QNBC 10-Q Quarterly Report Sept. 30, 2023

QNB CORP

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10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2023

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

For the transition period from to

Commission file number 0-17706

QNB Corp.

(Exact Name of Registrant as Specified in Its Charter)

       
          Pennsylvania

       
          23-2318082

       
        (State or Other Jurisdiction of
       
        Incorporation or Organization)

       
        (I.R.S. Employer
       
        Identification No.)


15 North Third Street , P.O. Box 9005 Quakertown , PA		18951-9005
(Address of Principal Executive Offices)		(Zip Code)

( 215 ) 538-5600

Registrant's Telephone Number, Including Area Code

Not Applicable

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

Securities registered pursuant to Section 12(b) of the Act: None.

       
        Title of each class

       
        Trading
       
        Symbol(s)

       
        Name of each exchange on which registered

       
          Common Stock

       
          QNBC

N/A

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 ☒ No ☐

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

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition 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 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 ☒

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.


Class		Outstanding at October 27, 2023
Common Stock, par value $0.625		3,640,598

QNB CORP. AND SUBSIDIARY

FORM 10-Q

QUARTER ENDED September 30, 2023

INDEX


	PART I - FINANCIAL INFORMATION

ITEM 1.	CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)	PAGE

	Consolidated Balance Sheets at September 30, 2023 and December 31, 2022	2

	Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2023 and 2022	3

	Consolidated Statements of Comprehensive Income (Loss) for the Three and Nine Months Ended September 30, 2023 and 2022	4

	Consolidated Statement of Shareholders’ Equity for the Three and Nine Months Ended September 30, 2023 and 2022	5

	Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2023 and 2022	7

	Notes to Consolidated Financial Statements	8

ITEM 2.	MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	38

ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK	59

ITEM 4.	CONTROLS AND PROCEDURES	60

	PART II - OTHER INFORMATION

ITEM 1.	LEGAL PROCEEDINGS	61

ITEM 1A.	RISK FACTORS	61

ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	61

ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	61

ITEM 4.	MINE SAFETY DISCLOSURES	61

ITEM 5.	OTHER INFORMATION	61

ITEM 6.	EXHIBITS	62

SIGNATURES		63

CERTIFICATIONS

QNB Corp. and Subsidiary

CONSOLIDATED B ALANCE SHEETS


	(in thousands, except share data)
	(current period unaudited)
	September 30, 2023			December 31, 2022
Assets
Cash and due from banks	$	12,148		$	14,657
Interest-bearing deposits in banks		42,993			1,242
Total cash and cash equivalents		55,141			15,899
Investments:
Available-for-sale (amortized cost $ 612,408 and $ 649,217 )		505,390			546,525
Equity securities (cost of $ 5,454 and $ 12,091 )		4,765			12,056
Restricted investment in stocks		2,730			5,193
Loans held-for-sale		446			—
Loans receivable		1,060,450			1,039,385
Allowance for credit losses on loans		( 8,542	)		( 10,531	)
Loans receivable, net		1,051,908			1,028,854
Bank-owned life insurance		11,871			11,625
Premises and equipment, net		15,256			15,463
Accrued interest receivable		5,590			5,038
Net deferred tax assets		23,859			23,077
Other assets		7,436			4,767
Total assets	$	1,684,392		$	1,668,497

Liabilities
Deposits
Demand, non-interest bearing	$	192,226		$	231,849
Interest-bearing demand		469,919			452,927
Money market		218,149			127,043
Savings		312,853			431,101
Time less than $100		137,043			91,329
Time $100 through $250		110,670			59,650
Time greater than $250		42,473			24,470
Total deposits		1,483,333			1,418,369
Short-term borrowings		96,703			161,327
Long-term debt		20,000			10,000
Accrued interest payable		3,278			467
Other liabilities		6,997			7,376
Total liabilities		1,610,311			1,597,539

Shareholders' Equity
Common stock, par value $ 0.625 per share;
authorized 10,000,000 shares; 3,849,284 shares and 3,796,948
shares issued; 3,640,598 and 3,588,262 shares outstanding		2,406			2,373
Surplus		26,096			24,798
Retained earnings		134,160			128,951
Accumulated other comprehensive loss, net of tax		( 84,544	)		( 81,127	)
Treasury stock, at cost; 208,686 and 208,686 shares		( 4,037	)		( 4,037	)
Total shareholders' equity		74,081			70,958
Total liabilities and shareholders' equity	$	1,684,392		$	1,668,497

The accompanying notes are an integral part of the consolidated financial statements.

QNB Corp. and Subsidiary

CONSOLIDATED STAT EMENTS OF INCOME


	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
(in thousands, except per share data - unaudited)	2023			2022			2023			2022
Interest income
Interest and fees on loans	$	13,833		$	10,624		$	39,399		$	29,018
Interest and dividends on available-for-sale & equity securities:
Taxable		3,443			2,376			8,179			7,065
Tax-exempt		362			485			1,101			1,504
Interest on interest-bearing balances and other interest income		859			61			1,146			95
Total interest income		18,497			13,546			49,825			37,682
Interest expense
Interest on deposits
Interest-bearing demand		2,437			818			5,390			1,346
Money market		1,527			170			2,913			401
Savings		1,038			608			3,208			1,312
Time less than $100		947			168			1,960			522
Time of $100 through $250		996			118			2,676			280
Time greater than $250		377			56			767			143
Interest on short-term borrowings		740			189			2,518			341
Interest on long-term debt		222			40			430			119
Total interest expense		8,284			2,167			19,862			4,464
Net interest income		10,213			11,379			29,963			33,218
Provision (reversal) for credit losses on loans		459			—			( 1,137	)		—
Net interest income after provision for loan losses		9,754			11,379			31,100			33,218
Non-interest income
Net gain on sales and calls of available-for-sale and equity securities		131			—			185			493
Unrealized loss on investment equity securities		( 138	)		( 1,174	)		( 654	)		( 2,628	)
Fees for services to customers		421			423			1,237			1,210
ATM and debit card		685			669			2,048			2,015
Retail brokerage and advisory		219			194			655			604
Bank-owned life insurance		81			121			245			277
Merchant		99			98			298			302
Net (loss) gain on sale of loans		4			6			5			6
Other		253			147			535			455
Total non-interest income		1,755			484			4,554			2,734
Non-interest expense
Salaries and employee benefits		4,971			4,371			14,309			12,842
Net occupancy		594			535			1,683			1,663
Furniture and equipment		910			779			2,665			2,190
Marketing		216			141			678			632
Third party services		592			582			1,837			1,839
Telephone, postage and supplies		134			187			434			555
State taxes		60			272			244			732
FDIC insurance premiums		274			177			745			574
Other		920			770			2,768			2,346
Total non-interest expense		8,671			7,814			25,363			23,373
Income before income taxes		2,838			4,049			10,291			12,579
Provision for income taxes		494			634			1,942			2,105
Net income	$	2,344		$	3,415		$	8,349		$	10,474
Earnings per share - basic	$	0.65		$	0.96		$	2.32		$	2.94
Earnings per share - diluted	$	0.65		$	0.96		$	2.32		$	2.94
Cash dividends per share	$	0.37		$	0.36		$	1.11		$	1.08
The accompanying notes are an integral part of the consolidated financial statements.

QNB Corp. and Subsidiary

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)


	(in thousands - unaudited)
	2023									2022
For the Three Months Ended September 30,	Before tax amount			Tax expense			Net of tax amount			Before tax amount			Tax expense			Net of tax amount
Net income	$	2,838		$	494		$	2,344		$	4,049		$	634		$	3,415
Other comprehensive income (loss):
Net unrealized holding losses on available-for-sale securities:
Unrealized holding losses arising during the period		( 19,229	)		( 4,038	)		( 15,191	)		( 35,419	)		( 7,438	)		( 27,981	)
Reclassification adjustment for losses (gains) included in net income (1)		—			—			—			—			—			—
Net unrealized holding gains on fair value hedge:
Unrealized holding gains arising during the period		8,350			1,753			6,597			—			—			—
Reclassification adjustment for fair value remeasurements included in net income (2)		26			5			21			—			—			—
Other comprehensive loss:		( 10,853	)		( 2,280	)		( 8,573	)		( 35,419	)		( 7,438	)		( 27,981	)
Total comprehensive loss	$	( 8,015	)	$	( 1,786	)	$	( 6,229	)	$	( 31,370	)	$	( 6,804	)	$	( 24,566	)



For the Nine Months Ended September 30,	2023									2022
	Before tax amount			Tax expense (benefit)			Net of tax amount			Before tax amount			Tax expense (benefit)			Net of tax amount
Net income	$	10,291		$	1,942		$	8,349		$	12,579		$	2,105		$	10,474
Other comprehensive income (loss):
Net unrealized holding losses on available-for-sale securities:
Unrealized holding losses arising during the period		( 15,206	)		( 3,193	)		( 12,013	)		( 108,518	)		( 22,789	)		( 85,729	)
Reclassification adjustment for losses included in net income (1)		257			54			203			( 4	)		( 1	)		( 3	)
Net unrealized holding gains on interest rate swaps:
Unrealized holding gains arising during the period		10,559			2,217			8,342			—			—			—
Reclassification adjustment for fair value remeasurements included in net income (2)		64			13			51			—			—			—
Other comprehensive loss		( 4,326	)		( 909	)		( 3,417	)		( 108,522	)		( 22,790	)		( 85,732	)
Total comprehensive income (loss)	$	5,965		$	1,033		$	4,932		$	( 95,943	)	$	( 20,685	)	$	( 75,258	)

(1) Included in Net gain on sales and calls of available-for-sale and equity securities on the Consolidated Statements of Income

(2) Included in Interest and dividends on available-for-sale & equity securities on the Consolidated Statements of Income

The accompanying notes are an integral part of the consolidated financial statements .

QNB Corp. and Subsidiary

CONSOLIDATED STATEMENT O F SHAREHOLDERS' EQUITY


For the Three Months Ended September 30, 2023 and 2022

											Accumulated
	Number of										Other
(unaudited)	Shares		Common					Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding		Stock		Surplus			Earnings			Loss			Stock			Total
Balance, July 1, 2023		3,610,920	$	2,387	$	25,414		$	133,152		$	( 75,971	)	$	( 4,037	)	$	80,945
Net income				—		—			2,344			—			—			2,344
Other comprehensive loss, net of tax				—		—			—			( 8,573	)		—			( 8,573	)
Cash dividends declared ($ 0.37 per share)				—		—			( 1,336	)		—			—			( 1,336	)
Stock issued in connection with dividend reinvestment and stock purchase plan		27,938		18		640			—			—			—			658
Stock issued for employee stock purchase plan				—		—			—			—			—			—
Stock issued for Non-Employee Director Compensation		1,740		1		( 1	)		—			—			—			—
Stock-based compensation expense				—		43			—			—			—			43
Balance, September 30, 2023		3,640,598	$	2,406	$	26,096		$	134,160		$	( 84,544	)	$	( 4,037	)	$	74,081


											Accumulated
	Number of										Other
(unaudited)	Shares		Common					Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding		Stock		Surplus			Earnings			Loss			Stock			Total
Balance, July 1, 2022		3,567,894	$	2,360	$	24,244		$	122,662		$	( 61,491	)	$	( 4,037	)	$	83,738
Net income				—		—			3,415			—			—			3,415
Other comprehensive loss, net of tax				—		—			—			( 27,981	)		—			( 27,981	)
Cash dividends declared ($ 0.36 per share)				—		—			( 1,285	)		—			—			( 1,285	)
Stock issued in connection with dividend reinvestment and stock purchase plan		8,517		6		227			—			—			—			233
Stock issued for employee stock purchase plan				—		—			—			—			—			—
Stock-based compensation expense				—		4			—			—			—			4
Balance, September 30, 2022		3,576,411	$	2,366	$	24,475		$	124,792		$	( 89,472	)	$	( 4,037	)	$	58,124

The accompanying notes are an integral part of the consolidated financial statements.


For the Nine Months Ended September 30, 2023 and 2022
												Accumulated
												Other
	Number of											Comprehensive
(unaudited)	Shares			Common					Retained			Income			Treasury
(in thousands, except share and per share data)	Outstanding			Stock		Surplus			Earnings			(Loss)			Stock			Total
Balance, January 1, 2023		3,588,262		$	2,373	$	24,798		$	128,951		$	( 81,127	)	$	( 4,037	)	$	70,958
Cumulative change in accounting principle							—			857			—			—			857
Balance at Janaury 2, 2023 (as adjusted for change in accounting principle)					2,373		24,798			129,808			( 81,127	)		( 4,037	)		71,815
Net income					—		—			8,349			—			—			8,349
Other comprehensive loss, net of tax					—		—			—			( 3,417	)		—			( 3,417	)
Cash dividends declared ($ 1.11 per share)					—		—			( 3,997	)		—			—			( 3,997	)
Stock issued in connection with dividend reinvestment and stock purchase plan		47,409			30		1,101			—			—			—			1,131
Stock issued for employee stock purchase plan		3,187			2		64			—			—			—			66
Stock issued for Non-Employee Director Compensation		1,740			1		( 1	)		—			—			—			—
Stock-based compensation expense		—			—		134			—			—			—			134
Balance, September 30, 2023		3,640,598		$	2,406	$	26,096		$	134,160		$	( 84,544	)	$	( 4,037	)	$	74,081


												Accumulated
	Number of											Other
(unaudited)	Shares			Common					Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding			Stock		Surplus			Earnings			Income			Stock			Total
Balance, January 1, 2022		3,553,629		$	2,350	$	23,683		$	118,163		$	( 3,740	)	$	( 3,962	)	$	136,494
Net income					—		—			10,474			—			—			10,474
Other comprehensive loss, net of tax					—		—			—			( 85,732	)		—			( 85,732	)
Cash dividends declared ($ 1.08 per share)					—		—			( 3,845	)		—			—			( 3,845	)
Stock issued in connection with dividend reinvestment and stock purchase plan		22,496			15		669			—			—			—			684
Stock issued for employee stock purchase plan		2,286			1		66			—			—			—			67
Stock-based compensation expense					—		57			—			—			—			57
Treasury stock purchase		( 2,000	)		—		—			—			—			( 75	)		( 75	)
Balance, September 30, 2022		3,576,411		$	2,366	$	24,475		$	124,792		$	( 89,472	)	$	( 4,037	)	$	58,124

The accompanying notes are an integral part of the consolidated financial statements.

QNB Corp. and Subsidiary

CONSOLIDATED STATEM ENTS OF CASH FLOWS


	(in thousands, unaudited)
For the Nine Months Ended September 30,	2023			2022
Operating Activities
Net income	$	8,349		$	10,474
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		1,246			1,268
Reversal of provision for credit losses		( 1,137	)		—
Net gain on calls and sales of debt and equity securities		( 185	)		( 493	)
Net unrealized loss on equity securities		654			2,628
Net gain on sale of loans		( 5	)		( 6	)
Proceeds from sales of residential mortgages held-for-sale		640			304
Origination of residential mortgages held-for-sale		( 1,081	)		( 298	)
Increase in cash surrender value of bank-owned life insurance		( 245	)		( 277	)
Stock-based compensation expense		134			57
Deferred income tax benefit		( 102	)		( 646	)
Net decrease in income taxes payable		( 1,189	)		( 422	)
Net (increase) decrease in accrued interest receivable		( 552	)		478
Fair value remeasurements on interest rate swap		64			—
Amortization of mortgage servicing rights and change in valuation allowance		44			58
Net amortization of premiums and discounts on investment securities		1,289			1,721
Net increase (decrease) in accrued interest payable		2,812			( 7	)
Operating lease payments		( 469	)		( 464	)
Increase in other assets		( 1,595	)		( 669	)
Decrease in other liabilities		( 247	)		( 843	)
Net cash provided by operating activities		8,425			12,863
Investing Activities
Proceeds from payments, maturities and calls of investments available-for-sale		38,040			61,413
Proceeds from the sale of investments available-for-sale		9,081			—
Proceeds from the sale of equity securities		8,180			1,541
Purchases of investments available-for-sale		( 11,922	)		( 35,001	)
Purchases of equity securities		( 1,101	)		( 1,715	)
Proceeds from redemption of investment in restricted stock		7,629			7,476
Purchases of restricted stock		( 5,166	)		( 9,019	)
Net increase in loans		( 20,847	)		( 81,682	)
Net purchases of premises and equipment		( 617	)		( 456	)
Redemption of Bank Owned Life Insurance investment		—			234
Net cash provided by (used in) investing activities		23,277			( 57,209	)
Financing Activities
Net decrease in non-interest bearing deposits		( 39,623	)		( 6,839	)
Net increase in interest-bearing deposits		104,587			33,762
Net (decrease) increase in short-term borrowings		( 64,624	)		24,420
Proceeds from long-term debt		20,000			—
Repayment of long-term debt		( 10,000	)		—
Cash dividends paid, net of reinvestment		( 3,485	)		( 3,379	)
Purchase of treasury shares		—			( 75	)
Proceeds from issuance of common stock		685			285
Net cash provided by financing activities		7,540			48,174
Increase in cash and cash equivalents		39,242			3,828
Cash and cash equivalents at beginning of year		15,899			13,390
Cash and cash equivalents at end of period	$	55,141		$	17,218
Supplemental Cash Flow Disclosures
Interest paid	$	17,051		$	4,471
Net income taxes paid		3,232			3,174
Non-cash transactions:
Cumulative change in accounting principal		857			—
Right-of-use assets obtained in exchange for new operating lease liabilities		369			43
The accompanying notes are an integral part of the consolidated financial statements.

QNB CORP. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements include the accounts of QNB Corp. and its wholly-owned subsidiary, QNB Bank (the “Bank”). The consolidated entity is referred to herein as “QNB” or the “Company”. All significant intercompany accounts and transactions are eliminated in the consolidated financial statements.

These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in QNB's 2022 Annual Report incorporated in the Form 10-K. Operating results for the three- and nine-month periods ended September 30, 2023 are not necessarily indicative of the results that may be expected for the year ending December 31, 2023.

The unaudited consolidated financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the results of operations for the period and are of a normal and recurring nature.

Tabular information, other than share and per share data, is presented in thousands of dollars.

In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the dates of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from such estimates.

QNB has evaluated events and transactions occurring subsequent to the balance sheet date of September 30, 2023 for items that should potentially be recognized or disclosed in these consolidated financial statements.

2. RECENT ACCOUNTING PRONOUNCEMENTS

On January 1, 2023, the Company adopted ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326), as amended ("ASU 326") , which replaces the incurred loss methodology with an expected credit losses (“CECL”) for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The measurement under CECL is applicable to loans, debt securities, trade receivables, net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash. Additionally, ASU 326 made changes to the accounting for available-for-sale debt securities, requiring credit losses to be presented as an allowance rather as a write-down on available-for-sale debt securities management does not intend to sell or believes it is more-likely-than-not they will be required to sell. The Company made an accounting policy election to exclude accrued interest receivable from the amortized cost basis of loans, available for sale securities, and held to maturity securities. Accrued interest receivable is reported as a component of accrued interest receivable on the Consolidated Statement of Financial Condition.

The Company adopted CECL using the modified retrospective method for all financial assets measured at amortized cost and off-balance-sheet credit exposures. Results for reporting periods beginning after December 31, 2022 are presented under ASU 326 while prior period amounts continue to be reported in accordance with previously applicable US GAAP. The Company recorded a net increase of $ 857,000 to retained earnings as of January 1, 2023 for the cumulative effect of adopting ASU 326 .

The following table illustrates the impact of ASC 326:


January 1, 2023
	As Reported under ASC 326			Pre- ASC 326 Adoption			Impact of ASC 326 Adoption
Assets:
Commercial loans:
Revolving real estate secured by 1-4 family properties	$	5,255		$	—		$	5,255
Retail loans:
1-4 family residential mortgages		105,524			105,654			( 130	)
Construction-individual		130			—			130
Revolving home equity secured by 1-4 family properties		36,732			41,987			( 5,255	)
Allowance for credit losses on loans (ACL):
Commercial:
Commercial and industrial		( 1,246	)		( 1,316	)		70
Construction and land development		( 745	)		( 755	)		10
Real estate secured by multi-family properties		( 1,679	)		( 995	)		( 684	)
Real estate secured by owner-occupied properties		( 1,175	)		( 1,549	)		374
Real estate secured by other commercial properties		( 1,330	)		( 2,458	)		1,128
Revolving real estate secured by 1-4 family properties-business		( 32	)		( 25	)		( 7	)
Real estate secured by 1st lien on 1-4 family properties-business		( 1,700	)		( 1,210	)		( 490	)
Real estate secured by junior lien on 1-4 family properties-business		( 16	)		( 30	)		14
State and political subdivisions		( 74	)		( 94	)		20
Retail:
1-4 family residential mortgages		( 486	)		( 682	)		196
Construction-individual		( 1	)		( 1	)		—
Revolving home equity secured by 1-4 family properties-personal		( 292	)		( 299	)		7
Real estate secured by 1st lien on 1-4 family properties-personal		( 72	)		( 57	)		( 15	)
Real estate secured by junior lien on 1-4 family properties-personal		( 84	)		( 55	)		( 29	)
Student loans		( 466	)		( 454	)		( 12	)
Overdrafts		( 11	)		( 8	)		( 3	)
Other consumer		( 33	)		( 41	)		8
Unallocated		—			( 502	)		502
Total ACL		( 9,442	)		( 10,531	)		1,089
Deferred tax assets		4,540			4,767			( 227	)
Liabilities:
Allowance for credit losses on unused commitments	$	122		$	117		$	5
Equity:
Retained earnings	$	129,808		$	128,951		$	857

The Company adopted ASU 2022-01 Derivatives and Hedging (Topic 815): Fair Value Hedging--Portfolio Layer Method ("ASC 2022-01") as of the first fiscal year beginning after 12/15/2022. ASC 2022-01 allows for the use of an amortizing notional swap when entering a portfolio layer method hedge. This guidance now allows the interest rate swap to be considered a hedge of a single layer of portfolio.

