PARTNERS BANCORP - Quarter Report: 2022 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the quarterly period ended September 30, 2022
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: 001-39285

Partners Bancorp

(Exact name of registrant as specified in its charter)

Maryland	52-1559535
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
2245 Northwood Drive, Salisbury, Maryland	21801
(Address of principal executive offices)	(Zip Code)

410-548-1100

(Registrant’s telephone number, including area code)

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


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.01 per share	PTRS	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 ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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 ☒		Smaller reporting company ☒	Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

As of November 10, 2022 there were 17,961,699 shares of the registrant’s Common Stock, par value $0.01 per share, outstanding.

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TABLE OF CONTENTS

PART I

FINANCIAL INFORMATION



		Page
Item 1. Financial Statements
Consolidated Balance Sheets (Unaudited)		3

Consolidated Statements of Income (Loss) (Unaudited)		4

Consolidated Statements of Comprehensive Income (Unaudited)		5

Consolidated Statements of Stockholders' Equity (Unaudited)		6

Consolidated Statements of Cash Flows (Unaudited)		7

Notes to Consolidated Financial Statements (Unaudited)		8

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations		48

Item 3. Quantitative and Qualitative Disclosures About Market Risk		83

Item 4. Controls and Procedures		83

PART II OTHER INFORMATION


Item 1. Legal Proceedings		83

Item 1A. Risk Factors		83

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		84

Item 3. Defaults Upon Senior Securities		84

Item 4. Mine Safety Disclosures		84

Item 5. Other Information		84

EXHIBIT INDEX		85

SIGNATURES		86

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PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

PARTNERS BANCORP

CONSOLIDATED BALANCE SHEETS


	September 30,		December 31,
	2022		2021
(Dollars in thousands, except per share amounts)	(Unaudited)		*
ASSETS
Cash and due from banks	$	12,784	$	12,887
Interest bearing deposits in other financial institutions		210,935		297,902
Federal funds sold		24,573		28,040
Cash and cash equivalents		248,292		338,829
Securities available for sale, at fair value		131,465		122,021
Loans held for sale		201		4,064
Loans, less allowance for credit losses of $13,818 at September 30, 2022 and $14,656 at December 31, 2021		1,190,142		1,102,539
Accrued interest receivable		4,035		4,313
Premises and equipment, less accumulated depreciation		15,258		16,175
Restricted stock		4,889		4,869
Operating lease right-of-use assets		5,290		6,009
Financing lease right-of-use assets		1,584		1,687
Other investments		4,864		5,065
Bank owned life insurance		18,592		18,254
Other real estate owned, net		—		837
Core deposit intangible, net		1,666		2,060
Goodwill		9,582		9,582
Other assets		14,850		8,675
Total assets	$	1,650,710	$	1,644,979
LIABILITIES
Deposits:
Non-interest bearing demand	$	568,113	$	493,913
Interest bearing demand		143,564		159,421
Savings and money market		441,230		410,286
Time		303,037		379,256
		1,455,944		1,442,876
Accrued interest payable on deposits		189		280
Long-term borrowings with the Federal Home Loan Bank		25,819		26,313
Subordinated notes payable, net		22,203		22,168
Other borrowings		811		755
Operating lease liabilities		5,688		6,372
Financing lease liabilities		2,036		2,125
Other liabilities		4,261		2,722
Total liabilities		1,516,951		1,503,611
COMMITMENTS, CONTINGENCIES & SUBSEQUENT EVENT
STOCKHOLDERS' EQUITY
Common stock, par value $0.01, authorized 40,000,000 shares, issued and outstanding 17,961,699 as of September 30, 2022 and 17,941,604 as of December 31, 2021, including 18,669 nonvested shares as of September 30, 2022 and 28,000 nonvested shares as of December 31, 2021	$	179	$	179
Surplus		88,576		88,390
Retained earnings		59,356		51,305
Noncontrolling interest in consolidated subsidiaries		727		1,179
Accumulated other comprehensive (loss) income, net of tax		(15,079)		315
Total stockholders' equity		133,759		141,368
Total liabilities and stockholders' equity	$	1,650,710	$	1,644,979

* Derived from audited consolidated financial statements.

The Notes to the Unaudited Consolidated Financial Statements are an integral part of these consolidated financial statements.

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PARTNERS BANCORP

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)


	Three Months Ended September 30,				Nine Months Ended September 30,
(Dollars in thousands, except per share data)	2022		2021		2022		2021
INTEREST INCOME ON:
Loans, including fees	$	14,119	$	13,381	$	40,222	$	39,619
Investment securities:
Taxable		607		310		1,519		757
Tax-exempt		180		216		545		661
Federal funds sold		353		25		433		44
Other interest income		1,198		149		1,914		404
		16,457		14,081		44,633		41,485
INTEREST EXPENSE ON:
Deposits		1,071		1,639		3,440		5,234
Borrowings		511		538		1,524		1,723
		1,582		2,177		4,964		6,957
NET INTEREST INCOME		14,875		11,904		39,669		34,528
Provision for (recovery of) credit losses		419		(30)		803		2,568
NET INTEREST INCOME AFTER PROVISION FOR (RECOVERY OF) CREDIT LOSSES		14,456		11,934		38,866		31,960
OTHER INCOME:
Service charges on deposit accounts		255		225		727		575
(Losses) gains on sales and calls of investment securities		(5)		3		(5)		22
Mortgage banking income, net		231		957		949		3,065
Gains on disposal of other assets, net		—		—		—		1
Impairment (loss) on restricted stock		—		—		(1)		—
Other income		760		891		2,316		2,880
		1,241		2,076		3,986		6,543
OTHER EXPENSES:
Salaries and employee benefits		5,688		5,837		16,767		16,783
Premises and equipment		1,411		1,313		4,292		3,789
Losses (gains) and expenses on other real estate owned, net		—		35		(9)		183
Amortization of core deposit intangible		128		148		394		455
Merger related expenses		167		—		720		—
Other expenses		2,953		3,026		8,484		9,074
		10,347		10,359		30,648		30,284
INCOME BEFORE TAXES ON INCOME		5,350		3,651		12,204		8,219
Federal and state income taxes		1,292		839		2,914		1,847
NET INCOME	$	4,058	$	2,812	$	9,290	$	6,372
Net loss (income) attributable to noncontrolling interest		52		(116)		108		(426)
NET INCOME ATTRIBUTABLE TO PARTNERS BANCORP	$	4,110	$	2,696	$	9,398	$	5,946
Earnings per common share
Basic earnings per share	$	0.23	$	0.15	$	0.52	$	0.34
Diluted earnings per share	$	0.23	$	0.15	$	0.52	$	0.33

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The Notes to the Unaudited Consolidated Financial Statements are an integral part of these consolidated financial statements.

PARTNERS BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Unaudited)


	Three Months Ended September 30,				Nine Months Ended September 30,
(Dollars in thousands)	2022		2021		2022		2021
NET INCOME	$	4,058	$	2,812	$	9,290	$	6,372
OTHER COMPREHENSIVE (LOSS), NET OF TAX:
Unrealized holding (losses) gains on securities available for sale arising during the period		(5,690)		287		(20,131)		(1,818)
Deferred income tax effect		1,368		(490)		4,733		440
Other comprehensive (loss), net of tax		(4,322)		(203)		(15,398)		(1,378)

Reclassification adjustment for losses (gains) included in net income		5		(3)		5		(22)
Deferred income tax effect		(1)		4		(1)		5
Other comprehensive loss (income), net of tax		4		1		4		(17)
TOTAL OTHER COMPREHENSIVE (LOSS)		(4,318)		(202)		(15,394)		(1,395)
COMPREHENSIVE (LOSS) INCOME	$	(260)	$	2,610	$	(6,104)	$	4,977
COMPREHENSIVE LOSS (INCOME) ATTRIBUTABLE TO NONCONTROLLING INTEREST		52		(116)		108		(426)
COMPREHENSIVE (LOSS) INCOME ATTRIBUTABLE TO PARTNERS BANCORP	$	(208)	$	2,494	$	(5,996)	$	4,551

The Notes to the Unaudited Consolidated Financial Statements are an integral part of these consolidated financial statements.

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PARTNERS BANCORP

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(Unaudited)


For the three months ended:									Accumulated
									Other		Total
	Common				Retained		Noncontrolling		Comprehensive		Stockholders'
(Dollars in thousands, except per share amounts)	Stock		Surplus		Earnings		Interest		Income (Loss)		Equity
Balances, June 30, 2021	$	177	$	87,021	$	48,038	$	1,005	$	1,105	$	137,346
Net income		—		—		2,696		116		—		2,812
Other comprehensive (loss), net of tax		—		—		—		—		(202)		(202)
												2,610
Cash dividends, $0.025 per share		—		—		(445)		—		—		(445)
Stock-based compensation expense		—		37		—		—		—		37
Balances, September 30, 2021	$	177	$	87,058	$	50,289	$	1,121	$	903	$	139,548

Balances, June 30, 2022	$	179	$	88,552	$	55,695	$	1,122	$	(10,761)	$	134,787
Net income (loss)		—		—		4,110		(52)		—		4,058
Other comprehensive (loss), net of tax		—		—		—		—		(4,318)		(4,318)
												(260)
Cash dividends, $0.025 per share		—		—		(449)		—		—		(449)
Minority interest equity distribution		—		—		—		(343)		—		(343)
Stock-based compensation expense		—		24		—		—		—		24
Balances, September 30, 2022	$	179	$	88,576	$	59,356	$	727	$	(15,079)	$	133,759


For the nine months ended:									Accumulated
									Other		Total
	Common				Retained		Noncontrolling		Comprehensive		Stockholders'
(Dollars in thousands, except per share amounts)	Stock		Surplus		Earnings		Interest		Income (Loss)		Equity
Balances, December 31, 2020	$	178	$	87,200	$	45,673	$	1,346	$	2,298	$	136,695
Net income		—		—		5,946		426		—		6,372
Other comprehensive (loss), net of tax		—		—		—		—		(1,395)		(1,395)
												4,977
Cash dividends, $0.075 per share		—		—		(1,330)		—		—		(1,330)
Stock repurchases		(1)		(208)		—		—		—		(209)
Minority interest equity distribution		—		—		—		(651)		—		(651)
Stock-based compensation expense		—		66		—		—		—		66
Balances, September 30, 2021	$	177	$	87,058	$	50,289	$	1,121	$	903	$	139,548

Balances, December 31, 2021	$	179	$	88,390	$	51,305	$	1,179	$	315	$	141,368
Net income (loss)		—		—		9,398		(108)		—		9,290
Other comprehensive (loss), net of tax		—		—		—		—		(15,394)		(15,394)
												(6,104)
Cash dividends, $0.075 per share		—		—		(1,347)		—		—		(1,347)
Minority interest equity distribution		—		—		—		(344)		—		(344)
Stock option exercises, net		—		115		—		—		—		115
Stock-based compensation expense		—		71		—		—		—		71
Balances, September 30, 2022	$	179	$	88,576	$	59,356	$	727	$	(15,079)	$	133,759

The Notes to the Unaudited Consolidated Financial Statements are an integral part of these consolidated financial statements.

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PARTNERS BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)


	Nine Months Ended
	September 30,
(Dollars in thousands)	2022		2021
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	9,398	$	5,946
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for credit losses		803		2,568
Depreciation		1,404		1,209
Amortization and accretion		347		847
Losses (gains) on sales and calls of investment securities		5		(22)
Net gains on sales of assets		—		(1)
Loss on equity securities		226		38
Gain on sale of loans held for sale, originated		(869)		(2,863)
Net (gains) losses on other real estate owned, including write‑downs		(5)		118
Increase in bank owned life insurance cash surrender value		(338)		(300)
Stock‑based compensation expense, net of employee tax obligation		71		66
Net accretion of certain acquisition related fair value adjustments		(163)		(679)
Impairment loss on restricted stock		1		—
Changes in assets and liabilities:
Loans held for sale		4,732		6,918
Accrued interest receivable		278		821
Other assets		(621)		(3,447)
Accrued interest payable on deposits		(91)		(91)
Other liabilities		855		3,819
Net cash provided by operating activities		16,033		14,947
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of securities available for sale		(40,599)		(43,912)
Purchases of other investments		(25)		(23)
Purchases of bank owned life insurance		—		(3,000)
Purchase of Farmers Bank Stock		(49)		—
Proceeds from the sale of Farmers Bank Stock		44		—
Purchase of restricted stock		—		(90)
Proceeds from maturities and paydowns of securities available for sale		10,717		24,477
Proceeds from sales of securities available for sale		—		26,200
Net increase in loans		(87,840)		(69,460)
Proceeds from sale of assets		—		174
Purchases of premises and equipment		(487)		(2,116)
Proceeds from the sales of foreclosed assets		842		1,256
(Purchase) redemption of restricted stocks		(21)		666
Net cash used by investing activities		(117,418)		(65,828)
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in demand, money market, and savings deposits, net		89,287		186,603
Cash received for the exercise of stock options		115		—
Decrease in time deposits, net		(76,225)		(19,301)
Decrease in borrowings, net		(441)		(50,239)
Net decrease in minority interest contributed capital		(452)		(225)
Decrease in finance lease liability		(89)		(87)
Cash paid for stock repurchases		—		(209)
Dividends paid		(1,347)		(1,330)
Net cash provided by financing activities		10,848		115,212
Net (decrease) increase in cash and cash equivalents		(90,537)		64,331
Cash and cash equivalents, beginning of period		338,829		282,611
Cash and cash equivalents, ending of period	$	248,292	$	346,942
Supplementary cash flow information:
Interest paid	$	5,291	$	7,422
Income taxes paid		2,416		2,400
Right of use assets and corresponding lease liabilities		—		3,016
Unrealized loss on securities available for sale	$	(20,131)	$	(1,840)

The Notes to the Unaudited Consolidated Financial Statements are an integral part of these consolidated financial statements.

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PARTNERS BANCORP

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Nature of Business and Its Significant Accounting Policies

Partners Bancorp (the “Company”) is a multi-bank holding company with two wholly owned subsidiaries (the “Subsidiaries”), The Bank of Delmarva (“Delmarva”), a commercial bank headquartered in Seaford, Delaware that operates primarily in Wicomico and Worcester counties in Maryland, Sussex County in Delaware, and Camden and Burlington counties in New Jersey, and Virginia Partners Bank (“Partners”), a commercial bank headquartered in Fredericksburg, Virginia that operates in and around the greater Fredericksburg, Virginia area (Stafford County, Spotsylvania County, King George County, Caroline County, and the City of Fredericksburg, Virginia), the Greater Washington area (the District of Columbia, Arlington County, Clarke County, Fairfax County, Fauquier County, Loudoun County, Prince William County, Warren County, and the Cities of Alexandria, Fairfax, Falls Church, Manassas, Manassas Park, and Reston, Virginia) and Anne Arundel County and the three counties of Southern Maryland (Charles County, Calvert County and St. Mary’s County). The Subsidiaries engage in general banking business and provide a broad range of financial services to individual and corporate customers, and are subject to competition from other financial institutions. The Subsidiaries are also subject to the regulations of certain federal and state agencies and undergo periodic examinations by those regulatory authorities. The accounting and reporting policies of the Company and its Subsidiaries conform to accounting principles generally accepted in the United States of America (“U.S. GAAP”) and practices within the banking industry.

Significant accounting policies not disclosed elsewhere in the consolidated financial statements are as follows:

Principles of Consolidation:

The consolidated financial statements include the accounts of the Company; the Subsidiaries, along with their consolidated subsidiaries: Delmarva Real Estate Holdings, LLC, a wholly owned subsidiary of Delmarva, which is a real estate holding company; Davie Circle, LLC, a wholly owned subsidiary of Delmarva, which is a real estate holding company; Delmarva BK Holdings, LLC, a wholly owned subsidiary of Delmarva, which is a real estate holding company; DHB Development, LLC, of which Delmarva holds a 40.55% interest, and which is a real estate holding company; and FBW, LLC, of which Delmarva holds a 50% interest, and which is a real estate holding company; Bear Holdings, Inc., a wholly owned subsidiary of Partners, which is a real estate holding company; Johnson Mortgage Company, LLC (“JMC”), of which Partners owns a 51% interest, and which is a residential mortgage company; and 410 William Street, LLC, a wholly owned subsidiary of Partners, which holds investment property. During the second quarter of 2022, Delmarva sold its 10% interest in West Nithsdale Enterprises, LLC, which was a real estate holding company. The sale of this interest resulted in a loss of approximately $2 thousand, which is included in “Losses (gains) and expenses on other real estate owned, net” under “Other Expenses” in the Consolidated Statements of Income. All significant intercompany accounts and transactions have been eliminated in consolidation.

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, 2022 and December 31, 2021, the results of its operations for three months and nine months and its cash flows for the nine months ended September 30, 2022 and 2021 in conformity with U.S. GAAP.

Operating results for the three and nine months ended September 30, 2022 are not necessarily indicative of the results that may be expected for the year ending December 31, 2022, or for any other period.

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Use of Estimates:

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Certain of the critical accounting estimates are more dependent on such judgment and in some cases may contribute to volatility in the Company’s reported financial performance should the assumptions and estimates used change over time due to changes in circumstances. Actual results could differ from those estimates. The more significant areas in which management of the Company applies critical assumptions and estimates that are most susceptible to change in the short term include the calculation of the allowance for credit losses, the valuation of impaired loans, and the unrealized gain or loss on investment securities available for sale.

Securities Available for Sale:

Marketable debt securities not classified as held to maturity are classified as available for sale. Securities available for sale are acquired as part of the Subsidiaries' asset/liability management strategy and may be sold in response to changes in interest rates, loan demand, changes in prepayment risk, and other factors. Securities available for sale are carried at fair value as determined by quoted market prices. Unrealized gains or losses based on the difference between amortized cost and fair value are reported in other comprehensive income (loss), net of deferred tax. Realized gains and losses, using the specific identification method, are included as a separate component of other income (expense) and, when applicable, are reported as a reclassification adjustment, net of tax, in other comprehensive income (loss). Premiums and discounts are recognized in interest income using the interest method over the period to maturity, or for premiums, to the first call date. Additionally, declines in the fair value of individual investment securities below their cost that are other than temporary are reflected as realized losses in the consolidated statements of income.

Impairment may result from credit deterioration of the issuer or collateral underlying the security. In performing an assessment of recoverability, all relevant information is considered, including the length of time and extent to which fair value has been less than the amortized cost basis, the cause of the price decline, credit performance of the issuer and underlying collateral, and recoveries or further declines in fair value subsequent to the balance sheet date.

For debt securities, the Company measures and recognizes other-than-temporary impairment (“OTTI”) losses through earnings if (1) the Company has the intent to sell the security or (2) it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis. In these circumstances, the impairment loss is equal to the full difference between the amortized cost basis and the fair value of the security. For securities that are considered OTTI that the Company has the intent and ability to hold in an unrealized loss position, the OTTI write-down is separated into an amount representing the credit loss, which is recognized in earnings, and the amount related to other factors, which is recognized as a component of other comprehensive income (“OCI”).

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 320-10 Investments-Debts and Equity Securities (“ASC 320-10”) 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 OTTI.

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.

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Other investments includes 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 includes equity securities the Company holds with Community Capital Management in their Community Reinvestment Act (“CRA”) Qualified Investment Fund.

Bank Owned Life Insurance:

The Company has purchased life insurance policies on certain key executives. Bank owned life insurance is recorded at the amount that can be realized under the insurance contract at the balance sheet date, which is the cash surrender value adjusted for other changes or amounts due that are probable at settlement.

Loans and the Allowance for Credit Losses:

Loans are generally carried at the amount of unpaid principal, adjusted for unearned 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 Subsidiaries' policy to discontinue the accrual of interest when a loan is specifically determined to be impaired or when principal or interest 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. Interest income generally is not recognized on specific impaired loans unless the likelihood of further loss is remote. Cash collections on such loans 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. Interest income on other nonaccrual loans is recognized only to the extent of interest payments received. The carrying value of impaired loans is based on the present value of the loan's expected future cash flows or, alternatively, the observable market price of the loan or the fair value of the collateral securing the loan.

The allowance for credit losses is maintained at a level believed to be adequate by management to absorb probable 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 pool, 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 individual problem loans and actual loss experience, the value of the underlying collateral, the condition of various market segments, both locally and nationally, and current 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. Determination of the allowance for credit losses is inherently subjective, as it requires significant estimates, including the amounts and timing on historical loss experience, and consideration of current economic trends, all of 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 monthly and more often if deemed necessary.

The allowance for credit losses typically consists of an allocated component and an unallocated component. The allocated component of the allowance for credit losses reflects expected losses resulting from analyses developed through specific credit allocations for individual loans and historical loss experience for each loan category.

The specific credit allocations are based on regular analyses of all loans over a fixed-dollar amount where the internal credit rating is at or below a predetermined classification. The historical loan loss element is determined statistically using an informal loss migration analysis that examines loss experience and the related internal gradings of loans charged off over a current 3 year period. The loss migration analysis is performed quarterly and loss factors are updated regularly based on actual experience. The allocated component of the allowance for credit losses also includes consideration of concentrations and changes in portfolio mix and volume.

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Any unallocated portion of the allowance for credit losses reflects management's estimate of probable inherent but undetected losses within the loan portfolio due to uncertainties in economic conditions, delays in obtaining information, including unfavorable information about a borrower's financial condition, the difficulty in identifying triggering events that correlate perfectly to subsequent loss rates, and risk factors that have not yet manifested themselves in loss allocation factors. The historical losses used in the migration analysis may not be representative of actual unrealized losses inherent in the loan portfolio. It is management's intent to continually refine the methodology for the allowance for credit losses in an attempt to directly allocate potential losses in the loan portfolio under ASC Topic 310 and minimize the unallocated portion of the allowance for credit losses.

Loan Charge-off Policies

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

●

management deems the asset to be uncollectible;

●

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

●

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

●

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

Acquired Loans

Loans acquired in connection with business combinations are recorded at their acquisition-date fair value with no carryover of related allowance for credit losses. Any allowance for credit losses on these pools reflect only losses incurred after the acquisition (meaning the present value of all cash flows expected at acquisition that ultimately are not expected to be received). 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 considered 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.

Acquired loans that meet the criteria for nonaccrual of interest prior to the acquisition may be considered performing upon acquisition, regardless of whether the customer is contractually delinquent, if we can reasonably estimate the timing and amount of the expected cash flows on such loans and if we expect to fully collect the new carrying value of the loans, including the impact of any accretable yield.

Loans acquired with deteriorated credit quality are accounted for in accordance with ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality (ASC 310-30) if, at acquisition, the loans have evidence of credit quality deterioration since origination and it is probable that all contractually required payments will not be collected. At acquisition, the Company considered several factors as an indicator that an acquired loan had evidence of deterioration in credit quality. These factors include: loans 90 days or more past due, loans with an internal risk grade of substandard or below, loans classified as nonaccrual by the acquired institution, and loans that have been previously modified in a troubled debt restructuring.

Under the ASC 310-30 model, the excess of cash flows expected to be collected at acquisition over recorded fair value is referred to as the accretable yield and is the interest component of expected cash flow. The accretable yield is recognized into income over the remaining life of the loan if the timing and/or amount of cash flows expected to be collected can be reasonably estimated (the accretion method). If the timing or amount of cash flows expected to be collected cannot be reasonably estimated, the cost recovery method of income recognition is used. The difference between the loan's total scheduled principal and interest payments over all cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the non-accretable difference. The non-accretable difference represents contractually required principal and interest payments which the Company does not expect to collect.

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Over the life of the loan, management continues to estimate cash flows expected to be collected. Decreases in expected cash flows are recognized as impairments through a charge to the provision for credit losses resulting in an increase in the allowance for credit losses. Subsequent improvements in cash flows result in first, reversal of existing valuation allowances recognized subsequent to acquisition, if any, and next, an increase in the amount of accretable yield to be subsequently recognized as interest income on a prospective basis over the loan's remaining life.

Acquired loans that were not individually determined to be purchased with deteriorated credit quality are accounted for in accordance with ASC 310-20, Nonrefundable Fees and Other Costs (ASC 310-20), whereby the premium or discount derived from the fair market value adjustment, on a loan-by-loan or pooled basis, is recognized into interest income on a level yield basis over the remaining expected life of the loan or pool.

Troubled Debt Restructurings

A loan is accounted for and reported as a troubled debt restructuring (“TDR”) when, for economic or legal reasons, we grant a concession to a borrower experiencing financial difficulty that we would not otherwise consider. Management strives to identify borrowers in financial difficulty early and works with them to modify to more affordable terms before their loan reaches nonaccrual status. These modified terms may include 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 results in only an insignificant delay in payment is not considered a concession. A delay may be considered insignificant if the payments subject to the delay are insignificant relative to the unpaid principal or collateral value and the contractual amount due, or the delay in timing of the restructured payment period is insignificant relative to the frequency of the payments, the debt’s original contractual maturity or original expected duration.

TDRs are designated as impaired loans because interest and principal payments will not be received in accordance with the original contract terms. TDRs that are performing and on accrual status as of the date of the modification remain on accrual status. TDRs that are nonperforming as of the date of modification generally remain as nonaccrual until the prospect of future payments in accordance with the modified loan agreement is reasonably assured, generally demonstrated when the borrower maintains compliance with the restructured terms for a predetermined period, normally at least six months. TDRs with temporary below-market concessions remain designated as a TDR and impaired regardless of the accrual or performance status until the loan is paid off. However, if the TDR has been modified in a subsequent restructure with market terms and the borrower is not currently experiencing financial difficulty, then the loan may be no longer designated as a TDR.

Loans Held for Sale:

These loans consist of loans made through Partners’ majority owned subsidiary JMC.

JMC is engaged in the mortgage brokerage business in which JMC originates, closes, and immediately sells mortgage loans and related servicing rights to permanent investors in the secondary market. JMC has written commitments from several permanent investors (large financial institutions) and only closes loans that meet the lending requirements of the permanent investors. Loans are made in connection with the purchase or refinancing of existing and new one-to-four family residences primarily in southeastern and northern Virginia. Loans are initially funded primarily by JMC’s lines of credit. With the concurrent sale and delivery of mortgage loans to the permanent investors, JMC records receivables for mortgage loans sold and recognizes the related gains and losses on such sales. The receivables for mortgage loans sold are usually satisfied within 30 days of sale, whereupon the related borrowings on the lines of credit are repaid. Because of the short holding period, these loans are carried at the lower of cost or market and no market adjustments were deemed necessary in the first three quarters of 2022 or during 2021. JMC’s agreements with its permanent investors include provisions that could require JMC to repurchase loans under certain circumstances, and also provide for the assessment of fees if loans go into default or are refinanced within specified periods of time. JMC has never been required to repurchase a loan and no indemnification reserve has been made as of September 30, 2022 or December 31, 2021 for possible repurchases. Management does not believe that a provision for early default or refinancing cost is necessary at September 30, 2022 or December 31, 2021.

