UNITY BANCORP INC /NJ/ - Quarter Report: 2023 September (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2023

☐ 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 1-12431

Unity Bancorp, Inc.

(Exact name of registrant as specified in its charter)


New Jersey	22-3282551
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

64 Old Highway 22, Clinton, NJ	08809
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code (800) 618-2265

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


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common stock	UNTY	NASDAQ

Securities registered pursuant to Section 12(g) of the Exchange Act: None

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934, as amended, 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 ⌧	Nonaccelerated 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 ⌧

The number of shares outstanding of each of the registrant’s classes of common equity stock, as of October 31, 2023 common stock, no par value: 10,057,712 shares outstanding.

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the three months ended September 30, 2023 and 2022
		Page #
PART I	CONSOLIDATED FINANCIAL INFORMATION

ITEM 1	Consolidated Financial Statements (Unaudited)	3

	Consolidated Balance Sheets at September 30, 2023 and December 31, 2022	3

	Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022	4

	Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2023 and 2022	5

	Consolidated Statements of Changes in Shareholders’ Equity for the three and nine months ended September 30, 2023 and 2022	7

	Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and 2022	9

	Notes to the Consolidated Financial Statements	10

ITEM 2	Management’s Discussion and Analysis of Financial Condition and Results of Operations	37

ITEM 3	Quantitative and Qualitative Disclosures about Market Risk	54

ITEM 4	Controls and Procedures	54

PART II	OTHER INFORMATION	54

ITEM 1	Legal Proceedings	54

ITEM 1A	Risk Factors	54

ITEM 2	Unregistered Sales of Equity Securities and Use of Proceeds	55

ITEM 3	Defaults upon Senior Securities	55

ITEM 4	Mine Safety Disclosures	55

ITEM 5	Other Information	55

ITEM 6	Exhibits	56

	EXHIBIT INDEX	57

	Exhibit 31.1

	Exhibit 31.2

	Exhibit 32.1

	SIGNATURES	58

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PART I CONSOLIDATED FINANCIAL INFORMATION

ITEM 1 Consolidated Financial Statements (Unaudited)

Unity Bancorp, Inc.

Consolidated Balance Sheets

(Unaudited)


(In thousands)	September 30, 2023		December 31, 2022
ASSETS
Cash and due from banks	$	26,224	$	19,699
Interest-bearing deposits		135,223		95,094
Cash and cash equivalents		161,447		114,793
Securities:
Debt securities available for sale, at market value		92,122		95,393
Debt securities held to maturity, at amortized cost		35,956		35,760
Equity securities, at market value		8,013		9,793
Total securities		136,091		140,946
Loans:
SBA loans held for sale		19,387		27,928
SBA loans held for investment		40,873		38,468
SBA PPP loans		2,507		5,908
Commercial loans		1,276,156		1,187,543
Residential mortgage loans		628,628		605,091
Consumer loans		72,189		78,164
Residential construction loans		133,450		163,457
Total loans		2,173,190		2,106,559
Allowance for credit losses		(25,918)		(25,196)
Net loans		2,147,272		2,081,363
Premises and equipment, net		19,783		20,002
Bank owned life insurance ("BOLI")		25,223		26,776
Deferred tax assets, net		13,249		12,345
Federal Home Loan Bank ("FHLB") stock		19,882		19,064
Accrued interest receivable		16,101		13,403
Goodwill		1,516		1,516
Prepaid expenses and other assets		22,442		14,740
Total assets	$	2,563,006	$	2,444,948
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities:
Deposits:
Noninterest-bearing demand	$	425,436	$	494,184
Interest-bearing demand		297,705		276,218
Savings		548,325		591,826
Brokered time deposits		197,636		189,644
Time deposits		415,808		235,656
Total deposits		1,884,910		1,787,528
Borrowed funds		388,610		383,000
Subordinated debentures		10,310		10,310
Accrued interest payable		1,412		691
Accrued expenses and other liabilities		25,380		24,192
Total liabilities		2,310,622		2,205,721
Shareholders’ equity:
Common stock		99,741		97,204
Retained earnings		182,557		156,958
Treasury stock		(25,954)		(11,675)
Accumulated other comprehensive loss		(3,960)		(3,260)
Total shareholders’ equity		252,384		239,227
Total liabilities and shareholders’ equity	$	2,563,006	$	2,444,948

Shares issued		11,411		11,289
Shares outstanding		10,115		10,584
Treasury shares		1,296		705

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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Unity Bancorp, Inc.

Consolidated Statements of Income

(Unaudited)


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands, except per share amounts)	2023		2022		2023		2022
INTEREST INCOME
Interest-bearing deposits	$	483	$	168	$	1,257	$	416
FHLB stock		364		93		1,037		176
Securities:
Taxable		1,848		1,397		5,385		3,164
Tax-exempt		17		18		55		34
Total securities		1,865		1,415		5,440		3,198
Loans:
SBA loans		1,379		1,083		4,186		2,933
SBA PPP loans		25		277		129		1,546
Commercial loans		20,299		14,017		56,320		37,928
Residential mortgage loans		8,462		5,912		25,103		15,284
Consumer loans		1,525		1,075		4,351		2,914
Residential construction loans		2,588		2,184		7,911		6,018
Total loans		34,278		24,548		98,000		66,623
Total interest income		36,990		26,224		105,734		70,413
INTEREST EXPENSE
Interest-bearing demand deposits		1,429		320		3,761		682
Savings deposits		3,178		878		7,632		1,635
Time deposits		5,033		600		11,637		1,499
Borrowed funds and subordinated debentures		3,817		688		11,740		1,199
Total interest expense		13,457		2,486		34,770		5,015
Net interest income		23,533		23,738		70,964		65,398
Provision for credit losses		534		1,517		1,419		2,526
Net interest income after provision for credit losses		22,999		22,221		69,545		62,872
NONINTEREST INCOME
Branch fee income		278		336		741		892
Service and loan fee income		385		543		1,379		1,815
Gain on sale of SBA loans held for sale, net		—		—		896		852
Gain on sale of mortgage loans, net		488		280		1,195		1,231
BOLI income		679		170		843		494
Net security losses		(123)		(576)		(610)		(1,631)
Other income		336		357		1,131		2,446
Total noninterest income		2,043		1,110		5,575		6,099
NONINTEREST EXPENSE
Compensation and benefits		7,440		6,471		21,801		19,790
Processing and communications		705		708		2,172		2,166
Occupancy		763		702		2,312		2,205
Furniture and equipment		645		617		2,024		1,811
Professional services		348		221		1,071		1,060
Advertising		405		307		1,108		873
Other loan expenses		125		109		298		238
Deposit insurance		397		233		1,362		752
Director fees		209		240		629		698
Loan collection expenses		90		45		222		138
Other expenses		868		411		2,175		1,454
Total noninterest expense		11,995		10,064		35,174		31,185
Income before provision for income taxes		13,047		13,267		39,946		37,786
Provision for income taxes		3,097		3,325		10,009		9,285
Net income	$	9,950	$	9,942	$	29,937	$	28,501
Net income per common share – Basic	$	0.98	$	0.94	$	2.92	$	2.72
Net income per common share – Diluted	$	0.97	$	0.93	$	2.88	$	2.67
Weighted average common shares outstanding – Basic		10,128		10,522		10,255		10,491
Weighted average common shares outstanding – Diluted		10,258		10,714		10,381		10,694

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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Unity Bancorp, Inc.

Consolidated Statements of Comprehensive Income

(Unaudited)


	For the three months ended
	September 30, 2023						September 30, 2022

			Income tax						Income tax
		Before tax		expense		Net of tax		Before tax		expense		Net of tax
(In thousands)	amount		(benefit)		amount		amount		(benefit)		amount
Net income	$	13,047		3,097		9,950		13,267		3,325		9,942
Other comprehensive (loss) income before reclassifications
Debt securities available for sale:
Unrealized holding losses on securities arising during the period		(342)		(87)		(255)		(1,238)		(281)		(957)
Less: reclassification adjustment for losses on securities included in net income		—		—		—		(576)		(121)		(455)
Total unrealized losses on securities available for sale		(342)		(87)		(255)		(662)		(160)		(502)
Net unrealized (losses) gains from cash flow hedges:
Unrealized holding (losses) gains on cash flow hedges arising during the period		(377)		(125)		(252)		452		128		324
Less: reclassification adjustment for (gains) on cash flow hedges included in net income		(238)		(68)		(170)		—		—		—
Total unrealized (losses) gains on cash flow hedges		(139)		(57)		(82)		452		128		324
Total other comprehensive loss		(481)		(144)		(337)		(210)		(32)		(178)
Total comprehensive income	$	12,566	$	2,953	$	9,613	$	13,057	$	3,293	$	9,764

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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	For the nine months ended
	September 30, 2023						September 30, 2022
			Income tax							Income tax
	Before tax		expense		Net of tax		Before tax		expense		Net of tax
(In thousands)	amount		(benefit)		amount		amount			(benefit)	amount
Net income	$	39,946		10,009		29,937		37,786		9,285		28,501
Other comprehensive (loss) income
Debt securities available for sale:
Unrealized holding losses on securities arising during the period		(660)		(155)		(505)		(6,875)		(1,612)		(5,263)
Less: reclassification adjustment for losses on securities included in net income		—		—		—		(1,630)		(342)		(1,288)
Total unrealized losses on securities available for sale		(660)		(155)		(505)		(5,245)		(1,270)		(3,975)
Net unrealized (losses) gains from cash flow hedges:
Unrealized holding (losses) gains on cash flow hedges arising during the period		(929)		(265)		(664)		1,190		337		853
Less: reclassification adjustment for (gains) on cash flow hedges included in net income		(656)		(187)		(469)		—		—		—
Total unrealized (losses) gains on cash flow hedges		(273)		(78)		(195)		1,190		337		853
Total other comprehensive loss		(933)		(233)		(700)		(4,055)		(933)		(3,122)
Total comprehensive income	$	39,013	$	9,776	$	29,237	$	33,731	$	8,352	$	25,379

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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Unity Bancorp, Inc.

Consolidated Statements of Changes in Shareholders’ Equity

For the three and nine months ended September 30, 2023 and 2022

(Unaudited)


									Accumulated
									other		Total
	Common Stock				Retained		Treasury		comprehensive		shareholders’
(In thousands)	Shares		Amount		earnings		stock		(loss) income		equity
Balance, December 31, 2022	10,584		$	97,204	$	156,958	$	(11,675)	$	(3,260)	$	239,227
Net income	—	A		—		10,287		—		—		10,287
Other comprehensive income, net of tax	—			—		—		—		81		81
Dividends on common stock ($0.12 per share)	2			46		(1,261)		—		—		(1,215)
Effect of adopting Accounting Standards Update ("ASU") No. 2016-13 ("CECL")	—			—		(649)		—		—		(649)
Share-based compensation (1)	44			947		—		—		—		947
Treasury stock purchased, at cost	(338)			—		—		(8,219)		—		(8,219)
Balance, March 31, 2023	10,292			98,197		165,335		(19,894)		(3,179)		240,459
Net income	—			—		9,700		—		—		9,700
Other comprehensive loss, net of tax	—	A		—		—		—		(444)		(444)
Dividends on common stock ($0.12 per share)	2			47		(1,212)		—		—		(1,165)
Share-based compensation (1)	50			666		—		—		—		666
Treasury stock purchased, at cost	(225)			—		—		(5,143)		—		(5,143)
Balance, June 30, 2023	10,119			98,910		173,823		(25,037)		(3,623)		244,073
Net income	—			—		9,950		—		—		9,950
Other comprehensive loss, net of tax	—			—		—		—		(337)		(337)
Dividends on common stock ($0.12 per share)	2			47		(1,216)		—		—		(1,169)
Share-based compensation (1)	22			784		—		—		—		784
Treasury stock purchased, at cost (2)	(28)			—		—		(917)		—		(917)
Balance, September 30, 2023	10,115		$	99,741	$	182,557	$	(25,954)	$	(3,960)	$	252,384

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									Accumulated
									other			Total
	Common Stock				Retained		Treasury		comprehensive			shareholders’
(In thousands)	Shares		Amount		earnings		stock		income (loss)		aa	equity
Balance, December 31, 2021	10,391		$	94,003	$	123,037	$	(11,633)	$	322		$	205,729
Net income	—	A		—		9,108		—		—			9,108
Other comprehensive income, net of tax	—			—		—		—		286			286
Dividends on common stock ($0.10 per share)	—			37		(1,045)		—		—			(1,008)
Share-based compensation (1)	102			813		—		—		—			813
Balance, March 31, 2022	10,493			94,853		131,100		(11,633)		608			214,928
Net income	—			—		9,451		—		—			9,451
Other comprehensive loss, net of tax	—			—		—		—		(3,230)			(3,230)
Dividends on common stock ($0.11 per share)	—			43		(1,157)		—		—			(1,114)
Share-based compensation (1)	18			754		—		—		—			754
Balance, June 30, 2022	10,511			95,650		139,394		(11,633)		(2,622)			220,789
Net income	—			—		9,942		—		—			9,942
Other comprehensive loss, net of tax	—			—		—		—		(178)			(178)
Dividends on common stock ($0.11 per share)	—			41		(1,162)		—		—			(1,121)
Share-based compensation (1)	22			802		—		—		—			802
Balance, September 30, 2022	10,533		$	96,493	$	148,174	$	(11,633)	$	(2,800)		$	230,234

(1)	Includes the issuance of common stock under employee benefit plans, which includes nonqualified stock options and restricted stock expense related entries, employee option exercises and the tax benefit of options exercised.

(2)	Includes an excise tax accrual of $0.1 million.

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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Unity Bancorp, Inc.

Consolidated Statements of Cash Flows

(Unaudited)


	For the nine months ended September 30,
(In thousands)	2023		2022
OPERATING ACTIVITIES:
Net income	$	29,937	$	28,501
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for credit losses		1,419		2,526
Net amortization of purchase premiums and discounts on securities		(195)		26
Depreciation and amortization		2,078		2,112
PPP deferred fees and costs		(90)		(1,376)
Deferred income tax benefit		(522)		(2,064)
Net realized security gains		(243)		—
Stock compensation expense		1,269		1,239
Gain on sale of mortgage loans, net		(1,195)		(1,231)
Gain on sale of SBA loans held for sale, net		(896)		(852)
BOLI income		(843)		(494)
Net change in other assets and liabilities		(8,712)		(18,830)
Net cash provided by operating activities		22,007		9,557
INVESTING ACTIVITIES
Purchases of securities held to maturity		—		(26,748)
Purchases of equity securities		(126)		(1,539)
Purchases of securities available for sale		(650)		(45,249)
Purchases of FHLB stock, at cost		(818)		(10,848)
Maturities and principal payments on securities held to maturity		—		5,185
Maturities, calls and principal payments on securities available for sale		3,259		3,901
Proceeds from sales of equity securities		1,338		—
Net decrease in SBA PPP loans		3,491		41,123
Net increase in loans		(69,742)		(332,650)
Proceeds from BOLI		2,397		468
Purchases of premises and equipment		(794)		(240)
Net cash used in investing activities		(61,645)		(366,597)
FINANCING ACTIVITIES
Net increase in deposits		97,382		37,716
Net proceeds from borrowings		5,610		240,000
Proceeds from exercise of stock options		1,394		1,395
Fair market value of shares withheld to cover employee tax liability		(266)		(266)
Dividends on common stock		(3,549)		(3,243)
Purchase of treasury stock, including exise tax accrual		(14,279)		—
Net cash provided by financing activities		86,292		275,602
Increase (decrease) in cash and cash equivalents		46,654		(81,438)
Cash and cash equivalents, beginning of year		114,793		244,818
Cash and cash equivalents, end of period	$	161,447	$	163,380
SUPPLEMENTAL DISCLOSURES
Cash:
Interest paid	$	34,049	$	4,851
Income taxes paid		10,101		9,357
Noncash activities:
Establishment of lease liability and right-of-use asset		—		582
Capitalization of servicing rights		430		131
Transfer of loans to OREO		251		—

The accompanying notes to the Consolidated Financial Statements are an integral part of these statements.

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Unity Bancorp, Inc.

