Oak Valley Bancorp (OVLY)

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

Forward-Looking Statements

Certain matters discussed in this Quarterly Report on Form 10-Q are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 and therefore may involve risks, uncertainties and other factors which may cause the Company’s actual results to be materially different from the results expressed or implied by the Company’s forward-looking statements.  These statements generally appear with words such as “will,” “anticipate,” “target,” “believe,” “estimate,” “forecast,” “enhance,” “may,” “intend,” “plan,” “goal,” “project,” “outlook,” “expect” or the negative of such terms or other words of similar meaning.  Forward-looking statements are not statements of historical fact and may include those that discuss, among others, our strategies, goals, plans, outlook, forecasts, expectations, intentions or other non-historical matters; future operations, financial condition, results of operations, or business developments; and the assumptions that underlie these matters. Although management believes that the assumptions and expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to be correct.  Factors that could cause actual results to differ from results discussed in forward-looking statements include, but are not limited to: the credit exposure of certain loan products and other components of our business that could be impacted by the changing economic and business conditions; changes in monetary, fiscal or tax policy to address changing economic conditions including interest rate policies of the Federal Reserve Board, any of which could cause us to incur additional loan losses and adversely affect our results of operations in the future; economic conditions (both generally and in the markets where the Company operates) including unemployment levels, energy prices, increased energy costs in California, inflation, supply chain issues, a decline in housing prices or collateral values, trade policies and tensions (including as a result of tariffs and other trade disruptions), geopolitical instability, market volatility associated with the political and economic environment and uncertainty surrounding potential legal, regulatory, and policy changes by the current U.S. presidential administration and the risk of a recession or slowed economic growth in the United States economy; the continuing impact of the changing economic conditions on our employees and customers, including consumer income, creditworthiness, confidence, spending and savings; the credit quality of borrowers; the success of our efforts to mitigate the impact of the changing economic conditions; competition from other providers of financial services offered by the Company and our response to competitive pressures; changes in government regulation and legislation; the impacts of any failure by the U.S. government to increase the debt ceiling or any federal government shutdown; changes in interest rates and interest rate fluctuations; volatility in the capital markets; the amount and rate of deposit growth and changes in deposit costs; material unforeseen changes in the financial stability and liquidity of the Company’s credit customers; risks associated with concentrations in real estate related loans; our ability to maintain adequate capital or liquidity levels or to comply with revised capital or liquidity requirements; changes in accounting standards and interpretations; changes in the level and direction of loan delinquencies and write-offs and changes in estimates of the adequacy of the allowance for credit losses; the soundness of other financial institutions, including disruptions, instability and failures in the banking industry; physical or transition risks related to climate change; cybersecurity risks and heightened legislative and regulatory focus on cybersecurity and data privacy; risks that lawsuits, legal proceedings, information-gathering requests, investigations, and proceedings by governmental and self-regulatory agencies result in significant civil or criminal penalties, including monetary penalties, damages, adverse judgments, settlements, fines, injunctions, restrictions on the way the Company conducts its business, or reputational harm; and other risks as may be detailed from time to time in the Company’s filings with the Securities and Exchange Commission including the risk factors set forth under “Part I—Item 1A. Risk Factors” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2025, all of which are difficult to predict and which may be beyond the control of the Company. Many of the foregoing risks and uncertainties are, and will be, exacerbated by the worsening of the global business and economic environment. The Company undertakes no obligation to revise forward-looking statements to reflect events or changes after the date of this discussion or to reflect the occurrence of unanticipated events.

Forward-looking statements speak only as of the date they are made, and the Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made, whether as a result of new information, future developments or otherwise, except as may be required by law.

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The following discussion explains the significant factors affecting the Company’s operations and financial position for the periods presented. The discussion should be read in conjunction with the Company’s financial statements and the notes related thereto which appear or that are referenced to elsewhere in this report, and with the audited consolidated financial statements and accompanying notes included in the Company’s 2025 Annual Report on Form 10-K. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances.

The discussion and analysis of the Company’s financial condition and results of operations is based upon the Company’s financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of the Company’s financial statements. Actual results may differ from these estimates under different assumptions or conditions. This discussion and analysis includes management’s insight of the Company’s financial condition and results of operations of Oak Valley Bancorp and its subsidiary. Unless otherwise stated, the “Company” refers to the consolidated entity, Oak Valley Bancorp, while the “Bank” refers to Oak Valley Community Bank.

Introduction

Oak Valley Bancorp is the bank holding company for its sole subsidiary, Oak Valley Community Bank, a community bank in the general commercial banking business. Our primary market encompasses the California Central Valley around Sacramento, Stockton, Modesto, and the Eastern Sierras. Eastern Sierra Community Bank operates as a division of and is a part of Oak Valley Community Bank, for the branches located in Mammoth Lakes, Bridgeport and Bishop. As such, unless otherwise noted, all references are about Oak Valley Bancorp.

Oak Valley Community Bank (the “Bank”) is an insured bank under the Federal Deposit Insurance Act and is a member of the Federal Reserve.  Since its formation, the Bank has provided basic banking services to individuals and business enterprises in Oakdale, California and the surrounding areas. The focus of the Bank is to offer a range of commercial banking services designed for both individuals and small to medium-sized businesses in the Central Valley and the Eastern Sierras.

The Bank offers a complement of business checking and savings accounts for its business customers.  The Bank also offers commercial and real estate loans, as well as lines of credit.  Real estate loans are generally of a short-term nature for both residential and commercial purposes.  Longer-term real estate loans are generally made with adjustable interest rates and contain normal provisions for acceleration.  In addition, the Bank offers traditional residential mortgages through a third party.