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JMC enters into commitments with its customers to originate loans where the interest rate on the loans is determined (locked) prior to funding. While this subjects JMC to the risk that interest rates may change from the commitment date to the funding date, JMC simultaneously enters into financial agreements (best efforts forward sales commitments) with its permanent investors giving JMC the right to deliver (put) loans to the investors at specified yields, thus enabling JMC to manage its exposure to changes in interest rates such that JMC is not subject to fluctuations in fair values of these agreements due to changes in interest rates. However, a default by a permanent investor required to purchase loans under such an agreement would expose JMC to potential fluctuation in selling prices of loans due to changes in interest rate. The fair value of rate lock commitments and forward sales commitments was considered immaterial at September 30, 2022 and December 31, 2021 and an adjustment was not recorded. Gains and losses on the sale of mortgages as well as origination fees, brokerage fees, interest rate lock-in fees and other fees paid by mortgagors are included in “Mortgage banking income, net” on the Company’s Consolidated Statements of Income.

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 other expenses. At September 30, 2022 there were no properties included in OREO and at December 31, 2021, there were two properties with a combined value of $837 thousand included in OREO. At December 31, 2021, there were no residential real estate properties included in OREO balances.

Intangible Assets and Amortization:

During the fourth quarter of 2019, the Company acquired Partners, and during the first quarter of 2018, the Company acquired Liberty Bell Bank (“Liberty”). ASC 350, Intangibles-Goodwill and Other (“ASC 350”) prescribes accounting for intangible assets subsequent to initial recognition. Acquired intangible assets (such as core deposit intangibles) are separately recognized if the benefit of the assets can be sold, transferred, licensed, rented, or exchanged, and amortized over their useful lives. Intangible assets related to the acquisitions of Partners and Liberty are being amortized over their remaining useful life (See Note 13 – Goodwill and Intangible Assets for further information).

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 we conclude 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 of goodwill was required for the nine months ended September 30, 2022 or for the year ended December 31, 2021 based on management’s assessment.

Accounting for Stock Based Compensation:

The Company follows ASC 718-10, Compensation—Stock Compensation (“ASC 718-10”) for accounting and reporting for stock-based compensation plans. ASC 718-10 defines a fair value at grant date to be used for measuring compensation expense for stock-based compensation plans to be recognized in the statement of income.

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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 17,961,699 and 17,960,514 for the three and nine months ended September 30, 2022, 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 9 – Earnings Per Share for further information).

Note 2. Investment Securities

Investment securities available for sale are as follows:


	September 30, 2022
	Dollars in Thousands
			Gross		Gross
	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
Obligations of U.S. Government agencies and corporations	$	15,167	$	—	$	1,665	$	13,502
Obligations of States and political subdivisions		29,094		—		3,475		25,619
Mortgage-backed securities		104,383		—		14,444		89,939
Subordinated debt investments		2,467		—		62		2,405
	$	151,111	$	—	$	19,646	$	131,465


	December 31, 2021
	Dollars in Thousands
			Gross		Gross
	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
Obligations of U.S. Government agencies and corporations	$	6,547	$	46	$	142	$	6,451
Obligations of States and political subdivisions		29,792		1,397		63		31,126
Mortgage-backed securities		83,213		279		1,089		82,403
Subordinated debt investments		1,990		51		—		2,041
	$	121,542	$	1,773	$	1,294	$	122,021

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Gross unrealized losses and fair values, aggregated by investment category and length of time that individual investment securities have been in a continuous unrealized loss position, at September 30, 2022 and December 31, 2021, are as follows:


	September 30, 2022
	Dollars in Thousands
	Less than 12 months				12 months or more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Loss		Value		Loss		Value		Loss
Obligations of U.S. Government agencies and corporations	$	11,175	$	988	$	2,327	$	677	$	13,502	$	1,665
Obligations of States and political subdivisions		24,728		3,085		891		390		25,619		3,475
Mortgage-backed securities		46,727		5,025		43,209		9,419		89,936		14,444
Subordinated debt investments		2,155		62		—		—		2,155		62
Total investment securities with unrealized losses	$	84,785	$	9,160	$	46,427	$	10,486	$	131,212	$	19,646


	December 31, 2021
	Dollars in Thousands
	Less than 12 months				12 months or more				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
	Value		Loss		Value		Loss		Value		Loss
Obligations of U.S. Government agencies and corporations	$	1,289	$	35	$	2,397	$	107	$	3,686	$	142
Obligations of States and political subdivisions		2,473		63		—		—		2,473		63
Mortgage-backed securities		59,236		744		11,349		345		70,585		1,089
Total investment securities with unrealized losses	$	62,998	$	842	$	13,746	$	452	$	76,744	$	1,294

For individual investment securities classified as either available for sale or held to maturity, the Company must determine whether a decline in fair value below the amortized cost basis is other than temporary. In estimating OTTI losses, management considers, among other things, (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, and (iii) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. If the decline in fair value is considered to be other than temporary, the cost basis of the individual investment security shall be written down to the fair value as a new cost basis and the amount of the write-down shall be included in earnings (that is, accounted for as a realized loss).

At September 30, 2022, there were fifty-four mortgage-backed investment securities (“MBS”), thirteen agency investment securities, four subordinated debt investment securities and fifty-six municipal investment securities that have been in a continuous unrealized loss position for less than twelve months. At September 30, 2022, there were seventeen MBS investment securities, three agency investment securities and four municipal investment securities that had been in a continuous unrealized loss position for more than twelve months. Management found no evidence of OTTI on any of these investment securities and believes that the unrealized losses are due to fluctuations in fair values resulting from changes in market interest rates and are considered temporary. As of September 30, 2022, management also believes it has the ability and intent to hold the investment securities for a period of time sufficient for a recovery of cost.

During the three and nine months ended September 30, 2022, the Company sold one investment security, resulting in a loss of $5 thousand. During the three and nine months ended September 30, 2021, the Company sold four and fourteen investment securities, respectively, resulting in a gain of $3 thousand and $17 thousand, respectively.

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During the three months ended September 30, 2022, there were no calls or maturities on investment securities. During the nine months ended September 30, 2022, two investment securities either matured or were called, resulting in no gain or loss for the period. During the three and nine months ended September 30, 2021, three and ten investment securities were either matured or were called, respectively, resulting in a gain of $0 and $5 thousand, respectively.

The Company has pledged certain investment securities as collateral for qualified customers’ deposit accounts at September 30, 2022 and December 31, 2021. The amortized cost and fair value of these pledged investment securities was $10.6 million and $8.9 million, respectively, at September 30, 2022. The amortized cost and fair value of these pledged investment securities was $11.1 million and $11.2 million, respectively, at December 31, 2021.

The Company realized a loss of $75 thousand and $226 thousand on equity securities during the three and nine months ended September 30, 2022, respectively. The Company realized a loss of $9 thousand and $38 thousand on equity securities during the three and nine month periods ended September 30, 2021, respectively. These losses are included in “Other expenses” in the Consolidated Statements of Income.

Contractual maturities of investment securities at September 30, 2022 are shown below. Actual maturities may differ from contractual maturities because debtors may have the right to call or prepay obligations with or without call or prepayment penalties. MBS primarily reflect investments in various Pass-through and Participation Certificates issued by the Federal National Mortgage Association and the Government National Mortgage Association. Repayment of MBS is affected by the contractual repayment terms of the underlying mortgages collateralizing these obligations and the current level of interest rates.

The following is a summary of maturities, calls, or repricing of investment securities available for sale:


	September 30, 2022
	Securities Available for Sale
	Dollars in Thousands
		Amortized		Fair
		Cost		Value
Due in one year or less	$	1	$	1
Due after one year through five years		11,076		10,743
Due after five years through ten years		46,869		42,922
Due after ten years or more		93,165		77,799
	$	151,111	$	131,465

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Note 3. Loans, Allowance for Credit Losses and Impaired Loans

Major categories of loans as of September 30, 2022 and December 31, 2021 are as follows:


(Dollars in thousands)	September 30, 2022		December 31, 2021
Originated Loans
Real Estate Mortgage
Construction and land development	$	119,172	$	107,478
Residential real estate		196,772		159,701
Nonresidential		603,738		513,873
Home equity loans		21,769		19,246
Commercial		113,814		109,470
Consumer and other loans		3,159		3,546
		1,058,424		913,314
Acquired Loans
Real Estate Mortgage
Construction and land development	$	39	$	505
Residential real estate		27,549		41,529
Nonresidential		94,576		128,344
Home equity loans		9,000		11,149
Commercial		13,859		21,438
Consumer and other loans		513		916
		145,536		203,881
Total Loans
Real Estate Mortgage
Construction and land development	$	119,211	$	107,983
Residential real estate		224,321		201,230
Nonresidential		698,314		642,217
Home equity loans		30,769		30,395
Commercial		127,673		130,908
Consumer and other loans		3,672		4,462
		1,203,960		1,117,195
Less: Allowance for credit losses		(13,818)		(14,656)
	$	1,190,142	$	1,102,539

Allowance for Credit Losses

Management has an established methodology to determine the adequacy of the allowance for credit losses that assesses the risks and losses inherent in the loan portfolio. For purposes of determining the allowance for credit losses, the Company has segmented the loan portfolio into the following classifications:

●

Real Estate Mortgage (which includes Construction and Land Development, Residential Real Estate, Nonresidential Real Estate and Home Equity Loans)

●

Commercial

●

Consumer and other loans

Each of these segments are reviewed and analyzed quarterly using historical charge-off experience for their respective segments as well as the following qualitative factors:

●

Changes in the levels and trends in delinquencies, nonaccruals, classified assets and TDRs

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●

Changes in the value of underlying collateral

●

Changes in the nature and volume of the portfolio

●

Effects of any changes in lending policies, procedures, including underwriting standards and collections, charge off and recovery practices

●

Changes in the experience, depth and ability of management

●

Changes in the national and local economic conditions and developments, including the condition of various market segments

●

Changes in the concentration of credits within each pool

●

Changes in the quality of the Company’s loan review system and the degree of oversight by the Company’s Board of Directors

●

Changes in external factors such as competition and the legal environment

The above factors result in a Financial Accounting Standards Board (“FASB”) ASC 450-10-20 calculated reserve for environmental factors.

All credit exposures graded at a rating of “non-pass” with outstanding balances less than or equal to $250 thousand and credit exposures graded at a rating of “pass” are reviewed and analyzed quarterly using historical charge-off experience for their respective segments as well as the qualitative factors discussed above. The historical charge-off experience is further adjusted based on delinquency risk trend assessments and concentration risk assessments.

All credit exposures graded at a rating of “non-pass” with outstanding balances greater than $250 thousand, as well as any loans considered TDRs, are to be reviewed no less than quarterly for the purpose of determining if a specific allocation is needed for that credit. The determination for a specific reserve is measured based on the present value of expected future cash flows, discounted at the loan's effective interest rate, except when the sole (remaining) source of repayment for the loan is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling cost when foreclosure is probable, instead of discounted cash flows. If management determines that the value of the loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allowance for credit losses estimate or a charge-off to the allowance for credit losses.

The establishment of a specific reserve does not necessarily mean that the credit with the specific reserve will definitely incur loss at the reserve level. It is only an estimation of potential loss based upon known events that are subject to change. A specific reserve will not be established unless loss elements can be determined and quantified based on known facts. The total allowance for credit losses reflects management's estimate of loan losses inherent in the loan portfolio as of September 30, 2022 and December 31, 2021.

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The following tables include impairment information relating to loans and the allowance for credit losses as of September 30, 2022 and December 31, 2021:


	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
Dollars in Thousands	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Balance at September 30, 2022
Purchased credit impaired loans
Balance in allowance	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Related loan balance		—		715		353		—		18		—		—		1,086
Individually evaluated for impairment:
Balance in allowance	$	—	$	21	$	—	$	—	$	279	$	—	$	—	$	300
Related loan balance		575		1,731		4,092		53		337		—		—		6,788
Collectively evaluated for impairment:
Balance in allowance	$	1,093	$	1,962	$	8,163	$	248	$	1,612	$	86	$	354	$	13,518
Related loan balance		118,636		221,875		693,869		30,716		127,318		3,672		—		1,196,086

Note: The balances above include unamortized discounts on acquired loans of $1.8 million.


	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
Dollars in Thousands	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Balance at December 31, 2021
Purchased credit impaired loans
Balance in allowance	$	—	$	9	$	—	$	—	$	—	$	—	$	—	$	9
Related loan balance		46		1,633		376		—		126		—		—		2,181
Individually evaluated for impairment:
Balance in allowance	$	—	$	3	$	1,000	$	—	$	452	$	—	$	—	$	1,455
Related loan balance		598		2,082		9,901		53		584		—		—		13,218
Collectively evaluated for impairment:
Balance in allowance	$	1,143	$	1,881	$	8,239	$	212	$	1,433	$	36	$	248	$	13,192
Related loan balance		107,339		197,515		631,940		30,342		130,198		4,462		—		1,101,796

Note: The balances above include unamortized discounts on acquired loans of $2.3 million.

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The following tables provide a summary of the activity in the allowance for credit losses allocated by loan class for the three and nine months ended September 30, 2022 and for the year ended December 31, 2021. Allocation of a portion of the allowance for credit losses to one loan class does not preclude its availability to absorb losses in other loan classes.


	September 30, 2022
	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
Dollars in Thousands	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Quarter Ended
Beginning Balance	$	935	$	1,869	$	9,203	$	234	$	1,663	$	31	$	124	$	14,059
Charge-offs		—		—		(659)		—		(47)		(16)		—		(722)
Recoveries		1		16		6		—		2		37		—		62
Provision/(recovery)		157		98		(387)		14		273		34		230		419
Ending Balance	$	1,093	$	1,983	$	8,163	$	248	$	1,891	$	86	$	354	$	13,818
Nine Months Ended
Beginning Balance	$	1,143	$	1,893	$	9,239	$	212	$	1,885	$	36	$	248	$	14,656
Charge-offs		—		—		(1,545)		(27)		(167)		(41)		—		(1,780)
Recoveries		—		56		22		6		13		42		—		139
Provision/(recovery)		(50)		34		447		57		160		49		106		803
Ending Balance	$	1,093	$	1,983	$	8,163	$	248	$	1,891	$	86	$	354	$	13,818


	December 31, 2021
	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
Dollars in Thousands	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Year Ended
Beginning Balance	$	903	$	2,351	$	7,584	$	271	$	1,943	$	37	$	114	$	13,203
Charge-offs		—		(39)		(692)		(7)		(184)		(66)		—		(988)
Recoveries		1		23		53		3		16		22		—		118
Provision/(recovery)		239		(442)		2,294		(55)		110		43		134		2,323
Ending Balance	$	1,143	$	1,893	$	9,239	$	212	$	1,885	$	36	$	248	$	14,656

On March 27, 2020, the CARES Act was signed into law, which established the Paycheck Protection Program (“PPP”) and allocated $349.0 billion of loans to be issued by financial institutions. Under the program, the Small Business Administration (“SBA”) will forgive loans, in whole or in part, made by approved lenders to eligible borrowers for paycheck and other permitted purposes in accordance with the requirements of the program. These loans carry a fixed rate of 1.00%, if not forgiven, in whole or in part. The loans are 100% guaranteed by the SBA and payments are deferred for the first six months of the loan. The Company received a processing fee ranging from 1% to 5% based on the size of the loan from the SBA. The Paycheck Protection Program and Health Care Enhancement Act (“PPP/ HCEA Act”) was signed into law on April 24, 2020. The PPP/HCEA Act authorized additional funding under the CARES Act of $310.0 billion for PPP loans to be issued by financial institutions through the SBA. The PPP loan funding program expired on May 31, 2021. The Company provided $95.1 million in funding to over 1,130 customers through the PPP, of which approximately $8.2 million remained outstanding as of December 31, 2021. There were no loans outstanding under the PPP at September 30, 2022. Because these loans were 100% guaranteed by the SBA and did not undergo the Company’s typical underwriting process, they were not graded and did not have an associated allocation for credit losses at that time.

Credit Quality Information

The following tables represent credit exposures by creditworthiness category at September 30, 2022 and December 31, 2021. The use of creditworthiness categories to grade loans permits management to estimate a portion of credit risk. The Company’s internal creditworthiness is based on experience with similarly graded credits. The Company uses the definitions below for categorizing and managing its criticized loans. Loans categorized as “Pass” do not meet the criteria set forth below and are not considered criticized.

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Marginal — Loans in this category are presently protected from loss, but weaknesses are apparent which, if not corrected, could cause future problems. Loans in this category may not meet required underwriting criteria and have no mitigating factors. More than the ordinary amount of attention is warranted for these loans.

Substandard — Loans in this category exhibit well-defined weaknesses that would typically bring normal repayment into jeopardy. These loans are no longer adequately protected due to well-defined weaknesses that affect the repayment capacity of the borrower. The possibility of loss is much more evident and above average supervision is required for these loans.

Doubtful — Loans in this category have all the weaknesses inherent in a loan categorized as Substandard, with the characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Loss — Loans in this category are of little value and are not warranted as a bankable asset.

Nonaccruals

In general, a loan will be placed on nonaccrual status at the end of the reporting month in which the interest or principal is past due more than 90 days. Exceptions to the policy are those loans that are in the process of collection and are well-secured. A well-secured loan is secured by collateral with sufficient market value to repay principal and all accrued interest.

A summary of loans by risk rating is as follows:


	Real Estate Mortgage
	Construction &
	Land		Residential								Consumer &
September 30, 2022	Development		Real Estate		Nonresidential		Home Equity		Commercial		Other		Total

	Dollars in Thousands
Pass	$	118,636	$	222,647	$	691,287	$	30,671	$	126,214	$	3,325	$	1,192,780
Marginal		—		—		4,873		—		1,122		347		6,342
Substandard		575		1,674		2,154		98		337		—		4,838
TOTAL	$	119,211	$	224,321	$	698,314	$	30,769	$	127,673	$	3,672	$	1,203,960
Nonaccrual	$	576	$	1,243	$	1,894	$	—	$	337	$	—	$	4,050


	Real Estate Mortgage
	Construction &
	Land		Residential								Consumer &
December 31, 2021	Development		Real Estate		Nonresidential		Home Equity		Commercial		Other		Total

	Dollars in Thousands
Pass	$	107,339	$	199,037	$	622,648	$	30,159	$	128,949	$	3,960	$	1,092,092
Marginal		46		507		12,819		183		1,364		502		15,421
Substandard		598		1,686		6,750		53		595		—		9,682
TOTAL	$	107,983	$	201,230	$	642,217	$	30,395	$	130,908	$	4,462	$	1,117,195
Nonaccrual	$	598	$	1,293	$	6,486	$	—	$	584	$	—	$	8,961

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No loans were modified as a TDR during the three months ended September 30, 2022. There was one loan modified under the terms of a TDR during the nine months ended September 30, 2022. A summary of loans that were modified under the terms of a TDR during the three and nine months ended September 30, 2022 and 2021 is shown below by class. The post-modification recorded balance reflects the period end balances, inclusive of any interest capitalized to principal, partial principal pay-downs, and principal charge-offs since the modification date. Loans modified as TDRs that were fully paid down, charged-off, or foreclosed upon by period end are not reported.


	Real Estate Mortgage
	Construction &
	Land		Residential								Consumer &
	Development		Real Estate		Nonresidential		Home Equity		Commercial		Other		Total

	Dollars in Thousands
Three months ended September 30, 2022
Number of loans modified during the period		—		—		—		—		—		—		—
Pre-modification recorded balance	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Post- modification recorded balance		—		—		—		—		—		—		—
Nine months ended September 30, 2022
Number of loans modified during the period		—		1		—		—		—		—		1
Pre-modification recorded balance	$	—	$	48	$	—	$	—	$	—	$	—	$	48
Post- modification recorded balance		—		48		—		—		—		—		48

Three months ended September 30, 2021
Number of loans modified during the period		—		—		1		—		—		—		1
Pre-modification recorded balance	$	—	$	—	$	2,919	$	—	$	—	$	—	$	2,919
Post- modification recorded balance		—		—		2,907		—		—		—		2,907
Nine months ended September 30, 2021
Number of loans modified during the period		—		—		2		—		—		—		2
Pre-modification recorded balance	$	—	$	—	$	3,197	$	—	$	—	$	—	$	3,197
Post- modification recorded balance		—		—		2,907		—		—		—		2,907

During the nine months ended September 30, 2022 and 2021, there were no loans modified as a TDR that subsequently defaulted during the periods ended September 30, 2022 and September 30, 2021 which had been modified as a TDR during the twelve months prior to default.

There were no loans secured by 1-4 family residential properties in the process of foreclosure at September 30, 2022. There were two loans secured by 1-4 family residential properties with aggregate balances of $345 thousand that were in the process of foreclosure at December 31, 2021.

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The following tables include an aging analysis of the recorded investment of past due financing receivables as of September 30, 2022 and December 31, 2021:


													Recorded
													Investment
					Greater than						Total		>90 Days
	30 - 59 Days		60 - 89 Days		90 Days		Total		Current		Financing		Past Due
At September 30, 2022	Past Due		Past Due *		Past Due**		Past Due		Balance***		Receivables		and Accruing

	Dollars in Thousands
Real Estate Mortgage
Construction and land development	$	—	$	—	$	575	$	575	$	118,636	$	119,211	$	—
Residential real estate		207		1,081		380		1,668		222,653		224,321		230
Nonresidential		427		—		311		738		697,576		698,314		—
Home equity loans		—		—		45		45		30,724		30,769		45
Commercial		—		7		—		7		127,666		127,673		—
Consumer and other loans		1		—		—		1		3,671		3,672		—
TOTAL	$	635	$	1,088	$	1,311	$	3,034	$	1,200,926	$	1,203,960	$	275

* Includes $223 thousand of nonaccrual loans.

** Includes $1.0 million of nonaccrual loans.

*** Includes $2.8 million of nonaccrual loans.


													Recorded
													Investment
					Greater than						Total		>90 Days
	30 - 59 Days		60 - 89 Days		90 Days		Total		Current		Financing		Past Due
At December 31, 2021	Past Due*		Past Due		Past Due**		Past Due		Balance***		Receivables		and Accruing

	Dollars in Thousands
Real Estate Mortgage
Construction and land development	$	—	$	—	$	598	$	598	$	107,385	$	107,983	$	—
Residential real estate		658		245		361		1,264		199,966		201,230		—
Nonresidential		—		—		2,915		2,915		639,302		642,217		—
Home equity loans		160		—		—		160		30,235		30,395		—
Commercial		46		—		77		123		130,785		130,908		—
Consumer and other loans		15		—		—		15		4,447		4,462		—
TOTAL	$	879	$	245	$	3,951	$	5,075	$	1,112,120	$	1,117,195	$	—

* Includes $55 thousand of nonaccrual loans.

** Includes $4.0 million of nonaccrual loans.

*** Includes $5.0 million of nonaccrual loans.

Impaired Loans

Impaired loans are defined as nonaccrual loans, TDRs, purchased credit impaired loans (“PCI”) and loans risk rated substandard or above. When management identifies a loan as impaired, the impairment is measured for potential loss based on the present value of expected future cash flows, discounted at the loan's effective interest rate, except when the sole (remaining) source of repayment for the loan is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling cost when foreclosure is probable, instead of discounted cash flows. If management determines that the value of the impaired loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allowance estimate or a charge-off to the allowance for credit losses.

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When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is on nonaccrual status, all payments are applied to principal, under the cost recovery method. When the ultimate collectability of the total principal of an impaired loan is not in doubt and the loan is on nonaccrual status, contractual interest is credited to interest income when received, under the cash basis method.

The following tables include the recorded investment and unpaid principal balances for impaired financing receivables, excluding PCI, with the associated allowance amount, if applicable. Also presented are the average recorded investments in the impaired loans and the related amount of interest recognized during the time within the period that the impaired loans were impaired.


			Unpaid		Interest				Average
	Recorded		Principal		Income		Specific		Recorded
September 30, 2022	Investment		Balance		Recognized		Reserve		Investment

	Dollars in Thousands
Impaired loans with specific reserves:
Real Estate Mortgage
Construction and land development	$	—	$	—	$	—	$	—	$	—
Residential real estate		24		24		1		21		25
Nonresidential		—		—		—		—		—
Home equity loans		—		—		—		—		—
Commercial		337		348		32		279		367
Consumer and other loans		—		—		—		—		—
Total impaired loans with specific reserves	$	361	$	372	$	33	$	300	$	392
Impaired loans with no specific reserve:
Real Estate Mortgage
Construction and land development	$	575	$	575	$	5	$	—	$	533
Residential real estate		1,707		1,707		30		—		1,742
Nonresidential		4,092		4,092		241		—		4,776
Home equity loans		53		53		1		—		53
Commercial		—		—		—		—		—
Consumer and other loans		—		—		—		—		—
Total impaired loans with no specific reserve	$	6,427	$	6,427	$	277	$	—	$	7,104
TOTAL	$	6,788	$	6,799	$	310	$	300	$	7,496

Total impaired loans of $6.8 million at September 30, 2022 do not include PCI loan balances of $1.1 million, which are net of a remaining purchase discount of $413 thousand.


			Unpaid		Interest				Average
	Recorded		Principal		Income		Specific		Recorded
December 31, 2021	Investment		Balance		Recognized		Reserve		Investment

	Dollars in Thousands
Impaired loans with specific reserves:
Real Estate Mortgage
Construction and land development	$	—	$	—	$	—	$	—	$	—
Residential real estate		426		426		22		3		433
Nonresidential		6,437		6,559		369		1,000		6,528
Home equity loans		—		—		—		—		—
Commercial		507		517		119		452		583
Consumer and other loans		—		—		—		—		—
Total impaired loans with specific reserves	$	7,370	$	7,502	$	510	$	1,455	$	7,544
Impaired loans with no specific reserve:
Real Estate Mortgage
Construction and land development	$	598	$	598	$	13	$	—	$	599
Residential real estate		1,656		1,687		26		—		1,698
Nonresidential		3,464		3,462		344		—		3,510
Home equity loans		53		53		1		—		53
Commercial		77		154		2		—		109
Consumer and other loans		—		—		—		—		—
Total impaired loans with no specific reserve	$	5,848	$	5,954	$	386	$	—	$	5,969
TOTAL	$	13,218	$	13,456	$	896	$	1,455	$	13,513

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Total impaired loans of $13.2 million at December 31, 2021 do not include PCI loan balances of $2.2 million, which are net of a remaining purchase discount of $432 thousand. At December 31, 2021, there was $9 thousand in specific reserves related to PCI loans included in the allowance for credit losses.

