DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF MACATAWA BANK CORP MANAGEMENT (Form 10-Q)
Macatawa Bank Corporationis a Michigancorporation and a registered bank holding company. It wholly-owns Macatawa Bank. Macatawa Bankis a Michiganchartered bank with depository accounts insured by the FDIC. The Bank operates twenty-six branch offices and a lending and operational service facility, providing a full range of commercial and consumer banking and trust services in Kent County, Ottawa County, and northern Allegan County, Michigan. For further information regarding consolidation, see the Notes to Consolidated Financial Statements. At March 31, 2022, we had total assets of $2.93 billion, total loans of $1.10 billion, total deposits of $2.58 billionand shareholders' equity of $245.6 million. For the three months ended March 31, 2022, we recognized net income of $6.0 millioncompared to $7.8 millionfor the same period in 2021. The Bank was categorized as "well capitalized" under regulatory capital standards at March 31, 2022.
We paid a dividend of
March 2020, guidance issued by the federal banking agencies in consultation with FASB and the Coronavirus Aid, Relief and Economic Security ("CARES") Act collectively specified that COVID-19 related modifications on loans that were not more than 30 days past due as of December 31, 2019are not TDRs. Through March 31, 2022, the Bank had applied this guidance and modified 726 individual loans with aggregate principal balances totaling $337.2 million. As of March 31, 2022, all of these modifications had expired and the loans had returned to their contractual payment terms. The Bank was a participating lender in the Small Business Administration's("SBA") Paycheck Protection Program ("PPP"). PPP loans are forgivable, in whole or in part, if the proceeds are used for payroll and other permitted purposes in accordance with the requirements of the PPP. These loans carry a fixed rate of 1.00% and a term of two years (loans made before June 5, 2020) or five years (loans made on or after June 5, 2020), if not forgiven, in whole or in part. Payments are deferred until either the date on which the SBA remits the amount of forgiveness proceeds to the lender or the date that is 10 months after the last day of the covered period if the borrower does not apply for forgiveness within that 10 month period. Fees generated based on the origination of PPP loans are deferred and amortized into interest income over the contractual period of 24 months or 60 months, as applicable. Upon SBA forgiveness, unamortized fees are then recognized into interest income.
• The Bank has issued a total of 1,738 PPP loans
• Earned fees accumulated
• A total of 765 PPP loans
• Total net charges from
• The Bank has issued a total of 1,000 PPP loans
• Earned fees accumulated
• A total of 1,722 PPP loans
• Total net charges from
In the three months ended
• A total of 175 PPP loans
• Total net charges from
Summary: Net income for the three months ended
March 31, 2022was $6.0 million, compared to $7.8 millionfor the same period in 2021. Net income per share on a diluted basis for the three months ended March 31, 2022was $0.18compared to $0.23for the same period in 2021. The decrease in earnings in the three months ended March 31, 2022compared to the same period in 2021 was due primarily to lower levels of net interest income from lower PPP fee amortization and lower mortgage banking income, partially offset by a larger provision for loan loss benefit. Net interest income decreased to $12.7 millionin the three months ended March 31, 2022compared to $14.5 millionin the same period in 2021. Gains on sales of mortgage loans decreased to $308,000in the three months ended March 31, 2022compared to $2.0 millionin the same period in 2021. The provision for loan losses was a benefit of $1.5 millionfor the three months ended March 31, 2022, compared to $0for the same period in 2021. We were in a net loan recovery position for the three months ended March 31, 2022, with $227,000in net loan recoveries, compared to $44,000in net loan recoveries in the same period in 2021. The provision for loan losses in 2021 was also impacted by higher levels of qualitative environmental factors to address uncertainty and increased risk of loss attributable to the COVID-19 pandemic. Several of these factors were reduced in the first quarter of 2022, reflecting improvement in economic conditions and success at mitigating the effects of the COVID-19 pandemic. Net Interest Income: Net interest income totaled $12.7 millionfor the three months ended March 31, 2022compared to $14.5 millionfor the same period in 2021. Net interest income for the first quarter of 2022 decreased $1.8 millioncompared to the same period in 2021. Of this decrease, $1.9 millionwas from changes in the volume of average interest earning assets and interest bearing liabilities, partially offset by a $69,000increase from changes in rates earned or paid. The largest changes occurred in interest income on commercial loans (excluding PPP loans) and in PPP loans which fluctuated significantly in the first quarter of 2022 compared to the same period in 2021. The net change in interest income for commercial loans (excluding PPP loans) was a decrease of $1.1 millionwith a decrease of $615,000due to rate and a decrease of $492,000due to portfolio contraction. PPP loans caused a reduction of $1.5 millionin net interest income in the first quarter of 2022 primarily due to lower PPP fee recognition and significant principal forgiveness between the first quarter of 2021 and the first quarter of 2022. Additionally, residential mortgage loan interest income decreased by $384,000in the first quarter of 2022 compared to the same period in 2021. Of the $384,000decrease in interest income on residential mortgage loans, $282,000was due to a decrease in average balances. Partially offsetting the impact of the loss of interest income from PPP loans was an increase in interest income from our investment portfolio as we deployed some of our excess investable funds. The average balance of our investment portfolio grew by $258.7 millionfrom $314.1 millionin the first quarter of 2021 to $572.7 millionin the first quarter of 2022. This growth resulted in an additional $1.1 millionof interest income in the first quarter of 2022. Rate reductions in