BAR HARBOR BANKSHARES (BHB) FY 2021 MD&A

Verbatim Item 7 Management's Discussion and Analysis from BAR HARBOR BANKSHARES's 10-K for fiscal year 2021. Filing date: 2022-03-14. Report date: 2021-12-31. Accession: 0001558370-22-003563.

This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.

Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Confidence: high.

Company profile: BHB · All MD&A years: index · Next year: FY 2022

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL

Management’s discussion and analysis is intended to assist in understanding the financial condition and results of operations of the Company. The information in this section should be read in conjunction with the Consolidated Financial Statements and accompanying Notes contained in report.

SELECTED FINANCIAL DATA


	At or For the Years Ended December 31,
(in millions, except ratios and share data)	2021		2020		2019
Financial Condition Data:
Total assets(7)	$	3,709		$	3,724	$	3,669
Total earning assets(1)		3,377			3,371		3,349
Total investments		626			599		684
Total loans		2,532			2,563		2,635
Allowance for credit losses		23			19		15
Total goodwill and intangible assets		126			127		127
Total deposits		3,049			2,906		2,696
Total borrowings		179			336		531
Total shareholders' equity(7)		424			407		396

Operating Data:
Total interest and dividend income	$	111		$	126	$	135
Total interest expense		15			27		46
Net interest income		96			99		90
Non-interest income		42			43		29
Net revenue(2)		138			142		119
Provision for credit losses		(1)			6		2
Total non-interest expense		91			95		90
Income tax expense(3)		9			8		4
Net income		39			33		23

Ratios and Other Data:
Per Common Share Data
Basic earnings	$	2.63		$	2.18	$	1.46
Diluted earnings		2.61			2.18		1.45
Total book value(6)		28.27			27.29		25.47
Dividends		0.94			0.88		0.86
Common stock price:
High		32.94			25.55		27.58
Low		21.26			13.05		21.24
Close		28.93			22.59		25.39

Weighted average common shares outstanding (in thousands):
Basic		14,969			15,246		15,541
Diluted		15,045			15,272		15,587

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	At or For the Years Ended December 31,
(in millions, except ratios and share data)	2021		2020		2019
Performance Ratios:(4)
Return on assets	1.06	%	0.88	%	0.62	%
Return on equity(6)	9.50		8.29		5.82
Interest rate spread	2.74		2.92		2.53
Net interest margin(5)	2.88		2.97		2.77
Dividend payout ratio	35.81		40.36		59.09

Organic Growth Ratios:
Total commercial loans	7	%	17	%	6	%
Total loans	(1)		(3)		2
Total deposits	5		8		(2)

Asset Quality and Condition Ratios:
Non-accruing loans/total loans	0.40	%	0.48	%	0.44	%
Net charge-offs/average loans	0.01		0.07		0.03
Allowance for credit losses/total loans	0.90		0.74		0.58
Loans/deposits	83		88		98

Capital Ratios:
Tier 1 capital to average assets - Company	8.66	%	8.12	%	8.13	%
Tier 1 capital to risk-weighted assets - Company	11.90		11.28		11.39
Tier 1 capital to average assets - Bank	9.62		9.02		8.39
Tier 1 capital to risk-weighted assets - Bank	13.22		12.52		11.79
Shareholders equity to total assets(6)	11.43		11.04		10.80

Column 1	Column 2
(1)	Earning assets includes non-accruing loans and interest-bearing deposits with other banks. Securities are valued at amortized cost.

Column 1	Column 2
(2)	Net revenue is defined as net interest income plus non-interest income.

Column 1	Column 2
(3)	In December 2017, the Tax Cuts and Jobs Act of 2017 was enacted, and the Company recognized a $4.0 million write-down of its deferred tax assets and liabilities upon revaluation using the lower federal corporate income tax rate of 21.0%

Column 1	Column 2
(4)	All performance ratios are based on average balance sheet amounts, where applicable.

Column 1	Column 2
(5)	Fully taxable equivalent considers the impact of tax advantaged securities and loans.

Column 1	Column 2
(6)	Non-GAAP financial measure. Refer to the Reconciliation of Non-GAAP Financial Measures for additional information.

Column 1	Column 2
(7)	Prior period has been revised, see Note 1 – Summary of Significant Accounting Policies – Revision of Previously Issued Financial Statements.

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AVERAGE BALANCES AND AVERAGE YIELDS/RATES

The following table presents average balances and average rates and yields on a fully taxable equivalent basis for the periods included:


	Year Ended December 31,
	2021		2020			2019
	Average		Interest		Yield/		Average		Interest		Yield/	Average		Interest		Yield/
(in millions, except ratios)	Balance		(3)		Rate(3)		Balance		(3)		Rate(3)	Balance		(3)		Rate(3)
Assets
Interest-earning deposits with other banks	$	219		$	—		0.15	%		$	89	$	—		0.15	%	$	17	$	—	0.96	%
Securities available for sale and FHLB stock(2)(3)		621			16		2.63				625		20		3.20			743		25	3.42
Loans:
Commercial real estate		1,210			40		3.34				993		40		4.02			875		42	4.74
Commercial and industrial(3)		348			14		3.98				379		21		5.62			411		19	4.72
Paycheck protection program		51			6		11.93				109		5		4.19			—		—	—
Residential		825			32		3.86				1,078		41		3.78			1,158		45	3.91
Consumer		99			4		3.77				124		5		4.03			116		6	5.10
Total loans (1)		2,533			96		3.78				2,683		112		4.16			2,560		112	4.38
Total earning assets		3,373			112		3.33	%			3,397		132		3.87	%		3,320		137	4.14	%
Cash and due from banks		35									27							64
Allowance for credit losses		(23)									(17)							(15)
Other assets(5)		333									351							277
Total assets(5)	$	3,718								$	3,758						$	3,646

