ENTERPRISE FINANCIAL SERVICES CORP (EFSC) FY 2023 MD&A

ITEM 7: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Introduction

The objective of this section is to provide an overview of the results of operations and financial condition of the Company by focusing on changes in certain key measures from year to year. It should be read in conjunction with the Consolidated Financial Statements and related Notes contained in “Item 8. Financial Statements and Supplementary Data,” and other financial data presented elsewhere in this report, particularly the information regarding the Company’s business operations described in Item 1. A detailed discussion comparing 2022 and 2021 results is incorporated herein by reference to Item 7 of the Company’s 2022 Annual Report on Form 10-K filed on February 24, 2023.

Executive Summary

Our Company offers a broad range of business and personal banking services including wealth management services. Lending services include commercial and industrial, commercial real estate, real estate construction and development, residential real estate, specialty, and other loans. A wide variety of deposit products and a complete suite of treasury management and international trade services complement our lending capabilities. The Company’s results of operations are also affected by prevailing economic conditions, competition, government policies and other actions of regulatory agencies.

The Company’s financial condition, operating results and liquidity in 2023 continued to be impacted by the monetary policy actions enacted to address rising inflation. The Federal Reserve increased the target federal funds rate 100 basis points in 2023, following a 425 basis point increase in 2022. The Federal Reserve has continued to tighten their monetary policy by reducing Treasuries and agency mortgage-backed securities held on its balance sheet. This follows a period of highly expansionary fiscal support from the federal government during the start of the COVID-19 pandemic in 2020-2021.

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Financial Performance Highlights

Below are highlights of our financial performance for the years ended December 31, 2023, 2022 and 2021.

1Non-GAAP measures. A reconciliation has been included in this MD&A section under the caption “Use of Non-GAAP Financial Measures.”

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The Company noted the following trends during 2023:

•The Company reported net income of $194.1 million, or $5.07 per diluted share for 2023, compared to $203.0 million, or $5.31 per diluted share for 2022. PPNR1 for 2023 was $284.8 million, compared to $258.9 million in 2022. PPNR ROAA1 for 2023 and 2022 was 2.06% and 1.94%, respectively. Organic earning-asset growth and expansion of net interest income due to the increase in market interest rates were the primary contributors to the PPNR increase in 2023. Offsetting the increase in PPNR was a $37.2 million increase in the provision for credit losses in 2023 compared to 2022.

•Net interest income for 2023 totaled $562.6 million, an increase of $88.7 million, or 19%, compared to $473.9 million for 2022. The Company’s asset sensitive balance sheet benefited from the increase in market interest rates during 2023. Net interest margin increased 54 basis points to 4.43% during 2023, compared to 3.89% in 2022. The increase was primarily due to the 6.67% loan yield in 2023, which increased 170 basis points, from 4.97% in 2022.

•Noninterest income was $68.7 million, an increase of 16% from $59.2 million in 2022. The increase was primarily due to higher volumes in tax credit income, private equity and community development income, and gains on the sale of SBA loans. Offsetting these amounts were a decrease in deposit services charges due to higher earnings credit rates, and a decrease in card services income due to the full year impact of the Durbin Amendment.

•Total noninterest expense was $348.2 million in 2023, a 27% increase from $274.2 million in 2022. The increase was primarily from higher customer servicing deposit costs due to higher deposit balances and an increase in earnings credit rates, and an increase in compensation from a larger associate base and annual merit increases. The Company’s core efficiency ratio1 was 53.4% in 2023, compared to 49.8% for the prior year.

•The Company’s effective tax rate was 21.3% in 2023 compared to 21.7% in 2022.

1Non-GAAP measures. A reconciliation has been included in this MD&A section under the caption “Use of Non-GAAP Financial Measures.”

2023 Significant Transactions

During 2023, we announced the following significant transactions:

•Dividends paid in 2023 of $1.00 per share increased $0.10 per share, or 11%, compared to $0.90 per share in 2022.

•The Company paid $3.8 million, or $50.00 per share, to preferred shareholders in 2023.

•The process of converting to a leading core operating system was initiated. The conversion is expected to be completed in the fourth quarter of 2024.

2022 Significant Transactions

During 2022, we announced the following significant transactions:

•The Company repurchased 700,473 of its common shares at a weighted-average share price of $47.00.

•Dividends paid in 2022 of $0.90 per share increased $0.15 per share, or 20%, compared to $0.75 per share in 2021.

•Retired 1,980,093 shares of treasury stock.

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RESULTS OF OPERATIONS

Net Interest Income

Average Balance Sheet

The following table presents, for the periods indicated, certain information related to our average interest-earning assets and interest-bearing liabilities, as well as, the corresponding interest rates earned and paid, all on a tax equivalent basis. Average balances are presented on a daily average basis.

1Average balances include non-accrual loans. Interest income includes net loan fees of $13.8 million, $16.7 million, and $28.4 million for the years ended December 31, 2023, 2022, and 2021 respectively. Loan fees in 2022 and 2021 included PPP fees of $4.1 million and $21.7 million, respectively.