the deposit portfolio also served to partially offset the net negative effects of the changes noted above in interest income. As we are in an asset-sensitive position, reductions in market interest rates have a negative impact on margin as our interest earning assets reprice faster than its interest-bearing liabilities. Much of our asset-sensitivity is due to commercial and consumer loans that have variable interest rates. For both loan types we established floor rates several years ago. These floors provide protection to net interest income when short-term interest rates decline. This asset sensitivity; however, will serve to enhance net interest income as the Federal Reservebegins raising short-term interest rates. The Federal Reserve'sfirst rate increase since 2018 of 25 basis points in March 2022was too late in the quarter to have a meaningful impact on our first quarter 2022 interest income. The cost of funds decreased to 0.11% in the first quarter of 2022 compared to 0.19% in the first quarter of 2021. Decreases in the rates paid on our interest-bearing checking, savings and money market accounts in response to the federal funds rate decreases over the past year along with the impact of our redemption of the remaining trust preferred securities in the third quarter of 2021 caused the decrease in our cost of funds. -38-
The table below shows an analysis of the Net Interest Margin for the three month periods ended
For the three months ended March 31, 2022 2021 Interest Average Interest Average Average Earned Yield Average Earned Yield Balance or Paid or Cost Balance or Paid or Cost Assets Taxable securities
$ 402,863 $ 1,4341.43 % $ 190,019 $ 7871.66 % Tax-exempt securities (1) 169,845 731 2.22 124,039 758 3.15 Commercial loans (2) 902,347 7,888 3.50 956,396 8,995 3.76 PPP loans (3) 20,364 1,052 20.66 240,545 2,552 4.24 Residential mortgage loans 116,504 939 3.22 150,701 1,323 3.51 Consumer loans 54,096 519 3.89 59,129 597 4.09 Federal Home Loan Bank stock 11,019 51 1.84 11,558 61 2.10 Federal funds sold and other short-term investments 1,111,216 529 0.19 804,913 201 0.10 Total interest earning assets (1) 2,788,254 13,143 1.92 2,537,300 15,274 2.45 Noninterest earning assets: Cash and due from banks 32,505 31,156 Other 96,703 98,346 Total assets $ 2,917,462 $ 2,666,802Liabilities Deposits: Interest bearing demand $ 706,872 $ 400.02 % $ 626,664 $ 350.02 % Savings and money market accounts 894,976 65 0.03 797,590 60 0.03 Time deposits 92,244 53 0.23 107,625 184 0.69 Borrowings: Other borrowed funds 85,002 320 1.51 70,000 352 2.01 Long-term debt - - - 20,619 153 2.96 Total interest bearing liabilities 1,779,094 478 0.11 1,622,498 784 0.19 Noninterest bearing liabilities: Noninterest bearing demand accounts 875,223 789,133 Other noninterest bearing liabilities 11,545 14,148 Shareholders' equity 251,600 241,023 Total liabilities and shareholders' equity $ 2,917,462 $ 2,666,802Net interest income $ 12,665 $ 14,490Net interest spread (1) 1.81 % 2.26 % Net interest margin (1) 1.85 % 2.33 % Ratio of average interest earning assets to average interest bearing liabilities 156.72 % 156.38 %
(1) Returns are presented on a tax equivalent basis using an assumed tax rate of
(2) Includes rental fees from
31, 2022 and 2021, respectively. Includes average non-accrual loans from
and 2021 respectively. Excluding PPP loans.
(3) Includes rental fees from
March 31, 2022and 2021, respectively. -39-
The following table shows the dollar amount of changes in net interest income due to changes in volume and rate (in thousands of dollars):
For the three months ended March 31, 2022 vs 2021 Increase (Decrease) Due to Volume Rate Total Interest income Taxable securities $ 771
$ (124 ) $ 647Tax-exempt securities 305 (332 ) (27 ) Commercial loans, excluding PPP loans (492 ) (615 ) (1,107 ) PPP loans (2,336 ) 836 (1,500 ) Residential mortgage loans (282 ) (102 ) (384 ) Consumer loans (49 ) (29 ) (78 ) Federal Home Loan Bank stock (3 ) (7 ) (10 ) Federal funds sold and other short-term investments 95 233 328 Total interest income (1,991 ) (140 ) (2,131 ) Interest expense Interest bearing demand $ 5 $ - $ 5Savings and money market accounts 7 (2 ) 5 Time deposits (23 ) (108 ) (131 ) Other borrowed funds 67 (99 ) (32 ) Long-term debt (153 ) - (153 ) Total interest expense (97 ) (209 ) (306 ) Net interest income $ (1,894 ) $ 69 $ (1,825 )Provision for Loan Losses: The provision for loan losses for the three months ended March 31, 2022was a benefit of $1.5 millioncompared to $0for the same period in 2021. When excluding PPP loans, which are 100% guaranteed by the SBA, total loans increased by $27.5 millionin the three months ended March 31, 2022. Net loan recoveries were $227,000in the three months ended March 31, 2022compared to net loan recoveries of $44,000in the same period in 2021. Gross loan recoveries were $262,000for the three months ended March 31, 2022and $94,000for the same period in 2021. In the three months ended March 31, 2022, we had $35,000in gross loan charge-offs, compared to $50,000in the same period in 2021. The amounts of loan loss provision in both the most recent quarter and comparable prior year period were the result of establishing our allowance for loan losses at levels believed necessary based upon our methodology for determining the adequacy of the allowance. The provision for loan losses for the three months ended March 31, 2022was impacted by net reductions to certain qualitative factors. More information about our allowance for loan losses and our methodology for establishing its level may be found under the heading "Allowance for Loan Losses" below. Noninterest Income: Noninterest income for the three month period ended March 31, 2022was $5.0 millioncompared to $6.5 millionfor the same period in 2021. The components of noninterest income are shown in the table below (in thousands): Three Months Three Months Ended Ended March 31, March 31, 2022 2021 Service charges and fees on deposit accounts $ 1,211$ 992 Net gains on mortgage loans 308 2,015 Trust fees 1,088 1,005 ATM and debit card fees 1,599 1,485 Bank owned life insurance ("BOLI") income 240 276 Investment services fees 313 477 Other income 206 289 Total noninterest income $ 4,965 $ 6,539-40-
Net gains on mortgage loans were down