Liabilities
NOW	$	949		$	1		0.11	%		$	643	$	1		0.20	%	$	492	$	2	0.49	%
Savings		629			1		0.09				467		1		0.16			359		1	0.19
Money market		390			1		0.12				396		2		0.42			348		5	1.32
Time deposits		425			6		1.51				796		14		1.80			924		19	2.09
Total interest bearing deposits		2,393			9		0.36				2,302		18		0.78			2,123		27	1.27
Borrowings		175			7		3.82				507		9		1.75			708		19	2.61
Total interest bearing liabilities		2,568			16		0.59	%			2,809		27		0.96	%		2,831		46	1.61	%
Non-interest bearing demand deposits		668									481							394
Other liabilities(5)		68									67							34
Total liabilities(5)		3,304									3,357							3,259

Total shareholders' equity(5)		414									401							387

Total liabilities and shareholders' equity(5)	$	3,718								$	3,758						$	3,646

Net interest income				$	96							$	105						$	91
Net interest spread							2.74	%							2.91	%					2.53	%
Net interest margin							2.88								2.97						2.77
Adjusted net interest margin(4)							2.93								3.01						2.77

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Column 1	Column 2
(1)	The average balances of loans include non-accrual loans and unamortized deferred fees and costs.

Column 1	Column 2
(2)	The average balance for securities is based on amortized cost.

Column 1	Column 2
(3)	Fully taxable equivalent considers the impact of tax-advantaged securities and loans.

Column 1	Column 2
(4)	Adjusted net interest margin excludes Paycheck Protection Program loans and interest-earning deposits with other banks.

Column 1	Column 2
(5)	Prior period has been revised, see Note 1 – Summary of Significant Accounting Policies – Revision of Previously Issued Financial Statements.

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RATE/VOLUME ANALYSIS

The following table presents the effects of rate and volume changes on the fully taxable equivalent net interest income. Tax exempt interest revenue is shown on a tax-equivalent basis for proper comparison. For each category of interest- earning assets and interest-bearing liabilities, information is provided with respect to changes attributable to (1) changes in rate (change in rate multiplied by prior year volume), (2) changes in volume (change in volume multiplied by prior year rate), and (3) changes in volume/rate (change in rate multiplied by change in volume) have been allocated proportionately based on the absolute value of the change due to the rate and the change due to volume.


	2021 Compared with 2020		2020 Compared with 2019
	Increases (Decreases) due to		Increases (Decreases) due to
(in thousands)	Rate		Volume		Net	Rate		Volume		Net
Interest income:
Interest-earning deposits with other banks	$	11		$	191	$	202		$	(246)	$	305	$	59
Securities available for sale and FHLB stock		(3,560)			(139)		(3,699)			(1,305)		(4,031)		(5,336)
Loans:
Commercial real estate		(8,244)			8,748		504			(7,140)		5,544		(1,596)
Commercial and industrial		(5,712)			(1,752)		(7,464)			4,694		(1,388)		3,306
Paycheck protection program		3,919			(2,450)		1,469			—		4,569		4,569
Residential		647			(9,566)		(8,919)			(1,407)		(3,107)		(4,514)
Consumer		(263)			(1,011)		(1,274)			(1,320)		426		(894)
Total loans		(9,653)			(6,031)		(15,684)			(5,173)		6,044		871
Total interest income	$	(13,202)		$	(5,979)	$	(19,181)		$	(6,724)	$	2,318	$	(4,406)

Interest expense:
Deposits:
NOW	$	(842)		$	617	$	(225)		$	(1,807)	$	731	$	(1,076)
Savings		(452)			262		(190)			(200)		219		19
Money market		(1,148)			(23)		(1,171)			(3,631)		635		(2,996)
Time deposits		(1,230)			(6,685)		(7,915)			(2,253)		(2,682)		(4,935)
Total deposits		(3,672)			(5,829)		(9,501)			(7,891)		(1,097)		(8,988)
Borrowings		3,619			(5,812)		(2,193)			(4,397)		(5,269)		(9,666)
Total interest expense	$	(53)		$	(11,641)	$	(11,694)		$	(12,288)	$	(6,366)	$	(18,654)
Change in net interest income	$	(13,149)		$	5,662	$	(7,487)		$	5,564	$	8,684	$	14,248

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NON-GAAP FINANCIAL MEASURES

This document contains certain non-GAAP financial measures in addition to results presented in accordance with accounting principles generally accepted in the United States of America ("GAAP"). These non-GAAP measures are intended to provide the reader with additional supplemental perspectives on operating results, performance trends, and financial condition. Non-GAAP financial measures are not a substitute for GAAP measures; they should be read and used in conjunction with the Company’s GAAP financial information. A reconciliation of non-GAAP financial measures to GAAP measures is provided below. In all cases, it should be understood that non-GAAP measures do not depict amounts that accrue directly to the benefit of shareholders. An item that management excludes when computing non- GAAP adjusted earnings can be of substantial importance to the Company’s results for any particular quarter or year. The Company’s non-GAAP adjusted earnings information set forth is not necessarily comparable to non- GAAP information that may be presented by other companies. Each non-GAAP measure used by the Company in this report as supplemental financial data should be considered in conjunction with the Company’s GAAP financial information.