2Non-taxable income is presented on a fully tax-equivalent basis using a tax rate of approximately 25%. The tax-equivalent adjustments were $8.1 million, $7.0 million, and $5.1 million for the years ended December 31, 2023, 2022, and 2021 respectively.

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Rate/Volume

The following table sets forth, on a tax-equivalent basis for the periods indicated, a summary of the changes in interest income and interest expense resulting from changes in yield/rates and volume.

Net interest income (on a tax equivalent basis) was $570.7 million for 2023, compared to $480.9 million for 2022, an increase of $89.8 million, or 19%. The increase in net interest income in 2023 was primarily due to a higher average yield on interest earning assets and organic loan growth. These increases were offset by an increase in the average cost paid on interest bearing liabilities.

Total tax equivalent interest income increased $250.9 million in 2023 primarily due to a $231.7 million increase in loan interest income. The increase was primarily due to the 6.67% loan yield in 2023, which increased 170 basis points, from 4.97% in 2022. In addition, average loan balances in 2023 increased to $10.3 billion, an increase of $1.1 billion over the average for 2022. Tax equivalent interest income on securities (taxable and non-taxable) in 2023 increased $16.3 million from 2022, primarily due to an $11.0 million increase in yield and a $5.3 million increase in average balances. Average securities represented 18% of earnings assets in 2023 and 17% in 2022.

Overall, average interest-earning assets increased $0.5 billion, or 4%, to $12.9 billion for the year ended December 31, 2023. The increase was due to organic growth in average earning assets in the loan portfolio and a deployment of excess liquidity into the investment portfolio. Volume growth of the balance sheet drove an increase in interest income on earning assets of $53.6 million, while the increase in interest rates drove interest income on interest-earnings assets up by $197.3 million in 2023 compared to 2022.

Total interest expense increased $161.1 million in 2023 primarily due to increased deposit interest expense. The increase in deposit interest expense reflects higher rates paid on deposits, as well as successful marketing efforts that

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increased average deposits. Remixing of the deposit portfolio from non-interest bearing and lower cost accounts into higher cost accounts contributed to the increase in deposit interest expense in 2023. Total average interest-bearing deposits increased to $7.5 billion, an increase of $981.7 million, or 15%, in 2023 over the average for 2022. Average noninterest bearing deposits declined $674.4 million, or 14%, in 2023 compared to the average for 2022. Average noninterest bearing deposits represented 36% of total average deposits in 2023, compared to 43% in 2022. Overall, average interest-bearing liabilities increased $1.0 billion, or 15% for the year ended December 31, 2023. The current mix of interest-bearing liabilities increased interest expense in 2023 by $12.3 million, while the increase in the average cost of interest bearing liabilities increased interest expense $148.9 million in 2023.

The tax-equivalent net interest margin was 4.43% for 2023, compared to 3.89% for 2022. The primary driver of the increase in net interest margin from 2022 to 2023 was an increase market interest rates. In 2023, the Federal Reserve increased interest rates three times. The federal funds target rate increased 100 basis points in 2023. The increase in short-term rates increased the yield on the Company’s variable-rate loan portfolio, as well as the yield earned on new loan production. As of December 31, 2023, variable-rate loans comprised approximately 61% of total loans. The increase in market interest rates also increased the cost on interest bearing liabilities. The earning asset yield increased 178 basis points to 6.00% in 2023, compared to 4.22% in 2022. Comparatively, the cost of interest bearing liabilities increased 195 basis points to 2.55%, from 0.60% in 2022.

Noninterest Income

The following table presents a comparative summary of the major components of noninterest income for each of the years in the three-year period ended December 31, 2023:

Noninterest income increased $9.6 million, or 16%, in 2023 compared to 2022. This increase was primarily due to a $6.6 million increase in tax credit income and a $6.2 million increase in miscellaneous income. Tax credit income increased due to higher activity and a decline in longer term interest rates that positively impacted tax credits carried at fair value. Miscellaneous income increased due to private equity and community development income and gains on the sale of SBA loans. Private equity and community development income are not consistent sources of income and fluctuate based on distributions and earnings from the underlying funds. In 2023, $42.1 million of SBA loans were sold and a gain of $2.0 million was recognized. No SBA loans were sold in 2022.

Card services revenue declined $1.5 million in 2023. Included in this decline was a decrease of $2.3 million in debit card interchange income, partially offset by a $0.6 million increase in credit card fees. The Durbin Amendment limits the amount of interchange income banks can earn on debit card transactions after total assets exceed $10 billion. This limitation went into effect for the Company at the beginning of the third quarter of 2022 and was the primary driver of the reduction in debit card revenue.

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Noninterest Expense

The following table presents a comparative summary of the components of noninterest expense:

Noninterest expense increased $74.0 million, or 27%, in 2023 compared to 2022. The increase was attributed primarily to a $41.2 million increase in deposit costs, a $17.5 million increase in compensation and benefits, and a $16.0 million increase in other expenses. For certain deposit accounts in the Company’s specialized deposit portfolio, clients receive an earnings credit rate on average collected balances that may be used to offset expenses associated with the client’s activities for managing the accounts. These costs are reflected in noninterest expense as Deposit costs. The increase in deposit costs in 2023 is due to organic growth in specialized deposits and an increase in market interest rates that increased the earnings credit rate and related expenses for those accounts. The Company maintained approximately $2.6 billion and $2.0 billion of average specialty deposits, resulting in an average specialty deposit cost of 2.75% and 1.41% for 2023 and 2022, respectively.