$1.7 millionin the three months ended March 31, 2022compared to the same period in 2021 as a result of changes in the volume of loans originated for sale. In the past two years volumes had been high due to a lower interest rate environment, spurring more refinancing of fixed rate loans which we sell into the secondary market. Mortgage rates increased in the latter part of 2021 and the first quarter of 2022, causing a sharp reduction in mortgage volume. Mortgage loans originated for sale in the three months ended March 31, 2022were $10.1 million, compared to $47.3 millionin the same period in 2021. Trust fees were up $83,000in the three months ended March 31, 2022compared to the three months ended March 31, 2021. The increase for the three months ended March 31, 2022was largely due to the 2021 period reflecting lower market valuations of trust assets resulting from the COVID-19 impact on the economy. ATM and debit card fees were also up in the three months ended March 31, 2022as compared to the three months ended March 31, 2021due to reduced volume of usage by our customers related to COVID-19's impact on the economy in the 2021 period. These volumes and resulting income have returned to more normal levels in the 2022 period. Service charges on deposit accounts increased in the three months ended March 31, 2022as compared to the same period in 2021 as customers returned to more normal behaviors in 2022 after having curtailed spending in 2021 due to uncertainty related to the COVID-19 pandemic. Additionally, customers' account balances in 2021 were bolstered by economic impact payments, thereby resulting in fewer overdrafts and related fees. Noninterest Expense: Noninterest expense increased by $254,000to $11.7 millionfor the three month period ended March 31, 2022as compared to the same period in 2021. The components of noninterest expense are shown in the table below (in thousands): Three Months Three Months Ended Ended March 31, March 31, 2022 2021 Salaries and benefits $ 6,289 $ 6,412Occupancy of premises 1,172 1,037 Furniture and equipment 1,016 937 Legal and professional 194 222 Marketing and promotion 195 175 Data processing 884 908 FDIC assessment 180 170 Interchange and other card expense 373 358 Bond and D&O insurance 130 111 Outside services 494 434 Other noninterest expense 812 721 Total noninterest expense $ 11,739 $ 11,485Most categories of noninterest expense were relatively unchanged compared to the three months ended March 31, 2021due to our ongoing efforts to manage expenses and scale our operations. Our largest component of noninterest expense, salaries and benefits, decreased by $123,000in the three months ended March 31, 2022from the same period in 2021. This decrease is primarily due to a decrease in variable-based compensation due to lower mortgage origination volume, offset by an increase in 401k matching contributions. The table below identifies the primary components of salaries and benefits (in thousands): Three Months Three Months Ended Ended March 31, March 31, 2022 2021 Salaries and other compensation $ 5,627$
Salary deferral from commercial loan originations (215 ) (352 ) Bonus accrual 221
Mortgage production - variable comp 144 334 401k matching contributions 212 127 Medical insurance costs 300 362 Total salaries and benefits
$ 6,289 $ 6,412Occupancy expenses were up $135,000in the three months ended March 31, 2022compared to the same period in 2021 due to fluctuations in maintenance costs incurred. Furniture and equipment expenses were up $79,000in the three months ended March 31, 2022compared to the same period in 2021 due to costs associated with equipment and service contracts primarily to improve information security. -41-
Federal Income Tax Expense: We recorded
$1.4 millionin federal income tax expense for the three month period ended March 31, 2022compared to $1.8 millionfor the same period in 2021. Our effective tax rate for the three month period ended March 31, 2022was 18.82% compared to 18.50% for the same period in 2021.
Total assets were
$2.93 billionat March 31, 2022, an increase of $1.1 millionfrom December 31, 2021. This change reflected increases of $117.6 millionin debt securities held to maturity, $2.2 millionin other assets and $252,000in bank-owned life insurance, partially offset by a decrease of $69.9 millionin debt securities available for sale, $40.8 millionin cash and cash equivalents, $7.1 millionin our loan portfolio, and $1.4 millionin FHLB stock. Total deposits increased by $4.3 millionat March 31, 2022compared to December 31, 2021. Cash and Cash Equivalents: Our cash and cash equivalents, which include federal funds sold and short-term investments, were $1.11 billionat March 31, 2022compared to $1.15 billionat December 31, 2021. The decrease in these balances primarily related to an increase in our investment portfolio. Securities: Debt securities available for sale were $346.1 millionat March 31, 2022compared to $416.1 millionat December 31, 2021. The balance at March 31, 2022primarily consisted of U.S.agency securities, agency mortgage backed securities and various municipal investments. Our held to maturity portfolio was $254.6 millionat March 31, 2022compared to $137.0 millionat December 31, 2021. Our held to maturity portfolio is comprised of U.S. Treasurysecurities and state, municipal and privately placed commercial bonds. On January 1, 2022, we reclassified ten U.S. Treasurysecurities with an amortized cost of $123.5 millionfrom available for sale to held to maturity, as we have the intent and ability to hold these securities to maturity. All ten of these U.S. Treasurysecurities were purchased within the fourth quarter of 2021. Subsequently and upon further analysis of these purchases, management decided to reclassify them to held to maturity given their short-term nature. These securities had net unrealized gains of $113,000at the date of transfer, which will continue to be reported in accumulated other comprehensive income, and will be amortized over the remaining life of the securities as an adjustment of yield. The effect on interest income of the amortization of net unrealized gains is offset by the amortization of the premium on the securities transferred. Total securities increased $47.6 millionfrom $553.1 millionat December 31, 2021to $600.7 millionat March 31, 2022as we continued to deploy excess liquidity into higher yielding assets. We plan further growth of our