# Bank of Marin Bancorp (BMRC) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from Bank of Marin Bancorp's 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1403475/000140347523000015/bmrc-20221231.htm
Accession: 0001403475-23-000015
Filing date: 2023-03-16
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/BMRC/
All MD&A years: /company/BMRC/mda/
Previous year: /company/BMRC/mda/fy2021/ (FY 2021)
Next year: /company/BMRC/mda/fy2023/ (FY 2023)

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

The following discussion of financial condition as of December 31, 2022 and 2021 and results of operations for each of the years in the three-year period ended December 31, 2022 should be read in conjunction with our consolidated financial statements and related notes thereto, included in Part II ITEM 8 of this report.

Forward-Looking Statements

The disclosures set forth in this item are qualified by important factors detailed in Part I captioned Forward-Looking Statements and ITEM 1A captioned Risk Factors of this report and other cautionary statements set forth elsewhere in the report.

Critical Accounting Estimates

Critical accounting estimates are those estimates made in accordance with generally accepted accounting principles that involve a significant level of estimation and uncertainty and have had or are reasonably likely to have a material impact on our financial condition and results of operations. We consider accounting estimates to be critical to our financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain, (ii) management could have applied different assumptions during the reported period, and (iii) changes in the accounting estimate are reasonably likely to occur in the future and could have a material impact on our financial statements. Management has determined the following accounting estimates and related policies to be critical.

Allowance for Credit Losses on Loans and Unfunded Commitments

The allowance for credit losses on loans is a valuation account that is deducted from the amortized cost basis at the balance sheet date to present the net amount of loans expected to be collected. The allowance for losses on unfunded loan commitments is based on estimates of probability that these commitments will be drawn upon according to historical utilization experience, expected loss severity and loss rates as determined for pooled funded loans. The allowance for credit losses on unfunded commitments is a liability account included in interest payable and other liabilities. Management estimates these allowances quarterly using relevant available information, from

23

internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. Credit loss experience among the Bank and peer groups provides the basis for the estimation of expected credit losses.

The allowance for credit losses ("ACL") model utilizes a discounted cash flow ("DCF") method to measure the expected credit losses on loans collectively evaluated that are sub-segmented by loan pools with similar credit risk characteristics, which generally correspond to federal regulatory reporting codes. In addition, the DCF method incorporates assumptions for probability of default ("PD"), loss given default ("LGD"), and prepayments and curtailments over the contractual terms of the loans. Under the DCF method, the ACL reflects the difference between the amortized cost basis and the present value of the expected cash flows using the loan's effective rate.

Management considers whether adjustments to the quantitative portion of the ACL are needed for differences in segment-specific risk characteristics or to reflect the extent to which it expects current conditions and reasonable and supportable forecasts of economic conditions to differ from the conditions that existed during the historical period included in the development of PD and LGD.

Our allowance model is particularly sensitive to forecasted and seasonally-adjusted actual California unemployment rates, which decreased to 4.1% at December 31, 2022 from 5.8% at December 31, 2021. The ACL model incorporates a one-year forecast. For periods beyond the forecast horizon the economic factors revert to historical averages on a straight-line basis over a one-year period. We performed a sensitivity analysis as of December 31, 2022 and determined that a 1% change (e.g., 4.5% to 5.5%) in the forecasted quarterly unemployment rates over the next four quarters resulted in a 6% change to our allowance for credit losses on loans. This impact does not consider other assumption changes to either the quantitative factors, such as probability of default, loss given default, loan mix or cash flows, prepayment/curtailment rates, and individually analyzed loans, or qualitative factors as discussed in Note 1 - Summary of Significant Accounting Policies. Additionally, because current economic conditions and forecasts can change, as future events are inherently difficult to predict, the estimated credit losses on loans and unfunded commitments could change significantly.

While we believe we use the best information available to determine the allowance for credit losses, our results of operations could be significantly affected if circumstances differ substantially from the assumptions used in determining the allowance. For information regarding critical estimates related to our allowance for credit losses methodology, the provision for credit losses, and risks to asset quality and lending activity, see ITEM 1A - Risk Factors, the Allowance for Credit Losses section in ITEM 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations,

Income Taxes

We are subject to the income tax laws of the U.S., its states, and the municipalities in which we operate. These tax laws are complex and subject to different interpretations by us and the government taxing authorities. We review our provision for income tax expense monthly and calculate the carrying value of deferred tax assets and liabilities quarterly. In establishing a provision for income tax expense, we make judgments and interpretations about the application of these inherently complex tax laws. In addition, our estimates include making judgements about when future items will affect taxable income. Although management believes that the judgments and estimates used are reasonable, actual results could differ and we may be exposed to losses or gains that could be material. For further information on our tax assets and liabilities, and related provision for income taxes, see Note 1 - Summary of Significant Accounting Policies and Note 11 - Income Taxes in ITEM 8 - Financial Statements and Supplementary Data of this Form 10-K.

Fair Value Measurements

We use fair value measurements to record certain financial instruments and to determine fair value disclosures. Available-for-sale securities and interest rate swap agreements are financial instruments recorded at fair value on a recurring basis. Additionally, we record at fair value other financial assets on a nonrecurring basis such as collateral dependent loans and other real estate owned. These nonrecurring fair value adjustments typically involve write-downs of, or specific reserves against, individual assets. We group our assets and liabilities that are measured at fair value into three levels within the fair value hierarchy, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. The classification of assets and liabilities

24

within the hierarchy is based on whether the inputs to the valuation methodology used in the measurement are observable or unobservable. Observable inputs reflect market-driven or market-based information obtained from independent sources, while unobservable inputs reflect our estimates about market data. The degree of management judgment involved in determining the fair value of a financial instrument is dependent upon the availability of quoted market prices or observable market data. For financial instruments that trade actively and have quoted market prices or observable market data, there is minimal subjectivity involved in measuring fair value. When observable market prices and data are not fully available, management judgment is necessary to estimate fair value. In addition, changes in the market conditions may reduce the availability of quoted prices or observable data. Therefore, when market data is not available, we use valuation techniques that require more management judgment to estimate the appropriate fair value measurement. Fair value is discussed further in Note 1 - Summary of Significant Accounting Policies and Note 9 - Fair Value of Assets and Liabilities in ITEM 8 - Financial Statements and Supplementary Data of this Form 10-K.

Business Combinations

Business combinations are accounted for using the acquisition method of accounting where the assets and liabilities of the acquired entities have been recorded at their estimated fair values at the date of acquisition. Goodwill represents the excess of the purchase price over the fair value of net assets acquired. The purchase price allocation process requires significant judgment in the estimation of the fair values of the assets acquired and the liabilities assumed. Management may obtain third-party valuations such as appraisals or discounted cash flow analyses, or we may derive fair values internally using techniques as discussed in Fair Value Measurements above. Management assesses qualifications of third-party valuation specialists, reviews assumptions applied and takes responsibility for the results of fair value estimates. Merger-related expenses include costs directly related to merger activity such as legal and professional fees, system consolidation and conversion costs, and compensation costs associated with employee severance and retention incentives. We account for merger-related costs as expenses in the periods in which the costs are incurred and the services received. Accounting policies and estimates are discussed further in Note 1 - Summary of Significant Accounting Policies and Note 18 - Merger in ITEM 8 - Financial Statements and Supplementary Data of this Form 10-K.

25

RESULTS OF OPERATIONS

Financial Highlights

The following are highlights of our financial condition and results of operations. The data was derived from the audited consolidated financial statements of Bank of Marin Bancorp.

[[GREPCENT_TABLE]]
[["","","At December 31,"],["(dollars in thousands, except per share data)","","2022","2021"],["Selected financial condition data:"],["Total assets","","$","4,147,464","","$","4,314,209"],["Investment securities","","$","1,774,303","","$","1,509,790"],["Loans, net of allowance for credit losses on loans 1","","$","2,069,563","","$","2,232,622"],["Deposits","","$","3,573,348","","$","3,808,550"],["Borrowings and other obligations","","$","112,439","","$","419"],["Stockholders' equity","","$","412,092","","$","450,368"],["Asset quality ratios:"],["Allowance for credit losses to total loans","","1.10","%","1.02","%"],["Allowance for credit losses to total loans, excluding SBA PPP loans 2","","1.10","%","1.07","%"],["Allowance for credit losses to non-accrual loans","","9.45x","2.75x"],["Non-accrual loans to total loans","","0.12","%","0.37","%"],["Capital ratios:"],["Tangible common equity to tangible assets","","8.21","%","8.76","%"],["Total capital (to risk-weighted assets)","","15.90","%","14.58","%"],["Tier 1 capital (to risk-weighted assets)","","15.02","%","13.70","%"],["Tier 1 capital (to average assets)","","9.60","%","8.85","%"],["Common equity Tier 1 capital (to risk-weighted assets)","","15.02","%","13.70","%"],["Other data:"],["Loan-to-deposit ratio","","58.56","%","59.23","%"],["Number of branches","","31","31"],["Full-time equivalent employees","","313","328"],["","For the Years Ended December 31,"],["(dollars in thousands, except per share data)","2022","2021","2020"],["Selected operating data:"],["Net interest income","$","127,492","","$","104,951","","$","96,659"],["(Reversals of) provision for credit losses on loans and unfunded loan commitments, net","(381)","","(2,441)","","6,164"],["Non-interest income","10,905","","10,132","","8,550"],["Non-interest expense 3","75,269","","72,638","","58,458"],["Net income 3","46,586","","33,228","","30,242"],["Net income per common share:"],["Basic","$","2.93","","$","2.32","","$","2.24"],["Diluted","$","2.92","","$","2.30","","$","2.22"],["Performance and other financial ratios:"],["Return on average assets","1.08","%","0.94","%","1.04","%"],["Return on average equity","11.16","%","8.43","%","8.60","%"],["Tax-equivalent net interest margin","3.11","%","3.17","%","3.55","%"],["Cost of deposits","0.06","%","0.07","%","0.11","%"],["Efficiency ratio","54.39","%","63.12","%","55.56","%"],["Cash dividend payout ratio on common stock 4","33.45","%","40.52","%","41.07","%"],["Cash dividends per common share","$","0.98","","$","0.94","","$","0.92"],["1 Includes SBA PPP loans of $3.5 million at December 31, 2022 and $111.2 million at December 31, 2021.2 The allowance for credit losses to total loans, excluding SBA-guaranteed PPP loans, is considered a meaningful non-GAAP financial measure, as it represents only those loans that were considered in the calculation of the allowance for credit losses. Refer to footnote 1 above for SBA PPP totals.3 2022 and 2021 included $858 thousand (or $604 thousand, net of taxes) and $6.5 million (or $4.9 million, net of taxes), respectively, in merger-related and conversion costs. 4 Calculated as dividends on common shares divided by basic net income per common share."]]
[[/GREPCENT_TABLE]]

26

Executive Summary

Annual earnings were $46.6 million in 2022 compared to $33.2 million in 2021. Diluted earnings were $2.92 per share in 2022, compared to $2.30 per share in 2021.