The increase in compensation and benefits was due to annual merit increases and an increase in full time equivalent employees, higher share-based compensation from higher award levels, and higher medical costs due to inflationary increases. The Company expects to continue to invest in its associates and other infrastructure that supports growth. In addition, low unemployment, inflationary pressures and a shift in employee work arrangements to a virtual/hybrid model are expected to continue to have an impact on future operating expenses.

The increase in other expense of $16.0 million was attributed primarily to a $6.1 million increase in FDIC assessment and other insurance, a $1.7 million increase in loan, legal and other real estate expenses, and a $1.6 million increase in marketing and public relations expenses. The increase in FDIC assessment and other insurance is primarily due to an FDIC special assessment in the amount of $2.4 million and an increase due to the growth of the balance sheet. In November 2023, the FDIC issued a Final Rule on Special Assessment Pursuant to Systemic Risk Determination, implementing a special assessment to recover the cost associated with protecting uninsured depositors following the closure of FDIC insured banks earlier in 2023. The FDIC will collect the special assessment at an annual rate of approximately 13.4 basis points over eight quarterly assessment periods beginning in January 2024. The Company’s portion of the special assessment is approximately $2.4 million and was expensed in the fourth quarter of 2023.

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Income Taxes

The Company’s blended federal and state tax rate was approximately 24.8% in 2023 and 25.2% in 2022. The effective tax rate, which is adjusted for permanent differences, such as tax exempt income, was 21.3% in 2023 compared to 21.7% in 2022. In conjunction with the completion of the 2022 tax returns in the fourth quarter of 2023, the effective tax rate decreased due to a lower state tax apportionment. See “Item 8. Note 16 – Income Taxes” for additional information.

FINANCIAL CONDITION

Summary Balance Sheet

The table below represents the summary balance sheet shown as a percentage of account class (total assets, total liabilities or total shareholders’ equity), as applicable:

Assets

Loans by Type

The Company has a diversified loan portfolio, with no particular concentration of credit in any one economic sector; however, a substantial portion of the portfolio, including the C&I category, is secured by real estate. The ability of the Company’s borrowers to honor their contractual obligations is partially dependent upon the local economy and its effect on the real estate market.

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The following table sets forth the composition of the loan portfolio by type of loans:

C&I loans are made based on the borrower’s ability to generate cash flows for repayment from income sources, general credit strength, experience, and character, even though such loans may also be secured by real estate or other assets. The credit risk related to commercial loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations.

The Company continues to focus on originating high-quality C&I loan relationships as they typically have variable interest rates and allow for cross selling opportunities involving other banking products. C&I loan growth also supports our efforts to maintain the Company’s asset-sensitive interest rate risk position. Additionally, our specialized products, especially sponsor finance, life insurance premium financing, and tax credit lending, consist of primarily C&I loans, and have contributed significantly to the Company’s C&I loan growth. These loans are sourced through relationships developed with wealth and estate planning firms, private equity funds and tax credit specialists and are not bound geographically to our markets. As a result, these specialized loan products offer opportunities to expand and diversify our overall geographic concentration by entering into new markets.

Real estate loans place an emphasis on the estimated cash flows from the operation of the property and/or the underlying collateral value.

•Our commercial real estate loans, including investor-owned and owner-occupied categories, primarily represent commercial property loans on which the primary source of repayment is income from the property. These loans are principally underwritten based on the cash flow coverage of the property, the Company’s loan to value guidelines, and generally require either the limited or full guaranty of principal sponsors of the credit. Commercial real estate loans also represent owner-occupied C&I loans for which the primary source of repayment is dependent on sources other than the underlying collateral.

•Construction and land development loans relating primarily to residential and commercial properties, represent financing secured by real estate under development for eventual sale or undeveloped ground. At December 31, 2023, $447.0 million of these loans include the use of interest reserves and follow standard

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underwriting guidelines. Construction projects are monitored by the loan officer and a centralized independent loan disbursement function.

•Residential real estate loans include residential mortgages, which are loans that, due to size or other attributes, do not qualify for conventional home mortgages available-for-sale in the secondary market, second mortgages, home equity lines and conventional mortgages that are part of a broad banking relationship with the Company. Residential mortgage loans are usually limited to a maximum of 80% of collateral value at origination.

Other loans represent loans to individuals, loans to state and political subdivisions, loans to nondepository financial institutions, and loans to purchase or are fully secured by investment securities. Credit risk is managed by thoroughly reviewing the creditworthiness of the borrowers prior to origination and thereafter.

The following table presents a breakdown of loans by NAICS code at the periods indicated:

At December 31, 2023 and 2022, the Company had an agricultural loan portfolio of $229.7 million and $200.1 million, respectively. The Company has announced its intent to wind down this portfolio over time as the loans mature or pay down. The Company does not intend to enter into new agricultural loans.