The Bank also offers other services for both individuals and businesses including online banking, remote deposit capture, merchant services, night depository, extended hours, traveler’s checks, wire transfer of funds, note collection, and automated teller machines in a national network.  The Bank does not currently offer international banking or trust services although the Bank may make such services available to the Bank’s customers through financial institutions with which the Bank has correspondent banking relationships.  The Bank does not offer stock transfer services, nor does it directly issue credit cards.

Critical Accounting Estimates

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

Allowance for Credit Losses - Credit risk is inherent in the business of lending and making commercial loans. Accounting for our allowance for credit losses involves significant judgment and assumptions by management and is based on historical data as well as reasonable and supportable forecasts of future events. At least on a quarterly basis, our management reviews the methodology and adequacy of allowance for credit losses and reports its assessment to the Board of Directors for its review and approval.

The allowance for credit losses is an estimate dependent upon many factors, including loan growth, net charge-offs, changes in the composition of the loans, qualitative factors, the valuation of problem loans and the general economic conditions in our market area. See Note 4 to the consolidated financial statements, and the “Provision for Credit Losses” and “Allowance for Credit Losses” sections of this discussion and analysis for more information on the establishment of the Allowance for Credit Losses and the implementation of CECL.

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Overview of Results of Operations and Financial Condition

The purpose of this summary is to provide an overview of the items that management focuses on when evaluating the condition of the Company and its success in implementing its business and shareholder value strategies. The Company’s business strategy is to operate the Bank as a well-capitalized, profitable and independent community-oriented bank.  The Company’s shareholder value strategy has three major objectives: (1) enhancing shareholder value; (2) making its retail banking franchise more valuable; and (3) efficiently utilizing its capital.

Management believes the following were important factors in the Company’s performance during the three-month period ended March 31, 2026:

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ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS

The following discussion of financial condition as of December 31, 2025 and 2024 and results of operations for each of the years in the two-year period ended December 31, 2025 should be read in conjunction with our consolidated financial statements and related notes thereto, included in this report. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances. This discussion contains forward-looking statements that reflect our plans, estimates and beliefs and involve numerous risks and uncertainties. Actual results may differ materially from those contained in any forward-looking statements. You should carefully read “Special Note Regarding Forward-Looking Statements” included in this report.

Introduction

Our continued focus on responsible community banking fundamentals and our strong customer relationships have enabled us to increase our market presence through growth in our loan portfolio, which is primarily funded by steady core deposit growth.

As of December 31, 2025, we had approximately $2.02 billion in total assets, $1.14 billion in total gross loans, and $1.79 billion in total deposits.

We believe the following were key indicators of our performance during 2025:

These items, as well as other factors, contributed to the decrease in net income for 2025 to $23.9 million from $24.9 million in 2024, which translates into $2.88 per diluted share in 2025 as compared to $3.02 per diluted share in 2024.

Over the past several years, our network of branches and loan production offices have expanded geographically. We currently maintain nineteen full-service offices. We intend to continue our growth strategy in future years through the opening of additional branches and loan production offices as our needs and resources permit.

2026 Outlook

As we begin our strategic business plan for 2026, we remained focused on relationship-based expansion throughout our market area. We plan to continue to focus on growth of our loan and deposit portfolios to ease pressure on our net interest margin, while attempting to control expenses and credit losses.

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Unfavorable trends in inflation prompted the Federal Reserve Open Market Committee, or FOMC, to increase the target federal funds rate (the interest rate banks charge each other for short-term borrowing) in 2022 and 2023, which resulted in yield increases on our earning assets. In response to moderating inflation and weakening economic conditions, in 2024 and 2025 the FOMC approved interest rates cuts. We expect the upward trend in our earning asset yield will continue to some degree in 2026 due to continued repricing of existing loans.

The Fed Funds rate is forecasted to decrease slightly during 2026, which could have a negative impact on net interest income and net interest margin, given that our balance sheet is slightly asset sensitive to interest rate changes primarily due to the variable rate loans and interest-earning cash balances.

Deposit interest rates are determined based on customer demand, market surveys of offerings from competitive institutions, and overall liquidity position. Deposit interest rates are forecasted to stay relatively flat in 2026.

For 2026, management remains focused on the above challenges and opportunities and other factors affecting the business similar to the factors driving the 2025 results as discussed in this section.

Critical Accounting Estimates

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

Allowance for credit losses

Credit risk is inherent in the business of lending and making commercial loans. Accounting for our allowance for credit losses involves significant judgment and assumptions by management and is based on historical data as well as reasonable and supportable forecasts of future events. At least on a quarterly basis, our management reviews the methodology and adequacy of allowance for credit losses and reports its assessment to the Board of Directors for its review and approval.

The allowance for credit losses is an estimate dependent upon many factors, including loan growth, net charge-offs, changes in the composition of the loans, qualitative factors, the valuation of problem loans and the general economic conditions in our market area. See Note 1 and Note 4 to the consolidated financial statements, and the “Provision for Credit Losses” and “Allowance for Credit Losses” sections of this discussion and analysis for more information on the establishment of the Allowance for Credit Losses and the implementation of the Current Expected Credit Loss (“CECL”) model.

Recently Issued Accounting Standards

See Note 1 to the Consolidated Financial Statements in Item 8 of this report.

Results of Operations

The Company earns income from two primary sources. The first is net interest income, which is interest income generated by earning assets less interest expense on interest-bearing liabilities. The second is noninterest income, which primarily consists of deposit service charges and fees, the increase in cash surrender value of life insurance, investment advisory service fee income and mortgage commissions. The majority of the Company's noninterest expenses are operating costs that relate to providing a full range of banking services to our customers.

