FBIZ 10-Q Quarterly Report Sept. 30, 2023

FIRST BUSINESS FINANCIAL SERVICES, INC.

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fbiz-20230930

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


☑						Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2023


☐						Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission file number 001-34095

FIRST BUSINESS FINANCIAL SERVICES, INC.

(Exact name of registrant as specified in its charter)


Wisconsin						39-1576570

(State or other jurisdiction of incorporation or organization)						(I.R.S. Employer Identification No.)


401 Charmany Drive		53719
Madison	Wisconsin
(Address of Principal Executive Offices)		(Zip Code)

( 608 ) 238-8008

Registrant’s telephone number, including area code

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

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common Stock, $0.01 par value

FBIZ

The Nasdaq Stock Market LLC

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

☐

Emerging growth company

☐

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

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

The number of shares outstanding of the registrant’s sole class of common stock, par value $0.01 per share, on October 20, 2023 was 8,314,901 shares.

Table of Contents

FIRST BUSINESS FINANCIAL SERVICES, INC.

INDEX — FORM 10-Q


PART I. Financial Information			1
Item 1. Financial Statements			1
Consolidated Balance Sheets (Unaudited)			1
Consolidated Statements of Income (Unaudited)			2
Consolidated Statements of Comprehensive Income (Unaudited)			3
Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)			4
Consolidated Statements of Cash Flows (Unaudited)			6
Notes to Unaudited Consolidated Financial Statements			8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			39
Item 3. Quantitative and Qualitative Disclosures about Market Risk			62
Item 4. Controls and Procedures			63
PART II. Other Information			63
Item 1. Legal Proceedings			64
Item 1A. Risk Factors			64
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			64


Item 5. Other Information			64
Item 6. Exhibits			64
Signatures			65

Table of Contents

PART I. Financial Information

Item 1. Financial Statements

First Business Financial Services, Inc.

Consolidated Balance Sheets


		September 30, 2023		December 31, 2022
		(Unaudited)
	(In Thousands, Except Share Data)
Assets
Cash and due from banks		$	23,303	$	25,811
Short-term investments		109,612		76,871
Cash and cash equivalents		132,915		102,682
Securities available-for-sale, at fair value		272,163		212,024
Securities held-to-maturity, at amortized cost		8,689		12,635
Loans held for sale		4,168		2,632
Loans and leases receivable, net of allowance for credit losses of $ 29,331 and $ 24,230 , respectively		2,734,683		2,418,836
Premises and equipment, net		6,157		4,340
Repossessed assets		61		95
Right-of-use assets, net		6,800		7,690
Bank-owned life insurance		55,123		54,018
Federal Home Loan Bank stock, at cost		13,528		17,812
Goodwill and other intangible assets		12,110		12,159
Derivatives		93,702		68,581
Accrued interest receivable and other assets		78,751		63,107
Total assets		$	3,418,850	$	2,976,611
Liabilities and Stockholders’ Equity
Deposits		$	2,657,007	$	2,168,206
Federal Home Loan Bank advances and other borrowings		363,891		456,808

Lease liabilities		9,236		10,175
Derivatives		78,696		61,419
Accrued interest payable and other liabilities		29,262		19,363
Total liabilities		3,138,092		2,715,971

Stockholders’ equity:
Preferred stock, $ 0.01 par value, 2,500,000 shares authorized, 12,500 shares of 7 % non-cumulative perpetual preferred stock, Series A, outstanding at September 30, 2023 and December 31, 2022, respectively		11,992		11,992
Common stock, $ 0.01 par value, 25,000,000 shares authorized, 9,418,413 and 9,371,078 shares issued, 8,315,186 and 8,362,085 shares outstanding at September 30, 2023 and December 31, 2022, respectively		95		94
Additional paid-in capital		89,947		87,512
Retained earnings		223,068		203,507
Accumulated other comprehensive loss		( 14,234 )		( 15,310 )
Treasury stock, 1,103,227 and 1,008,993 shares at September 30, 2023 and December 31, 2022, respectively, at cost		( 30,110 )		( 27,155 )
Total stockholders’ equity		280,758		260,640
Total liabilities and stockholders’ equity		$	3,418,850	$	2,976,611

See accompanying Notes to Unaudited Consolidated Financial Statements.

Table of Contents

First Business Financial Services, Inc.

Consolidated Statements of Income (Unaudited)


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands, Except Per Share Data)
Interest income
Loans and leases	$	47,868	$	30,174	$	131,962	$	78,934
Securities	2,198		1,165		5,601		3,204
Short-term investments	875		447		2,604		915
Total interest income	50,941		31,786		140,167		83,053
Interest expense
Deposits	19,803		3,181		48,774		5,005
Federal Home Loan Bank advances and other borrowings	2,542		2,721		8,344		6,573
Junior subordinated notes	—		—		—		504
Total interest expense	22,345		5,902		57,118		12,082
Net interest income	28,596		25,884		83,049		70,971
Provision for credit losses	1,817		12		5,610		( 4,569 )
Net interest income after provision for credit losses	26,779		25,872		77,439		75,540
Non-interest income
Private wealth management service fees	2,945		2,618		8,492		8,311
Gain on sale of Small Business Administration loans	851		732		1,771		2,269
Service charges on deposits	835		1,018		2,283		3,058
Loan fees	786		814		2,495		2,163
Increase in cash surrender value of bank-owned life insurance	376		359		1,106		1,057
Net loss on sale of securities	—		—		( 45 )		—
Swap fees	992		341		2,526		1,038
Other non-interest income	1,645		2,315		5,586		4,559
Total non-interest income	8,430		8,197		24,214		22,455
Non-interest expense
Compensation	15,573		14,817		46,610		42,475
Occupancy	575		566		1,809		1,689
Professional fees	1,429		1,203		4,012		3,671
Data processing	953		719		2,889		2,391
Marketing	758		543		2,165		1,713
Equipment	349		253		1,000		732
Computer software	1,289		1,128		3,668		3,327
FDIC insurance	680		230		1,653		840
Other non-interest expense	1,583		569		3,181		1,469
Total non-interest expense	23,189		20,028		66,987		58,307
Income before income tax expense	12,020		14,041		34,666		39,688
Income tax expense	2,079		3,215		7,409		8,986
Net income	9,941		10,826		27,257		30,702
Preferred stock dividend	218		218		656		464
Net income available to common shareholders	$	9,723	$	10,608	$	26,601	$	30,238
Earnings per common share
Basic	$	1.17	$	1.25	$	3.19	$	3.57
Diluted	1.17		1.25		3.19		3.57
Dividends declared per share	0.2275		0.1975		0.6825		0.5925

See accompanying Notes to Unaudited Consolidated Financial Statements.

Table of Contents

First Business Financial Services, Inc.

Consolidated Statements of Comprehensive Income (Unaudited)


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands)
Net income	$	9,941	$	10,826	$	27,257	$	30,702
Other comprehensive (loss) income
Securities available-for-sale:
Unrealized securities losses arising during the period	( 6,194 )		( 10,174 )		( 6,446 )		( 29,839 )
Reclassification adjustment for net loss realized in net income	—		—		45		—
Securities held-to-maturity:
Amortization of net unrealized losses transferred from available-for-sale	1		3		4		11
Interest rate swaps:
Unrealized gains on interest rate swaps arising during the period	5,713		3,452		7,844		9,496
Income tax benefit (expense)	123		1,719		( 371 )		5,201
Total other comprehensive (loss) income	( 357 )		( 5,000 )		1,076		( 15,131 )
Comprehensive income	$	9,584	$	5,826	$	28,333	$	15,571

See accompanying Notes to Unaudited Consolidated Financial Statements.

Table of Contents

First Business Financial Services, Inc.

Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)


	Common Shares Outstanding	Preferred Stock		Common Stock		Additional Paid-in Capital		Retained Earnings		Accumulated Other Comprehensive Loss		Treasury Stock		Total
	(In Thousands, Except Share Data)
Balance at January 1, 2022	8,457,564	$	—	$	93	$	85,797	$	170,020	$	( 1,457 )	$	( 22,031 )	$	232,422
Net income	—	—		—		—		8,672		—		—		8,672
Other comprehensive loss	—	—		—		—		—		( 6,406 )		—		( 6,406 )
Issuance of preferred stock, net of issuance costs	—	11,992		—		—		—		—		—		11,992


Share-based compensation - restricted shares and employee stock purchase plan	47,864	—		1		608		—		—		—		609
Issuance of common stock under the employee stock purchase plan	1,380	—		—		40		—		—		—		40
Treasury stock re-issued	—	—		—		( 1,002 )		—		—		1,002		—
Cash dividends ($ 0.1975 per share)	—	—		—		—		( 1,670 )		—		—		( 1,670 )
Treasury stock purchased	( 18,223 )	—		—		—		—		—		( 608 )		( 608 )
Balance at March 31, 2022	8,488,585	$	11,992	$	94	$	85,443	$	177,022	$	( 7,863 )	$	( 21,637 )	$	245,051
Net income	—	—		—		—		11,204		—		—		11,204
Other comprehensive loss	—	—		—		—		—		( 3,725 )		—		( 3,725 )


Share-based compensation - restricted shares and employee stock purchase plan	27,114	—		—		645		—		—		—		645
Issuance of common stock under the employee stock purchase plan	1,254	—		—		35		—		—		—		35

Preferred stock dividends	—	—		—		—		( 246 )		—		—		( 246 )
Cash dividends ( $ 0.1975 per share)	—	—		—		—		( 1,678 )		—		—		( 1,678 )
Treasury stock purchased	( 41,000 )	—		—		—		—		—		( 1,363 )		( 1,363 )
Balance at June 30, 2022	8,475,953	$	11,992	$	94	$	86,123	$	186,302	$	( 11,588 )	$	( 23,000 )	$	249,923
Net income	—	—		—		—		10,826		—		—		10,826
Other comprehensive loss	—	—		—		—		—		( 5,000 )		—		( 5,000 )


Share-based compensation - restricted shares and employee stock purchase plan	1,291	—		—		651		—		—		—		651
Issuance of common stock under the employee stock purchase plan	1,006	—		—		29		—		—		—		29

Preferred stock dividends	—	—		—		—		( 218 )		—		—		( 218 )
Cash dividends ($ 0.1975 per share)	—	—		—		—		( 1,675 )		—		—		( 1,675 )
Treasury stock purchased	( 46,202 )	—		—		—		—		—		( 1,532 )		( 1,532 )
Balance at September 30, 2022	8,432,048	$	11,992	$	94	$	86,803	$	195,235	$	( 16,588 )	$	( 24,532 )	$	253,004

Table of Contents


	Common Shares Outstanding	Preferred Stock		Common Stock		Additional Paid-in Capital		Retained Earnings		Accumulated Other Comprehensive Loss		Treasury Stock		Total
	(In Thousands, Except Share Data)
Balance at December 31, 2022	8,362,085	$	11,992	$	94	$	87,512	$	203,507	$	( 15,310 )	$	( 27,155 )	$	260,640
Cumulative change in accounting principle	—	—		—		—		( 1,353 )		—		—		( 1,353 )
Balance at January 1, 2023	8,362,085	11,992		94		87,512		202,154		( 15,310 )		( 27,155 )		259,287
Net income	—	—		—		—		8,979		—		—		8,979
Other comprehensive income	—	—		—		—		—		1,639		—		1,639




Share-based compensation - restricted shares and employee stock purchase plan	( 426 )	—		—		634		—		—		—		634

Issuance of common stock under the employee stock purchase plan	1,005	—		—		27		—		—		—		27

Preferred stock dividends	—	—		—		—		( 219 )		—		—		( 219 )
Cash dividends ($ 0.2275 per share)	—	—		—		—		( 1,906 )		—		—		( 1,906 )
Treasury stock purchased	( 56,394 )	—		—		—		—		—		( 1,860 )		( 1,860 )
Balance at March 31, 2023	8,306,270	11,992		94		88,173		209,008		( 13,671 )		( 29,015 )		266,581
Net income	—	—		—		—		8,337		—		—		8,337
Other comprehensive loss	—	—		—		—		—		( 206 )		—		( 206 )




Share-based compensation - restricted shares and employee stock purchase plan	45,280	—		1		1,071		—		—		—		1,072

Issuance of common stock under the employee stock purchase plan	1,044	—		—		28		—		—		—		28

Preferred stock dividends	—	—		—		—		( 219 )		—		—		( 219 )
Cash dividends ($ 0.2275 per share)	—	—		—		—		( 1,889 )		—		—		( 1,889 )
Treasury stock purchased	( 37,129 )	—		—		—		—		—		( 1,072 )		( 1,072 )
Balance at June 30, 2023	8,315,465	$	11,992	$	95	$	89,272	$	215,237	$	( 13,877 )	$	( 30,087 )	$	272,632
Net income	—	—		—		—		9,941		—		—		9,941
Other comprehensive loss	—	—		—		—		—		( 357 )		—		( 357 )




Share-based compensation - restricted shares and employee stock purchase plan	( 702 )	—		—		643		—		—		—		643

Issuance of common stock under the employee stock purchase plan	1,134	—		—		32		—		—		—		32

Preferred stock dividends	—	—		—		—		( 218 )		—		—		( 218 )
Cash dividends ($ 0.2275 per share)	—	—		—		—		( 1,892 )		—		—		( 1,892 )
Treasury stock purchased	( 711 )	—		—		—		—		—		( 23 )		( 23 )
Balance at September 30, 2023	8,315,186	$	11,992	$	95	$	89,947	$	223,068	$	( 14,234 )	$	( 30,110 )	$	280,758

See accompanying Notes to Unaudited Consolidated Financial Statements.

Table of Contents

First Business Financial Services, Inc.

Consolidated Statements of Cash Flows (Unaudited)


	For the Nine Months Ended September 30,
	2023		2022
	(In Thousands)
Operating activities
Net income	$	27,257	$	30,702
Adjustments to reconcile net income to net cash provided by operating activities:
Deferred income taxes, net	( 733 )		( 2,258 )
Impairment of tax credit investments	—		( 351 )
Provision for credit losses	5,610		( 4,569 )

Depreciation, amortization and accretion, net	2,838		3,088
Share-based compensation	2,349		1,905
Net loss on disposal of fixed assets	73		—
Gain on disposal of lease equipment	—		( 478 )


Amortization of tax credit investments	2,882		552

Bank-owned life insurance policy income	( 1,106 )		( 1,057 )
Origination of loans for sale	( 115,925 )		( 94,433 )
Sale of loans originated for sale	116,160		99,499
Gain on sale of loans originated for sale	( 1,771 )		( 2,269 )
Net loss on repossessed assets	9		27

Loan servicing right impairment valuation	—		15
Return on investment in limited partnerships	3,542		314
Excess tax benefit expense from share-based compensation	185		183
Net payments on operating lease liabilities	( 1,061 )		( 1,096 )
Net decrease in accrued interest receivable and other assets	( 8,825 )		( 4 )
Net increase in accrued interest payable and other liabilities	7,474		1,620
Net cash provided by operating activities	38,958		31,390
Investing activities
Proceeds from maturities, redemptions, and paydowns of available-for-sale securities	16,536		32,699
Proceeds from maturities, redemptions, and paydowns of held-to-maturity securities	3,932		6,190
Proceeds from sale of available-for-sale securities	5,028		—
Purchases of available-for-sale securities	( 88,563 )		( 54,098 )

Proceeds from sale of repossessed assets	25		37

Net increase in loans and leases	( 321,570 )		( 86,487 )
Investments in limited partnerships	( 1,106 )		( 797 )
Returns of investments in limited partnerships	7		17
Investment in tax credit investments	( 11,430 )		( 11,146 )
Distribution from tax credit investments	33		474
Investment in Federal Home Loan Bank stock	( 30,540 )		( 35,650 )
Proceeds from the sale of Federal Home Loan Bank stock	34,824		33,285
Purchases of leasehold improvements and equipment, net	( 2,574 )		( 1,847 )

Purchases of bank-owned life insurance policies	—		( 25 )



Proceeds from redemption of Trust II stock	—		315
Net cash used in investing activities	( 395,398 )		( 117,033 )
Financing activities
Net increase in deposits	488,801		129,622
Repayment of Federal Home Loan Bank advances	( 1,536,255 )		( 1,993,844 )
Proceeds from Federal Home Loan Bank advances	1,434,375		2,002,844


Proceeds from issuance of subordinated notes and debentures	15,000		20,000

Table of Contents


Repayment of subordinated notes and debentures	—		( 9,090 )
Repayment of junior subordinated notes payable	—		( 10,076 )

Net decrease in long-term borrowed funds	( 6,037 )		( 3,064 )


Cash dividends paid	( 5,687 )		( 5,023 )
Preferred stock dividends paid	( 656 )		( 464 )
Proceeds from issuance of common stock under ESPP	87		104

Proceeds from issuance of preferred stock	—		11,992
Purchase of treasury stock	( 2,955 )		( 3,503 )
Net cash provided by financing activities	386,673		139,498
Net increase in cash and cash equivalents	30,233		53,855
Cash and cash equivalents at the beginning of the period	102,682		57,110
Cash and cash equivalents at the end of the period	$	132,915	$	110,965
Supplementary cash flow information
Cash paid during the period for:
Interest paid on deposits and borrowings	$	51,092	$	11,083
Net income taxes paid (received)	5,022		3,263
Non-cash investing and financing activities:



Transfer of loans to repossessed assets	—		50

See accompany Notes to Unaudited Consolidated Financial Statements

Table of Contents

Notes to Unaudited Consolidated Financial Statements

Note 1 — Nature of Operations and Summary of Significant Accounting Policies

Nature of Operations

The accounting and reporting practices of First Business Financial Services, Inc. (“FBFS” or the “Corporation”), through our wholly-owned subsidiary, First Business Bank (“FBB” or the “Bank”), have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). FBB operates as a commercial banking institution primarily in Wisconsin and the greater Kansas City metropolitan area. The Bank provides a full range of financial services to businesses, business owners, executives, professionals, and high net worth individuals. FBB also offers bank consulting services to community financial institutions. The Bank is subject to competition from other financial institutions and service providers and is also subject to state and federal regulations. As of September 30, 2023, FBB had the following wholly-owned subsidiaries: First Business Specialty Finance, LLC (“FBSF”), First Madison Investment Corp. (“FMIC”), ABKC Real Estate, LLC (“ABKC”), FBB Real Estate 2, LLC (“FBB RE 2”), Mitchell Street Apartments Investment, LLC (“Mitchell Street”), and FBB Tax Credit Investment, LLC (“FBB Tax Credit”).

Basis of Presentation

The accompanying unaudited Consolidated Financial Statements were prepared in accordance with GAAP and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the Corporation’s Consolidated Financial Statements and footnotes thereto included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2022. The unaudited Consolidated Financial Statements include the accounts of the Corporation and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

Management of the Corporation is required to make estimates and assumptions which affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as reported amounts of revenues and expenses during the reporting period. Actual results could differ significantly from those estimates. Material estimates that could significantly change in the near-term include the value of securities and interest rate swaps, level of the allowance for credit losses, lease residuals, property under operating leases, goodwill, and income taxes. The results of operations for the three and nine months ended September 30, 2023, are not necessarily indicative of results that may be expected for any other interim period or the entire fiscal year ending December 31, 2023. Certain amounts in prior periods may have been reclassified to conform to the current presentation. Subsequent events have been evaluated through the date of the issuance of the unaudited Consolidated Financial Statements. No significant subsequent events have occurred through this date requiring adjustment to the financial statements or disclosures.

The Corporation has not changed its significant accounting and reporting policies from those disclosed in the Corporation’s Form 10-K for the year ended December 31, 2022 and updates from the adoption of new accounting standards disclosed in the Corporation’s Form 10-Q for the quarter ended March 31, 2023.

Recent Accounting Pronouncements

In March 2023, the Financial Accounting Standards Board issued Accounting Standards Update No. 2023-02 “Investments-Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force).” The amendments in this Update permit reporting entities to elect to account for their tax equity investments, regardless of the program from which the income tax credits are received, using the proportional amortization method if certain conditions are met. A reporting entity may make an accounting policy election to apply the proportional amortization method on a tax-credit-program-by-tax-credit-program basis rather than electing to apply the proportional amortization method at the reporting entity level or to individual investments. The Corporation is assessing the impact of this standard.

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Note 2 — Earnings per Common Share

Earnings per common share are computed using the two-class method. Basic earnings per common share are computed by dividing net income allocated to common shares by the weighted-average number of shares outstanding during the applicable period, excluding outstanding participating securities. Participating securities include unvested restricted shares. Unvested restricted shares are considered participating securities because holders of these securities receive non-forfeitable dividends, or dividend equivalents, at the same rate as holders of the Corporation’s common stock. Diluted earnings per share are computed by dividing net income allocated to common shares adjusted for reallocation of undistributed earnings of unvested restricted shares by the weighted average number of shares determined for the basic earnings per common share computation plus the dilutive effect of common stock equivalents using the treasury stock method.


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(Dollars in Thousands, Except Share Data)
Basic earnings per common share
Net income	$	9,941	$	10,826	$	27,257	$	30,702
Less: preferred stock dividends	218		218		656		464
Less: earnings allocated to participating securities	242		281		690		834
Basic earnings allocated to common shareholders	$	9,481	$	10,327	$	25,911	$	29,404
Weighted-average common shares outstanding, excluding participating securities	8,107,641		8,230,902		8,134,587		8,237,879
Basic earnings per common share	$	1.17	$	1.25	$	3.19	$	3.57

Diluted earnings per common share
Earnings allocated to common shareholders, diluted	$	9,481	$	10,327	$	25,911	$	29,404




Weighted-average diluted common shares outstanding, excluding participating securities	8,107,641		8,230,902		8,134,587		8,237,879
Diluted earnings per common share	$	1.17	$	1.25	$	3.19	$	3.57

Note 3 — Share-Based Compensation

The Corporation initially adopted the 2019 Equity Incentive Plan (the “Plan”) during the quarter ended June 30, 2019. The Plan is administered by the Compensation Committee of the Board of Directors (the “Board”) of the Corporation and provides for the grant of equity ownership opportunities through incentive stock options and nonqualified stock options, restricted stock, restricted stock units, dividend equivalent units, and any other type of award permitted by the Plan. As of September 30, 2023, 328,787 shares were available for future grants under the Plan, as amended. Shares covered by awards that expire, terminate, or lapse will again be available for the grant of awards under the Plan.