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The following table presents a breakdown of commercial & industrial loans by size at the periods indicated:

The following table presents a breakdown of commercial real estate loans (investor owned and owner occupied) by size at the periods indicated:

The Company had $482.0 million and $443.1 million of investor owned office real estate loans as of December 31, 2023 and 2022, respectively.

The following table presents a breakdown of construction loans by size at the periods indicated:

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The following table presents a breakdown of residential loans by size at the periods indicated:

The following table presents a breakdown of other loans by size at the periods indicated:

The following table presents a breakdown of total loans by geographic region at the periods indicated:

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The following table presents a breakdown of total loans by MSA, excluding specialty and other loans, at the periods indicated:

Loan guarantees, primarily on SBA 7(a) loans, totaled $932.1 million and $960.3 million at December 31, 2023 and 2022, respectively.

The following table provides additional information on select specialty lending detail, at the periods indicated:

The sponsor finance portfolio is primarily comprised of loans in the manufacturing and wholesale trade sectors. It includes mid-market company mergers and acquisitions, targeted private equity firms, principally SBICs, and senior debt financing to portfolio companies.

The life insurance premium finance category specializes in financing whole life insurance premiums utilized in high net worth estate planning, through relationships with boutique estate planners throughout the United States.

The tax credit portfolio includes tax credit-related lending on affordable housing projects funded through the use of

federal and state low income housing tax credits. In addition, we provide leveraged and other loans on projects funded through the CDFI New Markets Tax Credit Program. This portfolio also includes tax credit brokerage

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through 10-year streams of state tax credits from affordable housing development funds. The tax credits are sold to clients and other individuals for tax planning purposes.

SBA loans are originated under the SBA 7(a) program and are primarily owner-occupied, commercial real estate loans secured by a 1st lien. These loans predominantly have a 75% portion guaranteed by the SBA.

Significant loan concentrations are considered to exist for a financial institution when there are amounts loaned to numerous borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At December 31, 2023, no significant concentrations exceeding 10% of total loans existed in the Company’s loan portfolio, except as described above.

The following table presents the maturity distribution of loans at December 31, 2023 categorized by fixed or variable interest rates, net of unearned loan fees:

(1) Includes loans with no stated maturity and overdraft lines of credit.

The majority of variable loans are based on the prime rate or SOFR. At December 31, 2023, $4.2 billion or 64% of variable rate loans were subject to an interest rate floor. Most variable rate loan originations have one-to three-year maturities. Management monitors this mix as part of its interest rate risk management. See “Interest Rate Risk” of this MD&A section.

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Provision and Allowance for Credit Losses

The following table presents the components of the provision for credit losses for the periods indicated:

The provision for credit losses, which includes a provision for losses on unfunded commitments, is a charge to earnings to maintain the ACL at a level consistent with management’s assessment of expected losses in the loan portfolio at the balance sheet date. The Company also records reversals of interest on nonaccrual loans and interest recoveries directly through the provision of credit losses.

CECL requires economic forecasts to be factored into determining estimated losses. As a result, CECL is designed to typically require a higher level of provision at the start of an economic downturn. The increase in the provision for credit losses in 2023 was primarily due to loan growth, net charge-offs and the increase in nonperforming loans. The provision for credit losses in 2023 also included the impact of the impairment of an available-for-sale investment security. The available-for-sale investment impairment was related to a subordinated debt security in a publicly-traded bank that failed in the first quarter of 2023. The provision benefit in the prior year-to-date period, was primarily due to an improvement in economic factors and the recovery of accrued interest on nonperforming loans.

To the extent the Company does not recognize charge-offs and economic forecasts improve in future periods, the Company could recognize a reversal of provision for credit losses. Conversely, if economic conditions and the Company’s forecast worsens, the Company could recognize elevated levels of provision for credit losses. The provision is also reflective of charge-offs in the period.

The following table summarizes the allocation of the ACL on loans:

The allowance for credit losses was 1.24% of total loans at December 31, 2023, compared to 1.41%, and 1.61%, at December 31, 2022 and 2021, respectively. The decline in the allowance to total loans ratio in 2023 compared to 2022 was primarily due to a shift in the mix of the loan portfolio to categories with lower reserve requirements, improvement in the economic forecast and net loan charge-offs of $38.0 million.

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The following table is a summary of net charge-offs (recoveries) to average loans for the periods indicated:

(1) Excludes loans held for sale.

To the extent the Company does not recognize charge-offs and economic forecasts improve in future periods, the Company could recognize provision reversals. Conversely, if economic conditions and the Company’s forecast worsens and charge-offs increase, the Company could recognize elevated levels of provision for credit losses. The provision is also reflective of charge-offs (recoveries) in the period.

See “Critical Accounting Policies and Estimates” of this MD&A section for more information on the allowance for credit losses methodology.

Nonperforming loans and assets

See “Item 8. Note 1 – Summary of Significant Accounting Policies” for more information on nonaccrual loans and other real estate. The following table presents the categories of nonperforming assets and other ratios, excluding government guaranteed portions, as of the dates indicated.