Notes to the Consolidated Financial Statements (Unaudited)

September 30, 2023

NOTE 1. Significant Accounting Policies

The accompanying Consolidated Financial Statements include the accounts of Unity Bancorp, Inc. (the "Parent Company") and its wholly-owned subsidiary, Unity Bank (the "Bank" or when consolidated with the Parent Company, the "Company"). The Bank has multiple subsidiaries used to hold part of its investment and loan portfolios. All significant intercompany balances and transactions have been eliminated in consolidation. Certain reclassifications have been made to prior period amounts to conform to the current year presentation, with no impact on current earnings or shareholders’ equity. The financial information has been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and has not been audited. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and revenues and expenses during the reporting periods. Actual results could differ from those estimates. Amounts requiring the use of significant estimates include the allowance for credit losses, valuation of deferred tax and servicing assets, the valuation of securities and the determination of impairment for securities and fair value disclosures. Management believes that the allowance for credit losses is adequate. While management uses available information to recognize credit losses, future additions to the allowance for credit losses may be necessary based on changes in economic conditions and the general credit quality of the loan portfolio.

The interim unaudited Consolidated Financial Statements included herein have been prepared in accordance with instructions for Form 10-Q and the rules and regulations of the Securities and Exchange Commission (“SEC”) and consist of normal recurring adjustments, that in the opinion of management, are necessary for the fair presentation of interim results. The results of operations for the nine months ended September 30, 2023 are not necessarily indicative of the results which may be expected for the entire year. As used in this Form 10-Q, “we” and “us” and “our” refer to Unity Bancorp, Inc., and its consolidated subsidiary, Unity Bank, depending on the context. Certain information and financial disclosures required by U.S. GAAP have been condensed or omitted from interim reporting pursuant to SEC rules. Interim financial statements should be read in conjunction with the Company’s Consolidated Financial Statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.

Risks and Uncertainties

Overall, the markets and customers serviced by the Company may be significantly impacted by ongoing macro-economic trends, such as inflation and recessionary pressures created by a higher interest rate environment. The Company assesses the impact of inflation on an ongoing basis.

Market conditions and external factors may unpredictably impact the competitive landscape for deposits in the banking industry. Additionally, the rising interest rate environment has increased competition for liquidity and the premium at which liquidity is available to meet funding needs. The Company believes the sources of liquidity presented in the Unaudited Consolidated Financial Statements and the Notes to the Unaudited Consolidated Financial Statements are sufficient to meet its needs as of the balance sheet date.

An unexpected influx of withdrawals of deposits could adversely impact the Company's ability to rely on organic deposits to primarily fund its operations, potentially requiring greater reliance on secondary sources of liquidity to meet withdrawal demands or to fund continuing operations. These sources may include proceeds from Federal Home Loan Bank advances, sales of investment securities and loans, federal funds lines of credit from correspondent banks and out-of-market time deposits.

Such reliance on secondary funding sources could increase the Company's overall cost of funding and thereby reduce net income. While the Company believes its current sources of liquidity are adequate to fund operations, there is no guarantee they will suffice to meet future liquidity demands. This may necessitate slowing or discontinuing loan growth, capital expenditures or other investments, or liquidating assets.

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New Accounting Guidance adopted in 2023

Accounting Standards Update (“ASU”) 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” amends the accounting guidance on the impairment of financial instruments. The Financial Accounting Standards Board (“FASB”) issued an amendment to replace the incurred loss impairment methodology under prior accounting guidance with a new current expected credit loss (“CECL”) model. Under the new guidance, the Company is required to measure expected credit losses by utilizing forward-looking information to assess its allowance for credit losses. The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions and reasonable and supportable forecasts that affect the collectability of the reported amount. The measurement of expected credit losses under CECL methodology is applicable to financial assets measured at amortized cost, including loans and held to maturity debt securities. CECL also applies to certain off-balance sheet exposures.

The Company adopted ASU 2016-13 on January 1, 2023, using the modified retrospective approach for all financial assets measured at amortized cost and off-balance sheet credit exposures. The Company established a governance structure to implement the CECL accounting guidance and has developed a methodology and set of models to be used upon adoption. At adoption, the Company recorded an $0.8 million increase to its allowance for credit losses, entirely related to loans. Further the Company increased its reserve for unfunded credit commitments by $0.1 million. The reserve for unfunded credit commitments is recorded in Accrued expenses and other liabilities on the consolidated balance sheet. These increases in reserves were recorded through retained earnings and was $0.6 million, net of tax.

For available for sale securities in an unrealized loss position, the Company first assesses whether it intends to sell, or is more likely than not that it will be required to sell the security before the recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the security’s amortized cost basis is written down to fair value through income. For securities available for sale that do not meet the above criteria, the Company evaluates whether the decline in fair value has resulted from credit losses or other factors. In making this assessment, the Company considers the extent to which fair value is less than amortized cost and adverse conditions related to the security, among other factors. If this assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security are compared to the amortized cost basis of the security. If the present value of the cash flows expected to be collected is less than the amortized cost basis, a credit loss exists and an allowance for credit losses is recorded for the credit loss, limited by the amount that the fair value is less than the amortized cost. Any impairment that has not been recorded through an allowance for credit losses is recognized in other comprehensive income, net of tax. The Company elected the practical expedient of zero loss estimates for securities issued by U.S. government entities and agencies. These securities are either explicitly or implicitly guaranteed by the U.S. government, are highly rated by major agencies and have a long history of no credit losses.

For other assets within the scope of the new CECL accounting guidance, such as held to maturity debt securities and other receivables, management noted the impact from adoption to be inconsequential. Additionally, the Company noted the adoption of CECL had no significant impact on regulatory capital ratios of the Company and/or the Bank.

ASU 2022-01, “Derivatives and Hedging (Topic 815)”: ASU 2022-01 was issued to clarify the guidance in ASC 815 on fair value hedge accounting of interest rate risk for portfolios and financial assets. Among other things, the amended guidance established the “last-of-layer” method for making the fair value hedge accounting for these portfolios more accessible and renamed that method the “portfolio layer” method. ASU 2022-01 is effective January 1, 2023. The Company adopted the guidance effective January 1, 2023, noting no material impact.

ASU 2022-02, “Financial Instruments – Credit Losses (Topic 326)”: ASU 2022-02 eliminates the guidance on troubled debt restructurings (“TDRs”) and requires entities to evaluate all loan modifications to determine if they result in a new loan or a continuation of the existing loan. ASU 2022-02 requires that entities disclose if the modifications result in a new loan or a continuation of the existing loan. ASU 2022-02 also requires that entities disclose current-period gross charge-offs by year of origination for loans and leases. The Company adopted ASU 2022-02 effective January 1, 2023, noting no material impact.

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NOTE 2. Litigation

The Company may, in the ordinary course of business, become a party to litigation involving collection matters, contract claims and other legal proceedings relating to the conduct of its business. In the best judgment of management, based upon consultation with counsel, the consolidated financial position and results of operations of the Company will not be affected materially by the final outcome of any pending legal proceedings or other contingent liabilities and commitments.

NOTE 3. Net Income per Share

Basic net income per common share is calculated as net income divided by the weighted average common shares outstanding during the reporting period. Common shares include vested and unvested restricted shares.

Diluted net income per common share is computed similarly to that of basic net income per common share, except that the denominator is increased to include the number of additional common shares that would have been outstanding if all potentially dilutive common shares, principally stock options, were issued during the reporting period utilizing the treasury stock method.

The following is a reconciliation of the calculation of basic and diluted income per share:


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands, except per share amounts)	2023		2022		2023		2022
Net income	$	9,950	$	9,942	$	29,937	$	28,501
Weighted average common shares outstanding - Basic		10,128		10,522		10,255		10,491
Plus: Potential dilutive common stock equivalents		130		192		126		203
Weighted average common shares outstanding - Diluted		10,258		10,714		10,381		10,694
Net income per common share - Basic	$	0.98	$	0.94	$	2.92	$	2.72
Net income per common share - Diluted		0.97		0.93		2.88		2.67
Stock options and common stock excluded from the income per share calculation as their effect would have been anti-dilutive		—		—		—		—

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NOTE 4. Other Comprehensive (Loss) Income

The following tables show the changes in other comprehensive (loss) income for the three and nine months ended September 30, 2023 and 2022, net of tax:


	For the three months ended September 30, 2023
					Accumulated
	Net unrealized		Net unrealized		other
	losses on		gains (losses) from		comprehensive
(In thousands)	securities		cash flow hedges		loss
Balance, beginning of period	$	(4,631)	$	1,008	$	(3,623)
Other comprehensive loss before reclassifications		(255)		(252)		(507)
Less amounts reclassified from accumulated other comprehensive loss		—		(170)		(170)
Period change		(255)		(82)		(337)
Balance, end of period	$	(4,886)	$	926	$	(3,960)


	For the three months ended September 30, 2022
			Net unrealized		Accumulated
	Net unrealized		gains		other
	losses on		from cash flow		comprehensive
(In thousands)	securities		hedges		loss
Balance, beginning of period	$	(3,444)	$	822	$	(2,622)
Other comprehensive (loss) income before reclassifications		(957)		324		(633)
Less amounts reclassified from accumulated other comprehensive loss		(455)		—		(455)
Period change		(502)		324		(178)
Balance, end of period	$	(3,946)	$	1,146	$	(2,800)


	For the nine months ended September 30, 2023
			Net unrealized		Accumulated
	Net unrealized		gains (losses)		other
	(losses) on		from cash flow		comprehensive
(In thousands)	securities		hedges		loss
Balance, beginning of period	$	(4,381)	$	1,121	$	(3,260)
Other comprehensive loss before reclassifications		(505)		(664)		(1,169)
Less amounts reclassified from accumulated other comprehensive loss		—		(469)		(469)
Period change		(505)		(195)		(700)
Balance, end of period	$	(4,886)	$	926	$	(3,960)


	For the nine months ended September 30, 2022
			Net unrealized		Accumulated
	Net unrealized		gains		other
	gains (losses) on		from cash flow		comprehensive
(In thousands)	securities		hedges		income (loss)
Balance, beginning of period	$	29	$	293	$	322
Other comprehensive (loss) income before reclassifications		(5,263)		853		(4,410)
Less amounts reclassified from accumulated other comprehensive loss		(1,288)		—		(1,288)
Period change		(3,975)		853		(3,122)
Balance, end of period	$	(3,946)	$	1,146	$	(2,800)

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NOTE 5. Fair Value

Fair Value Measurement

The Company follows FASB ASC Topic 820, “Fair Value Measurement and Disclosures,” which requires additional disclosures about the Company’s assets and liabilities that are measured at fair value. Fair value is 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. In determining fair value, the Company uses various methods including market, income and cost approaches. Based on these approaches, the Company often utilizes certain assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and/or the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market corroborated or generally unobservable inputs. The Company utilizes techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. The fair value hierarchy ranks the quality and reliability of the information used to determine fair values. Financial assets and liabilities carried at fair value will be classified and disclosed as follows:

Level 1 Inputs

●

Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

●

Generally, this includes debt and equity securities and derivative contracts that are traded in an active exchange market (i.e. New York Stock Exchange), as well as certain U.S. Treasury, U.S. Government and sponsored entity agency mortgage-backed securities that are highly liquid and are actively traded in over-the-counter markets.

Level 2 Inputs

●

Quoted prices for similar assets or liabilities in active markets.

●

Quoted prices for identical or similar assets or liabilities in inactive markets.

●

Inputs other than quoted prices that are observable, either directly or indirectly, for the term of the asset or liability (i.e. interest rates, yield curves, credit risks, prepayment speeds or volatilities) or “market corroborated inputs.”

●

Generally, this includes U.S. Government and sponsored entity mortgage-backed securities, corporate debt securities and derivative contracts.

Level 3 Inputs

●

Prices or valuation techniques that require inputs that are both unobservable (i.e. supported by little or no market activity) and that are significant to the fair value of the assets or liabilities.

●

These assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

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Fair Value on a Recurring Basis

The following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis:

Debt Securities Available for Sale

The fair value of available for sale ("AFS") debt securities is the market value based on quoted market prices, when available, or market prices provided by recognized broker dealers (Level 1). If listed prices or quotes are not available, fair value is based upon quoted market prices for similar or identical assets or other observable inputs (Level 2) or externally developed models that use unobservable inputs due to limited or no market activity of the instrument (Level 3).

As of September 30, 2023, the fair value of the Company’s AFS debt securities portfolio was $92.1 million. Most of the Company’s AFS debt securities were classified as Level 2 assets at September 30, 2023. The valuation of AFS debt securities using Level 2 inputs was primarily determined using the market approach, which uses quoted prices for similar assets or liabilities in active markets and all other relevant information. It includes model pricing, defined as valuing securities based upon their relationship with other benchmark securities.

Included in the Company’s AFS debt securities are two corporate bonds which are classified as Level 3 assets at September 30, 2023. The valuation of these corporate bonds is determined using broker quotes or third-party vendor prices that are not adjusted by management. Market inputs used in the other valuation techniques or underlying third-party vendor prices or broker quotes include benchmark and government bond yield curves, credit spreads and trade execution data.

Equity Securities with Readily Determinable Fair Values

The fair value of equity securities is the market value based on quoted market prices, when available, or market prices provided by recognized broker dealers (Level 1). If listed prices or quotes are not available, fair value is based upon quoted market prices for similar or identical assets or other observable inputs (Level 2) or externally developed models that use unobservable inputs due to limited or no market activity of the instrument (Level 3).

As of September 30, 2023, the fair value of the Company’s equity securities portfolio was $8.0 million.

All of the Company’s equity securities were classified as Level 1 assets at September 30, 2023.

Interest Rate Swap Agreements

The fair value of interest rate swap agreements is the market value based on quoted market prices, when available, or market prices provided by recognized broker dealers (Level 1). If listed prices or quotes are not available, fair value is based upon quoted market prices for similar or identical assets or other observable inputs (Level 2) or externally developed models that use unobservable inputs due to limited or no market activity of the instrument (Level 3).

The Company’s derivative instruments are classified as Level 2 assets, as the readily observable market inputs to these models are validated to external sources, such as industry pricing services, or are corroborated through recent trades, dealer quotes, yield curves, implied volatility or other market-related data.

There were no material changes in the inputs or methodologies used to determine fair value during the period ended September 30, 2023, as compared to the periods ended December 31, 2022 and September 30, 2022.

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The tables below present the balances of assets and liabilities measured at fair value on a recurring basis as of September 30, 2023 and December 31, 2022:

Fair Value Measurements at September 30, 2023

Quoted Prices in

Assets/Liabilities

Active Markets

Significant Other

Significant

Measured at Fair

for Identical

Observable

Unobservable

(In thousands)

Value

Assets (Level 1)

Inputs (Level 2)

Inputs (Level 3)

Measured on a recurring basis:

Assets:

Debt securities available for sale:

U.S. Government sponsored entities

16,325

—

16,325

—

State and political subdivisions

362

—

362

—

Residential mortgage-backed securities

13,670

—

13,670

—

Corporate and other securities

61,765

—

57,502

4,263

Total debt securities available for sale

92,122

—

87,859

4,263

Equity securities with readily determinable fair values

8,013

—

Total equity securities

8,013

—

Interest rate swap agreements

1,264

—

1,264

—

Total swap agreements

1,264

—

1,264

—


	Fair value Measurements at December 31, 2022
			Quoted Prices in
	Assets/Liabilities		Active Markets		Significant Other		Significant
	Measured at Fair		for Identical		Observable		Unobservable
(In thousands)	Value		Assets (Level 1)		Inputs (Level 2)		Inputs (Level 3)
Measured on a recurring basis:
Assets:
Debt securities available for sale:
U.S. Government sponsored entities	$	16,305	$	—	$	16,305	$	—
State and political subdivisions		613		—		613		—
Residential mortgage-backed securities		15,475		—		15,475		—
Corporate and other securities		63,000		—		58,325		4,675
Total debt securities available for sale	$	95,393	$	—	$	90,718	$	4,675

Equity securities with readily determinable fair values		9,793		—		9,793		—
Total equity securities	$	9,793	$	—	$	9,793	$	—

Interest rate swap agreements		1,537		—		1,537		—
Total swap agreements	$	1,537	$	—	$	1,537	$	—

There were no liabilities measured on a recurring basis as of September 30, 2023 or December 31, 2022.