investment portfolio in the second quarter of 2022. We classify privately placed municipal and commercial bonds as held to maturity as they are typically non-transferable in the bond market. In addition, going forward we will generally classify short-term U.S. Treasurysecurities as held to maturity. Typically the final maturity on these short-term Treasurysecurities will be three years or less. Longer-term Treasurysecurities and all other marketable debt securities are generally classified as available for sale. Portfolio Loans and Asset Quality: Total portfolio loans decreased by $7.1 millionin the first three months of 2022 and were $1.10 billionat March 31, 2022compared to $1.11 billionat December 31, 2021. During the first three months of 2022, our commercial portfolio decreased by $3.8 million. We received forgiveness proceeds on 175 PPP loans totaling $35.5 millionin the three months ended March 31, 2022. Excluding the PPP loans, our commercial loans increased by $30.7 millionin the first three months of 2022. Our consumer portfolio increased by $223,000and our residential mortgage portfolio decreased by $3.5 millionin the first three months of 2022. Mortgage loans originated for portfolio are typically adjustable rate loans as well as fixed rate loans that conform to secondary market requirements and have a term of fifteen years or less. Mortgage loans originated for portfolio in the first three months of 2022 increased $5 millioncompared to the same period in 2021, from $9.8 millionin the first three months of 2021 to $14.8 millionin the same period in 2022. However, this increase in volume was not enough to offset paydowns on mortgage portfolio loans. The volume of residential mortgage loans originated for sale in the first three months of 2022 decreased $37.2 millioncompared to the same period in 2021. Residential mortgage loans originated for sale were $10.1 millionin the first three months of 2022 compared to $47.3 millionin the first three months of 2021. -42-
The following table shows our loan origination activity for loans to be held in portfolio during the first three months of 2022 and 2021, broken out by loan type and also shows average originated loan size (dollars in thousands): Three months ended March 31, 2022 Three months ended March 31, 2021 Percent of Percent of Portfolio Total Average Portfolio Total Average Originations Originations Loan
Size Originations Originations Loan Size Commercial real estate: Residential developed
$ 4,3222.7 % $ 1,080 $ 5,0862.7 % $ 636Unsecured to residential developers - - - - - - Vacant and unimproved 1,570 1.0 523 433 0.2 217 Commercial development - - - - - - Residential improved 23,944 15.1 684 36,580 19.4 778 Commercial improved 22,907 14.5 1,909 3,656 1.9 609 Manufacturing and industrial 44,128 27.8 4,413 8,553 4.5 1,222 Total commercial real estate 96,871 61.1 1,514 54,308 28.7 776 Commercial and industrial, excluding PPP 32,371 20.4 549 15,652 8.3 423 PPP loans - - - 96,958 51.2 129 Total commercial and commercial real estate 129,242 81.5 1,051 166,918 88.2 1,560 Consumer Residential mortgage 14,829 9.4 362 9,803 5.2 338 Unsecured - - - - - - Home equity 13,372 8.4 131 12,105 6.4 114 Other secured 1,080 0.7 154 375 0.2 20 Total consumer 29,281 18.5 195 22,283 11.8 145 Total loans $ 158,523100.0 % $ 581 $ 189,201100.0 % 725
The following table provides a breakdown of our commercial lending activity for the first three months of 2022 and 2021 (in thousands of dollars):
Three Months Three Months Ended Ended March 31, March 31, 2022 2021 Commercial loans originated
$ 129,242 $ 166,918Repayments of commercial loans (96,582 ) (154,807 ) Change in undistributed - available credit (36,458 ) (43,073 ) Net increase (decrease) in total commercial loans $ (3,798 )$
Overall, the commercial loan portfolio decreased
$3.8 millionin the first three months of 2022. Our commercial and industrial portfolio decreased by $10.0 millionwhile our commercial real estate loans increased by $6.2 million. Included in the commercial production for the first three months of 2021 is $97.0 millionin PPP loans, while there were no such loans originated in the first three months of 2022. Our overall production of commercial loans decreased by $37.7 millionfrom $166.9 millionin the first three months of 2021 to $129.2 millionin the same period of 2022 mostly due to the significantly lower production of PPP loans (down $97.0 million). Excluding PPP production, our commercial loan originations in the first three months of 2022 were $59.3 millionhigher than in the first three months of 2021. This growth came largely from commercial real estate originations, which were up $42.5 millionin the first quarter of 2022, primarily in the manufacturing and industrial category, which were up $35.6 million, and commercial improved, which were up $19.3 million, as these businesses expand following the pandemic slowdown. Commercial and commercial real estate loans remained our largest loan segment and accounted for approximately 84.6% and 84.4% of the total loan portfolio at March 31, 2022and December 31, 2021, respectively. Residential mortgage and consumer loans comprised approximately 15.4% and 15.6% of total loans at March 31, 2022and December 31, 2021, respectively. -43-
A further breakdown of the composition of the loan portfolio is shown in the table below (in thousands): March 31, 2022 December 31, 2021 Percent of Percent of Balance Total Loans Balance Total Loans Commercial real estate: (1) Residential developed
$ 3,7580.3 % $ 4,8620.4 % Unsecured to residential developers 5,000 0.5 5,000 - Vacant and unimproved 37,749 3.4 36,240 3.3 Commercial development 117 - 171 - Residential improved 100,145 9.1 100,077 9.0 Commercial improved 258,537 23.5 259,039 23.4 Manufacturing and industrial 117,007 10.6 110,712 10.0 Total commercial real estate 522,313 47.4 516,101 46.5 Commercial and industrial, excluding PPP 402,854 36.5 379,318 34.1 PPP loans 7,393 0.7 41,939 3.8 Total commercial and commercial real estate 932,560 84.6 937,358 84.4 Consumer Residential mortgage 114,284 10.4 117,800 10.7 Unsecured 201 - 210 - Home equity 50,831 4.6 51,269 4.6 Other secured 4,026 0.4 3,356 0.3 Total consumer 169,342 15.4 172,635 15.6 Total loans $ 1,101,902100.0 % $ 1,109,993100.0 %
(1) Includes both owner-occupied and non-owner-occupied commercial property.