The Company utilizes the non-GAAP measure of adjusted earnings in evaluating operating trends, including components for adjusted revenue and expense. These measures exclude amounts that the Company views as unrelated to its normalized operations, including gains/losses on securities, premises, equipment and other real estate owned, acquisition costs, restructuring costs, legal settlements, and systems conversion costs. Non-GAAP adjustments are presented net of an adjustment for income tax expense.

The Company also calculates adjusted earnings per share based on its measure of adjusted earnings. The Company views these amounts as important to understanding its operating trends, particularly due to the impact of accounting standards related to acquisition activity. Analysts also rely on these measures in estimating and evaluating the Company’s performance. Management also believes that the computation of non-GAAP adjusted earnings and adjusted earnings per share may facilitate the comparison of the Company to other companies in the financial services industry. The Company also adjusts certain equity related measures to exclude intangible assets due to the importance of these measures to the investment community.

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RECONCILIATION OF NON-GAAP FINANCIAL MEASURES

The following table summarizes the reconciliation of non-GAAP items for the time periods presented:


		At or For The Years Ended December 31,
(in thousands)	Calculations		2021		2020		2019
Net income		$	39,299	$	33,244	$	22,620
Non-recurring items:
Gain on sale of securities, net			(2,870)		(5,445)		(237)
Loss (gain) on sale of premises and equipment, net			378		(32)		18
Loss on other real estate owned			—		355		166
Loss on debt extinguishment			2,851		1,351		1,096
Acquisition, conversion and other expenses			1,667		5,801		8,317
Income tax expense (1)			(479)		(481)		(2,232)
Total non-recurring items			1,547		1,549		7,128
Total adjusted income(2)	(A)	$	40,846	$	34,793	$	29,748

Net interest income	(B)	$	95,573	$	99,180	$	89,810
Plus: Non-interest income			42,261		42,956		29,069
Total Revenue			137,834		142,136		118,879
Gain on sale of securities, net			(2,870)		(5,445)		(237)
Total adjusted revenue(2)	(C)	$	134,964	$	136,691	$	118,642

Total non-interest expense		$	90,508	$	94,860	$	89,733
Non-recurring expenses:
(Loss) gain on sale of premises and equipment, net			(378)		32		(18)
Loss on other real estate owned			—		(355)		(166)
Loss on debt extinguishment			(2,851)		(1,351)		(1,096)
Acquisition, conversion and other expenses			(1,667)		(5,801)		(8,317)
Total non-recurring expenses			(4,896)		(7,475)		(9,597)
Adjusted non-interest expense(2)	(D)	$	85,612	$	87,385	$	80,136

Total revenue			137,834		142,136		118,879
Total non-interest expense			90,508		94,860		89,733
Pre-tax, pre-provision net revenue		$	47,326	$	47,276	$	29,146

Adjusted revenue(2)			134,964		136,691		118,642
Adjusted non-interest expense(2)			85,612		87,385		80,136
Adjusted pre-tax, pre-provision net revenue(2)		$	49,352	$	49,306	$	38,506

(in millions)
Average earning assets	(E)	$	3,373	$	3,397	$	3,320
Average paycheck protection program (PPP) loans	(R)		51		109		—
Average interest-bearing deposits with other banks	(U)		219		89		17
Average earning assets, excluding PPP loans and interest-earning deposits with other banks	(S)		3,103		3,199		3,303
Average assets(8)	(F)		3,718		3,758		3,646
Average shareholders' equity(8)	(G)		414		401		387
Average tangible shareholders' equity(2)(3)(8)	(H)		288		273		278
Tangible shareholders' equity, period-end(2)(3)(8)	(I)		298		284		269
Tangible assets, period-end(2)(3)(8)	(J)		3,583		3,598		3,542

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		At or For The Years Ended December 31,
	Calculations		2021			2020			2019
(in thousands)
Common shares outstanding, period-end	(K)		15,001			14,916			15,558
Average diluted shares outstanding	(L)		15,045			15,272			15,587

Adjusted earnings per share, diluted(2)	(A/L)	$	2.72		$	2.28		$	1.91
Tangible book value per share, period-end(2)(8)	(I/K)		19.86			18.77			17.30
Securities adjustment, net of tax(1)(4)	(M)		1,985			10,023			5,549
Tangible book value per share, excluding securities adjustment(2)(4)(8)	(I+M)/K		19.73			18.09			16.94
Total tangible shareholders' equity/total tangible assets(2)(8)	(I/J)		8.32			7.78			7.60

Performance ratios(5)
Return on assets			1.06	%		0.88	%		0.62	%
Adjusted return on assets(2)	(A/F)		1.10			0.93			0.82
Pre-tax, pre-provision return on assets			1.27			1.26			0.80
Adjusted pre-tax, pre-provision return on assets (2)	(U/F)		1.33			1.31			1.06
Return on equity(8)			9.50			8.29			5.82
Adjusted return on equity(2)(8)	(A/G)		9.87			8.68			7.65
Return on tangible equity(8)			13.92			12.45			8.32
Adjusted return on tangible equity(1)(2)(8)	(A+Q)/H		14.46			13.02			10.86
Efficiency ratio(2)(6)	(D-O-Q)/(C+N)		61.29			61.71			64.95
Net interest margin	(B+P)/E		2.88			2.97			2.77
Adjusted net interest margin(2)(7)	(B+P-T-V)/S		2.93			3.01			2.77

Supplementary data (in thousands)
Taxable equivalent adjustment for efficiency ratio	(N)	$	2,330		$	2,477		$	2,692
Franchise taxes included in non-interest expense	(O)		528			477			469
Tax equivalent adjustment for net interest margin	(P)		1,653			1,853			2,048
Intangible amortization	(Q)		940			1,024			861
Interest and fees on PPP loans	(T)		6,039			4,569			—
Interest and fees on interest-earning deposits with other banks	(V)		333			131			—

Column 1	Column 2
(1)	Assumes a marginal tax rate of 23.71% in 2021 and 2020, 23.87% in 2019.

