TRICO BANCSHARES / (TCBK) FY 2021 MD&A

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

Financial Overview

The following discussion and analysis is designed to provide a better understanding of the significant changes and trends related to the Company and the Bank’s financial condition, operating results, asset and liability management, liquidity and capital resources and should be read in conjunction with the consolidated financial statements of the Company and the related notes at Item 8 of this report.

TRICO BANCSHARES

Financial Summary

(In thousands, except per share amounts; unaudited)

(1)Fully taxable equivalent (FTE)

(2)Tangible equity is calculated by subtracting Goodwill and Other intangible assets from total shareholders’ equity. Management believes that tangible equity is meaningful because it is a measure that the Company and investors commonly use to assess capital adequacy. Tangible book value is calculated by dividing tangible equity by shares outstanding at period end.

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As TriCo Bancshares has not commenced any business operations independent of the Bank, the following discussion pertains primarily to the Bank. Average balances, including such balances used in calculating certain financial ratios, are generally comprised of average daily balances for the Company. Within Management’s Discussion and Analysis of Financial Condition and Results of Operations, interest income and net interest income may be presented on a fully tax-equivalent (FTE) basis. The presentation of interest income and net interest income on a FTE basis is a common practice within the banking industry. Interest income and net interest income are shown on a non-FTE basis within Item 7 and Item 8 of this report, and a reconciliation of the FTE and non-FTE presentations is provided below in the discussion of net interest income.

Critical Accounting Policies and Estimates

In preparing the consolidated financial statements in accordance with generally accepted accounting principles in the United States of America (GAAP), management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. The estimate that is particularly susceptible to significant change is the determination of the provision and allowance for credit losses (ACL).

Allowance for Credit Losses

The Company’s method for assessing the appropriateness of the allowance for credit losses includes specific allowances for individually analyzed loans, formula allowance factors for pools of credits, and qualitative considerations which include, among other things, current and forecast economic and environmental factors (e.g., interest rates, growth, economic conditions, etc.). Allowance factors for loan pools were based on historical loss experience by product type and prior risk rating.

Management estimates the allowance balance using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The allowance for credit losses is measured on a collective (pool) basis when similar risk characteristics exist. Historical credit loss experience provides the basis for the estimation of expected credit losses, which captures loan balances as of a point in time to form a cohort, then tracks the respective losses generated by that cohort of loans over the remaining life. The Company identified and accumulated loan cohort historical loss data beginning with the fourth quarter of 2008 and through the current period. In situations where the Company's actual loss history was not statistically relevant, the loss history of peers, defined as financial institutions with assets greater than three billion and less than ten billion, were utilized to create a minimum loss rate. Adjustments to historical loss information are made for differences in relevant current loan-specific risk characteristics, such as historical timing of losses relative to the loan origination.

In its loss forecasting framework, the Company incorporates forward-looking information through the use of macroeconomic scenarios applied over the forecasted life of the assets. These macroeconomic scenarios incorporate variables that have historically been key drivers of increases and decreases in credit losses. These variables include, but are not limited to, changes in environmental conditions, such as California unemployment rates, household debt levels and U.S. gross domestic product.

There is a greater chance that the Company would suffer a loss from a loan that was risk rated less than satisfactory than if the loan was last graded satisfactory. As such, the proper risk grading of loans in the portfolio is important to the determination of the calculation of and determination of adequacy of the allowance for credit losses. Utilizing the historical loss data described above, the Company applies reserve rates within any unique pool based on its loss and risk grade migration. Therefore, within any given pool, a larger loss estimation factor is applied to less than satisfactory loans as compared to those that the Company last graded as satisfactory. The resulting allowance for any pool is the sum of the calculated reserves determined in this manner.