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Nonperforming loans based on loan type were as follows:

The following table summarizes the changes in nonperforming loans:

Nonperforming loans at December 31, 2023 increased $33.7 million, or 338%, when compared to December 31, 2022. The increase in nonperforming loans during 2023 was primarily from additions to nonaccrual loans of $109.8 million, offset by principal payments of $25.9 million and charge-offs of $43.2 million. The charge-offs of nonperforming loans were primarily in C&I and commercial real estate (investor owned), representing 84% and 11% of gross charge-offs in 2023, respectively.

Other real estate

The following table summarizes the changes in other real estate:

Investments

At December 31, 2023, our portfolio of investment securities was $2.4 billion, or 16%, of total assets, compared to $2.2 billion, or 17%, of total assets as of December 31, 2022. The portfolio is comprised of both available-for-sale and held-to-maturity securities.

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The table below sets forth the carrying value of investment securities, excluding the allowance for credit losses:

The allowance for credit losses on held-to-maturity debt securities was $0.8 million and $0.7 million at December 31, 2023 and 2022, respectively. The Company had no debt securities classified as trading at December 31, 2023, or 2022.

The following table summarizes contractual maturity and tax-equivalent yields on the investment portfolio at December 31, 2023:

Yields on tax-exempt securities are computed on a taxable equivalent basis using a tax rate of 24.8%. Actual maturities can differ from contractual maturities, as borrowers may have the right to call or repay obligations with or without prepayment penalties.

Other investments primarily consist of the FHLB capital stock, common stock investments related to our trust preferred securities, community development funds, and other investments in private equity funds, primarily SBICs. These investments do not have a stated maturity.

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Deposits

The following table shows the breakdown of deposits by type:

Brokered certificates of deposit increased $363.8 million, to $482.8 million at December 31, 2023. Brokered certificates of deposit are used for term liquidity purposes in place of FHLB borrowings. The brokered certificates of deposit balance has a weighted average cost of 4.73% and a weighted average remaining term of 7 months at December 31, 2023. The Company has a specialty deposit portfolio focusing primarily on property management, community associations, and escrow companies. These deposits totaled $2.8 billion and $2.1 billion at the end of 2023 and 2022, respectively.

The following table shows the average balance and average rate of the Company’s deposits by type:

Average total deposits were $11.6 billion for the year ended December 31, 2023, an increase of $307.3 million, or 3%, from December 31, 2022. The increase in 2023 was primarily due to organic growth in money market and interest-bearing demand accounts.

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The following table sets forth the maturities of estimated uninsured certificates of deposit as of December 31, 2023. Uninsured deposits are amounts estimated to exceed the FDIC deposit insurance limit and are not subject to any federal or state insurance program.

As of December 31, 2023, estimated uninsured deposits totaled $4.3 billion, including $234.6 million of certificates of deposit. At December 31, 2022 estimated uninsured deposits totaled $5.9 billion. Estimated uninsured deposits at December 31, 2023 include $0.5 million of balances that are collateralized or secured with third party insurance.

Shareholders’ equity

Shareholders’ equity totaled $1.7 billion at December 31, 2023, an increase of $193.8 million, or 12.7%, from December 31, 2022.

Significant activity during the year ended December 31, 2023 included the following:

•Increase from net income of $194.1 million;

•Net increase in fair value of available-for-sale securities and cash flow hedges of $29.3 million;

•Decrease from dividends paid on common stock of $37.4 million and preferred stock of $3.8 million, respectively

Liquidity and Capital Resources

Liquidity

The objective of liquidity management is to ensure we have the ability to generate sufficient cash or cash equivalents in a timely and cost-effective manner to meet our commitments as they become due. Typical demands on liquidity are changes in deposit levels, maturing time deposits which are not renewed, and fundings under credit commitments to customers. Funds are available from a number of sources, such as the core deposit base and loan and security repayments and maturities.

Additionally, liquidity is provided from lines of credit with the FHLB, the Federal Reserve, and correspondent banks; the ability to acquire large and brokered deposits; sales of the securities portfolio; and the ability to sell loan participations to other banks. These alternatives are an important part of our liquidity plan and provide flexibility and efficient execution of the asset-liability management strategy.

The Company’s Asset-Liability Management Committee oversees our liquidity position, the parameters of which are approved by the Bank’s Board of Directors. Our liquidity position is monitored daily. Our liquidity management framework includes measurement of several key elements, such as a loan to deposit ratio, a liquidity ratio, and a dependency ratio. The Company’s liquidity framework also incorporates contingency planning to assess the nature and volatility of funding sources and to determine alternatives to these sources. While core deposits and loan and investment repayments are principal sources of liquidity, funding diversification is another key element of liquidity management and is achieved by strategically varying depositor types, terms, funding markets, and instruments.