All acquired loans were initially recorded at fair value at the acquisition date. The outstanding balance and the carrying amount of acquired loans included in the consolidated balance sheets are as follows:


Dollars in Thousands	September 30, 2022		December 31, 2021
Accountable for under ASC 310-30 (PCI loans)
Outstanding balance	$	1,499	$	2,613
Carrying amount		1,086		2,181
Accountable for under ASC 310-20 (non-PCI loans)
Outstanding balance	$	145,846	$	203,596
Carrying amount		144,450		201,700
Total acquired loans
Outstanding balance	$	147,345	$	206,209
Carrying amount		145,536		203,881

The following table provides changes in accretable yield for all acquired loans accounted for under ASC 310-20 for the nine months ended September 30, 2022 and the year ended December 31, 2021:


Dollars in Thousands	September 30, 2022		December 31, 2021
Balance at beginning of period	$	1,896	$	3,361
Accretion		(500)		(1,464)
Other changes, net		—		(1)
Balance at end of period	$	1,396	$	1,896

During the three and nine months ended September 30, 2022, the Company recorded $12 thousand and $67 thousand, respectively, in accretion on acquired loans accounted for under ASC 310-30. During the three and nine months ended September 30, 2021, the Company recorded $9 thousand and $23 thousand, respectively, in accretion on acquired loans accounted for under ASC 310-30.

Non-accretable yield on PCI loans was $1.4 million at September 30, 2022 and December 31, 2021.

The Company had no commitments to loan additional funds to the borrowers of restructured, impaired, or nonaccrual loans as of September 30, 2022 and December 31, 2021.

Concentration of Risk:

The Company makes loans to customers located primarily within Anne Arundel, Charles, Calvert, St. Mary’s, Wicomico and Worcester Counties, Maryland, Sussex County, Delaware, Camden and Burlington Counties, New Jersey, the Greater Fredericksburg, Virginia area (Stafford County, Spotsylvania County, King George County, Caroline County, and the City of Fredericksburg, Virginia) and the Greater Washington D.C. area (the District of Columbia, Arlington County, Clarke County, Fairfax County, Fauquier County, Loudoun County, Prince William County, Warren County, and the Cities of Alexandria, Fairfax, Falls Church, Manassas, Manassas Park, and Reston, Virginia). A substantial portion of its loan portfolio consists of residential and commercial real estate mortgages. The ability of the Company’s debtors to honor their contracts is dependent upon the real estate and general economic conditions in these areas.

Note 4. Borrowings and Notes Payable

The Company owns capital stock of the FHLB as a condition for a $422.0 million convertible advance credit facility from the FHLB. As of September 30, 2022, the Company had remaining credit availability of $396.1 million under this facility.

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The following tables detail the advances the Company had outstanding with the FHLB at September 30, 2022 and December 31, 2021:


		September 30, 2022
Dollars in Thousands		Outstanding Balance	Interest Rate		Maturity Date	Interest Payment
Fixed rate hybrid	$	5,000	3.15	%	October 2022	Fixed, paid monthly
Principal reducing credit		214	1.62	%	March 2023	Fixed, paid quarterly
Fixed rate hybrid		9,900	1.29	%	March 2024	Fixed, paid quarterly
Fixed rate hybrid		9,900	1.29	%	March 2024	Fixed, paid quarterly
Principal reducing credit		805	1.99	%	March 2026	Fixed, paid quarterly
Total advances	$	25,819


		December 31, 2021
Dollars in Thousands		Outstanding Balance	Interest Rate		Maturity Date	Interest Payment
Fixed rate hybrid	$	5,000	3.15	%	October 2022	Fixed, paid monthly
Principal reducing credit		536	1.62	%	March 2023	Fixed, paid quarterly
Fixed rate hybrid		9,900	1.29	%	March 2024	Fixed, paid quarterly
Fixed rate hybrid		9,900	1.29	%	March 2024	Fixed, paid quarterly
Principal reducing credit		977	1.99	%	March 2026	Fixed, paid quarterly
Total advances	$	26,313

The Company did not have any short-term borrowings from the FHLB for the three and nine month periods ended September 30, 2022 and 2021. Borrowings from the FHLB are considered short-term if they have an original maturity of less than a year.

The Company has pledged a portion of its residential and commercial mortgage loan portfolio as collateral for these credit facilities. The lendable collateral value outstanding on these pledged loans totaled approximately $189.1 million and $181.8 million at September 30, 2022 and December 31, 2021, respectively.

In addition to the FHLB credit facility, in October 2015, the Company entered into a subordinated loan agreement for an aggregate principal amount of $2.0 million, net of issuance costs. Interest-only payments were due quarterly at 6.710% per annum, and the outstanding principal balance would have matured in October 2025. During July 2021, the prepayment provisions in the subordinated debt agreement were exercised, and the principal balance and any remaining accrued interest of this subordinated debt were paid in full. In January 2018, the Company entered into a subordinated loan agreement for an aggregate principal amount of $4.5 million, net of issuance costs, to fund the acquisition of Liberty. Interest-only payments are due quarterly at 6.875% per annum, and the outstanding principal balance matures in April 2028. In June 2020, the Company entered into a subordinated loan agreement for an aggregate principal amount of $18.1 million, net of issuance costs, to provide capital to support organic growth or growth through strategic acquisitions and capital expenditures. The subordinated notes will initially bear interest at 6.000% per annum, beginning June 25, 2020 to but excluding July 1, 2025, payable semi-annually in arrears. From and including July 1, 2025 to but excluding July 1, 2030, or an earlier redemption date, the interest rate shall reset quarterly to an interest rate per annum equal to the then current three-month SOFR plus 590 basis points, payable quarterly in arrears. Beginning on July 1, 2025 through maturity, the subordinated notes may be redeemed, at the Company’s option, on any scheduled interest payment date. The subordinated notes will mature on July 1, 2030. The subordinated notes are subject to customary representations, warranties and covenants made by the Company and the purchasers.

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Partners owns a one-half undivided interest in 410 William Street, Fredericksburg, Virginia. Partners purchased a one-half interest in the land for cash, plus additional settlement costs, and assumption of one-half of the remaining deed of trust loan on December 14, 2012. Partners indemnified the indemnities, who are the personal guarantors of the deed of trust loan in the amount of $886 thousand, which was one-half of the outstanding balance of the loan as of the purchase date. Partners has a remaining obligation under the note payable of $636 thousand as of September 30, 2022, which was carried on the balance sheet net of a discount of $17 thousand. The loan was refinanced on April 30, 2015 with a twenty-five year amortization. The interest rate is fixed at 3.60% for the first 10 years, and then becomes a variable rate of 3.0% plus the 10 year Treasury rate until maturity.

The Company provides JMC a warehouse line of credit, which is eliminated in consolidation. In addition, JMC has a warehouse line of credit with another financial institution in the amount of $3.0 million. The interest rate is the weekly average of the one month LIBOR plus 2.250%, rounded to the nearest 0.125% (6.000% at September 30, 2022). The rate is subject to change the first of every month. Amounts borrowed are collateralized by a security interest in the mortgage loans financed under the line and are payable upon demand. The warehouse line of credit is set to renew or mature on November 30, 2022. The balance outstanding at September 30, 2022 and December 31, 2021 was $192 thousand and $120 thousand, respectively. Interest expense on the warehouse lines of credit was $18 thousand and $42 thousand, respectively, during the three and nine months ended September 30, 2022 and $21 thousand and $77 thousand, respectively, during the three and nine month periods ended September 30, 2021.

During the second quarter of 2020, in connection with the loans originated as part of the PPP, the Company borrowed under the Federal Reserve’s Paycheck Protection Program Liquidity Facility (“PPPLF”). Under the terms of the PPPLF, the Company can borrow funds which are secured by the Company’s PPP loans. During the first quarter of 2021, the Company used a portion of its excess cash and cash equivalents to repay all borrowings that were previously outstanding under the PPPLF. As of September 30, 2022, the Company did not have any outstanding advances under the PPPLF.

The proceeds of these long-term borrowings were generally used to purchase higher yielding investment securities, fund additional loans, redeem preferred stock, or fund acquisitions. Additionally, the Company has secured credit availability of $5.0 million and unsecured credit availability of $117.0 million with various correspondent banks for short-term liquidity needs, if necessary. The secured facility must be collateralized by specific securities at the time of any usage. At September 30, 2022, there were no borrowings outstanding under these credit agreements, and securities pledged under this secured credit facility had an amortized cost and fair value of $3 thousand. At December 31, 2021, there were no borrowings outstanding under these credit agreements, and securities pledged under this secured credit facility had an amortized cost and fair value of $4 thousand and $5 thousand, respectively.

The Company has pledged investment securities available for sale with an amortized cost and fair value of $3.4 million and $2.8 million, respectively, with the FRB to secure Discount Window borrowings at September 30, 2022. The combined amortized cost and fair value of these pledged investment securities available for sale were $3.7 million at December 31, 2021. At September 30, 2022 and December 31, 2021, there were no outstanding borrowings under these facilities.

Maturities of debt are as follows (dollars in thousands):


2022	$	5,350
2023		314
2024		20,008
2025		210
2026		39
Thereafter		22,912
	$	48,833

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Note 5. Lease Commitments

The Company accounts for leases in accordance with Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842) (“ASC 2016-02”). The Company leases nineteen locations for administrative and loan production offices and branch locations. Seventeen leases were classified as operating leases and two leases were classified as finance leases. Leases with an initial term of 12 months or less as well as leases with a discounted present value of future cash flows below $25 thousand are not recorded on the balance sheet and the related lease expense is recognized over the lease term. The Company elected to use the practical expedient to not recognize short-term leases on the consolidated balance sheet and instead account for them as executory contracts.

Certain leases include options to renew, with renewal terms that can extend the lease term, typically for five years. Lease assets and liabilities include related options that are reasonably certain of being exercised. The Company has determined that it will place a limit on exercises of available lease renewal options that would extend the lease term up to a maximum of fifteen years, including the initial term. The depreciable life of leased assets are limited by the expected lease term.

The following tables present information about the Company’s leases for the periods ended:


Dollars in Thousands	September 30, 2022			December 31, 2021
Balance Sheet
Operating Lease Amounts
Right-of-use asset	$	5,290		$	6,009
Lease liability		5,688			6,372
Finance Lease Amounts
Right-of-use asset	$	1,584		$	1,687
Lease liability		2,036			2,125

Supplemental balance sheet information
Weighted average lease term - Operating Leases (Yrs.)		7.46			7.99
Weighted average lease term - Finance Leases (Yrs.)		11.30			12.09
Weighted average discount rate - Operating Leases (1)		2.29	%		2.24	%
Weighted average discount rate - Finance Leases (1)		2.84	%		2.84	%

Income Statement
Three Months Ended	September 30, 2022			September 30, 2021
Operating lease cost classified as premises and equipment	$	286		$	252
Finance lease cost classified as interest on borrowings		15			15
Nine Months Ended
Operating lease cost classified as premises and equipment	$	858		$	691
Finance lease cost classified as interest on borrowings		44			47

Operating outgoing cash flows from operating leases	$	787		$	643
Operating outgoing cash flows from finance leases	$	134		$	134

(1)	The discount rate was developed by using the fixed rate credit advance borrowing rate at the FHLB of Atlanta for a term correlating to the remaining life of each lease. Management believes this rate closely mirrors its incremental borrowing rate for similar terms.

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Minimum lease payments at September 30, 2022, for the next five years and thereafter, assuming renewal options are exercised, are approximately as follows:


	Dollars in Thousands
Operating Leases:
One year or less	$	966
One to three years		1,470
Three to five years		1,060
Over 5 years		2,905
Total undiscounted cash flows		6,401
Less: Discount		(713)
Lease Liabilities	$	5,688

Finance Leases:
One year or less	$	185
One to three years		393
Three to five years		407
Over 5 years		1,417
Total undiscounted cash flows		2,402
Less: Discount		(366)
Lease Liabilities	$	2,036

Note 6. Stock Option Plans

Liberty Bell Bank Stock Option Plans

In 2004, Liberty adopted the 2004 Incentive Stock Option Plan and the 2004 Non-Qualified Stock Option Plan, which were stock-based incentive compensation plans (the “Liberty Plans”). In February 2014, the Liberty Plans expired pursuant to their terms. Options under these plans had a 10 year life and vested over 5 years. Remaining options under these plans became fully vested with the signing of the Agreement of Merger with the Company in February 2018. In accordance with the terms of the Agreement of Merger between the Company and Liberty, the Liberty Plans were assumed by the Company, and the options were converted into and became an option to purchase an adjusted number of shares of the common stock of the Company at an adjusted exercise price per share. The number of shares was determined by multiplying the number of shares of Liberty common stock for which the option was exercisable by the number of shares of the Company’s common stock into which shares of Liberty common stock were convertible in the Merger, which was 0.2857 (the “Conversion Ratio”), rounded to the next lower whole share. The exercise price was determined by dividing the exercise price per share of Liberty common stock by the Conversion Ratio, rounded up to the nearest cent. At the effective time of the merger between the Company and Liberty in 2018 (the “Liberty Merger”) there were 48,225 options outstanding at an exercise price of $1.18. These shares were converted to 13,771 options outstanding at an exercise price of $4.14.

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A summary of stock option transactions with respect to such options for the nine months ended September 30, 2022 is as follows:


	September 30, 2022
				Weighted
			Weighted	Average
			Average	Remaining
			Exercise	Contractual		Intrinsic
	Shares		Price	Life		Value
Outstanding at beginning of period	5,761	$	4.14	1.23
Granted	—		—	—
Exercised	(1,028)		4.14	—
Forfeited	—		—	—
Outstanding at end of period	4,733	$	4.14	0.48	$	22,482

Options exercisable at September 30, 2022	4,733	$	4.14

Virginia Partners Bank Stock Option Plan

In 2015 Partners adopted the 2015 Stock Option Plan (the “2015 Partners Plan”), which allowed both incentive stock options and nonqualified stock options to be granted. The exercise price of each stock option equaled the market price of Partners' common stock on the date of grant and a stock option’s maximum term was 10 years. Stock options granted in the years ended December 31, 2018 and 2017 vested over 3 years. Partners’ previous stock compensation plan (the “2008 Partners Plan”) provided for the grant of share based awards in the form of incentive stock options and nonqualified stock options to Partners’ directors, officers and employees. In April 2015, the 2008 Partners Plan was terminated and replaced with the 2015 Partners Plan. Stock options outstanding prior to April 2015 were granted under the 2008 Partners Plan and became subject to the provisions of the 2015 Partners Plan. The 2008 Partners Plan also provided for stock options to be granted to seed investors as a reward for the contribution to organizational funds which were at risk if Partners’ organization had not been successful. Under the 2008 Partners Plan, Partners granted stock options to seed investors in 2008, which were fully vested upon the date of the grant.

As a result of the acquisition of Partners in 2019 through an exchange of shares in an all stock transaction (the “Share Exchange”), each stock option (the "Partners Options"), whether vested or unvested, issued and outstanding immediately prior to the effective time under the 2008 Partners Plan or the 2015 Partners Plan and together with the 2008 Partners Plan, (the "Partners Stock Plans"), immediately 100% vested, to the extent not already vested, and converted into and became stock options to purchase Company common stock. In addition, the Company assumed each Partners Stock Plan, and assumed each Partners Option in accordance with the terms and conditions of the Partners Stock Plans pursuant to which it was issued. As such, Partners Options to acquire 149,200 shares of Partners’ common stock at a weighted average exercise price of $10.52 per share were converted into stock options to acquire 256,294 shares of the Company’s common stock at a weighted average exercise price of $6.13 per share. The number of shares was determined by multiplying the number of shares of Partners’ common stock for which the option was exercisable by the number of shares of the Company common stock into which shares of Partners common stock were convertible in the Share Exchange, which was 1.7179 (the “Conversion Ratio”), rounded to the next lower whole share. The exercise price was determined by dividing the exercise price per share of Partners common stock by the Conversion Ratio, rounded up to the nearest cent.

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A summary of stock option transactions with respect to such options for the nine months ended September 30, 2022 is as follows:


	September 30, 2022
				Weighted
			Weighted	Average
			Average	Remaining
			Exercise	Contractual		Intrinsic
	Shares		Price	Life		Value
Outstanding at beginning of period	128,147	$	6.40	3.18
Granted	—		—	—
Exercised	(19,067)		5.83	—
Forfeited	(8,588)		6.48	—
Outstanding at end of period	100,492	$	6.50	2.76	$	240,168

Options exercisable at September 30, 2022	100,492	$	6.50

The intrinsic value represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock options exceeds the exercise price) that would have been received by the holders had they exercised their stock options on September 30, 2022.

As stated in Note 1 – Nature of Business and Its Significant Accounting Policies, the Company follows ASC 718-10 which requires that stock-based compensation to employees and directors be recognized as compensation cost in the income statement based on their fair values on the measurement date, which, for the Company, is the date of the grant. All stock option expenses had been fully recognized prior to 2020. As such, there was no expense recorded related to stock options during the three and nine months ended September 30, 2022 and 2021.

Note 7. Restricted Stock Plan

The Company had an employee and director restricted stock plan (the “Company Plan”) and reserved 405,805 shares of stock for issuance thereunder. The Company adopted the Company Plan, pursuant to which employee and directors of the Company could acquire shares of common stock. The Company Plan was adopted by the Company’s Board of Directors in April 2014, and subject to the right of the Board of Directors to terminate the Company Plan at any time, terminated on June 30, 2018. The termination of the Company Plan, either at the scheduled termination date or before such date, did not affect any award issued prior to termination. During the years ended December 31, 2017 and 2018, the Company awarded 5,000 and 9,000 shares, respectively, to individual employees based on certain employment criteria. These shares vested over two or three years, based on the specific employment agreement. Each award from the plan is evidenced by an award agreement that specifies the vesting period of the restricted stock plan, the number of shares to which the award pertains, and such other provisions as the grantor determines.

As of September 30, 2022, there were no remaining non-vested restricted stock awards under the Company Plan.

As stated in Note 1 – Nature of Business and Its Significant Accounting Policies, the Company follows ASC 718-10 which requires that restricted stock-based compensation to employees and directors be recognized as compensation cost in the income statement based on their fair values on the measurement date. The fair value of restricted stock granted was equal to the underlying fair value of the stock. The Company did not have any unrecognized restricted stock-based compensation expense related to restricted stock awards under the Company Plan during the three or nine months ended September 30, 2022. As a result of applying the provisions of ASC 718-10, during the nine months ended September 30, 2021, the Company recognized restricted stock-based compensation expense of $4 thousand, or $3 thousand net of tax, related to the restricted stock awards under the Company Plan. No restricted stock-based compensation expense was recognized during the three months ended September 30, 2021.

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Note 8. Incentive Stock Plan

At the 2021 annual meeting of shareholders held on May 19, 2021 (the “2021 Annual Meeting”), the Company’s shareholders approved the Partners Bancorp 2021 Incentive Stock Plan (the “2021 Incentive Stock Plan”), which the Company’s Board of Directors had adopted, subject to shareholder approval, on January 27, 2021, based on the recommendation of the Compensation Committee of the Company’s Board of Directors (the “Committee”). The 2021 Incentive Stock Plan became effective upon shareholder approval at the 2021 Annual Meeting. The 2021 Incentive Stock Plan authorizes the granting of stock options, stock appreciation rights, restricted stock, restricted stock units, stock awards and performance units to key employees and non-employee directors, including members of advisory boards, of the Company and certain of its subsidiaries, as determined by the Committee. Subject to the right of the Board of Directors to terminate the 2021 Incentive Stock Plan at any time, awards may be granted under the 2021 Incentive Stock Plan until May 18, 2031. Subject to adjustment in the event of certain changes in the Company’s capital structure, the maximum number of shares of the Company’s common stock that may be issued under the 2021 Incentive Stock Plan is 1,250,000.

On April 28, 2021, the Company’s Board of Directors granted 58,824 shares of restricted stock to two senior officers of Partners in accordance with Nasdaq Listing Rule 5635(c)(4) as inducements material to each of them accepting employment with Partners. All of these shares were subject to time vesting in three equal annual installments beginning on April 28, 2022. On December 10, 2021, in accordance with the terms and conditions set forth in the definitive agreement and plan of merger with OceanFirst Financial Corp. (“OCFC”), the Company’s Board of Directors approved to immediately vest these outstanding and unvested awards. The accelerated vesting of these awards was not contingent upon the merger closing. Each grantee irrevocably and unconditionally covenanted and agreed to not transfer, convey or sell any share of Company common stock, along with certain other terms, in respect of such accelerated vesting of the restricted stock awards.

On October 12, 2021, the Company’s Board of Directors granted 68,000 shares of restricted stock to employees of Partners under the 2021 Incentive Stock Plan. All of these shares were subject to time vesting in three equal annual installments beginning on June 1, 2022. On December 10, 2021, in accordance with the terms and conditions set forth in the definitive agreement and plan of merger with OCFC, the Company’s Board of Directors approved to immediately vest 40,000 of these outstanding and unvested awards. The accelerated vesting of these awards was not contingent upon the merger closing. Each grantee of awards that were subject to the accelerated vesting provisions irrevocably and unconditionally covenanted and agreed to not transfer, convey or sell any share of Company common stock, along with certain other terms, in respect of such accelerated vesting of the restricted stock awards.

On October 27, 2021, the Company’s Board of Directors granted 27,000 shares of restricted stock to a director of the Company and Partners under the 2021 Incentive Stock Plan. All of these shares were subject to time vesting in three equal annual installments beginning on June 1, 2022. On December 10, 2021, in accordance with the terms and conditions set forth in the definitive agreement and plan of merger with OCFC, the Company’s Board of Directors approved to immediately vest these outstanding and unvested awards. The accelerated vesting of these awards was not contingent upon the merger closing. The grantee irrevocably and unconditionally covenanted and agreed to not transfer, convey or sell any share of Company common stock, along with certain other terms, in respect of such accelerated vesting of the restricted stock awards.

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As of September 30, 2022, there were 18,669 non-vested shares related to restricted stock awards. A schedule of non-vested shares related to restricted stock awards as of September 30, 2022 is as follows:


	Employees
		Weighted
		Average
	Shares	Fair Value
Nonvested Awards December 31, 2021	28,000	$	8.99
Awarded in 2022	—		—
Vested in 2022	(9,331)		8.99
Nonvested Awards September 30, 2022	18,669	$	8.99

As a result of applying the provisions of ASC 718-10, during the three and nine months ended September 30, 2022, the Company recognized restricted stock-based compensation expense of $24 thousand, or $17 thousand net of tax, and $71 thousand, or $52 thousand net of tax, respectively, related to the restricted stock awards. As a result of applying the provisions of ASC 718-10, during the three and nine months ended September 30, 2021, the Company recognized restricted stock-based compensation expense of $37 thousand, or $28 thousand net of tax, and $62 thousand, or $46 thousand net of tax, respectively, related to the restricted stock awards. Restricted stock-based compensation expense is accounted for using the fair value of the Company’s common stock on the date the restricted shares were awarded, which was $7.65 for the awards granted on April 28, 2021, $8.99 for the awards granted on October 12, 2021, and $8.72 for the awards granted on October 27, 2021. Unrecognized restricted stock-based compensation expense related to the restricted stock awards totaled approximately $157 thousand at September 30, 2022. The remaining period over which this unrecognized restricted stock-compensation expense is expected to be recognized is approximately 1.7 years.

Note 9. Earnings Per Share

Basic earnings per share (“EPS”) is computed by dividing net income or loss by the weighted average number of shares outstanding during the period. Diluted EPS is computed using the weighted average number of shares outstanding during the period, including the effect of all potentially dilutive shares outstanding attributable to stock instruments.

Applicable guidance requires that outstanding, unvested share-based payment awards that contain voting rights and rights to nonforfeitable dividends participate in undistributed earnings with common shareholders. Accordingly, the weighted average number of shares of the Company’s common stock used in the calculation of basic and diluted net income per common share includes unvested shares of the Company’s outstanding restricted common stock.

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The following table presents basic and diluted EPS for the three and nine months ended September 30, 2022 and 2021:


	Net Income Applicable
	to Basic Earnings		Weighted Average
(Dollars in thousands, except per share data)	Per Common Share		Shares Outstanding
For the three months ended September 30, 2022
Basic EPS	$	4,110		17,962	$	0.229
Effect of dilutive stock awards		—		32		—
Diluted EPS	$	4,110		17,994	$	0.228

For the nine months ended September 30, 2022
Basic EPS	$	9,398		17,961	$	0.523
Effect of dilutive stock awards		—		34		—
Diluted EPS	$	9,398		17,995	$	0.522


For the three months ended September 30, 2021
Basic EPS	$	2,696		17,788	$	0.152
Effect of dilutive stock awards		—		56		—
Diluted EPS	$	2,696		17,844	$	0.151

For the nine months ended September 30, 2021
Basic EPS	$	5,946		17,758	$	0.335
Effect of dilutive stock awards		—		42		—
Diluted EPS	$	5,946		17,800	$	0.334

Note 10. Regulatory Capital Requirements

The Company’s Subsidiaries are subject to various regulatory capital requirements administered by Federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company’s Subsidiaries must meet specific capital adequacy guidelines that involve quantitative measures of the Company’s Subsidiaries’ assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s Subsidiaries’ capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weighting, and other factors. Federal banking regulations also impose regulatory capital requirements on bank holding companies. Under the small bank holding company policy statement of the Federal Reserve Board, which applies to certain bank holding companies with consolidated total assets of less than $3 billion, the Company is not subject to regulatory capital requirements.

On September 17, 2019 the Federal Deposit Insurance Corporation (“FDIC”) finalized a rule that introduces an optional simplified measure of capital adequacy for qualifying community banking organizations (i.e., the community bank leverage ratio (CBLR) framework), as required by the Economic Growth, Regulatory Relief and Consumer Protection Act. The CBLR framework is designed to reduce burden by removing the requirements for calculating and reporting risk-based capital ratios for qualifying community banking organizations that opt into the framework.

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In order to qualify for the CBLR framework, a community banking organization must have a Tier 1 leverage ratio of at least 9 percent, less than $10 billion in total consolidated assets, and limited amounts of off-balance-sheet exposures and trading assets and liabilities. A qualifying community banking organization that opts into the CBLR framework and meets all requirements under the framework will be considered to have met the well-capitalized ratio requirements under the Prompt Corrective Action regulations and will not be required to report or calculate risk-based capital. The Company has elected not to opt into the CBLR framework at this time.

Quantitative measures established by regulation to ensure capital adequacy require the Company’s Subsidiaries to maintain minimum amounts and ratios (as defined in the regulations) of total and Tier 1 capital to risk-weighted assets, Tier 1 capital to average assets, and common equity Tier 1 capital to risk-weighted assets. Management believes as of September 30, 2022 that the Company’s Subsidiaries met all capital adequacy requirements to which they are subject.

As of September 30, 2022, the most recent notification from the FDIC categorized the Company’s Subsidiaries as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Company’s Subsidiaries must maintain minimum total risk-based, Tier 1 risk-based, Tier 1 leverage and common equity Tier 1 risk-based ratios. There are no conditions or events since that notification that management believes have changed the Company’s Subsidiaries’ categories.