3. STOCK-BASED COMPENSATION AND SHAREHOLDERS’ EQUITY

QNB maintains a 2015 Stock Incentive Plan (the "2015 Plan"), administered by a Board committee (the “Committee”), under which both qualified and non-qualified stock options may be granted periodically to certain employees. Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period.

Stock-based compensation expense related to the 2015 Plan was $ 23,000 and $ 4,000 for the three months ended September 30, 2023 and 2022, respectively. Stock-based compensation expense related to the 2015 Plan was $ 67,000 and $ 50,000 for the nine months ended September 30, 2023 and 2022, respectively. At September 30, 2023, there was approximately $ 190,000 of unrecognized compensation cost related to unvested share-based compensation award grants that is expected to be recognized over the next 53 months.

Options are granted to certain employees at prices equal to the market value of the stock on the date the options are granted. The 2015 Plan authorized the issuance of 300,000 shares. The time period during which any option is exercisable under the 2015 Plan is determined by the Committee but shall not commence before the expiration of six months after the date of grant or continue beyond the expiration of five years after the date the option is awarded. The granted options vest after a three-year period. The 2015 Plan was amended, effective January 1, 2023, to increase the maximum term of any options granted under the plan from five years to ten years , and to also require that awards granted under the Plan will vest 20 % each consecutive year commencing on the first anniversary date of the award unless otherwise specified in an award agreem ent. As of September 30, there were 212,550 options granted, 120,875 options forfeited, 20,825 options exercised, and 121,550 options outstanding under this Plan. Th e 2015 Plan expires on February 24, 2025.

The following assumptions were used in the option pricing model in determining the fair value of options granted during the period:


For the Nine Months Ended September 30,	2023			2022
Risk free interest rate		3.64	%		1.25	%
Dividend yield		4.80	%		3.64	%
Volatility		20.36	%		22.68	%
Expected life (years)		8.35			4.05

The risk-free interest rate was selected based upon yields of U.S. Treasury securities with a term approximating the expected life of the option being valued. Historical information was the basis for the selection of the expected dividend yield, expected volatility and expected lives of the options.

The fair market value of options granted in the nine months ended September 30, 2023 and 2022 was $ 4.11 and $ 5.20 , respectively.

Stock option activity during the nine months ended September 30, 2023 and 2022 is as follows:


	Number of options			Weighted average exercise price		Weighted average remaining contractual term (in years)		Aggregate intrinsic value
Outstanding at December 31, 2022		109,150		$	37.65
Granted		35,000			29.51
Exercised		—			—
Forfeited		( 22,600	)		43.15
Outstanding at September 30, 2023		121,550		$	34.29		4.09	$	—
Exercisable at September 30, 2023		41,375		$	37.37		0.85	$	—


	Number of options			Weighted average exercise price		Weighted average remaining contractual term (in years)		Aggregate intrinsic value
Outstanding at December 31, 2021		113,950		$	37.58
Granted		29,350			37.26
Exercised		—			—
Forfeited		( 33,450	)		36.99
Outstanding at September 30, 2022		109,850		$	37.68		2.19	$	—
Exercisable at September 30, 2022		43,925		$	40.82		0.64	$	—

QNB maintains a 2021 Employee Stock Purchase Plan (the "2021 ESPP") offering eligible employees an opportunity to purchase shares of QNB Corp. common stock at a 10 % discount from the lesser of fair market value on the first or last day of each offering period (as defined by the Plan). Stock-based compensation expense related to the 2021 ESPP was $ 7,000 and $ 7,000 for the nine months ended September 30, 2023 and 2022, respectively. The 2021 ESPP authorized the issuance of 30,000 shares. As of September 30, 2023, 10,451 shares were issued under the 2021 ESPP Plan. The 2021 ESPP Plan expires May 31, 2026 .

The QNB Corp. 2023 Non-Employee Director Compensation Plan was approved by shareholders on May 23, 2023 (The "Director Compensation Plan"). The Director Compensation Plan authorized the issuance of 50,000 shares, is effective January 1, 2023 and expires on January 1, 2033. The Plan requires each non-employee director of the QNB, or any subsidiary of QNB designated by the Board (including QNB Bank), to receive $ 8,000 of their total annual compensation for service as a director in the form of the QNB’s common stock. Under the Director Compensation Plan, commencing with the six-month period ended June 30, 2023, each non-employee director will receive, in addition to any cash compensation otherwise payable, a semi-annual grant of such number of shares of the QNB’s common stock determined by dividing (i) the Semi-Annual Stock Payment Amount of $ 4,000 by (ii) the market value of a share of common stock determined as of June 30 or December 31 of any year, as applicable. Payments will be made under the Director Compensation Plan only to non-employee directors in office on the applicable payment date. As of September 30, 2023, 1,740 shares were issued to non-employee directors and there were 48,260 shares remaining under the Plan. Stock-based compensation expense related to the Director Compensation Plan was $ 20,000 for the three months ended September 30, 2023 and $ 60,000 for the nine months ended September 30, 2023.

4. EARNINGS PER SHARE & SHARE REPURCHASE PLAN

The following sets forth the computation of basic and diluted earnings per share:


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
Numerator for basic and diluted earnings per share - net income	$	2,344	$	3,415	$	8,349	$	10,474
Denominator for basic earnings per share - weighted average shares outstanding		3,613,230		3,567,987		3,600,137		3,560,064
Effect of dilutive securities - employee stock options		—		—		—		—
Denominator for diluted earnings per share - adjusted weighted average shares outstanding		3,613,230		3,567,987		3,600,137		3,560,064
Earnings per share - basic	$	0.65	$	0.96	$	2.32	$	2.94
Earnings per share - diluted		0.65		0.96		2.32		2.94

There were 121,550 and 109,850 stock options that were anti-dilutive for the three-month periods ended September 30, 2023 and 2022, respectively. There were 121,550 and 109,850 stock options that were anti-dilutive for the nine-month periods ended September 30, 2023 and 2022, respectively. These stock options were not included in the above calculation.

QNB’s current stock repurchase plan was originally approved by the Board of Directors on January 21, 2008 , increased in amount on February 9, 2009 to 100,000 shares, and subsequently increased on April 29, 2021 to up to 200,000 shares of common stock in the open market or privately negotiated transactions. The repurchase authorization has no termination date. There were 0 and 2,000 shares repurchased during the nine months ended September 30, 2023 and 2022, respectively. As of September 30, 2023, 102,000 shares were repurchased under this authorization at an average price of $ 24.93 and a total cost of approximately $ 2,543,000 .

5. COMPREHENSIVE INCOME (LOSS)

The following shows the components of accumulated other comprehensive loss at September 30, 2023 and December 31, 2022:


	September 30,			December 31,
	2023			2022
Unrealized net holding losses on available-for-sale securities	$	( 117,641	)	$	( 102,692	)
Unrealized gains (losses) on available-for-sale securities for which a portion of an other-than-temporary impairment loss has been recognized in earnings		—			—
Unrealized net holding gains (losses) on interest rate swaps		10,623			—
Accumulated other loss		( 107,018	)		( 102,692	)
Tax effect		22,474			21,565
Accumulated other comprehensive loss, net of tax	$	( 84,544	)	$	( 81,127	)

The following table presents amounts reclassified out of accumulated other comprehensive loss for the three and nine months ended September 30, 2023 and 2022:


For the Three Months Ended September 30,	Amount reclassified from accumulated other comprehensive loss
Details about accumulated other comprehensive loss	2023			2022		Affected line item in statement of income
Unrealized net holding (losses) gains on available-for-sale securities	$	—		$	—	Net gain (loss) on sales of investments available-for-sale
Other-than-temporary impairment on investment securities		—			—	Net other-than-temporary impairment losses on investment securities
Fair value remeasurements on fair value hedges		( 26	)		—	Interest and dividends on available-for-sale & equity securities
		( 26	)		—
Tax effect		5			—	Provision for income taxes
Total reclassification out of accumulated other comprehensive loss, net of tax	$	( 21	)	$	—	Net of tax


For the Nine Months Ended September 30,	Amount reclassified from accumulated other comprehensive loss
Details about accumulated other comprehensive loss	2023			2022			Affected line item in statement of income
Unrealized net holding (losses) gains on available-for-sale securities	$	( 257	)	$	4		Net gain (loss) on sales of investments available-for-sale
Other-than-temporary impairment on investment securities		—			—		Net other-than-temporary impairment losses on investment securities
Fair value remeasurements on fair value hedges		( 64	)		—		Interest and dividends on available-for-sale & equity securities
		( 321	)		4
Tax effect		67			( 1	)	Provision for income taxes
Total reclassification out of accumulated other comprehensive loss, net of tax	$	( 254	)	$	3		Net of tax

6. INVESTMENT SECURITIES

Available-For-Sale Securities

The amortized cost and estimated fair values of investment securities available-for-sale at September 30, 2023 and December 31, 2022 were as follows:


	Fair		Gross unrealized holding		Gross unrealized holding			Gross unrealized fair value hedge		Amortized
September 30, 2023	value		gains		losses			gains (1)		cost
U.S. Treasury	$	6,922	$	—	$	( 2	)	$	—	$	6,924
U.S. Government agency		86,226		—		( 15,722	)		—		101,948
State and municipal		83,630		—		( 28,471	)		3,041		109,060
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		233,361		—		( 52,645	)		7,582		278,424
Collateralized mortgage obligations (CMOs)		89,185		—		( 20,154	)		—		109,339
Corporate debt and money market funds		6,066		—		( 647	)		—		6,713
Total investment debt securities available-for-sale	$	505,390	$	—	$	( 117,641	)	$	10,623	$	612,408

(1) See Footnote 13


			Gross		Gross
			unrealized		unrealized
	Fair		holding		holding			Amortized
December 31, 2022	value		gains		losses			cost
U.S. Treasuries	$	301	$	2	$	—		$	299
U.S. Government agency		86,709		—		( 15,233	)		101,942
State and municipal		95,367		—		( 23,494	)		118,861
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		256,161		—		( 45,303	)		301,464
Collateralized mortgage obligations (CMOs)		101,672		—		( 18,338	)		120,010
Corporate debt		6,315		—		( 326	)		6,641
Total investment debt securities available-for-sale	$	546,525	$	2	$	( 102,694	)	$	649,217

The amortized cost and estimated fair value of securities available-for-sale by contractual maturity at September 30, 2023 is shown in the following table. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Securities are assigned to categories based on contractual maturity except for mortgage-backed securities and CMOs which are based on the estimated average life of these securities and municipal securities that have been pre-refunded.



September 30, 2023	Fair value		Amortized cost
Due in one year or less	$	10,261	$	10,417
Due after one year through five years		118,489		135,377
Due after five years through ten years		301,129		372,883
Due after ten years		75,511		93,731
Total investment debt securities available-for-sale	$	505,390	$	612,408

There were no proceeds from the sale of investment securities available-for-sale for the three months ended September 30, 2023 and 2022. Proceeds from sales of investment securities available-for-sale were approximately $ 9,081,000 and $ 0 for the nine months ended September 30, 2023 and 2022, respectively.

At September 30, 2023 and December 31, 2022, investment securities available-for-sale totaling approximately $ 294,104,000 and $ 237,645,000 , respectively, were pledged as collateral for repurchase agreements and deposits of public funds.

The following table presents information related to the Company’s gains and losses on the sales and calls of securities available-for-sale, and losses recognized for the impairment of these investments. Gains and losses on available-for-sale securities are computed on the specific identification method and included in non-interest income. Gross realized losses on debt securities are net of impairment charges:


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023			2022
Gross realized gains	$	—	$	—	$	—		$	4
Gross realized losses		—		—		( 257	)		—
Impairment		—		—		—			—
Total net gains (losses) on AFS securities	$	—	$	—	$	( 257	)	$	4

The tax applicable to the net realized gains for both of the three-month periods ended September 30, 2023 and 2022 was $ 0 and $ 0 , respectively. The tax applicable to the net realized gains for both of the nine-month periods ended September 30, 2023 and 2022 was $ 54,000 and $ 1,000 , respectively.

QNB recognizes impairment for debt securities classified as available-for-sale in accordance with FASB ASC 320, Investments – Debt and Equity Securities, which requires an assessment of whether QNB intends to sell or it is more likely than not that QNB will be required to sell a security before recovery of its amortized cost basis less any current-period credit losses. For debt securities that are considered other-than-temporarily impaired and that QNB does not intend to sell and will not be required to sell prior to recovery of our amortized cost basis, the amount of the impairment is separated into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is the difference between the security’s amortized cost basis and the present value of its expected future cash flows discounted at the security’s effective yield. The remaining difference between the security’s fair value and the present value of future expected cash flows is due to factors that are not credit related and, therefore, is not required to be recognized as a loss in the statement of income but is recognized in other comprehensive income. QNB believes that it will fully collect the carrying value of securities on which it has recorded a non-credit related impairment in other comprehensive income. No credit impairments were recognized on debt securities during the three or nine months ended September 30, 2023 and 2022, respectively.

The following table indicates the length of time individual debt securities have been in a continuous unrealized loss position as of September 30, 2023 and December 31, 2022:



			Less than 12 months					12 months or longer					Total
	No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
September 30, 2023	securities		value		losses			value		losses			value		losses
U.S. Treasury		13	$	6,922	$	( 2	)	$	—	$	—		$	6,922	$	( 2	)
U.S. Government agency		46		—		—			86,226		( 15,722	)		86,226		( 15,722	)
State and municipal		192		369		( 11	)		80,254		( 28,460	)		80,623		( 28,471	)
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		191		2		—			225,807		( 52,645	)		225,809		( 52,645	)
Collateralized mortgage obligations (CMOs)		127		—		—			89,185		( 20,154	)		89,185		( 20,154	)
Corporate debt and money market funds		4		98		( 7	)		5,969		( 640	)		6,067		( 647	)
Total		573	$	7,391	$	( 20	)	$	487,441	$	( 117,621	)	$	494,832	$	( 117,641	)



			Less than 12 months					12 months or longer					Total
	No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
December 31, 2022	securities		value		losses			value		losses			value		losses
U.S. Government agency		46	$	3,647	$	( 353	)	$	83,062	$	( 14,880	)	$	86,709	$	( 15,233	)
State and municipal		216		50,156		( 7,816	)		45,210		( 15,678	)		95,366		( 23,494	)
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		197		58,811		( 6,775	)		197,351		( 38,528	)		256,162		( 45,303	)
Collateralized mortgage obligations (CMOs)		129		35,797		( 3,983	)		65,875		( 14,355	)		101,672		( 18,338	)
Corporate debt		4		6,262		( 318	)		53		( 8	)		6,315		( 326	)
Total		592	$	154,673	$	( 19,245	)	$	391,551	$	( 83,449	)	$	546,224	$	( 102,694	)

Management evaluates debt securities, which are comprised of U.S. Treasury, U.S. Government agencies, state and municipalities, mortgage-backed securities, CMOs and corporate debt securities, for other-than-temporary impairment and considers the current economic conditions, the length of time and the extent to which the fair value has been less than cost, interest rates and the bond rating of each security. The unrealized losses at September 30, 2023 in U.S. Treasury, U.S. Government agency securities, state and municipal securities, mortgage-backed securities, and CMOs are primarily the result of interest rate fluctuations. If held to maturity, these bonds will mature at par, and QNB will not realize a loss. QNB has the intent to hold the securities and does not believe it will be required to sell the securities before recovery occurs.

QNB holds one pooled trust preferred security as of September 30, 2023. This security has a total amortized cost of approximately $ 60,000 and a fair value of $ 52,000 . The pooled trust preferred security is available-for-sale and is carried at fair value.

Marketable Equity Securities

The Company’s investment in marketable equity securities primarily consists of investments with readily determinable fair values in large cap stock companies. Changes in fair value is recorded in unrealized gain/(losses) in non-interest income.

At September 30, 2023 and December 31, 2022, the Company had $ 4,765,000 and $ 12,056,000 , respectively, in equity securities recorded at fair value. The following is a summary of unrealized and realized gains and losses recognized in net income on equity securities during the three and nine months ended September 30, 2023 and 2022:


	For the Three Months Ended September 30,						For the Nine Months Ended September 30,

	2023			2022			2023			2022
Net (loss) gains recognized during the period on equity securities	$	( 7	)	$	( 1,174	)	$	( 212	)	$	( 2,139	)
Less: Net (losses) gains recognized during the period on equity securities sold during the period		131			—			442			489
Net unrealized gains (losses) recognized during the reporting period on equity securities still held at the reporting date	$	( 138	)	$	( 1,174	)	$	( 654	)	$	( 2,628	)

Taxes applicable to the net gains (losses) recognized for the three months ended September 30, 2023 resulted in an benefit of $ 2,000 compared to a benefit of $ 339,000 for the three months ended September 30, 2022. Taxes applicable to the net gains (losses) recognized for the nine months ended September 30, 2023 and 2022 was a benefit of $ 61,000 and a benefit of $ 618,000 , respectively. Proceeds from sales of investment equity securities were $ 8,180,000 and $ 1,541,000 for the nine months ended September 30, 2023 and 2022, respectively.

7. RESTRICTED INVESTMENT IN STOCKS

Restricted investment in stocks includes Federal Home Loan Bank of Pittsburgh (“FHLB”) with a carrying cost of $ 1,718,000 , Atlantic Community Bankers Bank (“ACBB”) stock with a carrying cost of $ 12,000 , VISA Class B stock with a carrying cost of $ 0 and Senior Housing Crime Prevention Investment Corporation ("SHCPFIC") preferred stock of $ 1,000,000 at September 30, 2023. FHLB and ACBB stock was issued to the Bank as a requirement to facilitate the Bank’s participation in borrowing and other banking services. The SHCPFIC stock was issued to the Bank to enable its participation in a Community Reinvestment Act qualified investment. The Bank’s investment in FHLB stock may fluctuate, as it is based on the member banks’ use of FHLB’s services.

The Bank owns 6,502 shares of Visa Class B stock, which was necessary to participate in Visa services in support of the Bank’s credit card, debit card, and related payment programs (permissible activities under banking regulations) as a member institution. Following the resolution of Visa’s covered litigation, shares of Visa’s Class B stock will be converted to Visa Class A shares using a conversion factor ( 1.5875 as of September 28, 2023), which is periodically adjusted to reflect VISA’s ongoing litigation costs. There is a very limited market for this stock, as only current owne rs of Class B shares are permitted to transact in Class B. Due to the lack of orderly trades and public information of such trades, Visa Class B stock does not have a readily determinable fair value.

The Bank owns 100 shares of preferred stock of SHCPFIC. These shares are not transferable without the consent of SHCPFIC and does not have a readily determinable fair value.

These restricted investments are carried at cost and evaluated for impairment periodically. As of September 30, 2023, there was no impairment associated with these shares.

8. LOANS & ALLOWANCE FOR CREDIT LOSSES ON LOANS

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are stated at the principal amount outstanding, net of deferred loan fees and costs. Interest income is accrued on the principal amount outstanding. Loan origination and commitment fees and related direct costs are deferred and amortized to income over the term of the respective loan and loan commitment period as a yield adjustment.

Loans held-for-sale consists of residential mortgage loans that are carried at the lower of aggregate cost or fair value. Net unrealized losses, if any, are recognized through a valuation allowance charged to income. Gains and losses on residential mortgages held-for-sale are included in non-interest income.

The Company maintains an allowance for credit losses on loans, which is intended to absorb probable known and inherent losses in the outstanding loan portfolio. The allowance is reduced by actual credit losses and is increased or decreased by the provision (reversal) for loan losses and increased by recoveries of previous losses. The provisions or reversals for credit losses are charged to earnings to bring the total allowance for loan losses to a level considered necessary by management.

The allowance for credit losses is measured on a pool basis when similar risk characteristics exist; these pools are identified in the first table below. The Company establishes a general valuation allowance for performing loans, including non-accrual student loans. QNB calculates each segment's historical loss rate using a full economic cycle of loan balance and historical loss experienced. The level of the allowance is determined by assigning specific reserves to all non-accrual loans, except the homogeneous pool of student loans which are measured in the general reserve. An allowance on these non-accrual loans is established when the discounted cash flows (or collateral value) of the loan is lower than the carrying value of that loan. The portion of the allowance that is allocated to non-accrual loans is determined by estimating the inherent loss on each credit after giving consideration to the value of underlying collateral. The general component is adjusted for qualitative factors. These qualitative risk factors include:

Concentrations: The Company adjusts historic loss for concentrations in the current portfolio that were not present during the down-turn of economic cycle.

Economic Forecast: The Company utilizes an entire economic cycle of data to determine loss rates by segment. This approach reflects an inherent reversion to the historical losses during life of the loans within the pool considering prepayments and loss experience throughout an entire economic cycle. However, the Company feels it is prudent to maintain a floor in its model to assure that there is enough reserve on hand to sustain any losses upon an upcoming recession.

