CIVISTA BANCSHARES, INC. (CIVB) FY 2024 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Amounts in thousands, except per share data)

General

The following paragraphs more fully discuss the significant highlights, changes and trends as they relate to the Company’s financial condition, results of operations, liquidity and capital resources as of December 31, 2024 and 2023, and during the three-year period ended December 31, 2024. This discussion should be read in conjunction with the Consolidated Financial Statements and Notes to the Consolidated Financial Statements, which are included elsewhere in this report.

Financial Condition

At December 31, 2024, the Company’s total assets were $4,098,469, compared to $3,861,418 at December 31, 2023. Net loans and securities available for sale increased $216,993 and $29,795 from December 31, 2023, to December 31, 2024, respectively. Other factors contributing to the change in assets are discussed in the following sections.

Loans held for sale decreased $1,060, from $1,725 at December 31, 2023 to $665 at December 31, 2024. The decrease is due to lower balances of held loans. At December 31, 2024, six loans totaling $665 were held for sale as compared to nine loans totaling $1,725 at December 31, 2023.

At December 31, 2024, the Company’s net loans totaled $3,041,561 and increased by 7.7% from $2,824,568 at December 31, 2023. The increase in net loans was spread across most segments. Commercial & Agriculture loans increased $23,695, Commercial Real Estate - Non-Owner Occupied loans increased $64,097, Residential Real Estate loans increased $104,028, and Real Estate Construction loans increased $45,583. The increases in the foregoing loan segments were partially offset by decreases of $17,901 in total for the remaining loan segments.

Maturities and Sensitivities of Loans to Changes in Interest Rates

The following table shows the amount of Commercial and Agriculture, Commercial Real Estate, Residential Real Estate, Real Estate Construction, Farm Real Estate, Lease financing receivables and Consumer and Other Loans outstanding as of December 31, 2024, which, based on the contract terms for repayments of principal, are due in the periods indicated. In addition, the amounts due after one year are classified according to their sensitivity to changes in interest rates.

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The preceding maturity information is based on contract terms at December 31, 2024 and does not include any possible “rollover” at maturity date. In the normal course of business, Civista considers and acts on the borrowers’ requests for renewal of loans at maturity. Evaluation of such requests includes a review of the borrower’s credit history, the collateral securing the loan and the purpose for such request.

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Analysis of the Allowance for Credit Losses

The following table shows the daily average loan balances and changes in the allowance for credit losses for the years indicated.

The amount of net charge-offs fluctuates from year to year due to factors relating to the condition of the general economy, decline in market values of collateral and deterioration of specific businesses.

The determination of the balance of the allowance for credit losses is based on the CECL methodology and utilizes a lifetime “expected credit loss” measurement objective for the recognition of credit losses for loans, held-to-maturity

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securities and other receivables at the time the financial asset is originated or acquired. The expected credit losses are adjusted each period for changes in expected lifetime credit losses. The methodology replaces the multiple existing impairment methods under prior GAAP, which generally require that a loss be incurred before it is recognized. In management’s judgment, the CECL methodology produces a result that is adequate to provide for future probable credit losses.

Allocation of Allowance for Credit Losses

The following tables allocate the allowance for credit losses at December 31, 2024, 2023, and 2022, to each loan category. The allowance has been allocated according to the amount deemed to be reasonably necessary to provide for expected lifetime credit losses within the following categories of loans at the dates indicated.

Civista measures the adequacy of the allowance for credit losses by using the CECL methodology and utilizes a lifetime “expected credit loss” measurement objective for the recognition of credit losses for loans, held-to-maturity securities and other receivables at the time the financial asset is originated or acquired. The allowance for credit losses to total loans decreased slightly from 1.30% in 2023 to 1.29% in 2024.