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Fair Value on a Nonrecurring Basis

The following tables present the assets and liabilities subject to fair value adjustments on a non-recurring basis carried on the balance sheet by caption and by level within the hierarchy (as described above):

Fair Value Measurements at September 30, 2023

Quoted Prices

Significant

in Active

Other

Significant

Assets/Liabilities

Markets for

Observable

Unobservable

Measured at Fair

Identical Assets

Inputs

(In thousands)

Value

(Level 1)

(Level 2)

(Level 3)

Measured on a non-recurring basis:

Financial assets:

OREO

251

—

251

Collateral-dependent loans

13,738

—

13,738

Fair Value Measurements at December 31, 2022

Quoted Prices

Significant

in Active

Other

Significant

Assets/Liabilities

Markets for

Observable

Unobservable

Measured at Fair

Identical Assets

Inputs

(In thousands)

Value

(Level 1)

(Level 2)

(Level 3)

Measured on a non-recurring basis:

Financial assets:

Collateral-dependent loans

8,803

—

8,803

Certain assets and liabilities are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). The following is a description of the valuation methodologies used for instruments measured at fair value on a nonrecurring basis:

Collateral-Dependent Loans & OREO

Fair value is determined based on the fair value of the collateral. Partially charged-off loans are measured for impairment based upon a third-party appraisal for collateral-dependent loans. When an updated appraisal is received for a nonperforming loan, the value on the appraisal may be discounted. If there is a deficiency in the value after the Company applies these discounts, management applies a specific reserve and the loan remains in nonaccrual status. The receipt of an updated appraisal would not qualify as a reason to put a loan back into accruing status. The Company removes loans from nonaccrual status generally when the borrower makes six months of contractual payments and demonstrates the ability to service the debt going forward. Charge-offs are determined based upon the loss that management believes the Company will incur after evaluating collateral for impairment based upon the valuation methods described above and the ability of the borrower to pay any deficiency.

The valuation allowance for individually evaluated loans is included in the allowance for credit losses in the consolidated balance sheets. At September 30, 2023, the valuation allowance for individually evaluated loans was $1.7 million, compared to $1.8 million at December 31, 2022.

Fair Value of Financial Instruments

FASB ASC Topic 825, “Financial Instruments,” requires the disclosure of the estimated fair value of certain financial instruments, including those financial instruments for which the Company did not elect the fair value option. These estimated fair values as of September 30, 2023 and December 31, 2022 have been determined using available market information and appropriate valuation methodologies. Considerable judgment is required to interpret market data to develop estimates of fair value. The estimates presented are not necessarily indicative of amounts the Company could

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realize in a current market exchange. The use of alternative market assumptions and estimation methodologies could have had a material effect on these estimates of fair value. The methodology for estimating the fair value of financial assets and liabilities that are measured on a recurring or nonrecurring basis are discussed above.

The following methods and assumptions were used to estimate the fair value of other financial instruments for which it is practicable to estimate that value:

Securities

The fair value of securities is based upon quoted market prices for similar or identical assets or other observable inputs (Level 2) or externally developed models that use unobservable inputs due to limited or no market activity of the instrument (Level 3).

SBA Loans Held for Sale

The fair value of SBA loans held for sale is estimated by using a market approach that includes significant other observable inputs.

Loans

The fair value of loans is estimated by discounting the future cash flows using current market rates that reflect the interest rate risk inherent in the loan, except for previously discussed impaired loans.

Deposit Liabilities

The fair value of demand deposits and savings accounts is the amount payable on demand at the reporting date (i.e. carrying value). The fair value of fixed-maturity certificates of deposit is estimated by discounting the future cash flows using current market rates.

Borrowed Funds and Subordinated Debentures

The fair value of borrowings is estimated by discounting the projected future cash flows using current market rates.

The table below presents the carrying amount and estimated fair values of the Company’s financial instruments presented as of September 30, 2023 and December 31, 2022:


	September 30, 2023
	Carrying
(In thousands)	amount		Level 1		Level 2		Level 3
Financial assets:
Debt securities held to maturity	$	35,956	$	—	$	27,155	$	—
SBA loans held for sale		19,387		—		20,322		—
Loans, net of allowance for credit losses		2,127,885		—		—		2,027,127
Financial liabilities:
Deposits		1,884,910		—		1,871,627		—
Borrowed funds and subordinated debentures		398,920		—		397,323		—

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	December 31, 2022
	Carrying
(In thousands)	amount		Level 1		Level 2		Level 3
Financial assets:
Debt securities held to maturity	$	35,760	$	—	$	28,578	$	—
SBA loans held for sale		27,928		—		30,141		—
Loans, net of allowance for credit losses		2,053,435		—		1,981,207		8,803
Financial liabilities:
Deposits		1,787,528		—		1,772,270		—
Borrowed funds and subordinated debentures		393,310		—		391,312		—

Limitations

Fair value estimates are made at a point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the effect of fair value estimates have not been considered in the above estimates.

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NOTE 6. Securities

This table provides the major components of debt securities available for sale ("AFS") and held to maturity (“HTM”) at amortized cost and estimated fair value at September 30, 2023 and December 31, 2022:


	September 30, 2023								December 31, 2022
			Gross		Gross						Gross		Gross
	Amortized		unrealized		unrealized		Estimated		Amortized		unrealized		unrealized		Estimated
(In thousands)	cost		gains		losses		fair value		cost		gains		losses		fair value
Available for sale:
U.S. Government sponsored entities	$	17,133	$	—	$	(808)	$	16,325	$	16,961	$	—	$	(656)	$	16,305
State and political subdivisions		407		—		(45)		362		635		—		(22)		613
Residential mortgage-backed securities		15,835		28		(2,193)		13,670		17,097		32		(1,654)		15,475
Corporate and other securities		65,202		121		(3,558)		61,765		66,495		106		(3,601)		63,000
Total debt securities available for sale	$	98,577	$	149	$	(6,604)	$	92,122	$	101,188	$	138	$	(5,933)	$	95,393
Held to maturity:
U.S. Government sponsored entities	$	28,000	$	—	$	(6,096)	$	21,904	$	28,000	$	—	$	(5,310)	$	22,690
State and political subdivisions		1,158		5		(3)		1,160		1,115		67		—		1,182
Residential mortgage-backed securities		6,798		—		(2,707)		4,091		6,645		—		(1,939)		4,706
Total debt securities held to maturity	$	35,956	$	5	$	(8,806)	$	27,155	$	35,760	$	67	$	(7,249)	$	28,578

The contractual maturities of available for sale and held for maturity debt securities at September 30, 2023 are set forth in the following table. Maturities may differ from contractual maturities in residential mortgage-backed securities because the mortgages underlying the securities may be prepaid without any penalties. Therefore, residential mortgage-backed securities are not included in the maturity categories in the following summary.



		Amortized		Fair
(In thousands)		Cost		Value
Available for sale:
Due in one year	$	2,133	$	2,114
Due after one year through five years		30,779		29,404
Due after five years through ten years		10,984		9,616
Due after ten years		38,846		37,318
Residential mortgage-backed securities		15,835		13,670
Total	$	98,577	$	92,122
Held to maturity:
Due in one year	$	—	$	—
Due after one year through five years		—		—
Due after five years through ten years		3,000		2,819
Due after ten years		26,158		20,245
Residential mortgage-backed securities		6,798		4,091
Total	$	35,956	$	27,155

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Actual maturities of available for sale and held to maturity debt securities may differ from those presented above since certain obligations provide the issuer the right to call or prepay the obligation prior to scheduled maturitiy without penalty.

The fair value of debt securities with unrealized losses by length of time that the individual securities have been in a continuous unrealized loss position at September 30, 2023 and December 31, 2022 are as follows:

September 30, 2023

Less than 12 months

12 months and greater

Total

Estimated

Unrealized

Estimated

Unrealized

Estimated

Unrealized

(In thousands)

fair value

loss

fair value

loss

fair value

loss

Available for sale:

U.S. Government sponsored entities

2,114

(19)

14,211

(789)

16,325

(808)

State and political subdivisions

—

362

(45)

362

(45)

Residential mortgage-backed securities

(3)

13,543

(2,190)

13,624

(2,193)

Corporate and other securities

4,692

(308)

54,452

(3,250)

59,144

(3,558)

Total

6,887

(330)

82,568

(6,274)

89,455

(6,604)

Held to maturity:

U.S. Government sponsored entities

—

21,904

(6,096)

21,904

(6,096)

State and political subdivisions

571

(3)

—

571

(3)

Residential mortgage-backed securities

—

4,091

(2,707)

4,091

(2,707)

Total

571

(3)

25,995

(8,803)

26,566

(8,806)


	December 31, 2022
	Less than 12 months				12 months and greater				Total

	Estimated		Unrealized		Estimated		Unrealized		Estimated		Unrealized
(In thousands)	fair value		loss		fair value		loss		fair value		loss
Available for sale:
U.S. Government sponsored entities	$	15,817	$	(622)	$	1,432	$	(34)	$	17,249	$	(656)
State and political subdivisions		160		(5)		253		(17)		413		(22)
Residential mortgage-backed securities		14,023		(1,448)		1,311		(206)		15,334		(1,654)
Corporate and other securities		23,445		(966)		31,948		(2,635)		55,393		(3,601)
Total temporarily impaired AFS securities	$	53,445	$	(3,041)	$	34,944	$	(2,892)	$	88,389	$	(5,933)
Held to maturity:
U.S. Government sponsored entities	$	15,659	$	(2,341)	$	7,031	$	(2,969)	$	22,690	$	(5,310)
Residential mortgage-backed securities		4,707		(1,939)		—		—		4,707		(1,939)
Total temporarily impaired HTM securities	$	20,366	$	(4,280)	$	7,031	$	(2,969)	$	27,397	$	(7,249)

Unrealized losses in each of the categories presented in the tables above were primarily driven by market interest rate fluctuations. Residential mortgage-backed securities are guaranteed by either Ginnie Mae, Freddie Mac or Fannie Mae.

Allowance for Credit Losses

The Company has zero-loss expectation for certain securities within the held to maturity portfolio, and therefore is not required to estimate an allowance for credit losses related to these securities under the CECL standard. The Company does not provide credit quality indicators for held to maturity securities that have zero-loss expectation. After an evaluation of various factors, the following security types are believed to qualify for this exclusion: U.S Government sponsored entities and residential mortgage-backed securities issued by Ginnie Mae, Fannie Mae or Freddie Mac.

After reviewing credit ratings on securities within the portfolio, management recognized no impairment for held to maturity debt securities during the three and nine months ended September 30, 2023 and 2022. There was no allowance for credit losses for held to maturity debt securities at September 30, 2023 and 2022.

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Available for sale debt securities in unrealized loss positions are evaluated for impairment on a quarterly basis. The Company has evaluated available for sale securities that are in an unrealized loss position and has determined that the declines in fair value are attributable to market volatility, not credit quality or other factors. Management recognized no impairment during the three and nine months ended September 30, 2023 and 2022. There was no allowance for credit losses for available for sale debt securities at September 30, 2023 and 2022.

Realized Gains and Losses on Debt Securities

Net realized gains are included in noninterest income in the Consolidated Statements of Income as net security gains. There were no realized gains or losses on available for sale securities during the three and nine months ended September 30, 2023 and 2022. There was no realized gain or loss for held for maturity debt securities during the three and nine months ended September 30, 2023 and 2022.

Equity Securities

Included in this category are Community Reinvestment Act ("CRA") investments and the Company’s current other equity holdings of financial institutions. Equity securities are defined to include (a) preferred, common and other ownership interests in entities including partnerships, joint ventures and limited liability companies and (b) rights to acquire or dispose of ownership interests in entities at fixed or determinable prices.

The following is a summary of unrealized and realized gains and losses recognized in net income on equity securities during the three and nine months ended September 30, 2023 and 2022:


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands)	2023		2022		2023		2022
Net unrealized losses occurring during the period on equity securities	$	(144)	$	(576)	$	(853)	$	(1,631)
Net realized gains recognized during the period on equity securities sold during the period		21		—		243		—
Net losses recognized during the reporting period on equity securities still held at the reporting date	$	(123)	$	(576)	$	(610)	$	(1,631)

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NOTE 7. Loans

The following table sets forth the classification of loans by class, including unearned fees, deferred costs and excluding the allowance for loan losses as of September 30, 2023 and December 31, 2022:


(In thousands)	September 30, 2023		December 31, 2022
SBA loans held for investment	$	40,873	$	38,468
SBA PPP loans		2,507		5,908
Commercial loans
SBA 504 loans		31,808		35,077
Commercial other		130,967		117,566
Commercial real estate		968,801		903,126
Commercial real estate construction		144,580		131,774
Residential mortgage loans		628,628		605,091
Consumer loans
Home equity		65,461		68,310
Consumer other		6,728		9,854
Residential construction loans		133,450		163,457
Total loans held for investment	$	2,153,803	$	2,078,631
SBA loans held for sale		19,387		27,928
Total loans	$	2,173,190	$	2,106,559

Loans held for investment are stated at the unpaid principal balance, net of unearned discounts and deferred loan origination fees and costs. In accordance with the level yield method, loan origination fees, net of direct loan origination costs, are deferred and recognized over the estimated life of the related loans as an adjustment to the loan yield. Interest is credited to operations primarily based upon the principal balance outstanding.

Loans are reported as past due when either interest or principal is unpaid in the following circumstances: fixed payment loans when the borrower is in arrears for two or more monthly payments; open end credit for two or more billing cycles; and single payment notes if interest or principal remains unpaid for 30 days or more.

Loans are charged off when collection is sufficiently questionable and when the Company can no longer justify maintaining the loan as an asset on the balance sheet. Loans qualify for charge-off when, after thorough analysis, all possible sources of repayment are insufficient. These include: 1) potential future cash flows, 2) value of collateral and/or 3) strength of co-makers and guarantors. All unsecured loans are charged off upon the establishment of the loan’s nonaccrual status. Additionally, all loans classified as a loss or that portion of the loan classified as a loss is charged off.

Loans are made to individuals as well as commercial entities. Specific loan terms vary as to interest rate, repayment and collateral requirements based on the type of loan requested and the credit worthiness of the prospective borrower. Credit risk tends to be geographically concentrated in that a majority of the loan customers are located in the markets serviced by the Bank. Loan performance may be adversely affected by factors impacting the general economy or conditions specific to the real estate market such as geographic location and/or property type. A description of the Company’s different loan segments follows:

Small Business Administration (“SBA”) Loans: SBA 7(a) loans, on which the SBA has historically provided guarantees of up to 90 percent of the principal balance, are considered a higher risk loan product for the Company than its other loan products. The guaranteed portion of the Company’s SBA loans is generally sold in the secondary market with the nonguaranteed portion held in the portfolio as a loan held for investment. SBA loans are for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes. Loans are guaranteed by the businesses’ major owners. SBA loans are made based primarily on the historical and projected cash flow of the business and secondarily on the underlying collateral provided.

Loans held for sale represent the guaranteed portion of SBA loans and are reflected at the lower of aggregate cost or market value. When sales of SBA loans do occur, the premium received on the sale and the present value of future cash

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flows of the servicing assets are recognized in income. All criteria for sale accounting must be met in order for the loan sales to occur.

Servicing assets represent the estimated fair value of retained servicing rights, net of servicing costs, at the time loans are sold. Servicing assets are amortized in proportion to, and over the period of, estimated net servicing revenues. Impairment is evaluated based on stratifying the underlying financial assets by date of origination and term. Fair value is determined using prices for similar assets with similar characteristics, when available, or based upon discounted cash flows using market-based assumptions.

Serviced loans sold to others are not included in the accompanying Consolidated Balance Sheets. Income and fees collected for loan servicing are credited to noninterest income when earned, net of amortization on the related servicing assets.

Commercial Loans: Commercial credit is extended primarily to middle market and small business customers. Commercial loans are generally made in the Company’s marketplace for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes. The SBA 504 program consists of real estate backed commercial mortgages where the Company has the first mortgage and the SBA has the second mortgage on the property. Loans will generally be guaranteed in full or for a meaningful amount by the businesses’ major owners. Commercial loans are made based primarily on the historical and projected cash flow of the business and secondarily on the underlying collateral provided. Generally, the Company has a 50 percent loan to value ratio on SBA 504 program loans at origination.

Residential Mortgage, Consumer and Residential Construction Loans: The Company originates mortgage and consumer loans including principally residential real estate and home equity lines and loans and residential construction lines. The Company originates qualified mortgages which are generally sold in the secondary market and nonqualified mortgages which are generally held for investment. Each loan type is evaluated on debt to income, type of collateral, loan to collateral value, credit history and the Company’s relationship with the borrower.