The following are highlights of operating and financial performance for the year ended December 31, 2022:

•Merger-related and conversion costs reduced net income by $604 thousand, or 4 cents per share in 2022, compared to $4.9 million, or 34 cents per share in 2021. As shown in the reconciliation of GAAP to non-GAAP financial measures on page 28, year-to-date return on average assets of 1.08% and return on average equity of 11.16% excluding these costs would have been 1.10% and 11.31%, respectively, compared to 1.08% and 9.67%, respectively, in 2021.

•Loans decreased by $163.1 million in 2022, or 7%, to $2.093 billion as of December 31, 2022, from $2.256 billion as of December 31, 2021. Loan originations of $240.2 million in 2022 were the second highest on record, while payoffs were uncharacteristically high. Payoffs included both Paycheck Protection Program ("PPP") loans and $258.5 million of non-PPP loans, many of which were outside the Bank's control and resulted from activities such as sales of businesses and properties, cash repayments, and project completions. Shortly after December 31, we originated $45 million in commercial loans that were in process at year-end, $20 million of which was syndicated to a participant bank.

•Credit quality remained strong and improved during 2022, with classified loans decreasing $8.1 million and non-accrual loans representing 0.12% of the total loans as of December 31, 2022, compared to 0.37% as of December 31, 2021. Non-accrual loans dropped by $5.9 million (or 71%) in 2022, substantially due to the payoff of three commercial real estate loans from two borrowers. Subsequent to year-end, an additional $1.2 million in non-accrual loans paid off. In 2022 and 2021, we recorded net reversals of the provision for credit losses on loans of $63 thousand and $1.4 million, respectively. In addition, in 2022 and 2021, we recorded net reversals of the provision for credit losses on unfunded commitments of $318 thousand and $992 thousand, respectively.

•Deposits decreased by $235.2 million to $3.573 billion as of December 31, 2022, compared to $3.809 billion as of December 31, 2021, as the Bank continued to carefully manage deposit costs. The decline was a result of anticipated outflows due to planned business activities by a few large clients and some customers moving into alternative investments. At the end of 2021, the Bank held $347.6 million in cash and cash equivalents, and $173.1 million in off-balance sheet amounts with deposit networks in anticipation of expected and potential unexpected deposit outflows during 2022. There were no balances held with deposit networks at the end of 2022. Despite the decrease, non-interest bearing deposits to total deposits increased slightly to 51.5% as of December 31, 2022, compared to 50.2% as of December 31, 2021. Cost of deposits remained low at 0.06% in 2022, down slightly from 0.07% in 2021.

•Net interest income totaled $127.5 million and $105.0 million in 2022 and 2021, respectively. The $22.5 million increase from the prior year was primarily due to higher balances in the investment securities and commercial real estate loan portfolios, a full year of net interest income from acquired earning assets of American River Bankshares ("AMRB"), compared to five months in 2021, and the early redemption of subordinated debt that generated $1.4 million of interest expense in 2021. The tax-equivalent net interest margin decreased by 6 basis points to 3.11% in 2022, compared to 3.17% in 2021, as the proportion of average investment securities to average total interest-earning assets grew from 26% in 2021 to 44% in 2022 and fee income from PPP loans declined.

•The efficiency ratio was 54.39% in 2022, compared to 63.12% in 2021. As shown in the reconciliation of GAAP to non-GAAP financial measures on page 28, the efficiency ratios excluding merger-related and conversion costs would have been 53.77% and 57.51% in 2022 and 2021, respectively.

•After careful consideration, the Bank decided to close four brick-and-mortar branch locations in March 2023. The acquisition of American River Bankshares resulted in an overlap in the Bank’s branch network in Santa Rosa and Healdsburg, prompting branch consolidations within Northern Sonoma County. In addition, our

27

Tiburon and Buckhorn branches in Southern Marin and Amador counties are close to other branches that can serve our customers. These closures fulfill the remaining expense savings anticipated from the acquisition, improve efficiency and optimize our delivery channels while generating savings that will help to fund strategic initiatives going forward. The expected pre-tax savings in 2023 from the branch closures, net of accelerated costs, is approximately $470 thousand, and future annual pre-tax savings are expected to be approximately $1.4 million.

•All capital ratios were above regulatory requirements for a well-capitalized institution. The total risk-based capital ratio for Bancorp was 15.9% at December 31, 2022 and 14.6% at December 31, 2021. Tangible common equity to tangible assets declined to 8.2% at December 31, 2022 from 8.8% at December 31, 2021, primarily due to $71.7 million increase in after-tax unrealized losses on available-for-sale securities associated with interest rate changes since December 31, 2021, partially offset by incremental earnings and the smaller balance sheet in 2022. The total risk-based capital ratio for the Bank was 15.7% at December 31, 2022 and 14.4% at December 31, 2021.

•The Board of Directors declared a cash dividend of $0.25 per share on January 20, 2023. This is the 71st consecutive quarterly dividend paid by Bank of Marin Bancorp. The cash dividend was paid on February 10, 2023 to shareholders of record at the close of business on February 3, 2023.

•As recent events in the marketplace unfold, including the closures of Silicon Valley Bank on March 10, 2023 followed by Signature Bank on March 12, 2023, the Bank remains focused on our banking relationships. We believe our deposit franchise is sound, with a focus on core deposits from community-based customers with whom we have strong relationships. Those relationships are centered around the needs of local corporations, business operators and real estate investors, with very little exposure to technology start-up companies and no exposure to digital assets, two areas of risk that strongly influenced the aforementioned closures. On March 13, 2023, we initiated an outreach effort to answer our customers' questions or concerns about the recent events, strengths of the Bank, and other matters such as FDIC insurance coverage. In February 2023, we enhanced our borrowing capacity at the FHLB by pledging certain held-to-maturity securities to the Securities-Backed Credit Program, increasing our total immediate contingent funding sources to approximately $2.0 billion, or 59% of total deposits as of February 28, 2023. The Bank also has the option to add another $267 million to its borrowing capacity through the Federal Reserve’s new Bank Term Funding Program ("BTFP").

28

Statement Regarding Use of Non-GAAP Financial Measures

In this Form 10-K, Bancorp's financial results are presented in accordance with GAAP and refer to certain non-GAAP financial measures. Management believes that presentation of operating results using non-GAAP financial measures provides useful supplemental information to investors and facilitates the analysis of Bancorp's operating results and comparison of operating results across reporting periods. Management also uses non-GAAP financial measures to establish budgets and manage Bancorp's business. A reconciliation of the GAAP financial measures to comparable non-GAAP financial measures is presented below.

[[GREPCENT_TABLE]]
[["Reconciliation of GAAP and Non-GAAP Financial Measures"],["","Year ended December 31,"],["(in thousands, except share data; unaudited)","2022","2021","2020"],["Net income"],["Net income (GAAP)","$","46,586","","$","33,228","","$","30,242"],["Merger-related and conversion costs:"],["Personnel and severance","393","","3,005","","\u2014"],["Professional services","67","","1,976","","\u2014"],["Data processing","77","","1,127","","\u2014"],["Other","321","","350","","\u2014"],["Total merger costs before tax benefits","858","","6,458","","\u2014"],["Income tax benefit of merger-related expenses","(254)","","(1,547)","","\u2014"],["Total merger-related and conversion costs, net of tax benefits","604","","4,911","","\u2014"],["Comparable net income (non-GAAP)","$","47,190","","$","38,139","","$","30,242"],["Diluted earnings per share"],["Weighted average diluted shares","15,969","","14,422","","13,617"],["Diluted earnings per share (GAAP)","$","2.92","","$","2.30","","$","2.22"],["Merger-related and conversion costs, net of tax benefits","0.04","","0.34","","\u2014"],["Comparable diluted earnings per share (non-GAAP)","$","2.96","","$","2.64","","$","2.22"],["Return on average assets"],["Average assets","$","4,304,511","","$","3,537,163","","$","2,897,165"],["Return on average assets (GAAP)","1.08","%","0.94","%","1.04","%"],["Comparable return on average assets (non-GAAP)","1.10","%","1.08","%","1.04","%"],["Return on average equity"],["Average stockholders' equity","$","417,344","","$","394,363","","$","351,494"],["Return on average equity (GAAP)","11.16","%","8.43","%","8.60","%"],["Comparable return on average equity (non-GAAP)","11.31","%","9.67","%","8.60","%"],["Efficiency ratio"],["Non-interest expense (GAAP)","$","75,269","","$","72,638","","$","58,458"],["Merger-related expenses","(858)","","(6,458)","","\u2014"],["Non-interest expense (non-GAAP)","$","74,411","","$","66,180","","$","58,458"],["Net interest income","$","127,492","","$","104,951","","$","96,659"],["Non-interest income","$","10,905","","$","10,132","","$","8,550"],["Efficiency ratio (GAAP)","54.39","%","63.12","%","55.56","%"],["Comparable efficiency ratio (non-GAAP)","53.77","%","57.51","%","55.56","%"]]
[[/GREPCENT_TABLE]]

29

Net Interest Income

Net interest income is the interest earned on loans, investment securities and other interest-earning assets minus interest expense incurred on deposits and other interest-bearing liabilities. Net interest income is affected by changes in general market interest rates and by changes in the amounts and composition of interest-earning assets and interest-bearing liabilities. Interest rate changes can create fluctuations in net interest income and/or margin due to an imbalance in the timing of repricing or maturity of assets or liabilities. We manage interest rate risk exposure with the goal of optimizing the effect of interest rate volatility on net interest income.

Net interest margin is expressed as net interest income divided by average interest-earning assets. Net interest rate spread is the difference between the average rate earned on total interest-earning assets and the average rate incurred on total interest-bearing liabilities. Both of these measures are reported on a taxable-equivalent basis. Net interest margin is the higher of the two because it reflects interest income earned on assets funded with non-interest-bearing sources of funds, which include demand deposits and stockholders’ equity.

The following table compares interest income, average interest-earning assets, interest expense, and average interest-bearing liabilities for the periods presented. The table also presents net interest income, net interest margin and net interest rate spread for the years indicated.