The Common Equity Tier 1, Tier 1 and Total capital ratios are calculated by dividing the respective capital amounts by risk-weighted assets. Risk-weighted assets are calculated based on regulatory requirements and include total assets, with certain exclusions, allocated by risk weight category, and certain off-balance-sheet items, among other things. The leverage ratio is calculated by dividing Tier 1 capital by adjusted quarterly average total assets, which exclude goodwill and other intangible assets, among other things.

The Basel III Capital Rules require the Company’s Subsidiaries to maintain (i) a minimum ratio of Common Equity Tier 1 capital to risk-weighted assets of at least 4.5%, plus a 2.5% “capital conservation buffer” (which is added to the 4.5% Common Equity Tier 1 capital ratio, effectively resulting in a minimum ratio of Common Equity Tier 1 capital to risk-weighted assets of at least 7.0%), (ii) a minimum ratio of Tier 1 capital to risk-weighted assets of at least 6.0%, plus the capital conservation buffer (which is added to the 6.0% Tier 1 capital ratio, effectively resulting in a minimum Tier 1 capital ratio of 8.5%), (iii) a minimum ratio of Total capital (that is, Tier 1 capital plus Tier 2 capital) to risk-weighted assets of at least 8.0%, plus the capital conservation buffer (which is added to the 8.0% Total capital ratio, effectively resulting in a minimum Total capital ratio of 10.5%) and (iv) a minimum leverage ratio of 4.0%, calculated as the ratio of Tier 1 capital to average quarterly assets.

The implementation of the capital conservation buffer became fully phased in on January 1, 2019. The capital conservation buffer is designed to absorb losses during periods of economic stress and, as detailed above, effectively increases the minimum required risk-weighted capital ratios. Banking institutions with a ratio of Common Equity Tier 1 capital to risk-weighted assets below the effective minimum (4.5% plus the capital conservation buffer and, if applicable, the countercyclical capital buffer) will face constraints on dividends, equity repurchases and compensation based on the amount of the shortfall.

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The following table presents actual and required capital ratios as of September 30, 2022 and December 31, 2021 for the Company’s Subsidiaries under the Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as of September 30, 2022 and December 31, 2021 based on the fully phased-in provisions of the Basel III Capital Rules. Capital levels required to be considered well capitalized are based on prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules. A comparison of the Company’s Subsidiaries’ capital amounts and ratios as of September 30, 2022 and December 31, 2021 with the minimum requirements are presented below.


									To Be
									Well Capitalized
					For Capital				Under Prompt
					Adequacy				Corrective Action
In Thousands	Actual				Purposes				Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
As of September 30, 2022
Total Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva	$	95,924	13.0	%	$	77,304	10.5	%	$	73,623	10.0	%
Virginia Partners Bank		62,076	11.4	%		57,233	10.5	%		54,508	10.0	%
Tier 1 Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		86,715	11.8	%		62,580	8.5	%		58,898	8.0	%
Virginia Partners Bank		57,718	10.6	%		46,332	8.5	%		43,606	8.0	%
Common Equity Tier I Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		86,715	11.8	%		51,536	7.0	%		47,855	6.5	%
Virginia Partners Bank		57,718	10.6	%		38,156	7.0	%		35,430	6.5	%
Tier 1 Leverage Ratio
(To Average Assets)
The Bank of Delmarva		86,715	8.7	%		39,916	4.0	%		49,895	5.0	%
Virginia Partners Bank		57,718	8.6	%		26,772	4.0	%		33,465	5.0	%

As of December 31, 2021
Total Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva	$	91,928	12.9	%	$	74,963	10.5	%	$	71,394	10.0	%
Virginia Partners Bank		56,192	12.0	%		49,103	10.5	%		46,765	10.0	%
Tier 1 Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		82,972	11.6	%		60,684	8.5	%		57,115	8.0	%
Virginia Partners Bank		52,844	11.3	%		39,750	8.5	%		37,412	8.0	%
Common Equity Tier I Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		82,972	11.6	%		49,975	7.0	%		46,406	6.5	%
Virginia Partners Bank		52,844	11.3	%		32,735	7.0	%		30,397	6.5	%
Tier 1 Leverage Ratio
(To Average Assets)
The Bank of Delmarva		82,972	8.1	%		40,926	4.0	%		51,158	5.0	%
Virginia Partners Bank		52,844	8.5	%		25,009	4.0	%		31,261	5.0	%

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Banking regulations also limit the amount of dividends that may be paid without prior approval of the Company’s regulatory agencies. Regulatory approval is required to pay dividends, which exceed the Company’s and its Subsidiaries’ net profits for the current year plus its retained net profits for the preceding two years. At September 30, 2022 and December 31, 2021, approximately $17.6 million and $14.2 million, respectively, was available for the payment of dividends to stockholders by the Company without regulatory approval. Dividends from the Subsidiaries to the Company are also limited by the amount of retained net profits of the Subsidiaries in the current year and the preceding two years. At September 30, 2022 and December 31, 2021, approximately $21.0 million and $17.9 million, respectively, was available for payment of dividends to the Company from the Subsidiaries without regulatory approval.

Note 11. Fair Values of Financial Instruments

FASB ASC 825, Financial Instruments (“ASC 825”) requires disclosure about fair value of financial instruments, including those financial assets and financial liabilities that are not required to be measured and reported at fair value on a recurring or nonrecurring basis. ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company. Additionally, in accordance with ASU 2016-01, the Company uses the exit price notion, rather than the entry price notion, in calculating the fair values of financial instruments not measured at fair value on a recurring basis.

The estimated fair values, and related carrying amounts, of the Company’s financial instruments are as follows:


Dollars are in thousands			Fair Value Measurements at September 30, 2022
			Quoted Prices in		Significant		Significant
			Active Markets for		Other		Unobservable
	Carrying		Identical Assets		Observable Inputs		Inputs
	Amount		(Level 1)		(Level 2)		(Level 3)		Balance
Financial assets:
Cash and due from banks	$	12,784	$	12,784	$	—	$	—	$	12,784
Interest bearing deposits		210,935		210,935		—		—		210,935
Federal funds sold		24,573		24,573		—		—		24,573
Securities:
Available for sale		131,465		—		131,465		—		131,465
Loans held for sale		201		—		201		—		201
Loans, net of allowance for credit losses		1,190,142		—		—		1,119,240		1,119,240
Accrued interest receivable		4,035		—		4,035		—		4,035
Restricted stock		4,889		—		4,889		—		4,889
Other investments		4,864		—		4,864		—		4,864
Bank owned life insurance		18,592		—		18,592		—		18,592
Financial liabilities:
Deposits	$	1,455,944	$	—	$	1,152,907	$	294,000	$	1,446,907
Accrued interest payable on deposits		189		—		189		—		189
FHLB advances		25,819		—		24,934		—		24,934
Subordinated notes payable		22,203		—		26,506		—		26,506
Other borrowings		811		—		—		811		811

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Dollars are in thousands			Fair Value Measurements at December 31, 2021
			Quoted Prices in		Significant		Significant
			Active Markets for		Other		Unobservable
	Carrying		Identical Assets		Observable Inputs		Inputs
	Amount		(Level 1)		(Level 2)		(Level 3)		Balance
Financial assets:
Cash and due from banks	$	12,887	$	12,887	$	—	$	—	$	12,887
Interest bearing deposits		297,902		297,902		—		—		297,902
Federal funds sold		28,040		28,040		—		—		28,040
Securities:
Available for sale		122,021		—		122,021		—		122,021
Loans held for sale		4,064		—		4,064		—		4,064
Loans, net of allowance for credit losses		1,102,539		—		—		1,089,812		1,089,812
Accrued interest receivable		4,313		—		4,313		—		4,313
Restricted stock		4,869		—		4,869		—		4,869
Other investments		5,065		—		5,065		—		5,065
Bank owned life insurance		18,254		—		18,254		—		18,254
Other real estate owned		837		—		—		837		837
Financial liabilities:
Deposits	$	1,442,876	$	—	$	1,063,619	$	380,245	$	1,443,864
Accrued interest payable on deposits		280		—		280		—		280
FHLB advances		26,313		—		27,007		—		27,007
Subordinated notes payable		22,168		—		30,091		—		30,091
Other borrowings		755		—		—		755		755

The Company assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair values of the Company’s financial instruments will change when interest rate levels change and that change may be either favorable or unfavorable to the Company. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to repay in a rising rate environment and more likely to prepay in a falling rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment. Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Company's overall interest rate risk.

Note 12. Fair Value Measurements

The Company follows ASC 820-10 Fair Value Measurements and Disclosures (“ASC 820-10”), which provides a framework for measuring and disclosing fair value under generally accepted accounting principles. ASC 820-10 requires disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether the measurements are made on a recurring basis (for example, available for sale investment securities) or on a nonrecurring basis (for example, impaired loans).

ASC 820-10 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820-10 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value.

Fair Value Hierarchy

In accordance with this guidance, the Company groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

Level 1 - Valuation is based on quoted prices in active markets for identical assets and liabilities.

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Level 2 - Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.

Level 3 - Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market.

The following describes the valuation techniques used by the Company to measure certain financial assets recorded at fair value on a recurring basis in the financial statements:

Investment Securities Available for Sale:

Investment securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted market prices, when available (Level 1). If quoted market prices are not available, fair values are measured utilizing independent valuation techniques of identical or similar securities for which significant assumptions are derived primarily from or corroborated by observable market data. Third party vendors compile prices from various sources and may determine the fair value of identical or similar securities by using pricing models that consider observable market data (Level 2). In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. Currently, all of the Company’s investment securities available for sale are considered to be Level 2 securities.

The following table presents the balances of financial assets measured at fair value on a recurring basis as of September 30, 2022 and December 31, 2021:


							Fair
Dollars are in thousands	Level 1		Level 2		Level 3		Value
September 30, 2022
Securities available for sale:
Obligations of U.S. Government agencies and corporations	$	—	$	13,502	$	—	$	13,502
Obligations of States and political subdivisions		—		25,619		—		25,619
Mortgage-backed securities		—		89,939		—		89,939
Subordinated debt investments		—		2,405		—		2,405
Total securities available for sale	$	—	$	131,465	$	—	$	131,465
December 31, 2021
Securities available for sale:
Obligations of U.S. Government agencies and corporations	$	—	$	6,451	$	—	$	6,451
Obligations of States and political subdivisions		—		31,126		—		31,126
Mortgage-backed securities		—		82,403		—		82,403
Subordinated debt investments		—		2,041		—		2,041
Total securities available for sale	$	—	$	122,021	$	—	$	122,021

Certain financial assets are measured at fair value on a nonrecurring basis in accordance with U.S. GAAP. Adjustments to the fair value of these financial assets usually result from the application of lower of cost or market accounting or write-downs of individual assets.

The following describes the valuation techniques used by the Company to measure certain financial assets recorded at fair value on a nonrecurring basis in the financial statements:

Loans Held for Sale:

Loans held for sale are loans originated by JMC for sale in the secondary market. Loans originated for sale by JMC are recorded at lower of cost or market. No market adjustments were required at September 30, 2022; therefore,

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loans held for sale were carried at cost. Because of the short-term nature, the book value of these loans approximates fair value at September 30, 2022.

Impaired Loans:

Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected when due. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing a market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Company using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate property is over two years old, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’s financial statements if not considered significant. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Impaired loans allocated to the allowance for credit losses are measured at fair value on a nonrecurring basis. Any fair value adjustments are recorded in the period incurred as a provision for credit losses on the consolidated statement of income.

Other Real Estate Owned:

OREO is measured at fair value less cost to sell, based on an appraisal conducted by an independent, licensed appraiser outside of the Company. If the collateral value is significantly adjusted due to differences in the comparable properties, or is discounted by the Company because of marketability, then the fair value is considered Level 3. OREO is measured at fair value on a nonrecurring basis. Any initial fair value adjustment is charged against the allowance for credit losses. Subsequent fair value adjustments are recorded in the period incurred and included in other noninterest expense on the consolidated statement of income.

The following table presents the balances of financial assets measured at fair value on a nonrecurring basis as of September 30, 2022 and December 31, 2021.


							Fair
Dollars are in thousands	Level 1		Level 2		Level 3		Value
September 30, 2022
Impaired loans	$	—	$	—	$	3,216	$	3,216
Total	$	—	$	—	$	3,216	$	3,216
December 31, 2021
Impaired loans	$	—	$	—	$	4,653	$	4,653
OREO		—		—		837		837
Total	$	—	$	—	$	5,490	$	5,490

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The following tables present additional quantitative information about financial assets measured at fair value on a nonrecurring basis and for which the Company has utilized Level 3 inputs to determine fair value as of September 30, 2022 and December 31, 2021:


September 30, 2022			Valuation	Unobservable	Range of
Dollars are in thousands	Fair Value		Technique	Inputs	Inputs
Impaired loans	$	3,216	Appraisals	Discount to reflect current market conditions and estimated selling costs	8%
Total	$	3,216


December 31, 2021			Valuation	Unobservable	Range of
Dollars are in thousands	Fair Value		Technique	Inputs	Inputs
Impaired loans	$	4,653	Appraisals	Discount to reflect current market conditions and estimated selling costs	8%
OREO		837	Appraisals or Listing Price	Discount to reflect current market conditions and estimated selling costs	8-10%
Total	$	5,490

Note 13. Goodwill and Intangible Assets

The Company accounts for goodwill and other intangible assets in accordance with ASC Topic 350, Intangibles—Goodwill and Other (“ASC 350”). The Company records goodwill when the purchase price of an acquired entity is greater than the fair value of the identifiable tangible and intangible assets acquired minus the liabilities assumed. The Company amortizes acquired intangible assets with definite useful economic lives over their useful economic lives. On a periodic basis, management assesses whether events or changes in circumstances indicate that the carrying amount of the intangible assets may be impaired. The Company does not amortize goodwill or any acquired intangible assets with an indefinite useful economic life, but reviews them for impairment on an annual basis, or when events or changes in circumstances indicate that the carrying amounts may be impaired. The Company has performed the required goodwill impairment test and has determined that goodwill was not impaired as of September 30, 2022 or December 31, 2021.

Goodwill: The Company acquired goodwill in the purchases of Liberty, which was effective in 2018, and Partners, which was effective in 2019. There were no changes to goodwill during the three and nine month periods ended September 30, 2022 and the year ended December 31, 2021.

Core Deposit Intangible: The Company acquired core deposit intangibles in the acquisitions of Liberty and Partners. For the core deposit intangible related to Liberty, the Company utilizes the double declining balance method of amortization, in which the straight line amortization rate is doubled and applied to the remaining unamortized portion of the intangible asset. The amortization method changes to the straight line method of amortization when the straight line amortization amount exceeds the amount that would be calculated under the double declining balance method. This core deposit intangible will be amortized over seven years. For the core deposit intangible related to Partners, the Company utilizes the sum of months method and an estimated average life of 120 months.

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The following table provides changes for the nine months ended September 30, 2022, and the year ended December 31, 2021:


	September 30,		December 31,
Dollars in Thousands	2022		2021
Balance at the beginning of the period	$	2,060	$	2,660
Amortization		(394)		(600)
Balance at the end of the period	$	1,666	$	2,060

The following table provides the remaining amortization expense for the core deposit intangible over the years indicated below:


	September 30,
Dollars in Thousands	2022
2022	$	125
2023		467
2024		415
2025		246
2026		182
Thereafter		231
	$	1,666

Net Deposits Purchased Premium and Discount: The Company paid a deposit premium in the acquisition of Liberty and received a deposit discount in the acquisition of Partners, which are included in the balances of time deposits on the consolidated balance sheets. The deposit premium is amortized as a reduction in interest expense over the life of the acquired time deposits and the deposit discount is accreted as an increase in interest expense over the life of the acquired time deposits. The premium and discount on acquired time deposits will both be amortized and accreted over approximately five years.

The following table provides changes in the net deposit discount for the nine months ended September 30, 2022 and the year ended December 31, 2021:


	September 30,		December 31,
Dollars in Thousands	2022		2021
Balance at the beginning of the period	$	(9)	$	(23)
Accretion, net		6		14
Balance at the end of the period	$	(3)	$	(9)

The following table provides the remaining accretion for the net deposit discount over the years indicated below:


	September 30,
Dollars in Thousands	2022
2022	$	1
2023		2
	$	3

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The net effect of the amortization of premiums and accretion of discounts associated with the Company’s acquisition accounting adjustments to assets acquired and liabilities assumed had the following impact on the consolidated statement of income for the periods indicated below:


	September 30,		September 30,
	2022		2021
Nine Months Ended	Dollars in Thousands
Adjustments to net income
Loans (1)	$	566	$	1,149
Time deposits (2)		(6)		(11)
Core deposit intangible (3)		(394)		(455)
Note Payable (4)		(3)		(4)
Net impact to income before taxes	$	163	$	679

(1)	Loan discount accretion is included in the "Loans, including fees" section of "Interest Income" in the Consolidated Statements of Income.

(2)	Time deposit discount accretion is included in the "Deposits" section of "Interest Expense" in the Consolidated Statements of Income.

(3)	Core deposit intangible premium amortization is included in the "Other Expenses" section of "Non-interest Expense" in the Consolidated Statements of Income.

(4)	Note payable discount accretion is included in the "Borrowings" section of "Interest Expense" in the Consolidated Statements of Income.

Note 14. Revenue Recognition

The Company follows ASU No. 2014-09 Revenue from Contracts with Customers (“Topic 606”) and all subsequent ASUs that modified Topic 606. Topic 606 does not apply to revenue associated with financial instruments, including revenue from loans and securities. Topic 606 is applicable to noninterest revenue streams such as deposit related fees, interchange fees and merchant income. However, the recognition of these revenue streams did not change significantly upon adoption of Topic 606. Substantially all of the Company’s revenue is generated from contracts with customers. Noninterest revenue streams in-scope of Topic 606 are discussed below.

Service Charges on Deposit Accounts

Service charges on deposit accounts consist of account analysis fees (i.e., net fees earned on analyzed business and public checking accounts), monthly service fees, check orders, and other deposit account related fees. The Company’s performance obligation for account analysis fees and monthly service fees is generally satisfied, and the related revenue recognized, over the period in which the service is provided.

Check orders and other deposit account related fees are largely transactional based, and therefore, the Company’s performance obligation is satisfied, and related revenue recognized, at a point in time. Payment for service charges on deposit accounts is primarily received immediately or at the end of the month through a direct charge to customers’ accounts.

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Other Noninterest Income

Other noninterest income consists of: fees, exchange, other service charges, safe deposit box rental fees, and other miscellaneous revenue streams. Fees and other service charges are primarily comprised of debit and credit card income, ATM fees, merchant services income, and other service charges. Debit and credit card income is primarily comprised of interchange fees earned whenever the Company’s debit and credit cards are processed through card payment networks such as Visa. ATM fees are primarily generated when a Company cardholder uses a non-Company ATM or a non-Company cardholder uses a Company ATM. Merchant services income mainly represents fees charged to merchants to process their debit and credit card transactions, in addition to account management fees. Other service charges include revenue from processing wire transfers, bill pay service, cashier’s checks, and other services. The Company’s performance obligation for fees, exchange, and other service charges are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payment is typically received immediately or in the following month. Safe deposit box rental fees are charged to the customer on an annual basis and recognized upon receipt of payment.

Gain or loss on sale or disposal of other assets

Gain or loss on sale of fixed assets is recorded when control of the property transfers to the buyer. Gain or loss on disposal of fixed assets is recorded when the asset is determined to no longer be in service.

Gain or loss on sale of other real estate owned

Gain or loss on sale of foreclosed properties is recorded when control of the property transfers to the buyer, which generally occurs at the time of transfer of the deed. If the Company finances the sale of a foreclosed property to the buyer, we assess whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the foreclosed property is derecognized and the gain or loss on sale is recorded upon transfer of control of the property to the buyer.

Note 15. Transaction with OceanFirst Financial Corporation

On November 4, 2021, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with OCFC and Coastal Merger Sub Corp., a Maryland corporation and a direct wholly owned subsidiary of OCFC (“Merger Sub”). Pursuant to the Merger Agreement, the Company was to be acquired by OCFC in a transaction whereby each share of Company common stock issued and outstanding immediately prior to the effective time, other than Exception Shares (as defined in the Merger Agreement), would be converted into the right to receive either (a) 0.4512 shares of common stock, par value $0.01 per share, of OCFC or (b) $10.00, in each case, at the election of the holder of the Company’s common stock, subject to (x) a maximum of forty percent (40%) of the shares of the Company’s common stock being convertible into cash and (y) the allocation and proration provisions of the Merger Agreement.

On November 9, 2022, the Company and OCFC entered into a Mutual Termination Agreement (the “Termination Agreement”) pursuant to which, among other things, the parties mutually agreed to terminate the Merger Agreement and transactions completed thereby. Each party will bear its own costs and expenses in connection with the terminated transaction, and neither party will pay a termination fee in connection with the termination of the Merger Agreement. The Termination Agreement also mutually releases the parties from any claims of liability to one another relating to the Merger Agreement and the terminated transaction.

Note 16. Recent Accounting Pronouncements

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses” (“Topic 326”): Measurement of Credit Losses on Financial Instruments” (“Topic 326”). The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss

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estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The FASB has issued multiple updates to ASU No. 2016-13 as codified in Topic 326, including ASUs 2019-04, 2019-05, 2019-10, 2019-11, 2020-02, and 2020-03. These ASU’s have provided for various minor technical corrections and improvements to the codification as well as other transition matters. Smaller reporting companies who file with the U.S. Securities and Exchange Commission (“SEC”) and all other entities who do not file with the SEC are required to apply the guidance for fiscal years, and interim periods within those years, beginning after December 15, 2022. The Company is currently evaluating the potential impact of ASU No. 2016-13 on our consolidated financial statements. We are currently working through our implementation plan which includes assessment and documentation of processes, internal controls and data sources; model development and documentation; and systems configuration, among other things. We are also in the process of working with our third-party vendor to assist us in the application of the ASU No. 2016-13.

The adoption of ASU No. 2016-13 could result in an increase in the allowance for credit losses as a result of changing from an “incurred loss” model, which encompasses allowances for current known and inherent losses within the portfolio, to an “expected loss” model, which encompasses allowances for losses expected to be incurred over the life of the portfolio. Furthermore, ASU No. 2016-13 will necessitate that we establish an allowance for expected credit losses for certain debt securities and other financial assets. While we are currently unable to reasonably estimate the impact of adopting ASU No. 2016-13, we expect that the impact of adoption will be significantly influenced by the composition, characteristics and quality of our loan and securities portfolios as well as the prevailing economic conditions and forecasts as of the adoption date.

Effective November 25, 2019, the SEC adopted Staff Accounting Bulletin (“SAB”) 119. SAB 119 updated portions of SEC interpretative guidance to align with ASC Topic 326. It covers topics including (1) measuring current expected credit losses; (2) development, governance, and documentation of a systematic methodology; (3) documenting the results of a systematic methodology; and (4) validating a systematic methodology.

In March 2020, the FASB issued ASU No. 2020-04 “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting” (“Topic 848”). These amendments provide temporary optional guidance to ease the potential burden in accounting for reference rate reform. The ASU provides optional expedients and exceptions for applying generally accepted accounting principles to contract modifications and hedging relationships, subject to meeting certain criteria, that reference LIBOR or another reference rate expected to be discontinued. It is intended to help stakeholders during the global market-wide reference rate transition period. The guidance is effective for all entities as of March 12, 2020 through December 31, 2022. Subsequently, in January 2021, the FASB issued ASU No. 2021-01 “Reference Rate Reform (Topic 848): Scope”. This ASU clarifies that certain optional expedients and exceptions in Topic 848 for contract modifications and hedge accounting apply to derivatives that are affected by the discounting transition. The ASU also amends the expedients and exceptions in Topic 848 to capture the incremental consequences of the scope clarification and to tailor the existing guidance to derivative instruments affected by the discounting transition. An entity may elect to apply ASU No. 2021-01 on contract modifications that change the interest rate used for margining, discounting, or contract price alignment retrospectively as of any date from the beginning of the interim period that includes March 12, 2020, or prospectively to new modifications from any date within the interim period that includes or is subsequent to January 7, 2021, up to the date that financial statements are available to be issued. An entity may elect to apply ASU No. 2021-01 to eligible hedging relationships existing as of the beginning of the interim period that includes March 12, 2020, and to new eligible hedging relationships entered into after the beginning of the interim period that includes March 12, 2020. The Company is assessing ASU 2020-04 and its impact on the Company’s transition away from LIBOR for its loan and other financial instruments, and is currently evaluating the effect that ASU 2020-04 will have on the Company’s consolidated financial statements.

In August 2020, the FASB issued ASU No. 2020-06 “Debt – Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging – Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity.” The ASU simplifies accounting for convertible instruments by removing major separation models required under current U.S. GAAP. Consequently, more convertible debt instruments will be reported as a single liability instrument and more convertible preferred stock as a single equity instrument with no separate accounting for embedded conversion features. The ASU removes certain settlement

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conditions that are required for equity contracts to qualify for the derivative scope exception, which will permit more equity contracts to qualify for it. The ASU also simplifies the diluted EPS calculation in certain areas. In addition, the amendment updates the disclosure requirements for convertible instruments to increase the information transparency. For public business entities, excluding smaller reporting companies, the amendments in the ASU are effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years. For all other entities, the standard will be effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2020-06 to have a material impact on its consolidated financial statements.

In May 2021, the FASB issued ASU No. 2021-04, “Earnings Per Share (Topic 260), Debt - Modifications and Extinguishments (Subtopic 470-50), Compensation - Stock Compensation (Topic 718), and Derivatives and Hedging – Contracts in Entity’s Own Equity (Subtopic 815-40): Issuer’s Accounting for Certain Modifications or Exchanges of Freestanding Equity – Classified Written Call Options (a consensus of the FASB Emerging Issues Task Force).” The ASU addresses how an issuer should account for modifications or an exchange of freestanding written call options classified as equity that is not within the scope of another Topic. The ASU was effective for the Company on January 1, 2022, and did not have a material impact on the Company’s consolidated financial statements.

In October 2021, the FASB issued ASU No. 2021-08, “Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers” (“ASU 2021-08”). ASU 2021-08 requires entities to apply Topic 606 to recognize and measure contract assets and contract liabilities in a business combination. The amendments improve comparability after the business combination by providing consistent recognition and measurement guidance for revenue contracts with customers acquired in a business combination and revenue contracts with customers not acquired in a business combination. ASU 2021-08 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2022. Entities should apply the amendments prospectively and early adoption is permitted. The Company does not expect the adoption of ASU 2021-08 to have a material impact on its consolidated financial statements.