Securities available for sale increased by $29,795, or 4.8%, from $618,272 at December 31, 2023 to $648,067 at December 31, 2024. U.S. Treasury securities and obligations of U.S. government agencies increased $29,729, or 43.9% from $67,658 at December 31, 2023 to $97,387 at December 31, 2024. Mortgage-backed securities increased $13,546, or 6.4%, from $212,015 at December 31, 2023 to $225,561 at December 31, 2024. Obligations of states and political subdivisions available for sale decreased by $13,480 from 2023 to 2024. The Company continues to utilize letters of credit from the Federal Home Loan Bank ("FHLB") to replace maturing securities that were pledged for public entities. As of December 31, 2024, the Company was in compliance with all applicable pledging requirements.

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Mortgage-backed securities totaled $225,561 at December 31, 2024 and none were considered unusual or “high risk” securities as defined by regulatory authorities. Of this total, $192,035 consisted of pass-through securities issued by the Federal National Mortgage Association (“FNMA”), Federal Home Loan Mortgage Corporation (“FHLMC”), and Government National Mortgage Association (“GNMA”), and the remaining $33,526 of these securities were collateralized by mortgage-backed securities issued or guaranteed by FNMA, FHLMC, or GNMA. The average interest rate of the mortgage-backed securities portfolio at December 31, 2024 was 3.08%. The average maturity at December 31, 2024 was approximately 14.8 years.

Securities available for sale had a fair value at December 31, 2024 of $648,067. This fair value includes unrealized gains of approximately $882 and unrealized losses of approximately $62,873. Net unrealized losses totaled $61,991 at December 31, 2024 compared to net unrealized losses of $54,620 at December 31, 2023. The change in unrealized losses is primarily due to changes in market interest rates. Note 3 to the Consolidated Financial Statements provides additional information on unrealized gains and losses.

The following table sets forth the maturities of securities at December 31, 2024 and the weighted average yields of such debt securities. Maturities are reported based on stated maturities and do not reflect principal prepayment assumptions.

(1)
Weighted average yields on nontaxable obligations have been computed based on actual yields stated on the security.

(2)
The weighted average yield has been computed using the historical amortized cost for available-for-sale securities.

Premises and equipment, net of accumulated depreciation, decreased $9,603 from December 31, 2023 to December 31, 2024. The decrease is the result of depreciation of $9,545 and net disposals exceeding new purchases by $58.

Goodwill remained unchanged from December 31, 2023 to December 31, 2024 at $125,520. Other intangible assets decreased $1,625 from year-end 2023. The decrease includes $1,484 of amortization on core deposit intangibles and a decrease of $141 of mortgage servicing rights.

Swap assets decreased $7,173 from December 31, 2023 to December 31, 2024. The decrease is primarily the result of $6,330 in cash collateral posted by counterparties at December 31, 2024 that is netted against the fair value of the swap asset.

Bank owned life insurance ("BOLI") increased $1,448 from December 31, 2023 to December 31, 2024. The difference is the result of increases in the cash surrender value of the underlying insurance policies partially offset by death benefits on life insurance policies held on two former employees.

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Year-end deposit balances totaled $3,211,870 in 2024 compared to $2,985,028 in 2023, an increase of $226,842, or 7.6%. This increase in deposits at December 31, 2024 compared to December 31, 2023 included increases in savings and money market accounts of $289,172, or 33.5%, and certificate of deposit accounts of $44,085, or 5.1%, partially offset by decreases in noninterest bearing demand deposits of $76,605, or 9.9% and interest bearing demand accounts of $29,866 or 6.6%. Average deposit balances for 2024 were $3,086,961 compared to $2,852,037 for 2023, an increase of 8.2%. Noninterest bearing deposits averaged $701,397 for 2024, compared to $917,005 for 2023, decreasing $215,608, or 23.5%, which is primarily due to the closure of our former tax refund processing program. Savings, NOW, and MMDA accounts averaged $1,000,865 for 2024 compared to $855,946 for 2023, increasing $144,919, or 16.9%, primarily due to deposits associated with the Ohio Home Buyers Program. Average certificates of deposit increased $381,033 to total an average balance of $959,276 for 2024.

The average daily amount of deposits (all in domestic offices) and average rates paid on such deposits is summarized for the years indicated.