[[GREPCENT_TABLE]]
[["Average Statements of Condition and Analysis of Net Interest Income"],["","","Year ended","","Year ended","","Year ended"],["","","December 31, 2022","","December 31, 2021","","December 31, 2020"],["","","","Interest","","","","Interest","","","","Interest"],["","","Average","Income/","Yield/","","Average","Income/","Yield/","","Average","Income/","Yield/"],["(dollars in thousands; unaudited)","Balance","Expense","Rate","","Balance","Expense","Rate","","Balance","Expense","Rate"],["Assets"],["","Interest-earning deposits with banks 1","$","120,395","","$","1,407","","1.15","%","","$","287,626","","$","399","","0.14","%","","$","153,794","","$","461","","0.29","%"],["","Investment securities 2, 3","1,796,628","","35,534","","1.98","%","","866,790","","16,999","","1.96","%","","533,186","","15,025","","2.82","%"],["","Loans 1, 3, 4","2,175,259","","94,614","","4.29","%","","2,155,982","","92,376","","4.23","%","","2,023,203","","85,398","","4.15","%"],["","Total interest-earning assets 1","4,092,282","","131,555","","3.17","%","","3,310,398","","109,774","","3.27","%","","2,710,183","","100,884","","3.66","%"],["","Cash and non-interest-bearing due from banks","53,534","","","","","61,299","","","","","49,676"],["","Bank premises and equipment, net","7,400","","","","","5,964","","","","","5,526"],["","Interest receivable and other assets, net","151,295","","","","","159,502","","","","","131,780"],["Total assets","$","4,304,511","","","","","$","3,537,163","","","","","$","2,897,165"],["Liabilities and Stockholders' Equity"],["","Interest-bearing transaction accounts","$","294,682","","$","421","","0.14","%","","$","217,924","","$","172","","0.08","%","","$","148,817","","$","186","","0.13","%"],["","Savings accounts","341,710","","125","","0.04","%","","268,397","","94","","0.04","%","","184,146","","68","","0.04","%"],["","Money market accounts","1,065,104","","1,589","","0.15","%","","864,625","","1,520","","0.18","%","","763,689","","2,009","","0.26","%"],["","Time accounts, including CDARS","140,547","","323","","0.23","%","","115,393","","246","","0.21","%","","96,558","","554","","0.57","%"],["","Borrowings and other obligations 1, 6","2,295","","91","","3.90","%","","892","","9","","1.08","%","","174","","4","","2.16","%"],["","Subordinated debenture 1, 5","\u2014","","\u2014","","\u2014","%","","534","","1,361","","251.54","%","","2,741","","158","","5.68","%"],["","Total interest-bearing liabilities","1,844,338","","2,549","","0.14","%","","1,467,765","","3,402","","0.23","%","","1,196,125","","2,979","","0.25","%"],["","Demand accounts","1,993,373","","","","","1,628,289","","","","","1,308,199"],["","Interest payable and other liabilities","49,456","","","","","46,746","","","","","41,347"],["","Stockholders' equity","417,344","","","","","394,363","","","","","351,494"],["Total liabilities & stockholders' equity","$","4,304,511","","","","","$","3,537,163","","","","","$","2,897,165"],["Tax-equivalent net interest income/margin 1","","$","129,006","","3.11","%","","","$","106,372","","3.17","%","","","$","97,905","","3.55","%"],["Reported net interest income/margin 1","","$","127,492","","3.07","%","","","$","104,951","","3.13","%","","","$","96,659","","3.51","%"],["Tax-equivalent net interest rate spread","","","3.03","%","","","","3.04","%","","","","3.41","%"],["1 Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated interest rate terms, where applicable."],["2 Yields on available-for-sale securities are calculated based on amortized cost balances rather than fair value, as changes in fair value are reflected as a component of stockholders' equity. Investment security interest is earned on 30/360 day basis monthly."],["3 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21%."],["4 Average balances on loans outstanding include non-performing loans. The amortized portion of net loan origination fees is included in interest income on loans, representing an adjustment to the yield."],["5 2021 interest on the subordinated debenture included $1.3 million in accelerated discount accretion from the early redemption of our last subordinated debenture on March 15, 2021."],["6 Average balances and rate consider $13.9 million in FHLB borrowings acquired from AMRB that were redeemed on August 25, 2021."]]
[[/GREPCENT_TABLE]]

30

Analysis of Changes in Net Interest Income

The following table presents the effects of changes in average balances (volume) or changes in average rates on tax-equivalent net interest income for the years indicated. Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates. Rate variances are equal to the increase or decrease in rates multiplied by prior period average balances. Mix variances are attributable to the change in yields or rates multiplied by the change in average balances.

[[GREPCENT_TABLE]]
[["","2022 compared to 2021","2021 compared to 2020"],["(in thousands, unaudited)","Volume","Yield/Rate","Mix","Total","Volume","Yield/Rate","Mix","Total"],["Interest-earning deposits with banks","$","(233)","","$","2,961","","$","(1,720)","","$","1,008","","$","401","","$","(247)","","$","(216)","","$","(62)"],["Investment securities 1","18,233","","146","","156","","18,535","","9,400","","(4,568)","","(2,858)","","1,974"],["Loans 1","826","","1,401","","11","","2,238","","5,605","","1,526","","(153)","","6,978"],["Total interest-earning assets","18,826","","4,508","","(1,553)","","21,781","","15,406","","(3,289)","","(3,227)","","8,890"],["Interest-bearing transaction accounts","61","","139","","49","","249","","90","","(75)","","(29)","","(14)"],["Savings accounts","26","","5","","\u2014","","31","","31","","(3)","","(2)","","26"],["Money market accounts","352","","(229)","","(54)","","69","","266","","(663)","","(92)","","(489)"],["Time accounts, including CDARS","54","","19","","4","","77","","108","","(348)","","(68)","","(308)"],["Borrowings and other obligations","16","","25","","41","","82","","16","","(2)","","(9)","","5"],["Subordinated debenture","\u2014","","(1,361)","","\u2014","","(1,361)","","(127)","","6,851","","(5,521)","","1,203"],["Total interest-bearing liabilities","509","","(1,402)","","40","","(853)","","384","","5,760","","(5,721)","","423"],["Tax-equivalent net interest income","$","18,317","","$","5,910","","$","(1,593)","","$","22,634","","$","15,022","","$","(9,049)","","$","2,494","","$","8,467"],["1 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21%."]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Net interest income totaled $127.5 million in 2022, compared to $105.0 million in 2021. The $22.5 million increase from the prior year was primarily due to higher balances in the investment and commercial real estate loan portfolios, which added $18.4 million and $6.1 million, respectively, to net interest income. Additionally, 2022 incorporated a full year of net interest income from acquired earning assets of AMRB, compared to five months in 2021. Average interest-bearing liabilities increased $376.6 million while the average cost dropped nine basis points, largely due to the extinguishment of subordinated debt that generated $1.4 million of interest expense in 2021.

The tax-equivalent net interest margin decreased six basis points to 3.11% in 2022, from 3.17% in 2021, as the proportion of average investment securities to average total interest-earning assets grew from 26% in 2021 to 44% in 2022 and fee income from PPP loans declined.

2021 Compared to 2020

Net interest income totaled $105.0 million and $96.7 million in 2021 and 2020, respectively. The $8.3 million increase in 2021 was primarily due to higher average loan and investment securities balances. In addition, we recognized $8.3 million in SBA PPP fees, net of cost in 2021, compared to $3.8 million in 2020. These increases were partially offset by $1.4 million in interest and accelerated discount accretion on the early redemption of a subordinated debenture in the first quarter of 2021, and lower yields on investment securities.

The tax-equivalent net interest margin decreased 38 basis points to 3.17% in 2021, from 3.55% in 2020 for the reasons already mentioned and as shown in the above table. The SBA PPP loans improved the 2021 net interest margin by 10 basis points, and the early redemption of the subordinated debenture reduced it by 4 basis points.

Market Interest Rates

Market interest rates are, in part, based on the target federal funds interest rate (the interest rate banks charge each other for short-term borrowings) implemented by the Federal Reserve Open Market Committee ("FOMC").

In response to the evolving risks to economic activity caused by the COVID-19 pandemic, the FOMC made two emergency federal funds rate cuts totaling 150 basis points in March 2020. The federal funds rate range remained

31

between 0.0% to 0.25% through the beginning of 2022, putting downward pressure on our asset yields and net interest margin. Beginning in March 2022, the FOMC began successive increases to the federal funds rate due to the evolving inflation risks, international political unrest and oil and other supply chain disruptions. As a result of five rate adjustments during 2022, the federal funds target rate range increased to 4.25% to 4.50% at year-end. Subsequently, on February 1, 2023, the FOMC increased the rate by another 25 basis points to a range of 4.50% to 4.75%. As shown in the table above, higher interest rates contributed an additional $5.9 million to net interest income in 2022 compared to 2021. Additional rate increases are anticipated in 2023, as Federal Reserve policymakers continue to monitor inflation and economic developments. See ITEM 7A. Quantitative and Qualitative Disclosure about Market Risk for further information.

Provision for Credit Losses on Loans

We recorded a net $63 thousand reversal of the provision for credit losses on loans in 2022, compared to a $1.4 million reversal of the provision for credit losses in 2021 and $4.6 million provision for credit losses in 2020.

The net reversal of the provision in 2022 was largely due to a $55.4 million decrease in applicable loan balances (excludes the $107.7 million decrease in PPP loans for which there was no allowance) and improvements in the Moody's Analytics' Baseline Forecast of California unemployment rates since December 31, 2021, which decreased the quantitative "modeled" allowance for credit losses. These decreases were partially offset by adjustments to qualitative risk factors to account for the ongoing deterioration in the economic outlook that management believes is not captured in the quantitative portion of the allowance.

The net provision reversal in 2021 was primarily due to continued improvements in Moody's Analytics' Baseline Forecast of California unemployment rates and adjustments to qualitative risk factors due to a decline in the volume of loans downgraded to substandard classification, fewer delinquencies, and the elimination of an allowance related to a commercial real estate loan that had been individually analyzed for potential credit losses in the previous periods and paid off in 2021. These reversals were partially offset by an increase in the allowance for credit losses related to qualitative risk factor adjustments for recent changes in executive leadership and senior lending positions, and integration of AMRB.

The provision for credit losses in 2020 calculated under the incurred loss method (prior to the adoption of the excepted credit loss method on December 31, 2020) was largely due to the uncertainty about the impact of the COVID-19 pandemic on the local and regional economies and our customers at that time. In addition, under the CECL method, we increased our allowance for credit losses by approximately $925 thousand for previously acquired loans (i.e., non-purchased credit deteriorated or "non-PCD" loans); whereas, under previous GAAP (incurred loss method) we did not record an allowance on our unimpaired previously acquired non-PCD loans. The pandemic also negatively affected the financial condition of many of our borrowers, which was partially alleviated by our payment relief program under the 2020 CARES Act and the SBA PPP.

Non-interest Income

The table below details the components of non-interest income.