Column 1	Column 2
(2)	Non-GAAP financial measure.

Column 1	Column 2
(3)	Tangible shareholders’ equity is computed by taking total shareholders’ equity less the intangible assets at period-end. Tangible assets is computed by taking total assets less the intangible assets at period-end.

Column 1	Column 2
(4)	Securities adjustment, net of tax represents the total unrealized gain on securities recorded on the Company’s consolidated balance sheets within total common shareholders’ equity.

Column 1	Column 2
(5)	All performance ratios are based on average balance sheet amounts, where applicable.

Column 1	Column 2
(6)	Efficiency ratio is computed by using adjusted non-interest expense net of franchise taxes and intangible amortization divided by adjusted revenue tax effected for tax-advantaged assets using a marginal tax rate of 23.71% in 2021 and 2020, and 23.87% in 2019.

Column 1	Column 2
(7)	Adjusted net interest margin excludes Paycheck Protection Program loans and interest-earning deposits with other banks.

Column 1	Column 2
(8)	Prior period has been revised, see Note 1 – Summary of Significant Accounting Policies – Revision of Previously Issued Financial Statements.

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EXECUTIVE OVERVIEW

Bar Harbor Bankshares recorded 2021 net income of $39 million, or $2.61 per diluted share, compared to $33 million, or $2.18 per diluted share, in 2020. Adjusted income (non-GAAP measure) in 2021 was $41 million, or $2.72 per diluted share, and $35 million, or $2.28 per diluted share, for the same period of 2020. The Company’s return on assets ratio was 1.06% for 2021, up from 0.88% in the prior year.

Net interest margin (NIM) was 2.88% for 2021 compared with 2.97% in 2020. Excluding the effects of PPP fee acceleration, excess cash, and one-time items, adjusted NIM was 2.93% in 2021 compared to 3.01% in 2020. At year-end 2021, the Company had approximately $200 thousand of remaining PPP deferred fees which are expected to be amortized to the margin in 2022. The Company saw a leveling of NIM in the second quarter 2021, which was contributed growth in non-maturity deposits, and maturities of wholesale funding that were not replaced. NIM continued to stabilize in the second half of 2021 due to the execution of several delever and security remix strategies. Also as result, the Company’s cost of interest-bearing liabilities steadily dropped to 59 basis points in 2021 from 96 basis points during 2020.

In 2021, the Company prepaid $159 million of FHLB borrowings and sold $63 million of securities to offset prepayment penalties, which were replaced with relatively short-lived securities with an average duration of approximately 4 years. The transactions took place in the second half of 2021 and the net result is expected to be fully accretive to NIM and earnings per share starting in 2022.

Non-maturity deposits increased 19% during 2021 due to a significant amount of accounts were opened as new relationships were built and relationships with existing customers deepened. Wholesale funding has decreased to 4% of total funding, down from 18% at year-end 2020. Non-maturity deposit reliance continues to expand, funding earning asset growth with a much more stabilized cost if rates do go up. At year-end 2021, $114 million of wholesale funding remains, which represent longer durations or have associated hedges.

The Company continues to focus on profitability and fee-based revenue remains a priority. The growth seen during this past year has contributed to the expansion of the Company’s key performance metrics, while further enhancing the diversity and strength of revenue streams. Wealth management and customer service fees in 2021 increased 15% over the prior year, given a 13% increase in assets under management and significant increase in non-maturity deposits. The Wealth Management division continues to deliver a strong performance from both a customer and shareholder perspective. Customer service revenue benefits from the increase in non-maturity deposits along with adjustments made to product fee schedules based on peer review studies performed in late 2020. Mortgage banking income benefited from higher secondary market loan sales in 2021, which also accounts for the decrease in residential loans as production was selectively moved between on-balance sheet and held for sale throughout the year.

Commercial real estate loans in 2021 grew 12% over the prior year driven by a balanced mix of new and existing customers that are proven operators and are strong relationships of the Bank. Similarly, the growth in commercial and industrial loans of 5%, excluding paycheck protection program (PPP) loans, came from new and existing customers and represented a variety of industries. Looking forward, the Company’s loan pipelines remain robust and it is seeing momentum continuing into the first quarter of 2022.

The Company adopted CECL effective January 1, 2021, which increased the allowance for credit losses (ACL) by $5.2 million and reserve for unfunded commitments by $1.6 million. Upon adoption, the coverage ratio of ACL to total loans increased to 0.94% from 0.76% in the fourth quarter of 2020, excluding PPP loans. The provision for credit losses for 2021 was a credit of $1.3 million compared with expense of $5.6 million in 2020. Steady improvements in macroeconomic expectations, lower specific reserves along with relative flat growth in total loans contributed to the benefit in 2021.