Commercial real estate loans accounted for 47.4% and 46.5% of the total loan portfolio at
March 31, 2022and December 31, 2021, respectively, and consisted primarily of loans to business owners and developers of owner and non-owner occupied commercial properties and loans to developers of single and multi-family residential properties. In the table above, we show our commercial real estate portfolio by loans secured by residential and commercial real estate, and by stage of development. Improved loans are generally secured by properties that are under construction or completed and placed in use. Development loans are secured by properties that are in the process of development or fully developed. Vacant and unimproved loans are secured by raw land for which development has not yet begun and agricultural land. Our consumer residential mortgage loan portfolio, which also includes residential construction loans made to individual homeowners, comprised 10.4% of portfolio loans at March 31, 2022and 10.7% at December 31, 2021. We expect to continue to retain in our loan portfolio certain types of residential mortgage loans (primarily high quality, low loan-to-value loans) in an effort to continue to diversify our credit risk and deploy our excess liquidity. Our portfolio of other consumer loans includes loans secured by personal property and home equity fixed term and line of credit loans. This portfolio increased by $223,000to $55.1 millionat March 31, 2022from $54.8 millionat December 31, 2021. These other consumer loans comprised 5.0% of our portfolio loans at March 31, 2022and 4.9% at December 31, 2021. Our loan portfolio is reviewed regularly by our senior management, our loan officers, and an internal loan review team that is independent of our loan originators and credit administration. An administrative loan committee consisting of senior management and seasoned lending and collections personnel meets quarterly to manage our internal watch list and proactively manage high risk loans. When reasonable doubt exists concerning collectability of interest or principal of one of our loans, the loan is placed in nonaccrual status. Any interest previously accrued but not collected is reversed and charged against current earnings. Nonperforming assets are comprised of nonperforming loans, foreclosed assets and repossessed assets. At March 31, 2022, nonperforming assets totaled $2.4 million, unchanged from $2.4 millionat December 31, 2021. There were no additions to other real estate owned in the first three months of 2022 or in the first three months of 2021. At March 31, 2022, there were no loans in foreclosure, so we expect there to be few, if any, additions to other real estate owned in the remainder of 2022. Proceeds from sales of foreclosed properties were $0in the first three months of 2022, resulting in net realized loss on sales of $0. Proceeds from sales of foreclosed properties were $148,000in the first three months of 2021, resulting in net realized loss on sales of $14,000. Nonperforming loans include loans on nonaccrual status and loans delinquent more than 90 days but still accruing. Nonperforming loans at March 31, 2022consisted of $5,000of commercial real estate loans and $85,000of consumer and residential mortgage loans. As of March 31, 2022, nonperforming loans totaled $90,000, or 0.01% of total portfolio loans, compared to $92,000, or 0.01% of total portfolio loans, at December 31, 2021. -44-
Foreclosed and repossessed assets include assets acquired in settlement of loans. Foreclosed assets totaled
$2.3 millionat March 31, 2022and $2.3 millionat December 31, 2021. The entire balance at March 31, 2022was comprised of one commercial real estate property. All properties acquired through or in lieu of foreclosure are initially transferred at their fair value less estimated costs to sell and then evaluated monthly for impairment after transfer using a lower of cost or market approach. Updated property valuations are obtained at least annually on all foreclosed assets. The following table shows the composition and amount of our nonperforming assets (dollars in thousands): March 31, December 31, 2022 2021 Nonaccrual loans $ 90$ 91 Loans 90 days or more delinquent and still accruing -
Total nonperforming loans (NPLs) 90 92 Foreclosed assets 2,343 2,343 Repossessed assets - - Total nonperforming assets (NPAs)
$ 2,433 $ 2,435NPLs to total loans 0.01 % 0.01 % NPAs to total assets 0.08 % 0.08 %
The following table shows the composition and amount of our troubled debt restructurings (TDRs).
March 31, 2022
Commercial Consumer Total Commercial Consumer Total Performing TDRs
$ 5,362 $ 2,796 $ 8,158 $ 4,497 $ 3,024 $ 7,521Nonperforming TDRs (1) 5 - 5 5 - 5 Total TDRs $ 5,367 $ 2,796 $ 8,163 $ 4,502 $ 3,024 $ 7,526
(1) Included in the non-performing assets table above
We had a total of
$8.2 millionand $7.5 millionof loans whose terms have been modified in TDRs as of March 31, 2022and December 31, 2021, respectively. These loans may have involved the restructuring of terms to allow customers to mitigate the risk of foreclosure by meeting a lower loan payment requirement based upon their current cash flow. These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit. For each restructuring, a comprehensive credit underwriting analysis of the borrower's financial condition and prospects of repayment under the revised terms is performed to assess whether the structure can be successful and whether cash flows will be sufficient to support the restructured debt. An analysis is also performed to determine whether the restructured loan should be on accrual status. Generally, if the loan is on accrual at the time of restructure, it will remain on accrual after the restructuring. In some cases, a nonaccrual loan may be placed on accrual at restructuring if the loan's actual payment history demonstrates it would have cash flowed under the restructured terms. After six consecutive payments under the restructured terms, a nonaccrual restructured loan is reviewed for possible upgrade to accruing status. In situations where there is a subsequent modification or renewal and the loan is brought to market terms, including a contractual interest rate not less than a market interest rate for new debt with similar credit risk characteristics, the TDR and impaired designations may be removed. Total TDRs increased by $637,000from December 31, 2021to March 31, 2022due to advances on one commercial TDR more than offsetting payoffs and paydowns on other existing TDRs. There were 47 loans identified as TDRs at March 31, 2022compared to 54 loans at December 31, 2021. As with other impaired loans, an allowance for loan loss is estimated for each TDR based on the most likely source of repayment for each loan. For impaired commercial real estate loans that are collateral dependent, the allowance is computed based on the fair value of the underlying collateral, less estimated costs to sell. For impaired commercial loans where repayment is expected from cash flows from business operations, the allowance is computed based on a discounted cash flow computation. Certain