Restricted Stock

Under the Plan, the Corporation may grant restricted stock awards (“RSA”), restricted stock units (“RSU”), and other stock-based awards to plan participants, subject to forfeiture upon the occurrence of certain events until the dates specified in the participant’s award agreement. While restricted stock is subject to forfeiture, restricted stock award participants may exercise full voting rights and will receive all dividends and other distributions paid with respect to the restricted shares. RSUs do not have voting rights. RSUs granted prior to 2023 are provided dividend equivalents concurrent with dividends paid to shareholders while RSUs granted in 2023 and after will accrue dividend equivalents payable upon vesting. The restricted stock granted under the Plan is typically subject to a vesting period. Compensation expense for restricted stock is recognized over the requisite service period of generally three or four years for the entire award on a straight-line basis. Upon vesting of restricted stock, the benefit of tax deductions in excess of recognized compensation expense is reflected as an income tax benefit in the unaudited Consolidated Statements of Income.

The Corporation may also issue performance-based restricted stock units (“PRSU”). Vesting of the performance-based restricted stock units will be measured on the relative Total Shareholder Return (“TSR”) and relative Return on Average Equity (“ROAE”) for issuances prior to 2023 or Return on Average Common Equity (“ROACE”) for issuances after 2022, and will cliff-vest after a three-year measurement period based on the Corporation’s TSR performance and ROAE or ROACE

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performance compared to a broad peer group of over 100 banks. At the end of the performance period, the number of actual shares to be awarded varies between 0% and 200% of target amounts. The restricted stock awards and units issued to executive officers will vest ratably over a three-year period. Compensation expense is recognized for PRSU over the requisite service and performance period of generally three years for the entire expected award on a straight-line basis. The compensation expense for the awards expected to vest for the percentage of performance-based restricted stock units subject to the ROAE or ROACE metric will be adjusted if there is a change in the expectation of ROAE or ROACE. The compensation expense for the awards expected to vest for the percentage of performance based restricted stock units subject to the TSR metric are never adjusted and are amortized utilizing the accounting fair value provided using a Monte Carlo pricing model.

Restricted stock activity for the year ended December 31, 2022 and the nine months ended September 30, 2023 was as follows:


	RSA		Weighted Average Grant Price		PRSU		Weighted Average Grant Price		RSU		Weighted Average Grant Price		Total		Weighted Average Grant Price
Nonvested balance as of December 31, 2021	141,617		$	23.06	63,120		$	28.20	5,052		$	23.56	209,789		$	24.62
Granted (1)	62,560		34.04		37,335		24.71		3,115		27.95		103,010		30.47
Vested	( 62,353 )		23.21		( 43,020 )		18.91		( 2,062 )		23.20		( 107,435 )		21.49
Forfeited	( 8,507 )		26.15		—		—		—		—		( 8,507 )		26.15
Nonvested balance as of December 31, 2022	133,317		27.95		57,435		32.89		6,105		25.92		196,857		29.32
Granted (1)	—		—		34,840		35.79		52,765		34.43		87,605		34.97
Vested	( 55,500 )		27.01		( 36,120 )		31.32		( 3,253 )		26.07		( 94,873 )		28.61
Forfeited	( 3,340 )		29.00		—		—		( 180 )		36.42		( 3,520 )		29.37
Nonvested balance as of September 30, 2023	74,477		$	28.60	56,155		$	35.70	55,437		$	33.98	186,069		$	32.34
Unrecognized compensation cost (in thousands)	$	1,509			$	1,091			$	1,510			$	4,110
Weighted average remaining recognition period (in years)	1.97				1.77				2.90				2.26

(1) The number of restricted shares/units shown includes the shares that would be granted if the target level of performance is achieved related to the performance based restricted stock units. The number of shares actually issued may vary. During the nine months ended September 30, 2023, an additional 18,060 were issued related to actual performance results of previously granted awards.

Employee Stock Purchase Plan

During 2020, an employee stock purchase plan ("ESPP") was approved by the Corporation’s shareholders and is offered to all qualifying employees. The Corporation is authorized to issue up to 250,000 shares of common stock under the ESPP. The plan qualifies as an employee stock purchase plan under section 423 of the Internal Revenue Code of 1986. Under the ESPP, eligible employees may enroll in a three month offer period that begins January, April, July, and October of each year. Employees may elect to purchase a limited number of shares on the Corporation's common stock at 90 % of the fair market value on the last day of the offering period. The ESPP is treated as a compensatory item for purposes of share-based compensation expense.

During the nine months ended September 30, 2023, the Corporation issued 3,183 shares of common stock under the ESPP. As of September 30, 2023, 231,783 shares remained available for issuance under the ESPP.

Share-based compensation expense related to restricted stock and ESPP included in the unaudited Consolidated Statements of Income was as follows:


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands)
Share-based compensation expense	$	643	$	651	$	2,349	$	1,905

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Note 4 — Securities

The amortized cost and fair value of securities available-for-sale and the corresponding amounts of gross unrealized gains and losses recognized in accumulated other comprehensive income were as follows:


	As of September 30, 2023
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
	(In Thousands)
Available-for-sale:
U.S. treasuries	$	14,075	$	—	$	( 534 )	13,541
U.S. government agency securities - government-sponsored enterprises	28,568		40		( 669 )		27,939
Municipal securities	40,510		—		( 7,470 )		33,040

Residential mortgage-backed securities - government issued	59,274		—		( 3,514 )		55,760
Residential mortgage-backed securities - government-sponsored enterprises	128,609		—		( 15,626 )		112,983
Commercial mortgage-backed securities - government issued	3,272		—		( 595 )		2,677
Commercial mortgage-backed securities - government-sponsored enterprises	31,983		—		( 5,760 )		26,223

	$	306,291	$	40	$	( 34,168 )	$	272,163


	As of December 31, 2022
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
	(In Thousands)
Available-for-sale:
U.S. treasuries	$	4,977	$	—	$	( 532 )	$	4,445
U.S. government agency securities - government-sponsored enterprises	13,666		70		( 531 )		13,205
Municipal securities	45,088		90		( 5,867 )		39,311

Residential mortgage-backed securities - government issued	21,790		—		( 2,359 )		19,431
Residential mortgage-backed securities - government-sponsored enterprises	119,265		—		( 12,942 )		106,323
Commercial mortgage-backed securities - government issued	3,450		—		( 518 )		2,932
Commercial mortgage-backed securities - government-sponsored enterprises	31,515		—		( 5,138 )		26,377

	$	239,751	$	160	$	( 27,887 )	$	212,024

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The amortized cost and fair value of securities held-to-maturity and the corresponding amounts of gross unrecognized gains and losses were as follows:


	As of September 30, 2023
	Amortized Cost		Gross Unrecognized Gains		Gross Unrecognized Losses		Fair Value
	(In Thousands)
Held-to-maturity:

Municipal securities	$	4,213	$	—	$	( 140 )	$	4,073

Residential mortgage-backed securities - government issued	1,312		—		( 99 )		1,213
Residential mortgage-backed securities - government-sponsored enterprises	1,159		—		( 82 )		1,077
Commercial mortgage-backed securities - government-sponsored enterprises	2,005		—		( 155 )		1,850
	$	8,689	$	—	$	( 476 )	$	8,213


	As of December 31, 2022
	Amortized Cost		Gross Unrecognized Gains		Gross Unrecognized Losses		Fair Value
	(In Thousands)
Held-to-maturity:

Municipal securities	$	7,467	$	7	$	( 70 )	$	7,404

Residential mortgage-backed securities - government issued	1,625		—		( 107 )		1,518
Residential mortgage-backed securities - government-sponsored enterprises	1,537		—		( 93 )		1,444
Commercial mortgage-backed securities - government-sponsored enterprises	2,006		—		( 102 )		1,904
	$	12,635	$	7	$	( 372 )	$	12,270

U.S. Treasuries contain treasury bonds issued by the United States Treasury. U.S. government agency securities - government-sponsored enterprises represent securities issued by Federal National Mortgage Association (“FNMA”) and the SBA. Municipal securities include securities issued by various municipalities located primarily within Wisconsin and are primarily general obligation bonds that are tax-exempt in nature. Residential and commercial mortgage-backed securities - government issued represent securities guaranteed by the Government National Mortgage Association. Residential and commercial mortgage-backed securities - government-sponsored enterprises include securities guaranteed by the Federal Home Loan Mortgage Corporation, FNMA, and the FHLB. The Corporation sold no available-for-sale securities during the three months ended September 30, 2023 and 16 available-for-sale securities during the nine months ended September 30, 2023. There were no sales of available-for-sale securities during the three and nine months ended September 30, 2022.

At September 30, 2023 and December 31, 2022, securities with a fair value of $ 43.3 million and $ 35.9 million, respectively, were pledged to secure various obligations, including interest rate swap contracts and municipal deposits.

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The amortized cost and fair value of securities by contractual maturity at September 30, 2023 are shown below. Actual maturities may differ from contractual maturities because issuers have the right to call or prepay certain obligations with or without call or prepayment penalties.


	Available-for-Sale				Held-to-Maturity
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
	(In Thousands)
Due in one year or less	$	20,496	$	20,439	$	1,060	$	1,048
Due in one year through five years	17,471		16,103		3,153		3,025
Due in five through ten years	15,325		13,381		—		—
Due in over ten years	29,861		24,597		—		—
	83,153		74,520		4,213		4,073
Residential mortgage-backed securities	187,883		168,743		2,471		2,290
Commercial mortgage-backed securities	35,255		28,900		2,005		1,850
	$	306,291	$	272,163	$	8,689	$	8,213

The tables below show the Corporation’s gross unrealized losses and fair value of available-for-sale investments aggregated by investment category and length of time that individual investments were in a continuous loss position at September 30, 2023 and December 31, 2022. At September 30, 2023, the Corporation held 183 available-for-sale securities that were in an unrealized loss position, 153 of which have been in a continuous unrealized loss position for twelve months or greater.

The Corporation also has not specifically identified available-for-sale securities in a loss position that it intends to sell in the near term and does not believe that it will be required to sell any such securities. The Corporation reviews its securities on a quarterly basis to assess declines in fair value for credit losses. Consideration is given to such factors as the credit rating of the borrower, market conditions such as current interest rates, any adverse conditions specific to the security, and delinquency status on contractual payments. For the three and nine months ended September 30, 2023 and 2022, management concluded that in all instances securities with fair value less than carrying value was due to market and other factors; thus, no credit loss provision was required.

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A summary of unrealized loss information for securities available-for-sale, categorized by security type and length of time for which the security has been in a continuous unrealized loss position, follows:


	As of September 30, 2023
	Less than 12 Months				12 Months or Longer				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
	(In Thousands)
Available-for-sale:
U.S. treasuries	$	9,079	$	14	$	4,462	$	520	$	13,541	$	534
U.S. government agency securities - government-sponsored enterprises	16,295		107		2,938		562		19,233		669
Municipal securities	—		—		33,040		7,470		33,040		7,470

Residential mortgage-backed securities - government issued	29,423		907		13,828		2,607		43,251		3,514
Residential mortgage-backed securities - government-sponsored enterprises	36,314		1,308		76,669		14,318		112,983		15,626
Commercial mortgage-backed securities - government issued	—		—		2,677		595		2,677		595
Commercial mortgage-backed securities - government-sponsored enterprises	874		42		25,349		5,718		26,223		5,760

	$	91,985	$	2,378	$	158,963	$	31,790	$	250,948	$	34,168


	As of December 31, 2022
	Less than 12 Months				12 Months or Longer				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
	(In Thousands)
Available-for-sale:
U.S. treasuries	$	—	$	—	$	4,446	$	532	$	4,446	$	532
U.S. government agency securities - government-sponsored enterprises	—		—		2,969		531		2,969		531
Municipal securities	26,759		3,132		10,133		2,735		36,892		5,867

Residential mortgage-backed securities - government issued	9,624		436		9,807		1,923		19,431		2,359
Residential mortgage-backed securities - government-sponsored enterprises	71,474		6,433		34,849		6,509		106,323		12,942
Commercial mortgage-backed securities - government issued	1,236		112		1,696		406		2,932		518
Commercial mortgage-backed securities - government-sponsored enterprises	7,758		984		18,619		4,154		26,377		5,138

	$	116,851	$	11,097	$	82,519	$	16,790	$	199,370	$	27,887

The tables below show the Corporation’s gross unrealized losses and fair value of held-to-maturity investments, aggregated by investment category and length of time that individual investments were in a continuous loss position at September 30, 2023 and December 31, 2022. At September 30, 2023, the Corporation held 30 held-to-maturity securities that were in an unrealized loss position, 24 of which have been in a continuous unrealized loss position for twelve months or greater. Management assesses held-to-maturity securities for credit losses on a quarterly basis. The assessment includes review of credit ratings,

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identification of delinquency and evaluation of market factors. Based on this analysis, management concludes the decline in fair value is due to market factors, specifically changes in interest rates. Accordingly, no credit loss provision was recorded in the unaudited Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022.

A summary of unrecognized loss information for securities held-to-maturity, categorized by security type and length of time for which the security has been in a continuous unrealized loss position, follows:


	As of September 30, 2023
	Less than 12 Months				12 Months or Longer				Total
	Fair Value		Unrecognized Losses		Fair Value		Unrecognized Losses		Fair Value		Unrecognized Losses
	(In Thousands)
Held-to-maturity:

Municipal securities	$	1,896	$	46	$	2,177	$	94	$	4,073	$	140
Residential mortgage-backed securities - government issued	—		—		1,213		99		1,213		99
Residential mortgage-backed securities - government-sponsored enterprises	—		—		1,077		82		1,077		82
Commercial mortgage-backed securities - government-sponsored enterprises	—		—		1,850		155		1,850		155
	$	1,896	$	46	$	6,317	$	430	$	8,213	$	476


	As of December 31, 2022
	Less than 12 Months				12 Months or Longer				Total
	Fair Value		Unrecognized Losses		Fair Value		Unrecognized Losses		Fair Value		Unrecognized Losses
	(In Thousands)
Held-to-maturity:

Municipal securities	$	6,035	$	52	$	267	$	18	$	6,302	$	70

Residential mortgage-backed securities - government issued	1,518		107		—		—		1,518		107
Residential mortgage-backed securities - government-sponsored enterprises	1,444		93		—		—		1,444		93
Commercial mortgage-backed securities - government-sponsored enterprises	1,904		102		—		—		1,904		102
	$	10,901	$	354	$	267	$	18	$	11,168	$	372

On January 1, 2023, the Corporation adopted ASU 2016-13, which replaced the legacy GAAP other-than-temporary impairment (“OTTI”) model with a credit loss model. ASU 2016-13 requires an allowance on lifetime expected credit losses on held to maturity debt securities. As of January 1, 2023 and September 30, 2023, the Corporation estimated the expected credit losses to be immaterial based on the composition of the securities portfolio.

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Note 5 — Loans and Allowance for Credit Losses

Loan and lease receivables consist of the following:


	September 30, 2023		December 31, 2022
	(In Thousands)
Commercial real estate:
Commercial real estate — owner occupied	$	236,058	$	268,354
Commercial real estate — non-owner occupied	753,517		687,091
Construction	211,828		218,751
Multi-family	409,714		350,026
1-4 family	24,235		17,728
Total commercial real estate	1,635,352		1,541,950
Commercial and industrial	1,083,698		853,327
Consumer and other	44,808		47,938
Total gross loans and leases receivable	2,763,858		2,443,215
Less:
Allowance for credit losses	29,331		24,230
Deferred loan fees and costs, net	( 156 )		149
Loans and leases receivable, net	$	2,734,683	$	2,418,836

Loans transferred to third parties consist of the guaranteed portions of SBA loans which the Corporation sold in the secondary market and participation interests in other, non-SBA originated loans. The total principal amount of the guaranteed portions of SBA loans sold during the three months ended September 30, 2023, and 2022, was $ 10.7 million and $ 9.2 million, respectively. The total principal amount of the guaranteed portions of SBA loans sold during the nine months ended September 30, 2023, and 2022, was $ 20.5 million and $ 26.6 million, respectively. Each of the transfers of these financial assets met the qualifications for sale accounting, and therefore all of the loans transferred during the three and nine months ended September 30, 2023, and 2022, have been derecognized in the unaudited Consolidated Financial Statements. The guaranteed portions of SBA loans were transferred at their fair value and the related gain was recognized upon the transfer as non-interest income in the unaudited Consolidated Financial Statements. The total outstanding balance of sold SBA loans at September 30, 2023, and December 31, 2022, was $ 91.1 million and $ 88.5 million, respectively.

The total principal amount of transferred participation interests in other, non-SBA originated loans during the three months ended September 30, 2023, and 2022, was $ 39.2 million and $ 25.4 million, respectively, all of which were treated as sales and derecognized under the applicable accounting guidance at the time of transfer. The total principal amount of transferred participation interests in other, non-SBA originated loans during the nine months ended September 30, 2023, and 2022, was $ 93.9 million and $ 70.6 million, respectively, all of which were treated as sales and derecognized under the applicable accounting guidance at the time of transfer. No gain or loss was recognized on participation interests in other, non-SBA originated loans as they were transferred at or near the date of loan origination and the payments received for servicing the portion of the loans participated represents adequate compensation. The total outstanding balance of these transferred loans at September 30, 2023, and December 31, 2022, was $ 265.2 million and $ 222.9 million, respectively. As of September 30, 2023, and December 31, 2022, the total amount of the Corporation’s partial ownership of these transferred loans on the unaudited Consolidated Balance Sheets was $ 362.9 million and $ 339.0 million, respectively. As of September 30, 2023 and December 31, 2022, the non-SBA originated participation portfolio contained no non-performing loans. The Corporation does not share in the participant’s portion of any potential charge-offs. There were no loan participations purchased on the unaudited Consolidated Balance Sheets as of September 30, 2023 and December 31, 2022.

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The following table illustrates ending balances of the Corporation’s loan and lease portfolio, including non-performing loans by class of receivable, and considering certain credit quality indicators:


September 30, 2023	Term Loans Amortized Cost Basis by Origination Year
(In Thousands)	2023		2022		2021		2020		2019		Prior		Revolving Loans Amortized Cost Basis		Total
Commercial real estate — owner occupied
Category
I	$	23,686	$	35,050	$	30,899	$	45,517	$	22,815	$	74,599	$	854	$	233,420
II	—		—		—		—		—		2,638		—		2,638
III	—		—		—		—		—		—		—		—
IV	—		—		—		—		—		—		—		—
Total	$	23,686	$	35,050	$	30,899	$	45,517	$	22,815	$	77,237	$	854	$	236,058

Commercial real estate — non-owner occupied
Category
I	$	63,933	$	88,468	$	73,530	$	50,707	$	61,700	$	327,526	$	30,764	$	696,628
II	—		—		—		2,277		16,621		9,177		—		28,075
III	—		—		—		—		8,709		20,105		—		28,814
IV	—		—		—		—		—		—		—		—
Total	$	63,933	$	88,468	$	73,530	$	52,984	$	87,030	$	356,808	$	30,764	$	753,517

Construction
Category
I	$	22,994	$	83,860	$	48,685	$	34,645	$	439	$	7,055	$	14,150	$	211,828
II	—		—		—		—		—		—		—		—
III	—		—		—		—		—		—		—		—
IV	—		—		—		—		—		—		—		—
Total	$	22,994	$	83,860	$	48,685	$	34,645	$	439	$	7,055	$	14,150	$	211,828

Multi-family
Category
I	$	66,904	$	35,342	$	48,858	$	113,872	$	23,015	$	118,710	$	3,013	$	409,714
II	—		—		—		—		—		—		—		—
III	—		—		—		—		—		—		—		—
IV	—		—		—		—		—		—		—		—
Total	$	66,904	$	35,342	$	48,858	$	113,872	$	23,015	$	118,710	$	3,013	$	409,714

1-4 family
Category
I	$	—	$	8,161	$	2,710	$	2,378	$	451	$	2,941	$	7,570	$	24,211
II	—		—		—		—		—		—		—		—
III	—		—		—		—		—		—		—		—
IV	—		—		—		—		—		24		—		24
Total	$	—	$	8,161	$	2,710	$	2,378	$	451	$	2,965	$	7,570	$	24,235

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September 30, 2023	Term Loans Amortized Cost Basis by Origination Year
(In Thousands)	2023		2022		2021		2020		2019		Prior		Revolving Loans Amortized Cost Basis		Total
Commercial and industrial
Category
I	$	238,317	$	154,061	$	92,754	$	43,801	$	23,071	$	30,303	$	426,772	$	1,009,079
II	1,005		8,967		866		248		3,372		167		8,537		23,162
III	945		9,024		5,134		6,136		1,184		4,077		7,353		33,853
IV	592		5,325		1,272		425		126		315		9,549		17,604
Total	$	240,859	$	177,377	$	100,026	$	50,610	$	27,753	$	34,862	$	452,211	$	1,083,698

Consumer and other
Category
I	$	6,102	$	9,068	$	3,266	$	12,588	$	2,162	$	3,579	$	8,043	$	44,808
II	—		—		—		—		—		—		—		—
III	—		—		—		—		—		—		—		—
IV	—		—		—		—		—		—		—		—
Total	$	6,102	$	9,068	$	3,266	$	12,588	$	2,162	$	3,579	$	8,043	$	44,808

Total Loans
Category
I	$	421,936	$	414,010	$	300,702	$	303,508	$	133,653	$	564,713	$	491,166	$	2,629,688
II	1,005		8,967		866		2,525		19,993		11,982		8,537		53,875
III	945		9,024		5,134		6,136		9,893		24,182		7,353		62,667
IV	592		5,325		1,272		425		126		339		9,549		$	17,628
Total	$	424,478	$	437,326	$	307,974	$	312,594	$	163,665	$	601,216	$	516,605	$	2,763,858

Each credit is evaluated for proper risk rating upon origination, at the time of each subsequent renewal, upon receipt and evaluation of updated financial information from the Corporation’s borrowers, or as other circumstances dictate. The Corporation primarily uses a nine grade risk rating system to monitor the ongoing credit quality of its loans and leases. The risk rating grades follow a consistent definition and are then applied to specific loan types based on the nature of the loan. Each risk rating is subjective and, depending on the size and nature of the credit, subject to various levels of review and concurrence on the stated risk rating. In addition to its nine grade risk rating system, the Corporation groups loans into four loan and related risk categories which determine the level and nature of review by management.

Category I — Loans and leases in this category are performing in accordance with the terms of the contract and generally exhibit no immediate concerns regarding the security and viability of the underlying collateral, financial stability of the borrower, integrity or strength of the borrowers’ management team, or the industry in which the borrower operates. The Corporation monitors Category I loans and leases through payment performance, continued maintenance of its personal relationships with such borrowers, and continued review of such borrowers’ compliance with the terms of their respective agreements.

Category II — Loans and leases in this category are beginning to show signs of deterioration in one or more of the Corporation’s core underwriting criteria such as financial stability, management strength, industry trends, or collateral values. Management will place credits in this category to allow for proactive monitoring and resolution with the borrower to possibly mitigate the area of concern and prevent further deterioration or risk of loss to the Corporation. Category II loans are considered performing but are monitored frequently by the assigned business development officer and by asset quality review committees.

