunded commitment are included in the initial measurement of the commitment. For PCD loans, the non-credit discount or premium is allocated to individual loans as determined by the difference between the loan’s amortized cost basis and the unpaid principal balance. The non-credit premium or discount is recognized into interest income on a level yield basis over the remaining expected life of the loan. For non-PCD loans, the interest and credit discount or premium is allocated to individual loans as determined by the difference between the loan’s amortized cost basis and the unpaid principal balance. The premium or discount is recognized into interest income on a level yield basis over the remaining expected life of the loan.

TDRs prior to the Adoption of ASU 2022-02

Prior to the adoption of ASU 2022-02, a loan was accounted for and reported as a TDR when, for economic or legal reasons, the Company granted a concession to a borrower experiencing financial difficulty that it would not otherwise consider. Management would work with borrowers identified as being in financial difficulty to modify to more affordable terms before their loan would reach nonaccrual status. These modified terms may have included rate reductions, principal forgiveness, payment forbearance and other actions intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. A restructuring that resulted in only an insignificant delay in payment was not considered a concession. A delay may have been considered insignificant if the payments subject to the delay were insignificant relative to the unpaid principal or collateral value and the contractual amount due, or the delay in timing of the restructured payment period was insignificant relative to the frequency of the payments, the loan’s original contractual maturity or original expected duration.

TDRs were designated as impaired loans because interest and principal payments would not be received in accordance with the original contract terms. TDRs that were performing and on accrual status as of the date of the modification remained on accrual status. TDRs that were nonperforming as of the date of modification generally remained

as nonaccrual until the prospect of future payments in accordance with the modified loan agreement was reasonably assured, generally demonstrated when the borrower maintained compliance with the restructured terms for a predetermined period, normally at least six months. TDRs that had temporary below-market concessions remained designated as a TDR and impaired regardless of the accrual or performance status until the loan was paid off. However, if the TDR was modified in a subsequent restructure with market terms and the borrower was not currently experiencing financial difficulty, then the loan was no longer designated as a TDR. See “Adoption of New Accounting Standards in 2023” as discussed previously for further discussion related to accounting for modifications of loans to borrowers experiencing financial difficulty subsequent to the adoption of ASU 2022-02 as of January 1, 2023.

Other Real Estate Owned ("OREO")

Other Real Estate Owned (“OREO”):

OREO comprises properties acquired in partial or total satisfaction of problem loans. The properties are recorded at the lower of cost or fair value, net of estimated selling costs, at the date acquired creating a new cost basis. Losses arising at the time of acquisition of such properties are charged against the allowance for credit losses. Subsequent write-downs that may be required, and expenses of operation and gains and losses realized from the sale of OREO are included in “Noninterest expense” on the Company’s Consolidated Statements of Income. At September 30, 2023 and December 31, 2022, there were no properties included in OREO.

Goodwill

Goodwill:

The Company’s goodwill was recognized in connection with the acquisitions of Partners and Liberty. The Company reviews the carrying value of goodwill at least annually during the fourth quarter or more frequently if certain impairment indicators exist. In testing goodwill for impairment, the Company may first consider qualitative factors to determine whether the existence of events or circumstances lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events and circumstances, we conclude that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then no further testing is required and the goodwill of the reporting unit is not impaired. If the Company elects to bypass the qualitative assessment or if management concludes that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then the fair value of the reporting unit is compared with its carrying amount to determine whether an impairment exists. No impairment adjustment of goodwill was required for the nine months ended September 30, 2023 or 2022 or for the year ended December 31, 2022 based on management’s assessment.

Earnings Per Share

Earnings Per Share:

Basic earnings per common share are determined by dividing net income by the weighted average number of shares outstanding for each period, giving retroactive effect to stock splits and dividends. Weighted average common shares outstanding were 17,985,577 and 17,985,371 for the three and nine months ended September 30, 2023, respectively. Calculations of diluted earnings per common share include the average dilutive common stock equivalents outstanding during the period, unless they are anti-dilutive. Dilutive common equivalent shares consist of stock options calculated using the treasury stock method and restricted stock awards. See Note 8 – Earnings Per Share for further information.