groups of TDRs, such as residential mortgages, have common characteristics and for them the allowance is computed based on a discounted cash flow computation on the change in weighted rate for the pool. The allowance allocations for commercial TDRs where we have reduced the contractual interest rate are computed by measuring cash flows using the new payment terms discounted at the original contractual rate. Allowance for loan losses: The allowance for loan losses at March 31, 2022was $14.6 million, a decrease of $1.3 millionfrom December 31, 2021. The allowance for loan losses represented 1.33% of total portfolio loans at March 31, 2022and 1.43% at December 31, 2021. The ratios at March 31, 2022and December 31, 2021are impacted by $7.4 millionand $41.9 millionof remaining PPP loans, respectively, which are fully guaranteed and receive no allowance allocation. The ratios excluding these loans were 1.34% and 1.49% at March 31, 2022and December 31, 2021, respectively. The allowance for loan losses to nonperforming loan coverage ratio increased from 17270.7% at December 31, 2021to 16240.0% at March 31, 2022. -45-
The following table shows the changes in certain credit metrics over the last five quarters (in thousands of dollars):
Quarter Ended Quarter Ended Quarter Ended Quarter Ended Quarter Ended March 31, December 31, September 30, June 30, March 31, 2022 2021 2021 2021 2021 Nonperforming loans $ 90 $ 92 $ 420 $ 433 $ 525 Other real estate owned and repo assets 2,343 2,343 2,343 2,343 2,371 Total nonperforming assets 2,433 2,435 2,763 2,776 2,896 Net charge-offs (recoveries) (227 ) (107 ) (276 ) (104 ) (44 ) Total delinquencies 171 129 437 126 217 At
March 31, 2022, we had net loan recoveries in twenty-seven of the past twenty-nine quarters. Our total delinquencies were $171,000at March 31, 2022and $129,000at December 31, 2021. Our delinquency percentage at March 31, 2022was 0.02%. These factors all impact our necessary level of allowance for loan losses and our provision for loan losses. The allowance for loan losses decreased $1.3 millionin the first three months of 2022. We recorded a provision for loan loss benefit of $1.5 millionfor the three months ended March 31, 2022compared to $0for the same period of 2021. Net loan recoveries were $227,000for the three months ended March 31, 2022, compared to net loan recoveries of $44,000for the same period in 2021. The ratio of net charge-offs (recoveries) to average loans was -0.08% on an annualized basis for the first three months of 2022 and -0.01% for the first three months of 2021. While we have experienced low levels of gross charge-offs over recent quarters, we recognize that future charge-offs and resulting provisions for loan losses are expected to be impacted by the timing and extent of changes in the overall economy and the real estate markets. Our allowance for loan losses is maintained at a level believed appropriate based upon our assessment of the probable estimated losses inherent in the loan portfolio. Our methodology for measuring the appropriate level of allowance and related provision for loan losses relies on several key elements, which include specific allowances for loans considered impaired, general allowance for commercial loans not considered impaired based upon applying our loan rating system, and general allocations based on historical trends for homogeneous loan groups with similar risk characteristics. Overall, impaired loans increased by $637,000to $8.2 millionat March 31, 2022compared to $7.5 millionat December 31, 2021. The specific allowance for impaired loans decreased $25,000to $540,000at March 31, 2022, compared to $565,000at December 31, 2021. The specific allowance for impaired loans represented 6.6% of total impaired loans at March 31, 2022and 7.5% at December 31, 2021. The general allowance allocated to commercial loans that were not considered to be impaired was based upon the internal risk grade of such loans. We use a loan rating method based upon an eight point system. Loans are stratified between real estate secured and non-real estate secured. The real estate secured portfolio is further stratified by the type of real estate. Each stratified portfolio is assigned a loss allocation factor. A higher numerical grade assigned to a loan category generally results in a greater allocation percentage. Changes in risk grade of loans affect the amount of the allowance allocation. The determination of our loss factors is based upon our actual loss history by loan grade and adjusted for significant factors that, in management's judgment, affect the collectability of the portfolio as of the analysis date. We use a rolling 18 month actual net charge-off history as the base for our computation. Over the past few years, the 18 month period computations have reflected sizeable decreases in net charge-off experience. We addressed this volatility in the qualitative factor considerations applied in our allowance for loan losses computation. We also considered the extended period of strong asset quality in assessing the overall qualitative component. We also have considered the effect of COVID-19 on our loan borrowers and our local economy. With the widespread vaccination efforts, coupled with significant reduction in infection rates in the first quarter 2022, we determined that adjustments to certain qualitative factors were appropriate in the first quarter of 2022. We also considered the improving economic conditions, including sharp reductions in unemployment and actions taken by the Federal Reservein response to employment and inflation. As a result, we reduced the economic qualitative factor by 3 basis points in the first quarter of 2022. In the second quarter 2021, we added 20 basis points to our consumer loan portfolio qualitative factors to address the risk that economic impact payments may be masking consumer delinquency and default. We removed this 20 basis point allocation in the first quarter of 2022 as we did not experience losses or increased delinquency in these portfolios. We also reduced the qualitative factor for changes in lending personnel by 4 basis points in the first quarter of 2022. Slightly offsetting this was the addition of 2 basis points for our qualitative factor related to the effect of rising interest rates in the first quarter of 2022. One additional change to the allowance calculation in the first quarter of 2022 was the removal of a loan pool we had maintained for loans receiving three modifications during the pandemic. These loans have all returned to contractual payment terms over an extended period of time and have returned to their normal loan pools. -46-
Certain industry sectors have been more negatively impacted by the economic effects of COVID-19 than others such as hospitality, restaurants and sporting events. We believe our commercial portfolio is adequately diversified, with our largest commercial concentrations in Real Estate, Rental and Leasing (31.3%), followed by Manufacturing (13.8%) and Retail Trade (10.3%). The table below breaks down our commercial loan portfolio by industry type at