Category III — Loans and leases in this category are identified by management as warranting special attention. However, the balance in this category is not intended to represent the amount of adversely classified assets held by the Bank. Category III

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loans and leases generally exhibit undesirable characteristics, such as evidence of adverse financial trends and conditions, managerial problems, deteriorating economic conditions within the related industry, or evidence of adverse public filings and may exhibit collateral shortfall positions. Management continues to believe that it will collect all contractual principal and interest in accordance with the original terms of the contracts relating to the loans and leases in this category, and therefore Category III loans are considered performing with no specific reserves established for this category. Category III loans are monitored by management and asset quality review committees on a monthly basis.

Category IV — Loans and leases in this category are non-performing loans. Management has determined that it is unlikely that the Bank will receive the contractual principal and interest in accordance with the original terms of the agreement. Non-performing loans are individually evaluated to assess the need for the establishment of specific reserves or charge-offs. When analyzing the adequacy of collateral, the Corporation obtains external appraisals at least annually. External appraisals are obtained from the Corporation’s approved appraiser listing and are independently reviewed to monitor the quality of such appraisals. To the extent a collateral shortfall position is present, a specific reserve or charge-off will be recorded. Loans and leases in this category are monitored by management and asset quality review committees on a monthly basis.

The delinquency aging of the loan and lease portfolio by class of receivable was as follows:


	September 30, 2023
	30-59 Days Past Due			60-89 Days Past Due			Greater Than 90 Days Past Due			Total Past Due			Current			Total Loans and Leases
	(Dollars in Thousands)
Performing loans and leases
Commercial real estate:
Owner occupied	$	—		$	—		$	—		$	—		$	236,058		$	236,058
Non-owner occupied	—			—			—			—			753,517			753,517
Construction	—			—			—			—			211,828			211,828
Multi-family	—			—			—			—			409,714			409,714
1-4 family	—			—			—			—			24,211			24,211
Commercial and industrial	1,874			1,269			—			3,143			1,062,951			1,066,094
Consumer and other	—			—			—			—			44,808			44,808
Total	1,874			1,269			—			3,143			2,743,087			2,746,230
Non-performing loans and leases
Commercial real estate:
Owner occupied	—			—			—			—			—			—
Non-owner occupied	—			—			—			—			—			—
Construction	—			—			—			—			—			—
Multi-family	—			—			—			—			—			—
1-4 family	—			—			—			—			24			24
Commercial and industrial	408			1,406			5,184			6,998			10,606			17,604
Consumer and other	—			—			—			—			—			—
Total	408			1,406			5,184			6,998			10,630			17,628
Total loans and leases
Commercial real estate:
Owner occupied	—			—			—			—			236,058			236,058
Non-owner occupied	—			—			—			—			753,517			753,517
Construction	—			—			—			—			211,828			211,828
Multi-family	—			—			—			—			409,714			409,714
1-4 family	—			—			—			—			24,235			24,235
Commercial and industrial	2,282			2,675			5,184			10,141			1,073,557			1,083,698
Consumer and other	—			—			—			—			44,808			44,808
Total	$	2,282		$	2,675		$	5,184		$	10,141		$	2,753,717		$	2,763,858
Percent of portfolio	0.08		%	0.10		%	0.19		%	0.37		%	99.63		%	100.00		%

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	December 31, 2022
	30-59 Days Past Due			60-89 Days Past Due			Greater Than 90 Days Past Due			Total Past Due			Current			Total Loans and Leases
	(Dollars in Thousands)
Performing loans and leases
Commercial real estate:
Owner occupied	$	—		$	—		$	—		$	—		$	268,354		$	268,354
Non-owner occupied	215			—			—			215			686,876			687,091
Construction	—			—			—			—			218,751			218,751
Multi-family	—			—			—			—			350,026			350,026
1-4 family	—			—			—			—			17,698			17,698
Commercial and industrial	1,437			403			—			1,840			847,858			849,698
Consumer and other	—			—			—			—			47,938			47,938
Total	1,652			403			—			2,055			2,437,501			2,439,556
Non-performing loans and leases
Commercial real estate:
Owner occupied	—			—			—			—			—			—
Non-owner occupied	—			—			—			—			—			—
Construction	—			—			—			—			—			—
Multi-family	—			—			—			—			—			—
1-4 family	—			—			—			—			30			30
Commercial and industrial	439			126			2,464			3,029			600			3,629
Other	—			—			—			—			—			—
Total	439			126			2,464			3,029			630			3,659
Total loans and leases
Commercial real estate:
Owner occupied	—			—			—			—			268,354			268,354
Non-owner occupied	215			—			—			215			686,876			687,091
Construction	—			—			—			—			218,751			218,751
Multi-family	—			—			—			—			350,026			350,026
1-4 family	—			—			—			—			17,728			17,728
Commercial and industrial	1,876			529			2,464			4,869			848,458			853,327
Consumer and other	—			—			—			—			47,938			47,938
Total	$	2,091		$	529		$	2,464		$	5,084		$	2,438,131		$	2,443,215
Percent of portfolio	0.09		%	0.02		%	0.10		%	0.21		%	99.79		%	100.00		%

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The Corporation’s total non-performing assets consisted of the following:


	September 30, 2023		December 31, 2022
	(In Thousands)
Non-performing loans and leases
Commercial real estate:
Commercial real estate — owner occupied	$	—	$	—
Commercial real estate — non-owner occupied	—		—
Construction	—		—
Multi-family	—		—
1-4 family	24		30
Total non-performing commercial real estate	24		30
Commercial and industrial	17,604		3,629
Consumer and other	—		—
Total non-performing loans and leases	17,628		3,659
Repossessed assets, net	61		95
Total non-performing assets	$	17,689	$	3,754


	September 30, 2023		December 31, 2022
Total non-performing loans and leases to gross loans and leases	0.64	%	0.15	%
Total non-performing assets to total gross loans and leases plus repossessed assets, net	0.64		0.15
Total non-performing assets to total assets	0.52		0.13
Allowance for credit losses to gross loans and leases	1.12		0.99
Allowance for credit losses to non-performing loans and leases	176.06		662.20

Occasionally, the Corporation modifies loans to borrowers in financial distress. There were two commercial and industrial loans for a total of $ 716,000 modified during the three and nine months ended September 30, 2023. The modifications consisted of payment deferrals. These loans are included in total non-performing loans and are currently 25 and 117 days past due, respectively. No loans were modified during the three and nine ended September 30, 2022. There were no loans to borrowers experiencing financial distress that were modified during the previous 12 months and which subsequently defaulted during the three and nine months ended September 30, 2023 and 2022. There were no unfunded commitments associated with loans modified for borrowers experiencing financial distress as of September 30, 2023.

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The following represents additional information regarding the Corporation’s non-performing loans and leases, by portfolio segment:


	As of and for the Nine Months Ended September 30, 2023
	Recorded Investment (1)		Unpaid Principal Balance		Individual Reserve		Average Recorded Investment (2)		Foregone Interest Income		Interest Income Recognized		Net Foregone Interest Income
	(In Thousands)
With no individual reserve recorded:
Commercial real estate:
Owner occupied	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Non-owner occupied	—		—		—		—		—		—		—
Construction	—		—		—		—		—		—		—
Multi-family	—		—		—		—		—		—		—
1-4 family	24		29		—		27		3		17		( 14 )
Commercial and industrial	11,357		11,361		—		4,263		436		70		366
Consumer and other	—		—		—		—		—		—		—
Total	11,381		11,390		—		4,290		439		87		352
With individual reserve recorded:
Commercial real estate:
Owner occupied	—		—		—		—		—		—		—
Non-owner occupied	—		—		—		—		—		—		—
Construction	—		—		—		—		—		—		—
Multi-family	—		—		—		—		—		—		—
1-4 family	—		—		—		—		—		—		—
Commercial and industrial	6,247		6,247		3,982		3,412		265		21		244
Consumer and other	—		—		—		—		—		—		—
Total	6,247		6,247		3,982		3,412		265		21		244
Total:
Commercial real estate:
Owner occupied	—		—		—		—		—		—		—
Non-owner occupied	—		—		—		—		—		—		—
Construction	—		—		—		—		—		—		—
Multi-family	—		—		—		—		—		—		—
1-4 family	24		29		—		27		3		17		( 14 )
Commercial and industrial	17,604		17,608		3,982		7,675		701		91		610
Consumer and other	—		—		—		—		—		—		—
Grand total	$	17,628	$	17,637	$	3,982	$	7,702	$	704	$	108	$	596

(1) The recorded investment represents the unpaid principal balance net of any partial charge-offs.

(2) Average recorded investment is calculated primarily using daily average balances.

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	As of and for the Year Ended December 31, 2022
	Recorded Investment (1)		Unpaid Principal Balance		Individual Reserve		Average Recorded Investment (2)		Foregone Interest Income		Interest Income Recognized		Net Foregone Interest Income
	(In Thousands)
With no individual reserve recorded:
Commercial real estate:
Owner occupied	$	—	$	—	$	—	$	180	$	14	$	759	$	( 745 )
Non-owner occupied	—		—		—		—		—		1		( 1 )
Construction	—		—		—		—		—		47		( 47 )
Multi-family	—		—		—		—		—		—		—
1-4 family	30		35		—		112		8		41		( 33 )
Commercial and industrial	1,037		1,037		—		3,153		277		587		( 310 )
Consumer and other	—		—		—		—		—		—		—
Total	1,067		1,072		—		3,445		299		1,435		( 1,136 )
With individual reserve recorded:
Commercial real estate:
Owner occupied	—		—		—		—		—		—		—
Non-owner occupied	—		—		—		—		—		—		—
Construction	—		—		—		—		—		—		—
Multi-family	—		—		—		—		—		—		—
1-4 family	—		—		—		—		—		—		—
Commercial and industrial	2,592		2,612		1,650		1,454		101		1		100
Consumer and other	—		—		—		—		—		—		—
Total	2,592		2,612		1,650		1,454		101		1		100
Total:
Commercial real estate:
Owner occupied	—		—		—		180		14		759		( 745 )
Non-owner occupied	—		—		—		—		—		1		( 1 )
Construction	—		—		—		—		—		47		( 47 )
Multi-family	—		—		—		—		—		—		—
1-4 family	30		35		—		112		8		41		( 33 )
Commercial and industrial	3,629		3,649		1,650		4,607		378		588		( 210 )
Consumer and other	—		—		—		—		—		—		—
Grand total	$	3,659	$	3,684	$	1,650	$	4,899	$	400	$	1,436	$	( 1,036 )

(1) The recorded investment represents the unpaid principal balance net of any partial charge-offs.

(2) Average recorded investment is calculated primarily using daily average balances.

The difference between the recorded investment of loans and leases and the unpaid principal balance of $ 9,000 and $ 26,000 as of September 30, 2023, and December 31, 2022, respectively, represents partial charge-offs of loans and leases resulting from losses due to the value of the collateral securing the loans and leases being below the carrying values of the loans and leases. When a loan is placed on non-accrual, interest accrual is discontinued and previously accrued but uncollected interest is deducted from interest income. Cash payments collected on non-accrual loans are first applied to such loan’s principal. Foregone interest represents the interest that was contractually due on the loan but not received or recorded. To the extent the amount of principal on a non-accrual loan is fully collected and additional cash is received, the Corporation will recognize interest income.

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Allowance for Credit Losses

The ACL is an estimate of the expected credit losses on financial assets measured at amortized cost, which is measured using relevant information about past events, including historical credit loss experience on financial assets with similar risk characteristics, current conditions, and reasonable and supportable forecasts that affect the collectability of the remaining cash flows over the contractual term of the financial assets. A provision for credit losses is charged to operations based on management’s periodic evaluation of these and other pertinent factors as discussed within Note 1 – Nature of Operations and Summary of Significant Accounting Policies included in the Corporation’s Form 10-Q for the period ended March 31, 2023.

During the first quarter of 2023, the Corporation adopted ASU 2016-13, including the CECL methodology for estimating the ACL. This standard was adopted using a modified retrospective approach on January 1, 2023, resulting in a $ 484,000 increase to the ACL and a $ 1.3 million increase to the unfunded credit commitments reserve. A cumulative effect adjustment resulting in an $ 1.4 million decrease to retained earnings and a $ 465,000 increase to deferred tax assets was also recorded as of the adoption of ASU 2016-13.

Quantitative Considerations

The ACL is primarily calculated utilizing a discounted cash flow (“DCF”) model. Key inputs and assumptions used in this model are discussed below:

• Forecast model - For each portfolio segment, a loss driver analysis (“LDA”) was performed in order to identify appropriate loss drivers and create a regression model for use in forecasting cash flows. The LDA analysis utilized peer FFIEC Call Report data for all pools. The Corporation plans to update the LDA annually.

• Probability of default – PD is the probability that an asset will be in default within a given time frame. The Corporation has defined default as when a charge-off has occurred, a loan goes to non-accrual status, or a loan is greater than 90 days past due. The forecast model is utilized to estimate PDs.

• Loss given default – LGD is the percentage of the asset not expected to be collected due to default. The LGD is derived from using a method referred to as Frye Jacobs which uses industry data.

• Prepayments and curtailments – Prepayments and curtailments are calculated based on the Corporation’s own data. This analysis is updated annually.

• Forecast and reversion – the Corporation has established a one-year reasonable and supportable forecast period with a one-year straight line reversion to the long-term historical average.

• Economic forecast – the Corporation utilizes a third party to provide economic forecasts under various scenarios, which are assessed against economic indicators and management’s observations in the market. As of June 30, 2023, the Corporation selected a forecast which forecasts unemployment between 3.81% and 4.58% and GDP growth change between 0.66% and 1.39% over the next four quarters. As of September 30, 2023, the Corporation selected a forecast which forecasts unemployment between 3.89% and 4.10% and GDP growth change between 1.06% and 1.87% over the next four quarters. Following the forecast period, the model reverts to long-term averages over four quarters. Management believes that the resulting quantitative reserve appropriately balances economic indicators with identified risks.

Qualitative Considerations

In addition to the quantitative model, management considers the need for qualitative adjustment for risks not considered in the DCF. Factors that are considered by management in determining loan collectability and the appropriate level of the ACL are listed below:

• The Corporation’s lending policies and procedures, including changes in lending strategies, underwriting standards and practices for collections, write-offs, and recoveries;

• Actual and expected changes in international, national, regional, and local economic and business conditions and developments in which the Corporation operates that affect the collectability of financial assets;

• The experience, ability, and depth of the Corporation’s lending, investment, collection, and other relevant management and staff;

• The volume of past due financial assets, the volume of non-performing assets, and the volume and severity of adversely classified or graded assets;

• The existence and effect of industry concentrations of credit;

• The nature and volume of the portfolio segment or class;

• The quality of the Corporation’s credit review function;

• The effect of other external factors such as the regulatory, legal and technological environments, competition, and events such as natural disasters or pandemics.

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ACL Activity

A summary of the activity in the allowance for credit losses by portfolio segment is as follows:


	As of and for the Three Months Ended September 30, 2023
	Owner Occupied		Non-Owner Occupied		Construction		Multi-Family		1-4 Family		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Beginning balance	$	1,721	$	5,241	$	2,293	$	3,426	$	249	$	16,223	$	544	$	29,697

Charge-offs	—		—		—		—		—		( 562 )		—		( 562 )
Recoveries	3		—		—		—		9		72		—		84
Net recoveries (charge-offs)	3		—		—		—		9		( 490 )		—		( 478 )
Provision for credit losses	( 151 )		26		68		96		( 10 )		1,833		( 45 )		1,817
Ending balance	$	1,573	$	5,267	$	2,361	$	3,522	$	248	$	17,566	$	499	$	31,036
Components:
Allowance for loan losses	1,556		5,209		1,441		3,512		228		16,946		439		29,331
Allowance for unfunded credit commitments	17		58		920		10		20		620		60		1,705
Total ACL	$	1,573	$	5,267	$	2,361	$	3,522	$	248	$	17,566	$	499	$	31,036


	As of and for the Three Months Ended September 30, 2022
	Commercial Real Estate		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Beginning balance	$	13,410	$	9,866	$	828	$	24,104
Charge-offs	—		( 33 )		( 21 )		( 54 )
Recoveries	23		50		8		81
Net recoveries	23		17		( 13 )		27
Provision for credit losses	( 492 )		629		( 125 )		12
Ending balance	$	12,941	$	10,512	$	690	$	24,143


	As of and for the Nine Months Ended September 30, 2023
	Owner Occupied		Non-Owner Occupied		Construction		Multi-Family		1-4 Family		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Beginning balance	$	1,766	$	5,108	$	1,646	$	2,634	$	207	$	12,403	$	466	$	24,230
Impact of adopting ASC 326	( 204 )		( 242 )		796		( 386 )		( 45 )		1,873		26		1,818
Charge-offs	—		—		—		—		—		( 1,057 )		—		( 1,057 )
Recoveries	5		1		—		—		30		386		13		435
Net recoveries (charge-offs)	5		1		—		—		30		( 671 )		13		( 622 )
Provision for credit losses	6		400		( 81 )		1,274		56		3,961		( 6 )		5,610
Ending balance	$	1,573	$	5,267	$	2,361	$	3,522	$	248	$	17,566	$	499	$	31,036
Components:
Allowance for loan losses	1,556		5,209		1,441		3,512		228		16,946		439		29,331
Allowance for unfunded credit commitments	17		58		920		10		20		620		60		1,705
Total ACL	$	1,573	$	5,267	$	2,361	$	3,522	$	248	$	17,566	$	499	$	31,036

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	As of and for the Nine Months Ended September 30, 2022
	Commercial Real Estate		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Beginning balance	$	15,110	$	8,413	$	813	$	24,336
Charge-offs	—		( 140 )		( 21 )		( 161 )
Recoveries	4,259		251		27		4,537
Net recoveries (charge-offs)	4,259		111		6		4,376
Provision for credit losses	( 6,428 )		1,988		( 129 )		( 4,569 )
Ending balance	$	12,941	$	10,512	$	690	$	24,143

ACL Summary

Loans collectively evaluated for credit losses in the following tables include all performing loans at September 30, 2023 and December 31, 2022. Loans individually evaluated for credit losses include all non-performing loans.

The following tables provide information regarding the allowance for credit losses and balances by type of allowance methodology.


	As of September 30, 2023
	Owner Occupied		Non-Owner Occupied		Construction		Multi-Family		1-4 Family		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Allowance for credit losses:
Collectively evaluated for credit losses	$	1,556	$	5,209	$	1,441	$	3,512	$	228	$	12,964	$	439	$	25,349
Individually evaluated for credit loss	—		—		—		—		—		3,982		—		3,982
Total	$	1,556	$	5,209	$	1,441	$	3,512	$	228	$	16,946	$	439	$	29,331
Loans and lease receivables:
Collectively evaluated for credit losses	$	236,058	$	753,517	$	211,828	$	409,714	$	24,211	$	1,066,094	$	44,808	$	2,746,230
Individually evaluated for credit loss	—		—		—		—		24		17,604		—		17,628
Total	$	236,058	$	753,517	$	211,828	$	409,714	$	24,235	$	1,083,698	$	44,808	$	2,763,858


	As of December 31, 2022
	Commercial Real Estate		Commercial and Industrial		Consumer and Other		Total
	(In Thousands)
Allowance for credit losses:
Collectively evaluated for credit losses	$	11,361	$	10,753	$	466	$	22,580
Individually evaluated for credit loss	—		1,650		—		1,650
Total	$	11,361	$	12,403	$	466	$	24,230
Loans and lease receivables:
Collectively evaluated for credit losses	$	1,541,920	$	849,698	$	47,938	$	2,439,556
Individually evaluated for credit loss	30		3,629		—		3,659
Total	$	1,541,950	$	853,327	$	47,938	$	2,443,215

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Note 6 — Leases

The Corporation leases various office spaces and specialized lending production offices under non-cancellable operating leases which expire on various dates through 2033. The Corporation also leases office equipment. The Corporation recognizes a right-of-use asset and an operating lease liability for all leases, with the exception of short-term leases. Right-of-use assets represent the right to use an underlying asset for the lease term and lease liabilities are recognized at the lease commencement date based on the estimated present value of lease payments over the lease term. Lease expense for operating leases and short-term leases is recognized on a straight-line basis over the lease term.

In June 2023, the Corporation relocated its Kansas City metropolitan area office resulting in a $ 2.6 million right-of-use asset and $ 3.7 million lease liability. The Corporation received a $ 1.1 million tenant improvement allowance related to this lease, which is recognized as a lease incentive and deducted from the right-of-use asset.

The components of total lease expense were as follows:


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands)
Operating lease cost	$	338	$	382	$	1,088	$	1,147
Short-term lease cost	36		38		145		112
Variable lease cost	139		142		436		408
Less: sublease income	—		( 45 )		( 75 )		( 134 )
Total lease cost, net	$	513	$	517	$	1,594	$	1,533

Quantitative information regarding the Corporation’s operating leases was as follows:


	September 30, 2023		December 31, 2022
Weighted-average remaining lease term (in years)	7.89		8.06
Weighted-average discount rate	3.56	%	3.40	%

The following maturity analysis shows the undiscounted cash flows due on the Corporation’s operating lease liabilities:


(In Thousands)
2023	$	374
2024	1,527
2025	1,408
2026	1,400
2027	1,428
Thereafter	4,688
Total undiscounted cash flows	10,825
Discount on cash flows	( 1,589 )
Total lease liability	$	9,236

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Note 7 — Other Assets

A summary of accrued interest receivable and other assets was as follows:


	September 30, 2023		December 31, 2022
	(In Thousands)
Accrued interest receivable	$	12,380	$	9,403
Net deferred tax asset	10,624		11,711
Investment in historic development entities	2,461		2,176
Investment in low-income housing development entity	21,744		13,514

Investment in limited partnerships	15,196		13,599
Prepaid expenses	4,762		3,821
Other assets	11,584		8,883
Total accrued interest receivable and other assets	$	78,751	$	63,107

Note 8 — Deposits

The composition of deposits is shown below. Average balances represent year-to-date averages.