[[GREPCENT_TABLE]]
[["","","2022 compared to 2021","2021 compared to 2020"],["","Years ended December 31,","Amount Increase (Decrease)","Percent Increase (Decrease)","Amount Increase (Decrease)","Percent Increase (Decrease)"],["(dollars in thousands; unaudited)","2022","2021","2020"],["Wealth Management and Trust Services","$","2,227","","$","2,222","","$","1,851","","$","5","","0.2","%","$","371","","20.0","%"],["Earnings on bank-owned life insurance, net","1,229","","2,194","","973","","(965)","","(44.0)","%","1,221","","125.5","%"],["Debit card interchange fees, net","2,051","","1,812","","1,438","","239","","13.2","%","374","","26.0","%"],["Service charges on deposit accounts","2,007","","1,593","","1,314","","414","","26.0","%","279","","21.2","%"],["Dividends on Federal Home Loan Bank stock","1,056","","760","","654","","296","","38.9","%","106","","16.2","%"],["Merchant interchange fees, net","549","","422","","239","","127","","30.1","%","183","","76.6","%"],["(Losses) gains on investment securities, net","(63)","","(16)","","915","","(47)","","293.8","%","(931)","","(101.7)","%"],["Other income","1,849","","1,145","","1,166","","704","","61.5","%","(21)","","(1.8)","%"],["Total non-interest income","$","10,905","","$","10,132","","$","8,550","","$","773","","7.6","%","$","1,582","","18.5","%"]]
[[/GREPCENT_TABLE]]

32

2022 Compared to 2021

Non-interest income totaled $10.9 million in 2022, a $773 thousand increase from $10.1 million in 2021. The increase was primarily due to higher fees on deposit balances held in off-balance sheet deposit networks contributing $504 thousand in additional income, $414 thousand more service charges on deposit accounts, $296 thousand higher FHLB dividends, and a combination of smaller increases. Increases were partially offset by a $965 thousand reduction in bank-owned life insurance as the prior year included $1.1 million in benefits collected on insurance policies. Additionally, 2022 incorporated a full year of non-interest income from the AMRB acquisition, compared to five months in 2021.

2021 Compared to 2020

Non-interest income totaled $10.1 million and $8.6 million in 2021 and 2020, respectively. The $1.5 million increase was primarily due to the collection of $1.1 million in benefits on bank-owned life insurance policies and an increase in service charges and interchange fees related to the expanded deposit base. In March 2020, we implemented temporary waivers for all ATM fees, overdraft fees and early withdrawal penalties for time deposits to help ease the financial burden customers began experiencing due to the pandemic. We reinstituted the fees in May 2021. Additionally, Wealth Management and Trust income increased due to the addition of new accounts and favorable market performance in 2021. Increases were partially offset by the $931 thousand reduction in gains on sales of investment securities.

Non-interest Expense

The table below details the components of non-interest expense.

[[GREPCENT_TABLE]]
[["","","2022 compared to 2021","2021 compared to 2020"],["","Years ended December 31,","Amount Increase (Decrease)","Percent Increase (Decrease)","Amount Increase (Decrease)","Percent Increase (Decrease)"],["(dollars in thousands; unaudited)","2022","2021","2020"],["Salaries and employee benefits","$","42,046","","$","41,939","","$","34,393","","$","107","","0.3","%","$","7,546","","21.9","%"],["Occupancy and equipment","7,823","","7,297","","6,943","","526","","7.2","%","354","","5.1","%"],["Data processing","4,649","","5,139","","3,184","","(490)","","(9.5)","%","1,955","","61.4","%"],["Professional services","3,299","","4,974","","2,181","","(1,675)","","(33.7)","%","2,793","","128.1","%"],["Depreciation and amortization","1,840","","1,740","","2,149","","100","","5.7","%","(409)","","(19.0)","%"],["Information technology","2,197","","1,550","","1,050","","647","","41.7","%","500","","47.6","%"],["Amortization of core deposit intangible","1,489","","1,135","","853","","354","","31.2","%","282","","33.1","%"],["Directors' expense","1,107","","957","","713","","150","","15.7","%","244","","34.2","%"],["Federal Deposit Insurance Corporation insurance","1,179","","889","","474","","290","","32.6","%","415","","87.6","%"],["Charitable contributions","709","","587","","1,034","","122","","20.8","%","(447)","","(43.2)","%"],["Other real estate owned","359","","5","","\u2014","","354","","7,080.0","%","5","","N/A"],["Other non-interest expense:"],["Advertising","1,070","","908","","769","","162","","17.8","%","139","","18.1","%"],["Other expense","7,502","","5,518","","4,715","","1,984","","36.0","%","803","","17.0","%"],["Total other non-interest expense","8,572","","6,426","","5,484","","2,146","","33.4","%","942","","17.2","%"],["Total non-interest expense","$","75,269","","$","72,638","","$","58,458","","$","2,631","","3.6","%","$","14,180","","24.3","%"]]
[[/GREPCENT_TABLE]]

2022 Compared to 2021

Non-interest expense increased $2.6 million to $75.3 million in 2022 from $72.6 million in 2021. Information technology expenses increased $647 thousand due to investments in software and equipment during 2022. Total occupancy expenses, including depreciation and amortization, increased $626 thousand resulting primarily from merger growth and $212 thousand in accelerated costs related to planned branch closures. Other increases in 2022 included core deposit intangible amortization and FDIC insurance, largely attributable to the 2021 AMRB acquisition, a $345 thousand valuation adjustment in other real estate owned expense, and a $490 thousand increase in employment recruiting costs included in other expense.

33

Salaries and employee benefits expense was relatively flat year-over-year. In 2022, increases in staffing and profit sharing expenses, a reduction in deferred loan origination costs, and a combination of smaller items were largely offset by a decrease in supplemental executive retirement plan expense from an adjustment to the discount rate, and a decline in merger-related expenses, as shown in the table on page 28.

Professional services decreased $1.7 million from the prior year, primarily due to higher merger-related costs and additional consulting expenses associated with PPP loan forgiveness application processing in 2021, partially offset by higher audit and accounting fees in 2022. Data processing expenses decreased by $490 thousand primarily due to merger-related expenses in 2021, as shown in the table on page 28, partially offset by an increase in processing costs in 2022 associated with higher volumes for the larger bank.

2021 Compared to 2020

Non-interest expense increased $14.1 million to $72.6 million in 2021 from $58.5 million in 2020. The largest increase of $6.5 million came from merger-related and conversion costs. In addition to $3.0 million in merger costs, salaries and related benefits rose another $4.5 million due to increased numbers of employees, regularly scheduled annual merit and related increases, and lower deferred loan origination costs. Professional services included $817 thousand more in consulting expenses for PPP loan forgiveness application processing, investment advisory services, and legal costs. Data processing increased by an additional $828 thousand primarily due to increases core processing and mobile banking systems charges, and other categories increased due to the larger size of the bank. FDIC insurance increased by $415 thousand due to an increase in our deposit base. Charitable contributions decreased due to supplemental contributions in 2020 related to the pandemic.

Provision for Income Taxes

Income tax provisions reflect accruals for taxes at the applicable rates for federal income tax and California franchise tax based upon reported pre-tax income. Provisions also reflect permanent differences between income for tax and financial reporting purposes (such as earnings on tax exempt loans and municipal securities, BOLI, low-income housing tax credits, and stock-based compensation from the exercise of stock options, disqualifying dispositions of incentive stock options and vesting of restricted stock awards).

The provision for income taxes totaled $16.9 million at an effective tax rate of 26.6% in 2022, compared to $11.7 million at an effective tax rate of 26.0% in 2021 and $10.3 million at an effective tax rate of 25.5% in 2020. The increase in the provision in 2022 compared to 2021 reflected higher pre-tax income. The 60 basis point increase in the effective tax rate in 2022 as compared to 2021 was primarily due to lower BOLI income and the smaller proportion of tax-exempt loan and investment securities interest income to pre-tax income in 2022, partially offset by the non-deductible merger expenses and executive compensation in 2021. The 50 basis point increase in the effective tax rate in 2021 compared to 2020 was due to non-deductible merger expenses and executive compensation, partially offset by higher BOLI income and tax-exempt loan and investment securities interest income.

We file a consolidated return in the U.S. Federal tax jurisdiction and a combined return in the State of California tax jurisdiction. There were no ongoing federal or state income tax examinations at the issuance of this report. At December 31, 2022 and 2021, neither the Bank nor Bancorp had accruals for interest or penalties related to unrecognized tax benefits.

FINANCIAL CONDITION

Investment Securities

We maintain an investment securities portfolio to provide liquidity and to generate earnings on funds that have not been loaned to customers. Management determines the maturities and types of securities to be purchased based on liquidity and interest rate risk position, and the desire to attain a reasonable investment yield balanced with risk exposure. The tables below show the composition of the debt securities portfolio by expected maturity at December 31, 2022 and 2021. Expected maturities differ from contractual maturities because the issuers of the securities may have the right to call or prepay obligations with or without call or prepayment penalties. We estimate and update expected maturity dates regularly based on current and historical prepayment speeds. The weighted

34

average life of the investment portfolio at December 31, 2022 and 2021 was approximately seven and six years, respectively.