Management emphasizes loan quality and close monitoring of potential problem credits. Credit risk identification and review processes are utilized in order to assess and monitor the degree of risk in the loan portfolio. The Company’s lending and credit administration staff are charged with reviewing the loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay debt or the value of pledged collateral. A loan classification and review system exists that identifies those loans with a higher than normal risk of collectability. Each commercial loan is assigned a grade based upon an assessment of the borrower’s financial capacity to service the debt and the presence and value of collateral for the loan. An independent firm reviews risk assessment and evaluates the adequacy of the allowance for loan losses. Management meets monthly to review the credit quality of the loan portfolio and quarterly to review the allowance for loan losses.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company's allowance for credit losses on loans. Such agencies may require the Company to recognize additions to the allowance based on their judgments using information available to them at the time of their examination.

from the current calculation, future adjustments to the allowance for credit losses on loans may be necessary and results of operations could be affected. Because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that increases to the allowance will not be necessary should the quality of any loans deteriorate.

Major classes of loans are as follows:


	September 30,
	2023
Commercial:
Commercial and industrial	$	129,425
Construction and land development		99,958
Real estate secured by multi-family properties		106,644
Real estate secured by owner-occupied properties		163,163
Real estate secured by other commercial properties		261,539
Revolving real estate secured by 1-4 family properties-business		6,960
Real estate secured by 1st lien on 1-4 family properties-business		99,047
Real estate secured by junior lien on 1-4 family properties-business		3,457
State and political subdivisions		19,854
Retail:
1-4 family residential mortgages		108,304
Construction-individual		328
Revolving home equity secured by 1-4 family properties-personal		33,151
Real estate secured by 1st lien on 1-4 family properties-personal		11,651
Real estate secured by junior lien on 1-4 family properties-personal		13,522
Student loans		1,746
Overdrafts		171
Other consumer		1,773
Total loans		1,060,693
Net unearned (fees) costs		( 243	)
Allowance for credit losses on loans		( 8,542	)
Loans receivable, net	$	1,051,908


	December 31,
	2022
Commercial:
Commercial and industrial	$	160,875
Construction		62,955
Secured by commercial real estate		518,070
Secured by residential real estate		103,419
State and political subdivisions		20,971
Retail:
1-4 family residential mortgages		105,654
Home equity loans and lines		63,580
Consumer		4,113
Total loans		1,039,637
Net unearned (fees) costs		( 252	)
Allowance for loan losses		( 10,531	)
Loans receivable, net	$	1,028,854

Overdrafts are reclassified as loans and at December 31, 2022 are included in consumer loans above and total loans receivable on the Consolidated Balance Sheets. At December 31, 2022, overdrafts were approximately $ 132,000 . Loans secured by commercial real estate include all loans collateralized at least in part by commercial real estate. These loans may not be for the express purpose of conducting commercial real estate transactions.

QNB generally lends in Bucks, Lehigh, and Montgomery counties in southeastern Pennsylvania. To a large extent, QNB makes loans collateralized at least in part by real estate. Its lending activities could be affected by changes in the general economy, the regional economy, or real estate values.

The Company engages in a variety of lending activities, including commercial, residential real estate and consumer transactions. The Company focuses its lending activities on individuals, professionals and small to medium sized businesses. Risks associated with lending activities include economic conditions and changes in interest rates, which can adversely impact both the ability of borrowers to repay their loans and the value of the associated collateral.

Commercial and industrial loans, commercial real estate loans, construction loans and residential real estate loans with a business purpose are generally perceived as having more risk of default than residential real estate loans with a personal purpose and consumer loans. These types of loans involve larger loan balances to a single borrower or groups of related borrowers and are more susceptible to a risk of loss during a downturn in the business cycle. These loans may involve greater risk because the availability of funds to repay these loans depends on the successful operation of the borrower’s business. The assets financed are used within the business for its ongoing operation. Repayment of these kinds of loans generally comes from the cash flow of the business or the ongoing conversions of assets, such as accounts receivable and inventory, to cash. Typical collateral for commercial and industrial loans includes the borrower’s accounts receivable, inventory and machinery and equipment. Commercial real estate and residential real estate loans secured for a business purpose are originated primarily within the eastern Pennsylvania market area at conservative loan-to-value ratios and often backed by the individual guarantees of the borrowers or owners. Repayment of this kind of loan is dependent upon either the ongoing cash flow of the borrowing entity or the resale or lease of the subject property. Commercial real estate loans may be affected to a greater extent than residential loans by adverse conditions in real estate markets or the economy because commercial real estate borrowers’ ability to repay their loans depends on successful development of their properties, as well as the factors affecting residential real estate borrowers.

Loans to state and political subdivisions are tax-exempt or taxable loans to municipalities, school districts and housing and industrial development authorities. These loans can be general obligations of the municipality or school district repaid through their taxing authority, revenue obligations repaid through the income generated by the operations of the authority, such as a water or sewer authority, or loans issued to a housing and industrial development agency, for which a private corporation is responsible for payments on the loans.

The Company originates fixed-rate and adjustable-rate real estate-residential mortgage loans for personal purposes that are secured by first liens on the underlying 1-4 family residential properties. Credit risk exposure in this area of lending is minimized by the evaluation of the credit worthiness of the borrower, including debt-to-income ratios, credit scores and adherence to underwriting policies that emphasize conservative loan-to-value ratios of generally no more than 80%. Residential mortgage loans granted in excess of the 80 % loan-to-value ratio criterion are generally insured by private mortgage insurance.

The real estate-home equity portfolio consists of fixed-rate home equity loans and variable-rate home equity lines of credit. Risks associated with loans secured by residential properties are generally lower than commercial loans and include general economic risks, such as the strength of the job market, employment stability and the strength of the housing market. Since most loans are secured by a primary or secondary residence, the borrower’s continued employment is the greatest risk to repayment.

The Company offers a variety of loans to individuals for personal and household purposes. Consumer loans are generally considered to have greater risk than first or second mortgages on real estate because they may be unsecured, or, if they are secured, the value of the collateral may be difficult to assess and is more likely to decrease in value than real estate. Credit risk in this portfolio is controlled by conservative underwriting standards that consider debt-to-income levels and the creditworthiness of the borrower and, if secured, collateral values.

The Company employs a ten-grade risk rating system related to the credit quality of commercial loans and loans to state and political subdivisions of which the first six categories are pass categories (credits not adversely rated). The following is a description of the internal risk ratings and the likelihood of loss related to each risk rating.

Excellent - no apparent risk

Good - minimal risk

Acceptable - lower risk

Acceptable - average risk

Acceptable – higher risk

Pass watch

Special Mention - potential weaknesses

Substandard - well defined weaknesses

Doubtful - full collection unlikely

10.

Loss - considered uncollectible

The Company maintains a loan review system, which allows for a periodic review of our loan portfolio and the early identification of potential problem loans. Each loan officer assigns a rating to all loans in the portfolio at the time the loan is originated. Loans with risk ratings of one through five are reviewed annually based on the borrower’s fiscal year. Loans with risk ratings of six are reviewed every six to twelve months based on the dollar amount of the relationship with the borrower. Loans with risk ratings of seven through ten are reviewed at least quarterly, and as often as monthly, at management’s discretion. The Company also utilizes an outside loan review firm to review the portfolio on a semi-annual basis to provide the Board of Directors and senior management an independent review of the Company’s loan portfolio on an ongoing basis. These reviews are designed to recognize deteriorating credits in their earliest stages in an effort to reduce and control risk in the lending function as well as identifying potential shifts in the quality of the loan portfolio. The examinations by the outside loan review firm include the review of lending activities with respect to underwriting and processing new loans, monitoring the risk of existing loans and to provide timely follow-up and corrective action for loans showing signs of deterioration in quality. In addition, the outside firm reviews the methodology for the allowance for loan losses to determine compliance to policy and regulatory guidance.

The following tables present the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system as of September 30, 2023 and December 31, 2022:


	Term Loans by Origination Year
September 30, 2023	2023		2022		2021		2020		2019		Prior		Revolving		Total
Commercial Loans
Commercial and industrial:
Risk rating
Pass	$	11,675	$	15,261	$	9,197	$	6,624	$	6,179	$	7,696	$	71,556	$	128,188
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		—		1,237		1,237
Doubtful		—		—		—		—		—		—		—		—
Total commercial and industrial	$	11,675	$	15,261	$	9,197	$	6,624	$	6,179	$	7,696	$	72,793	$	129,425
Construction and land development:
Risk rating
Pass	$	32,038	$	42,023	$	14,091	$	3,275	$	4,078	$	4,408	$	—	$	99,913
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		45		—		45
Doubtful		—		—		—		—		—		—		—		—
Total construction and land development	$	32,038	$	42,023	$	14,091	$	3,275	$	4,078	$	4,453	$	—	$	99,958
Real estate secured by multi-family properties:
Risk rating
Pass	$	7,358	$	29,036	$	23,565	$	9,909	$	5,848	$	28,049	$	—	$	103,765
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		709		2,170		—		2,879
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by multi-family properties	$	7,358	$	29,036	$	23,565	$	9,909	$	6,557	$	30,219	$	—	$	106,644
Real estate secured by owner-occupied properties:
Risk rating
Pass	$	12,648	$	29,879	$	28,325	$	19,262	$	12,158	$	55,004	$	—	$	157,276
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—				—		—		5,887		—		5,887
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by owner-occupied properties	$	12,648	$	29,879	$	28,325	$	19,262	$	12,158	$	60,891	$	—	$	163,163
Real estate secured by other commercial properties:


	Term Loans by Origination Year
September 30, 2023	2023		2022		2021		2020		2019		Prior		Revolving		Total
Risk rating
Pass	$	21,258	$	44,999	$	43,063	$	19,829	$	29,232	$	102,282	$	—	$	260,663
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		876		—		876
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by other commercial properties	$	21,258	$	44,999	$	43,063	$	19,829	$	29,232	$	103,158	$	—	$	261,539
Revolving real estate secured by 1-4 family properties-business:
Risk rating
Pass	$	—	$	—	$	—	$	—	$	—	$	—	$	6,960	$	6,960
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		—		—		—
Doubtful		—		—		—		—		—		—		—		—
Total revolving real estate secured by 1-4 family properties-business	$	—	$	—	$	—	$	—	$	—	$	—	$	6,960	$	6,960
Real estate secured by 1st lien on 1-4 family properties-business:
Risk rating
Pass	$	7,685	$	29,096	$	21,313	$	10,510	$	8,771	$	20,763	$	—	$	98,138
Special mention		—		—		138		—		—		—		—		138
Substandard		—		157		—		—		277		337		—		771
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by 1st lien on 1-4 family properties-business	$	7,685	$	29,253	$	21,451	$	10,510	$	9,048	$	21,100	$	—	$	99,047
Real estate secured by junior lien on 1-4 family properties-business:
Risk rating
Pass	$	479	$	611	$	551	$	592	$	41	$	964	$	—	$	3,238
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		219		—		219
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by junior lien on 1-4 family properties-business	$	479	$	611	$	551	$	592	$	41	$	1,183	$	—	$	3,457
State and political subdivisions:
Risk rating
Pass	$	678	$	—	$	4,565	$	21	$	5,931	$	8,659	$	—	$	19,854
Special mention		—		—		—		—		—		—		—		—
Substandard		—		—		—		—		—		—		—		—
Doubtful		—		—		—		—		—		—		—		—
Total real estate secured by junior lien on 1-4 family properties-business	$	678	$	—	$	4,565	$	21	$	5,931	$	8,659	$	—	$	19,854
Total Commercial Loans:
Risk rating
Pass	$	93,819	$	190,905	$	144,670	$	70,022	$	72,238	$	227,825	$	78,516	$	877,995
Special mention		—		—		138		—		—		—		—		138
Substandard		—		157		—		—		986		9,534		1,237		11,914
Doubtful		—		—		—		—		—		—		—		—
Total Commercial loans	$	93,819	$	191,062	$	144,808	$	70,022	$	73,224	$	237,359	$	79,753	$	890,047


December 31, 2022	Pass		Special mention		Substandard		Doubtful		Total
Commercial:
Commercial and industrial	$	157,914	$	23	$	2,938	$	—	$	160,875
Construction		62,955		—		—		—		62,955
Secured by commercial real estate		505,657		2,597		9,816		—		518,070
Secured by residential real estate		102,295		194		930		—		103,419
State and political subdivisions		20,971		—		—		—		20,971
Total	$	849,792	$	2,814	$	13,684	$	—	$	866,290

For retail loans, the Company evaluates credit quality based on the performance of the individual credits. The following tables present the recorded investment in the retail classes of the loan portfolio based on payment activity as of September 30, 2023 and December 2022:


	Term Loans by Origination Year
September 30, 2023	2023		2022		2021		2020		2019		Prior		Revolving		Total
Retail Loans
1-4 family residential mortgages:
Payment performance
Performing	$	10,775	$	14,739	$	30,773	$	20,757	$	4,567	$	25,891	$	—	$	107,502
Nonperforming		—		—		—		—		—		802		—		802
Total 1-4 family residential mortgages	$	10,775	$	14,739	$	30,773	$	20,757	$	4,567	$	26,693	$	—	$	108,304
Construction-individual:
Payment performance
Performing	$	—	$	—	$	328	$	—	$	—	$	—	$	—	$	328
Nonperforming		—		—		—		—		—		—		—		—
Total construction-individual	$	—	$	—	$	328	$	—	$	—	$	—	$	—	$	328
Revolving home equity secured by 1-4 family properties-personal:
Payment performance
Performing	$	—	$	—	$	—	$	—	$	—	$	—	$	32,979	$	32,979
Nonperforming		—		—		—		—		—		—		172		172
Total revolving home equity secured by 1-4 family properties-personal	$	—	$	—	$	—	$	—	$	—	$	—	$	33,151	$	33,151
Real estate secured by 1st lien on 1-4 family properties-personal:
Payment performance
Performing	$	2,277	$	1,657	$	3,053	$	1,095	$	960	$	2,488	$	—	$	11,530
Nonperforming		—		—		—		—		—		121		—		121
Total real estate secured by 1st lien Real estate secured by 1st lien on 1-4 family properties-personal	$	2,277	$	1,657	$	3,053	$	1,095	$	960	$	2,609	$	—	$	11,651
Real estate secured by junior lien on 1-4 family properties-personal:
Payment performance
Performing	$	4,029	$	1,690	$	2,357	$	1,232	$	721	$	3,474	$	—	$	13,503
Nonperforming		—		19		—		—		—		—		—		19
Total real estate secured by junior lien on 1-4 family properties-personal	$	4,029	$	1,709	$	2,357	$	1,232	$	721	$	3,474	$	—	$	13,522
Student loans:
Payment performance
Performing	$	—	$	—	$	—	$	—	$	—	$	1,729	$	—	$	1,729
Nonperforming		—		—		—		—		—		17		—		17
Total student loans	$	—	$	—	$	—	$	—	$	—	$	1,746	$	—	$	1,746
Overdrafts:
Payment performance
Performing	$	—	$	—	$	—	$	—	$	—	$	—	$	171	$	171
Nonperforming		—		—		—		—		—		—		—		—
Total overdrafts	$	—	$	—	$	—	$	—	$	—	$	—	$	171	$	171
Other consumer:
Payment performance
Performing	$	636	$	329	$	300	$	107	$	96	$	52	$	215	$	1,735
Nonperforming		—		—		—		—		—		38		—		38
Total other consumer	$	636	$	329	$	300	$	107	$	96	$	90	$	215	$	1,773
Total Retail Loans:
Payment performance
Performing	$	17,717	$	18,415	$	36,811	$	23,191	$	6,344	$	33,634	$	33,365	$	169,477
Nonperforming		—		19		—		—		—		978		172		1,169
Total Retail Loans	$	17,717	$	18,434	$	36,811	$	23,191	$	6,344	$	34,612	$	33,537	$	170,646


December 31, 2022	Performing		Non-performing		Total
Retail:
1-4 family residential mortgages	$	105,193	$	461	$	105,654
Home equity loans and lines		63,178		402		63,580
Consumer		4,051		62		4,113
Total	$	172,422	$	925	$	173,347

The performance and credit quality of the loan portfolio is also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due. The following table presents the classes of the loan portfolio summarized by the past due status as of September 30, 2023 and December 31, 2022:


September 30, 2023	30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	83	$	—	$	—	$	83	$	129,342	$	129,425
Construction and land development		—		—		—		—		99,958		99,958
Real estate secured by multi-family properties		—		—		—		—		106,644		106,644
Real estate secured by owner-occupied properties		226		—		—		226		162,937		163,163
Real estate secured by other commercial properties		3,725		5,035		—		8,760		252,779		261,539
Revolving real estate secured by 1-4 family properties-business		—		—		—		—		6,960		6,960
Real estate secured by 1st lien on 1-4 family properties-business		231		—		1		232		98,815		99,047
Real estate secured by junior lien on 1-4 family properties-business		7		—		—		7		3,450		3,457
State and political subdivisions		—		—		—		—		19,854		19,854
Retail:
1-4 family residential mortgages		—		362		385		747		107,557		108,304
Construction-individual		—		—		—		—		328		328
Revolving home equity secured by 1-4 family properties-personal		—		129		—		129		33,022		33,151
Real estate secured by 1st lien on 1-4 family properties-personal		—		—		—		—		11,651		11,651
Real estate secured by junior lien on 1-4 family properties-personal		18		—		19		37		13,485		13,522
Student loans		—		14		—		14		1,732		1,746
Overdrafts		16		3		—		19		152		171
Other consumer		5		—		—		5		1,768		1,773
Total	$	4,311	$	5,543	$	405	$	10,259	$	1,050,434	$	1,060,693


December 31, 2022	30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	—	$	1,157	$	—	$	1,157	$	159,718	$	160,875
Construction		—		—		—		—		62,955		62,955
Secured by commercial real estate		—		—		—		—		518,070		518,070
Secured by residential real estate		—		—		13		13		103,406		103,419
State and political subdivisions		—		—		—		—		20,971		20,971
Retail:
1-4 family residential mortgages		703		168		216		1,087		104,567		105,654
Home equity loans and lines		95		—		—		95		63,485		63,580
Consumer		37		50		—		87		4,026		4,113
Total	$	835	$	1,375	$	229	$	2,439	$	1,037,198	$	1,039,637

As previously discussed, the Company maintains a loan review system, which includes a continuous review of the loan portfolio by internal and external parties to aid in the early identification of potential impaired loans. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. When placing a loan on non-accrual status, management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. All non-accrual loans, except student loans, are individually evaluated for an allowance for credit losses ("ACL"). This ACL is measured using either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

An allowance for credit loss is established for a non-accrual loan if its carrying value exceeds its estimated fair value. The estimated fair values of the majority of the Company’s non-accrual loans are measured based on the estimated fair value of the loan’s collateral.

For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

For commercial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable agings or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets. The following table disclose the recorded investment in loans receivable that are either on non-accrual status or past due 90 days or more and still accruing interest as of September 30, 2023:


September 30, 2023	90 Days or More Past Due-Still Accruing		Nonaccrual With No Specifically-Related ACL		Nonaccrual With Related ACL		Total Nonaccrual Loans
Commercial:
Commercial and industrial	$	—	$	—	$	339	$	339
Construction and land development		—		—		—		—
Real estate secured by multi-family properties		—		—		—		—
Real estate secured by owner-occupied properties		—		188		—		188
Real estate secured by other commercial properties		—		—		—		—
Revolving real estate secured by 1-4 family properties-business		—		—		—		—
Real estate secured by 1st lien on 1-4 family properties-business		—		1		—		1
Real estate secured by junior lien on 1-4 family properties-business		—		—		196		196
State and political subdivisions		—		—		—		—
Retail:
1-4 family residential mortgages		—		802		—		802
Construction-individual		—		—		—		—
Revolving home equity secured by 1-4 family properties-personal		—		23		149		172
Real estate secured by 1st lien on 1-4 family properties-personal		—		121		—		121
Real estate secured by junior lien on 1-4 family properties-personal		—		19		—		19
Student loans		—		17		—		17
Other consumer		—		38		—		38
Total	$	—	$	1,209	$	684	$	1,893

QNB recognized interest income of $ 557,000 on non-accrual loans during the nine months ended September 30, 2023.