Liquidity from assets is available primarily from cash balances and the investment portfolio. Cash and interest-bearing deposits with other banks totaled $433.0 million at December 31, 2023, compared to $291.4 million at December 31, 2022. The increase in cash balances during 2023 is due to deposit growth exceeding loan growth. The increase in market interest rates in 2022-2023 increased the competitive environment for deposits, as depositors

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have more alternatives to bank deposit accounts. While client deposit balances declined in the first half of 2023, successful marketing efforts increased total deposits in the last half of the year. Investment securities are another important tool to the Company’s liquidity objectives. Securities totaled $2.4 billion at December 31, 2023, and included $1.6 billion pledged as collateral for deposits of public institutions, treasury, loan notes, and other requirements. The remaining $808.7 million could be pledged or sold to enhance liquidity, if necessary.

Available on- and off-balance sheet liquidity sources include the following items:

The Company also has a portfolio of SBA guaranteed loans, a portion of which could be sold in the secondary market to generate earnings and liquidity. SBA loans totaling $42.1 million were sold during 2023.

Liability liquidity funding sources are available to increase financial flexibility. In addition to amounts borrowed at December 31, 2023, the Company could borrow an additional $1.0 billion from the FHLB of Des Moines under blanket loan pledges and has additional real estate loans that could be pledged. In the first quarter of 2024, the Company pledged an additional $495 million of loans to the FHLB to increase the borrowing capacity. The Company also has $2.5 billion available from the Federal Reserve Bank under a pledged loan agreement. Included in the Federal Reserve Bank borrowing capacity at December 31, 2023 is $215.0 million related to the Bank Term Funding Program. On January 24, 2024, the Federal Reserve announced that the program would cease making new loans on March 11, 2024. The Company also has unsecured federal funds lines with six correspondent banks totaling $120 million.

In the normal course of business, the Company enters into certain forms of off-balance sheet transactions, including unfunded loan commitments and letters of credit. These transactions are managed through the Company’s various risk management processes. Management considers both on-balance sheet and off-balance sheet transactions in its evaluation of the Company’s liquidity. The Company has $3.0 billion in unused commitments to extend credit as of December 31, 2023. While this commitment level would exhaust the majority the Company’s current liquidity resources, the nature of these commitments is such that the likelihood of funding them in the aggregate at any one time is low.

At the holding company level, our primary funding sources are dividends and payments from the Bank and proceeds from the issuance of equity (i.e. stock option exercises, stock offerings) and debt instruments. The main use of this liquidity is to provide the funds necessary to pay dividends to shareholders, service debt, invest in subsidiaries as necessary, and satisfy other operating requirements. In 2023, the holding company maintained a revolving line of credit for an aggregate amount up to $25 million, all of which was available at December 31, 2023. The line of credit has a one-year term that was renewed in February 2024 for an additional one-year term, and the interest rate was amended to one-month Term SOFR plus 185 basis points and the annual unused commitment fee was increased to 0.40%. The proceeds can be used for general corporate purposes.

The Company has an effective automatic shelf registration statement on Form S-3 allowing for the issuance of various forms of equity and debt securities. The Company’s ability to offer securities pursuant to the registration statement depends on market conditions and the Company’s continuing eligibility to use the Form S-3 under rules of the SEC.

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Strong capital ratios, credit quality and core earnings are essential to retaining cost-effective access to the wholesale funding markets. Deterioration in any of these factors could have a negative impact on the Company’s ability to access these funding sources and, as a result, these factors are monitored on an ongoing basis as part of the liquidity management process. The Bank is subject to regulations and, among other things, may be limited in its ability to pay dividends or transfer funds to the parent company. Accordingly, consolidated cash flows as presented in the consolidated statements of cash flows may not represent cash immediately available for the payment of cash dividends to the Company’s shareholders or for other cash needs.

Through the normal course of operations, the Company has entered into certain contractual obligations and other commitments. Such obligations relate to funding of operations through deposits or debt issuances, as well as leases for premises and equipment. As a financial services provider, the Company routinely enters into commitments to extend credit. While contractual obligations represent future cash requirements of the Company, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans made by the Company. The Company also enters into derivative contracts under which the Company either receives cash from or pays cash to counterparties depending on changes in interest rates. Derivative contracts are carried at fair value on the consolidated balance sheet with the fair value representing the net present value of expected future cash receipts or payments based on market interest rates as of the balance sheet date. The fair value of these contracts changes daily as market interest rates change. For additional information on the Company’s contractual obligations and commitments see the following footnotes in Item 8: “Note 5 – Leases,” “Note 6 – Derivative Financial Instruments,” “Note 10 – Subordinated Debentures and Notes,” “Note 11 – Federal Home Loan Bank Advances,” “Note 12 – Other Borrowings,” and “Note 17 – Commitments and Contingent Liabilities.”

Capital Resources

The Company and the Bank are subject to various regulatory capital requirements administered by the state and federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the financial statements and results of operations of the Company. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and its bank affiliate must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The banking affiliate’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the following table) of total and tier 1 capital to risk-weighted assets, and of tier 1 capital to average assets. To be categorized as “well-capitalized”, banks must maintain minimum total risk-based (10%), tier 1 risk-based (8%), common equity tier 1 risk-based (6.5%), and tier 1 leverage ratios (5%). As of December 31, 2023, and December 31, 2022, the Company and the Bank met all capital adequacy requirements to which they are subject.