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Overview

We recorded net income for the year ended December 31, 2025 of $23,913,000 or $2.88 per diluted share compared to $24,948,000 or $3.02 per diluted share for the year ended December 31, 2024. The decrease in net income for the year ended December 31, 2025 was primarily due to an increase in non-interest expense of $4,257,000 associated with staffing and general operating overhead increases to support the growth of our loan and deposit portfolios. The provision for credit losses increased compared to last year due to $2,200,000 in loan recoveries in 2024, resulting in a $1,620,000 credit loss provision reversal, compared to a provision of $805,000 in 2025. There was an increase of $4,581,000 in net interest income, as a result of earning asset growth. Non-interest income increased by $559,000 in 2025, mainly due to fair value changes on equity securities and life insurance death benefit gains.

Highlights of the financial results are presented in the following table:

Net Interest Income and Net Interest Margin

Our primary source of revenue is net interest income, which is the difference between interest and fees derived from earning assets and interest paid on liabilities obtained to fund those assets. Our net interest income is affected by changes in the level and mix of interest-earning assets and interest-bearing liabilities, referred to as volume changes. Our net interest income is also affected by changes in the yields earned on assets and rates paid on liabilities, referred to as rate changes. Interest rates charged on our loans are affected principally by the demand for such loans, the supply of money available for lending purposes and competitive factors. Those factors are, in turn, affected by general economic conditions and other factors beyond our control, such as federal economic policies, the general supply of money in the economy, legislative tax policies, governmental budgetary matters, and the actions of the Federal Reserve Board.

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For a detailed analysis of interest income and interest expense, see the “Average Balance Sheets” and the “Rate/Volume Analysis” below.

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Net interest income, on a fully tax equivalent basis (“FTE”), increased $4,556,000 or 6.3% to $76,620,000 for the year ended December 31, 2025, compared to $72,064,000 in 2024. Net interest spread and net interest margin were 3.68% and 4.13%, respectively, for the year ended December 31, 2025, compared to 3.60% and 4.07%, respectively, for the year ended December 31, 2024. This upward trend is mainly due to an increase in the yield of our loan portfolio, and a slight reduction in our deposit interest rates.

The cost of funds on interest-bearing liabilities decreased to 1.16% in 2025 compared to 1.20% in 2024 as a result of the lower interest rate environment. Our cost of funds is below the peer average, but remains competitive. Promotional rates on money market accounts and higher time-deposit rate offerings are utilized strategically to retain deposit relationships and develop new business, which contributed to the deposit growth of $97,272,000 during 2025.

Our earning asset yield increased 4 basis points in 2025 compared to 2024 despite the FOMC cutting the federal funds target rate from a range of 4.25% to 4.50% at the beginning of 2025, to a range of 3.50% to 3.75% by the end of the year. The FOMC rate hikes in 2022 and 2023 continued to have a positive impact on rates of loans that repriced during 2025. The yield on loans recognized an increase of 24 basis points for 2025 as compared to 2024, due to the upward repricing of variable rate loans and higher rate indexes on new loans. Growth in average gross loans of $46,652,000, also contributed to net interest margin expansion.

The net interest margin expansion in 2025, is due to the factors discussed above but could worsen if rate indexes on assets were to fall, and/or: 1) deposit interest rates continue to increase due to customer demand, or competitive pressure from peer banks, 2) competition in the lending market restrict significant increases in new loan rates, and 3) deposit growth out-paces loan growth, resulting in higher interest-bearing cash balances, which would offer lower yields than loans and investments depending on the Federal Funds rate as determined by the FOMC.

Changes in volume resulted in an increase in net interest income (on a FTE basis) of $3,094,000 for the year of 2025 compared to the year 2024, and changes in interest rates and the mix resulted in an increase in net interest income (on a FTE basis) of $1,462,000 for the year 2025 versus the year 2024. Management closely monitors both total net interest income and the net interest margin.

Market rates are in part based on the FOMC target Federal funds interest rate.  The change in the Federal funds sold rates is the result of target rate changes implemented by the FOMC.   In 2020, the FOMC decreased the Federal funds rate by 0.50% and 1.00% on two occasions in March resulting in a range of 0.00% to 0.25% as of December 31, 2020 and 2021. In 2022, the FOMC raised the federal funds rate seven times by an aggregate of 4.00%. In 2023, the FOMC raised the Federal funds rate four times by 0.25% resulting in a range of 5.25% to 5.50%. In 2024, the FOMC cut the Federal funds rate three times by an aggregate of 1.00%, resulting in a range of 4.25% to 4.50%. In 2025, the FOMC cut the Federal funds rate three times by an aggregate of 0.75%, resulting in a range of 3.50% to 3.75%. If FOMC were to cut rates in 2026 or thereafter, we expect this would have a negative impact on our net interest income, due to repricing of interest-bearing cash balances, existing loans and investment securities.

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Rate/Volume Analysis

The following table below sets forth certain information regarding changes in interest income and interest expense of the Company for the periods indicated. For each category of earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in average volume multiplied by old rate); and (ii) changes in rates (change in rate multiplied by old average volume). Changes in rate/volume (change in rate multiplied by the change in volume) have been allocated to the changes due to volume and rate in proportion to the absolute value of the changes due to volume and rate prior to the allocation.

Provision for credit losses

Credit risk is inherent in the business of making loans. The Company establishes an allowance for credit losses through charges to earnings, which are shown in the consolidated statements of income as the provision for credit losses. Specifically identifiable and quantifiable losses are promptly charged off against the allowance. The Company maintains the allowance for credit losses at a level that it considers to be adequate to provide for credit losses inherent in its loan portfolio. Management determines the level of the allowance by performing a quarterly analysis that considers concentrations of credit, past loss experience, current economic conditions, the amount and composition of the loan portfolio (including nonperforming and potential problem loans), estimated fair value of underlying collateral, and other information relevant to assessing the risk of loss inherent in the loan portfolio such as loan growth, net charge-offs, changes in the composition of the loan portfolio, and delinquencies. As a result of management’s analysis, a range of the potential amount of the allowance for credit losses is determined.