The following table presents the collateral-dependent loans by loan category at September 30, 2023:


September 30, 2023	Real Estate Secured		Other (1)		Deficiency in Collateral		Total Collateral Dependent Nonaccrual Loans
Commercial:
Commercial and industrial	$	—	$	294	$	45	$	339
Construction and land development		—		—		—		—
Real estate secured by multi-family properties		—		—		—		—
Real estate secured by owner-occupied properties		188		—		—		188
Real estate secured by other commercial properties		—		—		—		—
Revolving real estate secured by 1-4 family properties-business		—		—		—		—
Real estate secured by 1st lien on 1-4 family properties-business		1						1
Real estate secured by junior lien on 1-4 family properties-business		—		—		196		196
State and political subdivisions		—		—		—		—
Retail:
1-4 family residential mortgages		802		—		—		802
Construction-individual		—		—		—		—
Revolving home equity secured by 1-4 family properties-personal		66		—		106		172
Real estate secured by 1st lien on 1-4 family properties-personal		121		—		—		121
Real estate secured by junior lien on 1-4 family properties-personal		19		—		—		19
Other consumer		—		38		—		38
Total	$	1,197	$	332	$	347	$	1,876

(1) Secured by business assets, personal property and equipment or guarantees

The following tables disclose the recorded investment in loans receivable that are either on non-accrual status or past due 90 days or more and still accruing interest as of December 31, 2022:


December 31, 2022	90 days or more past due (still accruing)		Non-accrual
Commercial:
Commercial and industrial	$	—	$	1,575
Construction		—		—
Secured by commercial real estate		—		2,031
Secured by residential real estate		—		289
State and political subdivisions		—		—
Retail:
1-4 family residential mortgages		—		461
Home equity loans and lines		—		402
Consumer		—		62
Total	$	—	$	4,820

The following table present the balance in the allowance for loan losses at December 31, 2022 disaggregated on the basis of the Company’s impairment method by class of loans receivable along with the balance of loans receivable by class, excluding unearned fees and costs, disaggregated on the basis of the Company’s impairment methodology:


	Allowance for Loan Losses						Loans Receivable
December 31, 2022	Balance		Balance related to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
Commercial:
Commercial and industrial	$	1,316	$	125	$	1,191	$	160,875	$	1,821	$	159,054
Construction		755		—		755		62,955		—		62,955
Secured by commercial real estate		5,002		131		4,871		518,070		5,309		512,761
Secured by residential real estate		1,240		321		919		103,419		1,362		102,057
State and political subdivisions		94		—		94		20,971		—		20,971
Retail:
1-4 family residential mortgages		683		—		683		105,654		628		105,026
Home equity loans and lines		437		119		318		63,580		402		63,178
Consumer		502		—		502		4,113		45		4,068
Unallocated		502	N/A		N/A		N/A		N/A		N/A
Total	$	10,531	$	696	$	9,333	$	1,039,637	$	9,567	$	1,030,070

The following table summarizes additional information, in regards to impaired loans by loan portfolio class, as of December 31, 2022:


	December 31, 2022
	Recorded investment (after charge-offs)		Unpaid principal balance		Related allowance
With no specific allowance recorded:
Commercial:
Commercial and industrial	$	1,402	$	1,694
Construction		—		—
Secured by commercial real estate		2,198		2,608
Secured by residential real estate		430		482
Retail:
1-4 family residential mortgages		628		678
Home equity loans and lines		240		296
Consumer		45		62
Total	$	4,943	$	5,820

With an allowance recorded:
Commercial:
Commercial and industrial	$	419	$	601	$	125
Construction		—		—		—
Secured by commercial real estate		3,111		3,312		131
Secured by residential real estate		932		1,065		321
Retail:
1-4 family residential mortgages		—		—		—
Home equity loans and lines		162		191		119
Consumer		—		—		—
Total	$	4,624	$	5,169	$	696

Total:
Commercial:
Commercial and industrial	$	1,821	$	2,295	$	125
Construction		—		—		—
Secured by commercial real estate		5,309		5,920		131
Secured by residential real estate		1,362		1,547		321
Retail:
1-4 family residential mortgages		628		678		—
Home equity loans and lines		402		487		119
Consumer		45		62		—
Total	$	9,567	$	10,989	$	696

Activity in the allowance for credit losses on loans for the three and nine months ended September 30, 2023 and 2022 are as follows:


For the Three Months Ended September 30, 2023	Beginning balance prior to adoption of ASC 326		Credit loss expense (reversal)			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	795	$	256		$	( 273	)	$	11	$	789
Construction and land development		854		234			—			—		1,088
Real estate secured by multi-family properties		1,624		85			—			—		1,709
Real estate secured by owner-occupied properties		985		20			—			—		1,005
Real estate secured by other commercial properties		1,228		( 102	)		—			—		1,126
Revolving real estate secured by 1-4 family properties-business		37		( 1	)		—			—		36
Real estate secured by 1st lien on 1-4 family properties-business		1,277		( 2	)		—			3		1,278
Real estate secured by junior lien on 1-4 family properties-business		234		( 24	)		—			—		210
State and political subdivisions		51		5			—			—		56
Retail:
1-4 family residential mortgages		433		( 17	)		—			—		416
Construction-individual		—		—			—			—		—
Revolving home equity secured by 1-4 family properties-personal		234		( 103	)		—			—		131
Real estate secured by 1st lien on 1-4 family properties-personal		67		3			—			—		70
Real estate secured by junior lien on 1-4 family properties-personal		86		109			—			2		197
Student loans		418		( 36	)		—			2		384
Overdrafts		13		15			( 21	)		7		14
Other consumer		29		10			( 6	)		—		33
Total	$	8,365	$	452		$	( 300	)	$	25	$	8,542


For the Three Months Ended September 30, 2022	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	2,710	$	( 503	)	$	( 30	)	$	83	$	2,260
Construction		687		( 297	)		—			—		390
Secured by commercial real estate		4,336		834			—			—		5,170
Secured by residential real estate		1,181		50			—			36		1,267
State and political subdivisions		77		12			—			—		89
Retail:
1-4 family residential mortgages		680		7			—			—		687
Home equity loans and lines		412		51			—			2		465
Consumer		482		69			( 62	)		12		501
Unallocated		732		( 223	)	N/A			N/A			509
Total	$	11,297	$	—		$	( 92	)	$	133	$	11,338


For the Nine Months Ended September 30, 2023	Beginning balance prior to adoption of ASC 326		Impact of adopting ASC 326			Credit loss expense (reversal)			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	1,316	$	( 70	)	$	( 759	)	$	( 313	)	$	615	$	789
Construction and land development		755		( 10	)		343			—			—		1,088
Real estate secured by multi-family properties		995		684			30			—			—		1,709
Real estate secured by owner-occupied properties		1,549		( 374	)		( 170	)		—			—		1,005
Real estate secured by other commercial properties		2,458		( 1,128	)		( 204	)		—			—		1,126
Revolving real estate secured by 1-4 family properties-business		25		7			4			—			—		36
Real estate secured by 1st lien on 1-4 family properties-business		1,210		490			( 430	)		—			8		1,278
Real estate secured by junior lien on 1-4 family properties-business		30		( 14	)		194			—			—		210
State and political subdivisions		94		( 20	)		( 18	)		—			—		56
Retail:
1-4 family residential mortgages		682		( 196	)		( 70	)		—			—		416
Construction-individual		1		-			( 1	)		—			—		—
Revolving home equity secured by 1-4 family properties-personal		299		( 7	)		( 161	)		—			—		131
Real estate secured by 1st lien on 1-4 family properties-personal		57		15			( 2	)		—			—		70
Real estate secured by junior lien on 1-4 family properties-personal		55		29			107			—			6		197
Student loans		454		12			( 45	)		( 43	)		6		384
Overdrafts		8		3			54			( 73	)		22		14
Other consumer		41		( 8	)		9			( 9	)		—		33
Unallocated		502		( 502	)		—		N/A			N/A			—
Total	$	10,531	$	( 1,089	)	$	( 1,119	)	$	( 438	)	$	657	$	8,542


For the Nine Months Ended September 30, 2022	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	3,368	$	( 1,295	)	$	( 38	)	$	225	$	2,260
Construction		363		27			—			—		390
Secured by commercial real estate		4,280		890			—			—		5,170
Secured by residential real estate		1,035		190			—			42		1,267
State and political subdivisions		69		20			—			—		89
Retail:
1-4 family residential mortgages		646		41			—			—		687
Home equity loans and lines		376		85			—			4		465
Consumer		542		38			( 109	)		30		501
Unallocated		505		4		N/A			N/A			509
Total	$	11,184	$	—		$	( 147	)	$	301	$	11,338

Since the implementation of ASU 326 on January 1, 2023, the Company measures loan modifications to borrowers in financial distress as a troubled debt modification ("TDM"). A TDM could involve principal forgiveness, term extension, an other-than-insignificant payment delay, interest rate reduction or exchanging or paying off existing debt for new debt with the Company . Any amount forgiven would be charged to the allowance for credit losses. There were no TDMs in 2023.

The Company had extended, restructured, or otherwise modified the terms of loans, on a case-by-case basis, to remain competitive and retain certain customers, as well as assist other customers that had been experiencing financial difficulties. A loan was considered to be a troubled debt restructuring (“TDR”) loan when the Company granted a concession to the borrower because of the borrower’s financial condition that it would not have otherwise considered. Such concessions included a reduction of interest rates, forgiveness of principal or interest, or other modifications of interest rates to less than the current market rate for new obligations with similar risk. Loans that

had been classified as TDRs are considered non-performing. Under ASU 326, the accounting for these Legacy TDRs will continue until the loan paid off.

The concessions made for the Legacy TDRs reported in the following disclosures involve lowering the monthly payments on loans through periods of interest only payments, a reduction in interest rate below a market rate or an extension of the term of the loan without a corresponding adjustment to the risk premium reflected in the interest rate, or a combination of these three methods. The restructurings rarely result in the forgiveness of principal or accrued interest. If the borrower has demonstrated performance under the previous terms and our underwriting process shows the borrower has the capacity to continue to perform under the restructured terms, the loan will continue to accrue interest. Non-accruing restructured loans may be returned to accrual status when there has been a sustained period of repayment performance (generally six consecutive months of payments) and both principal and interest are deemed collectible. TDR loans that are in compliance with their modified terms and that yield a market rate may be removed from the TDR status after a period of performance.The Company closely monitors the performance of loans that are modified to understand the effectiveness of its modification efforts. There were no payment default (60 days or more past due) during the nine months ended September 30, 2023 and 2022, respectively, on loans modified within 12 months prior to September 30, 2023 and 2022, respectively.

Performing Legacy TDRs (not reported as non-accrual or past due 90 days or more and still accruing) totaled $ 3,979,000 and $ 4,301,000 as of September 30, 2023 and December 31, 2022, respectively. Non-performing Legacy TDRs totaled $ 269,000 and $ 371,000 as of September 30, 2023 and December 31, 2022, respectively. Non-accrual Legacy TDRs are included in the specific reserve calculation in 2023. All legacy TDRs were included in the specific reserve calculation for 2022.

The following table illustrates the specific reserve for loan losses allocated to Legacy TDRs. These specific reserves are included in the allowance for loan losses for loans individually evaluated. There were no loans modified as TDMs during the period.


	September 30, 2023				December 31, 2022
	Unpaid principal balance		Related allowance		Unpaid principal balance		Related allowance

Legacy TDRs with no specific allowance recorded	$	4,052	$	—	$	1,272	$	—
Legacy TDRs with an allowance recorded		196		245		3,400		392
Total	$	4,248	$	245	$	4,672	$	392

As of September 30, 2023 and December 31, 2022, QNB had $ 14,000 and $ 5,000 , respectively, in commitments to lend additional funds to customers with loans whose terms have been modified as TDRs. There were no charge-offs during the three or nine months ended September 30, 2023 and 2022, resulting from loans previously modified as TDRs.

The Company has no loans secured b y residential real estate for which foreclosure proceedings are in process at September 30, 2023.

9. FAIR VALUE MEASUREMENTS AND DISCLOSURES

FASB ASC 820, Fair Value Measurements and Disclosures , defines fair value as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (fair values are not adjusted for transaction costs). ASC 820 also establishes a framework (fair value hierarchy) for measuring fair value under U.S. GAAP and expands disclosures about fair value measurements.

ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation methods used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows:

Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level 2: Quoted prices in markets that are not active, or inputs that are observable either directly or indirectly, for substantially the full term of the asset or liability.

Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported with little or no market activity).

An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The measurement of fair value should be consistent with one of the following valuation techniques: market approach, income approach, and/or cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities (including a business). For example, valuation techniques consistent with the market approach often use market multiples derived from a set of comparables. Multiples might lie in ranges with a different multiple for each comparable. The selection of where within the range the appropriate multiple falls requires judgment, considering factors specific to the measurement (qualitative and quantitative). Valuation techniques consistent with the market approach include matrix pricing. Matrix pricing is a mathematical technique used principally to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the security’s relationship to other benchmark quoted securities.

The following table sets forth QNB’s financial assets measured at fair value on a recurring and nonrecurring basis and the fair value measurements by level within the fair value hierarchy as of September 30, 2023:


September 30, 2023	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Available-for-sale securities:
U.S. Treasury securities	$	—	$	6,922	$	—	$	6,922
U.S. Government agency securities		—		86,226		—		86,226
State and municipal securities (1)		—		83,630		—		83,630
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed securities (1)		—		233,361		—		233,361
Collateralized mortgage obligations (CMOs)		—		89,185		—		89,185
Corporate debt securities and money market funds		—		6,014		52		6,066
Total debt securities available-for-sale		—		505,338		52		505,390
Equity securities		4,765		—		—		4,765
Total recurring fair value measurements	$	4,765	$	505,338	$	52	$	510,155

Nonrecurring fair value measurements*
Loans individually evaluated for impairment	$	—	$	—	$	337	$	337
Mortgage loans held-for-sale		—		—		446		446
Mortgage servicing rights		—		—		7		7
Total nonrecurring fair value measurements	$	—	$	—	$	790	$	790
*Impairment

(1) Includes derivatives designated as fair value hedging instruments as discussed in Footnote 13


December 31, 2022	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Debt securities available-for-sale
U.S. Treasuries	$	—	$	301	$	—	$	301
U.S. Government agency securities		—		86,709		—		86,709
State and municipal securities		—		95,367		—		95,367
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed securities		—		256,161		—		256,161
Collateralized mortgage obligations (CMOs)		—		101,672		—		101,672
Corporate debt securities		—		6,262		53		6,315
Total debt securities available-for-sale		—		546,472		53		546,525
Equity securities		12,056		—		—		12,056
Total recurring fair value measurements	$	12,056	$	546,472	$	53	$	558,581

Nonrecurring fair value measurements*
Impaired loans	$	—	$	—	$	3,928	$	3,928
Mortgage servicing rights		—		—		1		1
Total nonrecurring fair value measurements	$	—	$	—	$	3,929	$	3,929
*Impairment

There were no transfers in and out of Level 1, Level 2, or Level 3 fair value measurements during the three or nine months ended September 30, 2023. There were no losses included in earnings attributable to the change in unrealized gains or losses relating to the available-for-sale securities above with fair value measurements utilizing significant unobservable inputs for the three- or nine-month periods ended September 30, 2023.

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which QNB has utilized Level 3 inputs to determine fair value:

           
            Quantitative information about Level 3 fair value measurements

           
            September 30, 2023

           
            Fair value

           
            Valuation
            
            techniques

           
            Unobservable
            
            inputs

           
            Value or range
            
            of values

           
            Loans individually evaluated for impairment

43

           
            Appraisal of collateral

(1)

           
            Appraisal adjustments

(2)

           
            Liquidation expenses

(3)

           
            Loans individually evaluated for impairment

294

           
            Financial statement values for UCC collateral

           
            Financial statement value discounts

(4)

           
            Mortgage servicing rights

7

           
            Discounted cash flow

           
            Remaining term

           
            Prepayment speeds

           
            Discount rate

           
            Quantitative information about Level 3 fair value measurements

           
            December 31, 2022

           
            Fair value

           
            Valuation
            
            techniques

           
            Unobservable
            
            inputs

           
            Value or range
            
            of values

           
            Impaired loans

           
             3,634

           
            Appraisal of collateral

(1)

           
            Appraisal adjustments

(2)

           
            Liquidation expenses

(3)

           
            Impaired loans

294

           
            Financial statement values for UCC collateral

           
            Financial statement value discounts

(4)

           
            Mortgage servicing rights

1

           
            Discounted cash flow

           
            Remaining term

           
            Prepayment speeds

           
            Discount rate

(1)

Fair value is primarily determined through appraisals of the underlying collateral by independent parties, which generally includes various Level 3 inputs which are not always identifiable.

(2)

Appraisals may be adjusted by management for qualitative factors such as economic conditions and the age of the appraisal. The range is presented as a percent of the initial appraised value.

(3)

Appraisals and pending agreements of sale are adjusted by management for estimated liquidation expenses. The range is presented as a percent of the initial appraised value.

(4)

Values obtained from financial statements for UCC collateral (fixed assets and inventory) are discounted to estimated realizable liquidation value.

The following table presents additional information about the available-for-sale securities measured at fair value on a recurring basis and for which QNB utilized significant unobservable inputs (Level 3 inputs) to determine fair value for the nine months ended September 30, 2023 and 2022:


	Fair value measurements using significant unobservable inputs (Level 3)
	2023			2022
Balance, January 1,	$	53		$	75
Payments received		( 1	)		( 21	)
Total gains or losses (realized/unrealized)
Included in earnings		—			—
Included in other comprehensive (loss) income		—			1
Transfers in and/or out of Level 3		—			—
Balance, September 30,	$	52		$	55

The Level 3 securities consist of one collateralized debt obligation security, the PreTSL security, which is backed by trust preferred securities issued by banks. The market for this security at September 30, 2023 was not active and markets for similar securities also are not active. The new issue market is also inactive and there are currently very few market participants who are willing and able to transact for these securities.

Given conditions in the debt markets today and the absence of observable transactions in the secondary and new issue markets, we determined:

•

The few observable transactions and market quotations that are available are not reliable for purposes of determining fair value at September 30, 2023;

•

An income valuation approach technique (present value technique) that maximizes the use of relevant observable inputs and minimizes the use of unobservable inputs will be equally or more representative of fair value than the market approach valuation technique used at prior measurement dates; and

•

The PreTSL will be classified within Level 3 of the fair value hierarchy because significant adjustments are required to determine fair value at the measurement date.

QNB used an independent third party to value this security using a discounted cash flow analysis. Based on management’s review of the bond’s three underlying issuers, there are no expected credit losses or prepayments; cashflows used were contractual based on the Bloomberg YA screen. The assumed cashflows have been discounted using an estimated market discount rate based on the 30 -year swap rate. The 30-year is used as the reference rate since it is indicative of market expectation for short-term rates in the future. This is consistent with the 30-year nature of the PreTSL security, which is priced using the 3-month LIBOR as a reference rate. The discount rate of 8.34 % includes the risk-free rate, a credit component and a spread for illiquidity.

The following information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of QNB’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between QNB’s disclosures and those of other companies may not be meaningful.

The following methods and assumptions were used to estimate the fair values of each major classification of financial instrument and non-financial asset at September 30, 2023 and December 31, 2022:

Cash and cash equivalents, accrued interest receivable and accrued interest payable (carried at cost) : The carrying amounts reported in the balance sheet approximate those assets’ fair value.

Investment securities (including derivative instruments) (carried at fair value) : The fair value of securities is primarily determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2), which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices. Level 2 debt securities are valued by a third-party pricing service commonly used in the banking industry. Level 2 fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution date, market consensus prepayment speeds, credit information and the security’s terms and conditions, among other things. For certain securities which are not traded in active markets or are subject to transfer restrictions, valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence (Level 3). In the absence of such evidence, management’s best estimate is used. Management’s best estimate consists of both internal and external support on certain Level 3 investments. Cash flow models using a present value formula that includes assumptions market participants would use along with indicative exit pricing obtained from broker/dealers (where available) were used to support fair values of certain Level 3 investments.

The fair value of derivatives instruments designated as fair value hedges are based on estimates QNB would receive or pay to terminate the contracts or agreement, taking into account current interest rates and when appropriate, the credit-worthiness of the counterparties; these values are included in Level 2.

Restricted investment in stocks (carried at cost) : The fair value of stock in Atlantic Community Bankers Bank, the Federal Home Loan Bank, VISA Class B and SHCPFIC is the carrying amount, based on redemption provisions, and considers the limited marketability of and restrictions on such securities.

Loans Held for Sale (carried at lower of cost or fair value) : The fair value of loans held for sale is determined, when possible, using quoted secondary market prices. If no such quoted prices exist, the fair value of a loan is determined using quoted prices for a similar loan or loans, adjusted for the specific attributes of that loan.

Loans Receivable (carried at cost) : The fair values of loans are estimated using discounted cash flow analyses, using market rates at the balance sheet date that reflect the liquidity, credit and interest rate-risk inherent in the loans. Projected future cash flows are calculated based upon contractual maturity or call dates, projected repayments and prepayments of principal. Generally, for variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values.

Impaired Loans (generally carried at fair value) : Impaired loans are loans for which the Company has measured impairment generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements.

Mortgage Servicing Rights (carried at lower of cost or fair value) : The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income. The mortgage servicing rights are stratified into tranches based on predominant characteristics, such as interest rate, loan type and investor type. The valuation incorporates assumptions that market participants would use in estimating future net servicing income.

Deposit liabilities (carried at cost) : The fair value of deposits with no stated maturity (e.g. demand deposits, interest-bearing demand accounts, money market accounts and savings accounts) are by definition, equal to the amount payable on demand at the reporting date (i.e. their carrying amounts). This approach to estimating fair value excludes the significant benefit that results from the low-cost funding provided by such deposit liabilities, as compared to alternative sources of funding. Deposits with a stated maturity (time deposits) have been valued using the present value of cash flows discounted at rates approximating the current market for similar deposits.

Short-term borrowings (carried at cost) : The carrying amount of short-term borrowings approximates their fair values.

Long-term debt (carried at cost) : Long-term debt has stated maturities and have been valued using the present value of cash flows discounted at rates approximating the current market for similar debt instruments.