The Company continues to build long term shareholder value while providing a favorable dividend rate relative to other community banks. The Company’s return on equity for 2021 rose to 9.50% from 8.29% in 2020. Credit metrics remained strong and stable throughout 2021. Non-performing loans continue to decline across all categories on a quarterly and year-over- year basis. There was also noteworthy reduction of criticized loans, down to 3% from 4% at year-end 2020. Moving into 2022, all of these trends are positive and are expected to continue based on the Company’s credit discipline.

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In early 2021, the Company performed an intensive review of non-interest expense leveraging a strategic third-party partner. The goal of the review was to identify normalized expense run-rates that are optimal for the Company’s current size and footprint, and establish sustainable run-rates that allow for revenue growth in the future. Results of the study reduced salary and benefit expense by $2.3 million in 2021 and $3.0 million is expected to be fully realized in 2022.

The Company was named by Newsweek Magazine as one of "America's Best Banks." Best Bank winners were selected from over 2,500 financial institutions and assessed on more than 30 separate factors including the overall health of the bank, customer service performance and features, digital and branch presence, account and loan options, interest rate offerings, and fees.

COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2021 AND 2020

Cash and cash equivalents

Total cash and cash equivalents at the end of 2021 were $250 million, compared to $226 million at December 31, 2020. Interest-earning cash held with other banks totaled $217 million compared to $198 million at year-end 2020 carrying a yield of 0.15% in both periods. The increase in cash balances reflects the growth in non-maturity deposits.

Securities

Securities totaled $626 million at the end of 2021 and $599 million at year-end 2020 representing 17% and 16% of total assets, respectively. During 2021 security purchases totaled $250 million and were offset by $93 million of sales, $112 million of maturities, calls and pay-downs of amortizing securities and a $7 million reduction in FHLB stock. The majority of the sales were made in connection with the Company’s balance sheet delever and security remix strategies in the third and fourth quarters of 2021. Fair value adjustments decreased the security portfolio by $10 million in 2021 compared to an increase $5.8 million during 2020. Unrealized gains decreased in 2021 due to sales and changes in the long-term treasury yield curve. The weighted average yield of the Company's securities portfolio was 2.63% as of December 31, 2021 compared to 3.20% at year-end 2020. At the end of 2021 securities held by the Company had an average life of 5.3 years with an effective duration of 4.21 years compared to 4.8 years and 4.3 years at the end of 2020, respectively.

Loans

In 2021 total loans decreased by $31 million from year-end 2020. The decrease was the net result of the Company’s strategy to grow its commercial portfolios and sell the majority of its residential loan originations in the secondary market. Commercial loans grew 10% in 2021 when excluding PPP loans, which was driven mostly from new relationships in commercial real estate products. Commercial real estate and commercial and industrial loans, excluding PPP, increased 12% and 5% in 2021, respectively PPP loans totaled $6.7 million at quarter-end, consisting of $6.6 million from 2021 and $104 thousand from 2020, and were $53.8 million at year-end 2020. COVID loan modifications were zero, down from $68.6 million at year-end 2020, as all modified loans have resumed normal payment schedules .Total residential loans decreased $103 million from year-end 2020, which includes $173 million of originations recorded on the balance sheet and $275 million of prepayments/amortization.

Allowance for Credit Losses

The ACL was $22.7 million at the end of 2021 compared to $19.0 million at year-end 2020. The increase is primarily due to the Company’s adoption of CECL as of January 1, 2021, which increased the ACL by $5.2 million and for unfunded commitment reserves by $1.6 million. Unfunded commitment reserves are recorded in other liabilities. Since adoption the ACL has decreased due to improved economic forecasts and lower reserves on specific loans offset by changes in loan mix.

Net charge-offs totaled $290 thousand in 2021, down from $1.9 million, or 0.07% of total average loans in 2020. Non-accruing loans improved to $10.2 million, or 0.40% of total loans at the end of 2021 from $12.2 million or 0.48% of total loans at year-end 2020. The allowance credit losses to total loans ratio was 0.90% at the end of 2021 compared to 0.74% at year-end 2021. The ratio of allowance for credit losses to non-accrual loans increased to 223% from 157% at year-end 2020. Increases in both credit quality ratios is primarily the result of the CECL implementation at the beginning of 2021 offset by improvement in economic forecasts throughout the year.

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Other Assets

Total other assets were $318 million at the end of 2021 compared to $331 million as of December 31, 2020. The decrease is primarily from a $15 million decrease in the fair value in customer loan and municipal security derivatives offset by $2.2 million increase in community limited partnership investments. Additionally, derivative balances and deferred taxes have been restated for prior periods as described in Note 1 – Summary of Significant Accounting policies.

Deposits and Borrowings

Total deposits were $3.0 billion at the end of 2021 compared to $2.9 billion at year-end 2020. Non-maturity deposits increased $415 million in 2021, or 19% due to growth in new accounts with over 4,884 new customer relationships added. Growth in non-maturity deposits in 2021 and the prepayment of $159 million in FHLB borrowings resulted in a reduction of wholesale funding as a percentage of total funding to 4% from 18% at year-end 2020. Time deposits decreased $273 million to $426 million at year-end 2021 as $178 million of brokered deposits matured in of 2021 and were not replaced due to excess liquidity. Retail time deposits decreased $63.1 million as customers moved funds to transactional accounts upon contractual maturity. Total borrowings decreased by $157 million primarily from the aforementioned delever strategy.