In March 2022, the FASB issued ASU No. 2022-01, “Derivatives and Hedging (Topic 815), Fair Value Hedging—Portfolio Layer Method” (“ASU 2022-01”). ASU 2022-01 clarifies the guidance in Topic 815 on fair value hedge accounting of interest rate risk for portfolios of financial assets and is intended to better align hedge accounting with an organization’s risk management strategies. In 2017, FASB issued ASU 2017-12 to better align the economic results of risk management activities with hedge accounting. One of the major provisions of that standard was the addition of the last-of-layer hedging method. For a closed portfolio of fixed-rate prepayable financial assets or one or more beneficial interests secured by a portfolio of prepayable financial instruments, such as mortgages or mortgage-backed securities, the last-of-layer method allows an entity to hedge its exposure to fair value changes due to changes in interest rates for a portion of the portfolio that is not expected to be affected by prepayments, defaults, and other events affecting the timing and amount of cash flows. ASU 2022-01 renames that method the portfolio layer method. For public business entities, ASU 2022-01 is effective for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. The Company does not expect the adoption of ASU 2022-01 to have a material impact on its consolidated financial statements.

In March 2022, the FASB issued ASU No. 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 FASB as part of its post-implementation review of the credit losses standard (ASU 2016-13) that introduced the CECL model. The amendments eliminate the accounting guidance for troubled debt restructurings by creditors that have adopted the CECL model and enhance the disclosure requirements for loan refinancings and restructurings made with borrowers experiencing financial difficulty. In addition, the amendments require a public business entity to disclose current-period gross write-offs for financing receivables and net investment in leases by year of origination in the vintage disclosures. The amendments in this ASU should be applied prospectively, except for the transition method related to the recognition and measurement of TDRs, an entity has the option to apply a modified retrospective transition method, resulting in a cumulative-effect adjustment to retained earnings in the period of adoption. For entities that have adopted ASU 2016-13, ASU 2022-02 is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. For entities that have not yet adopted ASU 2016-13, the effective dates for ASU 2022-02 are the same as the effective dates in ASU 2016-13. Early adoption is permitted if an entity has adopted ASU 2016-

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13. An entity may elect to early adopt the amendments about TDRs and related disclosure enhancements separately from the amendments related to vintage disclosures. The Company does not expect the adoption of ASU 2022-02 to have a material impact on its consolidated financial statements.

In June 2022, the FASB issued ASU 2022-03, “Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions” (“ASU 2022-03”). ASU 2022-03 clarifies that a contractual restriction on the sale of an equity security is not considered part of the unit of account of the equity security and, therefore, is not considered in measuring fair value. ASU 2022-03 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2023. Early adoption is permitted. The Company does not expect the adoption of ASU 2022-03 to have a material impact on its consolidated financial statements.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion compares the Company’s financial condition at September 30, 2022 to its financial condition at December 31, 2021 and the results of operations for the three and nine months ended September 30, 2022 and 2021. This discussion should be read in conjunction with the Consolidated Financial Statements and the Notes thereto in Item 8 of Part II of the Company’s Annual Report on Form 10-K for the year ended December 31, 2021, and the other information included in this Quarterly Report on Form 10-Q for the quarter ended September 30, 2022 (this “Quarterly Report”). Operating results for the three and nine months ended September 30, 2022 are not necessarily indicative of the results for the year ending December 31, 2022 or any other period.

Forward-Looking Statements

Certain statements in this Quarterly Report may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that include, without limitation, statements regarding anticipated changes in the interest rate environments and the related impacts on the Company’s net interest margin, changes in economic conditions, the impacts of the COVID-19 pandemic, management’s belief regarding liquidity and capital resources, and statements that include other projections, predictions, expectations, or beliefs about future events or results or otherwise are not statements of historical fact. Such forward-looking statements are based on various assumptions as of the time they are made, and are inherently subject to known and unknown risks, uncertainties, and other factors, some of which cannot be predicted or quantified, that may cause actual results, performance or achievements to be materially different from those expressed or implied by such forward-looking statements. Forward-looking statements are often accompanied by words that convey projected future events or outcomes such as “expect,” “believe,” “estimate,” “plan,” “project,” “anticipate,” “intend,” “will,” “may,” “view,” “opportunity,” “potential,” or words of similar meaning or other statements concerning opinions or judgment of the Company and its management about future events. Although the Company believes that its expectations with respect to forward-looking statements are based upon reasonable assumptions within the bounds of its existing knowledge of its business and operations, there can be no assurance that actual results, performance, or achievements of, or trends affecting, the Company will not differ materially from any projected future results, performance, achievements or trends expressed or implied by such forward-looking statements. Actual future results, performance, achievements or trends may differ materially from historical results or those anticipated depending on a variety of factors, including, but not limited to:

●	potential adverse consequences related to the termination of the merger agreement with OCFC, which may cause us to incur substantial costs that may adversely affect our business, reputation, financial results and the market price of our stock, including as a result of litigation;

●	changes in interest rates, such as volatility in yields on U.S. Treasury bonds and increases or volatility in mortgage rates, and the impacts on macroeconomic conditions, customer and client behavior, the Company’s funding costs and the Company’s loan and securities portfolios;

●	monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, and the effect of these policies on interest rates and business in our markets;

●

general business conditions, as well as conditions within the financial markets, including the impact thereon of unusual and infrequently occurring events, such as weather-related disasters, terrorist acts, geopolitical conflicts (such as the military conflict between Russia and Ukraine) or public health events (such as COVID-19), and of governmental and societal responses thereto;

●

general economic conditions, in the United States generally and particularly in the markets in which the Company operates and which its loans are concentrated, including the effects of declines in real estate values, increases in unemployment levels and inflation, recession and slowdowns in economic growth;

●	changes in the value of securities held in the Company’s investment portfolios;

●	changes in the quality or composition of the loan portfolios and the value of the collateral securing those loans;

●	changes in the level of net charge-offs on loans and the adequacy of our allowance for credit losses;

●	demand for loan products;

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●	deposit flows;

●	the strength of the Company’s counterparties;

●	competition from both banks and non-banks;

●	demand for financial services in the Company’s market areas;

●	reliance on third parties for key services;

●	changes in the commercial and residential real estate markets;

●	cyber threats, attacks or events;

●	expansion of Delmarva’s and Partners’ product offerings;

●	changes in accounting principles, standards, rules and interpretations, and elections by the Company thereunder, and the related impact on the Company’s financial statements;

●	potential claims, damages, and fines related to litigation or government actions, including litigation or actions arising from the Company’s participation in and administration of programs related to the COVID-19 pandemic;

●

the effect of steps the Company takes in response to the COVID-19 pandemic, the severity and duration of the pandemic, the uncertainty regarding new variants of COVID-19 that may emerge, the distribution and efficacy of vaccines, the impact of loosening or tightening of government restrictions, the pace of recovery as the pandemic subsides and the heightened impact it has on many of the risks described herein;

●	legislative or regulatory changes and requirements;

●	the discontinuation of LIBOR and its impact on the financial markets, and the Company’s ability to manage operational, legal and compliance risks related to the discontinuation of LIBOR and implementation of one or more alternative reference rates; and

●	other factors, many of which are beyond the control of the Company.

Please refer to the “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” sections of the Company’s 2021 Annual Report on Form 10-K and comparable sections of this Quarterly Report and related disclosures in other filings which have been filed with the SEC and are available on the SEC’s website at www.sec.gov. All risk factors and uncertainties described herein and therein should be considered in evaluating forward-looking statements. All of the forward-looking statements made in this Quarterly Report are expressly qualified by the cautionary statements contained or referred to herein. The actual results or developments anticipated may not be realized or, even if substantially realized, they may not have the expected consequences to or effects on the Company or its businesses or operations. Readers are cautioned not to rely too heavily on the forward-looking statements contained in this Quarterly Report. Forward-looking statements speak only as of the date they are made. The Company does not undertake any obligation to update, revise, or clarify these forward-looking statements whether as a result of new information, future events or otherwise.

Overview

Partners Bancorp, a bank holding corporation, through its wholly owned subsidiaries, The Bank of Delmarva (“Delmarva”) and Virginia Partners Bank (“Virginia Partners”), each of which are commercial banking corporations, engages in general commercial banking operations, with nineteen branches throughout Wicomico, Charles, Anne Arundel, and Worcester Counties in Maryland, Sussex County in Delaware, Camden and Burlington Counties in New Jersey, the cities of Fredericksburg and Reston, Virginia, and Spotsylvania County, Virginia.

The Company derives the majority of its income from interest received on our loans and investment securities. The primary source of funding for making these loans and purchasing investment securities are deposits and secondarily, borrowings. Consequently, one of the key measures of the Company’s success is the amount of net interest income, or the difference between the income on interest-earning assets, such as loans and investment securities, and the expense on interest-bearing liabilities, such as deposits and borrowings. The resulting ratio of that difference as a percentage of average interest-earning assets represents the net interest margin. Another key measure is the spread between the yield earned on interest-earning assets and the rate paid on interest-bearing liabilities, which is called the net interest spread. In addition to

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earning interest on loans and investment securities, the Company earns income through fees and other charges to customers. Also included is a discussion of the various components of this noninterest income, as well as of noninterest expense.

There are risks inherent in all loans, so the Company maintains an allowance for credit losses to absorb probable losses on existing loans that may become uncollectible. The Company maintains this allowance for credit losses by charging a provision for credit losses as needed against our operating earnings for each period. The Company has included a detailed discussion of this process, as well as several tables describing its allowance for credit losses.

As previously disclosed, on November 4, 2021, the Company and OCFC announced that they entered into a definitive agreement and plan of merger (the “Merger Agreement”) pursuant to which the Company was to merge into OceanFirst Bank, N.A., with OceanFirst Bank surviving, and following which Partners and Delmarva were each successively to merge with and into OCFC, with OCFC surviving each bank merger. On November 9, 2022, the Company and OCFC entered into a Mutual Termination Agreement (the “Termination Agreement”) pursuant to which, among other things, the parties mutually agreed to terminate the Merger Agreement and transactions completed thereby. Each party will bear its own costs and expenses in connection with the terminated transaction, and neither party will pay a termination fee in connection with the termination of the Merger Agreement. The Termination Agreement also mutually releases the parties from any claims of liability to one another relating to the Merger Agreement and the terminated transaction.

Following the termination of the Merger Agreement, the Company expects to undertake a review of all strategic alternatives available to the Company to enhance returns to shareholders, including internal initiatives designed to drive targeted growth and to increase efficiency and operating performance, as well as other strategic transactions which may include a sale of the Company. The Company expects to communicate an update with respect to this strategic review in early 2023.

The Company believes that it is well-positioned to be successful in its banking markets, including the highly competitive Greater Washington market. The Company’s financial performance generally, and in particular the ability of its borrowers to repay their loans, the value of collateral securing those loans, as well as demand for loans and other products and services the Company offers, is highly dependent on the business environment in the Company’s primary markets where the Company operates and in the United States as a whole.

The ongoing COVID-19 pandemic has severely disrupted supply chains and adversely affected production, demand, sales and employee productivity across a range of industries, and previously resulted in orders directing the closing or limited operation of certain businesses and restrictions on public gatherings. These events affected the Company’s operations during fiscal year 2021 and the first nine months of 2022, and, along with economic uncertainty caused by geopolitical conflicts such as the war in Ukraine and other events, are expected to impact the Company’s financial results throughout the remainder of fiscal year 2022 and into 2023.

Please refer to the “Provision for Credit Losses and Allowance for Credit Losses” section of this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for more information related to payment deferrals, concentrations in higher risk industries, and the impact on the allowance for credit losses.

The following discussion and analysis also identifies significant factors that have affected the Company’s financial position and operating results during the periods included in the consolidated financial statements accompanying this report. This “Management's Discussion and Analysis” should be read in conjunction with the unaudited consolidated financial statements and the notes thereto included in Item 1 in this Quarterly Report, and the other information included in this Quarterly Report.

Critical Accounting Estimates

Certain critical accounting policies affect significant judgments and estimates used in the preparation of the Company’s consolidated financial statements. These significant accounting policies are described in the notes to the consolidated financial statements included in this Quarterly Report as well as in Item 8 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. The accounting principles the Company follows and the methods

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of applying these principles conform to U.S. GAAP and general banking industry practices. The Company’s most critical accounting policy relates to the determination of the allowance for credit losses, which reflects the estimated losses resulting from the inability of borrowers to make loan payments. The determination of the adequacy of the allowance for credit losses involves significant judgment and complexity and is based on many factors. If the financial condition of the Company’s borrowers were to deteriorate, resulting in an impairment of their ability to make payments, the estimates would be updated and additional provisions for credit losses may be required. See “Provision for Credit Losses and Allowance for Credit Losses” and Note 1 – Nature of Business and Its Significant Accounting Policies and Note 3 – Loans, Allowance for Credit Losses and Impaired Loans of the unaudited consolidated financial statements included in this Quarterly Report.

Another of the Company’s critical accounting policies, with the acquisitions of Liberty in 2018 and Virginia Partners in 2019, relates to the valuation of goodwill and intangible assets. The Company accounted for the Liberty Merger and the Virginia Partners Share Exchange in accordance with ASC Topic No. 805, Business Combinations, which requires the use of the acquisition method of accounting. Under this method, assets acquired, including intangible assets, and liabilities assumed, are recorded at their fair value. Determination of fair value involves estimates based on internal valuations of discounted cash flow analyses performed, third party valuations, or other valuation techniques that involve subjective assumptions. Additionally, the term of the useful lives and appropriate amortization periods of intangible assets is subjective. Resulting goodwill from the Liberty Merger and the Virginia Partners Share Exchange, which totaled approximately $5.2 million and $4.4 million, respectively, under the acquisition method of accounting represents the excess of the purchase price over the fair value of net assets acquired. Goodwill is not amortized, but is evaluated for impairment annually or more frequently if deemed necessary. If the fair value of an asset exceeds the carrying amount of the asset, no charge to goodwill is made. If the carrying amount exceeds the fair value of the asset, goodwill will be adjusted through a charge to earnings, which is limited to the amount of goodwill allocated to that reporting unit. In evaluating the goodwill on its consolidated balance sheet for impairment after the consummation date of the Liberty Merger and the Virginia Partners Share Exchange, the Company will first assess qualitative factors to determine whether it is more likely than not that the fair value of our acquired assets is less than the carrying amount of the acquired assets, as allowed under ASU 2017-04. After making the assessment based on several factors, which will include, but is not limited to, the current economic environment, the economic outlook in our markets, our financial performance and common stock value as compared to our peers, we will determine if it is more likely than not that the fair value of our assets is greater than their carrying amount and, accordingly, will determine whether impairment of goodwill should be recorded as a charge to earnings in years subsequent to the Liberty Merger and the Virginia Partners Share Exchange. This assessment was performed during the fourth quarter of 2021, and resulted in no impairment of goodwill. Management considers the impact of changes in the financial markets and their impact on the Company and may determine that goodwill is required to be evaluated for impairment due to the presence of a triggering event, which may have a negative impact on the Company’s results of operations. No impairment of goodwill was required for the nine months ended September 30, 2022 based on management’s assessment. See Note 13 – Goodwill and Intangible Assets of the unaudited consolidated financial statements included in this Quarterly Report for more information related to goodwill and intangible assets.

In addition to the Company’s policies related to the valuation of goodwill and intangible assets, ongoing accounting for acquired loans is considered a critical accounting policy. Acquired loans are classified as either PCI loans or purchased performing loans and are recorded at fair value on the date of acquisition. PCI loans are those for which there is evidence of credit deterioration since origination and for which it is probable at the date of acquisition that the Company will not collect all contractually required principal and interest payments. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the “nonaccretable difference.” Any excess of cash flows expected at acquisition over the estimated fair value is referred to as the “accretable yield” and is recognized as interest income over the remaining life of the loan when there is a reasonable expectation about the amount and timing of such cash flows. Periodically, the Company evaluates its estimate of cash flows expected to be collected on PCI loans. Estimates of cash flows for PCI loans require significant judgment. Subsequent decreases to the expected cash flows will generally result in a provision for credit losses resulting in an increase to the allowance for credit losses. Subsequent significant increases in cash flows may result in a reversal of post-acquisition provision for credit losses or a transfer from nonaccretable difference to accretable yield that increases interest income over the remaining life of the loan, or pool(s) of loans. The Company accounts for purchased performing loans using the contractual cash flows method of recognizing discount accretion based on the acquired loans’ contractual cash flows.

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Purchased performing loans are recorded at fair value, including a credit discount. The fair value discount is accreted as an adjustment to yield over the estimated lives of the loans. There is no allowance for credit losses established at the acquisition date for purchased performing loans, but a provision for credit losses may be required for any deterioration in these loans in future periods. The Company evaluates purchased performing loans quarterly for deterioration and records any required additional provision for credit losses.

Results of Operations

Net income attributable to the Company was $4.1 million, or $0.23 per basic and diluted share, for the three months ended September 30, 2022, a $1.4 million, or 52.5%, increase when compared to net income attributable to the Company of $2.7 million, or $0.15 per basic and diluted share, for the same period in 2021. Net income attributable to the Company was $9.4 million, or $0.52 per basic and diluted share, for the nine months ended September 30, 2022, a $3.5 million, or 58.0%, increase when compared to net income attributable to the Company of $5.9 million, or $0.33 per basic and diluted share, for the same period in 2021.

The Company’s results of operations for the three months ended September 30, 2022 were directly impacted by the following:

Positive Impacts:

●

An increase in net interest income due primarily to a decrease in average interest-bearing deposit balances and lower rates paid, a decrease in average borrowings balances, an increase in average loan balances, an increase in yields earned on average cash and cash equivalents balances, and an increase in average investment securities balances and yields earned, which were partially offset by lower loan yields earned, and a decrease in average cash and cash equivalents balances. Net interest income was negatively impacted during the three months ended September 30, 2022 due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP of the SBA;

●	A higher net interest margin (tax equivalent basis); and

●	Recording no losses or operating expenses on OREO during the three months ended September 30, 2022.

Negative Impacts:

●	Recording a provision for credit losses as compared to a recovery of credit losses for the same period of 2021 due primarily to organic loan growth, which was partially offset by the current economic environment and the milder impact of the COVID-19 pandemic compared to September 30, 2021;

●	Recording losses on sales and calls of investment securities as compared to gains for the same period of 2021;

●	Reduced operating results from Virginia Partners’ majority owned subsidiary JMC and lower mortgage division fees at Delmarva;

●	Expenses associated with Virginia Partners’ new key hires and expansion into the Greater Washington market, including opening its new full-service branch and commercial banking office in Reston, Virginia during the third quarter of 2021; and

●	Merger related expenses of $167 thousand were incurred during the three months ended September 30, 2022 in connection with the Company’s terminated merger with OCFC.

The Company’s results of operations for the nine months ended September 30, 2022 were directly impacted by the following:

Positive Impacts:

●

An increase in net interest income due primarily to lower rates paid on average interest-bearing deposit balances, a decrease in average borrowings balances, an increase in average loan balances, an increase in average cash and cash equivalents balances and yields earned, and an increase in average investment securities balances and yields earned, which were partially offset by lower loan yields earned, and an increase in average interest-bearing deposit balances.

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Net interest income was negatively impacted during the nine months ended September 30, 2022 due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP;

●	A higher net interest margin (tax equivalent basis);

●	A significantly lower provision for credit losses due to the current economic environment and the milder impact of the COVID-19 pandemic compared to September 30, 2021; and

●	Recording gains on OREO as compared to losses for the same period of 2021.

Negative Impacts:

●	Recording losses on sales and calls of investment securities as compared to gains for the same period of 2021;

●	Reduced operating results from Virginia Partners’ majority owned subsidiary JMC and lower mortgage division fees at Delmarva;

●

Expenses associated with Virginia Partners’ new key hires and expansion into the Greater Washington market, including opening its new full-service branch and commercial banking office in Reston, Virginia during the third quarter of 2021, and Delmarva opening its twelfth full-service branch at 26^th Street in Ocean City, Maryland during the second quarter of 2021; and

●	Merger related expenses of $720 thousand were incurred during the nine months ended September 30, 2022 in connection with the Company’s terminated merger with OCFC.

For the three months ended September 30, 2022, the Company’s annualized return on average assets, annualized return on average equity and efficiency ratio were 0.98%, 12.01% and 64.00%, respectively, as compared to 0.66%, 7.79% and 73.81%, respectively, for the same period in 2021.

For the nine months ended September 30, 2022, the Company’s annualized return on average assets, annualized return on average equity and efficiency ratio were 0.75%, 9.23% and 69.96%, respectively, as compared to 0.50%, 5.86% and 73.46%, respectively, for the same period in 2021.

The increase in net income attributable to the Company for the three months ended September 30, 2022, as compared to the same period in 2021, was driven by an increase in net interest income and lower other expenses, and was partially offset by a higher provision for credit losses, a decrease in other income and higher federal and state income taxes.

The increase in net income attributable to the Company for the nine months ended September 30, 2022, as compared to the same period in 2021, was driven by an increase in net interest income and a lower provision for credit losses, and was partially offset by a decrease in other income, higher other expenses, and higher federal and state income taxes.

Financial Condition

Total assets as of September 30, 2022 were $1.65 billion, an increase of $5.7 million, or 0.3%, from December 31, 2021. Key drivers of this change were increases in investment securities available for sale, at fair value, and total loans held for investment, which were partially offset by decreases in cash and cash equivalents. Changes in key balance sheet components as of September 30, 2022 compared to December 31, 2021 were as follows:

●

Interest bearing deposits in other financial institutions as of September 30, 2022 were $210.9 million, a decrease of $87.0 million, or 29.2%, from December 31, 2021. Key drivers of this change were an increase in investment securities available for sale, at fair value, and total loan growth outpacing total deposit growth;

●	Federal funds sold as of September 30, 2022 were $24.6 million, a decrease of $3.5 million, or 12.4%, from December 31, 2021. Key drivers of this change were the aforementioned items noted in the analysis of interest bearing deposits in other financial institutions;

●

Investment securities available for sale, at fair value as of September 30, 2022 were $131.5 million, an increase of $9.4 million, or 7.7%, from December 31, 2021. Key drivers of this change were management of the investment securities portfolio in light of the Company’s liquidity needs, which were partially offset by two higher yielding

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investment securities being called, and an increase in unrealized losses on the investment securities available for sale portfolio;

●

Loans, net of unamortized discounts on acquired loans of $1.8 million as of September 30, 2022 were $1.20 billion, an increase of $86.8 million, or 7.8%, from December 31, 2021. The key driver of this change was an increase in organic growth, including growth of approximately $46.2 million in loans related to Virginia Partners’ recent expansion into the Greater Washington market, which was partially offset by forgiveness payments received of approximately $8.2 million under round two of the PPP. As of September 30, 2022, there were no loans under round two of the PPP that were still outstanding;

●

Total deposits as of September 30, 2022 were $1.46 billion, an increase of $13.1 million, or 0.9%, from December 31, 2021. Key drivers of this change were organic growth as a result of our continued focus on total relationship banking and Virginia Partners’ recent expansion into the Greater Washington market, and customers seeking the liquidity and safety of deposit accounts in light of continuing economic uncertainty and volatility in stock and other investment markets;

●

Total borrowings as of September 30, 2022 were $48.8 million, a decrease of $404 thousand, or 0.8%, from December 31, 2021. Key drivers of this change was a decrease in long-term borrowings with the FHLB resulting from scheduled principal curtailments, which was partially offset by an increase in Virginia Partners’ majority owned subsidiary JMC’s warehouse line of credit with another financial institution; and

●

Total stockholders’ equity as of September 30, 2022 was $133.8 million, a decrease of $7.6 million, or 5.4%, from December 31, 2021. The key driver of this change were an increase in accumulated other comprehensive (loss), net of tax, and cash dividends paid to shareholders, which were partially offset by the net income attributable to the Company for the nine months ended September 30, 2022, the proceeds from stock option exercises, and stock-based compensation expense related to restricted stock awards.

Delmarva's Tier 1 leverage capital ratio was 8.7% at September 30, 2022 as compared to 8.1% at December 31, 2021. At September 30, 2022, Delmarva's Tier 1 risk weighted capital ratio and total risk weighted capital ratio were 11.8% and 13.0%, respectively, as compared to a Tier 1 risk weighted capital ratio and total risk weighted capital ratio of 11.6% and 12.9%, respectively, at December 31, 2021.

Virginia Partners’ Tier 1 leverage capital ratio was 8.6% at September 30, 2022 as compared to 8.5% at December 31, 2021. At September 30, 2022, Virginia Partners’ Tier 1 risk weighted capital ratio and total risk weighted capital ratio were 10.6% and 11.4%, respectively, as compared to a Tier 1 risk weighted capital ratio and total risk weighted capital ratio of 11.3% and 12.0%, respectively, at December 31, 2021.

As of September 30, 2022, all of the capital ratios of Delmarva and Virginia Partners continue to exceed regulatory requirements, with total risk-based capital substantially above well-capitalized regulatory requirements.

See “Capital” below for additional information about Delmarva’s and Virginia Partners’ capital ratios and requirements.

At September 30, 2022, nonperforming assets totaled $4.3 million, a decrease from December 31, 2021 balances of $9.8 million. The primary drivers of this decrease were decreases in nonaccrual loans and OREO, net, which were partially offset by an increase in loans past due 90 days or more and still accruing interest. Nonaccrual loans totaled approximately $4.1 million at September 30, 2022, as compared to $9.0 million at December 31, 2021. Loans past due 90 days or more and still accruing interest totaled $275 thousand at September 30, 2022, as compared to $0 at December 31, 2021. OREO, net as of September 30, 2022 totaled $0, as compared to $837 thousand at December 31, 2021. Nonperforming loans as a percentage of total assets was 0.26% at September 30, 2022, as compared to 0.54% at December 31, 2021. Nonperforming assets to total assets as of September 30, 2022 was 0.26%, as compared to 0.60% at December 31, 2021. Loans classified as TDRs totaled $5.1 million at September 30, 2022, as compared to $7.9 million at December 31, 2021, representing a decrease of $2.8 million during the first nine months of 2022. Of this decrease, approximately $1.1 million was due to five loan relationships that are no longer considered to be TDRs due to the restructuring of the loans subsequent to them initially being classified as a TDR. At the time of the subsequent restructurings, the borrowers were not experiencing financial difficulties and, under the terms of the subsequent restructuring agreements, no concessions have been granted to the borrowers. In addition, during the second and third quarters of 2022, one loan relationship that was classified as a TDR was partially charged-off, reducing the balance in total by approximately $1.3

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million, which was partially offset by one loan relationship in the amount of approximately $48 thousand being classified as a TDR during the second quarter of 2022. The remaining decrease was the result of loan relationships classified as TDRs that were paid down or paid off.

Net charge-offs were $660 thousand, or 0.22% of average total loans (annualized), for the three months ended September 30, 2022, as compared to $249 thousand, or 0.09% of average total loans (annualized), for the same period of 2021. Net charge-offs were $1.6 million, or 0.19% of average total loans (annualized), for the nine months ended September 30, 2022, as compared to $740 thousand, or 0.09% of average total loans (annualized), for the same period of 2021. The allowance for credit losses to total loans ratio was 1.15% at September 30, 2022, as compared to 1.31% at December 31, 2021. In addition to the allowance for credit losses, as of September 30, 2022 and December 31, 2021, the Company had $1.8 million and $2.3 million, respectively, in unamortized discounts on acquired loans related to the acquisitions of Liberty and Virginia Partners. This discount is amortized over the life of the remaining loans.