The Company recorded a credit loss provision of $805,000, and a credit loss provision reversal of $1,620,000 during the years ended December 31, 2025 and 2024, respectively. The 2025 credit loss provision is mainly due to loan growth and a specific reserve related to one collateral dependent loan that was individually evaluated for impairment. The 2024 provision reversal was mainly due to loan recoveries totaling $2,184,000, which was offset in part by loan growth. The loan recoveries in 2024 were primarily from two loans from different borrowers recovered during third quarter of 2024 totaling $1,992,000. Each of the recovered loans date back to the recession period when collateral values were considerably depressed, and one of which was acquired in 2015 when we completed a bank acquisition. The loan recoveries initially increased the allowance for credit losses (“ACL”), which subsequently resulted in the reversal of $1,620,000.

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Current and forecasted macro-economic conditions are closely evaluated among other inputs that our internal credit risk model utilizes to determine the appropriate credit loss allowance. The Company had one nonperforming loan as of December 31, 2025, a non-owner occupied commercial real estate loan with a balance of $4,587,000, compared to no nonperforming loans as of December 31, 2024. The allowance for credit losses was $12,381,000 and $11,460,000 as of December 31, 2025 and 2024, or 1.08% and 1.04%, respectively, of total loans. The increase as a percentage of total loans corresponds to the nonperforming loan described above, along with credit factors within the loan portfolio and changes to the current and forecasted macro-economic factors that have been established as credit loss indicators within our model. Net loan charge-offs of $65,000 were recorded in 2025, as compared to net loan recoveries of $2,184,000 in 2024.

The Company will continue to monitor the adequacy of the allowance for credit losses and make additions to the allowance in accordance with the analysis referred to above. Because of uncertainties inherent in estimating the appropriate level of the allowance for credit losses, actual results may differ from management’s estimate of credit losses and the related allowance.

Noninterest Income

The following table sets forth a summary of noninterest income for the periods indicated:

Noninterest income was $7,114,000 for the year ended December 31, 2025, compared to $6,555,000 for the year 2024. Service charge income increased to $1,785,000 in 2025 compared to $1,682,000 for 2024, due to an increase in overdraft fee income related to a higher number of checking accounts. Debit card transaction fee income decreased to $1,673,000 in 2025 as compared to $1,738,000 in 2024, due to debit card network costs that are included in the net revenue received by the bank. Earnings on the cash surrender value of life insurance recognized an increase of $145,000 in 2025 compared to 2024, due to higher yields and three new life insurance policies purchased during the second quarter of 2024. Mortgage commissions have increased by $2,000 for the year 2025, as compared to 2024, a moderate upward trend but overall demand for home purchases and refinancing remains low due to cost of housing and high interest rates. In 2025, other income increased by $492,000, primarily due to a positive change in the fair value of equity securities, and death benefit gains recorded from life insurance policy redemptions. The Company continues to evaluate its deposit product offerings with the intention of continuing to expand its offerings to the consumer and business depositors.

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Noninterest Expense

The following table sets forth a summary of noninterest expenses for the periods indicated:

Noninterest expense was $50,274,000 for the year ended December 31, 2025, an increase of $4,257,000 or 9.3% compared to $46,017,000 for the year ended 2024. Salaries and employee benefits increased by $2,199,000 in 2025, due to expansion of our staff to support loan and deposit growth, combined with normal merit-based and cost-of-living increases.

Occupancy expense realized an increase of $134,000 in 2025 compared to the prior year, primarily from rent and depreciation expense on fixed assets.

Data processing fees increased in 2025 over 2024 by $215,000, primarily due to servicing costs on the growing number of loan and deposit accounts, as well as upgrades to our online banking and mobile banking platforms.

Federal Deposit Insurance Corporation (“FDIC”) and California Department of Financial Protection and Innovation (“DFPI”) regulatory assessments increased by $30,000 in 2025 over 2024, mainly due to the increase in deposit balances. FDIC increased the base rate to 0.05%, on an annual basis, for all member banks in order to build up the Deposit Insurance Fund. The FDIC adopted a final rule in June 2022, applicable to all insured depository institutions, to increase initial base deposit insurance assessment rate schedules uniformly by 2 basis points, beginning in 2023. The FDIC said that the increase in assessment rate schedules is intended to increase the likelihood that the reserve ratio of the Deposit Insurance fund reaches the statutory minimum of 1.35 percent by the statutory deadline of September 30, 2028. The final assessment rate for financial institutions is determined by making adjustments to the base rate for various credit quality factors and other risk metrics of the institution as defined by the FDIC. The Company’s risk profile and the related assessment rate remains at a relatively low level due to our strong credit quality, earnings and risk-based capital ratios. Management recognizes that assessments could increase further depending on deposit growth throughout the remainder of 2026, as the FDIC assessment rates are applied to average quarterly total liabilities as the primary basis, and based on FDIC’s discretion to increase the base assessment rate as needed to replenish the Deposit Insurance Fund. Moreover, the FDIC retains the authority and discretion to increase base assessment rates for banking entities in the future, as circumstances warrant.

Other operating expenses increased by $1,679,000 in 2025 as compared to 2024, primarily due to an increase in advertising expenses from a direct-mail campaign launched in 2024 targeting consumer deposit accounts, and various general operating expense increases required to support our growing business portfolios and compliance mandates. Some of these included legal expenses, software license fees and charitable contributions.

Management anticipates that noninterest expense should continue to increase as we continue to grow, and management believes the Company’s administration as currently set up is scalable to handle future loan and deposit growth.  However, management remains committed to cost-control and efficiency, and we expect to keep these increases to a minimum relative to growth.