Inherent in the lending function is credit risk, which is the possibility a borrower may not perform in accordance with the contractual terms of their loan. A borrower’s inability to pay their obligations according to the contractual terms can create the risk of past due loans and, ultimately, credit losses, especially on collateral deficient loans. The Company minimizes its credit risk by loan diversification and adhering to credit administration policies and procedures. Due diligence on loans begins when the Company initiates contact regarding a loan with a borrower. Documentation, including a borrower’s credit history, materials establishing the value and liquidity of potential collateral, the purpose of the loan, the source of funds for repayment of the loan and other factors, are analyzed before a loan is submitted for approval. The commercial loan portfolio is then subject to on-going internal reviews for credit quality which in part is derived from ongoing collection and review of borrowers’ financial information, as well as independent credit reviews by an outside firm.

The Company’s extension of credit is governed by the Credit Risk Policy which was established to control the quality of the Company’s loans. This policy and the underlying procedures are reviewed and approved by the Board of Directors on a regular basis.

Credit Ratings

The Company places all SBA and commercial loans into various credit risk rating categories based on an assessment of the expected ability of the borrowers to properly service their debt. The assessment considers numerous factors including, but not limited to, current financial information on the borrower, historical payment experience, strength of any guarantor, nature of and value of any collateral, acceptability of the loan structure and documentation, relevant public information and current economic trends. This credit risk rating analysis is performed when the loan is initially underwritten and then annually based on set criteria in the loan policy.

The Company uses the following regulatory definitions for criticized and classified risk ratings:

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Pass: Loans that are performing, as they meet, and are expected to continue to meet, all of the terms and conditions set forth in the original loan documentation, and are generally current on principal and interest payments. These performing loans are termed “Pass”.

Special Mention: These loans have a potential weakness that deserves management’s close attention. If left uncorrected, the potential weaknesses may result in deterioration of the repayment prospects for the loans or of the institution’s credit position at some future date.

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

Loss: These loans have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full highly questionable and improbable, based on currently existing facts, conditions and values. Once a borrower is deemed incapable of repayment of unsecured debt, the loan is termed a “Loss” and charged off immediately.

For residential mortgage, consumer and residential construction loans, management uses performing versus nonperforming as the best indicator of credit quality. Nonperforming loans consist of loans that are not accruing interest (nonaccrual loans) as a result of principal or interest being in default for a period of 90 days or more or when the ability to collect principal and interest according to the contractual terms is in doubt. These credit quality indicators are updated on an ongoing basis, as a loan is placed on nonaccrual status as soon as management believes there is sufficient doubt as to the ultimate ability to collect interest on a loan.

At September 30, 2023, the Company owned $0.3 million in commercial properties that were included in Prepaid expenses and other assets in the Consolidated Balance Sheets, compared to none at December 31, 2022. Additionally, there were $12.5 million in loans in the process of foreclosure at September 30, 2023, compared to $2.1 million at December 31, 2022. At September 30, 2023, foreclosures in process included loans in the Commercial, SBA, Residential mortgage, Residential construction and Home equity categories.

Nonaccrual and Past Due Loans

Nonaccrual loans consist of loans that are not accruing interest as a result of principal or interest being in default for a period of 90 days or more or when the ability to collect principal and interest according to the contractual terms is in doubt. When a loan is classified as nonaccrual, interest accruals are discontinued and all past due interest previously recognized as income is reversed and charged against current period earnings. Generally, until the loan becomes current, any payments received from the borrower are applied to outstanding principal until such time as management determines that the financial condition of the borrower and other factors merit recognition of a portion of such payments as interest income. Loans may be returned to an accrual status when the ability to collect is reasonably assured and when the loan is brought current as to principal and interest. The risk of loss is difficult to quantify and is subject to fluctuations in collateral values, general economic conditions and other factors. The Company values its collateral through the use of appraisals, broker price opinions and knowledge of its local market.

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The following tables set forth an aging analysis of past due and nonaccrual loans as of September 30, 2023 and December 31, 2022:

September 30, 2023

90+ days

30‑59 days

60‑89 days

and still

Total past

(In thousands)

past due

accruing

Nonaccrual

due

Current

Total loans

SBA loans held for investment

4,083

420

—

3,445

7,948

32,925

40,873

Commercial loans

SBA 504 loans

—

31,808

Commercial other

—

668

130,299

130,967

Commercial real estate

553

—

635

968,166

968,801

Commercial real estate construction

—

144,580

Residential mortgage loans

4,961

3,347

260

10,270

18,838

609,790

628,628

Consumer loans

Home equity

286

—

125

426

65,035

65,461

Consumer other

1,319

—

1,376

5,352

6,728

Residential construction loans

—

3,201

130,249

133,450

Total loans held for investment, excluding SBA PPP

11,202

3,834

265

17,791

33,092

2,118,204

2,151,296

SBA loans held for sale

815

—

815

18,572

19,387

Total loans, excluding SBA PPP

12,017

3,834

265

17,791

33,907

2,136,776

2,170,683

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	December 31, 2022
					90+ days
	30‑59 days		60‑89 days		and still				Total past
(In thousands)	past due		past due		accruing		Nonaccrual		due		Current		Total loans
SBA loans held for investment	$	—	$	576	$	—	$	690	$	1,266	$	37,202	$	38,468
Commercial loans
SBA 504 loans		—		—		—		—		—		35,077		35,077
Commercial other		198		300		—		777		1,275		116,291		117,566
Commercial real estate		22		188		—		805		1,015		902,111		903,126
Commercial real estate construction		—		—		—		—		—		131,774		131,774
Residential mortgage loans		—		982		—		3,361		4,343		600,748		605,091
Consumer loans
Home equity		—		—		—		—		—		68,310		68,310
Consumer other		18		7		—		—		25		9,829		9,854
Residential construction loans		—		—		—		3,432		3,432		160,025		163,457
Total loans held for investment, excluding SBA PPP		238		2,053		—		9,065		11,356		2,061,367		2,072,723
SBA loans held for sale		2,195		—		—		—		2,195		25,733		27,928
Total loans, excluding SBA PPP	$	2,433	$	2,053	$	—	$	9,065	$	13,551	$	2,087,100	$	2,100,651

The Company is using the practical expedient to exclude accrued interest receivable from credit loss measurement. At September 30, 2023, there was $1.5 million of accrued interest on securities and $14.1 million of accrued interest on loans.

The following table shows the internal loan classification risk by loan portfolio classification by origination year as of September 30, 2023:

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	Term Loans
	Amortized Cost Basis by Origination Year

(In thousands)			2023		2022		2021		2020		2019		2018 and Earlier		Revolving Loans Amortized Cost Basis		Total
SBA loans held for investment
Risk Rating:
Pass		$	1,057	$	7,113	$	5,151	$	6,131	$	2,669	$	11,334	$	-	$	33,455
Special Mention			-		1,797		-		510		-		778		-		3,085
Substandard			-		1,256		2,225		190		-		662		-		4,333
Total SBA loans held for investment		$	1,057	$	10,166	$	7,376	$	6,831	$	2,669	$	12,774	$	-	$	40,873
SBA loans held for investment
Current-period gross writeoffs		$	-	$	100	$	-	$	-	$	113	$	-	$	-	$	213

SBA PPP loans
Risk Rating:
Pass		$	-	$	-	$	2,507	$	-	$	-	$	-	$	-	$	2,507
Special Mention			-		-		-		-		-		-		-		-
Substandard			-		-		-		-		-		-		-		-
Total SBA PPP loans		$	-	$	-	$	2,507	$	-	$	-	$	-	$	-	$	2,507

Commercial loans
Risk Rating:
Pass		$	101,748	$	358,414	$	186,930	$	136,850	$	102,312	$	278,861	$	95,372	$	1,260,487
Special Mention			-		82		212		-		1,727		10,307		645		12,973
Substandard			-		-		-		236		-		2,460		-		2,696
Total commercial loans		$	101,748	$	358,496	$	187,142	$	137,086	$	104,039	$	291,628	$	96,017	$	1,276,156
Commercial loans
Current-period gross writeoffs		$	-	$	-	$	150	$	-	$	350	$	-	$	-	$	500

Residential mortgage loans
Risk Rating:
Performing		$	83,675	$	259,430	$	73,961	$	52,432	$	32,944	$	115,498	$	-	$	617,940
Nonperforming			5,032		2,174		550		1,055		276		1,601		-		10,688
Total residential mortgage loans		$	88,707	$	261,604	$	74,511	$	53,487	$	33,220	$	117,099	$	-	$	628,628

Consumer loans
Risk Rating:
Performing		$	3,041	$	5,103	$	4,450	$	696	$	2,589	$	8,045	$	47,875	$	71,799
Nonperforming			-		-		-		-		-		-		390		390
Total consumer loans		$	3,041	$	5,103	$	4,450	$	696	$	2,589	$	8,045	$	48,265	$	72,189
Consumer loans
Current-period gross writeoffs		$	-	$	-	$	397	$	-	$	-	$	-	$	-	$	397

Residential construction
Risk Rating:
Performing		$	20,697	$	72,544	$	34,165	$	1,550	$	500	$	732	$	-	$	130,188
Nonperforming			-		-		377		547		-		1,303		1,035		3,262
Total residential construction loans		$	20,697	$	72,544	$	34,542	$	2,097	$	500	$	2,035	$	1,035	$	133,450
Residential construction
Current-period gross writeoffs		$	-	$	-	$	-	$	-	$	-	$	500	$	400	$	900

Total loans held for investment		$	215,250	$	707,913	$	310,528	$	200,197	$	143,017	$	431,581	$	145,317	$	2,153,803

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The tables below detail the Company’s loan portfolio by class according to their credit quality indicators discussed in the paragraphs above as of December 31, 2022:


	December 31, 2022
	SBA & Commercial loans - Internal risk ratings
(In thousands)	Pass		Special mention		Substandard		Total
SBA loans held for investment	$	37,163	$	558	$	747	$	38,468
SBA PPP loans		5,908		—		—		5,908
Commercial loans
SBA 504 loans		35,077		—		—		35,077
Commercial other		110,107		6,220		1,239		117,566
Commercial real estate		894,110		6,228		2,788		903,126
Commercial real estate construction		131,774		—		—		131,774
Total commercial loans		1,171,068		12,448		4,027		1,187,543
Total SBA and commercial loans	$	1,214,139	$	13,006	$	4,774	$	1,231,919

			Residential mortgage, Consumer & Residential construction loans - Performing/Nonperforming
(In thousands)			Performing		Nonperforming		Total
Residential mortgage loans			$	601,730	$	3,361	$	605,091
Consumer loans
Home equity				68,310		—		68,310
Consumer other				9,854		—		9,854
Total consumer loans				78,164		—		78,164
Residential construction loans				160,025		3,432		163,457
Total residential mortgage, consumer and residential construction loans			$	839,919	$	6,793	$	846,712

Modifications

The allowance for credit losses incorporates an estimate of lifetime expected credit losses and is recorded on each asset upon asset origination or acquisition. The starting point for the estimate of the allowance for creditlosses is historical loss information, which includes losses from modifications of receivables to borrowers experiencing financial difficulty. The Company uses a weighted-average remaining maturity model to determine the allowance for credit losses. An assessment of whether a borrower is experiencing financial difficulty is made on the date of a modification.

Because the effect of most modifications made to borrowers experiencing financial difficulty is already included in the allowance for credit losses because of the measurement methodologies used to estimate the allowance, a change to the allowance for credit losses is generally not recorded upon modification. Occasionally, the Company modifies loans by providing principal forgiveness on certain of its real estate loans. When principal forgiveness is provided, the amortized cost basis of the asset is written off against the allowance for credit losses. The amount of the principal forgiveness is deemed to be uncollectible; therefore, that portion of the loan is written off, resulting in a reduction of the amortized cost basis and a corresponding adjustment to the allowance for credit losses.

In some cases, the Company will modify a certain loan by providing multiple types of concessions. Typically, one type of concession, such as a term extension, is granted initially. If the borrower continues to experience financial difficulty, another concession, such as principal forgiveness, may be granted.

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The following table shows the amortized cost basis at the end of the reporting period of the loans modified to borrowers experiencing financial difficulty, disaggregated by class of gross loans and type of concession granted (numbers in thousands) during the nine months ended September 30, 2023:


	Term Extension
		Amortized Cost Basis	% of Total Class of
		September 30, 2023	Gross Loans
Commercial	$	952	0.1	%

	Principal Forgiveness/Deferment
		Amortized Cost Basis	% of Total Class of
		September 30, 2023	Gross Loans
SBA	$	9	0.0	%

Modifications for the year made to borrowers experiencing financial difficulty added a weighted average of 7.7 years to the life of the modified loans, which reduced monthly payment amounts for the borrowers.

Upon the Company's determination that a modified loan (or portion of a loan) has subsequently been deemed uncollectible, the loan (or portion of the loan) is written off. Therefore, the amortized cost basis of the loan is reduced by the uncollectible amount and the allowance for credit losses is adjusted by the same amount. No loans that were modified during the three and nine months ended September 30, 2023 had a payment default during the period and all loans were current as of September 30, 2023.

NOTE 8. Allowance for Credit Losses and Reserve for Unfunded Loan Commitments

Allowance for Credit Losses

The Company 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. At a minimum, the adequacy of the allowance for credit losses is reviewed by management on a quarterly basis. The allowance is increased by provisions charged to expense and is reduced by net charge-offs. For purposes of determining the allowance for credit losses, the Company has segmented the loans in its portfolio by loan type. Loans are segmented into the following pools: SBA, commercial, residential mortgages, consumer and residential construction loans. Certain portfolio segments are further broken down into classes based on the associated risks within those segments and the type of collateral underlying each loan. Commercial loans are divided into the following four classes: commercial real estate, commercial real estate construction, commercial other and SBA 504. Consumer loans are divided into two classes as follows: home equity and other.

The standardized methodology used to assess the adequacy of the allowance includes the allocation of specific and general reserves. The same standard methodology is used, regardless of loan type. Specific reserves are evaluated for individually evaluated loans. The general reserve is set based upon a representative average historical net charge-off rate adjusted for the following environmental factors: delinquency and impairment trends, charge-off and recovery trends, volume and loan term trends, changes in risk and underwriting policy trends, staffing and experience changes, national and local economic trends, industry conditions and credit concentration changes. Within the historical net charge-off rate, the Company weights the data dating back to 2015 on a straight line basis and projects the losses on a weighted average remaining maturity basis for each segment. All of the environmental factors are ranked and assigned a basis points value based on the following scale: low, low moderate, moderate, high moderate and high risk. Each

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environmental factor is evaluated separately for each class of loans and risk weighted based on its individual characteristics.

●

For SBA and commercial loans, the estimate of loss based on pools of loans with similar characteristics is made through the use of a standardized loan grading system that is applied on an individual loan level and updated on a continuous basis. The loan grading system incorporates reviews of the financial performance of the borrower, including cash flow, debt-service coverage ratio, earnings power, debt level and equity position, in conjunction with an assessment of the borrower’s industry and future prospects. It also incorporates analysis of the type of collateral and the relative loan to value ratio.

●

For residential mortgage, consumer and residential construction loans, the estimate of loss is based on pools of loans with similar characteristics. Factors such as credit score, delinquency status and type of collateral are evaluated. Factors are updated frequently to capture the recent behavioral characteristics of the subject portfolios, as well as any changes in loss mitigation or credit origination strategies, and adjustments to the reserve factors are made as needed.

According to the Company’s policy, a loss (“charge-off”) is to be recognized and charged to the allowance for credit losses as soon as a loan is recognized as uncollectable. All credits which are 90 days past due must be analyzed for the Company’s ability to collect on the credit. Once a loss is known to exist, the charge-off approval process is immediately expedited. This charge-off policy is followed for all loan types.