Derivative Financial Instruments and Other Liabilities

The notional balance of derivative financial instruments increased to $944 million at year end 2021 from $877 million in the prior year. The increase is principally due to a $50.0 million new hedge on variable rate loans tied to one-month LIBOR. The net fair value of all derivatives was a liability of $1.1 million at the end of 2021 compared to $5.5 million at year-end 2020. The reduction in net derivative fair values reflects the rise in long-term interest rates. Additionally, derivative balances have been restated for prior periods as described in Note 1 – Summary of Significant Accounting Policies.

Other liabilities totaled $58 million at the end of 2021 compared to $75 million as of December 31, 2020. The decrease primarily reflects a $12 million increase in the customer loan derivatives and a $2.5 million wholesale hedge valuations on higher interest rates compared to 2020.

Equity

Total equity was $424 million, compared with $407 million at year-end 2020. The Company’s book value per share was $28.27 as of December 31, 2021 compared with $27.29 at December 31, 2020. Equity included net unrealized gains on securities, derivative and pension revaluations, net of tax, and totaling $2.3 million at the end of 2021 compared to $6.7 million at year-end 2020. Equity was reduced by $5.2 million due to the Company’s CECL adoption in the first quarter 2021. Additionally, accumulated other comprehensive income has been restated for prior periods as described in Note 1 – Summary of Significant Accounting Policies. The Company evaluates changes in tangible book value, a non-GAAP financial measure that is a commonly used valuation metric in the investment community, which parallels some regulatory capital measures. Tangible book value per share increased to $19.86 per share at year-end 2021, up from $18.77 per share at year-end 2020.

During 2021 and 2020, the Company declared and distributed regular cash dividends on its common stock in the aggregate amounts of $14 million and $13 million, respectively. The Company’s 2021 dividend payout ratio amounted to 36%, compared with 40% in 2020. Total cash dividends paid in 2021 was $0.94 per common share of stock, compared with $0.88 in 2020.

On April 20, 2021, the Company’s Board of Directors authorized a share repurchase plan (the “Plan”). Under the terms of the Plan, the Company is authorized to repurchase up to 5% of its outstanding common stock, representing approximately 747,000 shares. The Plan is authorized for twelve months expiring on March 31, 2022 and authorized based on the strength of the Company’s balance sheet and capital position, and the Company’s belief in the intrinsic value of the Company’s common stock. Given the current market for bank stock prices, the Company believes this program is another tool to enhance long-term shareholder value.

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The Company and the Bank remained well-capitalized under regulatory guidelines at period end as further described in Note 12 – Shareholders’ Equity and Earnings Per Common Share on the Consolidated Financial Statements.

COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2021 AND 2020

Net Interest Income

Net interest income for 2021 was $96 million compared with $99 million in 2020. The net interest margin was 2.88% in 2021 compared to 2.97% in the prior year. The 2021 adjusted net interest margin (non-GAAP measure), which excludes PPP loans and excess cash was 2.93% compared to 3.01% for 2020. Acceleration of PPP loan fee amortization due to forgiveness contributed 14 basis points to NIM in 2021 and 4 basis points in the same period of 2020. Interest-bearing cash balances, held mostly at the Federal Reserve Bank, reduced NIM by 19 basis points in the year and 8 basis points in 2020. The yield on earning assets totaled 3.33% compared to 3.87% in 2020. Excluding the impact of PPP and excess cash, the yield on earning assets totaled 3.42% and 3.97% for the same periods. The decrease was primarily due to lower yields on loans which the Company feels are near-bottom at year-end 2021. The yield on loans was 3.78% in 2021 and 4.16% in 2020. Excluding PPP loans the yield on loans was 3.62% in 2021, and 4.15% in 2020. Costs of interest-bearing liabilities decreased to 0.59% from 0.96% in 2020 due to increased core deposit levels, lower deposit rates and reduced wholesale borrowings.

Provision for Credit Losses

The provision in 2021 was a recapture of $1.3 million compared to and expense of $5.6 million in 2020. The benefit in 2021 is primarily due to the recapture of the day 1 CECL allowance that was established January 1, 2021 given steady improvements in most macroeconomic drivers to the ACL. The provision also benefited from lower net charge-offs of $209 thousand in 2021 compared to $1.9 million in 2020. Overall credit quality remains strong and credit quality metrics improved with decreases in non-accruing and past due loans.

Non-Interest Income

Non-interest income in 2021 was $42 million compared to $43 million in 2020. The net change reflects an increase in fee income from operations offset by decreased gains on sales of securities. Non-interest income excluding gains on sales of securities increased 5% over the prior year. Trust management fees were $15 million compared to $13 million in 2020 driven by higher assets under management of $2.5 billion compared to $2.3 billion in 2020. Customer service fees increased 17% to $13 million in 2021, with 3,374 net new core deposit accounts opened during the year. The Company sold securities resulting in gains of $2.9 million during 2021 as part of its delever and security remix strategies. Mortgage banking activities contributed $6.5 million in 2021 and $6.9 million in 2020. The Company took advantage of volatility in the yield curve in 2021 and put residential mortgages on the balance sheet when rates were higher and sold loans in the secondary market when rates were low.