Summary of Return on Equity and Assets


	Three Months		Nine Months
	Ended		Ended		Year Ended
	September 30,		September 30,		December 31,
	2022		2022		2021
Yield on earning assets (annualized)	4.03	%	3.68	%	3.60	%
Return on average assets (annualized)	0.98	%	0.75	%	0.46	%
Return on average equity (annualized)	12.01	%	9.23	%	5.43	%
Average equity to average assets	8.12	%	8.13	%	8.52	%

Earnings Analysis

The Company’s primary source of revenue is interest income and fees, which it earns by lending and investing the funds which are held on deposit. Because loans generally earn higher rates of interest than investment securities, the Company seeks to deploy as much of its deposit funds as possible in the form of loans to individuals, businesses, and other organizations. To ensure sufficient liquidity, the Company also maintains a portion of its deposits in cash and cash equivalents, government securities, interest bearing deposits in other financial institutions, and overnight loans of excess reserves (known as ‘‘Federal Funds Sold’’) to correspondent banks. The revenue which the Company earns (prior to deducting its overhead expenses) is essentially a function of the amount of the Company’s loans and deposits, as well as the profit margin (‘‘interest spread’’) and fee income which can be generated on these amounts.

Net income attributable to the Company was $4.1 million and $9.4 million for the three and nine months ended September 30, 2022, respectively, as compared to net income attributable to the Company of $2.7 million and $5.9 million, respectively, for the same periods of 2021.

The following is a summary of the results of operations by the Company for the three and nine months ended September 30, 2022 and 2021.

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Summary of Results of Operations


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2022		2021		2022		2021
(Dollars in Thousands)
Net interest income	$	14,875	$	11,904	$	39,669	$	34,528
Provision for (recovery of) credit losses		419		(30)		803		2,568
Provision for income taxes		1,292		839		2,914		1,847
Noninterest income		1,241		2,076		3,986		6,543
Noninterest expense		10,347		10,359		30,648		30,284
Total income		17,698		16,157		48,619		48,028
Total expenses		13,640		13,345		39,329		41,656
Net income		4,058		2,812		9,290		6,372
Net income attributable to Partners Bancorp		4,110		2,696		9,398		5,946
Basic earnings per share		0.229		0.152		0.523		0.335
Diluted earnings per share		0.228		0.151		0.522		0.334

Interest Income and Expense – Three Months Ended September 30, 2022 and 2021

Net interest income and net interest margin

The largest component of net income for the Company is net interest income, which is the difference between the income earned on assets, such as loans and investment securities, and interest paid on liabilities, such as deposits and borrowings, used to support such assets. Net interest income is determined by the rates earned on the Company's interest-earning assets and the rates paid on its interest-bearing liabilities, the relative amounts of interest-earning assets and interest-bearing liabilities, and the degree of mismatch and the maturity and repricing characteristics of its interest-earning assets and interest-bearing liabilities.

Net interest income in the third quarter of 2022 increased by $3.0 million, or 25.0%, when compared to the third quarter of 2021. The Company’s net interest margin (tax equivalent basis) increased to 3.64%, representing an increase of 62 basis points for the three months ended September 30, 2022 as compared to the same period in 2021. The increase in the net interest margin (tax equivalent basis) was primarily due to higher average balances of loans, higher average balances of and yields earned on investment securities, higher yields earned on average interest bearing deposits in other financial institutions and federal funds sold, and lower average balances of and rates paid on interest-bearing liabilities, which were partially offset by a decrease in the yields earned on average loans, due primarily to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP, and lower average balances of interest bearing deposits in other financial institutions and federal funds sold. Total interest income increased by $2.4 million, or 16.9%, for the three months ended September 30, 2022, while total interest expense decreased by $595 thousand, or 27.3%, both as compared to the same period in 2021.

The most significant factors impacting net interest income during the three month period ended September 30, 2022 were as follows:

Positive Impacts:

●	Increases in average loan balances, primarily due to organic loan growth, which was partially offset by the forgiveness of loans originated and funded under the PPP;

●

Increases in average investment securities balances and higher investment securities yields, primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs, lower accelerated pre-payments on mortgage-backed investment securities and higher interest rates over the comparable periods, partially offset by calls on higher yielding investment securities in the previously low interest rate environment;

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●	Decrease in average interest bearing deposits in other financial institutions and federal funds sold, primarily due to loan growth outpacing deposit growth and higher investment securities balances, and higher yields on each due to higher interest rates over the comparable periods;

●

Decrease in average interest-bearing deposit balances and lower rates paid, primarily due to scheduled maturities of higher cost time deposits that were not replaced, partially offset by organic deposit growth in money market and savings accounts, and lower rates paid on average interest bearing demand, money market and time deposits; and

●	Decrease in average borrowings balances, primarily due to a decrease in the average balance of FHLB advances resulting from scheduled principal curtailments.

Negative Impacts:

●

Lower loan yields, primarily due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP and pay-offs of higher yielding fixed rate loans, which were partially offset by repricing of variable rate loans and higher average yields on new loan originations.

Loans

Average loan balances increased by $81.9 million, or 7.5%, and average yields earned decreased by 0.09% to 4.77% for the three months ended September 30, 2022, as compared to the same period in 2021. The increase in average loan balances was primarily due to organic loan growth, including growth in average loan balances of approximately $53.3 million related to Virginia Partners’ recent expansion into the Greater Washington market, which was partially offset by the forgiveness of loans originated and funded under the PPP. The decrease in average yields earned was primarily due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP and pay-offs of higher yielding fixed rate loans, which were partially offset by repricing of variable rate loans and higher average yields on new loan originations. Total average loans were 72.3% of total average interest-earning assets for the three months ended September 30, 2022, compared to 69.4% for the three months ended September 30, 2021.

Investment securities

Average total investment securities balances increased by $27.5 million, or 21.6%, and average yields earned increased by 0.31% to 2.30% for the three months ended September 30, 2022, as compared to the same period in 2021. The increases in average total investment securities balances and average yields earned was primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs, lower accelerated pre-payments on mortgage-backed investment securities and higher interest rates over the comparable periods, partially offset by calls on higher yielding investment securities in the previously low interest rate environment. During the third quarter of 2021, accelerated pre-payments on mortgage-backed investment securities caused the premiums paid on these investment securities to be amortized into expense on an accelerated basis thereby reducing income and yield earned. Total average investment securities were 9.5% of total average interest-earning assets for the three months ended September 30, 2022, compared to 8.1% for the three months ended September 30, 2021.

Interest-bearing deposits

Average total interest-bearing deposit balances decreased by $33.8 million, or 3.6%, and average rates paid decreased by 0.23% to 0.47% for the three months ended September 30, 2022, as compared to the same period in 2021, primarily due to scheduled maturities of higher cost time deposits that were not replaced, partially offset by organic deposit growth in money market and savings accounts, including average growth of approximately $12.4 million in interest-bearing deposits related to Virginia Partners’ recent expansion into the Greater Washington market, and a decrease in the average rate paid on interest bearing demand, money market and time deposits.

Borrowings

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from scheduled principal curtailments. The increase in average rates paid was primarily due to the decrease in the average balance of FHLB advances which was a lower cost interest-bearing liability.

Interest Income and Expense – Nine Months Ended September 30, 2022 and 2021

Net interest income and net interest margin

Net interest income during the first nine months of 2022 increased by $5.1 million, or 14.9%, when compared to the first nine months of 2021. The Company’s net interest margin (tax equivalent basis) increased to 3.27%, representing an increase of 22 basis points for the nine months ended September 30, 2022 as compared to the same period in 2021. The increase in the net interest margin (tax equivalent basis) was primarily due to higher average balances of loans, higher average balances of and yields earned on investment securities, higher average balances of and yields earned on interest bearing deposits in other financial institutions, higher yields earned on average federal funds sold, and lower rates paid on average interest-bearing liabilities, which were partially offset by a decrease in the yields earned on average loans, due primarily to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP, lower average balances of federal funds sold, and higher average balances of interest-bearing liabilities. Total interest income increased by $3.1 million, or 7.6%, for the nine months ended September 30, 2022, while total interest expense decreased by $2.0 million, or 28.6%, both as compared to the same period in 2021.

The most significant factors impacting net interest income during the nine months ended September 30, 2022 were as follows:

Positive Impacts:

●	Increases in average loan balances, primarily due to organic loan growth, which was partially offset by the forgiveness of loans originated and funded under the PPP;

●

●	Increase in average interest bearing deposits in other financial institutions, partially offset by a decrease in average federal funds sold, primarily due to deposit growth outpacing loan growth, and higher yields on each due to higher interest rates over the comparable periods;

●

Decrease in the rate paid on average interest-bearing deposit balances, primarily due to a decrease in the average rate paid on interest bearing demand, money market and time deposits, partially offset by increases in average interest-bearing deposit balances, primarily due to organic deposit growth; and

●

Decrease in average borrowings balances, primarily due to a decrease in the average balance of FHLB advances resulting from maturities and payoffs of borrowings that were not replaced and scheduled principal curtailments, a decrease in average borrowings at the PPPLF in which the loans under the PPP originated by the Company were previously pledged as collateral, the early redemption of $2.0 million in subordinated notes payable, net, in early July 2021, partially offset by higher rates paid. The increase in average rates paid was primarily due to the decreases in the average balances of FHLB advances and borrowings at the PPPLF, both of which were lower cost interest-bearing liabilities, partially offset by the early redemption of subordinated notes payable, which was a higher cost interest-bearing liability.

Negative Impacts:

●

Lower loan yields, primarily due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP and pay-offs of higher yielding fixed rate loans, which were partially offset by the repricing of variable rate loans and higher average yields on new loan originations.

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Loans

Average loan balances increased by $74.5 million, or 6.9%, and average yields earned decreased by 0.24% to 4.66% for the nine months ended September 30, 2022, as compared to the same period in 2021. The increase in average loan balances was primarily due to organic loan growth, including growth in average loan balances of approximately $53.9 million related to Virginia Partners’ recent expansion into the Greater Washington market, which was partially offset by the forgiveness of loans originated and funded under the PPP. The decrease in average yields earned was primarily due to lower net loan fees earned related to the forgiveness of loans originated and funded under the PPP and pay-offs of higher yielding fixed rate loans, which were partially offset by the repricing of variable rate loans and higher average yields on new loan originations. Total average loans were 71.0% of total average interest-earning assets for the nine months ended September 30, 2022, compared to 70.8% for the nine months ended September 30, 2021.

Investment securities

Average total investment securities balances increased by $15.9 million, or 12.3%, and average yields earned increased by 0.34% to 2.20% for the nine months ended September 30, 2022, as compared to the same period in 2021. The increases in average total investment securities balances and average yields earned was primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs, lower accelerated pre-payments on mortgage-backed investment securities and higher interest rates over the comparable periods, partially offset by calls on higher yielding investment securities in the previously low interest rate environment. During the first nine months of 2021, accelerated pre-payments on mortgage-backed investment securities caused the premiums paid on these investment securities to be amortized into expense on an accelerated basis thereby reducing income and yield earned. Total average investment securities were 8.9% of total average interest-earning assets for the nine months ended September 30, 2022, compared to 8.5% for the nine months ended September 30, 2021.

Interest-bearing deposits

Average total interest-bearing deposit balances increased by $16.5 million, or 1.8%, and average rates paid decreased by 0.28% to 0.50% for the nine months ended September 30, 2022, as compared to the same period in 2021, primarily due to organic deposit growth, including average growth of approximately $20.5 million in interest-bearing deposits related to Virginia Partners’ recent expansion into the Greater Washington market, and a decrease in the average rate paid on interest bearing demand, money market and time deposits.

Borrowings

Average total borrowings decreased by $12.6 million, or 20.4%, and average rates paid increased by 0.52% to 4.03% for the nine months ended September 30, 2022, as compared to the same period in 2021. The decrease in average total borrowings balances was primarily due to a decrease in the average balance of FHLB advances resulting from maturities and payoffs of borrowings that were not replaced and scheduled principal curtailments, a decrease in average borrowings at the PPPLF in which the loans under the PPP originated by the Company were previously pledged as collateral, and the early redemption of $2.0 million in subordinated notes payable, net, in early July 2021. The increase in average rates paid was primarily due to the decreases in the average balances of FHLB advances and borrowings at the PPPLF, which were lower cost interest-bearing liabilities, partially offset by the early redemption of subordinated notes payable, which was a higher cost interest-bearing liability.

Interest earned on assets and interest paid on liabilities is significantly influenced by market factors, specifically interest rate targets established by the Federal Reserve.

The Federal Open Markets Committee (“FOMC”) raised Federal Funds target rates by 25 basis points in March 2022, which was the first increase since December 2018. Subsequent to this, the FOMC raised Federal Funds target rates by 50 basis points in May 2022, 75 basis points in June 2022, 75 basis points in July 2022, 75 basis points in September 2022 and 75 basis points in November 2022. These increases were done in an effort to address increasing inflation without negatively impacting economic growth. The FOMC currently projects an aggressive path of rate increases, with rate increases targeted at the remaining FOMC meeting in December 2022. The FOMC’s current Federal

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Funds target rate range is 3.75% to 4.00%. As a result, long-term interest rates have increased. The Company anticipates that the current and projected interest rate environment will lead to an expanded net interest margin for the Company. In general, the Company believes interest rate increases lead to improved net interest margins whereas interest rate decreases result in correspondingly lower net interest margins.

The following tables depict, for the periods indicated, certain information related to the average balance sheet and average yields earned on assets and average costs paid on liabilities for the Company. Such yields and costs are derived by dividing income or expense by the average balance of the corresponding assets or liabilities. Average balances have been derived from daily averages.


	Three Months Ended						Three Months Ended
	September 30, 2022						September 30, 2021
(Dollars in Thousands)	Average		Interest/		Yield/Rate		Average		Interest/		Yield/Rate
(Unaudited)	Balance		Expense		(Annualized)		Balance		Expense		(Annualized)
Assets
Cash & Due From Banks	$	15,349	$	—	—	%	$	15,881	$	—	—	%
Interest Bearing Deposits From Banks		215,572		1,137	2.09	%		252,363		95	0.15	%
Taxable Securities (1)		125,557		668	2.11	%		92,694		364	1.56	%
Tax-exempt Securities (2)		29,119		228	3.11	%		34,512		274	3.15	%
Total Investment Securities (1) (2)		154,676		896	2.30	%		127,206		638	1.99	%
Federal Funds Sold		64,804		353	2.16	%		86,472		25	0.11	%
Loans: (3)
Commercial and Industrial (4)		131,482		1,766	5.33	%		152,582		2,179	5.67	%
Real Estate (4)		1,021,247		12,064	4.69	%		917,056		10,985	4.75	%
Consumer (4)		2,175		32	5.84	%		2,962		42	5.63	%
Keyline Equity (4)		17,101		237	5.50	%		17,183		155	3.58	%
Visa Credit Card		—		—	—	%		—		—	—	%
State and Political		870		11	5.02	%		981		12	4.85	%
Keyline Credit		110		6	21.64	%		123		6	19.35	%
Other Loans		2,118		5	0.94	%		2,355		4	0.67	%
Total Loans (2)		1,175,103		14,121	4.77	%		1,093,242		13,383	4.86	%
Allowance For Credit Losses		14,136						15,219
Unamortized Discounts on Acquired Loans		1,873						3,055
Total Loans, Net		1,159,094						1,074,968
Other Assets		62,242						72,664
Total Assets/Interest Income	$	1,671,737	$	16,507			$	1,629,554	$	14,141

Liabilities and Stockholders' Equity
Deposits In Domestic Offices
Non-interest Bearing Demand	$	577,922	$	—	—	%	$	498,646	$	—	—	%
Interest Bearing Demand		148,479		89	0.24	%		135,841		105	0.31	%
Money Market Accounts		283,702		134	0.19	%		245,085		150	0.24	%
Savings Accounts		151,740		56	0.15	%		131,415		52	0.16	%
All Time Deposits		313,660		792	1.00	%		419,020		1,332	1.26	%
Total Interest Bearing Deposits		897,581		1,071	0.47	%		931,361		1,639	0.70	%
Total Deposits		1,475,503						1,430,007
Borrowings		26,292		128	1.93	%		27,020		135	1.98	%
Notes Payable		22,818		368	6.40	%		22,787		388	6.76	%
Lease Liability		2,055		15	2.90	%		2,174		15	2.74	%
Other Liabilities		9,362		—				10,368		—
Stockholder's Equity		135,707		—				137,198		—
Total Liabilities & Equity/Interest Expense	$	1,671,737	$	1,582			$	1,629,554	$	2,177

Earning Assets/Interest Income (2)	$	1,625,504	$	16,507	4.03	%	$	1,575,164	$	14,141	3.56	%
Interest Bearing Liabilities/Interest Expense	$	948,746	$	1,582	0.66	%	$	983,342	$	2,177	0.88	%
Net interest income			$	14,925					$	11,964

Net Yield on Interest Earning Assets					3.64	%					3.01	%
Earning Assets/Interest Expense					0.39	%					0.55	%
Net Interest Spread (2)					3.37	%					2.68	%
Net Interest Margin (2)					3.64	%					3.01	%

(1)	Yields on securities available-for-sale have been calculated on the basis of historical cost and do not give effect to changes in the fair value of those securities, which is reflected as a component of stockholder's equity.

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(2)

Presented on a taxable-equivalent basis using the statutory income tax rate of 21.0%. Taxable equivalent adjustment of $48 thousand and $2 thousand are included in the calculation of tax exempt income for investment interest income and loan interest income, respectively, for the three months ended September 30, 2022 and $58 thousand and $2 thousand, respectively, for the three months ended September 30, 2021.

(3)	Loans placed on nonaccrual are included in average balances.

(4)	Yields do not include the average balance of the fair value adjustment for pools of non-credit impaired loans acquired or discounts on credit impaired loans acquired.


	Nine Months Ended						Nine Months Ended
	September 30, 2022						September 30, 2021
(Dollars in Thousands)	Average		Interest/		Yield/Rate		Average		Interest/		Yield/Rate
(Unaudited)	Balance		Expense		(Annualized)		Balance		Expense		(Annualized)
Assets
Cash & Due From Banks	$	16,095	$	—	—	%	$	16,085	$	—	—	%
Interest Bearing Deposits From Banks		257,344		1,734	0.90	%		237,224		199	0.11	%
Taxable Securities (1)		116,042		1,699	1.96	%		94,503		962	1.36	%
Tax‑exempt Securities (2)		29,299		690	3.15	%		34,863		838	3.21	%
Total Investment Securities (1) (2)		145,341		2,389	2.20	%		129,366		1,800	1.86	%
Federal Funds Sold		53,273		433	1.09	%		62,948		44	0.09	%
Loans: (3)
Commercial and Industrial (4)		134,680		5,175	5.14	%		159,372		7,195	6.04	%
Real Estate (4)		998,433		34,315	4.60	%		890,596		31,771	4.77	%
Consumer (4)		2,403		98	5.45	%		3,232		143	5.92	%
Keyline Equity (4)		17,485		577	4.41	%		16,610		449	3.61	%
Visa Credit Card		—		—	—	%		64		1	2.09	%
State and Political		895		33	4.93	%		755		30	5.31	%
Keyline Credit		120		22	24.51	%		128		24	25.07	%
Other Loans		1,193		9	1.01	%		9,910		12	0.16	%
Total Loans (2)		1,155,209		40,229	4.66	%		1,080,667		39,625	4.90	%
Allowance For Credit Losses		14,412						14,741
Unamortized Discounts on Acquired Loans		2,025						3,464
Total Loans, Net		1,138,772						1,062,462
Other Assets		63,985						71,840
Total Assets/Interest Income	$	1,674,810	$	44,785			$	1,579,925	$	41,668

Liabilities and Stockholders' Equity
Deposits In Domestic Offices
Non‑interest Bearing Demand	$	560,279	$	—	—	%	$	470,019	$	—	—	%
Interest Bearing Demand		149,809		248	0.22	%		123,706		315	0.34	%
Money Market Accounts		279,547		356	0.17	%		231,035		509	0.29	%
Savings Accounts		147,947		160	0.14	%		124,520		147	0.16	%
All Time Deposits		340,528		2,676	1.05	%		422,052		4,263	1.35	%
Total Interest Bearing Deposits		917,831		3,440	0.50	%		901,313		5,234	0.78	%
Total Deposits		1,478,110						1,371,332
Borrowings		26,329		378	1.92	%		37,604		484	1.72	%
Notes Payable		22,812		1,102	6.46	%		24,098		1,192	6.61	%
Lease Liability		2,084		44	2.82	%		2,203		47	2.85	%
Other Liabilities		9,306		—				9,058		—
Stockholder's Equity		136,169		—				135,630		—
Total Liabilities & Equity/Interest Expense	$	1,674,810	$	4,964			$	1,579,925	$	6,957

Earning Assets/Interest Income (2)	$	1,627,262	$	44,785	3.68	%	$	1,526,290	$	41,668	3.65	%
Interest Bearing Liabilities/Interest Expense	$	969,056	$	4,964	0.68	%	$	965,218	$	6,957	0.96	%
Net interest income			$	39,821					$	34,711

Net Yield on Interest Earning Assets					3.27	%					3.04	%
Earning Assets/Interest Expense					0.41	%					0.61	%
Net Interest Spread (2)					2.99	%					2.69	%
Net Interest Margin (2)					3.27	%					3.04	%

(1)	Yields on securities available-for-sale have been calculated on the basis of historical cost and do not give effect to changes in the fair value of those securities, which is reflected as a component of stockholder's equity.

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(2)

Presented on a taxable-equivalent basis using the statutory income tax rate of 21.0%. Taxable equivalent adjustment of $97 thousand and $5 thousand are included in the calculation of tax exempt income for investment interest income and loan interest income, respectively, for the nine months ended September 30, 2022 and $177 thousand and $6 thousand, respectively, for the nine months ended September 30, 2021.

(3)	Loans placed on nonaccrual are included in average balances.

(4)	Yields do not include the average balance of the fair value adjustment for pools of non-credit impaired loans acquired or discounts on credit impaired loans acquired.

The level of net interest income is affected primarily by variations in the volume and mix of these interest-earning assets and interest-bearing liabilities, as well as changes in interest rates. The following table shows the effect that these factors had on the interest earned from the Company’s interest-earning assets and interest paid on its interest-bearing liabilities for the period indicated.

Rate and Volume Analysis

Three Months Ended September 30, 2022 Versus September 30, 2021

(Dollars in Thousands)


	Increase (Decrease) Due to
	Volume		Yield/Rate		Net
Earning Assets
Loans (1)	$	1,002	$	(264)	$	738
Investment securities
Taxable		129		175		304
Exempt from Federal income tax		(43)		(3)		(46)
Federal funds sold		(6)		334		328
Other interest income		(14)		1,056		1,042
Total interest income		1,068		1,298		2,366
Interest Bearing Liabilities
Interest bearing deposits		(59)		(509)		(568)
Notes payable and leases		(1)		(19)		(20)
Funds purchased		(4)		(3)		(7)
Total Interest Expense		(64)		(531)		(595)
Net Interest Income	$	1,132	$	1,829	$	2,961

(1)	Nonaccrual loans are included in average balances and do not have a material effect on the average yield.

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Rate and Volume Analysis

Nine Months Ended September 30, 2022 Versus September 30, 2021

(Dollars in Thousands)


	Increase (Decrease) Due to
	Volume		Yield/Rate		Net
Earning Assets
Loans (1)	$	2,733	$	(2,129)	$	604
Investment securities
Taxable		219		518		737
Exempt from Federal income tax		(134)		(14)		(148)
Federal funds sold		(7)		396		389
Other interest income		17		1,518		1,535
Total interest income		2,828		289		3,117
Interest Bearing Liabilities
Interest bearing deposits		96		(1,890)		(1,794)
Notes payable and leases		(66)		(27)		(93)
Funds purchased		(145)		39		(106)
Total Interest Expense		(115)		(1,878)		(1,993)
Net Interest Income	$	2,943	$	2,167	$	5,110

(1)

Nonaccrual loans are included in average balances and do not have a material effect on the average yield.

Interest Sensitivity. The Company monitors and manages the pricing and maturity of its assets and liabilities in order to diminish the potential adverse impact that changes in interest rates could have on its net interest income. The Company also performs asset/liability modeling to assess the impact varying interest rates and balance sheet mix assumptions will have on net interest income. Interest rate sensitivity can be managed by repricing assets or liabilities, selling investment securities available for sale, replacing an asset or liability at maturity, or adjusting the interest rate during the life of an asset or liability. Managing the amount of assets and liabilities repricing in the same time interval helps to hedge the risk and minimize the impact on net interest income of rising or falling interest rates. The Company evaluates interest sensitivity risk and then formulates guidelines regarding asset generation and repricing, funding sources and pricing, and off-balance sheet commitments in order to decrease interest rate sensitivity risk.

At September 30, 2022 and December 31, 2021, the Company was asset sensitive within the one-year time frame when looking at a repricing gap analysis. The cumulative gap, in an unchanged interest rate environment, as a percentage of total assets up to one year is 24.6% and 27.0% at September 30, 2022 and December 31, 2021, respectively. A positive gap indicates more assets than liabilities are repricing within the indicated time frame. Management believes there is more upside potential than downside risk and, based on the current and projected interest rate environment, management expects to see net interest income rise in the future.

Provision for Credit Losses and Allowance for Credit Losses

The Company has developed policies and procedures for evaluating the overall quality of its credit portfolio and for timely identifying potential problem loans. Management's judgment as to the adequacy of the allowance for credit losses is based upon a number of assumptions about future events which it believes to be reasonable, but which may not prove to be accurate. Thus, there can be no assurance that loan charge-offs in future periods will not exceed the allowance for credit losses or that additional increases in the allowance for credit losses will not be required.

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The Company's allowance for credit losses consists of two parts. The first part is determined in accordance with authoritative guidance issued by the FASB regarding the allowance for credit losses. The Company's determination of this part of the allowance for credit losses is based upon quantitative and qualitative factors. A loan loss history based upon the prior three years is utilized in determining the appropriate allowance for credit losses. Historical loss factors are determined by criticized and uncriticized loans by loan type. These historical loss factors are applied to the loans by loan type to determine an indicated allowance for credit losses. The historical loss factors may also be modified based upon other qualitative factors including, but not limited to, local and national economic conditions, trends of delinquent loans, changes in lending policies and underwriting standards, concentrations, and management's knowledge of the loan portfolio.

The second part of the allowance for credit losses is determined in accordance with guidance issued by the FASB regarding impaired loans. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis. Impaired loans not deemed collateral dependent are analyzed according to the ultimate repayment source, whether that is cash flow from the borrower, guarantor or some other source of repayment. Impaired loans are deemed collateral dependent if in the Company's opinion the ultimate source of repayment will be generated from the liquidation of collateral.