The following tables detail the activity in the allowance for credit losses by portfolio segment for the three and nine months ended September 30, 2023 and 2022:

For the three months ended September 30, 2023

SBA

Residential

(In thousands)

Held for Investment

Commercial

Residential

Consumer

construction

Total

Balance, beginning of period

1,556

15,516

6,437

845

1,634

25,988

Charge-offs

(100)

(500)

—

(52)

—

(652)

Recoveries

—

Net (charge-offs) recoveries

(99)

(490)

—

(15)

—

(604)

Provision for (credit to) credit losses charged to expense

199

325

(6)

130

(114)

534

Balance, end of period

1,656

15,351

6,431

960

1,520

25,918


	For the three months ended September 30, 2022
										Residential
(In thousands)	SBA		Commercial		Residential		Consumer		construction		Total
Balance, beginning of period	$	758	$	14,908	$	4,786	$	803	$	1,603	$	22,858
Charge-offs		—		(501)		—		(50)		—		(551)
Recoveries		5		23		—		9		—		37
Net recoveries (charge-offs)		5		(478)		—		(41)		—		(514)
Provision for (credit to) credit losses charged to expense		68		803		449		349		(152)		1,517
Balance, end of period	$	831	$	15,233	$	5,235	$	1,111	$	1,451	$	23,861

For the nine months ended September 30, 2023

SBA

Residential

(In thousands)

Held for Investment

Commercial

Residential

Consumer

construction

Total

Balance, beginning of period

875

15,254

5,450

990

2,627

25,196

Effect of adopting Accounting Standards Update ("ASU") No. 2016-13 ("CECL")

163

171

376

101

847

Charge-offs

(213)

(500)

—

(397)

(900)

(2,010)

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Recoveries

377

—

466

Net (charge-offs) recoveries

(197)

(123)

—

(324)

(900)

(1,544)

Provision for (credit to) loan losses charged to expense

815

605

193

(243)

1,419

Balance, end of period

1,656

15,351

6,431

960

1,520

25,918


	For the nine months ended September 30, 2022
										Residential
(In thousands)	SBA		Commercial		Residential		Consumer		construction		Total
Balance, beginning of period	$	1,074	$	15,053	$	4,114	$	671	$	1,390	$	22,302
Charge-offs		—		(1,001)		—		(96)		—		(1,097)
Recoveries		33		83		1		13		—		130
Net (charge-offs) recoveries		33		(918)		1		(83)		—		(967)
Provision (credit) for loan losses charged to expense		(276)		1,098		1,120		523		61		2,526
Balance, end of period	$	831	$	15,233	$	5,235	$	1,111	$	1,451	$	23,861

The following tables present loans and their related allowance for credit losses, by portfolio segment, as of September 30, 2023 and December 31, 2022:

September 30, 2023

SBA

Residential

(In thousands)

Held for Investment

Commercial

Residential

Consumer

construction

Total

Allowance for credit losses ending balance:

Individually evaluated

619

369

386

—

285

1,659

Collectively evaluated

1,037

14,982

6,045

960

1,235

24,259

Total

1,656

15,351

6,431

960

1,520

25,918

Loan ending balances:

Individually evaluated

256

750

11,059

131

3,201

15,397

Collectively evaluated

40,617

1,275,406

617,569

72,058

130,249

2,135,899

Total

40,873

1,276,156

628,628

72,189

133,450

2,151,296


	December 31, 2022
										Residential
(In thousands)	SBA		Commercial		Residential		Consumer		construction		Total
Allowance for credit losses ending balance:
Individually evaluated for impairment	$	115	$	516	$	36	$	—	$	1,112	$	1,779
Collectively evaluated for impairment		760		14,738		5,414		990		1,515		23,417
Total	$	875	$	15,254	$	5,450	$	990	$	2,627	$	25,196
Loan ending balances:
Individually evaluated for impairment	$	690	$	3,101	$	3,361	$	—	$	3,432	$	10,584
Collectively evaluated for impairment		71,614		1,184,442		601,730		78,164		160,025		2,095,975
Total	$	72,304	$	1,187,543	$	605,091	$	78,164	$	163,457	$	2,106,559

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Reserve for Unfunded Loan Commitments

In addition to the allowance for credit losses, the Company maintains a reserve for unfunded loan commitments at a level that management believes is adequate to absorb estimated probable losses. At September 30, 2023 and December 31, 2022, a $0.5 million commitment reserve was reported on the balance sheet as “Accrued expenses and other liabilities” and reported on the income statement as “Other expenses”.

NOTE 9. Derivative Financial Instruments and Hedging Activities

Derivative Financial Instruments

The Company has derivative financial instruments in the form of interest rate swap agreements, which derive their value from underlying interest rates. These transactions involve both credit and market risk. The notional amounts are amounts on which calculations, payments and the value of the derivatives are based. Notional amounts do not represent direct credit exposures. Direct credit exposure is limited to the net difference between the calculated amounts to be received and paid, if any. Such difference, which represents the fair value of the derivative instrument, is reflected on the Company’s balance sheet as “Prepaid expenses and other assets” or “Accrued expenses and other liabilities”.

The Company is exposed to credit-related losses in the event of nonperformance by the counterparties to any derivative agreement. The Company controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures and does not expect any counterparties to fail their obligations. The Company deals only with primary dealers.

Derivative instruments are generally either negotiated via over the counter (“OTC”) contracts or standardized contracts executed on a recognized exchange. Negotiated OTC derivative contracts are generally entered into between two counterparties that negotiate specific agreement terms, including the underlying instrument, amount, exercise prices and maturity.

Risk Management Policies – Hedging Instruments

The primary focus of the Company’s asset/liability management program is to monitor the sensitivity of the Company’s net portfolio value and net income under varying interest rate scenarios to take steps to control its risks. On a quarterly basis, the Company evaluates the effectiveness of entering into any derivative agreement by measuring the cost of such an agreement in relation to the reduction in net portfolio value and net income volatility within an assumed range of interest rates.

Interest Rate Risk Management – Cash Flow Hedging Instruments

The Company has variable rate debt as a source of funds for use in the Company’s lending and investment activities and for other general business purposes. These debt obligations expose the Company to variability in interest payments due to changes in interest rates. If interest rates increase, interest expense increases. Conversely, if interest rates decrease, interest expense decreases. Management believes it is prudent to limit the variability of a portion of its interest payments and, therefore hedges its variable-rate interest payments. To meet this objective, management enters into interest rate swap agreements whereby the Company receives variable interest rate payments and makes fixed interest rate payments during the contract period.

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A summary of the Company’s outstanding interest rate swap agreements used to hedge variable rate debt at September 30, 2023 and December 31, 2022, respectively is as follows:


(In thousands, except percentages and years)	September 30, 2023			December 31, 2022
Notional amount	$	20,000		$	20,000
Fair value	$	1,264		$	1,537
Weighted average pay rate		0.83	%		0.83	%
Weighted average receive rate		5.56	%		1.50	%
Weighted average maturity in years		1.44			2.57
Number of contracts		1			1

During the three and nine months ended September 30, 2023, the Company received variable rate Secured Overnight Financing Rate ("SOFR") payments from and paid fixed rates in accordance with its interest rate swap agreements. At September 30, 2023, the unrealized gain relating to interest rate swaps was recorded as a derivative asset and is included in “Prepaid expenses and other assets” on the Company’s Balance Sheet. Changes in the fair value of the interest rate swaps designated as hedging instruments of the variability of cash flows associated with long-term debt are reported in other comprehensive income. The following table presents the net gains and losses recorded in other comprehensive income and the consolidated financial statements relating to the cash flow derivative instruments at September 30, 2023 and 2022, respectively:


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands)	2023		2022		2023		2022
(Loss) Gain recognized in OCI	$	(139)	$	452	$	(273)	$	1,386
Gain reclassified from AOCI into net income	$	238	$	—	$	656	$	—

NOTE 10. Employee Benefit Plans

Stock Option Plans

The Company has maintained option plans and maintains an equity incentive plan, which allow for the grant of options to officers, employees and members of the Board of Directors. Grants of options under the Company’s plans generally vest over 3 years and must be exercised within 10 years of the date of grant. Transactions under the Company’s plans for the nine months ended September 30, 2023 are summarized in the following table:


				Weighted
		Weighted		average
		average		remaining	Aggregate
		exercise		contractual	intrinsic
	Shares	price		life in years	value
Outstanding at December 31, 2022	559,499	$	18.09	5.9	$	5,168,740
Options granted	—
Options exercised	(73,184)		19.04
Options forfeited	(1,332)		18.64
Options expired	—
Outstanding at September 30, 2023	484,983	$	17.95	5.2	$	2,659,163
Exercisable at September 30, 2023	445,825	$	17.85	5.0	$	2,488,426

On May 5, 2023, the Company adopted the 2023 Equity Compensation Plan providing for grants of up to 500,000 shares to be allocated between incentive and non-qualified stock options, restricted stock awards, performance units and deferred stock. The Plan, along with the 2019 Equity Compensation Plan adopted on April 25, 2019, replaced all previously approved and established equity plans then currently in effect. As of September 30, 2023, 281,500 options and 267,900 shares of restricted stock have been awarded from the plans. In addition, 16,828 unvested options and

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16,999 unvested shares of restricted stock were cancelled and returned to the plans leaving 484,427 shares available for future grants.

The fair values of the options granted are estimated on the date of grant using the Black-Scholes option-pricing model. There were no options granted during the nine months ended September 30, 2023 or 2022.

Upon exercise, the Company issues shares from its authorized but unissued common stock to satisfy the options. The following table presents information about options exercised during the three and nine months ended September 30, 2023 and 2022:


	For the three months ended September 30,				For the nine months ended September 30,
	2023		2022		2023		2022
Number of options exercised		22,249		23,168		73,184		85,877
Total intrinsic value of options exercised	$	164,978		215,476	$	480,981	$	1,081,833
Cash received from options exercised	$	394,665		441,272		1,393,551		1,394,809
Tax deduction realized from options	$	49,634		64,826		144,703		325,469

The following table summarizes information about stock options outstanding and exercisable at September 30, 2023:


	Options outstanding					Options exercisable
			Weighted average	Weighted			Weighted
		Options	remaining contractual	average		Options	average
Range of exercise prices		outstanding	life (in years)	exercise price		exercisable	exercise price
$7.25 - 16.51		128,873	3.4	$	12.01	128,873	$	12.01
16.52 - 19.26		120,499	6.0		18.03	97,674		18.04
19.27 - 20.88		127,411	5.9		20.33	111,078		20.30
20.89 - 22.57		108,200	5.8		22.11	108,200		22.11
Total		484,983	5.2	$	17.95	445,825	$	17.85

Financial Accounting Standards Board Accounting Standards Codification ("FASB ASC") Topic 718, “Compensation - Stock Compensation,” requires an entity to recognize the fair value of equity awards as compensation expense over the period during which an employee is required to provide service in exchange for such an award (vesting period). Compensation expense related to stock options and the related income tax benefit for the three and nine months ended September 30, 2023 and 2022 are detailed in the following table:


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands)	2023		2022		2023		2022
Compensation expense	$	72	$	129	$	236	$	431
Income tax benefit	$	21	$	37	$	68	$	125

As of September 30, 2023, unrecognized compensation costs related to nonvested share-based stock option compensation arrangements granted under the Company’s plans totaled approximately $104 thousand. That cost is expected to be recognized over a weighted average period of 0.4 years.

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Restricted Stock Awards

Restricted stock is issued under the Company’s active Equity Compensation Plans to reward employees and directors and to retain them by distributing stock over a period of time. Restricted stock awards granted to date generally vest over a period of 4 years and are recognized as compensation to the recipient over the vesting period. The awards are recorded at fair market value at the time of grant and amortized into salary expense on a straight line basis over the vesting period. The following table summarizes nonvested restricted stock activity for the nine months ended September 30, 2023:


		Average grant
	Shares	date fair value
Nonvested restricted stock at December 31, 2022	164,570	$	24.77
Granted	58,500		22.93
Cancelled	(4,599)		26.37
Vested	(41,973)		23.13
Nonvested restricted stock at September 30, 2023	176,498	$	24.51

Restricted stock awards granted during the three and nine months ended September 30, 2023 and 2022 were as follows:


	For the three months ended September 30,				For the nine months ended September 30,
	2023		2022		2023		2022
Number of shares granted		3,000		2,000		58,500		73,000
Average grant date fair value	$	25.24	$	27.89	$	22.93	$	27.54

Compensation expense related to restricted stock for the three and nine months ended September 30, 2023 and 2022 is detailed in the following table:


	For the three months ended September 30,				For the nine months ended September 30,
(In thousands)	2023		2022		2023		2022
Compensation expense	$	357	$	276	$	1,033	$	808
Income tax benefit	$	103	$	80	$	298	$	234

As of September 30, 2023, there was approximately $3.5 million of unrecognized compensation cost related to nonvested restricted stock awards granted under the Company’s equity plans. That cost is expected to be recognized over a weighted average period of 2.7 years.

NOTE 11. Regulatory Capital

Under the Economic Growth, Regulatory Relief and Consumer Protection Act, the Bank is considered a qualifying community banking organization, which allows the Bank to elect to opt into the community bank leverage ratio (“CBLR”) in its regulatory filings. The Bank has opted into the CBLR, and is therefore not required to comply with the Basel III capital requirements.

The following table shows the CBLR ratio for the Company and the Bank as of September 30, 2023 and December 31, 2022:


	At September 30, 2023				At December 31, 2022
	Company		Bank		Company		Bank
CBLR	10.76	%	10.35	%	10.88	%	10.34	%

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NOTE 12. Subsequent Events

The Company has evaluated all events or transactions that occurred through the date the Company issued these financial statements.

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

The following discussion and analysis of financial condition and results of operations should be read in conjunction with the 2022 consolidated audited financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2022. When necessary, reclassifications have been made to prior period data throughout the following discussion and analysis for purposes of comparability. This Quarterly Report on Form 10-Q contains certain “forward looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, which may be identified by the use of such words as “believe”, “expect”, “anticipate”, “should”, “planned”, “estimated” and “potential”. Examples of forward looking statements include, but are not limited to, estimates with respect to the financial condition, results of operations and business of Unity Bancorp, Inc. that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include, in addition to those items contained in the Company’s Annual Report on Form 10-K under Item IA-Risk Factors, as updated by our subsequent filings with the Securities and Exchange Commission, the following: changes in general, economic and market conditions, including the impact of inflation, legislative and regulatory conditions and the development of an interest rate environment that adversely affects Unity Bancorp, Inc.’s interest rate spread or other income anticipated from operations and investments and the impact of the COVID-19 pandemic on our employees, operations and customers.

Overview

Unity Bancorp, Inc. (the “Parent Company”) is a bank holding company incorporated in New Jersey and registered under the Bank Holding Company Act of 1956, as amended. Its wholly-owned subsidiary, Unity Bank (the “Bank” or, when consolidated with the Parent Company, the “Company”) is chartered by the New Jersey Department of Banking and Insurance and commenced operations on September 13, 1991. The Bank provides a full range of commercial and retail banking services through online banking platforms and its robust branch network located throughout Bergen, Hunterdon, Middlesex, Morris, Ocean, Somerset, Union and Warren counties in New Jersey and Northampton County in Pennsylvania. These services include the acceptance of demand, savings and time deposits and the extension of consumer, real estate, Small Business Administration ("SBA") and other commercial credits. The Bank has multiple subsidiaries used to hold part of its investment, other real estate owned and loan portfolios.

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Earnings Summary

Net income totaled $9.9 million, or $0.97 per diluted share for the quarter ended September 30, 2023, compared to $9.9 million, or $0.93 per diluted share for the same period in 2022. Return on average assets and average common equity for the quarter were 1.61 percent and 15.84 percent, respectively, compared to 1.85 percent and 17.39 percent for the same period in 2022.

Third quarter highlights include:

●

Net interest income decreased 0.9 percent compared to the prior year’s quarter, primarily due to the interest expense on deposits increasing faster than interest income on loans.

●

Net interest margin equaled 3.96 percent this quarter compared to 4.61 percent in the prior year’s quarter. The decrease was primarily due to the cost of interest-bearing liabilities increasing faster than the yield of interest-earning assets.

●

The provision for credit losses was $534 thousand for the quarter ended September 30, 2023, compared to $1.5 million in provision for credit losses for the prior year’s quarter. The decrease was primarily due to slower loan growth.

●

Noninterest income increased 84.1 percent compared to the prior year’s quarter, primarily due to an increase in BOLI income driven by non-taxable realized gains associated with two separate claims.

●

Noninterest expense increased 19.2 percent compared to the prior year’s quarter, primarily due to increased professional services, deposit insurance, compensation and benefits costs.

●

The effective tax rate was 23.7 percent compared to 25.1 percent in the prior year’s quarter.

The Company’s performance ratios may be found in the table below.


	For the three months ended September 30,						For the nine months ended September 30,
	2023			2022			2023			2022
Net income per common share - Basic (1)	$	0.98		$	0.94		$	2.92		$	2.72
Net income per common share - Diluted (2)	$	0.97		$	0.93		$	2.88		$	2.67
Return on average assets		1.61	%		1.85	%		1.64	%		1.83	%
Return on average equity (3)		15.84	%		17.39	%		16.38	%		17.45	%
Efficiency ratio (4)		46.68	%		39.59	%		45.59	%		42.64	%

(1)	Defined as net income divided by weighted average shares outstanding.