Uninsured deposits at December 31, 2024 and 2023 were $431,713 and $499,429, respectively. Uninsured deposits as of December 31, 2024 and 2023 are based on estimates and include portions of FDIC-insured deposit accounts that exceed the insurance limit of $250,000 per separately insured depositor.

Maturities of certificates of deposits and individual retirement accounts (IRAs) of more than $250,000 outstanding at December 31, 2024 are summarized as follows.

Other borrowings decreased $3,566 from December 31, 2023 to December 31, 2024. Other borrowings decreased due to lower borrowings at the CLF division.

Civista no longer offers repurchase agreements in the form of sweep accounts to commercial checking account customers, as of July 2023. These repurchase agreements totaled $0 at December 31, 2024 compared to $0 at December 31, 2023 and $25,143 at December 31, 2022. U.S. Treasury securities and obligations of U.S. government agencies maintained under Civista’s control were pledged as collateral for the repurchase agreements.

Swap liabilities decreased $843 from December 31, 2023 to December 31, 2024. The decrease is primarily the result of decreases in the fair value of swap liabilities as compared to December 31, 2023.

Total shareholders’ equity increased $16,500, or 4.4%, during 2024 to $388,502. Shareholders' equity increased due to net income of $31,683, partially offset by $10,063 of dividends on common shares and $164 of repurchases of common shares as treasury shares. Additionally, $871 was recognized as stock-based compensation in 2024 in connection with the grant of restricted common shares. Accumulated other comprehensive loss decreased $5,827 due to a decrease in the fair value of securities available for sale, net of tax. For further explanation of these items, see Note 1, Note 15 and Note 16 to the Consolidated Financial Statements. The Company paid $0.64 per common share in dividends in 2024 compared to $0.61 per common share in dividends in 2023.

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Total outstanding common shares at December 31, 2024 were 15,487,667, which increased from 15,695,424 common shares outstanding at December 31, 2023. Common shares outstanding was impacted by the Company’s repurchase of 8,956 common shares during 2024 at an average repurchase price of $18.31. The Company repurchased 8,262 common shares pursuant to its stock repurchase program announced on May 8, 2023, pursuant to which the Company is authorized to repurchase a maximum aggregate value of $13,500 of the Company’s common shares until May 2, 2024. An additional 694 common shares were surrendered by officers to the Company to pay taxes upon vesting of restricted shares and 1,518 restricted common shares previously issued to officers were forfeited and 250,148 restricted shares issued as contingent consideration in the VFG acquisition were forfeited, as the measurement period expired and required lease thresholds were not met. The repurchase of common shares was offset by the grant of 42,239 restricted common shares to certain officers in 2024 under the Company’s 2014 Incentive Plan. In addition, 10,626 common shares were issued to Civista directors in 2024 as a retainer payment for service on the Civista Board of Directors.

Results of Operations

The operating results of the Company are affected by general economic conditions, the monetary and fiscal policies of federal agencies and the regulatory policies of agencies that regulate financial institutions. The Company’s cost of funds is influenced by interest rates on competing investments and general market rates of interest. Lending activities are influenced by the demand for real estate loans and other types of loans, which in turn is affected by the interest rates at which such loans are made, general economic conditions and the availability of funds for lending activities.

The Company’s net income primarily depends on its net interest income, which is the difference between the interest income earned on interest-earning assets, such as loans and securities, and interest expense incurred on interest-bearing liabilities, such as deposits and borrowings. The level of net interest income is dependent on the interest rate environment and the volume and composition of interest-earning assets and interest-bearing liabilities. Net income is also affected by provisions for credit losses, service charges, gains on the sale of assets, other non-interest income, noninterest expense and income taxes.

Comparison of Results of Operations for the Years Ended December 31, 2024 and December 31, 2023

Net Income

The Company’s net income for the year ended December 31, 2024 was $31,683, compared to $42,964 for the year ended December 31, 2023. The change in net income was the result of the items discussed in the following sections.

Net Interest Income

Net interest income for 2024 was $116,710, a decrease of $8,786, or 7.0%, from 2023. From 2023 to 2024, average interest-earning assets increased $263,582, which increased interest income by $23,961, while average interest-bearing liabilities increased $435,723, which increased interest expense by $32,747. The Company continually examines its rate structure to ensure that its interest rates are competitive and reflective of the current rate environment in which it competes.