Non-Interest Expense

Non-interest expense was $91 million in 2021 compared to $95 million in 2020. The decrease is principally due to lower salary and benefit costs as well as decreased non-recurring expenses. Salaries and benefits expense decreased to $47 million compared to $49 million in 2020, the decrease is primarily due to the reduction from the aforementioned expense study in early 2021 offset by higher employee incentive accruals. The decrease also reflects full-time equivalents of 489 compared to 531 in 2020. Non-recurring expenses in 2021 totaled $4.9 million and were mostly made up of the $2.9 million prepayment penalty on debt extinguishment. In 2020 non-recurring expenses totaled $7.5 million and included a loss on debt extinguishment and costs to consolidate wealth management systems. The efficiency ratio for 2021was 61.29% compared to 61.71% in 2020.

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Income Tax Expense

Income tax expense was $9.3 million for the year ended December 31, 2021, compared with $8.4 million for the year ended December 31, 2020. The effective tax rate decreased to 19.2% in 2021 from 20.2% in 2020 primarily from a shift of business to the state of Maine, which has a lower tax rate compared with other jurisdictions.

COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019

Net Interest Income

Net interest income for 2020 was $99 million compared with $90 million in 2019 primarily due to a lower cost of funds resulting from increased liquidity from growth in non-maturity deposits. The net interest margin expanded to 2.97% in 2020 compared to 2.77% in the prior year. Purchase loan accretion contributed 11 and 10 basis points to the margin in 2020 and 2019, respectively. Cost of deposits and borrowings also benefited from the Federal Reserve rate cuts in 2020 and changes in other key indexes in response to the pandemic. In total cost of funds decreased 65 basis points to 0.96% compared to 1.61% in 2019 due to the shift in funding sources to core deposits. Total interest-bearing deposit rates improved to 0.78% compared to 1.27% in 2019 from growth in core deposits and reductions in time deposits during 2020. Borrowing costs improved to 1.75% from 2.61% in 2019, on reduced borrowing levels and interest rates.

The yield on earning assets was 3.87% compared to 4.14% in 2019 reflecting loan originations and repricing of variable rate products in a lower interest rate environment. Both securities yields and loan yields dropped 22 basis points to 3.20% and 4.16%, respectively for 2020. The 2020 adjusted net interest margin (non-GAAP measure), which excludes PPP loans was 2.93% compared to 2.77% for 2019, which included a drag of 16 basis points and one basis point, respectively from excess liquidity reflected in interest-bearing deposits with other banks.

Loan Loss Provision

The provision was $6 million in 2020 compared to $2 million in 2019. Credit quality metrics improved with decreases in non-accruing and past due loans. Overall credit quality remains strong, the increase in the provision is indicative of commercial loan growth and higher economic adjustments reflecting elevated risk from COVID-19.

Non-Interest Income

Non-interest income in 2020 increased to $43 million from $29 million in 2019 driven primarily by increases in mortgage banking income and gains on sold securities. The $5 million increase in mortgage banking income is associated with secondary market sales of $223 million compared to $63 million in 2019. The Company took advantage of unrealized gains in the securities portfolio in 2020 by selling certain investments for a net gain of $5 million. Customer loan derivative income also contributed to non-interest income as demand for these products remained strong within the commercial loan pipeline throughout the year. Customer services fees increased by over $1 million to $11 million resulting from expanded operations into Central Maine offset by impacts of the pandemic on these services. Wealth management income grew over $1 million to $13 million in 2020. The increase reflects a full year of having assets under management acquired in the fourth quarter of 2019 totaling $218 million.

Non-Interest Expense

Non-interest expense was $95 million in 2020 compared to $90 million in 2019. The increase is primarily a result of a $4 million higher salary and benefit expense due to the expanded branch model and wealth management business. Salary and benefit expense was also impacted by larger accruals for incentives on improved performance metrics and post-retirement plan costs based on lower discount rates. Additionally, occupancy and equipment costs increased by $3 million based on the expanded footprint in central Maine. Operating expenses remained controlled as the efficiency ratio (non-GAAP) improved to 61.71% in 2020 from 64.95% in 2019. Non-recurring expenses in 2020 primarily consisted of a $4 million loss on termination of a $50.0 million swap on wholesale borrowings and a $1 million loss on extinguishment of debt on longer-term and higher cost FHLB borrowings. The remaining represents costs for profitability initiatives including trust system conversion and consolidation. Non-recurring expenses in 2019 included a $3 million loss on interest rate cap terminations, $3 million related to the branch acquisition, and $2 million related to branch optimization and other strategic initiatives.

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Income Tax Expense

Income tax expense was $8 million for the year ended December 31, 2020, compared with $4 million for the year ended December 31, 2019. The effective tax rate increased to 20.2% in 2020 from 15.7% in 2019, reflecting the higher level of taxable income and lower level of non-tax advantaged income in 2020. This reflects higher income in 2020 from the Company’s expanded customer base in the state of Maine along with higher core deposits that carry a lower cost of funds.

LIQUIDITY AND CASH FLOWS

Liquidity is measured by the Company’s ability to meet short-term cash needs at a reasonable cost or minimal loss. The Company seeks to obtain favorable sources of liabilities and to maintain prudent levels of liquid assets in order to satisfy varied liquidity demands. Besides serving as a funding source for maturing obligations, liquidity provides flexibility in responding to customer initiated needs. Many factors affect the Company’s ability to meet liquidity needs, including variations in the markets served by its network of offices, its mix of assets and liabilities, reputation and credit standing in the marketplace, and general economic conditions.

The Bank actively manages its liquidity position through target ratios established under its Asset Liability Management Policy. Continual monitoring of these ratios, by using historical data and through forecasts under multiple rate and stress scenarios, allows the Bank to employ strategies necessary to maintain adequate liquidity. The Bank’s policy is to maintain a liquidity position of at least 8% of total assets. A portion of the Bank’s deposit base has been historically seasonal in nature, with balances typically declining in the winter months through late spring, during which period the Bank’s liquidity position tightens.