(2)	Defined as net income divided by the sum of the weighted average shares and the potential dilutive impact of the exercise of outstanding options.

(3)	Defined as net income divided by average shareholders’ equity.

(4)	The efficiency ratio is a non-GAAP measure of operational performance. It is defined as noninterest expense divided by the sum of net interest income plus noninterest income less any gains or losses on securities.

Net Interest Income

The primary source of the Company’s operating income is net interest income, which is the difference between interest and dividends earned on interest-earning assets and fees earned on loans, versus interest paid on interest-bearing liabilities. Interest-earning assets include loans to individuals and businesses, investment securities and interest-earning deposits. Interest-bearing liabilities include interest-bearing demand, savings and time deposits, FHLB advances and other borrowings. Net interest income is determined by the difference between the yields earned on interest-earning assets and the rates paid on interest-bearing liabilities (“net interest spread”) and the relative amounts of interest-earning assets and interest-bearing liabilities. The Company’s net interest spread is affected by regulatory, economic and competitive factors that influence interest rates, loan demand, deposit flows and general levels of nonperforming assets.

During the quarter ended September 30, 2023, tax-equivalent net interest income amounted to $23.5 million, a decrease of $0.2 million or 0.9 percent when compared to the same period in 2022. The net interest margin decreased 65 basis

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points to 3.96 percent for the three months ended September 30, 2023, compared to 4.61 percent for the same period in 2022.

During the three months ended September 30, 2023, tax-equivalent interest income was $37.0 million, an increase of $10.8 million or 41.1 percent when compared to the same period in 2022. This increase was mainly driven by the increases in the yield on securities, the balance of average loans and the yield on loans.

●

Of the $10.8 million net increase in interest income on a tax-equivalent basis, $6.3 million is due to an increase in yields on earning assets and $4.5 million is due to an increase in average earning assets.

●

The average volume of interest-earning assets increased $313.5 million to $2.4 billion for the third quarter of 2023 compared to $2.0 billion for the same period in 2022. This was due primarily to a $306.8 million increase in average loans and a $9.3 million increase in average FHLB stock, partially offset by a $2.6 million decrease in average investment securities.

●

The yield on total interest-earning assets increased 113 basis points to 6.22 percent for the three months ended September 30, 2023 when compared to the same period in 2022. The yield on the loan portfolio increased 96 basis points to 6.18 percent.

Total interest expense was $13.5 million for the three months ended September 30, 2023, an increase of $10.9 million or 441.3 percent compared to the same period in 2022. This increase was driven by the increased rates and volume of time deposits, increased rates on savings deposits, partially offset by a decline in volume of savings deposits, increased rates for demand deposits, and increased rates and volume of borrowed funds and subordinated debentures compared to a year ago.

●

Of the $10.9 million increase in interest expense, $8.1 million was due to an increase in the rates on interest-bearing liabilities and $2.8 million was due to increased volume of average interest-bearing liabilities.

●

Interest-bearing liabilities averaged $1.7 billion for the third quarter of 2023, an increase of $386.6 million compared to the prior year’s quarter.

●

The average cost of total interest-bearing liabilities increased 233 basis points to 3.05 percent. The cost of interest-bearing deposits increased 207 basis points to 2.64 percent for the third quarter of 2023 and the cost of borrowed funds and subordinated debentures increased 244 basis points to 4.97 percent.

During the nine months ended September 30, 2023, tax-equivalent net interest income amounted to $71.0 million, an increase of $5.6 million or 8.5 percent when compared to the same period in 2022. The net interest margin decreased 31 basis points to 4.06 percent for the nine months ended September 30, 2023, compared to 4.37 percent for the same period in 2022.

During the nine months ended September 30, 2023, tax-equivalent interest income was $105.7 million, an increase of $35.3 million or 50.2 percent when compared to the same period in the prior year. This increase was mainly driven by the increase in the balance of average loans and the increase in the average balance of securities and the rates on loans, securities, and interest-bearing deposits.

●

Of the $35.3 million net increase in interest income on a tax-equivalent basis, $18.3 million is due to an increase in yields on earning assets and $17.0 million is due to an increase in the volume of average earning assets.

●

The average volume of interest-earning assets increased $338.1 million to $2.3 billion for the nine months ended September 30, 2023 compared to $2.0 billion for the same period in 2022. This was due primarily to a $20.0 million increase in average investment securities and a $387.0 million increase in average loans, partially offset by a $80.8 million decrease in interest-bearing deposits.

●

The yield on total interest-earning assets increased 134 basis points to 6.05 percent for the nine months ended September 30, 2023 when compared to the same period in 2022. The yield on the loan portfolio increased 95 basis points to 6.01 percent.

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Total interest expense was $34.8 million for the nine months ended September 30, 2023, an increase of $29.7 million or 593.3 percent compared to the same period in 2022. This increase reflects increased volume and rates on interest-bearing deposits and borrowed funds and subordinated debentures compared to a year ago.

●

Of the $29.7 million increase in interest expense, $19.9 million was due to an increase in the rates on interest-bearing liabilities and $9.8 million was due to the increased volume of average interest-bearing liabilities.

●

Interest-bearing liabilities averaged $1.7 billion for the nine months ended September 30, 2023, an increase of $406.8 million compared to the prior year’s period.

●

The average cost of total interest-bearing liabilities increased 219 basis points to 2.70 percent for the nine months ended September 30, 2023. The cost of interest-bearing deposits increased 180 basis points to 2.21 percent and the cost of borrowed funds and subordinated debentures increased 252 basis points to 4.73 percent.

The following table reflects the components of net interest income, setting forth for the periods presented herein: (1) average assets, liabilities and shareholders’ equity, (2) interest income earned on interest-earning assets and interest expense paid on interest-bearing liabilities, (3) average yields earned on interest-earning assets and average rates paid on interest-bearing liabilities, (4) net interest spread, and (5) net interest income/margin on average earning assets. Rates/Yields are annualized and computed on a fully tax-equivalent basis, assuming a federal income tax rate of 21 percent in 2023 and 2022.

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Consolidated Average Balance Sheets

(Dollar amounts in thousands, interest amounts and interest rates/yields on a fully tax-equivalent basis)


	For the three months ended
	September 30, 2023						September 30, 2022
	Average						Average
	Balance		Interest		Rate/Yield		Balance		Interest		Rate/Yield
ASSETS
Interest-earning assets:
Interest-bearing deposits	$	34,597	$	483	5.54	%	$	34,605	$	168	1.92	%
Federal Home Loan Bank ("FHLB") stock		15,485		364	9.32			6,200		93	5.96
Securities:
Taxable		135,132		1,848	5.47			137,590		1,397	4.03
Tax-exempt		1,692		18	4.27			1,841		20	4.27
Total securities (A)		136,824		1,866	5.45			139,431		1,417	4.03
Loans:
SBA loans		60,108		1,379	9.18			65,941		1,083	6.52
SBA PPP loans		2,523		25	3.94			9,576		277	11.47
Commercial loans		1,266,185		20,299	6.27			1,069,917		14,017	5.20
Residential mortgage loans		628,544		8,462	5.39			504,787		5,912	4.65
Consumer loans		75,246		1,525	7.93			76,957		1,075	5.54
Residential construction loans		139,045		2,588	7.28			137,681		2,184	6.29
Total loans (B)		2,171,651		34,278	6.18			1,864,859		24,548	5.22
Total interest-earning assets	$	2,358,557	$	36,991	6.22	%	$	2,045,095	$	26,226	5.09	%

Noninterest-earning assets:
Cash and due from banks		22,841						24,350
Allowance for credit losses		(26,478)						(22,848)
Other assets		100,428						83,168
Total noninterest-earning assets		96,791						84,670
Total assets	$	2,455,348					$	2,129,765

LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Interest-bearing demand deposits	$	304,287	$	1,429	1.86	%	$	269,486	$	320	0.47	%
Savings deposits		547,000		3,178	2.30			674,486		878	0.52
Time deposits		597,664		5,033	3.34			310,842		600	0.77
Total interest-bearing deposits		1,448,951		9,640	2.64			1,254,814		1,798	0.57
Borrowed funds and subordinated debentures		300,608		3,817	4.97			108,135		688	2.53
Total interest-bearing liabilities	$	1,749,559	$	13,457	3.05	%	$	1,362,949	$	2,486	0.72	%

Noninterest-bearing liabilities:
Noninterest-bearing demand deposits		429,321						516,898
Other liabilities		27,192						23,130
Total noninterest-bearing liabilities		456,513						540,028
Total shareholders' equity		249,276						226,788
Total liabilities and shareholders' equity	$	2,455,348					$	2,129,765

Net interest spread			$	23,534	3.17	%			$	23,740	4.37	%
Tax-equivalent basis adjustment				(1)						(2)
Net interest income			$	23,533					$	23,738
Net interest margin					3.96	%					4.61	%

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(A)	Yields related to securities exempt from federal and state income taxes are stated on a fully tax-equivalent basis. They are reduced by the nondeductible portion of interest expense, assuming a federal tax rate of 21 percent and applicable state rates.

(B)	The loan averages are stated net of unearned income, and the averages include loans on which the accrual of interest has been discontinued.


	For the nine months ended
	September 30, 2023						September 30, 2022
	Average						Average
	balance		Interest		Rate/Yield		balance		Interest		Rate/Yield
ASSETS
Interest-earning assets:
Interest-bearing deposits	$	34,068	$	1,257	4.93	%	$	114,901	$	416	0.48	%
FHLB stock		16,500		1,037	8.41			4,592		176	5.13
Securities:
Taxable		136,473		5,385	5.26			116,816		3,164	3.62
Tax-exempt		1,737		58	4.46			1,366		39	3.80
Total securities (A)		138,210		5,443	5.25			118,182		3,203	3.62
Loans
SBA loans		62,802		4,186	8.89			64,438		2,933	6.08
SBA PPP loans		3,103		129	5.53			23,388		1,546	8.84
Commercial loans		1,230,752		56,320	6.03			1,009,122		37,928	5.03
Residential mortgage loans		621,971		25,103	5.38			456,354		15,284	4.48
Consumer loans		76,363		4,351	7.51			78,108		2,914	4.99
Residential construction loans		153,587		7,911	6.79			130,205		6,018	6.18
Total loans (B)		2,148,578		98,000	6.01			1,761,615		66,623	5.06
Total interest-earning assets	$	2,337,356	$	105,737	6.05	%	$	1,999,290	$	70,418	4.71	%

Noninterest-earning assets:
Cash and due from banks		22,516						24,026
Allowance for credit losses		(26,178)						(22,454)
Other assets		104,883						80,656
Total noninterest-earning assets		101,221						82,228
Total assets	$	2,438,577					$	2,081,518

LIABILITIES AND SHAREHOLDERS’ EQUITY
Interest-bearing liabilities:
Interest-bearing demand deposits	$	301,456	$	3,761	1.67	%	$	263,139	$	682	0.35	%
Savings deposits		554,087		7,632	1.84			687,177		1,635	0.32
Time deposits		539,395		11,637	2.88			292,484		1,499	0.69
Total interest-bearing deposits		1,394,938		23,030	2.21			1,242,800		3,816	0.41
Borrowed funds and subordinated debentures		327,382		11,740	4.73			72,724		1,199	2.21
Total interest-bearing liabilities	$	1,722,320	$	34,770	2.70	%	$	1,315,524	$	5,015	0.51	%

Noninterest-bearing liabilities:
Noninterest-bearing demand deposits		445,862						525,405
Other liabilities		26,016						22,186
Total noninterest-bearing liabilities		471,878						547,591
Total shareholders’ equity		244,379						218,403
Total liabilities and shareholders’ equity	$	2,438,577					$	2,081,518

Net interest spread			$	70,967	3.35	%			$	65,403	4.20	%
Tax-equivalent basis adjustment				(3)						(5)
Net interest income			$	70,964					$	65,398
Net interest margin					4.06	%					4.37	%

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(A) Yields related to securities exempt from federal and state income taxes are stated on a fully tax-equivalent basis. They are reduced by the nondeductible portion of interest expense, assuming a federal tax rate of 21 percent and applicable state rates.

(B) The loan averages are stated net of unearned income, and the averages include loans on which the accrual of interest has been discontinued.

The rate volume table below presents an analysis of the impact on interest income and expense resulting from changes in average volume and rates over the periods presented. Changes that are not solely due to volume or rate variances have been allocated proportionally to both, based on their relative absolute values. Amounts have been computed on a tax-equivalent basis, assuming a federal income tax rate of 21 percent.


	For the three months ended September 30, 2023 versus September 30, 2022						For the nine months ended September 30, 2023 versus September 30, 2022
	Increase (decrease) due to change in:						Increase (decrease) due to change in:
(In thousands on a tax-equivalent basis)	Volume		Rate		Net		Volume		Rate		Net
Interest income:
Interest-bearing deposits	$	—	$	315	$	315	$	(480)	$	1,321	$	841
FHLB stock		196		75		271		690		171		861
Securities		(27)		476		449		613		1,627		2,240
Loans		4,331		5,399		9,730		16,218		15,159		31,377
Total interest income	$	4,500	$	6,265	$	10,765	$	17,041	$	18,278	$	35,319
Interest expense:
Demand deposits	$	46	$	1,063	$	1,109	$	114	$	2,965	$	3,079
Savings deposits		(196)		2,496		2,300		(378)		6,375		5,997
Time deposits		960		3,473		4,433		2,130		8,008		10,138
Total interest-bearing deposits		810		7,032		7,842		1,866		17,348		19,214
Borrowed funds and subordinated debentures		2,029		1,100		3,129		7,951		2,590		10,541
Total interest expense		2,839		8,132		10,971		9,817		19,938		29,755
Net interest income - fully tax-equivalent	$	1,661	$	(1,867)	$	(206)	$	7,224	$	(1,660)	$	5,564
Increase in tax-equivalent adjustment						1						2
Net interest income					$	(205)					$	5,566

Provision for Credit Losses

The provision for credit losses was $0.5 million during the three months ended September 30, 2023, compared to $1.5 million during the three months ended September 30, 2022. For the nine months ended September 30, 2023, the provision for credit losses totaled $1.4 million, compared to $2.5 million for the same period in 2022. The decrease was primarily driven by lower loan growth levels over the comparative periods.

Each period’s credit loss provision is the result of management’s analysis of the loan portfolio and reflects changes in the size and composition of the portfolio, the level of net charge-offs, delinquencies, current economic conditions and other internal and external factors impacting the risk within the loan portfolio. Additional information may be found under the captions “Financial Condition - Asset Quality” and “Financial Condition - Allowance for Credit Losses and Reserve for Unfunded Loan Commitments.” The current provision is considered appropriate under management’s assessment of the adequacy of the allowance for credit losses.

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Income Tax Expense

For the quarter ended September 30, 2023, the Company reported income tax expense of $3.1 million for an effective tax rate of 23.7 percent, compared to income tax expense of $3.3 million and an effective tax rate of 25.1 percent for the prior year’s quarter. For the nine months ended September 30, 2023, the Company reported income tax expense of $10.0 million for an effective tax rate of 25.1 percent, compared to an income tax expense of $9.3 million and an effective tax rate of 24.6 percent for the nine months ended September 30, 2022. During the third quarter, the New Jersey Legislature did not extend the 2.5% Corporation Business Tax (CBT) beyond December 31, 2023, which is reflected in the third quarter’s tax provision.

Unity Bancorp maintins a captive insurance subsidiary, Unity Risk Management Inc. Treasury recently issued proposed regulations which, if adopted in their current form, may adversely impact the ability of the Company to achieve tax benefits under their arrangement. Management is closely monitoring these developments and is anticipating regulatory resolution in Q4 2023. The captive insurance subsidiary currently saves between an estimated $0.3 million to $0.4 million of federal tax expenses per year.

Financial Condition at September 30, 2023

Total assets increased $118.1 million or 4.8 percent, to $2.6 billion at September 30, 2023, when compared to year end 2022. This increase was primarily due to increases of $66.6 million in gross loans, driven by commercial and residential mortgage loan growth and $46.7 million in cash and cash equivalents, partially offset by a decrease of $4.9 million in total securities.