Total interest income increased $23,961 to $206,695 for the year ended December 31, 2024, which was attributable to an increase of $22,823 in interest and fees on loans. This change was the result of an increase in the average balance of loans, accompanied by a higher yield on the portfolio. The average balance of loans increased by $262,115, or 9.6%, to $2,984,912 for the year ended December 31, 2024, as compared to $2,722,797 for the year ended December 31, 2023. The loan yield increased to 6.15% for 2024, from 5.90% in 2023.

Interest on taxable securities increased $921 to $12,639 for the year ended December 31, 2024, compared to $11,718 for the same period in 2023. The average balance of taxable securities decreased $6,717 to $357,255 for the year ended December 31, 2024, as compared to $363,972 for the year ended December 31, 2023. The yield on taxable securities increased 30 basis points to 3.18% for 2024, compared to 2.88% for 2023. Interest on tax-exempt securities increased $191 to $9,473 for the year ended December 31, 2024, compared to $9,282 for the same period in 2023. The average balance of tax-exempt securities increased $9,155 to $291,833 for the year ended December 31, 2024 as compared to $282,678 for the year ended December 31, 2023. The yield on tax-exempt securities increased 6 basis points to 3.85% for 2024 compared to 3.79% for 2023.

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Total interest expense increased $32,747, or 57.2%, to $89,985 for the year ended December 31, 2024, compared to $57,238 for the same period in 2023. The increase in interest expense can be attributed to an increase in the average rate paid, accompanied by an increase in the average balance of interest-bearing liabilities. For the year ended December 31, 2024, the average balance of interest-bearing liabilities increased $435,723 to $2,841,378, as compared to $2,405,655 for the year ended December 31, 2023. Interest incurred on deposits increased by $32,046 to $65,801 for the year ended December 31, 2024, compared to $33,755 for the same period in 2023. The increase in deposit expense was due to a increase in the average rate paid, as the average rate paid on demand and savings accounts increased from 0.57% in 2023 to 1.53% in 2024 and the average rate paid on time deposits increased from 4.51% in 2023 to 4.58% in 2024, which was coupled with an increase in the average balance of interest-bearing deposits of $450,532 for the year ended December 31, 2024 as compared to the same period in 2023. Interest expense incurred on FHLB advances and subordinated debentures increased 20.7% from 2023. The increase was due to an increase in the average balance of short-term FHLB balances and subordinated debentures to $341,692 and $104,017, respectively, accompanied by an increase in rates.

Refer to “Distribution of Assets, Liabilities and Shareholders’ Equity; Interest Rates and Interest Differential” and “Changes in Interest Income and Interest Expense Resulting from Changes in Volume and Changes in Rate” on pages 43 through 44 for further analysis of the impact of changes in interest-bearing assets and liabilities on the Company’s net interest income.

Provision and Allowance for Credit Losses

The Company’s policy is to maintain the allowance for credit losses at a level sufficient to provide for probable future losses in the current portfolio. Management believes the analysis of the allowance for credit losses supported a reserve of $39,669 at December 31, 2024. The Company provides for credit losses through regular provisions to the allowance for credit losses as necessary. The amount of the provision is affected by loan charge-offs, recoveries and changes in specific and general allocations required for the allowance for credit losses. A number of factors impact the provisions for credit losses, such as the level of higher risk loans in the portfolio, changes in practices related to loans, changes in collateral values and other factors. We continue to actively manage this process and have provided to maintain the reserve at a level that assures adequate coverage ratios.

Provisions for credit losses totaled $5,364 in 2024, $4,435 in 2023 and $1,752 in 2022. The Company’s provision for credit losses increased $929 during 2024, as compared to 2023, primarily to support organic loan growth in the portfolio.