Off-balance-sheet instruments (disclosed at cost) : The fair values for QNB’s off-balance sheet instruments (lending commitments and letters of credit) are based on fees currently charged in the market to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing.

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in sales transaction on the dates indicated. The estimated fair

value amounts have been measured as of the respective period ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each period end.

The estimated fair values and carrying amounts of the Company’s financial and off-balance sheet instruments are summarized as follows:


					Fair value measurements
September 30, 2023	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	55,141	$	55,141	$	55,141	$	—	$	—
Investment securities:
Available-for-sale (1)		505,390		505,390		—		505,338		52
Equities		4,765		4,765		4,765		—		—
Restricted investment in stocks		2,730		2,730		—		2,730		—
Loans held for sale		446		446		—		446		—
Net loans		1,051,908		1,023,811		—		—		1,023,811
Mortgage servicing rights		430		608		—		—		608
Accrued interest receivable		5,590		5,590		—		5,590		—

Financial liabilities
Deposits with no stated maturities	$	1,193,147	$	1,193,147	$	1,193,147	$	—	$	—
Deposits with stated maturities		290,186		284,757		—		284,757		—
Short-term borrowings		96,703		96,703		96,703		—		—
Long-term debt		20,000		19,718		19,718		—		—
Accrued interest payable		3,278		3,278		—		3,278		—

Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		60		—		60		—

(1) Includes derivatives designated as fair value hedging instruments as discussed in Footnote 13


					Fair value measurements
December 31, 2022	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	15,899	$	15,899	$	15,899	$	—	$	—
Investment securities:
Available-for-sale		546,525		546,525		—		546,472		53
Equities		12,056		12,056		12,056		—		—
Restricted investment in stocks		5,193		5,193		—		5,193		—
Net loans		1,028,854		1,001,103		—		—		1,001,103
Mortgage servicing rights		469		638		—		—		638
Accrued interest receivable		5,038		5,038		—		5,038		—

Financial liabilities
Deposits with no stated maturities	$	1,242,920	$	1,242,920	$	1,242,920	$	—	$	—
Deposits with stated maturities		175,449		168,554		—		168,554		—
Short-term borrowings		161,327		161,327		161,327		—		—
Long-term debt		10,000		10,000		10,000		—		—
Accrued interest payable		467		467		—		467		—

Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		69		—		69		—

10. COMMITMENTS AND CONTINGENCIES

Financial Instruments with off-balance sheet risk :

In the normal course of business there are various legal proceedings, commitments, and contingent liabilities which are not reflected in the consolidated financial statements. Management does not anticipate any material losses as a result of these transactions and activities. They include, among other things, commitments to extend credit and standby letters of credit. The maximum exposure to credit loss, which represents the possibility of sustaining a loss due to the failure of the other parties to a financial instrument to perform according to the terms of the contract, is represented by the contractual amount of these instruments. QNB uses the same lending standards and policies in making credit commitments as it does for on-balance sheet instruments. The activity is controlled through credit approvals, control limits, and monitoring procedures.

A summary of the Company's financial instrument commitments is as follows:


	September 30,		December 31,
	2023		2022
Commitments to extend credit and unused lines of credit	$	375,448	$	339,312
Standby letters of credit		19,894		19,512
Total financial instrument commitments	$	395,342	$	358,824

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. QNB evaluates each customer’s creditworthiness on a case-by-case basis.

Standby letters of credit are conditional commitments issued by the Company to guarantee the financial or performance obligation of a customer to a third party. QNB’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for standby letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making conditional obligations as it does for on-balance sheet instruments. Standby letters of credit of $ 14,817,000 will expire within one year . The credit risk involved in issuing letters of credit is essentially the same as that involved in extending other loan commitments. The Company requires collateral and personal guarantees supporting these letters of credit as deemed necessary. Management believes that the proceeds obtained through a liquidation of such collateral and the enforcement of personal guarantees would be sufficient to

cover the maximum potential amount of future payments required under the corresponding guarantees. The amount of the liability as of September 30, 2023 and December 31, 2022 for guarantees under standby letters of credit issued is not material.

The amount of collateral obtained for letters of credit and commitments to extend credit is based on management’s credit evaluation of the customer. Collateral varies, but may include real estate, accounts receivable, marketable securities, pledged deposits, inventory or equipment.

Other commitments :

QNB has committed to various operating leases for several of their branch and office facilities. Some of these leases include specific provisions relating to rent increases. Some of the leases contain renewal options to extend the initial terms of the lease for periods ranging from five to ten years and certain leases allow for multiple extensions. During the nine months ended September 30, 2023, QNB renewed one lease and recorded an additional right-of-use asset in exchange for an operating lease liability of $ 369,000 .

11. REGULATORY RESTRICTIONS

Dividends payable by QNB and the Bank are subject to various limitations imposed by statutes, regulations and policies adopted by bank regulatory agencies. Under Federal and Pennsylvania banking law, the Bank is subject to certain restrictions on the amount of dividends that it may declare without prior regulatory approval. Under Federal Reserve regulations, the Bank is limited as to the amount it may lend affiliates, including QNB, unless such loans are collateralized by specific obligations.

Both QNB and the Bank are subject to regulatory capital requirements administered by Federal banking agencies. Failure to meet minimum capital requirements can initiate actions by regulators that could have an effect on the financial statements. Under the framework for prompt corrective action, the Bank must meet capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items. The capital amounts and classification are also subject to qualitative judgments by the regulators. Management believes, as of September 30, 2023, that QNB and the Bank met capital adequacy requirements to which they were subject.

As of the most recent notification, the primary regulator of the Bank considered it to be “well capitalized” under the regulatory framework. There are no conditions or events since that notification that management believes have changed the classification. To be categorized as well capitalized, bank holding companies and insured depository institutions must maintain minimum ratios as set forth in the following table below.

The Company and the Bank’s actual capital amounts and ratios are presented as follows:


	Capital levels
	Actual					Adequately capitalized					Well capitalized
September 30, 2023	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total risk-based capital (to risk-weighted assets):
The Company	$	167,262		13.31	%	$	100,569		8.00	%	$	125,711		10.00	%
Bank		154,116		12.41			99,353	8.00				124,191	10.00

Tier 1 capital (to risk-weighted assets):
The Company	$	158,617		12.62			75,427	6.00				75,427	6.00
Bank		145,471		11.71			74,515	6.00				99,353	8.00

Common equity tier 1 capital (to risk-weighted assets):
The Company		158,617		12.62			56,570	4.50			N/A		N/A
Bank		145,471		11.71			55,886	4.50				80,724	6.50

Tier 1 capital (to average assets):
The Company		158,617		8.95			70,925	4.00			N/A		N/A
Bank		145,471		8.25			70,515	4.00				88,144	5.00


	Capital levels
	Actual					Adequately capitalized					Well capitalized
As of December 31, 2022	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total risk-based capital (to risk-weighted assets):
The Company	$	162,725		13.19	%	$	98,701		8.00	%	$	123,376		10.00	%
Bank		149,908		12.52			95,796	8.00				119,746	10.00

Tier 1 capital (to risk-weighted assets):
The Company		152,077		12.33			74,025	6.00				74,025	6.00
Bank		139,260		11.63			71,847	6.00				95,896	8.00

Common equity tier 1 capital (to risk-weighted assets):
The Company		152,077		12.33			55,519	4.50			N/A		N/A
Bank		139,260		11.63			53,886	4.50				77,835	6.50

Tier 1 capital (to average assets):
The Company		152,077		8.75			69,507	4.00			N/A		N/A
Bank		139,260		8.07			69,009	4.00				86,261	5.00

12. REVENUE RECOGNITION FROM CONTRACTS WITH CUSTOMERS

The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers. The main types of revenue contracts included in non-interest income within the consolidated statements of operations are as follows:

•

Fees for services to customers—fees include service charges on deposits which are included as liabilities in the consolidated statement of financial position and consist of transaction-based fees, stop payment fees, Automated Clearing House (ACH) fees, account maintenance fees, and overdraft services fees for various retail and business checking customers. These fees are charged as earned on the day of the transaction or within the month of the service, with the exception of Enhanced Account Analysis Fees, which are calculated on the previous month’s activity and assessed on the following month. The Enhanced Account Analysis Fees are currently being accrued; the revenue is currently being recorded in the month it is earned. Service charges on deposits are withdrawn directly from the customer’s account balance.

•

ATM and debit card – fees are recognized at the time the transaction is executed as that is the point in time the Company fulfills the customer’s request.

•

Retail brokerage and advisory—fee income and related expenses are accrued monthly to properly record the revenues in the month they are earned. Advisory fees are collected in advance on a quarterly basis. These advisory fees are recorded in the first month of the quarter for which the service is being performed. Fees that are transaction based are recognized at the point in time that the transaction is executed (i.e. trade date).

•

Merchant – QNB earns interchange fees from credit/debit cardholder transactions conducted through VISA/MasterCard payment networks. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized monthly, concurrently with the transaction processing services provided to the cardholder within the month.

•

Other—includes credit card fees, sales of checks to depositors, miscellaneous fees and gain/losses on sale of OREO.

•

Credit card fees are recognized monthly, concurrently with the transaction processing services provided to the cardholder within the month.

•

Sales of checks to depositors are commissions earned from a third-party who provides checks to QNB’s customers. There is a pre-paid incentive with the third party which is recognized over the term of the contract. Other commissions on the sales of checks are recorded weekly.

•

Miscellaneous fees, such as wire, cashier check and garnishment fees, are charged as earned on the day of the transaction.

•

Gain (loss) on sales of OREO – QNB records a gain or loss from the sale of OREO when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. When QNB finances the sale of OREO to the buyer, QNB assesses whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the OREO asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer. In determining the gain or loss on the sale, QNB adjusts the transaction prices and related gain (loss) on sale if a significant financing component is present.

13. DERIVATIVES AND HEDGING ACTIVITIES

QNB's risk management objective with respect to derivative financial instruments is to hedge the risk of changes in the fair value of certain fixed-rate investment securities, included in a closed portfolio, for changes in the Secured Overnight Financing Rate ("SOFR"). T he effective and ineffective portions of changes in the fair value of each derivative financial instrument is reported in accumulated other comprehensive (loss) income, net of tax, and are reclassified to interest income as interest payments are made or received on the hedged portfolios. QNB assesses the effectiveness of each hedging relationship using a regression analysis of prior periodic changes in fair value of both the hedge and the hedged item. In the assessment of hedge effectiveness, QNB will consider the likelihood of the counterparty's compliance with the contractual terms of the hedging derivative that could require the counterparty to make payments (counterparty default risk). If the likelihood that the counterparty will not default ceases to be probable, the hedge may no longer be highly effective and hedge ineffectiveness due to counterparty payment risk will be assessed.

The following table presents the notional amounts of derivatives designated as fair value hedging instruments at September 30, 2023. QNB pledges cash or securities to cover the negative fair value of derivatives instruments. Cash collateral associated with the derivative instruments are not added to or netted against the fair value amounts. QNB did not have any derivatives designated as fair value hedging instruments at December 31, 2022.


	At September 30, 2023
	Interest Rate Swaps-Fair Value Hedges
Balance Sheet Classification	Notional Amount		Fair Value
Investment Securities Available-for-sale:
State and municipal securities	$	75,000	$	3,041
U.S. Government agencies and GSE mortgage backed securities		225,000		7,582
Total	$	300,000	$	10,623

The following table presents amounts included in the Consolidated Statements on Income for derivatives designated as fair value hedging instruments for the three and nine months ended September 30, 2023.


	For the Three Months Ended September 30,		For the Nine Months Ended September 30,
Income Sheet Classification	2023		2023
Interest and dividends on available-for-sale and equity securities:
Taxable	$	1,190	$	1,370
Total	$	1,190	$	1,370

The following table presents amounts included in accumulated other comprehensive (loss) income for derivatives designated as fair value hedging instruments at September 30, 2023.


Balance Sheet Classification	At September 30, 2023
Accumulated other comprehensive loss, net of tax	$	8,392
Total	$	8,392

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

QNB Corp. is a bank holding company headquartered in Quakertown, Pennsylvania. QNB Corp., through its wholly-owned subsidiary, the Bank, has been serving the residents and businesses of upper Bucks, northern Montgomery and southern Lehigh counties in Pennsylvania since 1877. Due to its limited geographic area, growth is pursued through expansion of existing customer relationships and building new relationships by stressing a consistent high level of service at all points of contact. The Bank is a locally managed

community bank that provides a full range of commercial and retail banking and retail brokerage services. The consolidated entity is referred to herein as “QNB” or the “Company”.

Tabular information presented throughout management’s discussion and analysis, other than share and per share data, is presented in thousands of dollars.

FORWARD-LOOKING STATEMENTS

In addition to historical information, this document contains forward-looking statements. Forward-looking statements are typically identified by words or phrases such as “believe,” “expect,” “anticipate,” “intend,” “estimate,” “project” and variations of such words and similar expressions, or future or conditional verbs such as “will,” “would,” “should,” “could,” “may” or similar expressions. The U.S. Private Securities Litigation Reform Act of 1995 provides a safe harbor in regard to the inclusion of forward-looking statements in this document and documents incorporated by reference.

Shareholders should note that many factors, some of which are discussed elsewhere in this document and in the documents that are incorporated by reference, including the risk factors identified in Item 1A of QNB’s 2022 Form 10-K, could affect the future financial results of QNB and could cause those results to differ materially from those expressed in the forward-looking statements contained or incorporated by reference in this document. These factors include, but are not limited, to the following:

•

Volatility in interest rates and shape of the yield curve;

•

Credit risk;

•

Liquidity risk;

•

Operating, legal and regulatory risks;

•

Economic, political and competitive forces affecting QNB’s business, including the effects of inflation;

•

The effects of unforeseen external events, including acts of terrorism, natural disasters, and pandemics, including the COVID-19 Pandemic; and

•

The risk that the analysis of these risks and forces could be incorrect, and/or that the strategies developed to address them could be unsuccessful.

QNB cautions that these forward-looking statements are subject to numerous assumptions, risks and uncertainties, all of which change over time, and QNB assumes no duty to update forward-looking statements. Management cautions readers not to place undue reliance on any forward-looking statements. These statements speak only as of the date of this report on Form 10-Q, even if subsequently made available by QNB on its website or otherwise, and they advise readers that various factors, including those described above, could affect QNB’s financial performance and could cause actual results or circumstances for future periods to differ materially from those anticipated or projected. Except as required by law, QNB does not undertake, and specifically disclaims any obligation, to publicly release any revisions to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The discussion and analysis of the financial condition and results of operations are based on the consolidated financial statements of QNB, which are prepared in accordance with U.S. generally accepted accounting principles (U.S. GAAP) and predominant practices within the banking industry. The preparation of these consolidated financial statements requires QNB to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. QNB evaluates estimates on an on-going basis, including those related to the determination of the allowance for loan losses, the determination of the valuation of other real estate owned and foreclosed assets, other-than-temporary impairments on investment securities, the valuation of deferred tax assets, stock-based compensation and income taxes. QNB bases its estimates on historical experience and various other factors and assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Investment Security Impairment

Securities are evaluated periodically to determine whether a decline in their value is impairment. Management utilizes criteria such as the magnitude and duration of the decline, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary. The term impairment is not intended to indicate that the decline is permanent, it indicates that the prospect for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. For equity securities that do not have readily-determinable fair values, once a decline in value is determined to be impairment, the value of the equity security is reduced and a corresponding charge to earnings is recognized. There were no impairment charges recorded during the three or nine months ended September 30, 2023 and 2022, respectively.

The Company follows accounting guidance related to the recognition and presentation of impairment that specifies (a) if a company does not have the intent to sell a debt security prior to recovery and (b) it is more likely than not that it will not have to sell the debt security prior to recovery, the security would not be considered impaired unless there is a credit loss. When an entity does not intend to sell the security, and it is more likely than not the entity will not have to sell the security before recovery of its cost basis, it will recognize the credit component of an impairment of a debt security in earnings and the remaining portion in other comprehensive income. There were no credit-related impairment charges in the three or nine months ended September 30, 2023 or 2022, respectively.

Allowance for Credit Losses on Loans

The Company maintains an allowance for credit losses on loans, which is intended to absorb probable known and inherent losses in the outstanding loan portfolio. The allowance is reduced by actual credit losses and is increased or decreased by the provision (reversal) for loan losses and increased by recoveries of previous losses. The allowance for loan losses is calculated with the objective of maintaining a level believed by management to be sufficient to absorb probable known and inherent losses in the outstanding loan portfolio; the provisions or reversals for credit losses are charged to earnings.

Concentrations: The Company adjusts historic loss for concentrations in the current portfolio that were not present during the down-turn of economic cycle.

Management emphasizes loan quality and close monitoring of potential problem credits. Credit risk identification and review processes are utilized to assess and monitor the degree of risk in the loan portfolio. QNB’s lending and credit administration staff are charged with reviewing the loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay debt or the value of pledged collateral. A loan classification and review system exists that identifies those loans with a higher-than-normal risk of collection. Each commercial loan is assigned a grade based upon an assessment of the borrower’s financial capacity

to service the debt and the presence and value of collateral for the loan. An independent loan review group tests risk assessments and evaluates the adequacy of the allowance for loan losses. Management meets monthly to review the credit quality of the loan portfolio and quarterly to review the allowance for loan losses.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for loan losses. Such agencies may require QNB to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

Management believes that it uses the best information available to make determinations about the adequacy of the allowance and that it has established its existing allowance for loan losses in accordance with U.S. GAAP. If circumstances differ substantially from the assumptions used in making determinations, future adjustments to the allowance for loan losses may be necessary and results of operations could be affected. Because future events affecting borrowers and collateral cannot be predicted with certainty, increases to the allowance may be necessary should the quality of any loans deteriorate as a result of the factors discussed above.

Foreclosed Assets

Assets acquired through, or in lieu of, loan foreclosure are held-for-sale and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses and changes in the valuation allowance are included in net expenses from foreclosed assets.

Stock-Based Compensation

QNB sponsors a stock-based compensation plan, administered by a Board committee, under which both qualified and non-qualified stock options may be granted periodically to certain employees. QNB accounts for all awards granted under stock-based compensation plans in accordance with ASC 718, Compensation-Stock Compensation . Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period. The fair value of each option is amortized into compensation expense on a straight-line basis between the grant date for the option and each vesting date. QNB estimates the fair value of stock options on the date of the grant using the Black-Scholes option pricing model. The model requires the use of numerous assumptions, many of which are highly subjective in nature.

Income Taxes

QNB accounts for income taxes under the asset/liability method in accordance with income tax accounting guidance, ASC 740, Income Taxes . Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established against deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become available. Because the judgment about the level of future taxable income is dependent on matters that may, at least in part, be beyond QNB’s control, it is at least reasonably possible that management’s judgment about the need for a valuation allowance for deferred tax assets could change in the near term.

RESULTS OF OPERATIONS - OVERVIEW

QNB reported net income for the third quarter of 2023 of $2,344,000, or $0.65 per share on a diluted basis, compared to net income of $3,415,000, or $0.96 per share on a diluted basis, for the same period in 2022. For the nine-month period ended September 30, 2023, QNB reported net income of $8,349,000, or $2.32 per share on a diluted basis, compared to net income of $10,474,000, or $2.94 per share on a diluted basis, for the same period in 2022. The Bank contributed $8,568,000 to net income for the nine months ended September 30, 2023 compared to $12,037,000 for the same period 2022; and the holding company contributed negative $219,000 to net income for the nine months ended September 30, 2023 compared to a negative $1,563,000 for the same period 2022. The results at the Bank were primarily due to net interest margin compression partly offset by the reversal for credit losses on loans of $1,119,000. The results at the holding company are due primarily to the change in the fair value of the equity securities included in the investment portfolio.

Net income expressed as an annualized rate of return on average assets and average shareholders’ equity was 0.52% and 5.88%, respectively, for the quarter ended September 30, 2023 compared with 0.78% and 9.20%, respectively, for the quarter ended September 30, 2022. For the nine months ended September 30, 2023, the annualized rate of return on average assets and average shareholders’ equity was 0.64% and 7.13%, respectively, compared with 0.82% and 9.68%, for the same period in 2022.

Total assets as of September 30, 2023 were $1,684,392,000, compared with $1,668,497,000 at December 31, 2022. Loans receivable at September 30, 2023 were $1,060,450,000, a $21,065,000 increase from $1,039,385,000 at December 31, 2022. Total deposits of $1,483,333,000 at September 30, 2023 increased $64,964,000 compared with total deposits of $1,418,369,000 at December 31, 2022.

Results for the three and nine months ended September 30, 2023 include the following significant components:

•

Net interest income decreased $1,166,000, or 10.3%, to $10,213,000 and decreased $3,255,000, or 9.8%, to $29,963,000 for the three and nine months ended September 30, 2023, respectively.

•

Net interest margin on a tax-equivalent basis decreased 34 basis points for the quarter and 32 basis points for the nine months ended September 30, 2023, at 2.38% and 2.40% to compared to 2.72% and 2.72% for the same periods in September 30, 2022, respectively.

•

QNB recorded $452,000 in its provision for credit losses on loans for the quarter ended September 30, 2023, compared with no provision for the same period in 2022. QNB reversed $1,119,000 in its provision for credit losses on loans for the nine months ended September 30, 2023, compared with no provision for the same period in 2022.