Total shareholders’ equity increased $13.2 million, when compared to year end 2022, due to earnings and an increase in common stock, partially offset by the repurchase of shares and dividends paid during the nine months ended September 30, 2023.

These fluctuations are discussed in further detail in the paragraphs that follow.

Securities Portfolio

The Company’s securities portfolio consists of AFS debt securities, HTM debt securities and equity investments. Management determines the appropriate security classification of AFS and HTM at the time of purchase. The investment securities portfolio is maintained for asset-liability management purposes, as well as for liquidity and earnings purposes.

AFS debt securities are investments carried at fair value that may be sold in response to changing market and interest rate conditions or for other business purposes. Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk, to take advantage of market conditions that create economically attractive returns and as an additional source of earnings. AFS debt securities consist primarily of obligations of U.S. Government, state and political subdivisions, mortgage-backed securities and corporate and other securities.

AFS debt securities totaled $92.1 million at September 30, 2023, a decrease of $3.3 million or 3.4 percent, compared to $95.4 million at December 31, 2022. This net decrease was the result of:

●

$3.3 million principal payments, maturities and called bonds,

●

$0.7 million in depreciation in the market value of the portfolio. At September 30, 2023, the portfolio had a net unrealized loss of $6.5 million compared to a net unrealized loss of $5.8 million at December 31, 2022. These net unrealized losses are reflected net of tax in shareholder’s equity as accumulated other comprehensive loss.

●

The above were partially offset by $0.7 million in purchases.

The weighted average life of AFS debt securities, adjusted for prepayments, amounted to 5.8 years and 6.4 years at September 30, 2023 and December 31, 2022, respectively. The effective duration of AFS debt securities amounted to 1.9 years for both September 30, 2023 and December 31, 2022.

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HTM debt securities, which are carried at amortized cost, are investments for which there is the positive intent and ability to hold to maturity. The portfolio is primarily comprised of obligations of U.S. Government, state and political subdivisions and mortgage-backed securities.

HTM debt securities were $36.0 million at September 30, 2023, an increase of $0.2 million or 0.5 percent, compared to $35.8 million at December 31, 2022. This net increase was the result of:

●

$0.2 million in net accretion

The weighted average life of HTM securities, adjusted for prepayments, amounted to 17.9 years and 18.0 years at September 30, 2023 and December 31, 2022, respectively. As of September 30, 2023, the fair value of HTM securities was $27.2 million and $28.6 million at December 31, 2022. The effective duration of HTM securities amounted to 11.5 years and 10.5 years at September 30, 2023 and December 31, 2022, respectively.

Equity securities are investments carried at fair value that may be sold in response to changing market and interest rate conditions or for other business purposes. Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk, to take advantage of market conditions that create economically attractive returns and as an additional source of earnings. Equity securities consist of Community Reinvestment Act ("CRA") mutual fund investments and the equity holdings of other financial institutions.

Equity securities totaled $8.0 million at September 30, 2023, a decrease of $1.8 million or 18.2 percent, compared to $9.8 million at December 31, 2022. This net decrease was the result of:

●

$1.3 million in sales and

●

$0.6 million in net losses.

●

The above were partially offset by $0.1 million in purchases.

Securities with a carrying value of $9.5 million and $835 thousand at September 30, 2023 and December 31, 2022, respectively, were held at the FHLB or FRB and were pledged for borrowing purposes; however, all securities are unencumbered by borrowings as of September 30, 2023.

Approximately 64 percent of the total debt security investment portfolio had a fixed rate of interest at September 30, 2023.

See Note 6 to the accompanying Consolidated Financial Statements for more information regarding Securities.

Loan Portfolio

The loan portfolio, which represents the Company’s largest asset group, is a significant source of both interest and fee income. The portfolio consists of SBA, commercial, residential mortgage, consumer and residential construction loans. Each of these segments is subject to differing levels of credit and interest rate risk.

Total loans increased $66.6 million or 3.2 percent to $2.2 billion at September 30, 2023, compared to year end 2022. Commercial, residential mortgage and SBA held for investment loans increased $88.6 million, $23.5 million and $2.4 million, respectively, partially offset by decreases of $30.0 million, $6.0 million and $3.4 million in residential construction, consumer and SBA PPP loans, respectively.

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The following table sets forth the classification of loans by major category, including unearned fees and deferred costs and excluding the allowance for credit losses as of September 30, 2023 and December 31, 2022:


	September 30, 2023				December 31, 2022
			% of				% of
(In thousands, except percentages)	Amount		total		Amount		total
SBA loans held for investment	$	40,873	1.9	%	$	38,468	1.8	%
SBA PPP loans		2,507	0.1			5,908	0.3
Commercial loans		1,276,156	58.7			1,187,543	56.4
Residential mortgage loans		628,628	28.9			605,091	28.7
Consumer loans		72,189	3.3			78,164	3.7
Residential construction loans		133,450	6.2			163,457	7.8
Total loans held for investment	$	2,153,803	99.1	%	$	2,078,631	98.7	%
SBA loans held for sale		19,387	0.9			27,928	1.3
Total loans	$	2,173,190	100.0	%	$	2,106,559	100.0	%

Average loans increased $387.0 million or 22.0 percent to $2.1 billion the nine months ended September 30, 2023 from $1.8 billion for the same period in 2022. The increase in average loans was due to increases in average commercial, residential mortgage and residential construction loans, partially offset by decreases in average SBA, SBA PPP and consumer loans. The yield on the overall loan portfolio increased 95 basis points to 6.01 percent for the nine months ended September 30, 2023 when compared to the same period in the prior year.

SBA 7(a) loans, on which the SBA historically has provided guarantees of up to 90 percent of the principal balance, are considered a higher risk loan product for the Company than its other loan products. These loans are made for the purposes of providing working capital or financing the purchase of equipment, inventory or commercial real estate. Generally, an SBA 7(a) loan has a deficiency in its credit profile that would not allow the borrower to qualify for a traditional commercial loan, which is why the SBA provides the guarantee. The deficiency may be a higher loan to value (“LTV”) ratio, lower debt service coverage (“DSC”) ratio or weak personal financial guarantees. In addition, many SBA 7(a) loans are for startup businesses where there is no history or financial information. Finally, many SBA borrowers do not have an ongoing and continuous banking relationship with the Bank, but merely work with the Bank on a single transaction. The guaranteed portion of the Company’s SBA loans is generally sold in the secondary market with the nonguaranteed portion held in the portfolio as a loan held for investment.

SBA 7(a) loans held for sale, carried at the lower of cost or market, amounted to $19.4 million at September 30, 2023, a decrease of $8.5 million from $27.9 million at December 31, 2022. SBA 7(a) loans held for investment amounted to $40.9 million at September 30, 2023, an increase of $2.4 million from $38.5 million at December 31, 2022. The yield on SBA loans, which are generally floating and adjust quarterly to the Prime rate, was 8.89 percent for the nine months ended September 30, 2023, compared to 6.08 percent for the same period in the prior year.

The guarantee rates on SBA 7(a) loans range from 50 percent to 90 percent. The guarantee rates are determined by the SBA and can vary from year to year depending on government funding and the goals of the SBA program. Approximately $75.6 million and $72.1 million in SBA loans were sold but serviced by the Company at September 30, 2023 and December 31, 2022, respectively, and are not included on the Company’s balance sheet. There is no relationship or correlation between the guarantee percentages and the level of charge-offs and recoveries on the Company’s SBA 7(a) loans. Charge-offs taken on SBA 7(a) loans effect the unguaranteed portion of the loan. SBA loans are underwritten to the same credit standards irrespective of the guarantee percentage.

Commercial loans are generally made in the Company’s marketplace for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes. These loans amounted to $1.3 billion at September 30, 2023, an increase of $88.6 million from year end 2022. The yield on commercial loans was 6.03 percent for the nine months ended September 30, 2023, compared to 5.03 percent for the same period in 2022. SBA 504 program loans, which consist of real estate backed commercial mortgages where the Company has the first mortgage and the SBA has the second mortgage on the property, are included in the Commercial loan portfolio. Generally, the Company has a 50 percent LTV ratio on SBA 504 program loans at origination.

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Residential mortgage loans consist of loans secured by 1 to 4 family residential properties. These loans amounted to $628.6 million at September 30, 2023, an increase of $23.5 million from year end 2022. Sales of conforming mortgage loans totaled $44.8 million for the nine months ended September 30, 2023, compared to sales of $64.1 million in the prior years period. Furthermore, sales of nonconforming mortgage loans totaled $13.4 million for the nine months ended September 30, 2023, compared to none in the prior years period. The yield on residential mortgages was 5.38 percent for the nine months ended September 30, 2023, compared to 4.48 percent for the same period in 2022. Residential mortgage loans maintained in portfolio are generally to individuals that do not qualify for conventional financing. In extending credit to this category of borrowers, the Bank considers other mitigating factors such as credit history, equity and liquid reserves of the borrower. As a result, the residential mortgage loan portfolio of the Bank includes adjustable rate mortgages with rates that exceed the rates on conventional fixed-rate mortgage loan products but which are not considered high priced mortgages.

Consumer loans consist of home equity loans and loans for the purpose of financing the purchase of consumer goods, home improvements, and other personal needs, and are generally secured by the personal property being purchased. These loans amounted to $72.2 million, a decrease of $6.0 million from year end 2022. The yield on consumer loans was 7.51 percent for the nine months ended September 30, 2023, compared to 4.99 percent for the same period in 2022.

Residential construction loans consist of short-term loans for the purpose of funding the costs of building a home. These loans amounted to $133.5 million, a decrease of $30.0 million from year end 2022. The yield on residential construction loans was 6.79 percent for the nine months ended September 30, 2023, compared to 6.18 percent for the same period in 2022.

There are no concentrations of loans to any borrowers or group of borrowers exceeding 10 percent of the total loan portfolio.

In the normal course of business, the Company may originate loan products whose terms could give rise to additional credit risk. Interest-only loans, loans with high LTV or debt service ratios, construction loans with payments made from interest reserves and multiple loans supported by the same collateral (e.g. home equity loans) are examples of such products. However, these products are not material to the Company’s financial position and are closely managed via credit controls designed to mitigate their additional inherent risk. Management does not believe that these products create a concentration of credit risk in the Company’s loan portfolio. The Company does not have any option adjustable rate mortgage loans.

The majority of the Company’s loans are secured by real estate. Declines in the market values of real estate in the Company’s trade area impact the value of the collateral securing its loans. This could lead to greater losses in the event of defaults on loans secured by real estate. At September 30, 2023 and December 31, 2022, approximately 96 percent of the Company’s loan portfolio was secured by real estate.

Asset Quality

Nonperforming loans were $18.1 million at September 30, 2023, a $9.0 million increase from $9.1 million at December 31, 2022 and an $10.1 million increase from $8.0 million at September 30, 2022, respectively. Since year end 2022, nonperforming loans in the residential construction and commercial segment decreased, offset by an increase in nonperforming SBA, consumer and residential mortgage loans. In addition, there were $265 thousand loans past due 90 days or more and still accruing interest at September 30, 2023, compared to none at December 31, 2022 and $75 thousand at September 30, 2022. Further, there was $251 thousand of other real estate owned at September 30, 2023, compared to none at December 31, 2022 and September 30, 2022.

The Company also monitors potential problem loans. Potential problem loans are those loans where information about possible credit problems of borrowers causes management to have doubts as to the ability of such borrowers to comply with loan repayment terms. These loans are categorized by their non-passing risk rating and performing loan status. Potential problem loans totaled $18.5 million at September 30, 2023.

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See Note 7 to the accompanying Consolidated Financial Statements for more information regarding Asset Quality.

Allowance for Credit Losses and Reserve for Unfunded Loan Commitments

The allowance for credit losses totaled $25.9 million at September 30, 2023, compared to $25.2 million at December 31, 2022 and $23.9 million at September 30, 2022, with a resulting allowance to total loan ratio of 1.19 percent at September 30, 2023, 1.20 percent at December 31, 2022 and 1.23 at September 30, 2022. Net chargeoffs amounted to $1.5 million for the nine months ended September 30, 2023, compared to $1.0 million for the same period in 2022.

See Note 8 to the accompanying Consolidated Financial Statements for more information regarding the Allowance for Credit Losses and Reserve for Unfunded Loan Commitments.

Deposits

Deposits, which include noninterest-bearing demand deposits, interest-bearing demand deposits, savings deposits and time deposits, are the primary source of the Company’s funds. The Company offers a variety of products designed to attract and retain customers, with primary focus on building and expanding relationships. The Company continues to focus on establishing a comprehensive relationship with business borrowers, seeking deposits as well as lending relationships.

Total deposits increased $97.4 million to $1.9 billion at September 30, 2023 from year-end 2022. This increase was due to increases of $188.1 million in time deposits, of which $8.0 million was in brokered time deposits, and $21.5 million in interest-bearing demand deposits, partially offset by a decrease of $68.7 million in noninterest-bearing demand deposits and $43.5 million in savings deposits. The change in the composition of the portfolio from December 31, 2022 reflects a 44.2 percent increase in time deposits and an 7.8 percent increase in interest-bearing demand deposits, partially offset by a 13.9 percent decrease in noninterest-bearing demand deposits and a 7.4 percent decrease in savings deposits.

As of September 30, 2023 the Bank had $326.1 million in uninsured/uncollateralized deposits, or 17.3 percent of total deposits. Further, the Bank’s deposit base was 45.4 percent retail, 26.1 percent business, 18.0 percent municipal and 10.5 percent brokered time deposits.

Borrowed Funds and Subordinated Debentures

As part of the Company’s overall funding and liquidity management program, from time to time the Company borrows from the Federal Home Loan Bank of New York. Residential mortgages and commercial loans collateralize these borrowings.

Borrowed funds and subordinated debentures totaled $398.9 million and $393.3 million at September 30, 2023 and December 31, 2022, respectively, and are broken down in the following table:


(In thousands)	September 30, 2023		December 31, 2022
FHLB borrowings:
Non-overnight, fixed rate advances	$	160,000	$	180,000
Overnight advances		228,610		203,000
Subordinated debentures		10,310		10,310
Total borrowed funds and subordinated debentures	$	398,920	$	393,310

In September 2023, the FHLB issued a $142.0 million municipal deposit letter of credit in the name of Unity Bank naming the New Jersey Department of Banking and Insurance as beneficiary, to secure municipal deposits as required under New Jersey law. The FHLB issued an additional $25.0 million municipal deposit letter of credit in the name of Unity Bank naming certain townships in Pennsylvania as beneficiary, to secure municipal deposits as required under Pennsylvania law.

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At September 30, 2023, the Company had $302.4 million of additional credit available at the FHLB. Pledging additional collateral in the form of 1 to 4 family residential mortgages, commercial loans and investment securities can increase the line with the FHLB.

For the nine months ended September 30, 2023, average FHLB Borrowings were $317.1 million. FHLB Borrowings outstanding as of September 30, 2023 had a weighted average cost of 4.39%. The maximum borrowing during the year was $423.0 million.

Subordinated Debentures

On July 24, 2006, Unity (NJ) Statutory Trust II, a statutory business trust and wholly-owned subsidiary of Unity Bancorp, Inc., issued $10.0 million of floating rate capital trust pass through securities to investors due on July 24, 2036. The subordinated debentures are redeemable in whole or part. The floating interest rate on the subordinated debentures is the daily compounded SOFR rate with a 0.262 percent spread. The floating interest rate was 7.25 percent at September 30, 2023 and 6.32 percent at December 31, 2022.

Market Risk

The principal objectives of the asset and liability management function are to establish prudent risk management guidelines, evaluate and control the level of interest-rate risk in balance sheet accounts, determine the level of appropriate risk given the business focus, operating environment, capital and liquidity requirements and actively manage risk within the Board approved guidelines. The Company seeks to reduce the vulnerability of operations to changes in interest rates and actions in this regard are taken under the guidance of the Asset/Liability Management Committee (“ALCO”) of the Board of Directors. The ALCO reviews the maturities and re-pricing of loans, investments, deposits and borrowings, cash flow needs, current market conditions and interest rate levels.