	September 30, 2023						December 31, 2022
	Balance		Average Balance		Average Rate		Balance		Average Balance		Average Rate
	(Dollars in Thousands)
Non-interest-bearing transaction accounts	$	430,011	$	455,653	—	%	$	537,107	$	566,230	—	%
Interest-bearing transaction accounts	779,789		657,155		3.26		576,601		503,668		0.79
Money market accounts	694,199		663,284		3.01		698,505		761,469		0.82
Certificates of deposit	285,265		271,684		3.95		153,757		97,448		1.39
Wholesale deposits	467,743		311,038		4.15		202,236		48,825		3.31
Total deposits	$	2,657,007	$	2,358,814	2.76		$	2,168,206	$	1,977,640	0.67

A summary of annual maturities of in-market and wholesale certificates of deposit at September 30, 2023 is as follows:


(In Thousands)
Maturities during the year ended December 31,
2023	$	365,358
2024	121,040
2025	17,504
2026	50,660
2027	73,837
Thereafter	14,609
	$	643,008

Wholesale deposits include $ 357.7 million and $ 110.0 million of wholesale certificates of deposit and non-reciprocal interest-bearing transaction accounts, respectively, at September 30, 2023, compared to $ 187.2 million and $ 15.0 million of wholesale certificates of deposit and non-reciprocal interest-bearing transaction accounts, respectively, at December 31, 2022. The Corporation has entered into derivative contracts hedging a portion of the certificates of deposit included in the 2023 maturities above. As of September 30, 2023, the notional amount of derivatives designated as cash flow hedges totaled $ 256.3 million with a weighted average remaining maturity of 4.4 years and a weighted average rate of 3.79 %.

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Certificates of deposit and wholesale deposits denominated in amounts greater than $250,000 were $ 109.0 million at September 30, 2023 and $ 81.6 million at December 31, 2022.

Note 9 — FHLB Advances, Other Borrowings and Subordinated Notes and Debentures

The composition of borrowed funds is shown below. Average balances represent year-to-date averages.


	September 30, 2023						December 31, 2022
	Balance		Weighted Average Balance		Weighted Average Rate		Balance		Weighted Average Balance		Weighted Average Rate
	(Dollars in Thousands)
Federal funds purchased	$	—	$	4	5.35	%	$	—	$	14	7.42	%

FHLB advances	314,500		368,913		2.54		416,380		414,191		1.70
Line of credit	—		50		7.24		—		85		2.78
Other borrowings	—		802		8.31		6,088		8,624		5.23
Subordinated notes and debentures	49,391		34,495		4.84		34,340		35,095		5.06
Junior subordinated notes (1)	—		—		—		—		2,429		20.75
	$	363,891	$	404,264	2.75		$	456,808	$	460,438	2.12

(1) Weighted average rate of junior subordinated notes and debentures reflects the accelerated amortization of subordinated debt issuance costs as a result of the early redemption of the junior subordinated notes during the first quarter of 2022.

A summary of annual maturities of borrowings at September 30, 2023 is as follows:


(In Thousands)
Maturities during the year ended December 31,
2023	$	103,000
2024	35,500
2025	48,000
2026	60,000
2027	28,000
Thereafter	89,391
	$	363,891

The Corporation issued new subordinated debentures as of September 29, 2023. The aggregate principal amount of the newly issued subordinated debentures was $ 15.0 million which qualified as Tier 2 capital. The subordinated debentures bear a fixed interest rate of 8.0 % with a maturity date of September 29, 2033. The Corporation may, at its option, redeem the debentures, in whole or part, at any time after the fifth anniversary of issuance. As of September 30, 2023, $ 608,000 of debt issuance costs remain in the subordinated note and debenture payable balance, of which $ 50,000 is related to the recently issued subordinated debentures.

As of December 31, 2022, the Corporation had other borrowings of $ 6.1 million, which consisted of sold loans accounted for as secured borrowings because they did not qualify for true sale accounting. As of September 30, 2023, the Corporation had no other borrowings. The Corporation has entered into derivative contracts hedging a portion of the borrowings included in the 2023 maturities above. As of September 30, 2023, the notional amount of derivatives designated as cash flow hedges totaled $ 96.4 million with a weighted average remaining maturity of 2.7 years and a weighted average rate of 1.78 %.

As of September 30, 2023 and December 31, 2022, the Corporation was in compliance with its debt covenants under its third-party secured senior line of credit. On February 20, 2023, the credit line was renewed for one additional year with pricing terms of 1-month term SOFR + 2.36% and a maturity date of February 19, 2024 .

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Note 10 — Preferred Stock

On March 4, 2022, the Corporation issued 12,500 shares, or $ 12.5 million in aggregate liquidation preference, of 7.0 % Fixed-to-Floating Rate Non-Cumulative Perpetual Preferred Stock, Series A, par value $ 0.01 per share, with a liquidation preference of $ 1,000 per share (the “Series A Preferred Stock”) in a private placement to institutional investors. The net proceeds received from the issuance of the Series A Preferred Stock were $ 12.0 million.

The Corporation expects to pay dividends on the Series A Preferred Stock when and if declared by the Board, at a fixed rate of 7.0 % per annum, payable quarterly, in arrears, on March 15, June 15, September 15 and December 15 of each year up to, but excluding, March 15, 2027. For each dividend period from and including March 15, 2027, dividends will be paid at a floating rate of Three-Month Term SOFR plus a spread of 539 basis points per annum. During the three and nine months ended September 30, 2023, the Board of Directors declared an aggregate preferred stock dividend of $ 218,000 and $ 656,000 , respectively. The Series A Preferred Stock is perpetual and has no stated maturity. The Corporation may redeem the Series A Preferred Stock at its option at a redemption price equal to $ 1,000 per share, plus any declared and unpaid dividends (without regard to any undeclared dividends), subject to regulatory approval, on or after March 15, 2027 or within 90 days following a regulatory capital treatment event, in accordance with the terms of the Series A Preferred Stock.

Note 11 — Commitments and Contingencies

In the normal course of business, various legal proceedings involving the Corporation are pending. Management, based upon advice from legal counsel, does not anticipate any significant losses as a result of these actions. Management believes that any liability arising from any such proceedings currently existing or threatened will not have a material adverse effect on the Corporation’s financial position, results of operations, and cash flows.

The Corporation sells the guaranteed portions of SBA 7(a) and 504 loans, as well as participation interests in other, non-SBA originated, loans to third parties. The Corporation has a continuing involvement in each of the transferred lending arrangements by way of relationship management and servicing the loans, as well as being subject to normal and customary requirements of the SBA loan program and standard representations and warranties related to sold amounts. In the event of a loss resulting from default and a determination by the SBA that there is a deficiency in the manner in which the loan was originated, funded, or serviced by the Corporation, the SBA may require the Corporation to repurchase the loan, deny its liability under the guaranty, reduce the amount of the guaranty, or, if it has already paid under the guaranty, seek recovery of the principal loss related to the deficiency from the Corporation. The Corporation must comply with applicable SBA regulations in order to maintain the guaranty. In addition, the Corporation retains the option to repurchase the sold guaranteed portion of an SBA loan if the loan defaults.

Management has assessed estimated losses inherent in the outstanding guaranteed portions of SBA loans sold in accordance with ASC 450, Contingencies , and determined a recourse reserve based on the probability of future losses for these loans to be $ 983,000 at September 30, 2023, which is reported in accrued interest payable and other liabilities on the unaudited Consolidated Balance Sheets.

The summary of the activity in the SBA recourse reserve is as follows:


	As of and for the Three Months Ended September 30,				As of and for the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands)
Balance at the beginning of the period	$	752	$	673	$	441	$	635
SBA recourse provision	242		96		565		134
Charge-offs, net	( 11 )		( 6 )		( 23 )		( 6 )
Balance at the end of the period	$	983	$	763	$	983	$	763

Note 12 — Fair Value Disclosures

The Corporation determines the fair values of its financial instruments based on the fair value hierarchy established in ASC Topic 820, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Fair value is defined as the price that would be received in an orderly transaction that is not a forced liquidation or distressed sale at the measurement date and is based on exit prices. Fair value includes assumptions about risk,

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such as nonperformance risk in liability fair values, and is a market-based measurement, not an entity-specific measurement. The standard describes three levels of inputs that may be used to measure fair value.

Level 1 — Level 1 inputs are unadjusted quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access at the measurement date.

Level 2 — Level 2 inputs are inputs, other than quoted prices included with Level 1, that are observable for the asset or liability either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 — Level 3 inputs are supported by little or no market activity and are significant to the fair value of the assets or liabilities.

In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Corporation’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.

Assets and liabilities measured at fair value on a recurring basis, segregated by fair value hierarchy level, are summarized below:


	September 30, 2023
	Fair Value Measurements Using
	Level 1		Level 2		Level 3		Total
	(In Thousands)
Assets:
Securities available-for-sale:
U.S. treasuries	$	—	$	13,541	$	—	$	13,541
U.S. government agency securities - government-sponsored enterprises	—		27,939		—		27,939
Municipal securities	—		33,040		—		33,040
Residential mortgage-backed securities - government issued	—		55,760		—		55,760
Residential mortgage-backed securities - government-sponsored enterprises	—		112,983		—		112,983
Commercial mortgage-backed securities - government issued	—		2,677		—		2,677
Commercial mortgage-backed securities - government-sponsored enterprises	—		26,223		—		26,223

Interest rate swaps	—		93,702		—		93,702
Liabilities:
Interest rate swaps	—		78,696		—		78,696

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	December 31, 2022
	Fair Value Measurements Using
	Level 1		Level 2		Level 3		Total
	(In Thousands)
Assets:
Securities available-for-sale:
U.S. treasuries	$	—	$	4,445	$	—	$	4,445
U.S. government agency securities - government-sponsored enterprises	—		13,205		—		13,205
Municipal securities	—		39,311		—		39,311
Residential mortgage-backed securities - government issued	—		19,431		—		19,431
Residential mortgage-backed securities - government-sponsored enterprises	—		106,323		—		106,323
Commercial mortgage-backed securities - government issued	—		2,932		—		2,932
Commercial mortgage-backed securities - government-sponsored enterprises	—		26,377		—		26,377

Interest rate swaps	—		68,581		—		68,581
Liabilities:
Interest rate swaps	—		61,419		—		61,419

For assets and liabilities measured at fair value on a recurring basis, there were no transfers between the levels during the three and nine months ended September 30, 2023 or the year ended December 31, 2022 related to the above measurements.

Assets and liabilities measured at fair value on a non-recurring basis, segregated by fair value hierarchy are summarized below:


	September 30, 2023
	Fair Value Measurements Using
	Level 1		Level 2		Level 3		Total
	(In Thousands)
Collateral-dependent loans	$	—	$	—	$	2,559	$	2,559
Repossessed assets	—		—		61		61
Loan servicing rights	—		—		1,443		1,443


	December 31, 2022
	Fair Value Measurements Using
	Level 1		Level 2		Level 3		Total
	(In Thousands)
Impaired loans	$	—	$	—	$	1,022	$	1,022
Repossessed assets	—		—		95		95
Loan servicing rights	—		—		1,491		1,491

Collateral-dependent loans were written down to the fair value of their underlying collateral less costs to sell of $ 2.6 million and $ 1.0 million at September 30, 2023 and December 31, 2022, respectively, through the establishment of specific reserves or by recording charge-offs when the carrying value exceeded the fair value of the underlying collateral of impaired loans. Valuation techniques consistent with the market approach, income approach, or cost approach were used to measure fair value. These techniques included observable inputs for the individual impaired loans being evaluated, such as current appraisals, recent sales of similar assets, or other observable market data, and unobservable inputs, typically when discounts are applied to appraisal values to adjust such values to current market conditions or to reflect net realizable values. The quantification of unobservable inputs for Level 3 impaired loan values range from 10 % - 100 % as of the measurement date of September 30, 2023. The weighted average of those unobservable inputs was 41 %. The majority of the impaired loans are considered collateral dependent loans or are supported by an SBA guaranty.

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Repossessed assets, upon initial recognition, are remeasured and reported at fair value through a charge-off to the allowance for credit losses, if deemed necessary, based upon the fair value of the repossessed asset. The fair value of a repossessed asset, upon initial recognition, is estimated using a market approach or based on observable market data, typically a current appraisal, or based upon assumptions specific to the individual property or equipment, such as management applied discounts used to further reduce values to a net realizable value when observable inputs become stale.

Loan servicing rights represent the asset retained upon sale of the guaranteed portion of certain SBA loans. When SBA loans are sold, servicing rights are initially recorded at fair value with the income statement effect recorded in gains on sales of loans. The servicing rights are subsequently measured using the amortization method, which requires amortization into interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying loans.

The Corporation periodically reviews this portfolio for impairment and engages a third-party valuation firm to assess the fair value of the overall servicing rights portfolio. Loan servicing rights do not trade in an active, open market with readily observable prices. While sales of loan servicing rights do occur, the precise terms and conditions typically are not readily available to allow for a “quoted price for similar assets” comparison. Accordingly, the Corporation utilizes an independent valuation from a third party which uses a discounted cash flow model to estimate the fair value of its loan servicing rights. The valuation model incorporates prepayment assumptions to project loan servicing rights cash flows based on the current interest rate scenario, which is then discounted to estimate an expected fair value of the loan servicing rights. The valuation model considers portfolio characteristics of the underlying serviced portion of the SBA loans and uses the following significant unobservable inputs: (1) constant prepayment rate (“CPR”) assumptions based on the SBA sold pools historical CPR as quoted in Bloomberg and (2) a discount rate. Due to the nature of the valuation inputs, loan servicing rights are classified in Level 3 of the fair value hierarchy.

Fair Value of Financial Instruments

The Corporation is required to disclose estimated fair values for its financial instruments. Fair value estimates, methods, and assumptions, consistent with exit price concepts for fair value measurements, are set forth below:


	September 30, 2023
	Carrying Amount		Fair Value
			Total		Level 1		Level 2		Level 3
	(In Thousands)
Financial assets:
Cash and cash equivalents	$	132,915	$	132,915	$	132,915	$	—	$	—
Securities available-for-sale	272,163		272,163		—		272,163		—
Securities held-to-maturity	8,689		8,213		—		8,213		—
Loans held for sale	4,168		4,501		—		4,501		—
Loans and lease receivables, net	2,734,683		2,689,337		—		—		2,689,337
Federal Home Loan Bank stock	13,528		N/A		N/A		N/A		N/A
Accrued interest receivable	12,380		12,380		12,380		—		—
Interest rate swaps	93,702		93,702		—		93,702		—
Financial liabilities:
Deposits	2,657,007		2,650,876		2,013,999		636,877		—
Federal Home Loan Bank advances and other borrowings	363,891		346,586		—		346,586		—

Accrued interest payable	10,079		10,079		10,079		—		—
Interest rate swaps	78,696		78,696		—		78,696		—
Off-balance sheet items:
Standby letters of credit	132		132		—		—		132

N/A = The fair value is not applicable due to restrictions placed on transferability

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	December 31, 2022
	Carrying Amount		Fair Value
			Total		Level 1		Level 2		Level 3
	(In Thousands)
Financial assets:
Cash and cash equivalents	$	102,682	$	102,682	$	102,682	$	—	$	—
Securities available-for-sale	212,024		212,024		—		212,024		—
Securities held-to-maturity	12,635		12,270		—		12,270		—
Loans held for sale	2,632		2,829		—		2,829		—
Loans and lease receivables, net	2,418,836		2,394,702		—		—		2,394,702
Federal Home Loan Bank stock	17,812		N/A		N/A		N/A		N/A
Accrued interest receivable	9,403		9,403		9,403		—		—
Interest rate swaps	68,581		68,543		—		68,543		—
Financial liabilities:
Deposits	2,168,206		2,167,444		1,827,215		340,229		—
Federal Home Loan Bank advances and other borrowings	456,808		440,242		—		440,242		—

Accrued interest payable	4,053		4,053		4,053		—		—
Interest rate swaps	61,419		61,419		—		61,419		—
Off-balance sheet items:
Standby letters of credit	184		184		—		—		184

N/A = The fair value is not applicable due to restrictions placed on transferability

Disclosure of fair value information about financial instruments, for which it is practicable to estimate that value, is required whether or not recognized in the unaudited Consolidated Balance Sheets. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. Certain financial instruments and all non-financial instruments are excluded from the disclosure requirements. Accordingly, the aggregate fair value amounts presented do not necessarily represent the underlying value of the Corporation.

Securities: The fair value measurements of investment securities are determined by a third-party pricing service which considers observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, trade execution data, market consensus prepayment speeds, credit information, and the securities’ terms and conditions, among other things. The fair value measurements are subject to independent verification by another pricing source on a quarterly basis to review for reasonableness. Any significant differences in pricing are reviewed with appropriate members of management who have the relevant technical expertise to assess the results. The Corporation has determined that these valuations are classified in Level 2 of the fair value hierarchy. When the independent pricing service does not provide a fair value measurement for a particular security, the Corporation will estimate the fair value based on specific information about each security. Fair values derived in this manner are classified in Level 3 of the fair value hierarchy.

Loans Held for Sale: Loans held for sale, which consist of the guaranteed portions of SBA 7(a) loans, are carried at the lower of cost or estimated fair value. The estimated fair value is based on what secondary markets are currently offering for portfolios with similar characteristics.

Interest Rate Swaps: The carrying amount and fair value of existing derivative financial instruments are based upon independent valuation models, which use widely accepted valuation techniques, including discounted cash flow analysis on the expected cash flows of each derivative contract. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. The Corporation incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative

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contracts for the effect of nonperformance risk, the Corporation considers the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.

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

Fair value estimates are based on existing balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and are not considered in the estimates.

Note 13 — Derivative Financial Instruments

The Corporation offers interest rate swap products directly to qualified commercial borrowers. The Corporation economically hedges client derivative transactions by entering into offsetting interest rate swap contracts executed with a third party. Derivative transactions executed as part of this program are not considered hedging instruments and are marked-to-market through earnings each period. The derivative contracts have mirror-image terms, which results in the positions’ changes in fair value offsetting through earnings each period. The credit risk and risk of non-performance embedded in the fair value calculations is different between the dealer counterparties and the commercial borrowers which may result in a difference in the changes in the fair value of the mirror-image swaps. The Corporation incorporates credit valuation adjustments to appropriately reflect both its own non-performance risk and the counterparty’s risk in the fair value measurements. When evaluating the fair value of its derivative contracts for the effects of non-performance and credit risk, the Corporation considered the impact of netting and any applicable credit enhancements such as collateral postings, thresholds, and guarantees. As of September 30, 2023 and December 31, 2022, the credit valuation allowance was $ 38,000 .

The Corporation receives fixed rates and pays floating rates based upon designated benchmark interest rates used on the swaps with commercial borrowers. Commercial borrower swaps are completed independently with each borrower and are not subject to master netting arrangements. The Corporation pays fixed rates and receives floating rates based upon designated benchmark interest rates used on the swaps with dealer counterparties. Dealer counterparty swaps are subject to master netting agreements among the contracts within our Bank and are reported on the unaudited Consolidated Balance Sheet. The gross amount of dealer counterparty swaps, without regard to the enforceable master netting agreement, was a gross derivative asset of $ 78.7 million and gross liability of $ 291,000 as of September 30, 2023. No right of offset existed with the dealer counterparty swaps as of September 30, 2023.

All changes in the fair value of these instruments are recorded in other non-interest income. Given the mirror-image terms of the outstanding derivative portfolio, the change in fair value for the three and nine months ended September 30, 2023 and 2022 had an insignificant impact on the unaudited Consolidated Statements of Income.

The Corporation also enters into interest rate swaps to manage interest rate risk and reduce the cost of match-funding certain long-term fixed rate loans. These derivative contracts involve the receipt of floating rate interest from a counterparty in exchange for the Corporation making fixed-rate payments over the life of the agreement, without the exchange of the underlying notional value. The instruments are designated as cash flow hedges as the receipt of floating rate interest from the counterparty is used to manage interest rate risk related to cash outflows attributable to future wholesale deposit or short-term FHLB advance borrowings. The change in the fair value of these hedging instruments is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged transactions affect earnings. A pre-tax unrealized gain of $ 5.3 million and $ 7.5 million was recognized in other comprehensive income for the three and nine months ended September 30, 2023 and there were no ineffective portions of the hedges. A pre-tax unrealized gain of $ 3.2 million and $ 8.9 million was recognized in other comprehensive income for the three and nine months ended September 30, 2022 and there were no ineffective portions of the hedges.

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rate. These derivative contracts involve the receipt of floating rate interest from a counterparty in exchange for the Corporation making fixed-rate payments over the life of the agreement, without the exchange of the underlying notional value. The change in the fair value of these hedging instruments is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged transactions affect earnings. A pre-tax unrealized gain of $ 421,000 and $ 353,000 was recognized in other comprehensive income for the three and nine months ended September 30, 2023 and there was no ineffective portion of these hedges. A pre-tax unrealized gain of $ 215,000 and $ 592,000 was recognized in other comprehensive income for the three and nine months ended September 30, 2022 and there was no ineffective portion of these hedges.


	As of September 30, 2023
	Number of Instruments	Notional Amount		Weighted Average Maturity (In Years)	Fair Value
	(Dollars in Thousands)
Included in Derivative assets
Derivatives not designated as hedging instruments
Interest rate swap agreements on loans with commercial loan clients	4	$	59,167	5.29	$	291
Interest rate swap agreements on loans with third-party counterparties	99	$	908,576	6.36	$	78,405
Derivatives designated as hedging instruments
Interest rate swap related to AFS securities	11	$	12,500	8.53	$	955
Interest rate swap related to wholesale funding	32	352,655		7.15	14,051
Included in Derivative liabilities
Derivatives not designated as hedging instruments
Interest rate swap agreements on loans with commercial loan clients	95	$	849,409	6.44	$	78,696


	As of December 31, 2022
	Number of Instruments	Notional Amount		Weighted Average Maturity (In Years)	Fair Value
	(Dollars in Thousands)
Included in Derivative assets
Derivatives not designated as hedging instruments
Interest rate swap agreements on loans with commercial loan clients	2	$	65,352	4.83	$	1,010
Interest rate swap agreements on loans with third-party counter parties	84	744,233		7.37	60,409
Derivatives designated as hedging instruments
Interest rate swap related to AFS securities	11	$	12,500	9.28	$	602
Interest rate swap related to wholesale funding	11	116,400		2.88	6,560
Included in Derivative liabilities
Derivatives not designated as hedging instruments
Interest rate swap agreements on loans with commercial loan clients	82	$	678,881	7.61	$	61,419

Note 14 — Regulatory Capital

The Corporation and the Bank are subject to various regulatory capital requirements administered by Federal and Wisconsin banking agencies. Failure to meet minimum capital requirements can result in certain mandatory, and possibly additional discretionary actions on the part of regulators, that if undertaken, could have a direct material effect on the Bank’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory practices. The Corporation’s and the Bank’s capital

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amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. The Corporation regularly reviews and updates, when appropriate, its Capital and Liquidity Action Plan, which is designed to help ensure appropriate capital adequacy, to plan for future capital needs, and to ensure that the Corporation serves as a source of financial strength to the Bank. The Corporation’s and the Bank’s Board and management teams adhere to the appropriate regulatory guidelines on decisions which affect their respective capital positions, including but not limited to, decisions relating to the payment of dividends and increasing indebtedness.