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Provision for Income Taxes

We reported a provision for income taxes of $6,737,000 and $7,244,000 for the years 2025 and 2024, respectively. The effective income tax rate on income from continuing operations was 22.0% for the year ended December 31, 2025, compared to 22.5% for the year 2024. These provisions reflect accruals for taxes at the applicable rates for federal income tax and California franchise tax based upon reported pre-tax income and adjusted for the effects of all permanent differences between income for tax and financial reporting purposes (such as earnings on qualified municipal securities, BOLI and certain tax-exempt loans). The disparity between the effective tax rates for 2025 as compared to 2024 is primarily due to tax credits from low-income housing projects as well as tax-free income on municipal securities and loans that comprised a larger proportion of pre-tax income in 2025 as compared to 2024.

Financial Condition

The Company’s total assets were $2,023,116,000 at December 31, 2025 compared to $1,900,604,000 at December 31, 2024, an increase of $122,512,000 or 6.4%. Net loans increased by $36,092,000, investments increased by $17,291,000, net bank premises and equipment increased by $2,728,000, interest receivable and other assets increased by $5,632,000, while cash and cash equivalents increased by $63,428,000 for the year ended December 31, 2025 as compared to December 31, 2024.

Loans gross of the allowance for credit losses and deferred fees were $1,143,930,000 as of December 31, 2025, compared to $1,106,535,000 as of December 31, 2024, an increase of $37,395,000 or 3.4%. The increase was due to an increase of $50,508,000 or 5.3% in commercial real estate loans, a decrease of $13,310,000 or 15.9% in commercial and industrial loans, an increase of $527,000 or 1.6% in consumer loans, and a decrease of $330,000 or 1.1% in agriculture loans. The composition remained relatively unchanged as a percentage of total loans, with commercial real estate comprising 88% and 87% of the loan portfolio at December 31, 2025 and 2024, respectively.

Deposits increased $97,272,000 or 5.7% to $1,792,962,000 as of December 31, 2025 compared to $1,695,690,000 at December 31, 2024. Demand, Money Market, and Time Deposits increased by $79,198,000, $2,814,000 and $21,674,000, respectively, while Savings decreased by $6,414,000, as of December 31, 2025 as compared to December 31, 2024.

There were no short-term borrowing or long-term debt outstanding balances at December 31, 2025 and 2024. The Company uses short-term borrowings, primarily short-term FHLB advances, to fund short-term liquidity needs, if needed, and manage net interest margin.

Equity increased $24,539,000 or 13.4% to $207,975,000 as of December 31, 2025, compared to $183,436,000 at December 31, 2024. Equity increased due to earnings, and the decrease in the unrealized loss on available-for-sale investment securities due to lower interest rates.

Investment Activities

Investments are a key source of interest income. Management of our investment portfolio is set in accordance with strategies developed and overseen by our Investment Committee. Investment balances, including cash equivalents and interest-bearing deposits in other financial institutions, are subject to change over time based on our asset/liability funding needs and interest rate risk management objectives. Our liquidity levels take into consideration anticipated future cash flows and all available sources of credits and are maintained at levels management believes are appropriate to assure future flexibility in meeting anticipated funding needs.

Cash Equivalents and Interest-bearing Deposits in other Financial Institutions

The Company holds federal funds sold, unpledged available-for-sale securities and salable government guaranteed loans to help meet liquidity requirements and provide temporary holdings until the funds can be otherwise deployed or invested. As of December 31, 2025, and 2024, we had $29,080,000 and $30,270,000, respectively, in federal funds sold.

Investment Securities

Management of our investment securities portfolio focuses on providing an adequate level of liquidity and establishing an interest rate-sensitive position, while earning an adequate level of investment income without taking undue risk. Investment securities that we intend to hold until maturity are classified as held-to-maturity securities, and all other investment securities are classified as either available-for-sale or equity securities. Currently, all of our investment securities are classified as available-for-sale, except for one mutual fund classified as an equity security.

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The fair value of the equity security was $3,424,000 and $3,169,000 at December 31, 2025 and December 31, 2024, respectively. Consistent with ASU 2016-01, equity securities are carried at fair value with the changes in fair value recognized in the consolidated statement of income. Accordingly, the Company recognized an unrealized gain of $133,000 and an unrealized loss of $74,000 during the years ended December 31, 2025 and 2024, respectively.

Our available-for-sale investment securities holdings increased by $17,036,000 or 3.2% to $543,532,000 at December 31, 2025, compared to holdings of $526,496,000 at December 31, 2024. The carrying values of available-for-sale investment securities are adjusted for unrealized gains or losses as a valuation allowance and any gain or loss is reported on an after-tax basis as a component of other comprehensive income.

Total investment securities as a percentage of total assets decreased to 27.0% as of December 31, 2025 compared to 27.9% at December 31, 2024. As of December 31, 2025, $349,507,000 of the investment securities were pledged to secure public deposits.

As of December 31, 2025, the total unrealized loss on debt securities that were in a loss position for less than 12 continuous months was $782,000 with an aggregate fair value of $75,474,000. The total unrealized loss on debt securities that were in a loss position for greater than 12 continuous months was $27,409,000 with an aggregate fair value of $362,420,000.

The following table summarizes the maturity and repricing schedule of our debt investment securities, which does not include equity securities, at their amortized cost and their weighted average yields at December 31, 2025:

Debt Investment Securities Maturity and Repricing Schedule

Yields in the above table have been adjusted to a fully tax equivalent basis. The yields are calculated using a weighted average method based on the investment security balances as of December 31, 2025. Securities are reported at the earliest possible call, repricing or maturity date.