March 31, 2022and identifies the percentage of loans in each type that have a pass rating within our grading system (4 or better) and criticized rating (5 or worse) (dollars in thousands): March 31, 2022 Percent of Percent Grade Percent Grade Excluding PPP PPP Loans Total Total Loans 4 or Better 5 or Worse Industry: Agricultural Products $ 44,211 $ 21 $ 44,2324.74 % 90.09 % 9.91 % Mining and Oil Extraction 1,317 - 1,317 0.14 % 94.91 % 5.09 % Construction 69,737 495 70,232 7.53 % 97.76 % 2.24 % Manufacturing 127,534 1,100 128,634 13.79 % 97.86 % 2.14 % Wholesale Trade 72,098 147 72,245 7.75 % 100.00 % 0.00 % Retail Trade 95,930 964 96,894 10.39 % 99.92 % 0.08 % Transportation and Warehousing 45,953 594 46,547 4.99 % 98.20 % 1.80 % Information 677 - 677 0.07 % 6.94 % 93.06 % Finance and Insurance 36,369 - 36,369 3.90 % 100.00 % 0.00 % Real Estate and Rental and Leasing 291,357 554 291,911 31.30 % 99.92 % 0.08 % Professional, Scientific and Technical Services 4,874 569 5,443 0.58 % 96.05 % 3.95 % Management of Companies and Enterprises 4,725 - 4,725 0.51 % 100.00 % 0.00 % Administrative and Support Services 15,644 99 15,743 1.69 % 99.36 % 0.64 % Education Services 2,842 7 2,849 0.31 % 97.12 % 2.88 % Health Care and Social Assistance 35,007 40 35,047 3.76 % 100.00 % 0.00 % Arts, Entertainment and Recreation 4,325 311 4,636 0.50 % 93.14 % 6.86 % Accommodations and Food Services 39,976 2,023 41,999 4.50 % 85.03 % 14.97 % Other Services 32,591 469 33,060 3.55 % 99.49 % 0.51 % Total commercial loans $ 925,167 $ 7,393 $ 932,560100.00 % 98.10 % 1.90 % Considering the change in our qualitative factors and our commercial loan portfolio balances, the general allowance allocated to commercial loans was $12.0 millionat March 31, 2022and $12.9 millionat December 31, 2021. The qualitative component of our allowance allocated to commercial loans was $12.0 millionat March 31, 2022, down $878,000from $12.9 millionat December 31, 2021. Groups of homogeneous loans, such as residential real estate and open- and closed-end consumer loans, receive allowance allocations based on loan type. A rolling 12 month (four quarter) historical loss experience period was applied to residential mortgage and consumer loan portfolios. As with commercial loans that are not considered impaired, the determination of the allowance allocation percentage is based principally on our historical loss experience. These allocations are adjusted for consideration of general economic and business conditions, credit quality and delinquency trends, collateral values, and recent loss experience for these similar pools of loans. The homogeneous loan allowance was $1.9 millionat March 31, 2022and $2.4 millionat December 31, 2021. The allowance allocations are not intended to imply limitations on usage of the allowance for loan losses. The entire allowance for loan losses is available for any loan losses without regard to loan type.
Bank’s own life insurance: The bank’s own life insurance has been increased
Premises and equipment: Premises and equipment added together
Deposits and Other Borrowings: Total deposits increased
$4.3 millionto $2.58 billionat March 31, 2022, as compared to $2.58 billionat December 31, 2021. Non-interest checking account balances increased $32.8 millionduring the first three months of 2022. Interest bearing demand account balances decreased $58.1 millionand savings and money market account balances increased $33.7 millionin the first three months of 2022 as municipal and business customers have held higher balances during the COVID-19 pandemic. Certificates of deposits decreased by $4.0 millionin the first three months of 2022 reflecting the continued low market interest rates. We believe our success in maintaining the balances of personal and business checking and savings accounts was primarily attributable to our focus on quality customer service, the desire of customers to deal with a local bank, the convenience of our branch network and the breadth and depth of our sophisticated product line. -47-
Noninterest bearing demand accounts comprised 36% of total deposits at
March 31, 2022and 34% of total deposits at December 31, 2021. These balances typically increase at year end for many of our commercial customers, then decline in the first half of the next year. This didn't happen in 2021 due to customers of all types holding higher balances during the COVID-19 pandemic. In addition, because of the generally low rates paid on interest bearing account alternatives, many of our business customers chose to keep their balances in these more liquid noninterest bearing demand account types. Interest bearing demand, including money market and savings accounts, comprised 61% of total deposits at March 31, 2022and 62% at December 31, 2021. Time accounts as a percentage of total deposits were 3% at March 31, 2022and 3% at December 31, 2021. Borrowed funds at March 31, 2022consisted of $85.0 millionof Federal Home Loan Bank("FHLB") advances. Borrowed funds at December 31, 2021consisted of $85.0 millionof FHLB advances. On January 21, 2022, the FHLB exercised its option to put an advance totaling $25.0 millionto the Company. This advance carried an interest rate of 0.01% and had a maturity date of July 21, 2031. The Company paid off this advance as required on January 21, 2022. On January 21, 2022, the Company executed a new $25.0 millionadvance with the FHLB with similar terms. This advance carried an interest rate of 0.05% and a maturity date of January 21, 2032. The first put date for this advance was April 21, 2022. The FHLB exercised its put option on this advance and it was paid off by the Company as required on April 21, 2022.
Total shareholders' equity of
$245.6 millionat March 31, 2022reflected a decrease of $8.4 millionfrom $254.0 millionat December 31, 2021. The decrease was primarily a result of a negative swing of $11.9 millionin accumulated other comprehensive income ("AOCI") and a payment of $2.7 millionin cash dividends to shareholders more than offsetting our net income of $6.0 millionearned in the first three months of 2022. The negative swing in AOCI was attributable to a sharp increase in market interest rates on bonds during the first quarter 2022 causing a devaluation in market value on our investment securities available for sale. The Bank was categorized as "well capitalized" at March 31, 2022. Capital guidelines for U.S.banks are commonly known as Basel III guidelines. The rules include a common equity Tier 1 capital to risk-weighted assets ratio (CET1 ratio) of 4.5% and a capital conservation buffer of 2.5% of risk-weighted assets, effectively resulting in a minimum CET1 ratio of 7.0%. The Basel III minimum ratio of Tier 1 capital to risk-weighted assets is 6.0% (which, with the capital conservation buffer, effectively results in a minimum Tier 1 capital ratio of 8.5%), and the minimum total capital to risk-weighted assets ratio is 10.5% (with the capital conservation buffer), and Basel III requires a minimum leverage ratio of 4.0%. The capital ratios for the Company and the Bank under Basel III have continued to exceed the well capitalized minimum capital requirements.