The Bank maintains a liquidity contingency plan approved by the Bank’s Board of Directors. This plan addresses the steps that would be taken in the event of a liquidity crisis, and identifies other sources of liquidity available to the Company. Company management believes that the level of liquidity is sufficient to meet current and future funding requirements. However, changes in economic conditions, including consumer savings habits and availability or access to the brokered deposit market could potentially have a significant impact on the Company’s liquidity position.

The Company believes the existing cash and cash equivalents (including an interest-bearing deposit at the FRB Boston), securities available for sale and cash flows from operating activities will be sufficient to meet anticipated cash needs for at least the next twelve months. Future working capital needs will depend on many factors, including the rate of business and revenue growth. To the extent cash and cash equivalents, securities available for sale and cash flows from operating activities are insufficient to fund future activities, the Company may need to raise additional funds through debt arrangements or public or private debt or equity financings. The Company also may need to raise additional funds in the event it is determined in the future to effect one or more acquisitions of banks or businesses. If additional funding is required, the Company may not be able to obtain debt arrangements or to effect an equity or debt financing on terms acceptable to the Company or at all.

Capital Resources

Consistent with its long-term goal of operating a sound and profitable organization, at December 31, 2021, the Company maintained its strong capital position and continued to be a “well-capitalized” financial institution according to applicable regulatory standards. Management believes this to be vital in promoting depositor and investor confidence and providing a solid foundation for future growth.

The Company’s liquidity position remains strong. At December 31, 2021, available same-day liquidity totaled approximately $1.2 billion, including cash, borrowing capacity at FHLB and the Federal Reserve Discount Window and various lines of credit. Additional sources of liquidity include cash flows from operations, wholesale deposits, cash flow from the Company's amortizing securities and loan portfolios. The Company had unused borrowing capacity at the FHLB of $472 million, unused borrowing capacity at the Federal Reserve of $65 million and unused lines of credit totaling $51 million, in addition to over $200 million in unencumbered, liquid investment portfolio assets. The Company has also utilized the Federal Reserve's Paycheck Protection Program Liquidity Facility to provide liquidity to fund PPP loans.

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Purchase Obligations

In the normal course of conducting its banking and financial services business, and in connection with providing products and services to its customers, the Company has entered into a variety of traditional third-party contracts for support services. Examples of such contractual agreements include, but are not limited to: services providing core banking systems, ATM and debit card processing, trust services software, accounting software and the leasing of T-1 telecommunication lines and other technology infrastructure supporting the Company’s network. These types of purchase obligations that will come due during 2022 totaled $4.4 million as of December 31, 2021 which is expected to be funded by cash flows generated from operations.

IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS

Please refer to the notes on Recently Adopted Accounting Principles and Future Application of Accounting Pronouncements in Note 1 – Summary of Significant Accounting Policies of the Consolidated Financial Statements.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Note 1 – Summary of Significant Accounting Policies to the Company's Audited Consolidated Financial Statements for the year ended December 31, 2021 contains a summary of significant accounting policies. Various elements of these accounting policies, by their nature, are subject to estimation techniques, valuation assumptions and other subjective assessments. Certain assets are carried in the consolidated statements of financial condition at estimated fair value or the lower of cost or estimated fair value. Policies with respect to the methodology used to determine the allowance for credit losses is a critical accounting policy and estimate because of its importance to the presentation of the Company's financial condition and results of operations. The critical accounting policy involves a higher degree of complexity and requires management to make difficult and subjective judgments which often require assumptions or estimates about highly uncertain matters. The use of different judgments, assumptions, and estimates could result in material differences in the results of operations or financial condition.

Allowance for credit losses on loans.

Effective January 1, 2021, the Company adopted CECL, which replaced the incurred loss allowance methodology with an expected loss allowance methodology. See Note 1– Summary of Significant Accounting Policies and Note 3 – Loans and Allowance for Credit Losses to the consolidated financial statements for information about CECL adoption, areas of judgment and methodologies used in establishing the allowance.

The allowance is sensitive to a number of internal factors, such as modifications in the mix and level of loan balances outstanding, portfolio performance and assigned risk ratings. The allowance is also sensitive to external factors such as the general health of the economy, as evidenced by changes in unemployment rates, home pricing index, gross domestic product, retail sales, multi-housing starts and changes in commercial real estate values. The Company considers these variables and all other available information when establishing the final level of the allowance. These variables and others have the ability to result in actual loan losses that differ from the originally estimated amounts.

Changes in the factors used by management to determine the appropriateness of the allowance or the availability of new information could cause the allowance to be increased or decreased in future periods. Additionally, changes in circumstances related to individually large credits, or certain macroeconomic forecast assumptions may result in volatility.

It is difficult to estimate how potential changes in any one economic factor might affect the overall allowance because a wide variety of factors and inputs are considered in the allowance estimate. Changes in the factors and inputs may not occur at the same rate and may not be consistent across all product types. Additionally, changes in factors and inputs may be directionally inconsistent, such that improvement in one factor may offset deterioration in others. However, to consider the impact of a hypothetical stressed forecast, the Company estimated the allowance using forecast inputs that were severely unfavorable to the expected scenario for each macroeconomic variable. This unfavorable scenario resulted in an allowance that is approximately $8.8 million higher than the allowance using the expected scenario.

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