Efforts are continually made to analyze each segment of the loan portfolio and quantify risk to assure that reserves are appropriate for each segment and the overall portfolio. Management specifically evaluates loans that are indivdually evaluated, which includes restructured loans, to estimate potential loss. This analysis includes a review of the loss migration calculation for all loan categories as well as fluctuations and trends in various risk factors that have occurred within the portfolios’ economic life cycle. The analysis also includes assessment of qualitative factors such as credit trends, unemployment trends, vacancy trends and loan growth. The composition and overall level of the loan portfolio and charge-off activity are also factors used to determine the amount of the allowance for credit losses.

Management analyzes each individually evaluated commercial and commercial real estate loan relationship with a balance of $350 or larger, on an individual basis and when it is in nonaccrual status or when an analysis of the borrower’s operating results and financial condition indicates that underlying cash flows are not adequate to meet its debt service requirements. Loans held for sale are excluded from consideration as individually evaluated. Loans are generally moved to nonaccrual status when 90 days or more past due. Individually evaluated loans or portions thereof are charged-off when deemed uncollectible.

Noninterest Income

Noninterest income increased $585, or 1.6%, to $37,748 for the year ended December 31, 2024, from $37,163 for the comparable 2023 period. The increase was primarily due to increases in net gain on sale of loans and leases of $1,530, lease revenue and residual income of $1,316, bank owned life insurance of $1,093 and wealth management fees of $752, which were partially offset by decreases in service charges of $1,092 and the discontinuation of the tax refund processing center.

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Net gain on sale of loans and leases increased by $1,530 for 2024, primarily as a result of an increase in volume of loans sold. During the twelve-months ended December 31, 2024, 530 loans were sold, totaling $123,670. During the twelve-months ended December 31, 2023, 349 loans were sold, totaling $103,036. Lease revenue and residual income increased due to higher income from leasing operations at CLF. Bank owned life insurance increased by $1,093, primarily due to the receipt of death benefits on life insurance policies on two former employees in the amount of $699. Service charges decreased by $1,092 as the Company eliminated its representment fee and reduced overdraft charges.

Noninterest Expense

Noninterest expense increased $4,909, or 4.6%, to $112,520 for the year ended December 31, 2024, from $107,611 for the comparable 2023 period. The increase was primarily due to increases in compensation expense of $3,530, FDIC assessments of $994, professional services of $827 and software expense of $777, partially offset by decreases in equipment expense of $1,532.

The increase in compensation expense was due to increased payroll and payroll taxes, both related to merit increases, and an increase in employee insurance. The average full time equivalent ("FTE") employees was 531 at December 31, 2024, relatively flat from 2023. Software expense increased due to a general increase in legacy software maintenance contracts as well as new software contracts aimed at improving our ability to detect, deter, and mitigate fraud and fraud related losses. The increase in FDIC assessments was attributable to higher assessment multipliers charged to Civista. The increase in professional services was mainly due to utilizing consultants as we transitioned in our new finance team due to several tenured employee departures in 2024. The decrease in equipment expense was related to operating lease contracts, as our CLF division continues to originate fewer operating leases coupled with purchasing residual value insurance on those operating leases with a goal of eventually eliminating depreciation expense related to operating leases.

Income Tax Expense

Income tax expense was $4,891 in 2024 compared to $7,649 in 2023. Income tax expense as a percentage of pre-tax income was 13.4% in 2024 compared to 15.1% in 2023. A lower federal effective tax rate than the statutory rate of 21% in 2024 and 2023 is primarily due to tax-exempt interest income from state and municipal investments, municipal loans, income from BOLI and low income housing tax credits.

Comparison of Results of Operations for the Years Ended December 31, 2023 and December 31, 2022

A discussion regarding our financial condition and results of operations for the year ended December 31, 2023 and year-to-year comparisons between 2023 and 2022, which are not included in this Annual Report on Form 10-K, can be found under "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2023 and are incorporated by reference herein.

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Changes in Interest Income and Interest Expense

Resulting from Changes in Volume and Changes in Rate

The following table sets forth, for the periods indicated, a summary of the changes in interest income and interest expense resulting from changes in volume and changes in rate (Amounts in thousands):

(1)
The change in interest income and interest expense due to changes in both volume and rate, which cannot be segregated, has been allocated proportionately to the change due to volume and the change due to rate.