The following table shows our regulatory capital ratios (on a consolidated basis) for the most recent quarters:
December March 31, 31, Sept 30, June 30, March 31, Macatawa Bank Corporation 2022 2021 2021 2021 2021 Total capital to risk weighted assets 17.9 % 18.3 % 18.6 % 19.7 % 19.3 % Common Equity Tier 1 to risk weighted assets 16.9 17.2 17.4 17.1 16.7 Tier 1 capital to risk weighted assets 16.9 17.2 17.4 18.5 18.1 Tier 1 capital to average assets 8.8 8.7 8.5 9.5 9.8
LIQUIDITY Liquidity of
Macatawa Bank: The liquidity of a financial institution reflects its ability to manage a variety of sources and uses of funds. Our Consolidated Statements of Cash Flows categorize these sources and uses into operating, investing and financing activities. We primarily focus on developing access to a variety of borrowing sources to supplement our deposit gathering activities and provide funds for our investment and loan portfolios. Our sources of liquidity include our borrowing capacity with the FRB's discount window, the Federal Home Loan Bank, federal funds purchased lines of credit and other secured borrowing sources with our correspondent banks, loan payments by our borrowers, maturity and sales of our securities available for sale, growth of our deposits, federal funds sold and other short-term investments, and the various capital resources discussed above. -48-
Liquidity management involves the ability to meet the cash flow requirements of our customers. Our customers may be either borrowers with credit needs or depositors wanting to withdraw funds. Our liquidity management involves periodic monitoring of our assets considered to be liquid and illiquid, and our funding sources considered to be core and non-core and short-term (less than 12 months) and long-term. We have established parameters that monitor, among other items, our level of liquid assets to short-term liabilities, our level of non-core funding reliance and our level of available borrowing capacity. We maintain a diversified wholesale funding structure and actively manage our maturing wholesale sources to reduce the risk to liquidity shortages. We have also developed a contingency funding plan to stress test our liquidity requirements arising from certain events that may trigger liquidity shortages, such as rapid loan growth in excess of normal growth levels or the loss of deposits and other funding sources under extreme circumstances. We have actively pursued initiatives to maintain a strong liquidity position. The Bank has reduced its reliance on non-core funding sources, including brokered deposits, and focused on achieving a non-core funding dependency ratio below its peer group average. We have had no brokered deposits on our balance sheet since
December 2011. We continue to maintain significant on-balance sheet liquidity. At March 31, 2022, the Bank held $1.08 billionof federal funds sold and other short-term investments. In addition, the Bank had available borrowing capacity from correspondent banks of approximately $201.4 millionas of March 31, 2022. In addition to normal loan funding, we also maintain liquidity to meet customer financing needs through unused lines of credit, unfunded loan commitments and standby letters of credit. The level and fluctuation of these commitments is also considered in our overall liquidity management. At March 31, 2022, we had a total of $727.2 millionin unused lines of credit, $89.7 millionin unfunded loan commitments and $10.1 millionin standby letters of credit. Liquidity of Holding Company: The primary sources of liquidity for the Company are dividends from the Bank, existing cash resources and the capital markets if the need to raise additional capital arises. Banking regulations and the laws of the State of Michiganin which our Bank is chartered limit the amount of dividends the Bank may declare and pay to the Company in any calendar year. Under the state law limitations, the Bank is restricted from paying dividends to the Company in excess of retained earnings. In 2021, the Bank paid dividends to the Company totaling $33.1 million. In the same period, the Company paid $10.9 millionin dividends to its shareholders and $20.6 millionto redeem outstanding trust preferred securities. On February 23, 2022, the Bank paid a dividend totaling $2.9 millionto the Company in anticipation of the common share cash dividend of $0.08per share paid on February 24, 2022to shareholders of record on February 10, 2022. The cash distributed for this cash dividend payment totaled $2.7 million. The Company retained the remaining balance in each period for general corporate purposes. At March 31, 2022, the Bank had a retained earnings balance of $86.4 million.
The company’s cash on hand
CRITICAL ACCOUNTING PRINCIPLES AND ESTIMATES:
To prepare financial statements in conformity with accounting principles generally accepted in
the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and future results could differ. The allowance for loan losses, other real estate owned valuation, loss contingencies, revenue recognition and income taxes are deemed critical due to the required level of management judgment and the use of estimates, making them particularly subject to change. Our methodology for determining the allowance for loan losses and the related provision for loan losses is described above in the "Allowance for Loan Losses" discussion. This area of accounting requires significant judgment due to the number of factors which can influence the collectability of a loan. Unanticipated changes in these factors could significantly change the level of the allowance for loan losses and the related provision for loan losses. Although, based upon our internal analysis, and in our judgment, we believe that we have provided an adequate allowance for loan losses, there can be no assurance that our analysis has properly identified all of the probable losses in our loan portfolio. As a result, we could record future provisions for loan losses that may be significantly different than the levels that we recorded in the first three months of 2022. Assets acquired through or instead of foreclosure, primarily other real estate owned, are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. New real estate appraisals are generally obtained at the time of foreclosure and are used to establish fair value. If fair value declines, a valuation allowance is recorded through expense. Estimating the initial and ongoing fair value of these properties involves a number of factors and judgments including holding time, costs to complete, holding costs, discount rate, absorption and other factors. Loss contingencies are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. This, too, is an accounting area that involves significant judgment. Although, based upon our judgment, internal analysis, and consultations with legal counsel we believe that we have properly accounted for loss contingencies, future changes in the status of such contingencies could result in a significant change in the level of contingent liabilities and a related impact to operating earnings. -49-
Interest-free income is recognized as required by the contract and when we fulfill our contractual obligations. Most of our noninterest revenue derives from transaction-based services, and such revenue is recognized when the related service is provided.
Our accounting for income taxes involves the valuation of deferred tax assets and liabilities primarily associated with differences in the timing of the recognition of revenues and expenses for financial reporting and tax purposes. At
March 31, 2022, we had gross deferred tax assets of $6.7 millionand gross deferred tax liabilities of $1.9 millionresulting in a net deferred tax asset of $4.9 million. Accounting standards require that companies assess whether a valuation allowance should be established against their deferred tax assets based on the consideration of all available evidence using a "more likely than not" standard. We concluded at March 31, 2022that no valuation allowance on our net deferred tax asset was required. Changes in tax laws, changes in tax rates, changes in ownership and our future level of earnings can impact the ultimate realization of our net deferred tax asset.
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