•

Non-interest income increased $1,271,000, to $1,755,000 for the third quarter and increased $1,820,000, to $4,554,000 for the nine months ended September 30, 2023 compared with the same periods in 2022. Excluding realized and unrealized gains (losses) on securities, non-interest income increased $106,000, or 6.4%, to $1,762,000 for the quarter and increased $154,000, or 3.2%, to $5,023,000 for the nine months ended September 30, 2023, compared with the same periods in 2022.

•

Non-interest expense increased $857,000 to $8,671,000 for the quarter and increased $1,990,000 to $25,363,000 for the nine months ended September 30, 2023 compared to the same periods in 2022.

•

Total non-performing loans were $5,872,000, or 0.55% of loans receivable at September 30, 2023, compared to $9,121,000, or 0.88% of loans receivable at December 31, 2022. Loans on non-accrual status were $1,893,000 at September 30, 2023 compared with $4,820,000 at December 31, 2022. Net loan recoveries for the nine months ended September 30, 2023 were $219,000, compared with $154,000 for the same period in 2022.

These items, as well as others, are explained more thoroughly in the next sections.

NET INTEREST INCOME

QNB earns its net income primarily through the Bank. Net interest income, or the spread between the interest, dividends and fees earned on loans and investment securities and the expense incurred on deposits and other interest-bearing liabilities, is the primary source of operating income for QNB. Management seeks to achieve sustainable and consistent earnings growth while maintaining adequate levels of capital and liquidity and limiting its exposure to credit and interest rate risk levels approved by the Board of Directors.

The following table presents the adjustment to convert net interest income to net interest income on a fully taxable-equivalent basis for the three- and nine-month periods ended September 30, 2023 and 2022.


	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2023		2022		2023		2022
Total interest income	$	18,497	$	13,546	$	49,825	$	37,682
Total interest expense		8,284		2,167		19,862		4,464
Net interest income		10,213		11,379		29,963		33,218
Tax-equivalent adjustment		144		177		442		541
Net interest income (fully taxable-equivalent)	$	10,357	$	11,556	$	30,405	$	33,759

Net interest income is the primary source of operating income for QNB. Net interest income is interest income, dividends, and fees on earning assets, less interest expense incurred for funding sources. Earning assets primarily include loans, investment securities, interest bearing balances at the Federal Reserve Bank and Federal funds sold. Sources used to fund these assets include deposits and borrowed funds. Net interest income is affected by changes in interest rates, the volume and mix of earning assets and interest-bearing liabilities, and the amount of earning assets funded by non-interest-bearing deposits.

For purposes of this discussion, interest income and the average yield earned on loans and investment securities are adjusted to a tax-equivalent basis as detailed in the tables that appear above. This adjustment to interest income is made for analysis purposes only. Interest income is increased by the amount of savings of Federal income taxes, which QNB realizes by investing in certain tax-exempt state and municipal securities and by making loans to certain tax-exempt organizations. In this way, the ultimate economic impact of earnings from various assets can be more easily compared.

The net interest rate spread is the difference between average rates received on earning assets and average rates paid on interest-bearing liabilities, while the net interest rate margin, which includes interest-free sources of funds, is net interest income expressed as a percentage of average interest-earning assets. The Asset/Liability and Investment Management Committee works to manage and maximize the net interest margin for the Company.

Average Balances, Rate, and Interest Income and Expense Summary (Tax-Equivalent Basis)


	For the Three Months Ended
	September 30, 2023								September 30, 2022
	Average			Average					Average			Average
	Balance			Rate			Interest		Balance			Rate			Interest
Assets
Investment securities (AFS & Equity):
U.S. Treasury securities	$	7,111			5.17	%	$	92	$	831			1.32	%	$	3
U.S. Government agencies		101,947			1.11			283		101,938			1.11		283
State and municipal		109,157			3.30			901		127,929			2.38		761
Mortgage-backed and CMOs		394,607			2.53			2,500		441,952			1.61			1,783
Corporate debt securities and money market funds		6,648			4.40			73		6,658			4.37		72
Equities		4,953			4.70			59		11,702			3.36			99
Total investment securities		624,423			2.50			3,908		691,010			1.74			3,001
Loans:
Commercial real estate		722,833			5.10			9,288		650,118			4.22			6,917
Residential real estate		107,332			3.81			1,022		105,723			3.33			880
Home equity loans		57,694			6.65			967		56,669			4.65			665
Commercial and industrial		128,601			7.23			2,343		148,545			5.25			1,965
Consumer loans		3,823			7.53			73		4,401			5.76			64
Tax-exempt loans		19,630			3.59			178		19,535			3.43			169
Total loans, net of unearned income*		1,039,913			5.29			13,871		984,991			4.29			10,660
Other earning assets		62,420			5.48			862		8,038			3.02			62
Total earning assets		1,726,756			4.28			18,641		1,684,039			3.23			13,723
Cash and due from banks		15,679								15,544
Allowance for loan losses		(8,396	)							(11,323	)
Other assets		39,099								38,872
Total assets	$	1,773,138							$	1,727,132
Liabilities and Shareholders' Equity
Interest-bearing deposits:
Interest-bearing demand	$	319,335			0.74	%		600	$	342,011			0.23	%		201
Municipals		157,391			4.63			1,837		138,187			1.77			617
Money market		201,277			3.01			1,527		134,591			0.50			170
Savings		325,567			1.27			1,038		451,871			0.53			608
Time < $100		128,884			2.92			947		90,129			0.74			168
Time $100 through $250		106,920			3.69			996		54,168			0.87			118
Time > $250		43,856			3.41			377		25,616			0.86			56
Total interest-bearing deposits		1,283,230			2.26			7,322		1,236,573			0.62			1,938
Short-term borrowings		95,568			3.07			740		85,943			0.87			189
Long-term debt		20,000			4.36			222		10,000			1.57			40
Total interest-bearing liabilities		1,398,798			2.35			8,284		1,332,516			0.65			2,167
Non-interest-bearing deposits		205,402								239,095
Other liabilities		10,875								8,225
Shareholders' equity		158,063								147,296
Total liabilities and shareholders' equity	$	1,773,138							$	1,727,132
Net interest rate spread					1.93	%							2.58	%
Margin/net interest income					2.38	%	$	10,357					2.72	%	$	11,556


	For the Nine Months Ended
	September 30, 2023								September 30, 2022
	Average			Average					Average			Average
	Balance			Rate			Interest		Balance			Rate			Interest
Assets
Investment securities (AFS & Equity):
U.S. Treasury securities	$	3,618			4.97	%	$	134	$	600			1.12	%	$	5
U.S. Government agencies		101,945			1.11			849		101,292			1.10			836
State and municipal		109,877			2.64			2,173		129,343			2.40			2,325
Mortgage-backed and CMOs		405,979			1.96			5,971		453,833			1.56			5,322
Corporate debt securities		6,637			4.41			219		6,682			4.36			218
Equities		8,442			4.07			257		12,172			3.26			297
Total investment securities		636,498			2.01			9,603		703,922			1.71			9,003
Loans:
Commercial real estate		700,375			4.79			25,091		623,193			4.11			19,181
Residential real estate		106,817			2.76			2,943		103,841			2.47			2,564
Home equity loans		57,317			6.44			2,762		55,244			3.93			1,624
Commercial and industrial		141,176			7.55			7,977		143,354			4.73			5,075
Consumer loans		3,942			7.15			211		4,585			5.31			182
Tax-exempt loans		19,984			3.53			527		19,482			3.41			497
Total loans, net of unearned income*		1,029,611			5.13			39,511		949,699			4.10			29,123
Other earning assets		27,195			5.67			1,153		6,262			2.06			97
Total earning assets		1,693,304			3.97			50,267		1,659,883			3.08			38,223
Cash and due from banks		14,046								14,123
Allowance for loan losses		(8,871	)							(11,266	)
Other assets		38,938								38,532
Total assets	$	1,737,417							$	1,701,272
Liabilities and Shareholders' Equity
Interest-bearing deposits:
Interest-bearing demand	$	314,012			0.52	%		1,227	$	342,955			0.20	%		521
Municipals		128,270			4.34			4,163		121,332			0.91			825
Money market		169,308			2.30			2,913		139,700			0.38			401
Savings		363,496			1.18			3,208		446,196			0.39			1,312
Time < $100		113,951			2.30			1,960		91,223			0.76			522
Time $100 through $250		104,697			3.42			2,676		49,656			0.75			280
Time > $250		36,590			2.80			767		25,361			0.75			143
Total interest-bearing deposits		1,230,324			1.84			16,914		1,216,423			0.44			4,004
Short-term borrowings		112,724			2.99			2,518		78,994			0.58			341
Long-term debt		14,267			3.98			430		10,000			1.57			119
Total interest-bearing liabilities		1,357,315			1.96			19,862		1,305,417			0.46			4,464
Non-interest-bearing deposits		213,492								243,239
Other liabilities		10,111								7,940
Shareholders' equity		156,499								144,676
Total liabilities and shareholders' equity	$	1,737,417							$	1,701,272
Net interest rate spread					2.01	%							2.62	%
Margin/net interest income					2.40	%	$	30,405					2.72	%	$	33,759

Tax-exempt securities and loans were adjusted to a tax-equivalent basis and are based on the marginal Federal corporate tax rate of 21 percent for three and nine months ended September 30, 2023 and 2022.

Non-accrual loans are included in earning assets.

* Includes loans held-for-sale

Rate/Volume Analysis. The following table shows the fully taxable equivalent effect of changes in volumes and rates on interest income and interest expense. Changes in net interest income that could not be specifically identified as either a rate or volume change were allocated to changes in volume.


	For the Three Months Ended									For the Nine Months Ended
	September 30, 2023 compared									September 30, 2023 compared
	to September 30, 2022									to September 30, 2022
	Total			Due to change in:						Total			Due to change in:
	Change			Volume			Rate			Change			Volume			Rate
Interest income:
Investment securities (AFS & Equity):
U.S. Treasury securities	$	89		$	20		$	69		$	129		$	25		$	104
U.S. Government agencies		—			—			—			13			5			8
State and municipal		140			(111	)		251			(152	)		(350	)		198
Mortgage-backed and CMOs		717			(191	)		908			649			(560	)		1,209
Corporate debt securities and money market funds		1			1			—			1			(1	)		2
Equities		(40	)		(57	)		17			(40	)		(91	)		51
Total Investment securities (AFS & Equity)		907			(338	)		1,245			600			(972	)		1,572
Loans:
Commercial real estate		2,371			773			1,598			5,910			2,375			3,535
Residential real estate		142			13			129			379			150			229
Home equity loans		302			11			291			1,138			61			1,077
Commercial and industrial		378			(264	)		642			2,902			(76	)		2,978
Consumer loans		9			(8	)		17			29			(25	)		54
Tax-exempt loans		9			1			8			30			13			17
Total Loans		3,211			526			2,685			10,388			2,498			7,890
Other earning assets		800			413			387			1,056			322			734
Total interest income		4,918			601			4,317			12,044			1,848			10,196
Interest expense:
Interest-bearing deposits:
Interest-bearing demand		399			(12	)		411			706			(43	)		749
Municipals		1,220			86			1,134			3,338			47			3,291
Money market		1,357			86			1,271			2,512			85			2,427
Savings		430			(170	)		600			1,896			(243	)		2,139
Time < $100		779			71			708			1,438			129			1,309
Time $100 through $250		878			116			762			2,396			311			2,085
Time > $250		321			39			282			624			63			561
Total interest-bearing deposits		5,384			216			5,168			12,910			349			12,561
Short-term borrowings		551			20			531			2,177			145			2,032
Long-term debt		182			40			142			311			50			261
Total interest expense		6,117			276			5,841			15,398			544			14,854
Net interest income	$	(1,199	)	$	325		$	(1,524	)	$	(3,354	)	$	1,304		$	(4,658	)

Net Interest Income and Net Interest Margin – Quarterly Comparison

Average earning assets for the third quarter of 2023 were $1,726,756,000, an increase of $42,717,000, or 2.5%, from the third quarter of 2022, with average loans increasing $54,922,0000, or 5.6%, average other interest earning assets increasing $54,382,000, primarily interest-earnings cash at the Federal Reserve Bank, and average investment securities decreasing $66,587,000, or 9.6%, over the same period in 2022. Cash generated from maturities and sales in the investment portfolio and an increase in borrowed funds of $19,625,000 supported loan growth. Average loans as a percent of average earning assets was 60.2% for the third quarter of 2023, compared with 58.5% for the third quarter of 2022. On the funding side, average deposits increased $12,964,000, or 0.9%, to $1,488,632,000 for the third quarter of 2023 primarily due to an increase in time deposits and money market products. Average short-term borrowed funds, which consisted primarily of average commercial repurchase agreements, short-term Federal Reserve Bank ("FRB") borrowing and over-night FHLB borrowings, increased $9,625,000 to $95,568,000 during the third quarter of 2023 compared to $85,943,000 for the same period in 2022.

The net interest margin for the third quarter of 2023 decreased 34 basis points to 2.38% from 2.72% or the same period in 2022. Competition for quality loans and deposits in our local market continues to exert pressure on the net interest margin. The increases in interest rates starting in March 2022 have compressed the net interest margin as QNB had been liability sensitive; QNB entered into interest rate hedging derivatives during the second quarter of 2023 moving QNB to be asset sensitive. The net interest margin is expected to improve as loans and securities reprice.

The Rate-Volume Analysis tables, as presented on a tax-equivalent basis, highlight the impact of changing rates and volumes on interest income and interest expense. Total interest income on a tax-equivalent basis increased $4,918,000, or 35.8%, to $18,641,000 for the third quarter of 2023; total interest expense increased $6,117,000 to $8,284,000.

The yield on earning assets on a tax-equivalent basis increased 105 basis points to 4.28% for the third quarter of 2023, from 3.23% for the third quarter of 2022. The cost of interest-bearing liabilities was 2.35% for the third quarter of 2023, compared with 0.65% for the same period in 2022.

Interest income on investment securities (available-for-sale and equity) increased $907,000 when comparing the quarters ended September 30, 2023 and 2022. The average yield on the investment portfolio was 2.50% for the third quarter of 2023 compared with 1.74% for the same period in 2022.

The yield on U.S. Treasury securities was 5.17% for the third quarter of 2023 compared to 1.32% for the same period in 2022. Income on U.S. Government agency securities remained flat as the average balances increased $9,000 and the rate remained the same.

Interest income on municipal securities, which are primarily tax-exempt, increased $140,000 due to a 92 basis-point increase in rate, partly offset by an $18,772,000 decrease in average balances. The rate and interest income increases on municipal securities was positively impact by an interest rate swap. Typically, QNB purchases municipal bonds with 10- to 20-year maturities and may have call dates between 2-10 years.

Interest income on mortgage-backed securities and CMOs increased $717,000 while average balances decreased $47,345,000 and yield increased 92 basis points. The rate and interest income increases on mortgage-backed securities were positively impacted by an interest rate swap. This portfolio generally provides higher yields relative to agency bonds and also provides monthly cash flow which can be used for liquidity purposes or can be reinvested as interest rates increase. Since most of these securities were purchased at a premium, any prepayments result in a shorter amortization period of this premium and therefore a reduction in income.

The dividend yield on equities increased 134 basis points as average balances decreased $6,749,000. Proceeds from sales of equities were reinvested in higher yielding treasury securities.

Income on loans increased $3,211,000 to $13,871,000 when comparing the third quarters of 2023 and 2022, with a $54,922,000 increase in average balances contributing to an increase in interest income of $526,000 and a 100-basis point increase in yield contributing to a $2,685,000 increase in interest income. Higher interest rates during the repricing period were partially offset by competitive pressures that compressed the yields on new loans.

The largest category of the loan portfolio is commercial real estate loans. This category of loans includes commercial purpose loans secured by either commercial properties such as office buildings, factories, warehouses, hotels and restaurants, medical facilities and retail establishments, or residential real estate, usually the residence of the business owner. The category also includes construction and land development loans. Income on commercial real estate loans increased $2,371,000 when comparing the third quarters of 2023 and 2022, primarily due to an 88-basis point increase in rate from 4.22% in 2022 to 5.10% and increased average balances of $72,715,000, or 11.2%.

Income on commercial and industrial loans increased $378,000 when comparing the third quarters of 2023 and 2022. The average yield on these loans increased 198 basis points to 7.23% resulting in an increase in income of $642,000; average balances decreased $19,944,000, to $128,601,000 for the third quarter of 2023 resulting in a $264,000 decrease in interest income. Many of the loans in this category are indexed to the prime interest rate.

Tax-exempt loan income was $178,000 for the third quarter of 2023, an increase of $9,000 from the same period in 2022. Average balances increased $95,000, or 0.5%, to $19,630,000 for the third quarter of 2023. The yield on municipal loans increased 16 basis points, to 3.59% for the third quarter of 2023, compared with the same period in 2022.

QNB desires to be the “local consumer lender of choice”, focusing its retail lending efforts on product offerings and marketing and promotion. Interest income on residential mortgage loans secured by first lien 1-4 family increased $142,000 when comparing the third quarter of 2023 to the same period in 2022. Average residential mortgage loan balances increased by $1,609,000, or 1.5%, to $107,332,000 for the third quarter of 2023 compared to the same period in 2022, which contributed a $13,000 increase in interest income.

The average yield on the portfolio increased 48 basis points and contributed an increase of $129,000 to interest income. QNB chose to retain certain mortgage loans instead of selling them in the secondary market, as the yield on our originated mortgages was higher than comparable mortgage-backed securities. Average home equity loans increased during the 2023 period by $1,025,000 to $57,694,000; interest income increased $302,000 as the average yield increased 200 basis points to 6.65%. The yield on the consumer portfolio increased 177 basis points to 7.53% for the third quarter of 2023 and there was a $578,000 decrease in average balances resulting in a net $9,000 increase in interest income.

Earning assets are funded by deposits and borrowed funds. Interest expense increased $6,117,000, when comparing the third quarter of 2023 to the same period in 2022. QNB experienced a decrease in accounts with greater liquidity and an increase in time deposits. Average non-interest-bearing demand accounts decreased $33,693,000 to $205,402,000 for the third quarter of 2023. QNB offered several new interest-bearing demand and money market products offering higher yields to retain large depositors and reduce the reliance on higher-cost short-term borrowings. Average interest-bearing demand accounts decreased $22,676,000, or 6.6%, to $319,335,000 for the third quarter of 2023; however interest expense on interest-bearing demand accounts increased $399,000 to $600,000 for the same period, as the average rate paid increased 51 basis points to 0.74% for the third quarter of 2023. Average money market accounts increased $66,686,000, or 49.5%, to $201,277,000 for the third quarter of 2023 compared with the same period in 2022. Interest expense on money market accounts increased $1,357,000 to $1,527,000, and the average interest rate paid on money market accounts increased 251 basis point to 3.01% for the third quarter of 2023. Most of the balances in this category are in products that pay tiered rates based on account balances.

Interest expense on municipal interest-bearing demand accounts increased $1,220,000 to $1,837,000 for the third quarter of 2023. The average interest rate paid on municipal interest-bearing demand accounts increased 286 basis points to 4.63% for the third quarter of 2023 over the same quarter of 2022, and average balances increased $19,204,000, or 13.9%, to $157,391,000. Many of these accounts are indexed to the Federal funds rate with rate floors. Municipal deposits are seasonal in nature and are received during the second and third quarters as tax receipts are collected and are withdrawn over the course of the year.

Interest expense on savings accounts increased $430,000 when comparing the third quarter of 2023 to the same quarter of 2022. The average interest rate paid on savings accounts increased 74 basis points to 1.27% for the third quarter of 2023. When comparing these same periods, average savings accounts decreased $126,304,000, or 28.0%, to $325,567,000 for the third quarter of 2023 primarily due to decreases in the e-Savings product. QNB’s online e-Savings product is the largest category of savings deposits, with average balances for the third quarter of 2023 of $236,589,000 compared to $342,334,000 in the same period of 2022. The average yield paid on these accounts was 1.68% for the third quarter of 2023 and 0.65% for the same period in 2022. Traditional statement savings accounts, passbook savings and club accounts are also included in the savings category and average balances in these types of savings accounts decreased $7,939,000 when comparing the third quarter of 2023 to the same period in 2022.

Interest expense on time deposits totaled $2,320,000 for the third quarter of 2023 compared to $342,000 in 2022. Average total time deposits increased $109,747,000 to $279,660,000 for the third quarter of 2023. As with fixed-rate loans and investment securities, these deposits reprice over time and, therefore, have less of an immediate impact on costs in either a rising or falling rate environment; however, the maturity and repricing characteristics of time deposits tend to be shorter. The average rate paid on total time deposits increased 249 basis points from 0.80% to 3.29% when comparing the third quarter of 2023 to the same period in 2022.

Approximately $224,457,000, or 77%, of time deposits at September 30, 2023 will mature over the next 12 months. The average rate paid on these time deposits is approximately 3.85%. The yield on the time deposit portfolio may change in the next quarter as short-term time deposits reprice; however, given the short-term nature of these deposits, interest expense may increase if short-term time deposit rates were to increase suddenly or if customers select higher paying time deposits.