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Loans

Our residential loan portfolio includes no sub-prime loans, nor is it our normal practice to underwrite loans commonly referred to as "Alt-A mortgages", the characteristics of which are loans lacking full documentation, borrowers having low FICO scores or collateral compositions reflecting high loan-to-value ratios. Substantially all of our residential loans are indexed to U.S. Treasury Constant Maturity Rates and have provisions to reset five years after their origination dates.

The following table summarizes our commercial real estate loan portfolio by the geographic location in which the property is located as of December 31, 2025 and 2024:

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Construction and land loans are classified as commercial real estate loans and increased $30.2 million in 2025 as compared to 2024.  The table below shows an analysis of construction and land loans by type and location. Non-owner-occupied land loans of $4.8 million as of December 31, 2025 included loans for land specified for commercial development of $3.9 million and for residential development of $1.0 million, the majority of which are located in Stanislaus County.

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Loan Maturities

The following table shows the contractual maturity distribution and repricing intervals of the outstanding loans in our portfolio, as of December 31, 2025. In addition, the table shows the distribution of such loans between those with variable or floating interest rates and those with fixed or predetermined interest rates. The large majority of the variable rate loans are tied to independent indices (such as the Wall Street Journal prime rate or a Treasury Constant Maturity Rate). Substantially all loans with an original term of more than five years have provisions for the fixed rates to reset, or convert to a variable rate, after one, three or five years and are therefore classified as a variable rate loan in the table below.

The majority of the properties taken as collateral are located in Northern California. We employ strict guidelines regarding the use of collateral located in less familiar market areas. Positive trends in Northern California real estate values, the low loan-to-value ratios in our commercial real estate portfolio, and the significant percentage of owner-occupied properties further solidify our credit quality position.

Nonperforming Assets

Financial institutions generally have a certain level of exposure to credit quality risk and could potentially receive less than a full return of principal and interest if a debtor becomes unable or unwilling to repay. Since loans are the most significant assets of the Company and generate the largest portion of its revenues, the Company's management of credit quality risk is focused primarily on loan quality. Banks have generally suffered their most severe earnings declines due to customers' inability to generate sufficient cash flow to service their debts and/or downturns in national and regional economies which have brought about declines in overall property values. In addition, certain debt securities that the Company may purchase have the potential of declining in value if the obligor's financial capacity to repay deteriorates.

Nonperforming assets consist of loans on non-accrual status, loans 90 days or more past due and still accruing interest, loans restructured, where the terms of repayment have been renegotiated resulting in a reduction or deferral of interest or principal and OREO.

Loans are generally placed on non-accrual status when they become 90 days past due, unless management believes the loan is adequately collateralized and in the process of collection. The past due loans may or may not be adequately collateralized, but collection efforts are continuously pursued. Loans may be restructured by management when a borrower has experienced some changes in financial status, causing an inability to meet the original repayment terms, and where we believe the borrower will eventually overcome those circumstances and repay the loan in full. OREO consists of properties acquired by foreclosure or similar means and which management intends to offer for sale. The Company had one non-owner occupied commercial real estate loan with a balance of $4,587,000 classified as a nonperforming loan as of December 31, 2025, as compared to no nonperforming loans as of December 31, 2024.

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The Company held no OREO properties as of December 31, 2025 and 2024. Accordingly, the Company had non-performing assets of $4,587,000 and $0 recorded on the balance sheet as of December 31, 2025 and 2024, respectively.

Allowance for credit losses

In anticipation of credit risk inherent in our lending business, we set aside allowances through charges to earnings. Such charges are not only made for the outstanding loan portfolio, but also for off-balance sheet items, such as commitments to extend credits or letters of credit. The charges made for the outstanding loan portfolio are credited to the allowance for credit losses, whereas charges for off-balance sheet items are credited to the reserve for off-balance sheet items, which is presented as a component of other liabilities. The provision for credit losses is discussed in the section entitled “Provision for credit losses” above.

The balance of our allowance for credit losses is management's best estimate of the current expected credit losses inherent in the portfolio. The ultimate adequacy of the allowance is dependent upon a variety of factors beyond our control, including the real estate market, changes in interest rate and economic and political environments.

The allowance for credit losses increased to $12,381,000 as of December 31, 2025, as compared with $11,460,000 at December 31, 2024. The allowance for credit losses as a percentage of total loans increased to 1.08% as of December 31, 2025, as compared to 1.04% as of December 31, 2024, due to changes in the macro-economic indicators and qualitative factors used within our CECL model. Based on the current conditions of the loan portfolio, management believes that the $12,381,000 allowance for credit losses at December 31, 2025 is adequate to absorb losses inherent in our loan portfolio. No assurance can be given, however, that adverse economic conditions or other circumstances will not result in increased losses in the portfolio.

Diversification, low loan-to-values, strong credit quality and enhanced credit monitoring contribute to a reduction in the portfolio’s overall risk in recent years and help to offset the various inherent credit risks. We continue to monitor the impact of the economic environment, and adjustments to the provision for credit loss will be made accordingly. During 2025, the Company recognized net loan charge-offs of $65,000, as compared to net loan recoveries of $2,184,000 in 2024.

Management reviews these conditions with our senior credit officers. To the extent that any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s estimate of the effect of such condition may be reflected as a specific allowance applicable to such credit or portfolio segment. Although management has allocated a portion of the allowance to specific loan categories, the adequacy of the allowance is considered in its entirety.

As required by ASC Topic 326, on January 1, 2023 the Company implemented CECL and increased our ACL, previously the allowance for loan losses, with a $346,000 cumulative adjustment. Under ASC Topic 326, the allowance for credit losses is deducted from the amortized cost basis to present the net amount expected to be collected on the loans. The measurement of expected credit losses is based on relevant information, which includes experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount over the remaining contractual life. The Company’s ACL is calculated monthly, with any difference in the calculated ACL and the recorded ACL trued-up through an entry to the provision for credit losses. Management calculates the quantitative portion of collectively evaluated reserves for all loan categories, using a discounted cash flow (“DCF”) methodology. For purposes of estimating the Company’s ACL, management generally evaluates collectively evaluated loans by federal call code in order to group loans with similar risk characteristics together, however management has grouped loans in selected call codes together in determining portfolio segments, due to similar risk characteristics and reserve methodologies used for certain call code classifications.