Certain loans are not included in pools of loans that are collectively evaluated. The segregation of these loans is based on the results from analysis of identified credits that meet management’s criteria for specific evaluation. These loans are first reviewed individually to determine if such loans are considered impaired. Impaired loans are those where management has concluded that it is probable that the borrower will be unable to pay all amounts due under the original contractual terms and are removed from the pools of loans collectively evaluated. When, as a result of this evaluation, a loan is identified as impaired they are then specifically reviewed and evaluated individually by management for loss potential by evaluating sources of repayment, including collateral as applicable, and a specified allowance for loan losses is established where necessary. By definition, any loan that management has placed on non-accrual is considered impaired, however, not all impaired loans need be placed on non-accrual.

Because current economic conditions and forecasts can change and future events make it inherently difficult to predict the anticipated amount of estimated credit losses on loans, management's determination of the appropriateness of the ACL, could change significantly. It is difficult to estimate how potential changes in any one economic factor or input might affect the overall allowance because a wide variety of factors and inputs are considered in estimating the allowance and changes in those factors and inputs considered may not occur at the same rate and may not be consistent across all product types. Additionally, changes in factors and inputs may move independently of one another, such that improvement in one or certain factors may offset deterioration in others. Management believes that the ACL was adequate as of December 31, 2021.

Other Accounting Policies and Estimates

On an on-going basis, the Company evaluates its estimates, including those that materially affect the financial statements and are related to investments, mortgage servicing rights, fair value measurements, retirement plans, intangible assets and the fair value of acquired assets and liabilities. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company’s policies related to these estimates can be found in Note 1 in the financial statements at Item 8 of this report.

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Geographical Descriptions

For the purpose of describing the geographical location of the Company’s operations, the Company has defined northern California as that area of California north of, and including, Stockton to the east and San Jose to the west; central California as that area of the state south of Stockton and San Jose, to and including, Bakersfield to the east and San Luis Obispo to the west; and southern California as that area of the state south of Bakersfield and San Luis Obispo.

Results of Operations

Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances for the Company.

Within Management’s Discussion and Analysis of Financial Condition and Results of Operations, certain performance measures including interest

income, net interest income, net interest yield, and efficiency ratio are generally presented on a fully tax-equivalent (FTE) basis. The Company believes

the use of these non-generally accepted accounting principles (non-GAAP) measures provides additional clarity in assessing its results.

Net Interest Income

The Company’s primary source of revenue is net interest income, which is the difference between interest income on earning assets and interest expense on interest-bearing liabilities. Following is a summary of the Company’s net interest income for the periods indicated (dollars in thousands):

Net interest income (FTE) during the year ended December 31, 2021 increased $13,814,000 or 5.3% to $272,610,000 compared against $258,796,000 during the year ended December 31, 2020. The increase amount of net interest income is reflective of growth in total average loan balances outstanding during 2021, which increased by $229,796,000 or 4.9% from December 31, 2020. The yield on interest earning assets was 3.65% and 4.11% for the years ended December 31, 2021 and 2020, respectively. This 46 basis point decrease in total earning asset yield was primarily attributable to a 23 basis point decrease in non-PPP loan yields and a 66 basis point decrease in yields on total investments. Of the 23 basis point decrease in yields on loans, a 21 basis point decline was attributable to decreases in market rates, in addition to 2 basis point from the accretion of purchased loans. The costs of total interest bearing liabilities decreased 12 basis points to 0.13% during the year ended December 31, 2021, as compared to 0.25% for the year ended December 31, 2020. During the same period, costs associated with interest bearing deposits decreased by 10 basis points to 0.08% as compared to 0.18% in the prior year. The decrease in interest expense for the year ended December 31, 2021, as compared to the trailing year, was due largely to the decreased rate environment benefiting both the interest-bearing deposit expense and other borrowings interest expense.