As a bank holding company, the Corporation’s ability to pay dividends is affected by the policies and enforcement powers of the Board of Governors of the Federal Reserve system (the “Federal Reserve”). Federal Reserve guidance urges financial institutions to strongly consider eliminating, deferring, or significantly reducing dividends if: (i) net income available to common shareholders for the past four quarters, net of dividends previously paid during that period, is not sufficient to fully fund the dividend; (ii) the prospective rate of earnings retention is not consistent with the bank holding company’s capital needs and overall current and prospective financial condition; or (iii) the bank holding company will not meet, or is in danger of not meeting, its minimum regulatory capital ratios. Management intends, when appropriate under regulatory guidelines, to consult with the Federal Reserve Bank (“FRB”) of Chicago and provide it with information on the Corporation’s then-current and prospective earnings and capital position in advance of declaring any cash dividends. As a Wisconsin corporation, the Corporation is subject to the limitations of the Wisconsin Business Corporation Law, which prohibit the Corporation from paying dividends if such payment would: (i) render the Corporation unable to pay its debts as they become due in the usual course of business, or (ii) result in the Corporation’s assets being less than the sum of its total liabilities plus the amount needed to satisfy the preferential rights upon dissolution of any shareholders with preferential rights superior to those shareholders receiving the dividend.

The Bank is also subject to certain legal, regulatory, and other restrictions on their ability to pay dividends to the Corporation. As a bank holding company, the payment of dividends by the Bank to the Corporation is one of the sources of funds the Corporation could use to pay dividends, if any, in the future and to make other payments. Future dividend decisions by the Bank and the Corporation will continue to be subject to compliance with various legal, regulatory, and other restrictions as defined from time to time.

Quantitative measures established by regulation to ensure capital adequacy require the Corporation and the Bank to maintain minimum amounts and ratios of Total Common Equity Tier 1 and Tier 1 capital to risk-weighted assets and of Tier 1 capital to adjusted total assets. These risk-based capital requirements presently address credit risk related to both recorded and off-balance sheet commitments and obligations.

As of September 30, 2023, the Corporation’s capital levels exceeded the regulatory minimums and the Bank’s capital levels remained characterized as well capitalized under the regulatory framework. The following tables summarize both the Corporation’s and the Bank’s capital ratios and the ratios required by their federal regulators:

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	As of September 30, 2023
	Actual (1)				Minimum Required for Capital Adequacy Purposes				For Capital Adequacy Purposes Plus Capital Conservation Buffer				Minimum Required to Be Well Capitalized Under Prompt Corrective Action Requirements
	Amount		Ratio		Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Dollars in Thousands)
Total capital (to risk-weighted assets)
Consolidated	$	365,058	11.20	%	$	260,796	8.00	%	$	342,295	10.50	%	N/A		N/A
First Business Bank	365,705		11.22		260,850		8.00		342,366		10.50		$	326,063	10.00	%
Tier 1 capital (to risk-weighted assets)
Consolidated	$	284,974	8.74	%	$	195,597	6.00	%	$	277,096	8.50	%	N/A		N/A
First Business Bank	335,012		10.27		195,638		6.00		277,154		8.50		$	260,850	8.00	%
Common equity tier 1 capital (to risk-weighted assets)
Consolidated	$	272,982	8.37	%	$	146,698	4.50	%	$	228,197	7.00	%	N/A		N/A
First Business Bank	335,012		10.27		146,728		4.50		228,244		7.00		$	211,941	6.50	%
Tier 1 leverage capital (to adjusted assets)
Consolidated	$	284,974	8.65	%	$	131,840	4.00	%	$	131,840	4.00	%	N/A		N/A
First Business Bank	335,012		10.16		131,845		4.00		131,845		4.00		$	164,807	5.00	%

(1) 2023 capital amounts include $1.0 million of additional stockholders’ equity as elected by the Corporation and permitted by federal banking regulatory agencies. Risk-weighted assets were also adjusted accordingly.


	As of December 31, 2022
	Actual				Minimum Required for Capital Adequacy Purposes				For Capital Adequacy Purposes Plus Capital Conservation Buffer				Minimum Required to Be Well Capitalized Under Prompt Corrective Action Requirements
	Amount		Ratio		Amount		Ratio		Amount		Ratio		Amount		Ratio
	(Dollars in Thousands)
Total capital (to risk-weighted assets)
Consolidated	$	323,893	11.26	%	$	230,180	8.00	%	$	302,111	10.50	%	N/A		N/A
First Business Bank	323,021		11.22		230,367		8.00		302,357		10.50		$	287,959	10.00	%
Tier 1 capital (to risk-weighted assets)
Consolidated	$	264,843	9.20	%	$	172,635	6.00	%	$	244,566	8.50	%	N/A		N/A
First Business Bank	298,312		10.36		172,775		6.00		244,765		8.50		$	230,367	8.00	%
Common equity tier 1 capital (to risk-weighted assets)
Consolidated	$	252,851	8.79	%	$	129,476	4.50	%	$	201,407	7.00	%	N/A		N/A
First Business Bank	298,312		10.36		129,581		4.50		201,571		7.00		$	187,173	6.50	%
Tier 1 leverage capital (to adjusted assets)
Consolidated	$	264,843	9.17	%	$	115,464	4.00	%	$	115,464	4.00	%	N/A		N/A
First Business Bank	298,312		10.34		115,402		4.00		115,402		4.00		$	144,252	5.00	%

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

General

Unless otherwise indicated or unless the context requires otherwise, all references in this Report to the “Corporation,” “we,” “us,” “our,” or similar references mean First Business Financial Services, Inc. together with our subsidiary. “FBB” or the “Bank” refers to our subsidiary, First Business Bank.

Forward-Looking Statements

This report may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, which reflect our current views with respect to future events and financial performance. Forward-looking statements are not based on historical information, but rather are related to future operations, strategies, financial results, or other developments. Forward-looking statements are based on management’s expectations as well as certain assumptions and estimates made by, and information available to, management at the time the statements are made. Such statements are subject to risks and uncertainties, including among other things:

• Adverse changes in the economy or business conditions, either nationally or in our markets including, without limitation, inflation, supply chain issues, labor shortages, or any future public health epidemics.

• Competitive pressures among depository and other financial institutions nationally and in our markets.

• Increases in defaults by borrowers and other delinquencies.

• Our ability to manage growth effectively, including the successful expansion of our client support, administrative infrastructure, and internal management systems.

• Fluctuations in interest rates and market prices.

• Changes in legislative or regulatory requirements applicable to us and our subsidiaries.

• Changes in tax requirements, including tax rate changes, new tax laws, and revised tax law interpretations.

• Fraud, including client and system failure or breaches of our network security, including our internet banking activities.

• Failure to comply with the applicable SBA regulations in order to maintain the eligibility of the guaranteed portions of SBA loans.

• Recent volatility in the banking sector may result in new legislation, regulations or policy changes that could subject the Corporation and the Bank to increased government regulation and supervision.

• The proportion of the Corporation’s deposit account balances that exceed FDIC insurance limits may expose the Bank to enhanced liquidity risk.

• The Corporation may be subject to increases in FDIC insurance assessments as a result of the recent bank failures.

These risks could cause actual results to differ materially from what we have anticipated or projected. These risk factors and uncertainties should be carefully considered by our shareholders and potential investors. See Part I, Item 1A — Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2022, Part II, Item 1A — Risk Factors of our Quarterly Report on Form 10-Q for the quarter ended March 31, 2023, and in this report, below, for discussion relating to risk factors impacting us. Investors should not place undue reliance on any such forward-looking statements, which speak only as of the date made. These factors could affect our financial performance and could cause actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods.

Where any such forward-looking statement includes a statement of the assumptions or bases underlying such forward-looking statement, we caution that, while our management believes such assumptions or bases are reasonable and are made in good faith, assumed facts or bases can vary from actual results, and the differences between assumed facts or bases and actual results can be material, depending on the circumstances. Where, in any forward-looking statement, an expectation or belief is expressed as to future results, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the statement of expectation or belief will be achieved or accomplished.

We do not intend to, and specifically disclaim any obligation to, update any forward-looking statements.

The following discussion and analysis is intended as a review of significant events and factors affecting our financial condition and results of operations for the periods indicated. The discussion should be read in conjunction with the unaudited Consolidated Financial Statements and the Notes thereto presented in this Form 10-Q.

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Overview

We are a registered bank holding company incorporated under the laws of the State of Wisconsin and are engaged in the commercial banking business through our wholly-owned banking subsidiary, FBB. All of our operations are conducted through FBB and First Business Specialty Finance, LLC (“FBSF”), a wholly-owned subsidiary of FBB. We operate as a business bank focusing on delivering a full line of commercial banking products and services tailored to meet the specific needs of small and medium-sized businesses, business owners, executives, professionals, and high net worth individuals. Our products and services include those for business banking, private wealth, and bank consulting. Within business banking, we offer commercial lending, asset-based lending, accounts receivable financing, equipment financing, floorplan financing, vendor financing, SBA lending and servicing, treasury management services, and company retirement plans. Our private wealth management services include trust and estate administration, financial planning, investment management, and private banking for executives and owners of our business banking clients and others. Our bank consulting experts provide investment portfolio administrative services, asset liability management services, and asset liability management process validation for other financial institutions. We do not utilize a branch network to attract retail clients. Our operating model is predicated on deep client relationships, financial expertise, and an efficient, centralized administration function delivering best in class client satisfaction. Our focused model allows experienced staff to provide the level of financial expertise needed to develop and maintain long-term relationships with our clients.

Financial Performance Summary

Results as of and for the three and nine months ended September 30, 2023 include:

• Net income available to common shareholders totaled $9.7 million, or diluted earnings per share of $1.17, for the three months ended September 30, 2023, compared to $10.6 million, or diluted earnings per share of $1.25, for the same period in 2022. Net income available to common shareholders totaled $26.6 million, or diluted earnings per share of $3.19, for the nine months ended September 30, 2023, compared to $30.2 million, or diluted earnings per share of $3.57, for the same period in 2022.

• Annualized return on average assets (“ROAA”) for the three months ended September 30, 2023 measured 1.19% compared to 1.54% for the same period in 2022. Annualized ROAA for the nine months ended September 30, 2023 measured 1.13% compared to 1.49% for the same period in 2022.

• Return on average common equity (“ROACE”) is defined as net income available to common shareholders divided by average equity less average preferred stock, if any. ROACE was 14.62% for the three months ended September 30, 2023, compared to 17.44% for the same period in 2022. ROACE was 13.72% for the nine months ended September 30, 2023, compared to 16.97% for the same period in 2022.

• Pre-tax, pre-provision (“PTPP”) adjusted earnings, which excludes certain one-time and discrete items, and PTPP ROAA for the three months ended September 30, 2023 were $14.1 million and 1.72%, respectively, compared to $14.2 million and 2.05% in the same period in 2022. PTPP and PTPP ROAA were $40.9 million and 1.74%, respectively, for the nine months ended September 30, 2023, compared to $34.9 million and 1.72% in the same period in 2022.

• Fees in lieu of interest, defined as prepayment fees, asset-based loan fees, non-accrual interest, and loan fee amortization, totaled $582,000 for the three months ended September 30, 2023, compared to $807,000 for the same period in 2022. Fees in lieu of interest totaled $2.2 million for the nine months ended September 30, 2023, compared to $4.0 million for the same period in 2022.

• Net interest margin was 3.76% for the three months ended September 30, 2023 compared to 4.01% for the same period in 2022. Adjusted net interest margin, which excludes certain one-time and volatile items including fees in lieu of interest, was 3.66% for the three months ended September 30, 2023, compared to 3.89% for the same period in 2022. Net interest margin was 3.81% for the nine months ended September 30, 2023 compared to 3.71% for the same period in 2022. Adjusted net interest margin, which excludes certain one-time and volatile items, was 3.68% for the nine months ended September 30, 2023, compared to 3.53% for the same period in 2022.

• Top line revenue, defined as net interest income plus non-interest income, totaled $37.0 million for the three months ended September 30, 2023, compared to $34.1 million in the same period in 2022. Top line revenue totaled $107.3 million for the nine months ended September 30, 2023, compared to $93.4 million in the same period in 2022.

• Effective tax rate, including the benefit from Low-Income Housing Tax Credits, was 17.3% for the three months ended September 30, 2023 compared to 22.9% for the same period in 2022. Effective tax rate, including the benefit from Low-Income Housing Tax Credits, was 21.0% for the nine months ended September 30, 2023 compared to 22.6% for the same period in 2022.

• Provision for credit losses was an expense of $1.8 million for the three months ended September 30, 2023 compared to $12,000 for the same period in 2022. Provision for credit losses was an expense of $5.6 million for the nine months ended September 30, 2023 compared to a benefit of $4.6 million for the same period in 2022.

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• Total assets at September 30, 2023 increased $442.2 million, or 19.8% annualized, to $3.419 billion from $2.977 billion at December 31, 2022.

• Period-end gross loans and leases receivable increased $320.6 million, or 17.5% annualized, to $2.764 billion as of September 30, 2023 compared to $2.443 billion as of December 31, 2022. Average gross loans and leases of $2.593 billion increased $314.6 million, or 13.8%, for the nine months ended September 30, 2023, compared to $2.278 billion for the same period in 2022.

• Non-performing assets were $17.7 million and 0.52% of total assets as of September 30, 2023, compared to $3.8 million and 0.13% of total assets as of December 31, 2022.

• The allowance for credit losses, including reserve for unfunded credit commitments, increased $6.8 million compared to December 31, 2022. The allowance for credit losses increased to 1.12% of total loans, compared to 0.99% at December 31, 2022.

• Period-end in-market deposits at September 30, 2023 increased $223.3 million, or 15.1% annualized, to $2.189 billion from $1.966 billion as of December 31, 2022. Average in-market deposits of $2.048 billion increased $126.3 million, or 6.6%, for the nine months ended September 30, 2023, compared to $1.921 billion for the same period in 2022.

• Private wealth and trust assets u nder management and administration increased by $254.6 million, or 12.8% annualized, to $2.915 billion at September 30, 2023, compared to $2.660 billion at December 31, 2022. Private wealth trust assets under management and administration increased $422.0 million, or 16.9%, compared to the same period in 2022.

Results of Operations

Top Line Revenue

Top line revenue, comprised of net interest income and non-interest income, increased $2.9 million, or 8.6%, for the three months ended September 30, 2023, compared to the same period in 2022, due to a 10.5% and 2.8% increase in net interest income and non-interest income, respectively. The increase in net interest income was driven by an increase in average loans and leases outstanding. The increase in non-interest income was due to an increase in trust fee income, gains on the sale of SBA loans, and commercial loan swap fee income, partially offset by a reduction in income from investments in mezzanine funds and service charges on deposits.

Top line revenue increased $13.8 million, or 14.8%, for the nine months ended September 30, 2023, compared to the same period in 2022, due to a 17.0% and 7.8% increase in net interest income and non-interest income, respectively. The increase in net interest income was driven by an increase in net interest margin and average loans and leases outstanding. The increase in non-interest income was due to an increase trust fee income, commercial loan swap fee income, loan fee income, and income from investments in mezzanine funds, partially offset by a reduction in gains on the sale of SBA loans and service charges on deposits.

The components of top line revenue were as follows:


	For the Three Months Ended September 30,							For the Nine Months Ended September 30,
	2023		2022		$ Change		% Change	2023		2022		$ Change		% Change
	(Dollars in Thousands)
Net interest income	$	28,596	$	25,884	$	2,712	10.5%	$	83,049	$	70,971	$	12,078	17.0%
Non-interest income	8,430		8,197		233		2.8	24,214		22,455		1,759		7.8
Top line revenue	$	37,026	$	34,081	$	2,945	8.6	$	107,263	$	93,426	$	13,837	14.8

Annualized Return on Average Assets (“ROAA”) and Annualized Return on Average Common Equity (“ROACE”)

ROAA for the three and nine months ended September 30, 2023 decreased to 1.19% and 1.13%, respectively, compared to 1.54% and 1.49% for the three and nine months ended September 30, 2022, respectively. The decrease in ROAA was due to an increase in credit loss provision and operating expenses, partially offset by an increase in top line revenue. We consider ROAA a critical metric to measure the profitability of our organization and how efficiently our assets are deployed. ROAA also allows us to better benchmark our profitability to our peers without the need to consider different degrees of leverage which can ultimately influence return on equity measures.

ROACE for the three and nine months ended September 30, 2023 was 14.62% and 13.72%, respectively, compared to 17.44% and 16.97% for the three and nine months ended September 30, 2022, respectively. The reasons for the change in ROACE are consistent with the net income variance explanation as discussed under ROAA above. We view ROACE as an

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important measurement for monitoring profitability and continue to focus on improving our return to our shareholders by enhancing the overall profitability of our client relationships, controlling our expenses, and minimizing our costs of credit.

ROAA and ROACE for the nine months ended September 30, 2022 were both favorably impacted by net recoveries of $4.4 million.

Efficiency Ratio and Pre-Tax, Pre-Provision Adjusted Earnings

Efficiency ratio measured 61.96% and 61.89% for the three and nine months ended September 30, 2023, respectively, compared to 58.46% and 62.61% for the three and nine ended September 30, 2022, respectively, as the percentage increase in top line revenue exceeded the percentage increase in operating expense resulting in positive operating leverage in the year-to-date period of comparison. Efficiency ratio is a non-GAAP measure representing operating expense, which is non-interest expense excluding the effects of the SBA recourse benefit or provision, impairment of tax credit investments, net gains or losses on repossessed assets, amortization of other intangible assets, and other discrete items, if any, divided by operating revenue, which is equal to net interest income plus non-interest income less realized net gains or losses on securities, if any.

PTPP adjusted earnings for three and nine months ended September 30, 2023 was $14.1 million and $40.9 million, respectively, compared to $14.2 million and $34.9 million for the three and nine months ended September 30, 2022, respectively. PTPP adjusted earnings is defined as operating revenue less operating expense. The decrease in PTPP for the three months ended was primarily driven by an increase in operating expenses, partially offset by an increase in average loans and leases outstanding. The increase in PTPP for the nine months ended was primarily driven by an increase in average loans and leases outstanding and net interest margin expansion, partially offset by an increase in operating expenses as the Corporation continued to invest to achieve its strategic growth objectives. In the judgment of the Corporation’s management, the adjustments made to non-interest expense and non-interest income allow investors and analysts to better assess the Corporation’s operating expenses in relation to its core operating revenue by removing the volatility associated with certain one-time items and other discrete items. PTPP adjusted earnings allows management to benchmark performance of our model to our peers without the influence of the credit loss provision and tax considerations, which will ultimately influence other traditional financial measurements, including ROAA and ROACE. The information provided below reconciles the efficiency ratio to its most comparable GAAP measure.

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Please refer to the Non-Interest Income and Non-Interest Expense sections below for discussion on additional drivers of the year-over-year change in the efficiency ratio and PTPP adjusted earnings.


	For the Three Months Ended September 30,									For the Nine Months Ended September 30,
	2023			2022			$ Change		% Change	2023			2022			$ Change		% Change
	(Dollars in Thousands)
Total non-interest expense	$	23,189		$	20,028		$	3,161	15.8%	$	66,987		$	58,307		$	8,680	14.9%
Less:
Net (gain) loss on repossessed assets	4			7			(3)		(42.9)	8			27			(19)		NM

SBA recourse provision	242			96			146		152.1	565			134			431		NM
Tax credit investment impairment recovery	—			—			—		NM	—			(351)			351		NM
Total operating expense (a)	$	22,943		$	19,925		$	3,018	15.1	$	66,414		$	58,497		$	7,917	13.5
Net interest income	$	28,596		$	25,884		$	2,712	10.5	$	83,049		$	70,971		$	12,078	17.0




Total non-interest income	8,430			8,197			233		2.8	24,214			22,455			1,759		7.8
Less:
Net loss on sale of securities	—			—			—		NM	(45)			—			(45)		NM
Adjusted non-interest income	8,430			8,197			233		2.8	24,259			22,455			1,804		8.0
Operating revenue (b)	$	37,026		$	34,081		$	2,945	8.6	$	107,308		$	93,426		$	13,882	14.9
Efficiency ratio	61.96		%	58.46		%				61.89		%	62.61		%

Pre-tax, pre-provision adjusted earnings (b-a)	$	14,083		$	14,156		$	(73)	(0.5)	$	40,894		$	34,929		$	5,965	17.1
Average total assets	$	3,276,240		$	2,758,961		$	517,279	18.7	$	3,130,426		$	2,714,309		$	416,117	15.3


Pre-tax, pre-provision adjusted return on average assets	1.72		%	2.05		%				1.74		%	1.72		%

We believe the Corporation will generate positive operating leverage on an annual basis and progress towards enhancing the long-term efficiency ratio at a measured pace as we focus on strategic initiatives directed toward revenue growth, process improvement, and automation. The Corporation’s recent improvement during the period of comparison is due to the rising interest rate environment, and related expansion of net interest margin coupled with strong loan and in-market deposit growth.

Net Interest Income

Net interest income levels depend on the amount of and yield on interest-earning assets as compared to the amount of and rate paid on interest-bearing liabilities. Net interest income is sensitive to changes in market rates of interest and the asset/liability management processes to prepare for and respond to such changes.

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The following table provides information with respect to (1) the change in net interest income attributable to changes in rate (changes in rate multiplied by prior volume) and (2) the change in net interest income attributable to changes in volume (changes in volume multiplied by prior rate) for the three and nine months ended September 30, 2023 compared to the same period in 2022. The change in net interest income attributable to changes in rate and volume (changes in rate multiplied by changes in volume) has been allocated to the rate and volume changes in proportion to the relationship of the absolute dollar amounts of the change in each.


	Increase (Decrease) for the Three Months Ended September 30,				Increase (Decrease) for the Nine Months Ended September 30,
	2023 Compared to 2022				2023 Compared to 2022
	Rate		Volume		Net		Rate		Volume		Net
	(In Thousands)
Interest-earning assets
Commercial real estate and other mortgage loans (1)	$	6,869	$	1,474	$	8,343	$	22,286	$	2,756	$	25,042
Commercial and industrial loans (1)	4,067		5,142		9,209		16,101		11,509		27,610
Consumer and other loans (1)	168		(26)		142		448		(72)		376
Total loans and leases receivable	11,104		6,590		17,694		38,835		14,193		53,028
Mortgage-related securities	542		224		766		1,642		251		1,893
Other investment securities	176		91		267		362		142		504
FHLB and FRB Stock	311		(277)		34		291		(27)		264
Short-term investments	300		94		394		1,273		152		1,425
Total net change in income on interest-earning assets	12,433		6,722		19,155		42,403		14,711		57,114
Interest-bearing liabilities
Transaction accounts	5,041		728		5,769		13,861		607		14,468
Money market accounts	4,475		(214)		4,261		12,898		(372)		12,526
Certificates of deposit	1,664		982		2,646		4,560		2,980		7,540
Wholesale deposits	237		3,709		3,946		373		8,862		9,235
Total deposits	11,417		5,205		16,622		31,692		12,077		43,769
FHLB advances	1,889		(1,945)		(56)		2,840		(685)		2,155
Other borrowings	(23)		(100)		(123)		(35)		(349)		(384)
Junior subordinated notes (2)	—		—		—		(504)		—		(504)
Total net change in expense on interest-bearing liabilities	13,283		3,160		16,443		33,993		11,043		45,036
Net change in net interest income	$	(850)	$	3,562	$	2,712	$	8,410	$	3,668	$	12,078

(1) The average balances of loans and leases include non-performing loans and leases and loans held for sale.