[[GREPCENT_TABLE]]
[["December 31, 2022","Within 1 Year","","1-5 Years","","5-10 Years","","After 10 Years","","Total"],["(dollars in thousands; unaudited)","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","Amortized Cost1","Fair Value","Average Yield2"],["Held-to-maturity:"],["MBS/CMOs issued by U.S. government agencies","$","463","","0.63","%","","$","152,817","","3.36","%","","$","419,822","","2.20","%","","$","158,410","","2.28","%","","$","731,512","","$","643,437","","2.46","%"],["SBA-backed securities","\u2014","","\u2014","","","2,372","","3.17","","","\u2014","","\u2014","","","\u2014","","\u2014","","","2,372","","2,239","","3.17"],["Debentures of government-sponsored agencies","\u2014","","\u2014","","","24,993","","4.26","","","47,017","","2.06","","","73,813","","1.91","","","145,823","","119,356","","2.36"],["Obligations of state and political subdivisions - tax-exempt3","\u2014","","\u2014","","","\u2014","","\u2014","","","5,515","","3.72","","","26,600","","2.74","","","32,115","","28,846","","2.90"],["Obligations of state and political subdivisions - taxable","\u2014","","\u2014","","","\u2014","","\u2014","","","4,708","","1.84","","","25,677","","2.28","","","30,385","","22,913","","2.21"],["Corporate bonds","\u2014","","\u2014","","","30,000","","3.63","","","\u2014","","\u2014","","","\u2014","","\u2014","","","30,000","","28,448","","3.63"],["Total held-to-maturity","463","","0.63","","","210,182","","3.50","","","477,062","","2.20","","","284,500","","2.22","","","972,207","","845,239","","2.49"],["Available-for-sale:"],["MBS/CMOs issued by U.S. government agencies","2,305","","2.02","","","317,528","","2.13","","","198,809","","2.43","","","9,823","","2.55","","","528,465","","475,505","","2.25"],["SBA-backed securities","65","","1.01","","","47,166","","2.66","","","\u2014","","\u2014","","","493","","5.03","","","47,724","","44,355","","2.68"],["Debentures of government sponsored agencies","\u2014","","\u2014","","","140,145","","1.29","","","6,977","","1.35","","","1,992","","1.39","","","149,114","","135,106","","1.29"],["U.S. Treasury securities","\u2014","","\u2014","","","\u2014","","\u2014","","","11,904","","1.00","","","\u2014","","\u2014","","","11,904","","10,269","","1.00"],["Obligations of state and political subdivisions - tax-exempt3","\u2014","","\u2014","","","9,711","","2.09","","","11,721","","2.86","","","81,922","","2.67","","","103,354","","91,138","","2.64"],["Obligations of state and political subdivisions - taxable","200","","3.16","","","1,808","","1.65","","","10,475","","1.67","","","1,018","","1.98","","","13,501","","10,985","","1.71"],["Corporate bonds","\u2014","","\u2014","","","31,000","","1.03","","","5,990","","1.23","","","\u2014","","\u2014","","","36,990","","33,276","","1.05"],["Asset-backed securities","\u2014","","\u2014","","","\u2014","","\u2014","","","1,553","","5.04","","","\u2014","","\u2014","","","1,553","","1,462","","5.04"],["Total available-for-sale","2,570","","2.09","","","547,358","","1.89","","","247,429","","2.30","","","95,248","","2.64","","","892,605","","802,096","","2.09"],["Total","$","3,033","","1.87","%","","$","757,540","","2.34","%","","$","724,491","","2.24","%","","$","379,748","","2.33","%","","$","1,864,812","","$","1,647,335","","2.30","%"]]
[[/GREPCENT_TABLE]]

35

[[GREPCENT_TABLE]]
[["December 31, 2021","Within 1 Year","","1-5 Years","","5-10 Years","","After 10 Years","","Total"],["(dollars in thousands; unaudited)","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","AmortizedCost1","Average Yield2","","Amortized Cost1","Fair Value","Average Yield2"],["Held-to-maturity:"],["MBS/CMOs issued by U.S. government agencies","$","1,550","","1.05","%","","$","99,062","","2.03","%","","$","116,665","","1.79","%","","$","21,430","","1.97","%","","$","238,707","","$","239,856","","1.90","%"],["SBA-backed securities","\u2014","","\u2014","","","4,840","","3.17","","","\u2014","","\u2014","","","\u2014","","\u2014","","","4,840","","5,038","","3.17"],["Debentures of government-sponsored agencies","\u2014","","\u2014","","","\u2014","","\u2014","","","19,973","","1.67","","","31,499","","1.89","","","51,472","","50,571","","1.80"],["Obligations of state and political subdivisions - tax-exempt3","\u2014","","\u2014","","","\u2014","","\u2014","","","16,686","","1.92","","","\u2014","","\u2014","","","16,686","","16,794","","1.92"],["Obligations of state and political subdivisions - taxable","101","","4.58","","","\u2014","","\u2014","","","25,327","","2.17","","","5,089","","2.39","","","30,517","","30,496","","2.22"],["Total held-to-maturity","1,651","","1.27","","","103,902","","2.08","","","178,651","","1.84","","","58,018","","1.96","","","342,222","","342,755","","1.93"],["Available-for-sale:"],["MBS/CMOs issued by U.S. government agencies","13,262","","1.24","","","202,848","","1.67","","","459,936","","1.79","","","87,623","","1.26","","","763,669","","759,576","","1.69"],["SBA-backed securities","7","","2.21","","","30,502","","2.45","","","2,131","","0.16","","","\u2014","","\u2014","","","32,640","","33,478","","2.30"],["Debentures of government sponsored agencies","6,000","","2.62","","","120,115","","1.11","","","16,411","","1.39","","","48,923","","1.88","","","191,449","","188,527","","1.38"],["U.S. Treasury securities","\u2014","","\u2014","","","\u2014","","\u2014","","","11,886","","1.00","","","\u2014","","\u2014","","","11,886","","11,630","","1.00"],["Obligations of state and political subdivisions - tax-exempt3","1,322","","3.73","","","21,026","","2.69","","","92,375","","2.60","","","\u2014","","\u2014","","","114,723","","119,970","","2.63"],["Obligations of state and political subdivisions - taxable","1,128","","2.86","","","1,011","","3.24","","","12,147","","1.56","","","\u2014","","\u2014","","","14,286","","14,030","","1.78"],["Corporate bonds","2,013","","2.73","","","31,000","","1.03","","","5,988","","1.23","","","\u2014","","\u2014","","","39,001","","38,495","","1.15"],["Asset-backed securities","\u2014","","\u2014","","","\u2014","","\u2014","","","1,866","","0.72","","","\u2014","","\u2014","","","1,866","","1,862","","0.72"],["Total available-for-sale","23,732","","1.93","","","406,502","","1.57","","","602,740","","1.87","","","136,546","","1.48","","","1,169,520","","1,167,568","","1.72"],["Total","$","25,383","","1.89","%","","$","510,404","","1.68","%","","$","781,391","","1.86","%","","$","194,564","","1.62","%","","$","1,511,742","","$","1,510,323","","1.77","%"]]
[[/GREPCENT_TABLE]]

1 Book value reflects cost, adjusted for accumulated amortization and accretion.

2 Weighted average calculation is based on amortized cost of securities.

3 Yields on tax-exempt municipal bonds are presented on a taxable equivalent basis, using federal tax rate of 21%.

The amortized cost of our investment securities portfolio increased $353.1 thousand or 23.4% during 2022. We purchased $243.5 million in securities in 2022 designated as available-for-sale to provide flexibility for liquidity and interest rate risk management. We also purchased $319.9 million in securities in 2022 designated as held-to-maturity. These purchases were offset by $177.3 million of paydowns, calls and maturities, and $10.7 million of sales during 2022. The weighted average yield on the purchases of securities was 3.22% for the 2022 year and 6.08% for the fourth quarter of 2022. We transferred $357.5 million of available-for-sale securities to held-to-maturity in March 2022. Refer to Note 2, Investment Securities, to the Consolidated Financial Statements in ITEM 8 of this report for further information.

During 2022, we purchased $364.6 million in agency collateralized mortgage obligations ("CMOs"), $60.9 million in agency mortgage-backed securities ("MBSs"), $61.2 million in debentures of government sponsored agencies, $30.0 million in corporate bonds, $29.9 million in SBA-backed securities and $16.8 million in obligations of state and political subdivisions. We consider agency debentures and CMOs issued by U.S. government sponsored entities to have low credit risk as they carry the credit support of the U.S. federal government. The debentures, CMOs and MBS issued by U.S. government sponsored agencies, SBA-backed securities and U.S. Treasury securities made up 86.7% of the portfolio at December 31, 2022, compared to 85.6% at December 31, 2021. See the discussion in the section captioned “Securities May Lose Value due to Credit Quality of the Issuers” in ITEM 1A Risk Factors above.

36

At December 31, 2022 and 2021, distribution of our investment in obligations of state and political subdivisions was as follows:

[[GREPCENT_TABLE]]
[["","December 31, 2022","December 31, 2021"],["(dollars in thousands; unaudited)","Amortized Cost","Fair Value","Percent of State and Municipal Securities","Amortized Cost","Fair Value","Percent of State and Municipal Securities"],["Within California:"],["General obligation bonds","$","25,806","","$","20,768","","14.4","%","$","25,036","","$","25,020","","14.2","%"],["Revenue bonds","3,719","","2,987","","2.1","","5,249","","5,185","","3.0"],["Tax allocation bonds","\u2014","","\u2014","","\u2014","","503","","510","","0.3"],["Total within California","29,525","","23,755","","16.5","","30,788","","30,715","","17.5"],["Outside California:"],["General obligation bonds","121,908","","106,375","","68.0","","117,278","","121,303","","66.5"],["Revenue bonds","27,922","","23,752","","15.5","","28,146","","29,272","","16.0"],["Total outside California","149,830","","130,127","","83.5","","145,424","","150,575","","82.5"],["Total obligations of state and political subdivisions","$","179,355","","$","153,882","","100.0","%","$","176,212","","$","181,290","","100.0","%"],["Percent of investment portfolio","9.6%","9.3%","","11.7%","12.0%"]]
[[/GREPCENT_TABLE]]

The portion of the portfolio outside the state of California is distributed among twelve states. Of the total investment in obligations of state and political subdivisions, the largest concentrations outside California are in Texas (39.6%), Washington (14.4%), and Wisconsin (8.9%). Our investment in obligations issued by municipal issuers in Texas are either guaranteed by the AAA-rated Texas Permanent School Fund ("PSF") or backed by revenue sources from essential services (such as utilities and transportation).

Investments in states, municipalities and political subdivisions are subject to an initial pre-purchase credit assessment and ongoing monitoring. Key considerations include:

•The soundness of a municipality’s budgetary position and stability of its tax revenues

•Debt profile and level of unfunded liabilities, diversity of revenue sources, taxing authority of the issuer

•Local demographics/economics including unemployment data, largest local taxpayers and employers, income indices and home values

•For revenue bonds, the source and strength of revenue for municipal authorities including obligors' financial condition and reserve levels, annual debt service and debt coverage ratio, and credit enhancement (such as insurer’s strength)

•Credit ratings by major credit rating agencies

Loans

Loans Outstanding by Class and Percent of Total

[[GREPCENT_TABLE]]
[["","December 31, 2022","","December 31, 2021"],["(in thousands; unaudited)","Amortized Cost","Percent of Total","","Amortized Cost","Percent of Total"],["Commercial and industrial","$","173,547","","8.3","%","","$","301,602","","13.4","%"],["Real estate"],["Commercial owner-occupied","354,877","","17.0","","","392,345","","17.4"],["Commercial investor-owned","1,191,889","","56.9","","","1,189,021","","52.7"],["Construction","114,373","","5.5","","","119,840","","5.3"],["Home equity","88,748","","4.2","","","88,746","","3.9"],["Other residential","112,123","","5.4","","","114,558","","5.1"],["Installment and other consumer","56,989","","2.7","","","49,533","","2.2"],["Total loans, at amortized cost","2,092,546","","100.0","%","","2,255,645","","100.0","%"],["Allowance for credit losses on loans","(22,983)","","","","(23,023)"],["Total loans, net of allowance for credit losses","$","2,069,563","","","","$","2,232,622"]]
[[/GREPCENT_TABLE]]

37

Loans decreased by $163.1 million in 2022, or 7%, to $2.093 billion as of December 31, 2022, from $2.256 billion as of December 31, 2021. Year-over-year changes were largely attributable to a $107.7 million decrease in PPP loans and a decrease in investor-owned commercial real estate loans, partially offset by growth in owner-occupied commercial real estate loans. Loan originations were $240.2 million in 2022 compared to $181.7 million in 2021, an increase of 32%. Non-PPP payoffs were $258.5 million in 2022, compared to $218.1 million in 2021. Much of the payoffs in 2022 were outside the Bank's control and resulted from activities such as sales of businesses and properties, cash repayments, and project completions. The originations and payoffs noted above, combined with utilization on lines of credit and amortization on existing loans, resulted in the net decreases for these periods.