The Bank met the definition of “well-capitalized” at each of December 31, 2023 and 2022. Refer to “Item 8. Note 14 – Regulatory Capital” for a summary of our risk-based capital and leverage ratios.

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The following table summarizes the Company’s capital ratios:

The Company believes the tangible common equity and regulatory capital ratios are important measures of capital strength. The tangible common equity to tangible assets ratio is considered a non-GAAP measure. The tables included in this MD&A section under the caption “Use of Non-GAAP Financial Measures” reconcile these ratios to U.S. GAAP.

Risk Management

Market risk arises from exposure to changes in interest rates and other relevant market rate or price risk. The Company faces market risk in the form of interest rate risk through transactions other than trading activities. Market risk from these activities, in the form of interest rate risk, is measured and managed through a number of methods. The Company uses financial modeling techniques to measure interest rate risk. These techniques measure the sensitivity of future earnings due to changing interest rate environments. Guidelines established by the Bank’s Asset/Liability Management Committee and approved by the Bank’s Board of Directors are used to monitor exposure of earnings at risk. General interest rate movements are used to develop sensitivity as management believes it has no primary exposure to a specific point on the yield curve. These limits are based on the Company’s exposure to immediate and sustained parallel rate movements, either upward or downward. The Company does not have any direct market risk from commodity exposures.

Interest Rate Risk

Our interest rate risk management practices are aimed at optimizing net interest income, while guarding against deterioration that could be caused by certain interest rate scenarios. Interest rate sensitivity varies with different types of interest-earning assets and interest-bearing liabilities. We attempt to maintain interest-earning assets, comprised primarily of both loans and investments, and interest-bearing liabilities, comprised primarily of deposits, maturing or repricing in similar time horizons in order to manage any impact from market interest rate changes according to our risk tolerance. The Company uses an earnings simulation model to measure earnings sensitivity to changing rates.

The Company determines the sensitivity of its short-term future earnings to a hypothetical plus or minus 100 to 300 basis point parallel rate shock through the use of simulation modeling. The simulation of earnings includes the modeling of the balance sheet as an ongoing entity. Future business assumptions involving administered rate products, prepayments for future rate-sensitive balances, and the reinvestment of maturing assets and liabilities are included. These items are then modeled to project net interest income based on a hypothetical change in interest rates. The resulting net interest income for the next 12-month period is compared to the net interest income amount calculated using flat rates. This difference represents the Company’s earnings sensitivity to a positive or negative parallel rate shock.

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The following table summarizes the projected impact of interest rate shocks on net interest income:

In addition to the rate shocks shown in the table above, the Company models net interest income under various dynamic interest rate scenarios. In general, changes in interest rates are positively correlated with changes in net interest income.

The Company occasionally uses interest rate derivative instruments as an asset/liability management tool to hedge mismatches in interest rate exposure indicated by the net interest income simulation described above. They are used to modify the Company’s exposures to interest rate fluctuations and provide more stable spreads between loan yields and the rate on their funding sources. At December 31, 2023, the Company had derivative contracts to manage interest rate risk, including $250.0 million in notional value on derivatives to hedge the cash flows on floating rate loans and $62.0 million in notional value on derivatives on floating rate debt. Derivative financial instruments are discussed in “Item 8. Note 6 – Derivative Financial Instruments.”

The FCA has announced that the most common USD LIBOR settings (overnight, 1-month. 3-month, 6-month and 12-month) will cease publication after September 30, 2024. LIBOR was the most liquid and common interest rate index in the world and was commonly referenced in financial instruments. With the cessation of LIBOR, the Company has selected term SOFR as the replacement index for the majority of its variable rate loans and began providing customer notifications in early 2023. The Company ceased using LIBOR and ICE swap rates in new contracts and began issuing SOFR based loans in December 2021.

The Company had $6.6 billion in variable rate loans as of December 31, 2023. Of these loans, $4.2 billion have an interest rate floor and nearly all of those loans were at or above the floor. Variable rate loans include $2.8 billion indexed to the prime rate, $2.7 billion are indexed to SOFR, $294.8 million indexed to LIBOR, and $813.3 million indexed to other rates.

Changes in interest rates will also have an effect on noninterest expense. Certain deposit accounts receive an earnings credit that provides a reimbursement for costs clients incur on the accounts. As interest rates increase, the amount available for reimbursement also increases, resulting in an increase to noninterest expense. Conversely, a decrease in interest rates would reduce the amount available for reimbursement and decrease noninterest expense.

Critical Accounting Policies and Estimates

The following accounting policies are considered most critical to the understanding of the Company’s financial condition and results of operations. These critical accounting policies require management’s most difficult, subjective and complex judgments about matters that are inherently uncertain. Because these estimates and judgments are based on current circumstances, they may change over time or prove to be inaccurate based on experience. In the event different assumptions or conditions were to prevail, and depending upon the severity of such changes, the possibility of a materially different financial condition and/or results of operations could reasonably be expected. The impact and any associated risks related to our critical accounting policies on our business operations are described throughout “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” where such policies affect our reported and expected financial results. For a detailed

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discussion on the application of these and other accounting policies, see “Item 8. Note 1 – Summary of Significant Accounting Policies.”