(2) The rate column for the nine months ended September 30, 2022 included $236,000 in accelerated amortization of debt issuance costs.

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The tables below show our average balances, interest, average yields/rates, net interest margin, and the spread between the combined average yields earned on interest-earning assets and average rates on interest-bearing liabilities for the three and nine months ended September 30, 2023 and 2022. The average balances are derived from average daily balances.


	For the Three Months Ended September 30,
	2023							2022
	Average Balance			Interest		Average Yield/Rate (4)		Average Balance			Interest		Average Yield/Rate (4)
	(Dollars in Thousands)
Interest-earning assets
Commercial real estate and other mortgage loans (1)	$	1,605,464		$	25,623	6.38	%	$	1,486,530		$	17,280	4.65	%
Commercial and industrial loans (1)	1,059,512			21,635		8.17		780,533			12,426		6.37

Consumer and other loans (1)	46,875			610		5.21		49,558			468		3.78
Total loans and leases receivable (1)	2,711,851			47,868		7.06		2,316,621			30,174		5.21
Mortgage-related securities (2)	204,291			1,681		3.29		168,433			915		2.17
Other investment securities (3)	67,546			517		3.06		51,812			250		1.93
FHLB and FRB stock	14,770			323		8.75		18,167			289		6.36
Short-term investments	40,318			552		5.48		27,912			158		2.26
Total interest-earning assets	3,038,776			50,941		6.71		2,582,945			31,786		4.92
Non-interest-earning assets	237,464							176,016
Total assets	$	3,276,240						$	2,758,961
Interest-bearing liabilities
Transaction accounts	$	731,529		6,774		3.70		$	486,704		1,005		0.83
Money market accounts	657,183			5,871		3.57		746,227			1,610		0.86
Certificates of deposit	282,674			2,986		4.23		113,529			340		1.20
Wholesale deposits	410,494			4,172		4.07		36,702			226		2.46
Total interest-bearing deposits	2,081,880			19,803		3.80		1,383,162			3,181		0.92
FHLB advances	342,117			2,117		2.48		432,528			2,173		2.01

Other borrowings	34,745			425		4.89		42,800			548		5.12
Total interest-bearing liabilities	2,458,742			22,345		3.64		1,858,490			5,902		1.27
Non-interest-bearing demand deposit accounts	434,330							584,535
Other non-interest-bearing liabilities	105,079							60,705
Total liabilities	2,998,151							2,503,730
Stockholders’ equity	278,089							255,231
Total liabilities and stockholders’ equity	$	3,276,240						$	2,758,961
Net interest income				$	28,596						$	25,884
Interest rate spread						3.07	%						3.65	%
Net interest-earning assets	$	580,034						$	724,455
Net interest margin						3.76	%						4.01	%
Average interest-earning assets to average interest-bearing liabilities	123.59		%					138.98		%
Return on average assets (4)	1.19							1.54
Return on average equity (4)	14.62							17.44
Average equity to average assets	8.49							9.25
Non-interest expense to average assets (4)	2.83							2.90

(1) The average balances of loans and leases include non-performing loans and leases and loans held for sale. Interest income related to non-performing loans and leases is recognized when collected. Interest income includes net loan fees in lieu of interest.

(2) Includes amortized cost basis of assets available-for-sale and held-to-maturity.

(3) Yields on tax-exempt municipal securities are not presented on a tax-equivalent basis in this table.

(4) Represents annualized yields/rates.

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	For the Nine Months Ended September 30,
	2023							2022
	Average Balance			Interest		Average Yield/Rate (4)		Average Balance			Interest		Average Yield/Rate (4)
	(Dollars in Thousands)
Interest-earning assets
Commercial real estate and other mortgage loans (1)	$	1,556,988		$	71,011	6.08	%	$	1,472,930		$	45,969	4.16	%
Commercial and industrial loans (1)	988,359			59,213		7.99		755,254			31,603		5.58
Consumer and other loans (1)	47,594			1,738		4.87		50,149			1,362		3.62
Total loans and leases receivable (1)	2,592,941			131,962		6.79		2,278,333			78,934		4.62
Mortgage-related securities (2)	193,196			4,372		3.02		176,654			2,479		1.87
Other investment securities (3)	61,396			1,229		2.67		52,324			725		1.85
FHLB and FRB stock	15,904			952		7.98		16,523			688		5.55
Short-term investments	43,437			1,652		5.07		29,509			227		1.03
Total interest-earning assets	2,906,874			140,167		6.43		2,553,343			83,053		4.34
Non-interest-earning assets	223,552							160,966
Total assets	$	3,130,426						$	2,714,309
Interest-bearing liabilities
Transaction accounts	$	657,155		16,070		3.26		$	507,402		1,602		0.42
Money market accounts	663,284			14,984		3.01		765,839			2,458		0.43
Certificates of deposit	271,684			8,049		3.95		80,093			509		0.85
Wholesale deposits	311,038			9,671		4.14		21,838			436		2.66
Total interest-bearing deposits	1,903,161			48,774		3.42		1,375,172			5,005		0.49
FHLB advances	368,913			7,030		2.54		422,576			4,875		1.54
Other borrowings	35,351			1,314		4.96		44,719			1,698		5.06
Junior subordinated notes (5)	—			—		—		3,247			504		20.69
Total interest-bearing liabilities	2,307,425			57,118		3.30		1,845,714			12,082		0.87
Non-interest-bearing demand deposit accounts	455,653							568,131
Other non-interest-bearing liabilities	96,883							53,685
Total liabilities	2,859,961							2,467,530
Stockholders’ equity	270,465							246,779
Total liabilities and stockholders’ equity	$	3,130,426						$	2,714,309
Net interest income				$	83,049						$	70,971
Interest rate spread						3.13	%						3.46	%
Net interest-earning assets	$	599,449						$	707,629
Net interest margin						3.81	%						3.71	%
Average interest-earning assets to average interest-bearing liabilities	125.98		%					138.34		%
Return on average assets (4)	1.13							1.49
Return on average equity (4)	13.72							16.97
Average equity to average assets	8.64							9.09
Non-interest expense to average assets (4)	2.85							2.86

(2) Includes amortized cost basis of assets available-for-sale and held-to-maturity.

(3) Yields on tax-exempt municipal securities are not presented on a tax-equivalent basis in this table.

(4) Represents annualized yields/rates.

(5) The rate column for the nine months ended September 30, 2022 included $236,000 in accelerated amortization of debt issuance costs.

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The change in yield of the respective interest-earning asset or the rate paid on interest-bearing liability compared to the change in short-term market rates is commonly referred to as a beta. The table below displays the beta calculations for loans and leases, total interest earning assets, in-market deposits, interest-bearing deposits and total interest-bearing liabilities for the three and nine months ended September 30, 2023 and 2022. Additionally, adjusted total loans and leases and total interest-earning assets excludes the volatile impact of fees in lieu of interest.


	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2023		2022				2023		2022
Asset and Liability Beta Analysis	Average Yield/Rate (4)				Increase (Decrease)		Average Yield/Rate (3)				Increase (Decrease)
Total loans and leases receivable (a)	7.06	%	5.21	%	1.85	%	6.79	%	4.62	%	2.17	%
Total interest-earning assets (b)	6.71	%	4.92	%	1.79	%	6.43	%	4.34	%	2.09	%
Adjusted total loans and leases receivable (1)(c)	6.97	%	5.07	%	1.90	%	6.67	%	4.39	%	2.28	%
Adjusted total interest-earning assets (1)(d)	6.63	%	4.80	%	1.83	%	6.33	%	4.13	%	2.20	%
Total in-market deposits (e)	2.97	%	0.61	%	2.36	%	2.55	%	0.32	%	2.23	%
Total bank funding (f)	3.07	%	0.89	%	2.18	%	2.73	%	0.56	%	2.17	%
Net interest margin (g)	3.76	%	4.01	%	(0.25)	%	3.81	%	3.71	%	0.10	%
Adjusted net interest margin (h)	3.66	%	3.89	%	(0.23)	%	3.68	%	3.53	%	0.15	%

Effective fed funds rate (3)(i)	5.26	%	2.18	%	3.08	%	4.92	%	1.03	%	3.89	%

Beta Calculations:
Total loans and leases receivable (a)/(i)					60.08	%					55.78	%
Total interest-earning assets (b)/(i)					57.89	%					53.77	%
Adjusted total loans and leases receivable (1)(c)/(i)					61.82	%					58.61	%
Adjusted total interest-earning assets (1)(d)/(i)					59.46	%					56.53	%
Total in-market deposits (e)/(i)					76.62	%					57.33	%
Total bank funding (2)(f)/(i)					70.78	%					55.78	%
Net interest margin (g)/(i)					(8.12)	%					2.57	%
Adjusted net interest margin (h)/(i)					(7.47)	%					3.86	%

(1) Excluding fees in lieu of interest.

(2) Total bank funding represents total deposits plus FHLB advances.

(3) Board of Governors of the Federal Reserve System (US), Effective Federal Funds Rates [DFF] retrieved from FRED, Federal Reserve Bank of St. Louis.

(4) Represents annualized yields/rates.

Comparison of Net Interest Income for the Three and Nine Months Ended September 30, 2023 and 2022

Net interest income increased $2.7 million, or 10.5%, and $12.1 million, or 17.0%, during the three and nine months ended September 30, 2023, respectively, compared to the three and nine months ended September 30, 2022. The increase in net interest income reflected an increase in average gross loans and leases, partially offset by a reduction in fees in lieu of interest. Fees in lieu of interest, which vary from quarter to quarter, totaled $582,000 and $2.2 million for the three and nine months ended September 30, 2023, respectively, compared to $807,000 and $4.0 million for the same period in 2022. Excluding fees in lieu of interest, net interest income for the three and nine months ended September 30, 2023 increased $2.9 million, or 11.7%, and $13.9 million, or 20.7%, respectively. Average gross loans and leases for the three and nine months ended September 30, 2023 increased $395.2 million, or 17.1%, and $314.6 million, or 13.8%, respectively, compared to the three and nine months ended September 30, 2022.

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The yield on average loans and leases for the three and nine months ended September 30, 2023 was 7.06% and 6.79%, respectively, compared to 5.21% and 4.62% for the three and nine months ended September 30, 2022. Excluding the impact of loan fees in lieu of interest, the yield on average loans and leases for the three and nine months ended September 30, 2023 was 6.97% and 6.67%, respectively, compared to 5.07% and 4.39% for the three and nine months ended September 30, 2022. The yield on average interest-earning assets for the three and nine months ended September 30, 2023 measured 6.71% and 6.43%, respectively, compared to 4.92% and 4.34% for the three and nine months ended September 30, 2022. Excluding loan fees in lieu of interest, the yield on average interest-earning assets for the three and nine months ended September 30, 2023 was 6.63% and 6.33%, respectively, compared to 4.80% and 4.13% for the three and nine months ended September 30, 2022. The increase in yields was primarily due to rising rates on variable-rate loans, following the Federal Open Market Committee’s (“FOMC”) decision to raise the target Fed Funds rate 225 basis points over the period of comparison, as well as the reinvestment of cash flows from the securities and fixed-rate loan portfolios in a rising rate environment. The daily average effective federal funds rate for the three and nine months ended September 30, 2023 increased 308 and 389 basis points, compared to the same period in 2022. This equates to an interest-earning asset beta of 59.46% and 56.53%, respectively, for the three and nine months ended September 30, 2023.

The rate paid on average interest-bearing in-market deposits for the three and nine months ended September 30, 2023 increased to 3.74% and 3.27%, respectively, from 0.88% and 0.45% for the three and nine months ended September 30, 2022. The average rate paid on total interest-bearing liabilities for the three and nine months ended September 30, 2023 increased to 3.64% and 3.30%, respectively, from 1.27% and 0.87% for the three and nine months ended September 30, 2022. Total interest-bearing liabilities include interest-bearing deposits, federal funds purchased, FHLB advances, subordinated and junior subordinated notes and debentures payable, and other borrowings. The average rates paid increased due to the increase in short-term market rates and the replacement of maturing wholesale funds at higher fixed rates. This equates to an interest-bearing liability beta of 76.78% and 62.39%, respectively, for the three and nine months ended September 30, 2023.

Net interest margin decreased to 3.76% and increased to 3.81%, respectively, for the three and nine months ended September 30, 2023, compared to 4.01% and 3.71% for the three and nine months ended September 30, 2022. The primary driver of the reduction for the three months ended in net interest margin was mainly due to a decrease in fees in lieu of interest and an increase in funding costs, partially offset by an increase in earning asset yields. The primary driver of improved net interest margin for the nine months ended was the aforementioned increase in earning asset yields, partially offset by corresponding increase in funding costs. . Adjusted net interest margin measured 3.66% and 3.68%, respectively, for the three and nine months ended September 30, 2023, compared to 3.89% and 3.53% for the three and nine months ended September 30, 2022. Adjusted net interest margin is a non-GAAP measure representing net interest income excluding the impact of fees in lieu of interest, and other recurring, but volatile, components of net interest margin divided by average interest-earning assets less other recurring, but volatile, components of average interest-earning assets.

Management believes its success in growing in-market deposits, disciplined loan pricing, and increased production in existing higher-yielding commercial lending products will allow the Corporation to achieve a net interest margin that supports our long-term profitability goals. However, the collection of loan fees in lieu of interest is an expected source of volatility to quarterly net interest income and net interest margin. In addition, net interest margin may also experience volatility due to events such as the collection of interest on loans previously in non-accrual status or the accumulation of significant short-term deposit inflows. Management anticipates deposit betas may continue to rise and net interest margin may continue to decline at a gradual pace in coming quarters as the Federal Open Market Committee approaches a terminal federal funds rate. Based on current trends, we believe our net interest margin should stabilize above our current strategic plan goal of 3.50%.

Provision for Credit Losses

We determine our provision for credit losses pursuant to our allowance for credit loss methodology, which was updated on January 1, 2023, for the adoption of ASC 326. It is based on a reasonable and supportable forecast as well as considerations for composition, risk, and performance indicators in our credit portfolio. Refer to Allowance for Credit Losses , below, for further information regarding our allowance for credit loss methodology.

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The Corporation recognized $1.8 million and $5.6 million of provision expense for the three and nine months ended September 30, 2023, respectively, compared to expense of $12,000 and benefit of $4.6 million for the three and nine months ended September 30, 2022. The provision expense for the three months ended September 30, 2023 was primarily due to a $1.3 million increase in specific reserves, an increase of $817,000 related to loan growth, and a $506,000 increase due to qualitative factors, partially offset by a $1.4 million benefit due to the improved economic outlook in our model forecast. Similar to the second quarter, the increase in specific reserves, charge-offs, and qualitative factors was primarily related to the Equipment Finance and SBA Lending loan pools, which management believes is consistent with the cyclical nature of these commercial lending niches. The provision expense for the nine months ended September 30, 2023 was primarily due to a $2.3 million increase in specific reserves, an increase of $3.0 million related to loan growth, and a $465,000 increase due to qualitative factors, partially offset by $1.2 million benefit due to the improved economic outlook in our model forecast. The provision benefit for the nine months ended September 30, 2022 was primarily due to a net recovery of $4.4 million.

The following table shows the components of the provision for credit losses for the three and nine months ended September 30, 2023 compared to the same periods in 2022.


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
	(In Thousands)
Change in qualitative factor changes	$	506	$	132	$	465	$	(469)
Change in quantitative factor changes	(1,372)		(940)		(1,193)		(1,082)
Charge-offs	562		54		1,057		161
Recoveries	(84)		(81)		(435)		(4,537)
Change in reserves on individually evaluated loans, net	1,265		447		2,322		196
Change due to loan growth, net	817		400		3,023		1,162
Change in unfunded credit commitment reserves	123		—		371		—
Total provision for credit losses	$	1,817	$	12	$	5,610	$	(4,569)

The addition of specific reserves on individually evaluated loans represents new specific reserves established when collateral shortfalls or government guaranty deficiencies are present, while the release of specific reserves represents the reduction of previously established reserves that are no longer required. Changes in the allowance for credit losses due to qualitative factor changes reflect management’s evaluation of the level of risk within the portfolio based upon several factors for each portfolio segment. Charge-offs in excess of previously established specific reserves require an additional provision for credit losses to maintain the allowance for credit losses at a level deemed appropriate by management. This amount is net of the release of any specific reserve that may have already been provided. Refer to Asset Quality , below, for further information regarding the overall credit quality of our loan and lease portfolio.

Comparison of Non-Interest Income for the Three and Nine Months Ended September 30, 2023 and 2022

Non-Interest Income

Non-interest income increased $233,000, or 2.8%, to $8.4 million for the three months ended September 30, 2023 compared to $8.2 million for the same period in 2022. The increase in total non-interest income for the three months ended September 30, 2023 was due to increases in private wealth fee income, commercial loan swap fee income, and gains on sale of SBA loans. These favorable variances were partially offset by a decrease in other non-interest income, driven by a decrease in mezzanine fund investment income, and a decrease in services charges on deposits. Non-interest income for the nine months ended September 30, 2023 increased $1.8 million, or 7.8%, to $24.2 million compared to $22.5 million for the same period in 2022. The increase in total non-interest income for the nine months ended September 30, 2023 was driven by an increase in other non-interest income, led by mezzanine fund investment income, and an increase in commercial loan swap fee income, private wealth fee income, and loan fee income. These favorable variances were partially offset by a decrease in gains on the sale of SBA loans and service charges on deposits.

Management continues to focus on revenue growth from multiple non-interest income sources in order to maintain a diversified revenue stream through greater contributions from fee-based revenues. Total non-interest income accounted for 22.8% and 22.6% of total revenues for the three and nine months ended September 30, 2023, respectively, compared to 24.1% and 24.0% for the three and nine months ended September 30, 2022, respectively.

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The components of non-interest income were as follows:


	For the Three Months Ended September 30,									For the Nine Months Ended September 30,
	2023			2022			$ Change		% Change	2023			2022			$ Change		% Change
	(Dollars in Thousands)
Private wealth management services fee income	$	2,945		$	2,618		$	327	12.5%	$	8,492		$	8,311		$	181	2.2%
Gain on sale of SBA loans	851			732			119		16.3	1,771			2,269			(498)		(21.9)
Service charges on deposits	835			1,018			(183)		(18.0)	2,283			3,058			(775)		(25.3)
Loan fees	786			814			(28)		(3.4)	2,495			2,163			332		15.3
Increase in cash surrender value of bank-owned life insurance	376			359			17		4.7	1,106			1,057			49		4.6
Net loss on sale of securities	—			—			—		NM	(45)			—			(45)		NM
Swap fees	992			341			651		190.9	2,526			1,038			1,488		143.4
Other non-interest income	1,645			2,315			(670)		(28.9)	5,586			4,559			1,027		22.5
Total non-interest income	$	8,430		$	8,197		$	233	2.8	$	24,214		$	22,455		$	1,759	7.8
Fee income ratio (1)	22.8		%	24.1		%				22.6		%	24.0		%

(1) Fee income ratio is fee income, per the above table, divided by top line revenue (defined as net interest income plus non-interest income).

Private wealth management service fees increased $327,000, or 12.5%, and $181,000, or 2.2%, for the three and nine months ended September 30, 2023, compared to the same period in 2022. Private wealth management fee income is primarily driven by the amount of assets under management and administration, as well as the mix of business at different fee structures, and can be positively or negatively influenced by the timing and magnitude of volatility within the capital markets. As of September 30, 2023, private wealth and trust assets under m anagement and administration totaled $2.915 billion, increasing $422.0 million , or 16.9%, compared to $2.493 billion as of September 30, 2022, as an increase in market values was bolstered by new client relationships and new money from existing clients.

Commercial loan interest rate swap fee income increased $651,000, or 190.9%, and $1.5 million, or 143.4%, for the three and nine months ended September 30, 2023, respectively, compared to the same period in 2022. We originate commercial real estate loans in which we offer clients a floating rate and an interest rate swap. The client’s swap is then offset with a counter-party dealer. The execution of these transactions generates swap fee income. The aggregate amortizing notional value of interest rate swaps with various borrowers was $908.6 million as of September 30, 2023, compared to $744.2 million and $666.2 million as of December 31, 2022 and September 30, 2022, respectively. Interest rate swaps can be an attractive product for our commercial borrowers, although associated fee income can be variable from period to period based on loan activity and the interest rate environment in any given quarter.

Other non-interest income decreased $670,000, or 28.9%, and increased $1.0 million, or 22.5%, for the three and nine months ended September 30, 2023, respectively, compared to the same period in 2022. The decrease and increase for the three and nine months ended September 30, 2023, respectively, was primarily due to the timing of returns from the Corporation’s investments in mezzanine funds.

Service charges on deposits decreased $183,000, or 18.0%, and $775,000, or 25.3%, respectively, for the three and nine months ended September 30, 2023, compared to the same period in 2022. The decrease was driven by an increase in the earnings credit rate which was adjusted with the rising rate environment. Treasury management business development efforts remain robust as gross treasury management service charges, net of waived fees, increased $183,000, or 13.6%, and $557,000, or 14.3%, for the three and nine months ended September 30, 2023, compared to the same period in 2022. Management believes growth in gross analyzed service charges is a strong indicator of success for the Corporation given the direct correlation to adding and expanding core business relationships.

Gain on sale of SBA loans increased $119,000, or 16.3%, and decreased $498,000, or 21.9%, for the three and nine months ended September 30, 2023, respectively, compared to the same period in 2022. The increase over the prior year quarter was due to an increase in loan sales volume . The decrease for the year-to-date period was driven by lower sales volume .

Loan fees decreased by $28,000, or 3.4%, and increased $332,000, or 15.3%, for the three and nine months ended September 30, 2023, respectively, compared to the same period in 2022. The decrease for the three months ended was primarily

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due to a decrease in Asset-Based Lending audit fee income. The increase for the nine months ended was due to an increase in equipment financing and floorplan financing activity generating additional service fee income.