The Company utilizes Modified Duration of Equity and Economic Value of Equity (“EVE”) models to measure the impact of longer-term asset and liability mismatches beyond two years. The modified duration of equity measures the potential price risk of equity to changes in interest rates. A longer modified duration of equity indicates a greater degree of risk to rising interest rates. Because of balance sheet optionality, an EVE analysis is also used to dynamically model the present value of asset and liability cash flows with rate shocks of 200 basis points. The EVE is likely to be different as interest rates change. Results falling outside prescribed ranges require action by the ALCO. The Company’s variance in the EVE, as a percentage of assets with rate shocks of 200 basis points at September 30, 2023, is a decrease of 15.2 percent in a rising-rate environment and an increase of 11.8 percent in a falling-rate environment. The variances in the EVE at September 30, 2023 are within the Board-approved guidelines of +/- 20.0 percent. In a falling rate environment with a rate shock of 200 basis points, benchmark interest rates are assumed to have floors of 0.0 percent. At December 31, 2022, the EVE as a percentage of assets with rate shocks of 200 basis points was a decrease of 13.8 percent in a rising-rate environment and an increase of 6.5 percent in a falling-rate environment. The variances in the EVE at December 31, 2022 are within the Board-approved guidelines of +/- 20.0 percent.

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The following table presents the Company’s EVE and Net Interest Income(“NII”) sensitivity exposure related to an instantaneous and sustained parallel shift in market interest rates of 100, 200 and 300 bps at September 30, 2023 and December 31, 2022.


	Estimated Increase/ (Decrease) in EVE						Estimated 12 mo. Increase/ (Decrease) In NII
(In thousands, except percentages)	EVE		Amount		Percent		NII		Amount		Percent
September 30, 2023
+300	$	204,737	$	(61,016)	(22.96)	%	$	89,213	$	(7,808)	(8.05)	%
+200		225,477		(40,276)	(15.16)			91,775		(5,246)	(5.41)
+100		246,194		(19,559)	(7.36)			94,314		(2,707)	(2.79)
0		265,753		—	—			97,021		—	—
-100		287,458		21,705	8.17			99,271		2,250	2.32
-200		297,136		31,383	11.81			100,284		3,263	3.36
-300		302,525		36,772	13.84			100,056		3,035	3.13
December 31, 2022
+300	$	269,493	$	(61,049)	(22.65)	%	$	92,822	$	(8,275)	(8.19)	%
+200		290,558		(39,984)	(13.76)			95,567		(5,530)	(5.79)
+100		311,453		(19,089)	(6.13)			98,280		(2,817)	(2.87)
0		330,542		—	—			101,097		—	—
-100		346,750		16,208	4.67			102,688		1,591	1.55
-200		352,944		22,402	6.35			101,927		830	0.81
-300		353,361		22,819	6.46			100,183		(914)	(0.91)

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Off Balance Sheet Arrangements and Contractual Obligations

The following table shows the amounts and expected maturities or payment periods of off-balance sheet arrangements and contractual obligations as of September 30, 2023:


	One year		One to		Three to		Over five
(In thousands)	or less		three years		five years		years		Total
Off-balance sheet arrangements:
Standby letters of credit	$	3,943	$	250	$	920	$	981	$	6,094
Contractual obligations:
Time deposits and brokered time deposits		517,311		83,421		12,605		107		613,444
Borrowed funds and subordinated debentures		368,610		—		20,000		10,310		398,920
Total off-balance sheet arrangements and contractual obligations	$	889,864	$	83,671	$	33,525	$	11,398	$	1,018,458

Standby letters of credit represent guarantees of payment issued by the Bank on behalf of a client that is used as “payments of last resort” should the client fail to fulfill a contractual commitment with a third party. Standby letters of credit are typically short-term in duration, maturing in one year of less.

Time deposits have stated maturity dates and include brokered time deposits.

Borrowed funds and subordinated debentures include fixed and adjustable rate borrowings from the Federal Home Loan Bank and subordinated debentures. The borrowings have defined terms and under certain circumstances are callable at the option of the lender.

Liquidity

Consolidated Bank Liquidity

Liquidity measures the ability to satisfy current and future cash flow needs as they become due. A bank’s liquidity reflects its ability to meet loan demand, to accommodate possible outflows in deposits and to take advantage of interest rate opportunities in the marketplace. Our liquidity is monitored by management and the Board of Directors, which reviews historical funding requirements, our current liquidity position, sources and stability of funding, marketability of assets, options for attracting additional funds, and anticipated future funding needs, including the level of unfunded commitments. Our goal is to maintain sufficient asset-based liquidity to cover potential funding requirements in order to minimize our dependence on volatile and potentially unstable funding markets.

The principal sources of funds at the Bank are deposits, scheduled amortization and prepayments of investment and loan principal, sales and maturities of investment securities, additional borrowings and funds provided by operations. While scheduled loan payments and maturing investments are relatively predictable sources of funds, deposit inflows and outflows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. The Consolidated Statement of Cash Flows provides detail on the Company’s sources and uses of cash, as well as an indication of the Company’s ability to maintain an adequate level of liquidity. At September 30, 2023, the balance of cash and cash equivalents was $161.4 million, an increase of $46.7 million from December 31, 2022. A discussion of the cash provided by and used in operating, investing and financing activities follows.

Operating activities provided $21.1 million and $9.6 million of net cash for the nine months ended September 30, 2023 and 2022, respectively. The primary sources of funds were net income from operations and adjustments to net income, such as stock compensation expense and the net change in other assets and liabilities.

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Investing activities used $60.7 million and $366.6 million in net cash for the nine months ended September 30, 2023 and 2022, respectively. Cash was primarily used to fund new loans.

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Securities. The Consolidated Bank’s available for sale investment portfolio amounted to $92.1 million and $95.4 million at September 30, 2023 and December 31, 2022, respectively. This excludes the Parent Company’s securities discussed under the heading “Parent Company Liquidity” below. Projected cash flows from securities based on current estimates over the next twelve months are $4.8 million.

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Loans. The SBA loans held for sale portfolio amounted to $19.4 million and $27.9 million at September 30, 2023 and December 31, 2022, respectively. Sales of these loans provide an additional source of liquidity for the Company.

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Commitments. The Company was committed to advance approximately $424.3 million to its borrowers as of September 30, 2023, compared to $514.8 million at December 31, 2022. At September 30, 2023, $192.1 million of these commitments expire within one year, compared to $177.7 million at December 31, 2022. The Company had $6.1 million and $5.6 million in standby letters of credit at September 30, 2023 and December 31, 2022, which are included in the commitments amount noted above. The estimated fair value of these guarantees is not significant. The Company believes it has the necessary liquidity to honor all commitments. Many of these commitments will expire and never be funded.

Financing activities provided $86.3 million and $275.6 million in net cash for the nine months ended September 30, 2023 and 2022, primarily due to net increase in deposits.

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Deposits. As of September 30, 2023, deposits included $339.2 million of government deposits, as compared to $296.5 million at year end 2022. These deposits are generally short in duration and are very sensitive to price competition. The Company believes that the current level of these types of deposits is appropriate. Included in the portfolio were $318.3 million of deposits from 18 municipalities with account balances in excess of $5.0 million. The withdrawal of these deposits, in whole or in part, would not create a liquidity shortfall for the Company.

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Borrowed Funds. Total FHLB borrowings amounted to $388.6 million and $383.0 million as of September 30, 2023 and December 31, 2022, respectively. As a member of the Federal Home Loan Bank of New York, the Company can borrow additional funds based on the market value of collateral pledged. At September 30, 2023, pledging provided an additional $302.4 million in borrowing capacity from the FHLB.

Parent Company Liquidity

The Parent Company’s cash needs are funded by dividends paid by and rental payments on corporate headquarters from the Bank. Other than its investment in the Bank, Unity Risk Management, Inc. and Unity Statutory Trust II, the Parent Company does not actively engage in other transactions or business. Only expenses specifically for the benefit of the Parent Company are paid using its cash, which typically includes the payment of operating expenses, cash dividends on common stock and payments on trust preferred debt.

At September 30, 2023, the Parent Company had $0.3 million in cash and cash equivalents and $3.9 million in investment securities valued at fair market value, compared to $2.2 million and $5.7 million at December 31, 2022.

Regulatory Capital

On September 17, 2019, the federal banking agencies issued a final rule providing simplified capital requirements for certain community banking organizations (banks and holding companies) with less than $10 billion in total consolidated assets, implementing provisions of The Economic Growth, Regulatory Relief, and Consumer Protection Act (“EGRRCPA”). Under the proposal, a qualifying community banking organization (“QCBO”) would be eligible to elect the community bank leverage ratio framework, or continue to measure capital under the existing Basel III requirements. The new rule, effective beginning January 1, 2020, allowed qualifying community banking organizations to opt into the new community bank leverage ratio (“CBLR”) in their call report beginning in the first quarter of 2020.

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A QCBO is defined as a bank, a savings association, a bank holding company or a savings and loan holding company with:

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A leverage capital ratio of greater than 9.0 percent;

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Total consolidated assets of less than $10.0 billion;

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Total off-balance sheet exposures (excluding derivatives other than credit derivatives and unconditionally cancelable commitments) of 25 percent or less of total consolidated assets; and

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Total trading assets and trading liabilities of 5 percent or less of total consolidated assets.

The numerator of the CBLR is Tier 1 capital, as calculated under the Basel III rules. The denominator of the CBLR is the QCBO’s average assets, calculated in accordance with the QCBO’s Call Report instructions less assets deducted from Tier 1 capital.

The Bank has opted into the CBLR, and is therefore not required to comply with the Basel III capital requirements.

The following table shows the CBLR ratio for the Company and the Bank at September 30, 2023 and at December 31, 2022.

In addition, the table below also shows the ratios required under the Basel III risk-based capital guidelines for the Company and the Bank at September 30, 2023 and December 31, 2022, all of which are above minimum capital requirements:


	At September 30, 2023				At December 31, 2022
	Company		Bank		Company		Bank
CBLR (Tier 1 Leverage Capital)	10.76	%	10.35	%	10.88	%	10.34	%
Common Equity Tier 1 Capital	12.16		12.19		11.76		11.69
Tier 1 Risk-based Capital	12.64		12.19		12.25		11.69
Total Risk-based Capital	13.88		13.44		13.48		12.93

Pursuant to a Federal Reserve policy applicable to bank holding companies with less than $3.0 billion in consolidated assets, the Parent Company is not subject to any consolidated regulatory capital requirements.

For additional information on regulatory capital, see Note 11 to the Consolidated Financial Statements.

Shareholders’ Equity

Shareholders’ equity increased $13.2 million to $252.4 million at September 30, 2023 compared to $239.2 million at

December 31, 2022, primarily due to net income of $29.9 million partially offset by $14.3 million treasury stock purchased, at cost. Other items impacting shareholders’ equity included $3.5 million in dividends paid on common stock, $2.4 million from the issuance of common stock under employee benefit plans and a one-time adjustment to retained earnings of $649 thousand relating to ASU No. 2016-13 ("CECL"). The issuance of common stock under employee benefit plans includes nonqualified stock options and restricted stock expense related entries, employee option exercises and the tax benefit of options exercised.

Repurchase Plan

On September 5, 2023, the 2021 repurchase plan was fully exhausted. On April 27, 2023, the Board authorized a new repurchase plan of up to 500 thousand shares, or approximately 5.0% of the Company’s outstanding common stock. A total 33,479 shares were repurchased at an average price of $23.97 during the three months ended September 30, 2023. As of September 30, 2023, 474 thousand shares are available for repurchase. The timing and amount of additional purchases, if any, will depend upon a number of factors including the Company’s capital needs, the performance of its loan portfolio, the need for additional provisions for loan losses and the market price of the Company’s stock.

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				Total Number of	Maximum Number
	Total		Weighted	Shares Purchased	of Shares that may
	Number of		Average	as Part of Publicly	yet be Purchased
	Shares		Price Paid	Announced Plans	Under the Plans
Period	Purchased		per Share	or Programs	or Programs
July 1, 2023 through July 30, 2023	—	$	—	—	507,199
August 1, 2023 through August 31, 2023	6,934		24.14	6,934	500,265
September 1, 2023 through September 30, 2023	21,658		23.91	21,658	478,607

Impact of Inflation and Changing Prices

The financial statements and notes thereto, presented elsewhere herein have been prepared in accordance with U.S.
GAAP, which requires the measurement of financial position and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time and due to inflation. The impact of inflation is reflected in the increased cost of operations. Unlike most industrial companies, nearly all the Company’s assets and liabilities are monetary. As a result, interest rates have a greater impact on performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

ITEM 3 Quantitative and Qualitative Disclosures about Market Risk

During the nine months ended September 30, 2023, there have been no significant changes in the Company’s assessment of market risk as reported in Item 7 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. (See Interest Rate Sensitivity in Management’s Discussion and Analysis herein.)

ITEM 4 Controls and Procedures

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures as of September 30, 2023. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective for recording, processing, summarizing and reporting the information the Company is required to disclose in the reports it files under the Securities Exchange Act of 1934, within the time periods specified in the SEC’s rules and forms.

No significant change in the Company’s internal control over financial reporting has occurred during the quarterly period covered by this report that has materially affected, or is reasonably likely to materially affect, the Company’s controls over financial reporting.

PART II OTHER INFORMATION

ITEM 1 Legal Proceedings

From time to time, the Company is subject to other legal proceedings and claims in the ordinary course of business. The Company currently is not aware of any such legal proceedings or claims that it believes will have, individually or in the aggregate, a material adverse effect on the business, financial condition, or the results of the operation of the Company.

ITEM 1A Risk Factors

Information regarding this item as of September 30, 2023 appears under the heading, “Risk Factors” within the Company’s Form 10-K for the year ended December 31, 2022, in addition to the following:

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Risks Related to Recent Events Impacting the Financial Services Industry

Recent events impacting the financial services industry, including the failure of Silicon Valley Bank and Signature Bank, have resulted in decreased confidence in banks among consumer and commercial depositors, other counter parties and investors, as well as significant disruption, volatility and reduced valuations of equity and other securities of banks in the capital markets. These events occurred during a period of rapidly rising interest rates which, among other things, has resulted in unrealized losses in longer duration securities and loans held by banks, more competition for bank deposits and may increase the risk of a potential recession. These recent events have, and could continue to, adversely impact the market price and volatility of the Company’s common stock.

These recent events may also result in potentially adverse changes to laws or regulations governing banks and bank holding companies or result in the impositions of restrictions through supervisory or enforcement activities, including higher capital requirements, which could have a material impact on our business. Inability to access short-term funding, loss of client deposits or changes in our credit ratings could increase the cost of funding, limit access to capital markets or negatively impact our overall liquidity or capitalization. We may be impacted by concerns regarding the soundness or creditworthiness of other financial institutions, which can cause substantial and cascading disruption within the financial markets and increased expenses. The cost of resolving the recent bank failures may prompt the FDIC to increase its premiums above the recently increased levels or to issue additional special assessments.

ITEM 2 Unregistered Sales of Equity Securities and Use of Proceeds

See the discussion under the heading “Shareholders Equity - Repurchase Plan” under Item 2 “Management’s Discussion and Analysis of Financial Condition and results of Operations.”

ITEM 3 Defaults upon Senior Securities – None

ITEM 4 Mine Safety Disclosures - N/A

ITEM 5 Other Information – None

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ITEM 6 Exhibits



(a) Exhibits		Description
	Exhibit 10.2	Change in Control Agreement for SVP, Chief Lending Officer James Donovan
	Exhibit 31.1	Certification of Chief Executive Officer Pursuant to Rule 13a 14(a) or Rule 15d 14(a) and Section 302 of the Sarbanes-Oxley Act of 2002
	Exhibit 31.2	Certification of Chief Financial Officer Pursuant to Rule 13a 14(a) or Rule 15d 14(a) and Section 302 of the Sarbanes-Oxley Act of 2002
	Exhibit 32.1	Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Rule 13a 14(b) or Rule 15d 14(b) and 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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EXHIBIT INDEX

QUARTERLY REPORT ON FORM 10-Q


Exhibit No.	Description
10.2	Change in Control Agreement for SVP, Chief Lending Officer James Donovan
31.1	Exhibit 31.1-Certification of James A. Hughes. Required by Rule 13a-14(a) or Rule 15d-14(a) and Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Exhibit 31.2-Certification of George Boyan. Required by Rule 13a-14(a) or Rule 15d-14(a) and Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Exhibit 32.1-Certification of James A. Hughes and George Boyan. Required by Rule 13a-14(b) or Rule 15d-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350
**101.INS	Inline XBRL Instance 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 as Exhibit 101)

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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.


		UNITY BANCORP, INC.

Dated:	November 08, 2023	/s/ George Boyan
		George Boyan
		Executive Vice President and Chief Financial Officer