Non-PPP payoffs as a percentage of beginning of the year loan balances were 11.5% in 2022 and 10.4% in 2021. Approximately 90% and 86%, of total loans were secured by real estate as of December 31, 2022 and 2021, respectively. The increase in the percentage secured by real estate from 2021 to 2022 was primarily due to a $107.7 million reduction in unsecured loans guaranteed by the SBA under the PPP, which are included in commercial and industrial loans. For additional information on loan concentration risk, see ITEM 1A, Risk Factors.

The following table summarizes our commercial real estate loan concentrations by the county in which the property was located as of December 31, 2022 and 2021.

Commercial Real Estate Loans Outstanding by County

[[GREPCENT_TABLE]]
[["(dollars in thousands; unaudited)","December 31, 2022","","December 31, 2021"],["County","Amount","Percent of Commercial Real Estate Loans","","Amount","Percent of Commercial Real Estate Loans"],["Marin","$","339,805","","22.0","%","","$","349,445","","22.1","%"],["Sonoma","245,883","","15.9","","","230,740","","14.6"],["Napa","186,477","","12.1","","","188,643","","11.9"],["San Francisco","173,511","","11.2","","","172,120","","10.9"],["Alameda","163,381","","10.6","","","176,871","","11.2"],["Sacramento","120,146","","7.8","","","113,120","","7.2"],["Contra Costa","67,356","","4.4","","","69,656","","4.4"],["San Mateo","37,681","","2.4","","","28,119","","1.8"],["Solano","32,235","","2.1","","","40,837","","2.6"],["Placer","28,928","","1.9","","","28,477","","1.8"],["Santa Clara","21,091","","1.4","","","20,070","","1.3"],["San Joaquin","15,585","","1.0","","","8,829","","0.6"],["El Dorado","12,822","","0.8","","","14,708","","0.9"],["Other","101,865","","6.4","","","139,731","","8.7"],["Total","$","1,546,766","","100.0","%","","$","1,581,366","","100.0","%"]]
[[/GREPCENT_TABLE]]

Commercial real estate loans decreased $34.6 million in 2022, compared to a $315.2 million increase in 2021. The decrease in 2022 was primarily due to cash paydowns as part of ongoing deleveraging, refinancings and asset sales. The increase in 2021 was primarily due to the AMRB acquisition and expanded footprint in Northern California. Of the commercial real estate loans at December 31, 2022, 77% were investor-owned and 23% were owner-occupied. Almost the entire commercial real estate loan portfolio is comprised of term loans for which the primary source of repayment is either the cash flow from leasing activities of the real estate collateral or the operating cash flow of the owner occupant.

38

The following table shows an analysis of construction loans by type and county as of December 31, 2022 and 2021.

Construction Loans Outstanding by Type and County

[[GREPCENT_TABLE]]
[["(dollars in thousands; unaudited)","December 31, 2022","","December 31, 2021"],["Loan Type","Amount","Percent of Construction Loans","","Amount","Percent of Construction Loans"],["Apartments and multifamily","$","60,347","","52.7","%","","$","45,978","","38.4","%"],["Commercial real estate","33,746","","29.5","","","49,131","","41.0"],["1-4 Single family residential","19,171","","16.8","","","19,564","","16.3"],["Land - unimproved","1,109","","1.0","","","1,201","","1.0"],["Land - improved","\u2014","","\u2014","","","3,966","","3.3"],["Total","$","114,373","","100.0","%","","$","119,840","","100.0","%"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(dollars in thousands; unaudited)","December 31, 2022","","December 31, 2021"],["County","Amount","Percent of Construction Loans","","Amount","Percent of Construction Loans"],["San Francisco","$","45,271","","39.6","%","","$","55,826","","46.6","%"],["Alameda","20,163","","17.6","","","12,908","","10.8"],["Solano","18,873","","16.5","","","16,367","","13.7"],["Sonoma","17,843","","15.6","","","13,640","","11.4"],["Marin","7,784","","6.8","","","6,074","","5.1"],["Other","4,439","","3.9","","","15,025","","12.4"],["Total","$","114,373","","100.0","%","","$","119,840","","100.0","%"]]
[[/GREPCENT_TABLE]]

Construction loans decreased by $5.5 million in 2022, compared to an increase of $46.8 million in 2021. The decrease in 2022 was primarily due to $46.6 million in payoffs and $3.6 million in conversions to commercial real estate financing. These decreases were partially offset by $37.5 million advanced on existing construction loans and $7.2 million in new financing. The increase in 2021 was primarily due to $48.8 million advanced on existing construction loans, $13.2 million in loans assumed in the AMRB acquisition and $7.2 million in new financing. These increases were partially offset by $19.5 million in payoffs and $2.9 million in conversions to commercial real estate financing. Undisbursed construction loan commitments at December 31, 2022 and 2021 were $43.2 million and $77.8 million, respectively.

The following table presents the amortized costs and maturity distribution of our loans by class as of December 31, 2022 based on their contractual maturity dates. Maturities do not include scheduled payments or potential prepayments.

Loan Maturity Distribution

[[GREPCENT_TABLE]]
[["","Due within 1 year","Due after 1 through 5 years","Due after 5 through 15 years","Due after 15 years","Total"],["(in thousands; unaudited)"],["Commercial and industrial 1","$","61,181","","$","76,586","","$","32,530","","$","3,250","","$","173,547"],["Real estate"],["Commercial owner-occupied","12,869","","80,861","","253,863","","7,284","","354,877"],["Commercial investor-owned","42,643","","329,876","","792,173","","27,197","","1,191,889"],["Construction 2","47,335","","17,027","","50,011","","\u2014","","114,373"],["Home equity","2,118","","23,433","","61,618","","1,579","","88,748"],["Other residential","1,936","","79","","1,813","","108,295","","112,123"],["Installment and other consumer loans","956","","7,389","","48,452","","192","","56,989"],["Total","$","169,038","","$","535,251","","$","1,240,460","","$","147,797","","$","2,092,546"]]
[[/GREPCENT_TABLE]]

1 Commercial and industrial due within 1 year includes SBA PPP loans totaling $3.5 million (net of $99 thousand in unrecognized fees and costs), which are expected to be forgiven by the SBA in 2023.

2 Construction loans that mature after 5 years are structured to convert to permanent financing after the initial construction period.

39

The following table shows the mix of variable-rate loans to fixed-rate loans due after one year by class as of December 31, 2022. The large majority of the variable-rate loans are tied to independent indices (such as the Prime Rate or a Treasury Constant Maturity Rate). Most loans with original terms of more than five years have provisions for the fixed rates to reset, or convert to variable rates, after three, five or seven years. These loans are included in variable-rate balances below.

Loan Interest Rate Sensitivity - Due After One Year

[[GREPCENT_TABLE]]
[["(in thousands; unaudited)","Fixed","Variable","Total"],["Commercial and industrial","$","73,688","","$","38,678","","$","112,366"],["Real estate"],["Commercial owner-occupied","195,342","","146,666","","342,008"],["Commercial investor-owned","724,647","","424,599","","1,149,246"],["Construction","46,070","","20,968","","67,038"],["Home equity","723","","85,907","","86,630"],["Other residential","1,738","","108,449","","110,187"],["Installment and other consumer loans","41,097","","14,936","","56,033"],["Total","$","1,083,305","","$","840,203","","$","1,923,508"]]
[[/GREPCENT_TABLE]]

Allowance for Credit Losses on Loans

The allowance for credit losses on loans is calculated in accordance with ASC 326 based on management's best estimate of current expected credit losses over the loans' contractual terms, adjusted for estimated prepayments where applicable. The contractual terms exclude anticipated extensions, renewals and modifications, except for reasonably expected extensions of certain troubled debt restructure loans. Relevant available information includes historical credit loss experience, current conditions and reasonable and supportable forecasts. While historical credit loss experience provides the basis for the estimation of expected credit losses, adjustments to historical loss information may be made for differences in current portfolio-specific risk characteristics, environmental conditions or other relevant factors. All specifically identifiable and quantifiable losses are charged off against the allowance. The ultimate adequacy of the allowance depends on a variety of complex factors, some of which may be beyond management's control, such as volatility in the real estate market, changes in interest rates and economic and political environments. Based on the current conditions of the loan portfolio and reasonable and supportable forecasts, management believes that the $23.0 million allowance for credit losses at December 31, 2022 was adequate to absorb expected credit losses in our loan portfolio. For additional information on our allowance for credit losses methodology, refer to Notes 1 and 3 to the Consolidated Financial Statements in ITEM 8 of this report.

The allowance for credit losses to loans was 1.10% at December 31, 2022 and 1.02% at December 31, 2021. The allowance for credit losses to loans, excluding SBA PPP loans was 1.10% and 1.07% at year-end 2022 and 2021, respectively (for a discussion of this non-GAAP financial measure, refer to ITEM 7, Financial Highlights section of this report).

The $40 thousand decrease in the allowance for credit losses on loans in 2022 was largely due to a $55.4 million decrease in applicable loan balances (excludes the $107.7 million decrease in PPP loans for which there was no allowance) and improvements in the Moody's Analytics' Baseline Forecast of California unemployment rates since December 31, 2021, which decreased the quantitative "modeled" allowance for credit losses. These decreases were partially offset by adjustments to qualitative risk factors to account for the ongoing deterioration in the economic outlook that management believes is not captured in the quantitative portion of the allowance and $23 thousand in net recoveries. For further information, refer to the Provision for Credit Losses section above, and Notes 1 and 3 to the Consolidated Financial Statements in ITEM 8 of this report.

Due to the high credit quality of our loan portfolio experienced to date, net charge-offs have been minimal for the past several years. Net recoveries totaled $23 thousand in 2022, compared to net recoveries of $93 thousand in 2021 and net charge-offs of $1 thousand in 2020.