The DCF quantitative reserve methodology incorporates the consideration of probability of default (“PD”) and loss given default (“LGD”) estimates to calculate expected lifetime losses. The PD estimates are derived using reasonable and supportable economic forecasts and historical loss rate data from both the bank and a selected peer group. The historical loss rate data is compared to identified benchmark economic indicators to create a regression model that is updated annually. Reasonable and supportable forecasts for the identified economic indicators are then incorporated to arrive at expected default rates for the various loan categories. The reasonable and supportable forecasts are based on the National Unemployment Rate and Real Gross Domestic Product. The expected default rates are then applied to expected monthly loan balances estimated through the consideration of contractual terms and expected prepayments. The Company utilizes a four-quarter forecast period, after which the expected default rates revert to the historical average, over a four-quarter reversion period, on a straight-line basis. The prepayment assumptions are estimated based on historical experience of the bank. The prepayment assumptions are updated quarterly and may be subject to additional updates by Management in the event that changing conditions impact Management’s estimate. LGD utilized in the DCF is derived from the application of models that correlate LGD and PD based on historical peer data.

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Management recognizes that there are additional factors impacting risk of loss in the loan portfolio beyond what is captured in the quantitative portion of collectively evaluated reserves. As current and expected conditions, may vary compared with conditions over historical periods, which are utilized in the calculation of quantitative reserves, management considers whether additional or reduced reserve levels on collectively evaluated loans may be warranted given the consideration of a variety of qualitative factors. Several of the following qualitative factors (“Q-factors”) considered by management reflect regulatory guidance on Q-factors, whereas several others represent factors unique to the Company or unique to the current time period.

The qualitative portion of the Company’s reserves on collectively evaluated loans are calculated using a combination of numeric frameworks, matrices defining reserve rate based on specified metrics, and management judgement, to determine risk categorizations in each of the Q-factors presented above. The amount of qualitative reserves is also contingent upon the relative weighting of Q-factors according to management’s judgement.

Loans identified as losses by management and internal loan review are charged-off. Furthermore, consumer loan accounts are charged-off automatically based on regulatory requirements.

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The table below summarizes, for the periods indicated, loan balances at the end of each period, the daily averages during the period, changes in the allowance for credit losses arising from loans charged off, recoveries on loans previously charged off, additions to the allowance and certain ratios related to the allowance for credit losses:

Allowance for Credit Losses

The table below summarizes the allowance for credit loss balance by type of loan balance at the end of each period (See “Loan Portfolio” above for a description of each type of loan balance):

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Other Earning Assets

For various business purposes, we make investments in earning assets other than the interest-earning securities and loans discussed above. The primary other earning assets held by the Company as of December 31, 2025 and 2024, includes the cash surrender value of the BOLI policies, FHLB stock and Federal Reserve Bank stock. During 2024, we purchased three new life insurance policies on executive officers for a total investment of $5,000,000, compared to no purchases in 2025.

During 2018, 2022 and 2025, we committed to invest $5,000,000, $10,500,000 and $5,000,000, respectively, in low-income housing tax credit funds (“LIHTC”) to promote our participation in CRA activities, which had unfunded commitments of $4,598,000 and $5,664,000 as of December 31, 2025 and 2024, respectively. For LIHTC investments, we receive the return in the form of tax credits and tax deductions over a period of approximately 15 years.

In 2017, we made a $1,000,000 commitment as a limited partner, to a small business private equity partnership to promote our participation in CRA activities. The value is recorded at fair market value with market gains or losses recorded to other income in the consolidate financial statements. As of December 31, 2025, we have no remaining undisbursed commitments.

The balances of other earning assets as of December 31, 2025 and December 31, 2024 were as follows:

Deposits and Other Sources of Funds

Deposits

Total deposits at December 31, 2025 and 2024 were $1,792,962,000 and $1,695,690,000, respectively, representing an increase of $97,272,000 or 5.7% in 2025. The average deposits for the year ended December 31, 2025 increased $76,939,000 or 4.6% to $1,732,984,000 compared to $1,656,045,000 for the year ended December 31, 2024. Deposit data analysis has resulted in an estimate of $869,509,000 in uninsured deposits, representing the balance that is not covered by FDIC insurance limits as of December 31, 2025.

Deposits are the Company’s primary source of funds. Due to strategic emphasis by management, core deposits (based on a definition provided by FDIC’s Uniform Bank Performance Report) increased by $91,006,000 or 5.5% in 2025 to $1,745,706,000 at December 31, 2025. The percentage of core deposits to total deposits decreased slightly to 97.4% at December 31, 2025 as compared to 97.6% at December 31, 2024. The average rate paid on time deposits in denominations of over $250,000 was 3.53% and 3.35% for the years ended December 31, 2025 and 2024, respectively. The composition and cost of the Company's deposit base are important components in analyzing the Company's net interest margin and balance sheet liquidity characteristics, both of which are discussed in greater detail in other sections herein. See “Net Interest Income and Net Interest Margin” for further discussion.

The Company's liquidity is impacted by the volatility of deposits or other funding instruments or, in other words, by the propensity of that money to leave the institution for rate-related or other reasons. Deposits can be adversely affected if economic conditions in California and the Company's market area in particular, were to weaken. Potentially, the most volatile deposits in a financial institution are jumbo certificates of deposit, meaning time deposits with balances that equal or exceed $250,000, as customers with balances of that magnitude are typically more rate-sensitive than customers with smaller balances.