Comparison of Non-Interest Expense for the Three and Nine Months Ended September 30, 2023 and 2022

Non-Interest Expense

Non-interest expense for the three and nine months ended September 30, 2023 increased by $3.2 million, or 15.8%, and $8.7 million, or 14.9%, respectively compared to the same period in 2022. Operating expense, which excludes certain one-time and discrete items as defined in the Efficiency Ratio table above, increased $3.0 million, or 15.1%, and $7.9 million, or 13.5%, respectively, for the three and nine months ended September 30, 2023, compared to the same period in 2022. The increase in operating expense was primarily due to an increase in all major categories led by compensation, FDIC insurance, and other non-interest expense.

The components of non-interest expense were as follows :


	For the Three Months Ended September 30,								For the Nine Months Ended September 30,
	2023		2022		$ Change		% Change		2023		2022		$ Change		% Change
	(Dollars in Thousands)
Compensation	$	15,573	$	14,817	$	756	5.1	%	$	46,610	$	42,475	$	4,135	9.7	%
Occupancy	575		566		9		1.6		1,809		1,689		120		7.1
Professional fees	1,429		1,203		226		18.8		4,012		3,671		341		9.3
Data processing	953		719		234		32.5		2,889		2,391		498		20.8
Marketing	758		543		215		39.6		2,165		1,713		452		26.4
Equipment	349		253		96		37.9		1,000		732		268		36.6
Computer software	1,289		1,128		161		14.3		3,668		3,327		341		10.2
FDIC insurance	680		230		450		195.7		1,653		840		813		96.8
Other non-interest expense	1,583		569		1,014		178.2		3,181		1,469		1,712		116.5
Total non-interest expense	$	23,189	$	20,028	$	3,161	15.8		$	66,987	$	58,307	$	8,680	14.9
Total operating expense (1)	$	22,943	$	19,925	$	3,018	15.1		$	66,414	$	58,497	$	7,917	13.5

Full-time equivalent employees	348		335						348		335

(1) Total operating expense represents total non-interest expense, adjusted to exclude the impact of discrete items as previously defined in the non-GAAP efficiency ratio calculation, above.

Compensation expense for the three and nine months ended September 30, 2023 increased $756,000, or 5.1%, and $4.1 million, or 9.7%, respectively, compared to the three and nine months ended September 30, 2022. The increase for the three months ended September 30, 2023 reflects annual merit and market increases, to remain competitive in a wage inflation environment, an expanded workforce, an increase in incentive compensation due to outstanding production, partially offset by lower projected annual cash bonus program accrual. In addition, the increase for the nine months ended September 30, 2023 was also driven by payment of, and payroll taxes paid on, a record annual cash bonus earned in 2022 but paid in 2023. Successful hiring efforts to secure talent resulted in average full-time equivalent employees for the three months ended September 30, 2023 increasing to 349, up 4.8%, compared to 333 for the three months ended September 30, 2022.

Other non-interest expense for the three and nine months ended September 30, 2023 increased $1.0 million, or 178.2%, and $1.7 million, or 116.5%, respectively, compared to the three and nine months ended September 30, 2022. The increase for both periods was primarily due to an increase in liquidation expenses related to an Asset-Based Lending relationship, an increase in SBA recourse provision, and an increase in travel expenses.

FDIC insurance for the three and nine months ended September 30, 2023 increased $450,000, or 195.7%, and $813,000, or 96.8%, respectively, compared to the three and nine months ended September 30, 2022. The increase was primarily due to asset growth, an increase in the assessment rate due to a broad 2 basis point increase by the agency, and an increase in the usage of brokered deposits, in lieu of FHLB advances, commensurate with our funding strategy to match-fund fixed-rate loans.

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Marketing expense increased $215,000, or 39.6%, and $452,000, or 26.4%, for the three and nine months ended September 30, 2023, respectively, compared to the three and nine months ended September 30, 2022. The increase during the three and nine months ended September 30, 2023 was primarily due to an increase in business development efforts and advertising projects related to our expanded sales force and national footprint.

Data processing increased $234,000, or 32.5%, and $498,000, or 20.8%, for the three and nine months ended September 30, 2023, respectively, compared to the three and nine months ended September 30, 2022, primarily due to an increase in core processing costs commensurate with loan and deposit account growth, as well as various project implementations..

Professional fees increased $226,000, or 18.8%, and $341,000, or 9.3%, for the three and nine months ended September 30, 2023, respectively, compared to the three and nine months ended September 30, 2022. The increase was primarily due to an increase in recruiting expense, audit expenses, legal expense, and a general increase in other professional consulting services for various projects.

Income Taxes

Income tax expense totaled $7.4 million for the nine months ended September 30, 2023 compared to $9.0 million for the nine months ended September 30, 2022. Income tax expense included a $1.1 million net benefit from tax credit investments, compared to a $155,000 benefit in the prior year period. The effective tax rate, including the benefit from Low-Income Housing Tax Credits, for the nine months ended September 30, 2023 was 21.0% compared to 22.6% for the same period in 2022. The Corporation expects to report an effective tax rate between 21% and 22% for 2023 and between 20% and 21% for 2024.

Generally, the provision for income taxes is determined by applying an estimated annual effective income tax rate to income before taxes and adjusting for discrete items. The rate is based on the most recent annualized forecast of pre-tax income, book versus tax differences and tax credits, if any. If we conclude that a reliable estimated annual effective tax rate cannot be determined, the actual effective tax rate for the year-to-date period may be used. We re-evaluate the income tax rates each quarter. Therefore, the current projected effective tax rate for the entire year may change.

Financial Condition

General

Total assets increased by $442.2 million, or 14.9%, to $3.419 billion as of September 30, 2023 compared to $2.977 billion at December 31, 2022. The increase in total assets was primarily driven by an increase in cash, loans and leases receivable, and available-for-sale securities. Total liabilities increased by $422.1 million, or 15.5%, to $3.138 billion at September 30, 2023 compared to $2.716 billion at December 31, 2022. The increase in total liabilities was principally due to an increase in deposits. Total stockholders’ equity increased by $20.1 million, or 7.7%, to $280.8 million at September 30, 2023 compared to $260.6 million at December 31, 2022. The increase in total stockholders’ equity was due to retention of earnings partially offset by dividends paid to common stockholders, stock repurchased, and cumulative change in accounting principal for ASC 326.

Cash and Cash Equivalents

Cash and cash equivalents include short-term investments and cash and due from banks. Cash and due from banks decreased $2.5 million to $23.3 million at September 30, 2023 from $25.8 million at December 31, 2022. Short-term investments increased by $32.7 million to $109.6 million at September 30, 2023 from $76.9 million at December 31, 2022. Our short-term investments primarily consist of interest-bearing deposits held at the FRB. We value the safety and soundness provided by the FRB, and therefore, we incorporate short-term investments in our readily accessible liquidity program. As of September 30, 2023 and December 31, 2022, interest-bearing deposits held at the FRB were $109.2 million and $76.5 million, respectively.

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Securities

Total securities, including available-for-sale and held-to-maturity, increased by $56.2 million, or 25.0%, to $280.9 million, or 8.2% of total assets at September 30, 2023 compared to $224.7 million, or 7.5% of total assets at December 31, 2022. During the nine months ended September 30, 2023 the Corporation recognized unrealized losses of $6.4 million before income taxes through other comprehensive income, compared to unrealized losses of $29.8 million for the same period in 2022. The unrealized losses in the prior year period were solely driven by the increase in interest rates. As of September 30, 2023 and December 31, 2022, our overall securities portfolio, including available-for-sale securities and held-to-maturity securities, had an estimated weighted-average expected maturity of 5.3 years and 6.3 years, respectively. Our investment philosophy remains as stated in our most recent Annual Report on Form 10-K.

We use a third-party pricing service as our primary source of market prices for our securities portfolio. On a quarterly basis, we validate the reasonableness of prices received from this source through independent verification, data integrity validation primarily through comparison of current price to an expectation-based analysis of movement in prices based upon the changes in the related yield curves, and other market factors. We did not recognize any credit losses in the securities portfolio as of September 30, 2023.

Loans and Leases Receivable

Period-end loans and leases receivable, net of allowance for credit losses, increased by $315.8 million, or 17.4% annualized to $2.735 billion at September 30, 2023 from $2.419 billion at December 31, 2022 driven by commercial loan growth. Management does not believe this level of loan growth is sustainable and expects growth to moderate in subsequent quarters. Additionally, management expects to evaluate loan sale strategies as a means of adding to and further diversifying fee income. Due to the adoption of ASC 326, the current year included a change to our portfolio segmentation. The balances as of September 30, 2023 reflect reclassifications of $43 million to commercial and industrial from commercial real estate and $7 million from consumer and other to commercial real estate.

Including the reclassification impact of adopting ASC 326 in the prior period of comparison, C&I loans increased $186.5 million, or 27.7% annualized, to $1.084 billion. The increase was due to growth across the majority of the Bank’s C&I products and geographies. Management does not believe this level of C&I loan growth is sustainable and expects growth to moderate to lower double-digit levels in subsequent quarters.

Including the reclassification impact of adopting ASC 326 in the prior period of comparison, total commercial real estate (“CRE”) loans increased $128.7 million, or 11.4% annualized, to $1.635 billion. The increase was primarily due to an increase in non-owner occupied CRE and multi-family loans..

Including the reclassification impact of adopting ASC 326 in the prior period of comparison, CRE loans represented 59.2% and 61.7% of our total loans as of September 30, 2023 and December 31, 2022, respectively. The decline in CRE concentration in the period of comparison is the result of management’s success in expanding the Bank’s various C&I products across both its local and national footprints. As of September 30, 2023, 14.4% of the CRE loans were owner-occupied CRE, compared to 15.2% as of December 31, 2022. We consider owner-occupied CRE more characteristic of the Corporation’s C&I portfolio as, in general, the client’s primary source of repayment is the cash flow from the operating entity occupying the commercial real estate property.

We continue to actively pursue C&I loans across the Corporation as this segment of our loan and lease portfolio provides an attractive yield commensurate with an appropriate level of credit risk and creates opportunities for in-market deposit, treasury management, and private wealth management relationships which generate additional fee revenue. Additionally, management expects to evaluate loan sales strategies as a means of adding to and further diversifying fee income.

Underwriting of new credit is primarily through approval from a serial sign-off or committee process and is a key component of our operating philosophy. Business development officers have no individual lending authority. To monitor the ongoing credit quality of our loans and leases, each credit is evaluated for proper risk rating using a nine grade risk rating system at the time of origination, subsequent renewal, evaluation of updated financial information from our borrowers, or as other circumstances dictate.

While we continue to experience competition from banks operating in our primary geographic areas, we remain committed to our underwriting standards and will not deviate from those standards for the sole purpose of growing our loan and lease portfolio. We continue to expect our new loan and lease activity to be adequate to replace normal amortization, allowing us to continue growing in future years. The types of loans and leases we originate and the various risks associated with these originations remain consistent with information previously outlined in our most recent Annual Report on Form 10-K.

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Deposits

Deposit composition


	As of
(in thousands)	September 30, 2023			June 30, 2023			March 31, 2023			December 31, 2022			September 30, 2022
Non-interest-bearing transaction accounts	$	430,011		$	419,294		$	471,904		$	537,107		$	564,141
Interest-bearing transaction accounts	779,789			719,198			612,500			576,601			461,883
Money market accounts	694,199			641,969			662,157			698,505			742,545
Certificates of deposit	285,265			293,283			308,191			153,757			160,655
Wholesale deposits	467,743			455,108			422,088			202,236			158,321
Total deposits	$	2,657,007		$	2,528,852		$	2,476,840		$	2,168,206		$	2,087,545

Uninsured deposits	$	916,083		$	867,397		$	974,242		$	967,465		$	1,007,935
Less: uninsured deposits collateralized by pledged assets	28,873			37,670			32,468			14,326			34,264
Total uninsured, net collateralized deposits	$	887,210		$	829,727		$	941,774		$	953,139		$	973,671
% of total deposits	33.4		%	32.8		%	38.0		%	44.0		%	46.6		%

As of September 30, 2023, total period-end deposits increased by $488.8 million to $2.657 billion from $2.168 billion at December 31, 2022, primarily due to a $265.5 million, $203.2 million, and $131.5 million increase in wholesale deposits, interest bearing transaction accounts, and certificate of deposit accounts, partially offset by a decrease in non-interest-bearing transaction accounts and money market accounts of $107.1 million and $4.3 million, respectively. The large increase in wholesale deposits is primarily driven by a shift from FHLB advances to wholesale deposits to manage interest rate risk and increase excess liquidity.

As of September 30, 2023, total period-end in-market deposits increased $223.3 million, or 15.1% annualized, to $2.189 billion, compared to $1.966 billion at December 31, 2022. Growth in interest-bearing transaction accounts and certificates of deposits, driven by client movement into extended insurance products, was partially offset by a decrease in non-interest-bearing transaction accounts and money market accounts. Management believes the Bank’s deposit-centric sales strategy, led by treasury management sales, will contribute to a net increase in deposits; however, period-end deposit balances associated with in-market relationships will fluctuate based upon maturity of time deposits, client demands for the use of their cash, and our ability to maintain existing and new client relationships.

Our strategic efforts remain focused on adding in-market deposit relationships. We measure the success of in-market deposit gathering efforts based on the number and average balances of our deposit accounts as compared to ending balances due to the variability of some of our larger relationships. The Bank’s average in-market deposits, consisting of all transaction accounts, money market accounts, and certificates of deposit, increased $126.3 million, or 6.6%, to $2.048 billion for the nine months ended September 30, 2023 compared to $1.921 billion for the nine months ended September 30, 2022.

FHLB Advances and Other Borrowings

As of September 30, 2023, FHLB advances and other borrowings decreased by $92.9 million, or 20.3%, to $363.9 million from $456.8 million at December 31, 2022. As deposit balances have increased, we have been able to reduce our usage of FHLB advances. In addition, we have strategically reduced our usage of FHLB advances in favor of wholesale deposits to increase the Bank’s readily available liquidity. We will continue to utilize FHLB advances and wholesale deposits to manage interest rate risk, liquidity, and contingency funding.

As of September 30, 2023, the Corporation had no other borrowings. As of December 31, 2022, the Corporation had other borrowings of $6.1 million which consisted of sold loans which were accounted for as a secured borrowing because they did not qualify for true sale accounting.

On September 29, 2023, the Corporation completed the private placement of $15.0 million in new subordinated debentures which qualify as Tier 2 capital. The proceeds of the issuance will support the Bank’s growth strategy and general corporate purposes. The subordinated debentures bear a fixed interest rate of 8.0% with a maturity date of September 29, 2033. The Corporation may, at its option, redeem the debentures, in whole or part, at any time after the fifth anniversary of issuance.

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Consistent with our funding philosophy to manage interest rate risk, we will use the most efficient and cost effective source of wholesale funds. We will utilize FHLB advances to the extent we maintain an adequate level of excess borrowing capacity for liquidity and contingency funding purposes and pricing remains favorable in comparison to the wholesale deposit alternative. We will use FHLB advances and/or brokered certificates of deposit in specific maturity periods needed, typically three to five years, to match-fund fixed rate loans and effectively mitigate the interest rate risk measured through our asset/liability management process and to support asset growth initiatives while taking into consideration our operating goals and desired level of usage of wholesale funds. Please refer to the section entitled Liquidity and Capital Resources , below, for further information regarding our use and monitoring of wholesale funds.

Preferred Stock

The Corporation has 12,500 shares, or $12.5 million in aggregate liquidation preference, of 7.0% Fixed-to-Floating Rate Non-Cumulative Perpetual Preferred Stock, Series A, par value $0.01 per share, with a liquidation preference of $1,000 per share (the “Series A Preferred Stock”) outstanding as of September 30, 2023 and December 31, 2022.

The Corporation expects to pay dividends on the Series A Preferred Stock when and if declared by its Board, at a fixed rate of 7.0% per annum, payable quarterly, in arrears, on March 15, June 15, September 15 and December 15 of each year up to, but excluding, March 15, 2027. For each dividend period from and including March 15, 2027, dividends will be paid at a floating rate of Three-Month Term SOFR plus a spread of 539 basis points per annum. During the three and nine months ended September 30, 2023, the Corporation paid $218,000 and $656,000, respectively, in preferred cash dividends with respect to the Series A Preferred Stock. The Series A Preferred Stock is perpetual and has no stated maturity. The Corporation may redeem the Series A Preferred Stock at its option at a redemption price equal to $1,000 per share, plus any declared and unpaid dividends (without regard to any undeclared dividends), subject to regulatory approval, on or after March 15, 2027 or within 90 days following a regulatory capital treatment event, in accordance with the terms of the Series A Preferred Stock.

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Derivatives

The Board approved Bank policies allow the Bank to participate in hedging strategies or to use financial futures, options, forward commitments, or interest rate swaps. The Bank utilizes, from time to time, derivative instruments in the course of its asset/liability management. The Corporation’s derivative financial instruments, under which the Corporation is required to either receive cash from or pay cash to counterparties depending on changes in interest rates applied to notional amounts, are carried at fair value on the consolidated balance sheets.

As of September 30, 2023, the aggregate amortizing notional value of interest rate swaps with various commercial borrowers was approximately $908.6 million, compared to $744.2 million as of December 31, 2022. We receive fixed rates and pay floating rates based upon designated benchmark interest rates on the swaps with commercial borrowers. These swaps mature between May 2024 and March 2040. Commercial borrower swaps are completed independently with each borrower and are not subject to master netting arrangements. As of September 30, 2023, the commercial borrower swaps were reported on the Consolidated Balance Sheet as a derivative asset of $291,000 and liability of $78.7 million compared to a derivative asset of $1.0 million and liability of $61.4 million as of December 31, 2022. On the offsetting swap contracts with dealer counterparties, we pay fixed rates and receive floating rates based upon designated benchmark interest rates. These interest rate swaps also have maturity dates between May 2024 and March 2040. Dealer counterparty swaps are subject to master netting agreements among the contracts within our Bank and were reported on the Consolidated Balance Sheet as a net derivative asset of $78.4 million as of September 30, 2023, compared to a net derivative liability of $60.4 million as of December 31, 2022. The gross amount of dealer counterparty swaps as of September 30, 2023, without regard to the enforceable master netting agreement, was a gross derivative asset of $78.7 million, compared to a gross derivative liability of $1.0 million and gross derivative asset of $61.4 million as of December 31, 2022.

The Corporation also enters into interest rate swaps to manage interest rate risk and reduce the cost of match-funding certain long-term fixed rate loans. These derivative contracts involve the receipt of floating rate interest from a counterparty in exchange for the Corporation making fixed-rate payments over the life of the agreement, without the exchange of the underlying notional value. The instruments are designated as cash flow hedges as the receipt of floating rate interest from the counterparty is used to manage interest rate risk associated with forecasted issuances of short-term FHLB advances. The change in the fair value of these hedging instruments is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged transactions affect earnings. As of September 30, 2023, the aggregate notional value of interest rate swaps designated as cash flow hedges was $352.7 million. These interest rate swaps mature between December 2023 and March 2034. A pre-tax unrealized gain of $5.3 million and $7.5 million was recognized in other comprehensive income for the three and nine months ended September 30, 2023, respectively, and there was no ineffective portion of these hedges.

The Corporation also enters into interest rate swaps to mitigate market value volatility on certain long-term fixed securities. The objective of the hedge is to protect the Corporation against changes in fair value due to changes in benchmark interest rates. The instruments are designated as fair value hedges as the changes in the fair value of the interest rate swap are expected to offset changes in the fair value of the hedged item attributable to changes in the SOFR swap rate, the designated benchmark interest rate. These derivative contracts involve the receipt of floating rate interest from a counterparty in exchange for the Corporation making fixed-rate payments over the life of the agreement, without the exchange of the underlying notional value. The change in the fair value of these hedging instruments is recorded in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged transactions affect earnings. As of September 30, 2023, the aggregate notional value of interest rate swaps designated as fair value hedges was $12.5 million. These interest rate swaps mature between February 2031 and October 2034. A pre-tax unrealized gain of $421,000 and loss of $353,000 was recognized in other comprehensive income for the three and nine months ended September 30, 2023, respectively, and there was no ineffective portion of these hedges.

For further information and discussion of our derivatives, see Note 13 — Derivative Financial Instruments of the Consolidated Financial Statements.

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Asset Quality

Non-performing Assets

Total non-performing assets consisted of the following at September 30, 2023 and December 31, 2022, respectively:


	September 30, 2023			December 31, 2022
	(Dollars in Thousands)
Non-performing loans and leases
Commercial real estate:
Commercial real estate - owner occupied	$	—		$	—
Commercial real estate - non-owner occupied	—			—
Construction	—			—
Multi-family	—			—
1-4 family	24			30
Total non-performing commercial real estate	24			30
Commercial and industrial	17,604			3,629
Consumer and other	—			—
Total non-performing loans and leases	17,628			3,659
Repossessed assets, net	61			95
Total non-performing assets	17,689			3,754



Total non-performing loans and leases to gross loans and leases	0.64		%	0.15		%
Total non-performing assets to gross loans and leases plus repossessed assets, net	0.64			0.15
Total non-performing assets to total assets	0.52			0.13
Allowance for credit losses to gross loans and leases	1.12			0.99
Allowance for credit losses to non-performing loans and leases	176.06			662.20

Non-performing loans increased $14.0 million, to $17.6 million at September 30, 2023, compared to $3.7 million at December 31, 2022. The Corporation’s non-performing loans as a percentage of total gross loans and leases measured 0.64% and 0.15% at September 30, 2023 and December 31, 2022, respectively. The recent elevation in non-performing assets was driven by Equipment Finance and Asset-Based Lending (ABL) pools within the C&I portfolio segment. We continue to expect full repayment related to the second quarter $10.9 million ABL loan in default. Excluding this credit, non-performing assets totaled $8.1 million, or 0.24% of total assets in the current quarter and $4.9 million, or 0.15% of total assets in the prior quarter. The increase in the Equipment Finance pool, for which defaults and liquidations are not atypical, was due to a cyclical increase in past-due balances.

We use a wide variety of available metrics to assess the overall asset quality of the portfolio and no one metric is used independently to make a final conclusion as to the asset quality of the portfolio. Non-performing assets as a percentage of total assets was 0.52% and 0.13% at September 30, 2023 and December 31, 2022, respectively. As of September 30, 2023 and December 31, 2022, the payment performance of our loans and leases did not point to any new areas of concern, as approximately 99.36% and 99.85%, respectively, of the total portfolio at the end of each period was in a current payment status. We also monitor asset quality through our established categories as defined in Note 5 – Loans and Allowance for Credit Losses of the Consolidated Financial Statements. As we continue to actively monitor the credit quality of our loan and lease portfolios, we may identify additional loans and leases for which the borrowers or lessees are having difficulties making the required principal and interest payments based upon factors including, but not limited to, the inability to sell the underlying collateral, inadequate cash flow from the operations of the underlying businesses, liquidation events, or bankruptcy filings. We proactively work with our loan borrowers experiencing financial difficulty to find meaningful solutions to difficult situations that are in the best interests of the Bank.