40

The following table presents the allowance for credit losses on loans by loan class in accordance with the methodology described in Note 1 to the Consolidated Financial Statements in ITEM 8 of this report, as well as the percentage of total loans in each of the same loan classes as of December 31, 2022 and 2021.

[[GREPCENT_TABLE]]
[["Allocation of the Allowance for Credit Losses"],["(dollars in thousands; unaudited)","Commercial and industrial","Commercial real estate, owner-occupied","Commercial real estate, investor-owned","Construction","Home equity","Other residential","Installment and other consumer","Unallocated","Total"],["December 31, 2022"],["Modeled expected credit losses","$","1,079","","$","1,497","","$","7,937","","$","453","","$","504","","$","571","","$","610","","$","\u2014","","$","12,651"],["Qualitative adjustments","706","","990","","4,739","","1,484","","54","","24","","258","","2,068","","10,323"],["Specific allocations","9","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","9"],["Total","$","1,794","","$","2,487","","$","12,676","","$","1,937","","$","558","","$","595","","$","868","","$","2,068","","$","22,983"],["Loans as a percent of total loans","8.3","%","17.0","%","56.9","%","5.5","%","4.2","%","5.4","%","2.7","%","N/A","100.0","%"],["December 31, 2021"],["Modeled expected credit losses","$","1,067","","$","2,045","","$","8,974","","$","503","","$","569","","$","642","","$","450","","$","\u2014","","$","14,250"],["Qualitative adjustments","642","","731","","3,765","","1,150","","26","","2","","171","","2,286","","8,773"],["Specific allocations","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014","","\u2014"],["Total","$","1,709","","$","2,776","","$","12,739","","$","1,653","","$","595","","$","644","","$","621","","$","2,286","","$","23,023"],["Loans as a percent of total loans","13.4","%","17.4","%","52.7","%","5.3","%","3.9","%","5.1","%","2.2","%","N/A","100.0","%"]]
[[/GREPCENT_TABLE]]

The table below shows the activity in the allowance for credit losses for each of the three years presented below.

Allowance for Credit Losses Rollforward

[[GREPCENT_TABLE]]
[["(dollars in thousands; unaudited)","2022","2021","2020"],["Beginning balance","$","23,023","","$","22,874","","$","16,677"],["Impact of CECL adoption","\u2014","","\u2014","","1,604"],["(Reversal of) provision for credit losses","(63)","","(1,449)","","4,594"],["Initial allowance for PCD loans","\u2014","","1,505","","\u2014"],["Loans charged-off:"],["Commercial and industrial","(9)","","\u2014","","(30)"],["Installment and other consumer","(23)","","(5)","","(1)"],["Total loans charged-off","(32)","","(5)","","(31)"],["Loans recovered:"],["Commercial and industrial","22","","14","","27"],["Real estate:"],["Construction","33","","34","","3"],["Home equity","\u2014","","50","","\u2014"],["Total loans recovered","55","","98","","30"],["Net loans (charged-off) recovered","23","","93","","(1)"],["Ending balance","$","22,983","","$","23,023","","$","22,874"],["Total loans, at amortized cost","$","2,092,546","","$","2,255,645","","$","2,088,556"],["Average total loans outstanding during year","$","2,175,259","","$","2,155,982","","$","2,023,203"],["Ratio of allowance for credit losses to total loans at end of year","1.10","%","1.02","%","1.10","%"],["Net recoveries (charge-offs) to average loans","NM","NM","NM"]]
[[/GREPCENT_TABLE]]

NM - Not meaningful.

Net charge-offs and recoveries for the years ended December 31, 2022, 2021 and 2020 were considered insignificant.

41

The following shows non-performing loans and loans modified in a TDR as of December 31, 2022 and 2021.

Non-Performing Loans and Troubled Debt Restructurings

[[GREPCENT_TABLE]]
[["(dollars in thousands; unaudited)","December 31, 2022","December 31, 2021"],["Non-accrual loans:"],["Real estate:"],["Commercial, owner-occupied","$","1,563","","$","7,269"],["Commercial, investor-owned","\u2014","","694"],["Home equity","778","","413"],["Installment and other consumer","91","","\u2014"],["Total non-accrual loans","$","2,432","","$","8,376"],["Accruing TDR loans:1"],["Commercial and industrial","$","900","","$","1,183"],["Real estate:"],["Commercial, owner-occupied","\u2014","","\u2014"],["Commercial, investor-owned","160","","179"],["Home equity","255","","130"],["Installment and other consumer","457","","607"],["Total accruing TDR loans","$","1,772","","$","2,099"],["Total non-accrual and accruing TDR loans","$","4,204","","$","10,475"],["Criticized and classified loans:"],["Special mention","$","60,207","","$","73,263"],["Substandard","$","28,010","","$","36,121"],["Doubtful","$","99","","$","114"],["Allowance for credit losses to non-accrual loans","9.45x","2.75x"],["Non-accrual loans to total loans","0.12","%","0.37","%"],["1 Excludes TDR loans on non-accrual status that are included above."]]
[[/GREPCENT_TABLE]]

Non-Accrual and TDR

Non-accrual loans decreased by $5.9 million in 2022, primarily due to the payoff of two owner-occupied commercial real estate loans totaling $7.1 million and paydowns and the upgrade of a $695 thousand loan to accrual status as a result of improved financial condition and performance, partially offset by $2.0 million in loans designated as non-accrual in 2022. Over 96% of the non-accrual loans as of December 31, 2022 were well-secured by either commercial or residential real estate.

Non-accrual loans decreased by $857 thousand in 2021, primarily due to $1.0 million in payoffs and paydowns, partially offset by a $114 thousand well-secured investor-owned commercial real estate loan assumed in the AMRB acquisition and one $67 thousand home equity loan placed on non-accrual status in 2021.

Total accruing TDR loans were $1.8 million and $2.1 million as of December 31, 2022 and 2021, respectively. The $327 thousand decrease in 2022 was primarily due to $425 thousand in paydowns, partially offset by one loan totaling $98 thousand that was designated as TDR during 2022.

The $3.0 million decrease in 2021 was primarily due to $4.0 million in paydowns and payoffs, partially offset by two loans totaling $1.0 million that were designated as TDRs during 2021.

For information regarding temporary relief from TDR accounting afforded by the CARES Act, refer to the Executive Summary section above and Note 3 to the Consolidated Financial Statements in ITEM 8, under “Troubled Debt Restructuring."

Criticized and Classified Loans

Loans designated as special mention decreased by $13.1 million in 2022, primarily due to $30.2 million in upgrades to a pass risk rating, $7.7 million in paydowns and payoffs, and $3.6 million in downgrades from special mention to substandard. These decreases were partially offset by $27.8 million in downgrades from pass to special mention and $695 thousand in upgrades from substandard to special mention during 2022. Of the $27.8 million in

42

downgrades to special mention, $22.5 million (or 81%) was well-secured by commercial real estate and the remaining $5.3 million commercial loans had strong support.

Loans designated as special mention decreased by $13.6 million in 2021, primarily due to $33.1 million in upgrades to a pass risk rating, $18.9 million in paydowns and payoffs, and two loans that were downgraded from special mention to substandard totaling $5.4 million. These decreases were partially offset by $17.2 million in loans that were downgraded from pass/watch, $13.5 million in loans assumed in the AMRB acquisition, and $13.2 million in loans that were upgraded from substandard to special mention during 2021. Of the $17.2 million in downgrades to special mention, $13.2 million (or 77%) was well-secured by commercial real estate and the remaining $4.0 million in commercial loans had strong support. Loans designated as special mention exhibit potential weakness that deserve close attention.

Loans classified substandard decreased by $8.1 million in 2022, primarily due to $16.1 million in paydowns and payoffs and $871 thousand in upgrades to special mention or pass, partially offset by downgrades totaling $8.8 million. Of the downgraded loans, $4.7 million (or 53%) was secured by commercial real estate and $3.6 million (or 41%) was to commercial borrowers. In addition, of the $16.1 million in paydowns and payoffs, $2.7 million was from loans downgraded in 2022.

Loans classified substandard increased by $13.3 million in 2021, primarily due to downgrades totaling $25.4 million and $2.3 million in substandard loans assumed in the AMRB acquisition. Of the downgraded loans, $24.2 million were secured by commercial real estate. The downgrades were partially offset by $13.2 million in upgrades to special mention and $4.2 million in paydowns and payoffs.

Refer to Note 3 to the Consolidated Financial Statements in ITEM 8 of this report for an allocation of criticized and classified loans by loan class.

Other Assets

BOLI totaled $67.1 million at December 31, 2022, compared to $61.5 million at December 31, 2021. The increase of $5.6 million was primarily due to the purchase of $4.7 million in new policies and an increase in the cash surrender value from net investment earnings.

Interest receivable and other assets totaled $79.8 million and $51.4 million at December 31, 2022 and 2021, respectively. The $28.4 million increase was primarily due to a $30.5 million increase in net deferred tax assets as discussed below.

Net deferred tax assets totaled $43.9 million and $13.3 million at December 31, 2022 and 2021, respectively. Deferred tax assets consist primarily of tax benefits expected to be realized in future periods related to temporary differences such as the allowances for credit losses and unfunded loan commitments, net operating loss carryforwards, and deferred compensation and salary continuation plans. The $30.5 million increase in 2022 was primarily due to a $30.2 million increase in deferred tax assets related to changes in unrealized losses on available-for-sale investment securities, a $466 thousand increase in deferred tax assets related to state franchise tax and a $441 thousand decrease in deferred tax liabilities related to core deposit intangibles. These increases to net deferred tax assets were partially offset by a $430 thousand decrease in deferred tax assets related to the decrease in deferred compensation and salary continuation plans. Management believes deferred tax assets will be realizable due to our consistent record of earnings and the expectation that earnings will continue at a level adequate to realize such benefits. Therefore, no valuation allowance was established as of December 31, 2022 or 2021. For additional information, refer to Note 11 to the Consolidated Financial Statements in ITEM 8 of this report.

We held $16.7 million of FHLB stock recorded at cost in other assets at December 31, 2022 and 2021. The FHLB paid $1.0 million, $760 thousand and $654 thousand in cash dividends in 2022, 2021 and 2020, respectively. For additional information, refer to Note 2 to the Consolidated Financial Statements in ITEM 8 of this report.

Accrued interest on investment securities totaled $6.9 million and $4.8 million at December 31, 2022 and 2021, respectively. The increase was due to purchases of $563.4 million in securities.