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Distribution of Assets, Liabilities and Shareholders’ Equity;

Interest Rates and Interest Differential

The following table sets forth, for the years ended December 31, 2024, 2023 and 2022, the distribution of assets, including interest amounts and average rates of major categories of interest-earning assets and noninterest-earning assets (Amounts in thousands):

(1)
For purposes of these computations, the daily average loan amounts outstanding are net of unearned income and include loans held for sale.

(2)
Included in loan interest income are loan fees of $2,952 in 2024, $2,960 in 2023 and $2,024 in 2022.

(3)
Non-accrual loans are included in loan totals and do not have a material impact on the analysis presented.

(4)
Average balance is computed using the carrying value of securities. The average yield has been computed using the historical amortized cost average balance for available for sale securities.

(5)
Yield/Rate is calculated using the tax-equivalent adjustment of 21% for 2024, 2023 and 2022.

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Distribution of Assets, Liabilities and Shareholders’ Equity;

Interest Rates and Interest Differential (Continued)

The following table sets forth, for the years ended December 31, 2024, 2023 and 2022, the distribution of liabilities, including interest amounts and average rates of major categories of interest-bearing liabilities and shareholders’ equity (Amounts in thousands):

(1)
Interest rate spread is calculated by subtracting the rate on average interest-bearing liabilities from the yield on average interest-earning assets.

(2)
Net interest margin is calculated by dividing tax-equivalent adjusted net interest income by average interest-earning assets.

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Liquidity and Capital Resources

Civista maintains a conservative liquidity position. All securities, with the exception of equity securities, are classified as available for sale. At December 31, 2024, securities with maturities of one year or less totaled $3,227, or 0.5% of the total securities portfolio. The available for sale portfolio helps to provide Civista with the ability to meet its funding needs. The Consolidated Statements of Cash Flows contained in the Consolidated Financial Statements detail the Company’s cash flows from operating activities resulting from net earnings.

Net cash provided by operating activities was $48,246, $62,698 and $25,183 for 2024, 2023 and 2022, respectively. The primary additions to cash from operating activities are from net income, adjusted for amortization of intangible assets, amortization of securities net of accretion, the provision for credit losses, depreciation and proceeds from sale of loans. The primary use of cash from operating activities is from loans originated for sale. Net cash used for investing activities was $258,801, $311,784 and $410,364 in 2024, 2023 and 2022, respectively, principally reflecting our loan and investment security activities. Deposits, borrowings, and cash dividends paid to shareholders' comprised most of our financing activities, which resulted in net cash provided of $213,304, $266,131 and $164,303 in 2024, 2023 and 2022, respectively.

Future loan demand of Civista can be funded by increases in deposit accounts, proceeds from payments on existing loans, the maturity of securities and the sale of securities classified as available for sale. Additional sources of funds may also come from borrowing in the Federal Funds market and/or borrowing from the FHLB. As of December 31, 2024, Civista had total credit availability with the FHLB of $839,034, of which $370,133 was available.

On a separate entity basis, CBI’s primary source of funds is dividends paid by its subsidiaries, primarily by Civista. Generally, subject to applicable minimum capital requirements, Civista may declare and pay a dividend without the approval of the Federal Reserve Bank of Cleveland (the “Federal Reserve Bank”) and the ODFI, provided the total dividends in a calendar year do not exceed the total of its profits for that year combined with its retained profits for the two preceding years. At December 31, 2024, Civista was able to pay approximately $51,007 of dividends to CBI without obtaining regulatory approval. During 2024, Civista paid dividends totaling $20,300 to CBI. This represented approximately 57 percent of Civista’s earnings for the year.

The Company manages its liquidity and capital through quarterly Asset/Liability Management Committee ("ALCO") meetings. The ALCO discusses issues like those in the above paragraphs as well as others that may affect the future liquidity and capital position of the Company. The ALCO also examines interest rate risk and the effect that changes in rates will have on the Company. For more information about interest rate risk, please refer to “Item 7A. Quantitative and Qualitative Disclosures about Market Risk” section below.