As of September 30, 2023, as well as in all previous reporting periods, there were no loans over 90 days past due and still accruing interest. Loans and leases greater than 90 days past due are placed on non-accrual status and individually evaluated for reserve requirement. Cash received while a loan or a lease is on non-accrual status is generally applied solely

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against the outstanding principal. If collectability of the contractual principal and interest is not in doubt, payments received may be applied to both interest due on a cash basis and principal.

The following represents additional information regarding our non-performing loans and leases:


	As of and for the Nine Months Ended September 30,				As of and for the Year Ended December 31,
	2023		2022		2022
	(In Thousands)
Individually evaluated loans and leases with no specific reserves required	$	11,381	$	1,028	$	1,067
Individually evaluated loans and leases with specific reserves required	6,247		2,789		2,592
Total individually evaluated loans and leases	17,628		3,817		3,659
Less: Specific reserves (included in allowance for credit losses)	3,982		1,701		1,650
Net non-performing loans and leases	$	13,646	$	2,116	$	2,009
Average non-performing loans and leases	$	7,702	$	5,532	$	4,899
Foregone interest income attributable to non-performing loans and leases	$	704	$	312	$	400
Less: Interest income recognized on non-performing loans and leases	108		1,057		1,436
Net foregone interest income on non-performing loans and leases	$	596	$	(745)	$	(1,036)

Allowance for Credit Losses

The allowance for credit losses, including unfunded commitment reserves, increased $6.8 million, or 28.1%, to $31.0 million as of September 30, 2023 from $24.2 million as of December 31, 2022. The allowance for credit losses as a percentage of gross loans and leases increased to 1.12% as of September 30, 2023 from 0.99% as of December 31, 2022 under the incurred loss model. During the first quarter of 2023, the Corporation adopted ASU 2016-13, including the CECL methodology for estimating the ACL. This standard was adopted using a modified retrospective approach on January 1, 2023, resulting in a $484,000 increase to the ACL and a $1.3 million increase to the unfunded credit commitments reserve. In addition to the adoption of ASU 2016-13, the increase in allowance for credit losses as a percent of gross loans and leases was principally due to loan growth, increase in specific reserves, and changes to quantitative and qualitative model factors.

During the nine months ended September 30, 2023, we recorded net charge-offs on individually evaluated loans and leases of $622,000, comprised of $1,057,000 of charge-offs and $435,000 of recoveries. We will continue to experience some level of periodic charge-offs in the future as exit strategies are considered and executed. Loans and leases with previously established specific reserves, may ultimately result in a charge-off under a variety of scenarios.

As of September 30, 2023 and December 31, 2022, our ratio of allowance for credit losses to total non-performing loans and leases was 176.06% and 662.20%, respectively. This ratio decreased because of the $10.9 million ABL loan downgraded to non-performing as of June 30, 2023. This loan is fully collateralized and required no specific reserve. Non-performing loans and leases exhibit weaknesses that inhibit repayment in compliance with the original terms of the note or lease; however, the evaluation of non-performing loans and leases may not always result in a specific reserve included in the allowance for credit losses. As part of the underwriting process, as well as our ongoing monitoring efforts, we try to ensure that we have sufficient collateral to protect our interest in the related loan or lease. As a result of this practice, a significant portion of our outstanding balance of non-performing loans or leases may not require additional specific reserves or require only a minimal amount of required specific reserve. Management is proactive in recording charge-offs to bring loans to their net realizable value in situations where it is determined with certainty that we will not recover the entire amount of our principal. This practice may lead to a lower allowance for credit loss to non-performing loans and leases ratio as compared to our peers or industry expectations. As asset quality strengthens, our allowance for credit losses is measured more through collective characteristics of our portfolio rather than through specific identification and we would therefore expect this ratio to rise. Conversely, if we identify further impaired loans, this ratio could fall if the impaired loans are adequately collateralized and therefore require no specific or general reserve. Given our business practices and evaluation of our existing loan and lease portfolio, we believe this coverage ratio is appropriate for the probable losses inherent in our loan and lease portfolio as of September 30, 2023.

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To determine the level and composition of the allowance for credit losses, we break out the portfolio by segments with similar risk characteristics. First, we evaluate loans and leases for non-performing classification. We analyze each loan and lease identified as non-performing on an individual basis to determine a specific reserve based upon the estimated value of the underlying collateral for collateral-dependent loans, or alternatively, the present value of expected cash flows. For efficiency, smaller dollar value loans within the Equipment Finance pool are reserved based on a past-due criteria. All loans not evaluated individually are evaluated collectively as part of a portfolio segment or portfolio segment and class. These collective evaluations utilized a reasonable and supportable forecast which includes projections of credit losses based on one of two established methods: discounted cash flow or weighted average remaining maturity. Each model includes a set of assumptions which are evaluated not less than annually by management. Further, the methodology also focuses on evaluation of several qualitative factors for each portfolio segment or portfolio segment and class, including but not limited to: product growth rates, management’s ongoing review and grading of the loan and lease portfolios, consideration of delinquency experience, changes in the size of the loan and lease portfolios, level of loans and leases subject to more frequent review by management, changes in underlying collateral, concentrations in specific industries, and other qualitative factors that could affect credit losses.

When it is determined that we will not receive our entire contractual principal or the loss is confirmed, we record a charge against the allowance for credit loss reserve to bring the loan or lease to its net realizable value. Many of the impaired loans are collateral dependent. It is typically part of our process to obtain appraisals on impaired loans and leases that are primarily secured by real estate. As we complete new appraisals and/or market evaluations, in specific situations current fair values collateralizing certain impaired loans are inadequate to support the entire amount of the outstanding debt.

As a result of our review process, we have concluded an appropriate allowance for credit losses for the existing loan and lease portfolio was $31.0 million, or 1.12% of gross loans and leases, at September 30, 2023. However, given ongoing complexities with current workout situations and the uncertainty surrounding future economic conditions, further charge-offs, and increased provisions for credit losses may be recorded if additional facts and circumstances lead us to a different conclusion. In addition, various federal and state regulatory agencies review the allowance for credit losses. These agencies could require certain loan and lease balances to be classified differently or charged off when their credit evaluations differ from those of management, based on their judgments about information available to them at the time of their examination.

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A summary of the activity in the allowance for credit losses follows:


	As of and for the Three Months Ended September 30,						As of and for the Nine Months Ended September 30,
	2023			2022			2023			2022
	(Dollars in Thousands)
Allowance at beginning of period	$	29,697		$	24,104		$	24,230		$	24,336
Impact of adoption of ASC 326	—			—			1,818			—
Charge-offs:
Commercial real estate:
Commercial real estate — owner occupied	—			—			—			—
Commercial real estate — non-owner occupied	—			—			—			—
Construction	—			—			—			—
Multi-family	—			—			—			—
1-4 family	—			—			—			—
Commercial and industrial	(562)			(33)			(1,057)			(140)
Consumer and other	—			(21)			—			(21)
Total charge-offs	(562)			(54)			(1,057)			(161)
Recoveries:
Commercial real estate:
Commercial real estate — owner occupied	3			23			5			4,258
Commercial real estate — non-owner occupied	—			—			1			1
Construction	—			—			—			—
Multi-family	—			—			—			—
1-4 family	9			—			30			—
Commercial and industrial	72			50			386			251
Consumer and other	—			8			13			27
Total recoveries	84			81			435			4,537
Net recoveries	(478)			27			(622)			4,376
Provision for credit losses	1,817			12			5,610			(4,569)
Allowance at end of period	$	31,036		$	24,143		$	31,036		$	24,143
Components:
Allowance for loan losses	$	29,331		$	24,143		$	29,331		$	24,143
Allowance for unfunded credit commitments	1,705			—			1,705			—
Total ACL	$	31,036		$	24,143		$	31,036		$	24,143
Annualized net charge offs (recoveries) as a percent of average gross loans and leases	0.07		%	—		%	0.03		%	(0.26)		%

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Liquidity and Capital Resources

The Corporation expects to meet its liquidity needs through existing cash on hand, established cash flow sources, its third-party senior line of credit, and dividends received from the Bank. While the Bank is subject to certain generally applicable regulatory limitations regarding its ability to pay dividends to the Corporation, we do not believe that the Corporation will be adversely affected by these dividend limitations. The Corporation’s principal liquidity requirements at September 30, 2023 were the interest payments due on subordinated notes and debentures and cash dividends payable to both common and preferred stockholders. The capital ratios of the Bank met all applicable regulatory capital adequacy requirements in effect on September 30, 2023, and continue to meet the heightened requirements imposed by Basel III, including the capital conservation buffer. The Corporation’s Board and management teams adhere to the appropriate regulatory guidelines on decisions which affect their capital positions, including but not limited to, decisions relating to the payment of dividends and increasing indebtedness.

The Bank maintains liquidity by obtaining funds from several sources. The Bank’s primary sources of funds are principal and interest payments on loans receivable and mortgage-related securities, deposits, and other borrowings, such as federal funds, and FHLB advances. The scheduled payments of loans and mortgage-related securities are generally a predictable source of funds. Deposit flows and loan prepayments, however, are greatly influenced by general interest rates, economic and industry conditions, and competition.

Sources of liquidity


	As of
(in thousands)	September 30, 2023		June 30, 2023		March 31, 2023		December 31, 2022		September 30, 2022
Short-term investments	$	109,612	$	80,510	$	159,859	$	76,871	$	86,707
Collateral value of unencumbered pledged loans	315,067		265,884		296,393		184,415		289,513
Market value of unencumbered securities	236,618		217,074		200,332		188,353		173,013
Readily available liquidity	661,297		563,468		656,584		449,639		549,233

Fed fund lines	45,000		45,000		45,000		45,000		45,000
Excess brokered CD capacity 1	1,090,864		1,017,590		1,027,869		1,162,241		1,100,369
Total liquidity	$	1,797,161	$	1,626,058	$	1,729,453	$	1,656,880	$	1,694,602
Total uninsured, net collateralized deposits	887,210		829,727		941,774		953,139		973,671

(1) Bank internal policy limits brokered CDs to 50% of total bank funding when combined with FHLB advances.

We view readily accessible liquidity as a critical element to meet our cash and collateral obligations. We define our readily accessible liquidity as the total of our short-term investments, our unencumbered securities available-for-sale, and our unencumbered pledged loans. Our readily accessible liquidity increased quarter over quarter. At September 30, 2023 and December 31, 2022, the Bank had $109.2 million and $76.5 million on deposit with the FRB recorded in short-term investments, respectively. Any excess funds not used for loan funding or satisfying other cash obligations were maintained as part of our readily accessible liquidity in our interest-bearing accounts with the FRB, as we value the safety and soundness provided by the FRB. We plan to utilize excess liquidity to fund loan and lease portfolio growth, pay down maturing debt, allow run off of maturing wholesale certificates of deposit or invest in securities to maintain adequate liquidity at an improved margin.

We had $782.2 million of outstanding wholesale funds at September 30, 2023, compared to $618.6 million of wholesale funds as of December 31, 2022, which represented 26.3% and 23.9%, respectively, of ending balance total bank funding. Wholesale funds include FHLB advances, brokered certificates of deposit, and deposits gathered from internet listing services. Total bank funding is defined as total deposits plus FHLB advances. We are committed to raising in-market deposits while utilizing wholesale funds to mitigate interest rate risk. Wholesale funds continue to be an efficient and cost effective source of funding for the Bank and allows it to gather funds across a larger geographic base at price levels and maturities that are more attractive than local time deposits when required to raise a similar level of in-market deposits within a short time period. Access to such deposits and borrowings allows us the flexibility to refrain from pursuing single service deposit relationships in markets that have experienced unfavorable pricing levels. In addition, the administrative costs associated with wholesale funds are considerably lower than those that would be incurred to administer a similar level of local deposits with a similar maturity structure. Wholesale funds are also stable as each issuance has a structured maturity date and may only be redeemed in certain limited circumstances. During the time frames necessary to accumulate wholesale funds in an orderly manner, we will use short-term FHLB advances to meet our temporary funding needs. The short-term FHLB advances will typically have terms of one week to one month to cover the overall expected funding demands.

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Period-end in-market deposits increased $223.3 million as of September 30, 2023, compared to December 31, 2022. The increase in in-market deposits was principally due to a $203.2 million and $131.5 million increase in interest bearing transaction accounts and certificates of deposits, respectively. This increase was partially offset by a $107.1 million and $4.3 million decrease in non-interest bearing deposit accounts and money market accounts, respectively. While non-interest transaction accounts declined $107.1 million from December 31, 2022 to June 30, 2023, we observed a $10.7 million increase during third quarter which may indicate a bottom to the trend. Nonetheless, we will continue to use wholesale funds in specific maturity periods, typically three to five years, needed to effectively mitigate the interest rate risk measured through our asset/liability management process or in shorter time periods if in-market deposit balances decline. In order to provide for ongoing liquidity and funding, none of our wholesale certificates of deposit allow for withdrawal at the option of the depositor before the stated maturity (with the exception of deposits accumulated through the internet listing service which have the same early withdrawal privileges and fees as do our other in-market deposits) and FHLB advances with contractual maturity terms. The Bank limits the percentage of wholesale funds to total bank funds in accordance with liquidity policies approved by its Board. The Bank was in compliance with its policy limits as of September 30, 2023.

The Bank was able to access the wholesale funding market as needed at rates and terms comparable to market standards during the quarter ended September 30, 2023. In the event that there is a disruption in the availability of wholesale funds at maturity, the Bank has managed the maturity structure, in compliance with our approved liquidity policy, so at least one year of maturities could be funded through readily accessible liquidity. These potential funding sources include deposits maintained at the FRB or Federal Reserve Discount Window utilizing currently unencumbered securities and acceptable loans as collateral. As of September 30, 2023, the available liquidity was in excess of the stated policy minimum. We believe the Bank will also have access to the unused federal funds lines, cash flows from borrower repayments, and cash flows from security maturities. The Bank also has the ability to raise local market deposits by offering attractive rates to generate the level required to fulfill its liquidity needs.

The Corporation has a shelf registration statement on file with the Securities and Exchange Commission that would allow the Corporation to offer and sell, from time to time and in one or more offerings, up to $75.0 million in aggregate initial offering price of common and preferred stock, debt securities, warrants, subscription rights, units, or depository shares, or any combination thereof.

During the nine months ended September 30, 2023, operating activities resulted in a net cash inflow of $39.0 million, which included net income of $27.3 million. Net cash used by investing activities for the nine months ended September 30, 2023 was $395.4 million primarily due to net loan disbursements, investments made in securities available for sale, and additional investments in federal home loan bank stock. Net cash provided by financing activities was $386.7 million for the nine months ended September 30, 2023 primarily due to a net increase in deposits, partially offset by the repayment of FHLB advances. Please refer to the Consolidated Statements of Cash Flows included in PART I., Item 1 for further details regarding significant sources of cash flow for the Corporation.

Contractual Obligations and Off-Balance Sheet Arrangements

As of September 30, 2023, there were no material changes to our contractual obligations and off-balance sheet arrangements disclosed in our Annual Report on Form 10-K for the year ended December 31, 2022. We continue to believe that we have adequate capital and liquidity available from various sources to fund projected contractual obligations and commitments.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Our primary market risk is interest rate risk, which arises from exposure of our financial position to changes in interest rates. It is our strategy to reduce the impact of interest rate risk on net interest margin by maintaining a largely match-funded position between the maturities and repricing dates of interest-earning assets and interest-bearing liabilities. This strategy is monitored by the Bank’s Asset/Liability Management Committee, in accordance with policies approved by the Bank’s Board. The committee meets regularly to review the sensitivity of the Bank’s assets and liabilities to changes in interest rates, liquidity needs and sources, and pricing and funding strategies.

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The primary technique we use to measure interest rate risk is simulation of earnings. In this measurement technique the balance sheet is modeled as an ongoing entity whereby future growth, pricing, and funding assumptions are utilized. These assumptions are modeled under different rate scenarios that include a simultaneous, instant and sustained change in interest rates. During the third quarter of 2023, the Corporation’s interest rate risk exposure model incorporated updated assumptions regarding the level of interest rate, including indeterminable maturity deposits (non-interest bearing deposits, interest bearing transaction accounts and money market accounts). In the current environment of changing short-term rates, deposit pricing can vary by product and client. These assumptions have been developed through a combination of historical analysis and projection of future expected pricing behavior. This modeling indicated interest rate sensitivity as follows:


	Impact on Net Interest Income as of
Instantaneous Rate Change in Basis Points	September 30, 2023
Down 300	(1.42)	%
Down 200	0.72
Down 100	0.96
No Change	—
Up 100	1.24
Up 200	1.37
Up 300	1.52

The simulations used to manage market risk are based on numerous assumptions regarding the effect of changes in interest rates on the timing and extent of repricing characteristics, future cash flows and client behavior. These assumptions are inherently uncertain and, as a result, the model cannot precisely estimate net interest income or precisely predict the impact of higher or lower interest rates on net interest income. Actual results will differ from simulated results due to timing, magnitude and frequency of interest rate changes as well as changes in market conditions, client behavior and management strategies, among other factors.

We manage the structure of interest-earning assets and interest-bearing liabilities by adjusting their mix, yield, maturity and/or repricing characteristics based on market conditions. FHLB advances and wholesale deposits are a significant source of funds. We use a variety of maturities to augment our management of interest rate exposure. Management has the authorization, as permitted within applicable approved policies, and ability to utilize derivatives should they be appropriate to manage interest rate exposure.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

The Corporation’s management, with the participation of the Corporation’s Chief Executive Officer and Chief Financial Officer, has evaluated the Corporation’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended). Based upon that evaluation, the Corporation’s Chief Executive Officer and Chief Financial Officer have concluded that the Corporation’s disclosure controls and procedures were effective as of September 30, 2023.

Changes in Internal Control over Financial Reporting

There was no change in the Corporation’s internal controls over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) that occurred during the quarter ended September 30, 2023 that has materially affected, or is reasonably likely to materially affect, the Corporation’s internal control over financial reporting.

PART II. Other Information

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Item 1. Legal Proceedings

From time to time, the Corporation and its subsidiaries are engaged in legal proceedings in the ordinary course of their respective businesses. Management believes that any liability arising from any such proceedings currently existing or threatened will not have a material adverse effect on the Corporation’s financial position, results of operations, or cash flows.

Item 1A. Risk Factors

There were no material changes to the risk factors previously disclosed in Item 1A. to Part I of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2022 and the quarterly reports on Form 10-Q for the quarters ended March 31, 2023 and June 30, 2023.

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

Issuer Purchases of Securities

As previously announced, effective January 27, 2023, the Corporation’s Board of Directors authorized the repurchase by the Corporation of shares of its common stock with a maximum aggregate purchase price of $5.0 million, effective January 31, 2023 through January 31, 2024. As of September 30, 2023, the Company had repurchased a total of 65,112 shares for approximately $2.0 million at an average cost of $30.72 per share.

Under the share repurchase program, the Corporation is authorized to repurchase shares from time to time in the open market or negotiated transactions at prevailing market rates, or by other means in accordance with federal securities laws. In connection with the share repurchase program, the Corporation implemented a 10b5-1 trading plan. The trading plan allows the Corporation to repurchase shares of its common stock at times when it otherwise might be prevented from doing so under insider trading laws by requiring that an agent selected by the Corporation repurchase shares of common stock on the Corporation’s behalf on pre-determined terms.

The following table sets forth information about the Corporation's purchases of its common stock during the three months ended September 30, 2023.


Period	Total Number of Shares Purchased (1)	Average Price Paid Per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Total Number of Shares that May Yet Be Purchased Under the Plans or Programs (2)
July 1, 2023 - July 31, 2023	—	$	—	—	—
August 1, 2023 - August 31, 2023	711	32.10		—	—
September 1, 2023 - September 30, 2023	—	—		—	—
Total	711	32.10		—	99,967

(1) During the third quarter of 2023, the Corporation repurchased an aggregate 711 shares of the Corporation’s common stock in open-market transactions, of which 0 shares were purchased pursuant to the repurchase program publicly announced on January 27, 2023, and of which 711 shares were surrendered to us to satisfy income tax withholding obligations in connection with the vesting of restricted awards.

(2) Number of shares available to be purchased under the January 27, 2023 share repurchase program was calculated by dividing the closing stock price on September 30, 2023 of $30.01 by the $3.0 million remaining capacity.

Item 5. Other Information

During the three months ended September 30, 2023, no director or “officer” of the Corporation adopted or terminated a “Rule 10b5-1 trading arrangement” or “non-rule 10b5-1 trading arrangement,” as each term is defined in Item 408(a) of Regulation S-K.

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Item 6. Exhibits


4.1						F orm of 8.0% Subordinated Indenture from Form 8-K filed on October 4, 2023

31.1						Certification of the Chief Executive Officer

31.2						Certification of the Chief Financial Officer

32						Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350

101						The following financial information from First Business Financial Services, Inc.’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2023, formatted in XBRL (eXtensible Business Reporting Language): (i) Consolidated Balance Sheets as of September 30, 2023 and December 31, 2022, (ii) Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022, (iii) Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2023 and 2022, (iv) Consolidated Statements of Changes in Stockholders’ Equity for the three and nine months ended September 30, 2023 and 2022, (v) Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and 2022, and (vi) the Notes to Unaudited Consolidated Financial Statements

104						The cover page from First Business Financial Services, Inc.’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2023 has been formatted in Inline XBRL and contained in Exhibit 101.

Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


			FIRST BUSINESS FINANCIAL SERVICES, INC.
October 27, 2023			/s/ Corey A. Chambas
			Corey A. Chambas
			Chief Executive Officer

October 27, 2023			/s/ Brian D. Spielmann
			Brian D. Spielmann
			Chief Financial Officer
			(principal financial officer)

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Part I., Item 1 Item 3. Quantitative and Qualitative Disclosures About Market Risk Item 4. Controls and Procedures Part II. Other Information Item 1. Legal Proceedings Item 1A. Risk Factors Item 2. Unregistered Sales Of Equity Securities and Use Of Proceeds Item 5. Other Information Item 6. Exhibits

Exhibits

4.1 Form of 8.0% Subordinated Indenture from Form 8-K filed on October4, 2023 31.1 Certification of the Chief Executive Officer 31.2 Certification of the Chief Financial Officer 32 Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350

FBIZ 10-Q Quarter ended Sept. 30, 2023

Exhibits