Short-term borrowings are comprised of sweep accounts structured as repurchase agreements with our commercial customers, overnight FHLB borrowing and short-term FRB borrowing. Interest expense on short-term borrowings increased $551,000 for the third quarter of 2023 to $740,000 when compared to the same period in 2022. When comparing these same periods, average balances increased $9,625,000 to $95,568,000. The yield on customer repos increased 114 basis points for the third quarter of 2023 to 1.63%. The yield on the short-term FHLB borrowing was 2.48% for the third quarter of 2022. During the first quarter of 2023, QNB borrowed $50,000,000 from the FRB under its Bank Term Funding Program and locked in a rate of 4.39%; there are no pre-payment penalties. During 2020, QNB borrowed long-term debt of $10,000,000 to lock in borrowing at a lower yield than short-term borrowings at that time; this borrowing matured during the first quarter of 2023. During the second quarter of 2023, QNB borrowed long-term debt of $20,000,000 to lock in borrowing at a lower yield than short-term borrowings.

Net Interest Income and Net Interest Margin – Nine-Month Comparison

For the nine-month period ending September 30, 2023, average earning assets increased $33,421,000, or 2.0%, to $1,693,304,000, with average loans increasing $79,912,000 slightly offset by a decrease in average investment securities of $67,424,000. Other earning

assets, primarily interest-earning balances at the Federal Reserve Bank, increased $20,933,000. Average total deposits decreased $15,846,000, or 1.1%, to $1,443,816,000 for the nine-month period ended September 30, 2023 compared to the same period in 2022. The net interest margin on a tax-equivalent basis was 2.40% for the nine-month period ended September 30, 2023, a 32-basis point decrease from the same period in 2022.

Total interest income on a tax-equivalent basis increased $12,044,000, or 31.5%, to $50,267,000 from $38,223,000, when comparing the nine-month periods ended September 30, 2023 and September 30, 2022 due to an increase in volume and rate on loans. Interest income on loans increased $7,890,000 as a result of yields and increased $2,498,000 as a result of volume. The yield on investments increased 30 basis points from 1.71% to 2.01% when comparing the nine-month periods. The analysis of the nine-month comparison periods is similar to what was described in the quarterly analysis.

The yield on earning assets increased from 3.08% to 3.97% for the nine-month periods with the yield on loans up 103 basis points. QNB continues to experience pressure on yields due to competitive pressures on loan pricing.

Total interest expense increased $15,398,000 for the nine-month period ended September 30, 2023 compared with the same period in 2022, attributable to increases in rates. The average rate paid on interest bearing deposits increased 140 basis points to 1.84% for the nine-month period ended September 30, 2023 versus the same period in 2022. The average balance of total short-term borrowings increased $33,730,000 primarily due to overnight FHLB borrowing. The yield on interest-bearing liabilities increased 150 basis points to 1.96% for the nine months ended September 30, 2023. QNB invested proceeds from maturities of investment securities and growth in borrowings into loans.

PROVISION FOR CREDIT LOSSES, ALLOWANCE FOR CREDIT LOSSES ON LOANS AND ALLOWANCE FOR CREDIT LOSSES ON UNUSED COMMITMENTS

The provision for credit losses represents management's determination of the amount necessary to be charged to operations to bring the allowance for credit losses on loans and the allowance for credit losses on unused commitments to amounts that are intended to absorb historical loss experience, current conditions and reasonable and supportable forecasts, in the outstanding loan portfolio and the unused commitments. Management believes that it uses the best information available to make determinations about the adequacy of these allowances and that it has established its existing allowances for credit losses on loan and on unused commitments in accordance with U.S. GAAP. The determination of an appropriate level for the allowance for credit losses on loans and the allowance for credit losses on unused commitments are based upon an analysis of the risks inherent in QNB’s loan portfolio.

Since the allowance for credit losses on loans and the reserve on unused commitments is dependent, to a great extent, on conditions that may be beyond QNB’s control, it is at least reasonably possible that management’s calculations and actual results could differ. In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for credit losses on loans. Such agencies may require QNB to recognize changes to the allowance based on their judgments about information available to them at the time of their examination. Actual loan losses, net of recoveries, serve to reduce the allowance.

Based on this analysis, QNB recorded a reversal of $1,119,000 for the nine months ended September 30, 2023, through the allowance for credit losses on loans, compared to no provision for the same period in 2022. QNB recorded a reversal of $18,000 for the allowance for credit losses for unused commitments in the nine months ended September 30, 2023 compared to a provision of $21,000 for the same period in 2022.

QNB's allowance for credit losses on loans of $8,542,000 represents 0.81% of loans receivable at September 30, 2023 compared with an allowance for loan losses of $10,531,000, or 1.01% of loans receivable, at December 31, 2022, and $11,338,000, or 1.12%, at September 30, 2022. Management believes the allowance for credit losses on loans at September 30, 2023 is adequate as of that date based on its analysis of historical loss experience, current conditions and reasonable and supportable forecasts in the portfolio.

Net charge-offs were $275,000 for the three months ended September 30, 2023 compared to net recoveries of $41,000 for the three months ended September 30, 2022. Charge-offs consisted of $273,000 in commercial loans and overdrafts of $21,000. Recoveries of approximately $25,000 during the three months ended September 30, 2023 consisted of $18,000 in repayments from borrowers of

previously charged-off credits and overdrafts recoveries of $7,000. Annualized net charge-offs as a percentage of average loans receivable were 0.10% for the three months ended September 30, 2023, compared to annualized net recoveries of 0.02% for the three months ended September 30, 2022.

Net recoveries were $219,000 for the nine months ended September 30, 2023 compared to net recoveries of $154,000 for the nine months ended September 30, 2022. Charge-offs of approximately $438,000 during the nine months ended September 30, 2023 consisted primarily of commercial loans of $313,000, student loans of $43,000, consumer loans of $9,000 and overdrafts of $73,000. These were offset by $657,000 in recoveries comprising $635,000 in repayments from borrowers of previously charged-off credits, and $22,000 related to overdraft recoveries. Annualized net recoveries as a percentage of average loans receivable were 0.03% for the nine months ended September 30, 2023, compared to annualized net recoveries of 0.02% for the nine months ended September 30, 2022.

Non-performing assets were $5,872,000 at September 30, 2023 compared to $9,121,000 as of December 31, 2022 and $10,694,000 at September 30, 2022. Total non-performing loans, which represent loans on non-accrual status, loans past due 90 days or more and still accruing interest and restructured loans, were 0.55% of loans receivable at September 30, 2023, 0.88% at December 31, 2022, and 1.06% of loans receivable at September 30, 2022. In cases where there is a collateral shortfall on non-accrual loans, specific impairment reserves have been established based on updated collateral values even if the borrower continues to pay in accordance with the terms of the agreement. At September 30, 2023, $1,489,000, or approximately 79%, of the loans classified as non-accrual are current or past due less than 30 days. Commercial loans classified as substandard or doubtful totaled $11,914,000, a decrease of $1,770,000 from the $13,684,000 reported at December 31, 2022 and a decrease of $5,640,000, or 32.1%, from the $17,554,000 reported at September 30, 2022. The decrease in classified loans since December 31, 2022 and September 30, 2022 is primarily due to repayments and pay-offs on existing substandard loans.

QNB had no loans past due 90 days or more and still accruing interest at September 30, 2023, December 31, 2022, or September 30, 2022. Total loans 30 days or more past due, which includes non-accrual loans by actual number of days delinquent, represented 0.97% of loans receivable at September 30, 2023 compared with 0.23% at December 31, 2022, and 0.30% at September 30, 2022.

Legacy troubled debt restructured loans, not classified as non-accrual loans or loans past due 90 days or more and accruing, were $3,979,000 at September 30, 2023, compared with $4,301,000 at December 31, 2022, and $4,357,000 at September 30, 2022. There were no troubled debt modifications identified during the nine months ended September 30, 2023. QNB had no other real estate owned or repossessed assets at September 30, 2023, December 31, 2022 or September 30, 2022.

A loan is considered impaired, based on current information and events, if it is probable that QNB will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and shortfalls on a case-by-case basis, taking into consideration all the circumstances surrounding the loan and the borrower, including length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for all non-accrual loans, except student loans, by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

The following table shows detailed information and ratios pertaining to the Company’s loan and asset quality:


	September 30,			December 31,			September 30,
	2023			2022			2022
Non-accrual loans	$	1,893		$	4,820		$	6,337
Loans past due 90 days or more and still accruing interest		—			—			—
Troubled debt restructured loans (not already included above)		3,979			4,301			4,357
Total non-performing loans		5,872			9,121			10,694
Total non-performing assets	$	5,872		$	9,121		$	10,694

Total loans (excluding loans held-for-sale):
Average total loans (YTD)	$	1,029,042		$	967,438		$	949,691
Total loans		1,060,450			1,039,385			1,008,306

Allowance for credit losses on loans		8,542			10,531			11,338

Allowance for loan losses to:
Non-performing loans		145.47	%		115.46	%		106.02	%
Total loans (excluding held-for-sale)		0.81	%		1.01	%		1.12	%
Average total loans (excluding held-for-sale)		0.83	%		1.09	%		1.19	%

Non-performing loans / total loans (excluding held-for-sale)		0.55	%		0.88	%		1.06	%
Non-performing assets / total assets		0.35	%		0.55	%		0.65	%

An analysis of net loan charge-offs (recoveries) for the three and nine months ended September 30, 2023 compared to 2022 is as follows:


	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2023			2022			2023			2022
Net charge-offs (recoveries)	$	275		$	(41	)	$	(219	)	$	(154	)

Net annualized charge-offs (recoveries) to:
Total loans		0.10	%		(0.02	%)		(0.03	%)		(0.02	%)
Average total loans excluding held-for-sale		0.10	%		(0.02	%)		(0.03	%)		(0.02	%)
Allowance for loan losses		12.77	%		(1.43	%)		(3.43	%)		(1.82	%)

At September 30, 2023 and December 31, 2022, the recorded investment in loans for which impairment has been identified totaled $1,893,000 and $9,567,000 of which $1,209,000 and $4,943,000, respectively, required no specific allowance for loan loss. The recorded investment in impaired loans requiring an allowance for loan losses was $684,000 and $4,624,000 at September 30, 2023 and December 31, 2022, respectively, and the related allowance for loan losses associated with these loans was $347,000 and $696,000, respectively. Most of the loans that have been identified as impaired are collateral-dependent. See Note 8 to the Notes to Consolidated Financial Statements for additional detail of impaired loans.

NON-INTEREST INCOME


Non-Interest Income Comparison
	For the Three Months Ended September 30,						Change from prior year						For the Nine Months Ended September 30,						Change from prior year
	2023			2022			Amount			Percent			2023			2022			Amount			Percent
Net gain on sales of investment securities	$	131		$	—		$	131		N/M			$	185		$	493		$	(308	)		-62.5	%
Unrealized gain (loss) on investment equity securities		(138	)		(1,174	)		1,036			(88.2	)		(654	)		(2,628	)		1,974			(75.1	)
Fees for services to customers		421			423			(2	)		(0.5	)		1,237			1,210			27			2.2
ATM and debit card		685			669			16			2.4			2,048			2,015			33			1.6
Retail brokerage and advisory		219			194			25			12.9			655			604			51			8.4
Bank-owned life insurance		81			121			(40	)		(33.1	)		245			277			(32	)		(11.6	)
Merchant		99			98			1			1.0			298			302			(4	)		(1.3	)
Net gain on sale of loans		4			6			(2	)		(33.3	)		5			6			(1	)		(16.7	)
Other		253			147			106			72.1			535			455			80			17.6
Total	$	1,755		$	484		$	1,271			262.6	%	$	4,554		$	2,734		$	1,820			66.6	%

Quarter to Quarter Comparison

Total non-interest income for the third quarter of 2023 was $1,755,000, an increase of $1,271,000, compared to $484,000 for the third quarter of 2022. Excluding realized and unrealized gains (losses) on securities, non-interest income increased $106,000, or 6.4%, to $1,762,000 for the quarter ended September 30, 2023 compared with the same period in 2022.

During the third quarter of 2023, unrealized losses on investment equity securities of $138,000 were recorded compared to losses of $1,174,000 in the same period of 2022. The unrealized losses and gains for the three months ended September 30, 2023 and 2022 resulted from the change in the fair value of the equities included in the investment portfolio. The equities portfolio comprises blue-chip large-capitalized stocks, providing a year-to-date taxable equivalent dividend yield of 4.07%. The estimated cumulative contribution (realized and unrealized net gains (losses), plus dividends) of the equity portfolio to earnings per share from January 1, 2011 through September 30, 2023 is $2.39 per diluted share. Details of the equity portfolio’s contribution to net income since January 1, 2016 is detailed in the following table.


Net Income (Expense) on Equity Securities
	For the Year Ended December 31,																						For the Nine Months Ended September 30,
		2016			2017			2018			2019			2020			2021			2022			2023			2022

Equity Securities:
Tax-equivalent dividends*		$	233		$	249		$	300		$	274		$	392		$	437		$	399		$	257		$	297
Net gain (loss) on sales			758			1,557			(79	)		1,781			585			1,788			405			442			489
Impairment			(192	)		(80	)	N/A			N/A			N/A			N/A			N/A			N/A			N/A
Unrealized (loss) gain		N/A			N/A				(336	)		770			(47	)		926			(1,026	)		(654	)		(2,628	)
Tax-equivalent income before tax			799			1,726			(115	)		2,825			930			3,151			(222	)		45			(1,842	)
Tax expense (benefit)*			324			700			(33	)		816			269			910			(64	)		13			(532	)
Net income		$	475		$	1,026		$	(82	)	$	2,009		$	661		$	2,241		$	(158	)	$	32		$	(1,310	)

Earnings per share - basic		$	0.14		$	0.30		$	(0.02	)	$	0.57		$	0.19		$	0.63		$	(0.04	)	$	0.01		$	(0.37	)
Earnings per share - diluted		$	0.14		$	0.30		$	(0.02	)	$	0.57		$	0.19		$	0.63		$	(0.04	)	$	0.01		$	(0.37	)
Tax-equivalent yield*			3.13	%		3.49	%		3.08	%		3.31	%		3.54	%		3.02	%		3.32	%		4.07	%		3.26	%

*Based on Federal tax rates of 34% for the 2016 period and 21% for the 2017, 2018, 2019, 2020, 2021, 2022 and 2023 periods.

QNB originates residential mortgage loans for sale in the secondary market. Net gains on sale of loans was $4,000 for third quarter of 2023; compared to $6,000 in the third quarter of 2022. The net gain on residential mortgage sales is directly related to the volume of mortgages sold and the timing of the sales relative to the interest rate environment. Residential mortgage loans to be sold are identified at origination.

Fees for services to customers decreased $2,000 to $421,000 for the third quarter of 2023, due primarily to a decrease in net overdraft income. ATM and debit card income increased $16,000 to $685,000 for the third quarter of 2023, compared to the same period in 2022.

QNB provides securities and advisory services under the name QNB Financial Services. Retail brokerage and advisory fees increased for the third quarter of 2023 compared to the same period in 2022. Advisory fees increased $17,000 for the third quarter of 2023 compared with the same period in 2022 due to new clients and the value of assets under management; and transactional fees increased $8,000.

Merchant fees remained flat for the third quarter of 2023 compared with the same period in 2022. Other non-interest income increased $106,000 primarily due to a sales tax refund of $115,000.

Nine-Month Comparison

Total non-interest income for the nine-month periods ended September 30, 2023 and 2022 was $4,554,000 and $2,734,000, respectively, an increase of $1,820,000. Excluding realized and unrealized gain and losses on securities, total non-interest income was $5,023,000 and $4,869,000, respectively, an increase of $154,000, or 3.2%.

Net investment securities gains decreased $308,000 to $185,000 for the nine months ended September 30, 2023 compared to $493,000 for the comparable nine months in 2022. Market conditions in the equities market for the nine months ended September 30, 2023 versus the same period in 2022 resulted in greater opportunities for profitable sales in 2022; these were partly offset by losses on debt securities. QNB recorded realized gains of $442,000 compared to gains of $489,000 on equity securities for the nine months ended September 30, 2023 and 2022, respectively. Losses on sales of debt securities were $257,000 as QNB sold securities to lower its market risk in a rising rate environment.

Net gains on sales of loans for the nine months ended September 30, 2023 were $5,000; there were $6,000 in gains no loan sales in the 2022 period. Proceeds from the sale of residential mortgages were $640,000 and $304,000 for the nine-month periods ended September 30, 2023 and 2022, respectively.

Fees for services to customers increased $27,000 to $1,237,000 for the first nine months of 2023, due primarily to an increase in net overdraft income. ATM and debit card increased $33,000 for the first nine months of 2023 compared to 2022, due to volume of transactions.

Retail brokerage and advisory fees increased $51,000, or 8.4%, to $655,000 for the nine months ended September 30, 2023 compared to the same period in 2022; advisory fees increased $4,000 and transaction-based fees increased $47,000.

Merchant income decreased $4,000. Other non-interest income increased $80,000 primarily due to a sales tax refund of $115,000 and an increase in credit card income of $20,000, partly offset by a decrease in title company income of $31,000 and $22,000 in broker-dealer conversion fees in 2022.

NON-INTEREST EXPENSE


Non-Interest Expense Comparison
	For the Three Months Ended September 30,				Change from prior year						For the Nine Months Ended September 30,				Change from prior year
	2023		2022		Amount			Percent			2023		2022		Amount			Percent
Salaries and employee benefits	$	4,971	$	4,371	$	600			13.7	%	$	14,309	$	12,842	$	1,467			11.4	%
Net occupancy		594		535		59			11.0			1,683		1,663		20			1.2
Furniture and equipment		910		779		131			16.8			2,665		2,190		475			21.7
Marketing		216		141		75			53.2			678		632		46			7.3
Third-party services		592		582		10			1.7			1,837		1,839		(2	)		(0.1	)
Telephone, postage and supplies		134		187		(53	)		(28.3	)		434		555		(121	)		(21.8	)
State taxes		60		272		(212	)		(77.9	)		244		732		(488	)		(66.7	)
FDIC insurance premiums		274		177		97			54.8			745		574		171			29.8
Other		920		770		150			19.5			2,768		2,346		422			18.0
Total	$	8,671	$	7,814	$	857			11.0	%	$	25,363	$	23,373	$	1,990			8.5	%

Quarter to Quarter Comparison

Total non-interest expense was $8,671,000 for the third quarter of 2023, an increase of $857,000 compared to the third quarter of 2022.

Salaries and benefits comprise the largest component of non-interest expense. QNB monitors, through the use of various surveys, the competitive salary and benefit information in its markets and makes adjustments when appropriate. Salaries and benefits expense increased $600,000, or 13.7%, to $4,971,000 when comparing the two quarters. Salary expense and related payroll taxes increased $405,000 to $4,132,000 during the third quarter of 2023 compared to the same period in 2022 due to pay increases and filling open positions. Medical and dental premiums, net of employee contributions, increased $161,000 when comparing the two quarters due to timing of medical claims. Retirement and post-retirement costs increased $37,000.

Net occupancy and furniture and equipment expenses combined increased $190,000, or 14.5%, when comparing the third quarters of 2023 and 2022. This is due primarily to increased software maintenance expense. Marketing expense increased $75,000, or 53.2%, to $216,000 for the quarter ended September 30, 2023, due to timing of promotions and community support donations.

Third-party services are comprised of professional services, including legal, accounting, auditing and consulting services, as well as fees paid to outside vendors for support services of day-to-day operations. These support services include correspondent banking services, IT services, statement printing and mailing, investment security safekeeping and supply management services. Third party services expense increased $10,000. Telephone, postage and supplies expense decreased $53,000 primarily due to a reduction in postage and mailing expenses as there was an increase in the use of electronic delivery. State taxes decreased $212,000, or 77.9%, due to lower banks shares tax as there was a decline in capital from year-end 2021 to year-end 2022. FDIC insurance premiums increased $97,000 due to an increase in the assessment rate.

Other non-interest expense increased $150,000, or 19.5%, due to a $74,000 increase in write-offs primarily due to fraud on customer accounts, $46,000 in loan work-out costs as there was a large recovery in 2022 of $45,000 to reimburse the Bank for insurance costs, and an increase in director fees of $26,000.

Nine-Month Comparison

Total non-interest expense was $25,363,000 for the nine-month period ended September 30, 2023, an increase of $1,990,000, or 8.5%, compared to the nine months ended September 30, 2022.

Salaries and benefits expense increased $1,467,000 to $14,309,000 for the nine months ended September 30, 2023 compared to the same period in 2022. Salary and related payroll tax expense increased $1,209,000 during the period, to $12,078,000, medical expense increased $153,000 and retirement and post-retirement costs increased $102,000.

Net occupancy and furniture and equipment expense increased $495,000, or 12.8%, to $4,348,000, due to the reasons described in the quarter to quarter comparison. Marketing expense increased $46,000. FDIC insurance premiums increased $171,000, state taxes

decreased $488,000, and telephone, postage and supplies decreased $121,000, due to the reasons described in the quarter to quarter comparison. Other non-interest expense increased due to the reasons described above in the quarter to quarter comparison.