The sum of the two parts constitutes management's best estimate of an appropriate allowance for credit losses. When the estimated allowance for credit losses is determined, it is presented to the Company's Board of Directors for review and approval on a quarterly basis.

At September 30, 2022, the Company’s allowance for credit losses was $13.8 million, or 1.15% of total outstanding loans. At December 31, 2021, the Company's allowance for credit losses was $14.7 million, or 1.31% of total outstanding loans. The Company’s provision for credit losses in the third quarter of 2022 was $419 thousand, an increase of $449 thousand, or 1,496.7%, when compared to the reversal of credit losses of $30 thousand in the third quarter of 2021. The increase in the provision for credit losses during the three months ended September 30, 2022, as compared to the same period of 2021, was primarily due to organic loan growth, loans acquired in the Virginia Partners acquisition that have converted from acquired to originated status and higher net charge-offs, which were partially offset by a reduction of qualitative adjustment factors that had previously been increased in the allowance for credit losses related to the COVID-19 pandemic and the uncertainty in the economic environment. The Company’s provision for credit losses during the first nine months of 2022 was $803 thousand, a decrease of $1.8 million, or 68.7%, when compared to the provision for credit losses of $2.6 million during the first nine months of 2021. The decrease in the provision for credit losses during the nine months ended September 30, 2022, as compared to the same period of 2021, was primarily due to a reduction of qualitative adjustment factors that had previously been increased in the allowance for credit losses related to the COVID-19 pandemic and the uncertainty in the economic environment, and the reversal of a specific reserve on one loan relationship due to a large principal curtailment and improved performance, which were partially offset by higher net charge-offs, loans acquired in the Virginia Partners acquisition that have converted from acquired to originated status, and organic loan growth.

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The provision for credit losses during the three and nine months ended September 30, 2022, as well as the allowance for credit losses as of September 30, 2022, represents management’s best estimate of the impact of the COVID-19 pandemic as well as the uncertainty in the macroeconomic environment due to higher market interest rates, inflation and the possibility of a recession on the ability of the Company’s borrowers to repay their loans. Management continues to carefully assess the exposure of the Company’s loan portfolio to COVID-19 pandemic related factors and economic trends and their potential effect on asset quality. As of September 30, 2022, the Company’s delinquencies and nonperforming assets had not been materially impacted by the COVID-19 pandemic or current macroeconomic factors. In addition, as of September 30, 2022, all of the loan balances that were approved by the Company, on a consolidated basis, for loan payment deferrals or payments of interest only have either resumed regular payments or have been paid off.

The Company discontinues accrual of interest on loans when management believes, after considering economic and business conditions and collection efforts that a borrower’s financial condition is such that the collection of interest is doubtful. Generally, the Company will place a delinquent loan in nonaccrual status when the loan becomes 90 days or more past due. At the time a loan is placed in nonaccrual status, all interest which has been accrued on the loan but remains unpaid is reversed and deducted from earnings as a reduction of reported interest income. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain.

The following tables illustrate the Company’s past due and nonaccrual loans at September 30, 2022 and December 31, 2021:

Past Due and Nonaccrual Loans

At September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	30 - 89 Days		Greater than 90 Days		Total
September 30, 2022	Past Due		Past Due		Past Due		NonAccrual
Real Estate Mortgage
Construction and land development	$	—	$	575	$	575	$	576
Residential real estate		1,288		380		1,668		1,243
Nonresidential		427		311		738		1,894
Home equity loans		—		45		45		—
Commercial		7		—		7		337
Consumer and other loans		1		—		1		—
TOTAL	$	1,723	$	1,311	$	3,034	$	4,050


	30 - 89 Days		Greater than 90 Days		Total
December 31, 2021	Past Due		Past Due		Past Due		NonAccrual
Real Estate Mortgage
Construction and land development	$	—	$	598	$	598	$	598
Residential real estate		903		361		1,264		1,293
Nonresidential		—		2,915		2,915		6,486
Home equity loans		160		—		160		—
Commercial		46		77		123		584
Consumer and other loans		15		—		15		—
TOTAL	$	1,124	$	3,951	$	5,075	$	8,961

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Total nonaccrual loans at September 30, 2022 were $4.1 million, which reflects a decrease of $4.9 million from $9.0 million at December 31, 2021. Management believes the relationships on nonaccrual were adequately reserved at September 30, 2022. TDRs not past due more than 90 days or on nonaccrual at September 30, 2022 amounted to $2.4 million, as compared to $3.9 million at December 31, 2021. Of this decrease, approximately $1.1 million was due to five loan relationships that are no longer considered to be TDRs due to the restructuring of the loans subsequent to them initially being classified as a TDR. At the time of the subsequent restructurings, the borrowers were not experiencing financial difficulties and, under the terms of the subsequent restructuring agreements, no concessions have been granted to the borrowers. The remaining decrease was the result of loan relationships classified as TDRs that were paid down or paid off, which were partially offset by one loan relationship in the amount of approximately $48 thousand being classified as a performing TDR during the second quarter of 2022. Total TDRs decreased $2.8 million to $5.1 million at September 30, 2022, compared to $7.9 million at December 31, 2021. Of this decrease, approximately $1.1 million was due to five loan relationships that are no longer considered to be TDRs due to the restructuring of the loans subsequent to them initially being classified as a TDR. At the time of the subsequent restructurings, the borrowers were not experiencing financial difficulties and, under the terms of the subsequent restructuring agreements, no concessions have been granted to the borrowers. In addition, during the second and third quarters of 2022, one loan relationship that was classified as a TDR was partially charged-off, reducing the balance in total by approximately $1.3 million, which was partially offset by one loan relationship in the amount of approximately $48 thousand being classified as a TDR during the second quarter of 2022. The remaining decrease was the result of loan relationships classified as TDRs that were paid down or paid off.

Nonperforming assets, defined as nonaccrual loans, loans past due 90 days or more and accruing, and OREO, net, at September 30, 2022 was $4.3 million compared to $9.8 million at December 31, 2021. The Company's ratio of nonperforming assets to total assets was 0.26% at September 30, 2022 compared to 0.60% at December 31, 2021. As noted above, there was a decrease in nonaccrual loans during the nine months ended September 30, 2022. Loans past due 90 days or more and accruing were $275 thousand as of September 30, 2022, as compared to $0 as of December 31, 2021. OREO, net decreased during the nine months ended September 30, 2022 by $837 thousand from December 31, 2021. There were two properties with aggregate values of $837 thousand that were sold at a gain of $7 thousand during the first quarter of 2022.

It is likely that the COVID-19 pandemic and the economic disruption related to it as well as the uncertainty in the macroeconomic environment due to higher market interest rates, inflation and the possibility of a recession will continue to negatively impact the Company’s financial position and results of operations throughout the remainder of fiscal year 2022.

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The following tables provide additional information on the Company’s nonperforming assets at September 30, 2022 and December 31, 2021.

Nonperforming Assets

At September 30, 2022 and December 31, 2021

(Dollars in thousands)


	September 30,			December 31,
	2022			2021
Nonperforming assets:
Nonaccrual loans	$	4,050		$	8,961
Loans past due 90 days or more and accruing		275			—
Total nonperforming loans (NPLs)	$	4,325		$	8,961
Other real estate owned (OREO)		—			837
Total nonperforming assets (NPAs)	$	4,325		$	9,798
Performing TDR's and TDR's 30-89 days past due	$	2,620		$	3,922
NPLs/Total Assets		0.26	%		0.54	%
NPAs/Total Assets		0.26	%		0.60	%
NPAs and TDRs/Total Assets		0.42	%		0.83	%
Allowance for credit losses/Nonaccrual Loans		341.19	%		163.55	%
Allowance for credit losses/NPLs		319.49	%		163.55	%
Nonaccrual loans to total loans outstanding		0.34	%		0.81	%

Nonperforming Loans by Type

At September 30, 2022 and December 31, 2021

(Dollars in thousands)


	September 30,		December 31,
	2022		2021
Real Estate Mortgage
Construction and land development	$	576	$	598
Residential real estate		1,473		1,293
Nonresidential		1,894		6,486
Home equity loans		45		—
Commercial		337		584
Consumer and other loans		—		—
Total	$	4,325	$	8,961

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The following tables provide data related to loan balances and the allowance for credit losses for the nine months ended September 30, 2022 and the year ended December 31, 2021.

Allowance for Credit Losses Data

At September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	September 30,			December 31,
	2022			2021
Average loans outstanding	$	1,155,209		$	1,089,069
Total loans outstanding		1,203,960			1,117,195
Total nonaccrual loans		4,050			8,961
Net loans charged off		1,641			870
Provision for credit losses		803			2,323
Allowance for credit losses		13,818			14,656
Allowance as a percentage of total loans outstanding		1.1	%		1.3	%
Net loans charged off to average loans outstanding		0.1	%		0.1	%
Nonaccrual loans as a percentage of total loans outstanding		0.3	%		0.8	%
Allowance as a percentage of nonaccrual loans outstanding		341.2	%		163.6	%

The following tables represent the activity of the allowance for credit losses for the three and nine months ended September 30, 2022 and 2021 by loan type:

Allowance for Credit Losses and Recorded Investments in Financing Receivables

At September 30, 2022 and 2021

(Dollars in Thousands)


	September 30, 2022
	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Quarter Ended
Beginning Balance	$	935	$	1,869	$	9,203	$	234	$	1,663	$	31	$	124	$	14,059
Charge-offs		—		—		(659)		—		(47)		(16)		—		(722)
Recoveries		1		16		6		—		2		37		—		62
Provision		157		98		(387)		14		273		34		230		419
Ending Balance	$	1,093	$	1,983	$	8,163	$	248	$	1,891	$	86	$	354	$	13,818
Nine Months Ended
Beginning Balance	$	1,143	$	1,893	$	9,239	$	212	$	1,885	$	36	$	248	$	14,656
Charge-offs		—		—		(1,545)		(27)		(167)		(41)		—		(1,780)
Recoveries		—		56		22		6		13		42		—		139
Provision		(50)		34		447		57		160		49		106		803
Ending Balance	$	1,093	$	1,983	$	8,163	$	248	$	1,891	$	86	$	354	$	13,818

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	September 30, 2021
	Real Estate Mortgage
	Construction
	and Land		Residential								Consumer
	Development		Real Estate		Nonresidential		Home Equity		Commercial		and Other		Unallocated		Total
Quarter Ended
Beginning Balance	$	1,038	$	2,206	$	8,654	$	228	$	1,803	$	32	$	1,348	$	15,309
Charge-offs		—		(11)		(138)		—		(91)		(23)		—		(263)
Recoveries		—		6		—		—		2		7		—		15
Provision		88		(50)		565		40		187		21		(881)		(30)
Ending Balance	$	1,126	$	2,151	$	9,081	$	268	$	1,901	$	37	$	467	$	15,031
Nine Months Ended
Beginning Balance	$	903	$	2,351	$	7,584	$	271	$	1,943	$	37	$	114	$	13,203
Charge-offs		—		(39)		(570)		(6)		(185)		(46)		—		(846)
Recoveries		1		22		53		—		11		19		—		106
Provision		222		(183)		2,014		3		132		27		353		2,568
Ending Balance	$	1,126	$	2,151	$	9,081	$	268	$	1,901	$	37	$	467	$	15,031

The following table provides information related to the allocation of the allowance for credit losses by loan category, the related loan balance for each category, and the percentage of loan balance to total loans by category:

Allocation of the Allowance for Credit Losses

At September 30, 2022 and December 31, 2021

(Dollars in thousands)


	September 30,						December 31,
	2022						2021
					Percent						Percent
					of						of
	Loan				Total		Loan				Total
	Balances		Allocation		Loans		Balances		Allocation		Loans
Real Estate Mortgage
Construction and land development	$	119,211	$	1,093	10	%	$	107,983	$	1,143	10	%
Residential real estate		224,321		1,983	19	%		201,230		1,893	18	%
Nonresidential		698,314		8,163	58	%		642,217		9,239	57	%
Home equity loans		30,769		248	3	%		30,395		212	3	%
Commercial		127,673		1,891	10	%		130,908		1,885	12	%
Consumer and other loans		3,672		86	0	%		4,462		36	0	%
Unallocated		—		354	—	%		—		248	—	%
	$	1,203,960	$	13,818	100	%	$	1,117,195	$	14,656	100	%

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Additional information related to net charge-offs (recoveries) is presented in the table below for the periods indicated.

Net Charge-Off Ratio

At September 30, 2022 and 2021

(Dollars in Thousands)


	September 30,						September 30,
	2022						2021

					Net		Net				Net
	Net				Charge-Off						Charge-Off
	Charge-Offs		Average		Ratio		Charge-Offs		Average		Ratio
Quarter Ended	(Recoveries)		Loans		(Annualized)		(Recoveries)		Loans		(Annualized)
Real Estate Mortgage
Construction and land development	$	(1)	$	117,185	(0.00)	%	$	—	$	91,942	—	%
Residential real estate		(16)		223,179	(0.03)	%		5		214,202	0.01	%
Nonresidential		653		672,550	0.39	%		138		601,379	0.09	%
Home equity loans		—		27,797	—	%		—		29,098	—	%
Commercial		45		131,157	0.14	%		89		152,555	0.23	%
Consumer and other loans		(21)		3,235	(2.58)	%		16		4,066	1.56	%
Total Loans Receivable	$	660	$	1,175,103	0.22	%	$	248	$	1,093,242	0.09	%

Nine Months Ended
Real Estate Mortgage
Construction and land development	$	—	$	107,199	—	%	$	(1)	$	86,413	(0.00)	%
Residential real estate		(56)		215,307	(0.03)	%		17		209,989	0.01	%
Nonresidential		1,523		666,722	0.31	%		517		592,529	0.12	%
Home equity loans		21		27,814	0.10	%		6		28,835	0.03	%
Commercial		154		134,666	0.15	%		174		158,777	0.15	%
Consumer and other loans		(1)		3,501	(0.04)	%		27		4,124	0.88	%
Total Loans Receivable	$	1,641	$	1,155,209	0.19	%	$	740	$	1,080,667	0.09	%

The Company continues to closely monitor credit risk and its exposure to increased loan losses resulting from the impact of the COVID-19 pandemic on its borrowers. The Company has identified nine specific higher risk industries for credit exposure monitoring during this crisis.

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The table below identifies these higher risk industries and the Company’s exposure to them as of September 30, 2022.

Exposure to Higher Risk Industries

At September 30, 2022

(Dollars in Thousands)


				As a percentage of
		Loan balances	Number of loans	total loan balances
Higher Risk Industries		outstanding	outstanding	outstanding (%)*
Hospitality (Hotels)	$	80,606	32	6.70	%
Amusement Services		16,115	16	1.34
Restaurants		66,855	65	5.55
Retail Commercial Real Estate		33,052	40	2.75
Movie Theatres		6,136	2	0.51
Charter Boats/Cruises		1,702	3	0.14
Commuter Services		44	4	0
Manufacturing/Distribution		2,112	6	0.18
Totals	$	206,622	168	17.17	%
* Excludes loans originated under the PPP of the SBA.

As of September 30, 2022, there were no loans within these higher risk industries with respect to which the Company has granted loan payment deferrals.

Noninterest Income

Noninterest Income. The Company's primary source of noninterest income is service charges on deposit accounts, mortgage banking income and other income. Sources of other noninterest income include ATM, merchant card and credit card fees, debit card income, safe deposit box income, earnings on bank owned life insurance policies and investment fees and commissions.

Noninterest income during the three months ended September 30, 2022 decreased by $834 thousand, or 40.2%, when compared to the three months ended September 30, 2021. Key changes in the components of noninterest income for the three months ended September 30, 2022, as compared to the same period in 2021, are as follows:

●

Service charges on deposit accounts increased by $30 thousand, or 13.3%, due primarily to increases in overdraft fees as a result of the easing of restrictions and the lifting of lockdowns in the Company’s markets of operation and Virginia Partners no longer automatically waiving overdraft fees which was previously done in an effort to provide all necessary financial support and services to its customers and communities, both as related to the ongoing COVID-19 pandemic as compared to the same period of 2021;

●

Losses on sales and calls of investment securities increased by $8 thousand, or 310.1%, due primarily to Virginia Partners recording losses of $5 thousand on sales or calls of investment securities during the third quarter of 2022, as compared to recording no losses on sales or calls of investment securities during the same period of 2021. In addition, during the third quarter of 2021, Delmarva recorded gains of $3 thousand on sales or calls of investment securities, as compared to recording no gains on sales or calls of investment securities during the same period of 2022;

●	Mortgage banking income decreased by $725 thousand, or 75.8%, due primarily to Virginia Partners’ majority owned subsidiary JMC having a lower volume of loan closings as compared to the same period in 2021; and

●	Other income decreased by $131 thousand, or 14.7%, due primarily to lower mortgage division fees at Delmarva, Virginia Partners recording lower fees from its participation in a loan hedging program with a correspondent bank, and decreases in ATM fees and debit card income.

Noninterest income during the nine months ended September 30, 2022 decreased by $2.6 million, or 39.1%, when compared to the nine months ended September 30, 2021. Key changes in the components of noninterest income for the nine months ended September 30, 2022, as compared to the same period in 2021, are as follows:

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●

Service charges on deposit accounts increased by $151 thousand, or 26.3%, due primarily to increases in overdraft fees as a result of the easing of restrictions and the lifting of lockdowns in the Company’s markets of operation and Virginia Partners no longer automatically waiving overdraft fees which was previously done in an effort to provide all necessary financial support and services to its customers and communities, both as related to the ongoing COVID-19 pandemic as compared to the same period of 2021;

●

Losses on sales and calls of investment securities increased by $28 thousand, or 123.8%, due primarily to Virginia Partners recording losses of $5 thousand on sales or calls of investment securities during the first nine months of 2022, as compared to recording gains of $19 thousand on sales or calls of investment securities during the same period of 2021. In addition, during the first nine months of 2021, Delmarva recorded gains of $3 thousand on sales or calls of investment securities, as compared to recording no gains on sales or calls of investment securities during the same period of 2022;

●	Impairment (loss) on restricted stock increased from zero to $1 thousand, due primarily to Virginia Partners recording the final write-down of its investment in Maryland Financial Bank, which had been going through an orderly liquidation;

●	Mortgage banking income decreased by $2.1 million, or 69.0%, due primarily to Virginia Partners’ majority owned subsidiary JMC having a lower volume of loan closings as compared to the same period in 2021;

●	Gains on sales of other assets decreased by $1 thousand, or 100.0%, as a result of Delmarva selling its VISA credit card portfolio during the first quarter of 2021. There were no gains on sales of other assets for the same period of 2022; and

●

Other income decreased by $563 thousand, or 19.6%, due primarily to lower mortgage division fees at Delmarva, Virginia Partners recording lower fees from its participation in a loan hedging program with a correspondent bank, and decreases in ATM fees and debit card income, which were partially offset by Delmarva recording higher earnings on bank owned life insurance policies due to additional purchases made in 2021.

Noninterest Expense

Noninterest Expense. Noninterest expense includes all expenses with the exception of those paid for interest on deposits and borrowings. Significant expense items included in this component are salaries and employee benefits, premises and equipment and other operating expenses.

Noninterest expense during the three months ended September 30, 2022 decreased by $10 thousand, or 0.1%, when compared to the three months ended September 30, 2021. Key changes in the components of noninterest expense for the three months ended September 30, 2022, as compared to the same period in 2021, are as follows:

●

Salaries and employee benefits decreased by $149 thousand, or 2.6%, primarily due to decreases related to staffing changes, a decrease in commissions expense paid due to the decrease in mortgage banking income from Virginia Partners’ majority owned subsidiary JMC, and lower payroll taxes, which were partially offset by merit increases and higher expenses related to benefit costs and bonus accruals. In addition, salaries and employee benefits increased due to Virginia Partners’ new key hires and expansion into the Greater Washington market;

●

Premises and equipment increased by $98 thousand, or 7.5%, primarily due to an increase related to Virginia Partners opening its new full-service branch and commercial banking office in Reston, Virginia during the third quarter of 2021, and higher expenses related to software amortization and maintenance contracts, which were partially offset by lower expenses related to building security and purchased equipment and furniture, the cost of which did not qualify for capitalization;

●	Amortization of core deposit intangible decreased by $20 thousand, or 13.4%, primarily due to lower amortization related to the $2.7 million and $1.5 million, respectively, in core deposit intangibles recognized in the Virginia Partners and Liberty acquisitions;

●	Losses and expenses on other real estate owned decreased by $35 thousand, or 100.0%, primarily due to valuation adjustments and expenses being recorded on properties during the third quarter of 2021 as compared to no valuation adjustments or expenses being recorded during the same period of 2022;

●	Merger related expenses increased from zero to $167 thousand, primarily due to legal fees and other costs associated with the terminated merger with OCFC; and

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●

Other expenses decreased by $72 thousand, or 2.4%, primarily due to lower expenses related to legal, other professional fees, FDIC insurance assessments, other losses, postage, printing and supplies, and travel and entertainment, which were partially offset by higher expenses related to loans, advertising, ATM, audit and accounting fees, and sponsorships.

Noninterest expense during the nine months ended September 30, 2022 increased by $365 thousand, or 1.2%, when compared to the nine months ended September 30, 2021. Key changes in the components of noninterest expense for the nine months ended September 30, 2022, as compared to the same period in 2021, are as follows:

●

Salaries and employee benefits decreased by $16 thousand, or 0.1%, primarily due to decreases related to staffing changes and a decrease in commissions expense paid due to the decrease in mortgage banking income from Virginia Partners’ majority owned subsidiary JMC, which were partially offset by merit increases and higher expenses related to payroll taxes, benefit costs, stock-based compensation expense and bonus accruals. In addition, salaries and employee benefits increased due to Virginia Partners’ new key hires and expansion into the Greater Washington market and Delmarva opening its new full-service branch at 26^th Street in Ocean City, Maryland;

●

Premises and equipment increased by $504 thousand, or 13.3%, primarily due to increases related to Delmarva opening its new full-service branch at 26^th Street in Ocean City, Maryland during the second quarter of 2021 and Virginia Partners opening its new full-service branch and commercial banking office in Reston, Virginia during the third quarter of 2021, and higher expenses related to software amortization and maintenance contracts, which were partially offset by lower expenses related to building security and purchased software, the cost of which did not qualify for capitalization;

●	Amortization of core deposit intangible decreased by $60 thousand, or 13.1%, primarily due to lower amortization related to the $2.7 million and $1.5 million, respectively, in core deposit intangibles recognized in the Virginia Partners and Liberty acquisitions;

●

(Gains) losses and expenses on other real estate owned decreased by $192 thousand, or 105.2%, primarily due to valuation adjustments being recorded on properties during the first nine months of 2021 as compared to no valuation adjustments being recorded during the same period of 2022, and lower expenses related to other real estate owned;

●	Merger related expenses increased from zero to $720 thousand, primarily due to legal fees and other costs associated with the terminated merger with OCFC; and

●

Other expenses decreased by $591 thousand, or 6.5%, primarily due to lower expenses related to legal, subscriptions and publications, data and item processing, other losses, and other professional fees, which were partially offset by higher expenses related to advertising, printing and postage, FDIC insurance assessments, loans, consulting, ATM, Virginia Partners state franchise tax, and telephone and data circuits.

Income Taxes

The provision for income taxes was $1.3 million during the three months ended September 30, 2022, compared to the provision for income taxes of $839 thousand during the three months ended September 30, 2021, an increase of $453 thousand or 53.9%. This increase was due primarily to higher consolidated income before taxes, higher merger related expenses, which are typically non-deductible, and lower earnings on tax-exempt income, primarily tax-exempt investment securities. For the three months ended September 30, 2022, the Company’s effective tax rate was approximately 23.9% as compared to 23.8% for the same period in 2021.

The provision for income taxes was $2.9 million during the nine months ended September 30, 2022, compared to the provision for income taxes of $1.8 million during the nine months ended September 30, 2021, an increase of $1.1 million or 57.8%. This increase was due primarily to higher consolidated income before taxes, higher merger related expenses, which are typically non-deductible, and lower earnings on tax-exempt income, primarily tax-exempt investment securities. For the nine months ended September 30, 2022 and 2021, the Company’s effective tax rate was approximately 23.7%, respectively.

In addition, Virginia Partners is not subject to Virginia state income tax, but instead pays Virginia franchise tax. The Virginia franchise tax paid by Virginia Partners is recorded in the “Other operating expenses” line item on the Consolidated Statements of Income for the three and nine months ended September 30, 2022 and 2021.

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Financial Condition

Interest Earning Assets

Loans. Loans typically provide higher yields than the other types of interest-earning assets, and thus one of the Company's goals is to increase loan balances. Management attempts to control and counterbalance the inherent credit and liquidity risks associated with the higher loan yields without sacrificing asset quality to achieve its asset mix goals. Total gross loans, including unamortized discounts on acquired loans, averaged $1.18 billion and $1.09 billion during the three months ended September 30, 2022 and 2021, respectively, and averaged $1.16 billion and $1.08 billion during the nine months ended September 30, 2022 and 2021, respectively.

The following table shows the composition of the loan portfolio by category at September 30, 2022 and December 31, 2021:

Composition of Loan Portfolio by Category

As of September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	September 30,		December 31,
	2022		2021
Real Estate Mortgage
Construction and land development	$	119,211	$	107,983
Residential real estate		224,321		201,230
Nonresidential		698,314		642,217
Home equity loans		30,769		30,395
Commercial		127,673		130,908
Consumer and other loans		3,672		4,462
	$	1,203,960	$	1,117,195
Less: Allowance for credit losses		(13,818)		(14,656)
	$	1,190,142	$	1,102,539

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The following table sets forth the repricing characteristics and sensitivity to interest rate changes of the Company’s loan portfolio at September 30, 2022:

Loan Maturities and Interest Rate Sensitivity

At September 30, 2022

(Dollars in thousands)


			Between		Between
	One Year		One and		Five and		After
September 30, 2022	or Less		Five Years		Fifteen Years		Fifteen Years		Total
Real Estate Mortgage
Construction and land development	$	72,611	$	30,950	$	12,372	$	3,278	$	119,211
Residential real estate		40,019		104,962		49,275		30,065		224,321
Nonresidential		122,236		385,695		160,913		29,470		698,314
Home equity loans		17,201		3,460		5,611		4,497		30,769
Commercial		48,120		46,205		24,156		9,192		127,673
Consumer and other loans		365		1,656		700		951		3,672
Total loans receivable	$	300,552	$	572,928	$	253,027	$	77,453	$	1,203,960

Fixed-rate loans:
Real Estate Mortgage
Construction and land development	$	31,040	$	22,834	$	7,989	$	2,054	$	63,917
Residential real estate		26,927		88,062		19,248		1,141		135,378
Nonresidential		100,462		364,391		108,997		8,348		582,198
Home equity loans		—		—		—		—		—
Commercial		9,618		43,491		22,218		—		75,327
Consumer and other loans		290		1,652		623		525		3,090
Total fixed-rate loans	$	168,337	$	520,430	$	159,075	$	12,068	$	859,910

Floating-rate loans:
Real Estate Mortgage
Construction and land development	$	41,571	$	8,116	$	4,383	$	1,224	$	55,294
Residential real estate		13,092		16,900		30,027		28,924		88,943
Nonresidential		21,774		21,304		51,916		21,122		116,116
Home equity loans		17,201		3,460		5,611		4,497		30,769
Commercial		38,502		2,714		1,938		9,192		52,346
Consumer and other loans		75		4		77		426		582
Total floating-rate loans	$	132,215	$	52,498	$	93,952	$	65,385	$	344,050

At September 30, 2022, real estate mortgage loans included $323.2 million of owner-occupied non-farm, non-residential loans, and $314.5 million of other non-farm, non-residential loans, which is 30.1% and 29.3% of real estate mortgage loans, respectively. By comparison, at December 31, 2021, real estate mortgage loans included $287.4 million of owner-occupied non-farm, non-residential loans, and $313.8 million of other non-farm, non-residential loans, which is 29.3% and 32.0% of real estate mortgage loans, respectively. This represents an increase at September 30, 2022 of $35.9 million and $697 thousand, or 12.5% and 0.2%, in owner-occupied non-farm, non-residential loans and other non-farm, non-residential loans, respectively.