The Company has prepared all of the consolidated financial information in this report in accordance with GAAP. The Company makes estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenue and expenses during the reporting period. These estimates and assumptions are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an ongoing basis using loss experience and other factors, including the current economic environment, which management believes to be reasonable under the circumstances. We adjust such estimates and assumptions when facts and circumstances dictate. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods. There can be no assurances that actual results will not differ from those estimates.

Allowance for Credit Losses

The Company maintains separate allowances for funded loans, unfunded loans, and held-to-maturity securities, collectively referred to the ACL. The ACL is a valuation account to adjust the cost basis to the amount expected to be collected, based on management’s experience, current conditions, and reasonable and supportable forecasts. For purposes of determining the allowance for funded and unfunded loans, the portfolios are segregated into pools that share similar risk characteristics that are then further segregated by credit grades. Loans that do not share similar risk characteristics are evaluated on an individual basis and are not included in the collective evaluation. The Company estimates the amount of the allowance based on loan loss experience, adjusted for current and forecasted economic conditions, including unemployment, changes in GDP, and commercial and residential real estate prices. The Company’s forecast of economic conditions uses internal and external information and considers a weighted average of a baseline, upside, and downside scenarios. Because economic conditions can change and are difficult to predict, the anticipated amount of estimated loan defaults and losses, and therefore the adequacy of the allowance, could change significantly and have a direct impact on the Company’s credit costs. The Company’s allowance for credit losses on loans was $134.8 million at December 31, 2023 based on the weighting of the different economic scenarios. As a hypothetical example, if the Company had only used the upside scenario, the allowance would have decreased $27.5 million. Conversely, the allowance would have increased $43.9 million using only the downside scenario.

Income Taxes

Management uses certain assumptions and estimates in determining income taxes payable or refundable for the current year, deferred income tax assets and liabilities and income tax expense. 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 basis. 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. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance may be established. We consider the determination of this valuation allowance to be a critical accounting policy because of the need to exercise significant judgment in evaluating the amount and timing of recognition of deferred tax liabilities and assets, including projections of future taxable income. These judgments and estimates are reviewed on a continual basis as regulatory and business factors change. A valuation allowance for deferred tax assets may be required in the future if the amounts of taxes recoverable through loss carry backs decline, if we project lower levels of future taxable income, or we project lower levels of tax planning strategies. Such valuation allowance would be established through a charge to income tax expense that would adversely affect our operating results.

Effects of New Accounting Pronouncements

See “Item 8. Note 1 – Summary of Significant Accounting Policies – Recent Accounting Pronouncements” for information on recent accounting pronouncements and their impact, if any, on our consolidated financial statements.

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Use of Non-GAAP Financial Measures

The Company’s accounting and reporting policies conform to U.S. GAAP and the prevailing practices in the banking industry. However, the Company provides other financial measures, such as core efficiency ratio, tangible common equity ratio, return on average tangible common equity, and tangible book value per common share, in this report that are considered “non-GAAP financial measures.” Generally, a non-GAAP financial measure is a numerical measure of a company’s financial performance, financial position, or cash flows that exclude (or include) amounts that are included in (or excluded from) the most directly comparable measure calculated and presented in accordance with GAAP.

The Company considers its core efficiency ratio, tangible common equity ratio, return on average tangible common equity, and tangible book value per common share, collectively “core performance measures,” presented in this earnings release and the included tables as important measures of financial performance, even though they are non-GAAP measures, as they provide supplemental information by which to evaluate the impact of certain non-comparable items, and the Company’s operating performance on an ongoing basis. Core performance measures exclude certain other income and expense items, such as the FDIC special assessment, merger-related expenses, facilities charges, and the gain or loss on sale of investment securities, that the Company believes to be not indicative of or useful to measure the Company’s operating performance on an ongoing basis. The attached tables contain a reconciliation of these core performance measures to the GAAP measures. The Company believes that the tangible common equity ratio provides useful information to investors about the Company’s capital strength even though it is considered to be a non-GAAP financial measure and is not part of the regulatory capital requirements to which the Company is subject.

The Company believes these non-GAAP measures and ratios, when taken together with the corresponding GAAP measures and ratios, provide meaningful supplemental information regarding the Company’s performance and capital strength. The Company’s management uses, and believes investors benefit from referring to, these non-GAAP measures and ratios in assessing the Company’s operating results and related trends and when forecasting future periods. However, these non-GAAP measures and ratios should be considered in addition to, and not as a substitute for or preferable to, ratios prepared in accordance with GAAP. The Company has provided a reconciliation of, where applicable, the most comparable GAAP financial measures and ratios to the non-GAAP financial measures and ratios, or a reconciliation of the non-GAAP calculation of the financial measure for the periods indicated.

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Reconciliations of Non-GAAP Financial Measures

Core Efficiency Ratio

Tangible Common Equity, Tangible Book Value per Share, and Tangible Common Equity Ratio

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Return on Average Tangible Common Equity (ROATCE)