INCOME TAXES

QNB utilizes an asset and liability approach for financial accounting and reporting of income taxes. As of September 30, 2023, QNB’s net deferred tax asset was $23,859,000. The primary components of deferred taxes are deferred tax assets of which $24,703,000 relates to investment securities fair value adjustments and $1,794,000 relates to the allowance for credit losses on loans, partly offset by a deferred tax liability on interest rate swap fair value adjustments of $2,231,000. As of December 31, 2022, QNB’s net deferred tax asset was $23,077,000 of which $21,565,000 related to investment securities fair value adjustments and $2,212,000 was related to the allowance for loan losses. The increase in the balance of net deferred tax assets when comparing September 30, 2023 to December 31, 2022 of $782,000 is due to the reduction in unrealized losses on available for sale securities contributing $3,138,000 of the increase, partly offset by the unrealized gains on interest rate swaps contributing a reduction of $2,231,000 and a decrease in the allowance for credit losses on loans contributing a reduction of $418,000.

The realizability of deferred tax assets is dependent upon a variety of factors, including the generation of future taxable income, the existence of taxes paid and recoverable, the reversal of deferred tax liabilities and tax planning strategies. Based upon these and other factors, management believes it is more likely than not that QNB will realize the benefits of these remaining deferred tax assets.

Applicable income tax expense was $494,000 for the quarter and $1,942,000 for the nine months ended September 30, 2023, compared to $634,000 for the quarter and $2,105,000 for the nine months ended September 30, 2022, respectively. The effective tax rate for the third quarter and nine-month period ended September 30, 2023 was 17.4% and 18.9%, respectively, compared with 15.7% and 16.7%, respectively, for the same period in 2022. The increase in the effective tax rate for the nine months ended September 30, 2023 is due to the state income tax at the parent company and there was a lower proportion of tax-exempt net interest income to income before taxes for 2023 over 2022.

FINANCIAL CONDITION ANALYSIS

Financial service organizations are challenged to demonstrate they can generate sustainable and consistent earnings growth in a dynamic operating environment. Rate competition for quality loans is anticipated to continue through 2023. It is also anticipated that the rate competition for attracting and retaining deposits may increase in the remainder of 2023, which could result in a lower net interest margin and a decline in net interest income.

QNB’s primary business is accepting deposits and making loans to meet the credit needs of the communities it serves. Loans are the most significant component of earning assets and growth in loans to small businesses and residents of these communities has been a primary focus of QNB. Inherent within the lending function is the evaluation and acceptance of credit risk and interest rate risk. QNB manages credit risk associated with its lending activities through portfolio diversification, underwriting policies and procedures and loan monitoring practices. QNB is committed to make credit available to its customers.

Total assets at September 30, 2023 were $1,684,392,000 compared with $1,668,497,000 at December 31, 2022. Cash and cash equivalents increased $39,242,000 from $15,899,000 at December 31, 2022 to $55,141,000 at September 30, 2023.

The fixed-income securities portfolio represents a significant portion of QNB’s earning assets and is also a primary tool in liquidity and asset/liability management. QNB actively manages its fixed income portfolio to take advantage of changes in the shape of the yield curve and changes in spread relationships in different sectors and for liquidity purposes. Management continually reviews strategies that will result in an increase in the yield or improvement in the structure of the investment portfolio, including monitoring credit and concentration risk in the portfolio. The available-for-sale securities portfolio decreased $41,135,000, due to maturities and prepayments of $38,040,000, sales of $9,081,000 and a negative adjustment in the fair value mark of $4,326,000; this was partly offset by purchases of $11,922,000.

Loans receivable increased $21,065,000 with commercial loans increasing $18,502,000 to $890,047,000 at September 30, 2023, compared with $871,545,000 at year-end 2022.

Deposits grew $64,964,000 from December 31, 2022 to September 30, 2023. Non-interest-bearing demand deposits decreased $39,623,000, with balances of $192,226,000 at September 30, 2023 compared with $231,849,000 at year-end 2022. Interest-bearing demand balances, excluding municipal deposits, decreased $14,469,000, or 4.3%, to $320,117,000, with decreases in personal interest-bearing checking products as customers used funds to paydown higher-yielding loans or moving funds to high-yielding products. The $91,106,000 increase in money market accounts was primarily to a new premium money market product offered to both personal and

business customers. The $118,248,000 decrease in savings was primarily due to declines in the E-Savings on-line product as some of these funds moved to higher-yield certificates of deposit or the new premium money market accounts. Total time deposits increased $114,737,000 from December 31, 2022 to September 30, 2023 as customers took advantage of higher-yielding time deposits, moving from lower-yielding products. Municipal deposit balances increased $31,461,000, to $149,802,000, during the first nine months of 2023. Municipal deposits can be volatile depending on the timing of deposits and withdrawals, and the cash flow needs of the school districts or municipalities. Municipal deposits increase as tax money is received from the local school districts during second and third quarters and it is anticipated that these funds will flow out for the subsequent twelve months as the schools use the funds for operations. These deposits provide an incremental funding source as they are used to fund loans as opposed to borrowing at a higher rate; this improves the net interest margin as it increases the spread related to the net interest margin.

Short-term borrowings decreased 40.1%, from $161,327,000 at December 31, 2022 to $96,703,000 at September 30, 2023. Commercial sweep accounts decreased $22,606,000; these funds may be volatile based on businesses’ receipt and disbursement of funds and is offset by business non-interest-bearing demand accounts. There were $92,018,000 in overnight borrowings from FHLB at December 31, 2022, and none at September 30, 2023; however, during the first quarter of 2023, QNB borrowed $50,000,000 from the FRB under its Bank Term Funding Program and locked in a rate of 4.39%; there are no pre-payment penalties. During the nine months ended September 2023, QNB borrowed long-term debt from the FHLB of $20,000,000 to lock in a low yield. In 2020, QNB borrowed long-term debt from the FHLB of $10,000,000 to lock in a rate at a low yield; this debt matured during the first three months of 2023.

LIQUIDITY

Liquidity represents an institution’s ability to generate cash or otherwise obtain funds at reasonable rates to satisfy demand for loans and deposit withdrawals. QNB attempts to manage its mix of cash and interest-bearing balances, Federal funds sold and investment securities to match the volatility, seasonality, interest sensitivity and growth trends of its loans and deposits. The Company manages its liquidity risk by measuring and monitoring its liquidity sources and estimated funding needs. Liquidity is provided from asset sources through repayments and maturities of loans and investment securities. The portfolio of investment securities classified as available for sale and QNB's policy of selling certain residential mortgage originations in the secondary market also provide sources of liquidity. Core deposits and cash management repurchase agreements have historically been the most significant funding source for QNB. These deposits and repurchase agreements are generated from a base of consumers, businesses and public funds primarily located in the Company’s market area.

Additional sources of liquidity are provided by the Bank’s membership in the FHLB. At September 30, 2023 the Bank had a maximum borrowing availability with the FHLB of approximately $289,114,000, which is net of long-term borrowing outstanding of $20,000,000, a $283,000 letter of credit and accrued interest payable. The maximum borrowing depends upon qualifying collateral assets and the Bank’s asset quality and capital adequacy. In addition, the Bank maintains unsecured Federal funds lines with six correspondent banks totaling $91,000,000. At September 30, 2023 there were no outstanding borrowings under these lines. Future availability under these lines is subject to the policies of the granting banks and may be withdrawn. Additional funding is available at the FRB Discount Window under its Bank Term Funding Program; QNB had $50,000,000 in outstandings at September 30, 2023.

Liquid sources of funds, including cash, available-for-sale and equity investment securities, and loans held-for-sale have decreased $8,738,000 since December 31, 2022, totaling $565,742,000 at September 30, 2023. The reduction in the liquid sources of funds is primarily due to maturities and sales of available-for-sale securities. Growth in deposits provided cash flows of $64,964,000, net proceeds from available-for-sale investment activities provided $35,199,000 and net proceeds from long-term debt provided $10,000,000 in net proceeds; combined, the proceeds enabled the net paydown on short-term borrowings of $64,624,000 and funding for the net growth in loans of $20,847,000. Management expects these liquid sources will be adequate to meet normal fluctuations in loan demand or deposit withdrawals. The investment portfolio is expected to continue to provide sufficient liquidity, as municipal bonds are called or mature and cash flow on mortgage-backed and CMO securities continues to be steady.

Approximately $294,104,000 and $237,645,000 of available-for-sale debt securities at September 30, 2023 and December 31, 2022, respectively, were pledged as collateral for repurchase agreements and deposits of public funds and the FRB short-term borrowing. The level of pledged securities corresponds with the municipal deposit and repurchase agreement balances.

QNB is a member of the Certificate of Deposit Account Registry Services (CDARS) program offered by the Promontory Interfinancial Network, LLC. CDARS is a funding and liquidity management tool used by banks to access funds and manage their balance sheet. It enables financial institutions to provide customers with full FDIC insurance on time deposits over $250,000 that are placed in the program. QNB also has available Insured Cash Sweep (ICS), another program through Promontory Interfinancial Network, LLC, which is a product similar to CDARS, but one that provides liquidity like a money market or savings account.

CAPITAL ADEQUACY

A strong capital position is fundamental to support continued growth and profitability and to serve the needs of depositors. QNB's shareholders' equity at September 30, 2023 was $74,081,000, or 4.40% of total assets, compared with shareholders' equity of $70,958,000, or 4.25% of total assets, at December 31, 2022. Shareholders’ equity at September 30, 2023 included a negative adjustment of $84,544,000 compared to a negative adjustment of $81,127,000 at December 31, 2022, related to net unrealized holding losses, net of taxes, on investment securities available-for-sale and gains on fair value hedges, net of tax. Without these adjustments, shareholders' equity to total assets would have been 8.97% and 8.69% at September 30, 2023 and December 31, 2022, respectively.

Average shareholders' equity and average total assets were $156,499,000 and $1,737,417,000 for the nine months ended September 30, 2023, an increase of 8.2% and 2.1%, respectively, from the averages for the nine months ended September 30, 2022. The ratio of average total equity to average total assets was 9.01% for the nine months ended September 30, 2023 compared to 8.50% for the same period in 2022.

Retained earnings at September 30, 2023 were impacted by nine months of net income totaling $8,349,000 and the cumulative effect of a change in accounting policy of $857,0000, offset by dividends declared and paid of $3,997,000 for the nine-month period. QNB offers a Dividend Reinvestment and Stock Purchase Plan (the “Plan”) to provide participants a convenient and economical method for investing cash dividends paid on the Company’s common stock in additional shares. The Plan also allows participants to make additional cash purchases of stock. Stock purchases under the Plan contributed $1,131,000 to capital during the nine months ended September 30, 2023.

The Board of Directors has authorized the repurchase of up to 200,000 shares of QNB common stock in open market or privately negotiated transactions. The repurchase authorization does not bear a termination date. As of September 30, 2023, 102,000 shares have been repurchased since the initial authorization at an average price of $24.93 and a total cost of $2,543,000.

QNB is subject to various regulatory capital requirements as issued by Federal regulatory authorities. Regulatory capital is defined in terms of Tier 1 capital and Tier 2 capital. Risk-based capital ratios are expressed as a percentage of risk-weighted assets. Risk-weighted assets are determined by assigning various weights to all assets and off-balance sheet arrangements, such as letters of credit and loan commitments, based on associated risk.

The required minimum Common equity Tier 1 capital to risk-weighted assets ratio is 4.5%, the required minimum ratio of Tier 1 capital to risk-weighted assets is 6.0%, the required minimum ratio of Total Capital to risk-weighted assets is 8.0%, and the required minimum Tier 1 leverage ratio is 4.0%. A capital conservation buffer of 2.5% of risk-weighted assets also applies to avoid limitations on certain capital distributions.

The following table sets forth consolidated information for QNB:


	September 30,			December 31,
Capital Analysis	2023			2022
Regulatory Capital
Shareholders' equity	$	74,081		$	70,958
Net unrealized securities losses, net of tax		84,544			81,127
Deferred tax assets on net operating loss		—			—
Disallowed intangible assets		(8	)		(8	)
Common equity tier I capital		158,617			152,077

Tier 1 capital		158,617			152,077
Allowable portion: Allowance for loan losses and reserve for unfunded commitments		8,645			10,648
Total regulatory capital	$	167,262		$	162,725
Risk-weighted assets	$	1,257,110		$	1,233,758
Quarterly average assets for leverage capital purposes	$	1,773,130		$	1,737,671


	September 30,			December 31,
Capital Ratios	2023			2022
Common equity tier I capital / risk-weighted assets		12.62	%		12.33	%
Tier 1 capital / risk-weighted assets		12.62			12.33
Total regulatory capital / risk-weighted assets		13.31			13.19
Tier 1 capital / average assets (leverage ratio)		8.95			8.75

At September 30, 2023, common equity Tier 1, Tier 1 capital, and total regulatory capital ratios improved since December 31, 2022. The Company remains well-capitalized by all applicable regulatory requirements as of September 30, 2023.

ITEM 3. QUANTITATIVE AND QUALITATI VE DISCLOSURE ABOUT MARKET RISK

MARKET RISK MANAGEMENT

Market risk reflects the risk of economic loss resulting from changes in interest rates and market prices. QNB’s primary market risk exposure is interest rate risk and liquidity risk. QNB’s liquidity position was discussed in a prior section.

QNB’s largest source of revenue is net interest income, which is subject to changes in market interest rates. Interest rate risk management seeks to minimize the effect of interest rate changes on net interest margins and interest rate spreads and to provide growth in net interest income through periods of changing interest rates. QNB’s Asset/Liability and Investment Management Committee (ALCO) is responsible for managing interest rate risk and for evaluating the impact of changing interest rate conditions on net interest income.

QNB uses computer simulation analysis to measure the sensitivity of projected earnings to changes in interest rates. Simulation considers current balance sheet volumes and the scheduled repricing dates, instrument level optionality, and maturities of assets and liabilities. It incorporates assumptions for growth, changes in the mix of assets and liabilities, prepayments, and average rates earned and paid. Based on this information, management uses the model to project net interest income under multiple interest rate scenarios.

A balance sheet is considered asset sensitive when its assets (investment securities and loans) reprice faster than its interest-bearing liabilities (deposits and borrowings). An asset sensitive balance sheet will produce relatively higher net interest income when interest rates rise and less net interest income when they decline. A balance sheet is considered liability sensitive when its liabilities (deposits and borrowings) reprice faster than its earning assets (investments securities and loans). A liability sensitive balance sheet will produce relatively less net interest income when interest rates rise and more net interest income when they decline. Based on our simulation analysis, management believes QNB’s interest sensitivity position at September 30, 2023 is asset sensitive. Management expects that market interest rates may increase over the next 12 months, based on the economic environment and policy of the Board of Governors of the Federal Reserve System.

The following table shows the estimated impact of changes in interest rates on net interest income as of September 30, 2023 and 2022 assuming instantaneous rate shocks, and consistent levels of assets and liabilities. Net interest income for the subsequent twelve months is projected to decrease when interest rates are higher than current rates.


Estimated Change in Net Interest Income
Changes in Interest rates	September 30,
(in basis points)	2023			2022
+300		9.36	%		-12.89	%
+200		6.27	%		-8.46	%
+100		3.14	%		-4.16	%
-100		-3.57	%		2.88	%
-200		-8.09	%		3.73	%
-300		-13.63	%		-2.28	%

Computations of future effects of hypothetical interest rate changes are based on numerous assumptions and should not be relied upon as indicative of actual results. Assets and liabilities may react differently than projected to changes in market interest rates. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while rates on other types of assets and liabilities may lag changes in market interest rates. Interest rate shifts may not be parallel.

Changes in interest rates can cause substantial changes in the amount of prepayments of loans and mortgage-backed securities, which may in turn affect QNB’s interest rate sensitivity position. Additionally, credit risk may rise if an interest rate increase adversely affects the ability of borrowers to service their debt. At September 30, 2023, QNB had two derivatives designated as fair value hedging instruments, these interest rate swaps had a notional value of $300,000,000.

QNB is not subject to foreign currency exchange or commodity price risk.

ITEM 4. CONTROLS AND PROCEDURES

We maintain a system of controls and procedures designed to provide reasonable assurance as to the reliability of the consolidated financial statements and other disclosures included in this report, as well as to safeguard assets from unauthorized use or disposition. We evaluated the effectiveness of the design and operation of our disclosure controls and procedures under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective as of the end of the period covered by this report. No changes were made to our internal control over financial reporting during the nine month period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

QNB CORP. AND SUBSIDIARY

PART II. OTHE R INFORMATION

September 30, 2023

Item 1. Legal Proceedings

No material proceedings.

Item 1A. Ri sk Factors

There were no material changes to the Risk Factors described in Item 1A in QNB’s Annual Report on Form 10-K for the period ended December 31, 2023.

Item 2. Unregistered Sales of Equi ty Securities and Use of Proceeds

QNB did not repurchase shares of its common stock during the quarter ended September 30, 2023. The following provides certain information relating to QNB's stock repurchase plan.


Period	Total Number of Shares Purchased		Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plan		Maximum Number of Shares that may yet be Purchased Under the Plan

July 1, 2023 through July 31, 2023		—	$	—		—		98,000
August 1, 2023 through August 31, 2023		—		—		—		98,000
September 1, 2023 through September 30, 2023		—		—		—		98,000
Total		—	$	—		—		98,000

(1)

Transactions are reported as of trade dates.

(2)

QNB’s current stock repurchase plan was approved by its Board of Directors and announced on January 24, 2008, increased on February 9, 2009 and subsequently increased on April 27, 2021.

(3)

The total number of shares approved for repurchase under QNB’s current stock repurchase plan is 200,000.

(4)

QNB’s current stock repurchase plan has no expiration date.

(5)

QNB has no stock repurchase plan that it has determined to terminate or under which it does not intend to make further purchases.

Item 3. Default Upon Senior Securities

None.

Item 4. Mine Saf ety Disclosures

None.

Item 5. Other Information

None.

Item 6. Exhibits


Exhibit 3.1		Articles of Incorporation of Registrant, as amended. (Incorporated by reference to Exhibit 3(i) of Registrant’s Annual Report on Form 10-K, SEC File No. 0-17706, filed with the Commission on September 13, 2015.)

Exhibit 3.2		By-laws of Registrant, as amended January 26, 2021. (Incorporated by reference to Exhibit 3.1 of the Registrant's Report on Form 8-K, SEC File No. 0-17706, filed with the Commission on January 27, 2021 . )

Exhibit 10.10		QNB Corp. 2023 Non-Employee Director Compensation Plan. (Incorporated by reference to Appendix A to QNB Corp.'s proxy statement, filed April 11, 2023)

Exhibit 10.11		QNB Bank Nonqualified deferred Compensation Plan effective August 1, 2023

Exhibit 31.1		Section 302 Certification of Chief Executive Officer

Exhibit 31.2		Section 302 Certification of Chief Financial Officer

Exhibit 32.1		Section 1350 Certification of Chief Executive Officer

Exhibit 32.2		Section 1350 Certification of Chief Financial Officer

The following Exhibits are being furnished* as part of this report:


No.		Description

101.SCH		iXBRL Taxonomy Extension Schema Document.*
101.CAL		iXBRL Taxonomy Extension Calculation Linkbase Document.*
101.LAB		iXBRL Taxonomy Extension Label Linkbase Document.*
101.PRE		iXBRL Taxonomy Extension Presentation Linkbase Document.*
101.DEF		iXBRL Taxonomy Extension Definitions Linkbase Document.*
104		Cover Page Interactive Data File (formatted as inline iXBRL and contained in Exhibit 101)

* These interactive data files are being furnished as part of this Quarterly Report, and, in accordance with Rule 402 of Regulation S-T, shall not be deemed filed for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability under those sections.

SIGNAT URES

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.


	QNB Corp.

Date: November 8, 2023	By:	/s/ David W. Freeman
		David W. Freeman
		Chief Executive Officer

Date: November 8, 2023	By:	/s/ Jeffrey Lehocky
		Jeffrey Lehocky
		Chief Financial Officer

Date: November 8, 2023	By:	/s/ Mary E. Liddle
		Mary E. Liddle
		Chief Accounting Officer, QNB Bank

TABLE OF CONTENTS

Item 2. Management's Discussion and Analysis Of Financial Condition and Results Of Operations Item 2. Management's Discussion and Analysis Of Item 3. Quantitative and Qualitative Disclosure About Market Risk Item 3. Quantitative and Qualitati Item 4. Controls and Procedures Item 4. Controls Part II. Other Information Part II. Othe Item 1. Legal Proceedings Item 1A. Risk Factors Item 2. Unregistered Sales Of Equity Securities and Use Of Proceeds Item 3. Default Upon Senior Securities Item 4. Mine Safety Disclosures Item 5. Other Information Item 6. Exhibits

Exhibits

Exhibit 3.1 Articles of Incorporation of Registrant, as amended. (Incorporated by reference to Exhibit 3(i) of Registrants Annual Report on Form 10-K, SEC File No. 0-17706, filed with the Commission on September 13, 2015.) Exhibit 3.2 By-laws of Registrant, as amended January 26, 2021. (Incorporated by reference to Exhibit 3.1 of the Registrant's Report on Form 8-K, SEC File No. 0-17706, filed with the Commission on January 27, 2021.) Exhibit 10.11 QNB Bank Nonqualified deferred Compensation Plan effective August 1, 2023 Exhibit 31.1 Section 302 Certification of Chief Executive Officer Exhibit 31.2 Section 302 Certification of Chief Financial Officer Exhibit 32.1 Section 1350 Certification of Chief Executive Officer Exhibit 32.2 Section 1350 Certification of Chief Financial Officer

QNBC 10-Q Quarter ended Sept. 30, 2023

Exhibits