Capital Adequacy

Shareholders’ equity totaled $388,502 at December 31, 2024 compared to $372,002 at December 31, 2023. The increase in shareholders’ equity resulted primarily from net income of $31,683, which was partially offset by dividends on common shares of $10,063 and a decrease in the fair value of securities available for sale, net of tax, of $5,827.

During the first quarter of 2015, the Company adopted the new BASEL III regulatory capital framework as approved by the federal banking agencies. In addition to the other required capital ratios, the BASEL III rules also require the Company to maintain minimum amounts and ratios of Common Equity Tier 1 (“CET1”) capital to risk-weighted assets (as these terms are defined in the BASEL III rules). Under the BASEL III rules, the Company elected to opt-out of including accumulated other comprehensive income in regulatory capital.

Common equity for the CET1 risk-based capital ratio includes common stock (plus related surplus) and retained earnings, plus limited amounts of minority interests in the form of common stock, less the majority of certain regulatory deductions.

Tier 1 capital includes common equity as defined for the CET1 risk-based capital ratio, plus certain non-cumulative preferred stock and related surplus, cumulative preferred stock and related surplus and trust preferred securities that have been grandfathered (but which are not permitted going forward), and limited amounts of minority interests in the form of additional Tier 1 capital instruments, less certain deductions.

Tier 2 capital, which can be included in the total capital ratio, includes certain capital instruments (such as subordinated debt) and limited amounts of the allowance for credit losses, subject to certain eligibility criteria, less applicable deductions.

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The deductions from CET1 capital include goodwill and other intangibles, certain deferred tax assets, mortgage-servicing assets above certain levels, gains on sale in connection with a securitization, investments in a banking organization’s own capital instruments and investments in the capital of unconsolidated financial institutions (above certain levels).

Under applicable regulatory guidelines, capital is compared to the relative risk related to the balance sheet. To derive the risk included in the balance sheet, one of several risk weights is applied to different balance sheet and off-balance sheet assets, primarily based on the relative credit risk of the counterparty. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

The BASEL III regulatory capital rules and regulations also place restrictions on the payment of capital distributions, including dividends, and certain discretionary bonus payments to executive officers if the company does not hold a capital conservation buffer of at least 2.5 percent composed of CET1 capital above its minimum risk-based capital requirements, or if its eligible retained income is negative in that quarter and its capital conservation buffer ratio was less than 2.5 percent at the beginning of the quarter.

Effects of Inflation

The Company’s balance sheet is typical of financial institutions and reflects a net positive monetary position whereby monetary assets exceed monetary liabilities. Monetary assets and liabilities are those which can be converted to a fixed number of dollars and include cash assets, securities, loans, money market instruments, deposits and borrowed funds.

During periods of inflation, a net positive monetary position may result in an overall decline in purchasing power of an entity. However, no clear evidence exists of a relationship between the purchasing power of an entity’s net positive monetary position and its future earnings. Moreover, the Company’s ability to preserve the purchasing power of its net positive monetary position will be partly influenced by the effectiveness of its asset/liability management program. As part of the asset/liability management process, management reviews and monitors information and projections on inflation as published by the Federal Reserve Board and other sources. This information speaks to inflation as determined by its impact on consumer prices and also the correlation of inflation and interest rates. This information is but one component in an asset/liability management process designed to limit the impact of inflation on the Company. Management does not believe that the effect of inflation on its nonmonetary assets (primarily bank premises and equipment) is material as such assets are not held for resale and significant disposals are not anticipated.

Fair Value of Financial Instruments

The Company has disclosed the fair value of its financial instruments at December 31, 2024 and 2023 in Note 17 to the Consolidated Financial Statements. The fair value of loans at December 31, 2024 was 96.0% of the carrying value compared to 94.9% at December 31, 2023. The fair value of time deposits at December 31, 2024 was 100.4% of the carrying value compared to 99.8% at December 31, 2023. Changes in fair value were primarily due to changes in the discount values used to measure fair value.

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