43

Deposits

Deposits decreased by $235.2 million, to $3.573 billion at December 31, 2022, compared to $3.809 billion at December 31, 2021. Non-interest bearing deposits decreased by $71 million in 2022 and made up 51% of total deposits at year-end. The decline was a result of anticipated outflows due to planned business activities by a few large clients, some customers moving into alternative investments and normal year-end fluctuations. See ITEM 1A, Risk Factors, for a discussion of potential risks associated with concentrations and volatility due to activity of our large deposit customers. Our relationship banking model is the foundation for the strong deposit base and allows us to proactively and strategically address changes in the interest rate environment and technology adoption by our customers. With our low cost of deposits, the Bank is well-positioned to implement deposit retention strategies.

Distribution of Average Deposits    

The table below shows the relative composition of our average deposits for 2022 and 2021. For average rates paid on deposits, refer to Average Statements of Condition and Analysis of Net Interest Income table in ITEM 7- Management's Discussion and Analysis of Financial Condition and Results of Operations.

[[GREPCENT_TABLE]]
[["","As of December 31,"],["","2022","","2021"],["(in thousands; unaudited)","Average Amount","Percent of Total","","Average Amount","Percent of Total"],["Non-interest bearing","$","1,993,374","","52.0","%","","$","1,628,289","","52.7","%"],["Interest-bearing transaction","294,682","","7.7","","","217,924","","7.0"],["Savings","341,710","","8.9","","","268,397","","8.7"],["Money market 1","1,065,103","","27.8","","","864,625","","27.9"],["Time deposits, including CDARS:","140,547","","3.6","","","115,393","","3.7"],["Total average deposits","$","3,835,416","","100.0","%","","$","3,094,628","","100.0","%"]]
[[/GREPCENT_TABLE]]

1 Money market balances include Insured Cash Sweep® ("ICS") in both 2022 and 2021. Demand Deposit Marketplace SM ("DDM") and ICS balances are discussed in Note 6 to the Consolidated Financial Statements in ITEM 8 of this report.

Total estimated uninsured deposits as of December 31, 2022 and December 31, 2021 were $1.584 billion and $1.830 billion, respectively.

Maturities of Uninsured Time Deposits

The following table shows time deposits by account that are in excess of $250,000 by time remaining to maturity at December 31, 2022.

[[GREPCENT_TABLE]]
[["","December 31, 2022"],["(in thousands; unaudited)","Total","Uninsured Portion"],["Three months or less","$","16,758","","$","9,258"],["Over three months through six months","8,241","","5,491"],["Over six months through twelve months","7,206","","3,456"],["Over twelve months","12,404","","5,154"],["Total","$","44,609","","$","23,359"]]
[[/GREPCENT_TABLE]]

Borrowings

As of December 31, 2022 and 2021, respectively, our total borrowing capacity included $711.6 million and $820.5 million in secured lines of credit with FHLB and $58.7 million and $70.8 million with the Federal Reserve Bank of San Francisco (“FRBSF”). We also had $150.0 million in unsecured lines with correspondent banks to cover any short-term borrowing needs at December 31, 2022 and 2021. FHLB overnight borrowings at December 31, 2022 were $112.0 million for a net available balance of $599.6 million. There were no overnight borrowings at December 31, 2021. The FRBSF and other correspondent bank lines were not utilized at December 31, 2022 or 2021.

44

In February 2023, we increased our borrowing capacity at the FHLB by pledging certain held-to-maturity securities to the Securities-Backed Credit Program, which increased our total FHLB borrowing capacity to $1.0372 billion as of February 28, 2023 from $711.6 million as of December 31, 2022.

As part of a bank acquisition, we assumed a subordinated debenture due to the NorCal Community Bancorp Trust II with a contractual balance of $4.1 million. On March 15, 2021, we redeemed the $2.8 million subordinated debenture (accreted value), which carried an average interest rate of 5.68% in 2020. For additional information, see Note 7, Borrowings and Other Obligations, in ITEM 8 of this report.

Deferred Compensation Obligations

We maintain a non-qualified, unfunded deferred compensation plan for certain key management personnel. Under this plan, participating employees may defer compensation, which will entitle them to receive certain payments for up to fifteen years commencing upon retirement, death, disability or termination of employment. The participating employee may elect to receive payments over periods not to exceed fifteen years. A similar Deferred Director Fee Plan entitles participating members of the Board of Directors to receive payments as elected by the participant upon separation from service, death, disability or termination of service. At December 31, 2022 and 2021, our aggregate payment obligations under both plans totaled $7.1 million and $7.9 million, respectively.

Our Salary Continuation Plan ("SERP") provides a percentage of salary continuation benefits to a select group of executive management upon retirement at age sixty-five and reduced benefits upon early retirement.  At December 31, 2022 and 2021, our liability under the SERP was $4.7 million and $5.3 million, respectively, and is recorded in interest payable and other liabilities in the Consolidated Statements of Condition. The Plan is unfunded and non-qualified for tax purposes and for purposes of Title I of the Employee Retirement Income Security Act of 1974.

Decreases in both the deferred compensation plan and SERP liabilities in 2022 mainly resulted from increases in benefit payments to retired employees. In addition, we increased the discount rate on the SERP payments to reflect market conditions, which reduced the present value of the SERP obligation.

For additional information, see Note 10 to the Consolidated Financial Statements in ITEM 8 of this report.

Capital Adequacy

As discussed in Note 15 to the Consolidated Financial Statements in ITEM 8 of this report, the Bank's capital ratios were above regulatory guidelines to be considered "well capitalized" and Bancorp's ratios exceeded the required minimum ratios for capital adequacy purposes. For further discussion of bank capital requirements, refer to the SUPERVISION AND REGULATION section in ITEM 1 of this report.

The Bank's total risk-based capital ratio increased from 14.4% at December 31, 2021 to 15.7% at December 31, 2022, primarily due to capital creation from net income, partially offset by a $16.2 million dividend to the Holding Company to cover dividends to shareholders and Holding Company operating costs. Bancorp's total risk-based capital ratio was 14.6% at December 31, 2021 and 15.9% at December 31, 2022. Tangible common equity to tangible assets declined to 8.2% at December 31, 2022 from 8.8% at December 31, 2021, primarily due to $71.7 million increase in after-tax unrealized losses on available-for-sale securities associated with interest rate changes since December 31, 2021, partially offset by incremental earnings and the smaller balance sheet in 2022.

Bancorp's share repurchase program and activity are discussed in detail in ITEM 5 and in Note 8 to the Consolidated Financial Statements in ITEM 8 of this report. We expect to maintain strong capital levels and do not expect that we will be required to raise additional capital in 2023. Our anticipated sources of capital in 2023 include future earnings and shares issued under the stock-based compensation program.

Liquidity and Capital Resources

The goal of liquidity management is to provide adequate funds to meet loan demand and to fund operating activities and deposit withdrawals. We accomplish this goal by maintaining an appropriate level of liquid assets and formal lines of credit with the FHLB, FRBSF and correspondent banks that enable us to borrow funds as discussed in Note 7 to the Consolidated Financial Statement in ITEM 8 of this report. Our Asset Liability Management Committee

45

("ALCO"), which is comprised of independent Bank directors and the Bank's Chief Executive Officer, is responsible for approving and monitoring our liquidity targets and strategies. ALCO has adopted a contingency funding plan that provides early detection of potential liquidity issues in the market or the Bank and institutes prompt responses that may prevent or alleviate a potential liquidity crisis. Management monitors liquidity daily and regularly adjusts our position based on current and future liquidity needs. We also have relationships with third-party deposit networks and can adjust the placement of our deposits via reciprocal or one-way sales as part of our cash management strategy, as discussed in Note 6 to the Consolidated Financial Statement in ITEM 8 of this report.

We obtain funds from the repayment and maturity of loans, deposit inflows, investment security maturities, sales and paydowns, federal funds purchases, FHLB advances, other borrowings, and cash flow from operations.  Our primary uses of funds are the origination of loans, the purchase of investment securities, withdrawals of deposits, maturity of certificates of deposit, repayment of borrowings, and dividends to common stockholders.

The most significant component of our daily liquidity position is customer deposits. The attraction and retention of new deposits depends upon the variety and effectiveness of our customer account products, service and convenience, rates paid to customers, and our financial strength. The cash cycles and unique business activities of some of our large commercial depositors may cause short-term fluctuations in their deposit balances held with us.

Our cash and cash equivalents decreased by $302.2 million to $45.4 million at December 31 2022 from $347.6 million at December 31, 2021. Significant uses of liquidity during 2022 were $563.4 million in investment securities purchased, $235.2 million in withdrawals of deposits, $15.7 million in cash dividends paid on common stock to our shareholders, $4.7 million in purchase of bank owned life insurance policies and $1.2 million in common stock repurchases.

The most significant sources of liquidity during 2022 were proceeds from loans collected net of originations totaling $164.0 million, proceeds from principal paydowns, maturities and sales of investment securities totaled $187.9 million and Federal Home Loan Bank borrowings of $112.0 million. In addition, $55.3 million in net cash was provided by operating activities. Refer to the Consolidated Statement of Cash Flows in this Form 10-K for additional information on our sources and uses of liquidity. Management anticipates that our current liquidity position and core deposit base are adequate to fund our operations.

Total immediate contingent funding sources, including unrestricted cash, unencumbered available-for-sale securities and total borrowing capacity was $1.7 billion, or 49% of total deposits as of December 31, 2022. In February 2023, we enhanced our borrowing capacity at the FHLB by pledging certain held-to-maturity securities to the Securities-Backed Credit Program, increasing the Bank's total immediate contingent funding sources to approximately $2.0 billion, or 59% of deposits as of February 28, 2023. In addition, under the Federal Reserve’s new BTFP facility, the the Bank has the option to add approximately $267 million to its borrowing capacity.

Undrawn credit commitments, as discussed in Note 16 to the Consolidated Financial Statements in ITEM 8 of this report, totaled $566.9 million at December 31, 2022. We expect to fund these commitments to the extent utilized primarily through the repayment of existing loans, deposit growth and liquid assets. Over the next twelve months, $87.0 million of time deposits will mature. We expect to replace these funds with new deposits. Our emphasis on local deposits, combined with our liquid investment portfolio, provides a very stable funding base.

Since Bancorp is a holding company and does not conduct regular banking operations, its primary sources of liquidity are dividends from the Bank. Under the California Financial Code, payment of a dividend from the Bank to Bancorp without advance regulatory approval is restricted to the lesser of the Bank’s retained earnings or the amount of the Bank’s net profits from the previous three fiscal years less the amount of dividends paid during that period. The primary uses of funds for Bancorp are shareholder dividends, ordinary operating expenses and stock repurchases.  Bancorp held $4.5 million of cash at December 31, 2022. Management anticipates that there will be sufficient earnings at the Bank to provide dividends to Bancorp to meet its funding requirements for the foreseeable future.