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The following tables summarize the distribution of average daily deposits and the average daily rates paid for the periods indicated:

Distribution of Average Daily Deposits

The scheduled maturities of our time deposits in denominations of more than $250,000 at December 31, 2025 are as follows:

Maturities of Time Deposits over $250,000

(Dollars in Thousands)

Because our client base is comprised primarily of commercial and industrial accounts, individual account balances are generally higher than those of consumer-oriented banks. Four of our clients carry deposit balances of more than 1% of our total deposits, one of which had a deposit balance of more than 3% of total deposits at December 31, 2025. The Company had no brokered deposits as of December 31, 2025 and 2024.

FHLB Borrowings

Although deposits are the primary source of funds for our lending and investment activities and for general business purposes, we may obtain advances from the FHLB as an alternative to retail deposit funds. We had no outstanding balances as of December 31, 2025 and 2024. The average balance of FHLB advances outstanding in 2025 and 2024 was $0. See “Liquidity Management” below for the details on the FHLB borrowings program.

Deferred Compensation Obligations

We maintain a nonqualified, unfunded deferred compensation plan for certain key management personnel.  Under this plan, participating employees may defer compensation, which will entitle them to receive certain payments upon retirement, death, or disability.  The plan provides for payments commencing upon retirement and reduced benefits upon early retirement, disability, or termination of employment. As of December 31, 2025 and 2024, our aggregate payment obligations under this plan totaled $13.7 million and $14.1 million, respectively.

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Liquidity and Asset/Liability Management

Management seeks to ascertain optimum and stable utilization of available assets and liabilities as a vehicle to attain our overall business plans and objectives. In this regard, management focuses on measurement and control of liquidity risk, interest rate risk and market risk, capital adequacy, operation risk and credit risk.

Liquidity

Liquidity to meet borrowers’ credit and depositors’ withdrawal demands is provided by maturing assets, short-term liquid assets that can be converted to cash and the ability to attract funds from depositors. Additional sources of liquidity may include institutional deposits, advances from the FHLB and other short-term borrowings, such as federal funds purchased.

Since our deposit growth strategy emphasizes core deposit growth, we have avoided relying on brokered deposits as a consistent source of funds. The Company had no brokered deposits as of December 31, 2025 and 2024.

As a secondary source of liquidity, we rely on advances from the FHLB to supplement our supply of lendable funds and to meet deposit withdrawal requirements. Advances from the FHLB are typically secured by a portion of our loan portfolio and stock issued by the FHLB. The FHLB determines limitations on the amounts of advances by assigning a percentage to each eligible loan category that will count towards the borrowing capacity. As of December 31, 2025 and 2024, the Company had no FHLB advances outstanding and had sufficient collateral to borrow an additional $401.7 million and $364.4 million, respectively. In addition, the Company had lines of credit with its correspondent banks to purchase overnight federal funds totaling $70 million at December 31, 2025 and 2024. No advances were made on these lines of credit as of December 31, 2025 and 2024.

The Company’s liquidity depends primarily on dividends paid to it as the sole shareholder of the Bank. The Bank’s ability to pay dividends to the Company may depend on whether the Bank will be in a position to pay dividends based on regulatory requirements and the performance of the Bank.

Maintenance of adequate liquidity requires that sufficient resources be available at all time to meet our cash flow requirements. Liquidity in a banking institution is required primarily to provide for deposit withdrawals and the credit needs of its customers and to take advantage of investment opportunities as they arise. Liquidity management involves our ability to convert assets into cash or cash equivalents without incurring significant loss, and to raise cash or maintain funds without incurring excessive additional cost. For this purpose, we maintain a portion of our funds in cash and cash equivalents, loans and securities available for sale. Our liquid assets at December 31, 2025 and 2024 totaled approximately $517.6 million and $431.8 million, respectively. Our liquidity level measured as the percentage of liquid assets to total assets was 25.6% and 22.7% as of December 31, 2025, and 2024, respectively.

We believe that our current unrestricted cash and cash equivalents, cash flows from operations and borrowing capacity under our credit facility will be sufficient to meet our working capital, capital expenditures, and any other capital needs for at least the next 12 months. We are currently not aware of any trends or demands, commitments, events or uncertainties that will result in or that are reasonably likely to result in our liquidity increasing or decreasing in any material way that will impact our capital needs during or beyond the next 12 months.

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The following tables summarizes short- and long-term material cash requirements as of December 31, 2025, which we believe that we will be able to fund these obligations through cash generated from our operations and available alternative sources of funds (dollars in thousands):

Capital Resources and Capital Adequacy Requirements

In the past two years, our primary source of capital has been internally generated operating income through retained earnings. At December 31, 2025, total shareholders’ equity increased to $208.0 million, representing an increase of $24.5 million from December 31, 2024. The increase was due to net income of $23.9 million recorded to retained earnings, and other comprehensive income of $5.0 million, net of income tax benefit, due to the positive effect that lower long-term treasury yields had on the unrealized market value adjustment of our available-for-sale investment portfolio during 2025. Also, retained earnings was reduced by the common stock dividend payments totaling $5.0 million during 2025. As of December 31, 2025, we had no material commitments for capital expenditures.

We are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can trigger regulatory actions that could have a material adverse effect on our financial statements and operations. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that rely on the quantitative measures of our assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. Our capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. (See “Description of Business-Regulation and Supervision-Capital Adequacy Requirements” in this report for exact definitions and regulatory capital requirements.)

As of December 31, 2025, we were qualified as a “well capitalized institution” under the regulatory framework for prompt corrective action. For more information on our capital resources and capital adequacy requirements, see Note 18 to the Consolidated Financial Statements in Item 8 of this report.

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