At September 30, 2022, real estate mortgage loans included $119.2 million of construction and land development loans, and $44.2 million of multi-family residential loans, which are 11.1% and 4.1% of real estate mortgage loans, respectively. By comparison, at December 31, 2021, real estate mortgage loans included $107.9 million of construction and land development loans, and $24.4 million of multi-family residential loans, which were 11.0% and 2.5% of real estate mortgage loans, respectively. This represents an increase at September 30, 2022 of $11.3 million, or 10.5%, in construction and land development loans, and an increase at September 30, 2022 of $19.8 million, or 81.0%, in multi-family residential loans.

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Commercial real estate loans, excluding owner-occupied non-farm, non-residential loans, were 274.2% of total risk-based capital at September 30, 2022, as compared to 267.9% at December 31, 2021. Construction and land development loans were 68.4% of total risk-based capital at September 30, 2022, as compared to 64.8% at December 31, 2021.

At September 30, 2022, real estate mortgage loans included home equity loans of $30.8 million and residential real estate loans of $224.3 million, compared to $30.4 million and $201.2 million at December 31, 2021, respectively. Home equity loans increased $373 thousand, or 1.2%, during the nine months ended September 30, 2022, and residential real estate loans increased $23.1 million, or 11.5%, during the nine months ended September 30, 2022. At September 30, 2022, commercial loans were $127.7 million, compared to $130.9 million at December 31, 2021, a decrease of $3.2 million, or 2.5%, during the nine months ended September 30, 2022.

The overall increase in loans from the year ended December 31, 2021 to September 30, 2022 was due primarily to an increase in organic growth, including growth of approximately $46.2 million in loans related to Virginia Partners’ recent expansion into the Greater Washington market, which was partially offset by forgiveness payments received of approximately $8.2 million under round two of the PPP. As of September 30, 2022, there were no loans under round two of the PPP that were still outstanding.

Investment Securities. The investment securities portfolio is a significant component of the Company's total interest-earning assets. Total investment securities averaged $154.7 million during the three months ended September 30, 2022 as compared to $127.2 million for the three months ended September 30, 2021. This represented 9.5% and 8.1% of total average interest-earning assets for the three months ended September 30, 2022 and 2021, respectively. The increase in average total investment securities for the three months ended September 30, 2022, as compared to the same period of 2021, was primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs and lower accelerated pre-payments on mortgage-backed investment securities, partially offset by calls on higher yielding investment securities in the previously low interest rate environment. During the third quarter of 2021, accelerated pre-payments on mortgage-backed investment securities caused the premiums paid on these investment securities to be amortized into expense on an accelerated basis thereby reducing income and yield earned. Total investment securities averaged $145.3 million during the nine months ended September 30, 2022 as compared to $129.4 million for the nine months ended September 30, 2021. This represented 8.9% and 8.5% of total average interest-earning assets for the nine months ended September 30, 2022 and 2021, respectively. The increase in average total investment securities for the nine months ended September 30, 2022, as compared to the same period of 2021, was primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs and lower accelerated pre-payments on mortgage-backed investment securities, partially offset by calls on higher yielding investment securities in the previously low interest rate environment. During the first nine months of 2021, accelerated pre-payments on mortgage-backed investment securities caused the premiums paid on these investment securities to be amortized into expense on an accelerated basis thereby reducing income and yield earned.

During the first nine months of 2022, the Company’s investment securities portfolio was negatively impacted by unrealized losses in the market value of investment securities available for sale as a result of increases in market interest rates. The Company believes that further increases in market interest rates will likely result in higher unrealized losses in the market value of the investment securities available for sale portfolio. The Company expects to recover its investment in debt securities through scheduled payments of principal and interest, and unrealized losses are not expected to affect the earnings or regulatory capital of the Company.

The Company classifies all of its investment securities as available for sale. This classification requires that investment securities be recorded at their fair value with any difference between the fair value and amortized cost (the purchase price adjusted by any discount accretion or premium amortization) reported as a component of stockholders’ equity (accumulated other comprehensive income (loss)), net of deferred taxes. At September 30, 2022 and December 31, 2021, investment securities available for sale, at fair value totaled $131.5 million and $122.0 million, respectively. Investment securities available for sale, at fair value increased by approximately $9.4 million, or 7.7%, during the nine months ended September 30, 2022 from December 31, 2021. This increase was primarily due to management of the investment securities portfolio in light of the Company’s liquidity needs, which was partially offset by two higher yielding

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investment securities being called, and an increase in unrealized losses on the investment securities available for sale portfolio. The Company attempts to maintain an investment securities portfolio of high quality, highly liquid investments with returns competitive with short-term U.S. Treasury or agency obligations. This objective is particularly important as the Company focuses on growing its loan portfolio. The Company primarily invests in securities of U.S. Government agencies, municipals, and corporate obligations. At September 30, 2022 and December 31, 2021 there were no issuers, other than the U.S. Government and its agencies, whose securities owned by the Company had a book or fair value exceeding 10% of the Company's stockholders' equity.

The following table summarizes the amortized cost and fair value of investment securities available for sale as of September 30, 2022:

Amortized Cost and Fair Value of Investment Securities

At September 30, 2022

(Dollars in Thousands)


	September 30, 2022
					Gross		Gross
	Amortized		Percentage		Unrealized		Unrealized		Fair
	Cost		of Total		Gains		Losses		Value
Obligations of U.S. Government agencies and corporations	$	15,167	10.0	%	$	—	$	1,665	$	13,502
Obligations of States and political subdivisions		29,094	19.3	%		—		3,475		25,619
Mortgage-backed securities		104,383	69.1	%		—		14,444		89,939
Subordinated debt investments		2,467	1.6	%		—		62		2,405
	$	151,111	100.0	%	$	—	$	19,646	$	131,465

The following table sets forth the fair value and weighted average yields by maturity category of the investment securities available for sale portfolio as of September 30, 2022. Weighted-average yields have been computed on a fully taxable-equivalent basis using a tax rate of 21%. Mortgage-backed securities are included in maturity categories based on their stated maturity date. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations.

Fair Value and Weighted Average Yields of Investment Securities by Maturity

At September 30, 2022

(Dollars in Thousands)


	September 30, 2022

	Within 1 Year				1-5 Years				5-10 years				After 10 Years				Total
			Weighted				Weighted				Weighted				Weighted				Weighted
	Fair		Average		Fair		Average		Fair		Average		Fair		Average		Fair		Average
	Value		Yield		Value		Yield		Value		Yield		Value		Yield		Value		Yield
Obligations of U.S. Government agencies and corporations	$	—	—	%	$	6,629	3.39	%	$	4,987	1.85	%	$	1,886	1.92	%	$	13,502	2.62	%
Obligations of States and political subdivisions		—	—	%		3,743	2.79	%		11,019	2.45	%		10,857	2.40	%		25,619	2.48	%
Mortgage-backed securities		1	4.50	%		371	1.38	%		24,511	2.39	%		65,056	1.78	%		89,939	1.94	%
Subordinated debt investments		—	—	%		—	—	%		2,405	5.56	%		—	—	%		2,405	5.56	%
	$	1	4.50	%	$	10,743	3.12	%	$	42,922	2.52	%	$	77,799	1.87	%	$	131,465	2.18	%

In addition, the Company holds stock in various correspondent banks as well as the Federal Reserve Bank. The balance of these securities was $4.9 million at September 30, 2022 and December 31, 2021.

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Due to the increase in longer term interest rates and ongoing volatility in the securities markets during the nine months ended September 30, 2022, the net unrealized losses in the Company’s investment securities available for sale portfolio increased from December 31, 2021 by approximately $20.1 million, or 4,201.5%, to $19.6 million at September 30, 2022.

Subsequent interest rate fluctuations could have an adverse effect on our investment securities available for sale portfolio by increasing reinvestment risk and reducing our ability to achieve our targeted investment returns.

Interest Bearing Liabilities

Deposits. Average total deposits increased from $1.43 billion to $1.48 billion, an increase of $45.5 million, or 3.2%, for the three months ended September 30, 2022 over the average total deposits for the three months ended September 30, 2021. Average total deposits increased from $1.37 billion to $1.48 billion, an increase of $106.8 million, or 7.8%, for the nine months ended September 30, 2022 over the average total deposits for the nine months ended September 30, 2021. These increases were primarily due to organic deposit growth, which was partially offset by scheduled maturities of higher cost time deposits that were not replaced. At September 30, 2022, total deposits were $1.46 billion as compared to $1.44 billion at December 31, 2021, an increase of $13.1 million, or 0.9%. This increase was primarily driven by organic growth as a result of our continued focus on total relationship banking and Virginia Partners’ recent expansion into the Greater Washington market, and customers seeking the liquidity and safety of deposit accounts in light of continuing economic uncertainty and volatility in stock and other investment markets. Non-interest bearing demand deposits increased to $568.1 million at September 30, 2022, a $74.2 million, or 15.0%, increase from $493.9 million in non-interest bearing demand deposits at December 31, 2021, due primarily to the aforementioned items above with respect to actual and average total deposits.

The following table sets forth the deposits of the Company by category for the period indicated:

Deposits by Category

As of September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	September 30,		Percentage		December 31,		Percentage
	2022		of Deposits		2021		of Deposits
Noninterest bearing demand deposits	$	568,113	39.02	%	$	493,913	34.23	%
Interest bearing deposits:
Money market, NOW, and savings accounts		584,794	40.16	%		569,707	39.48	%
Certificates of deposit, $250 thousand or more		66,761	4.59	%		82,083	5.69	%
Other certificates of deposit		236,276	16.23	%		297,173	20.60	%
Total interest bearing deposits		887,831	60.98	%		948,963	65.77	%
Total	$	1,455,944	100.00	%	$	1,442,876	100.00	%

The Company's loan-to-deposit ratio was 82.7% at September 30, 2022 as compared to 77.4% at December 31, 2021. Core deposits, which exclude certificates of deposit of more than $250 thousand, provide a relatively stable funding source for the Company's loan portfolio and other interest-earning assets. The Company's core deposits were $1.39 billion at September 30, 2022, an increase of $28.4 million, or 2.1%, from $1.36 billion at December 31, 2021, and excluded $66.8 million and $82.1 million in certificates of deposit of $250 thousand or more as of those dates, respectively. Management anticipates that a stable base of deposits will be the Company's primary source of funding to meet both its short-term and long-term liquidity needs in the future, and, therefore, feels that presenting core deposits provides valuable information to investors.

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The following table provides a summary of the Company’s maturity distribution for certificates of deposit at the date indicated:

Maturities of Certificates of Deposit

At September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	September 30,		December 31,
	2022		2021
Three months or less	$	79,609	$	46,845
Over three months through six months		46,787		64,574
Over six months through twelve months		82,487		129,517
Over twelve months		94,154		138,320
Total	$	303,037	$	379,256

The following table provides a summary of the Company’s maturity distribution for certificates of deposit of greater than $250 thousand or more at the date indicated:

Maturities of Certificates of Deposit Greater than $250 Thousand

At September 30, 2022 and December 31, 2021

(Dollars in Thousands)


	September 30,		December 31,
	2022		2021
Three months or less	$	12,996	$	13,359
Over three months through six months		15,141		14,803
Over six months through twelve months		14,562		20,124
Over twelve months		24,062		33,797
Total	$	66,761	$	82,083

Borrowings. Borrowings at September 30, 2022 and December 31, 2021 consist primarily of long-term borrowings with the FHLB, subordinated notes payable, net, and other borrowings.

At September 30, 2022 and December 31, 2021, there were no short-term borrowings with the FHLB. At September 30, 2022, long-term borrowings with the FHLB were $25.8 million as compared to $26.3 million at December 31, 2021, a decrease of $494 thousand, or 1.9%. This decrease was primarily due to scheduled principal curtailments. These borrowings are collateralized by a blanket lien on the first mortgage loans in the amount of the outstanding borrowings, FHLB capital stock, and amounts on deposit with the FHLB.

At September 30, 2022 and December 31, 2021, subordinated notes payable, net, were $22.2 million.

At September 30, 2022, other borrowings were $811 thousand as compared to $755 thousand at December 31, 2021, an increase of $55 thousand, or 7.3%. Virginia Partners majority owned subsidiary, JMC, has a warehouse line of credit with another financial institution in the amount of $3.0 million, of which $192 thousand and $120 thousand were outstanding as of September 30, 2022 and December 31, 2021, respectively. The increase in JMC’s warehouse line of credit was partially offset by a decrease on Virginia Partners’ note payable on 410 William Street, Fredericksburg, Virginia, primarily due to scheduled principal curtailments, partially offset by the amortization of the related discount on the note payable.

See Note 4 – Borrowings and Notes Payable of the unaudited consolidated financial statements included in this Quarterly Report for additional information on the Company’s subordinated notes payable, net, Virginia Partners’ note payable, and JMC’s warehouse line of credit.

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Average total borrowings decreased by $697 thousand, or 1.4%, and average rates paid increased by 0.09% to 4.01% for the three months ended September 30, 2022, as compared to the same period in 2021. The decrease in average total borrowings balances was primarily due to a decrease in the average balance of FHLB advances resulting from scheduled principal curtailments. The increase in average rates paid was primarily due to the decrease in the average balance of FHLB advances which was a lower cost interest-bearing liability. Average total borrowings decreased by $12.6 million, or 20.4%, and average rates paid increased by 0.52% to 4.03% for the nine months ended September 30, 2022, as compared to the same period in 2021. The decrease in average total borrowings balances was primarily due to a decrease in the average balance of FHLB advances resulting from maturities and payoffs of borrowings that were not replaced and scheduled principal curtailments, a decrease in average borrowings at the PPPLF in which the loans under the PPP originated by the Company were previously pledged as collateral, and the early redemption of $2.0 million in subordinated notes payable, net, in early July 2021. The increase in average rates paid was primarily due to the decreases in the average balances of FHLB advances and borrowings at the PPPLF, which were lower cost interest-bearing liabilities, partially offset by the early redemption of subordinated notes payable, which was a higher cost interest-bearing liability.

Capital

Total stockholders’ equity as of September 30, 2022 was $133.8 million, a decrease of $7.6 million, or 5.4%, from December 31, 2021. Key drivers of this change were an increase in accumulated other comprehensive (loss), net of tax, and cash dividends paid to shareholders, which were partially offset by the net income attributable to the Company for the nine months ended September 30, 2022, the proceeds from stock option exercises, and stock-based compensation expense related to restricted stock awards.

The Federal Reserve and other bank regulatory agencies require bank holding companies and financial institutions to maintain capital at adequate levels based on a percentage of assets and off-balance sheet exposures, adjusted for risk weights ranging from 0% to 100%. The following table presents actual and required capital ratios as of September 30, 2022 and December 31, 2021 for Delmarva and Virginia Partners under Basel III Capital Rules. The minimum required capital amounts presented include the minimum required capital levels as of September 30, 2022 based on the phase-in provisions of the Basel III Capital Rules and the minimum required capital levels as of January 1, 2019 when the Basel III Capital Rules were fully phased-in. Capital levels required for an institution to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules. See Note 10 – Regulatory Capital Requirements of the unaudited consolidated financial statements included in this Quarterly Report for a more in depth discussion of regulatory capital requirements.

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Capital Components

At September 30, 2022 and December 31, 2021

(Dollars in Thousands)


									To Be Well
									Capitalized
					For Capital				Under Prompt
					Adequacy				Corrective Action
	Actual				Purposes				Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
As of September 30, 2022
Total Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		95,924	13.0	%		77,304	10.5	%		73,623	10.0	%
Virginia Partners Bank		62,076	11.4	%		57,233	10.5	%		54,508	10.0	%
Tier 1 Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		86,715	11.8	%		62,580	8.5	%		58,898	8.0	%
Virginia Partners Bank		57,718	10.6	%		46,332	8.5	%		43,606	8.0	%
Common Equity Tier 1 Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		86,715	11.8	%		51,536	7.0	%		47,855	6.5	%
Virginia Partners Bank		57,718	10.6	%		38,156	7.0	%		35,430	6.5	%
Tier 1 Leverage Ratio
(To Average Assets)
The Bank of Delmarva		86,715	8.7	%		39,916	4.0	%		49,895	5.0	%
Virginia Partners Bank		57,718	8.6	%		26,772	4.0	%		33,465	5.0	%


									To Be Well
									Capitalized
					For Capital				Under Prompt
					Adequacy				Corrective Action
	Actual				Purposes				Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
As of December 31, 2021
Total Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		91,928	12.9	%		74,963	10.5	%		71,394	10.0	%
Virginia Partners Bank		56,192	12.0	%		49,103	10.5	%		46,765	10.0	%
Tier 1 Capital Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		82,972	11.6	%		60,684	8.5	%		57,115	8.0	%
Virginia Partners Bank		52,844	11.3	%		39,750	8.5	%		37,412	8.0	%
Common Equity Tier 1 Ratio
(To Risk Weighted Assets)
The Bank of Delmarva		82,972	11.6	%		49,975	7.0	%		46,406	6.5	%
Virginia Partners Bank		52,844	11.3	%		32,735	7.0	%		30,397	6.5	%
Tier1I Leverage Ratio
(To Average Assets)
The Bank of Delmarva		82,972	8.1	%		40,926	4.0	%		51,158	5.0	%
Virginia Partners Bank		52,844	8.5	%		25,009	4.0	%		31,261	5.0	%

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Liquidity Management

Liquidity management involves monitoring the Company's sources and uses of funds in order to meet its day-to-day cash flow requirements while maximizing profits. Liquidity represents the ability of a company to convert assets into cash or cash equivalents without significant loss and to raise additional funds by increasing liabilities. Liquidity management is made more complicated because different balance sheet components are subject to varying degrees of management control. For example, the timing of maturities of the available for sale investment securities portfolio is very predictable and subject to a high degree of control at the time investment decisions are made; however, net deposit inflows and outflows are far less predictable and are not subject to the same degree of control. Asset liquidity is provided by cash and assets which are readily marketable, which can be pledged, or which will mature in the near future. Liability liquidity is provided by access to core funding sources, principally the ability to generate customer deposits in the Company's market area. The Company's cash and cash equivalents position, which includes funds in cash and due from banks, interest bearing deposits in other financial institutions, and federal funds sold, averaged $295.7 million and $326.7 million during the three and nine months ended September 30, 2022, respectively, and totaled $248.3 million at September 30, 2022, as compared to an average of $354.7 million and $316.2 million during the three and nine months ended September 30, 2021, respectively, and a year-end position of $338.8 million at December 31, 2021.

Also, the Company has available advances from the FHLB. Advances available are generally based upon the amount of qualified first mortgage loans which can be used for collateral. At September 30, 2022, advances available totaled approximately $422.0 million of which approximately $25.8 million had been drawn, or used for letters of credit. Management regularly reviews the liquidity position of the Company and has implemented internal policies which establish guidelines for sources of asset-based liquidity and limit the total amount of purchased funds used to support the balance sheet and funding from non-core sources. Subject to certain aggregation rules, FDIC deposit insurance covers the funds in deposit accounts up to $250 thousand.

Impact of Inflation

Unlike most industrial companies, the assets and liabilities of financial institutions such as the Company are primarily monetary in nature. Therefore, interest rates have a more significant effect on the Company's performance than do the effects of changes in the general rate of inflation and change in prices. In addition, interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services. As discussed previously, management seeks to manage the relationships between interest sensitive assets and liabilities in order to protect against wide interest rate fluctuations, including those resulting from inflation.

Accounting Standards Update

See Note 16 - Recent Accounting Pronouncements of the unaudited consolidated financial statements included in this Quarterly Report for details on recently issued accounting pronouncements and their expected impact on the Company’s financial statements.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Not required.

ITEM 4. CONTROLS AND PROCEDURES.

The Company’s management, under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, evaluated, as of the last day of the period covered by this report, the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2022 to ensure that information required to be disclosed by the Corporation in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and that such information is accumulated and communicated to the Corporation’s management, including the Corporation’s Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

In designing and evaluating the Company’s disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

There were no changes in the Company’s internal control over financial reporting as defined in the Exchange Act Rules 13a-15(f) and 15d-15(f) that occurred during the first nine months of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.

From time to time the Company, Delmarva and Partners are a party to various litigation matters incidental to the conduct of their respective businesses. The Company, Delmarva and Partners are not presently party to any legal proceedings the resolution of which the Company believes would have a material adverse effect on their respective businesses, prospects, financial condition, liquidity, results of operation, cash flows or capital levels.

ITEM 1A. RISK FACTORS.

During the nine months ended September 30, 2022, there have been no material changes from the risk factors previously disclosed under Part I, Item 1A. “Risk Factors” in the Company’s 2021 Annual Report on Form 10-K, except with respect to the following additional risk factor:

The termination of the Merger Agreement with OCFC could negatively impact the Company.

On November 9, 2022, the Company and OCFC entered into a Mutual Termination Agreement (the “Termination Agreement”) pursuant to which, among other things, the parties mutually agreed to terminate the Merger Agreement and transactions completed thereby. As a result of the termination of the Merger Agreement, the ongoing business, financial condition and results of operations, and reputation of the Company may be materially adversely affected, including as a result of litigation, and the market price of the Company’s common stock may decline.

In addition, the Company has incurred and will incur substantial expenses in connection with the transactions contemplated under the terminated Merger Agreement which the Company will have recognized (including in part in the fourth quarter of 2022) without realizing the expected benefits of the merger. Further, Company shareholders

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cannot be assured that the Company will seek another merger or business combination or, if the Company does seek another merger or business combination, that the Company will be able to find a party willing to engage in a transaction at all or on terms more attractive than the terms offered under the Merger Agreement.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

In November 2020 the Company’s Board of Directors approved, and the Company announced, a stock repurchase program (the “Program”). Under the Program, the Company is authorized to repurchase up to 356,000 shares of its common stock. The Company may repurchase shares in the open market or through privately negotiated transactions. The actual timing, number and value of shares repurchased under the Program will depend on a number of factors, including constraints specified in any Rule 10b5-1 trading plans, price, general business and market conditions, and alternative investment opportunities. The Program does not obligate the Company to acquire any specific number of shares in any period, and the Program may be limited or terminated at any time without prior notice. The Company did not repurchase any of its common stock during the quarter ended September 30, 2022.

The following table provides information with respect to purchases made by or on behalf of us or any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Exchange Act) of the Company’s common stock during the third quarter of 2022.


Issuer Purchases of Equity Securities
			Total Number	Maximum Number
	Total Number	Average Price	of Shares Purchased as Part	Of Shares that May Yet Be
	of Shares	Paid Per	of the Publicly Announced	Purchased Under the
Period	Purchased	Share	Plans or Programs	Plans or Programs
July 1, 2022 to July 31, 2022	—	$ -	—	255,800
August 1, 2022 to August 31, 2022	—	$ -	—	255,800
September 1, 2022 to September 30, 2022	—	$ -	—	255,800
Total	—	$ -	—	255,800

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

Not applicable.

ITEM 4. MINE SAFETY DISCLOSURES.

None.

ITEM 5. OTHER INFORMATION.

None.

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ITEM 6. EXHIBITS


2.1 2.2	Agreement and Plan of Merger, dated as of November 4, 2021, by and among OceanFirst Financial Corp, Coastal Merger Sub Corp., and Partners Bancorp (incorporated by reference to Exhibit 2.1 to the Company’s Current Report on Form 8-K filed on November 4, 2021).* Mutual Termination Agreement, dated as of November 9, 2022, by and between OceanFirst Financial Corp. and Partners Bancorp (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on November 9, 2022).
3.1	Articles of Incorporation of Partners Bancorp (incorporated by reference to Exhibit 3.1 to Pre-Effective Amendment No. 1 to the Company’s Registration Statement on Form S-4 (Registration No. 333-230599) filed on May 10, 2019)
3.1.1	Amendment to the Articles of Incorporation of Delmar Bancorp, dated December 20, 2019 (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on December 20, 2019)
3.1.2	Amendment to the Articles of Incorporation of Partners Bancorp, effective as of August 19, 2020 (incorporated by reference to Exhibit 3.1.2 to the Company’s Current Report on Form 8-K filed on August 20, 2020)
3.2	Bylaws of Partners Bancorp, effective as of August 19, 2020 (incorporated by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K filed on August 20, 2020)
31.1	Rule 13a-14(a)/15d-14(a) Certification of the Principal Executive Officer
31.2	Rule 13a-14(a)/15d-14(a) Certification of the Principal Financial Officer
32.1	Section 1350 Statement of Principal Executive Officer
32.2	Section 1350 Statement of Principal Financial Officer

101.INS	Inline XBRL Instance Document (embedded within the Inline XBRL document).

101.SCH	Inline XBRL Taxonomy Extension Schema Document.

101.CAL	Inline XBRL Taxonomy Extension Calculation Linkbase Document.

101.DEF	Inline XBRL Taxonomy Extension Definition Linkbase Document.

101.LAB	Inline XBRL Taxonomy Extension Label Linkbase Document.

101.PRE	Inline XBRL Taxonomy Extension Presentation Linkbase Document.

104	Cover Page Interactive Data File – formatted as Inline XBRL and contained in Exhibit 101.

* The schedules and exhibits have been omitted pursuant to Item 601(b)(2) of Regulation S-K. Partners Bancorp agrees to furnish a copy of such schedules and exhibits, or any section thereof, to the SEC upon request.

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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.


	Partners Bancorp (Registrant)


Date: November 10, 2022	/s/ Lloyd B. Harrison, III
	Lloyd B. Harrison, III
	Chief Executive Officer
	(Principal Executive Officer)


Date: November 10, 2022	/s/ J. Adam Sothen
	J. Adam Sothen
	Executive Vice President and Chief Financial Officer
	(Principal Financial Officer)