Net interest income (FTE) during the year ended December 31, 2020 increased $526,000 or 0.2% to $258,796,000 compared against $258,270,000 during the year ended December 31, 2019. The relatively unchanged amount of net interest income is reflective of the declining rate environment during the year ended December 31, 2020, as total average loan balances increased by approximately $534,912,000 in 2020, and excluding PPP loans, average loan balances increased by approximately $250,586,000 compared to December 31, 2019. The yield on interest earning assets was 4.11% and 4.74% for the year ended December 31, 2020 and 2019, respectively. This 63 basis point decrease in total earning asset yield was primarily attributable to a 33 basis point decrease in non-PPP loan yields and a 75 basis point decrease in yields on total investments. Of the 33 basis point decrease in yields on loans, a 32 basis point decline was attributable to decreases in market rates, offset partially by 1 basis point from the accretion of purchased loans. The decreases in yields on earning assets are consistent with decreased funding expenses as the costs of total interest bearing liabilities decreased 17 basis points to 0.25% during the year ended December 31, 2020, as compared to 0.42% for the year ended December 31, 2019. During the same period, costs associated with interest bearing deposits decreased by 15 basis points to 0.18% as compared to 0.33% in the prior year. The decrease in interest expense for the year ended December 31, 2020, as compared to the trailing year, was due largely to the decreased rate environment benefiting both the interest-bearing deposit expense and other borrowings interest expense.

For more information related to loan interest income, including loan purchase discount accretion, see the Summary of Average Balances, Yields/Rates and Interest Differential and Note 27 to the consolidated financial statements at Part II, Item 8 of this report. The “Yield” and “Volume/Rate” tables shown below are useful in illustrating and quantifying the developments that affected net interest income during 2021 and 2020.

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Summary of Average Balances, Yields/Rates and Interest Differential – Yield Tables

The following tables present, for the periods indicated, information regarding the Company’s consolidated average assets, liabilities and shareholders’ equity, the amounts of interest income from average earning assets and resulting yields, and the amount of interest expense paid on interest-bearing liabilities. Average loan balances include nonperforming loans. Interest income includes proceeds from loans on nonaccrual loans only to the extent cash payments have been received and applied to interest income. Yields on securities and certain loans have been adjusted upward to reflect the effect of income thereon exempt from federal income taxation at the statutory tax rate applicable during the period presented (dollars in thousands):

(1)The fully-taxable equivalent (FTE) adjustment for interest income of non-taxable investment securities was $1,071, $1,069, and $1,201 for the years ended December 31, 2021, 2020 and 2019, respectively.

(2)Net interest spread represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities.

(3)Net interest margin is computed by dividing net interest income by total average earning assets.

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Summary of Changes in Interest Income and Expense due to Changes in Average Asset and Liability Balances and Yields Earned and Rates Paid – Volume/Rate Tables

The following table sets forth a summary of the changes in the Company’s interest income and interest expense from changes in average asset and liability balances (volume) and changes in average interest rates for the periods indicated. Changes applicable to both rate and volume have been included in the rate variance. Amounts are calculated on a fully taxable equivalent basis:

Provision for Credit Losses

The provision for credit losses during any period is the sum of the allowance for credit losses required at the end of the period and any charge offs during the period, less the allowance for credit losses required at the beginning of the period, and less any recoveries during the period. See the Tables labeled “Allowance for Credit Losses – December 31, 2021 and 2020” at Note 5 in Item 8 of Part II of this report for the components that make up the provision for credit losses for the years ended December 31, 2021 and 2020.

The Company adopted and implemented ASU 2016-13, referred to as the Current Expected Credit Loss (CECL), on January 1, 2020 which resulted in an increase in the ACL for loans totaling $18,913,000, including a reclassification of $481,000 from discounts on acquired loans to the allowance for credit losses, as a cumulative effect adjustment from change in accounting policies, with a corresponding decrease in retained earnings, net of $5,449,000 in taxes of $12,983,000. Management also separately evaluated its held-to-maturity investment securities from obligations of state and political subdivisions utilizing the historical loss data represented by similar securities over a period of time spanning nearly 50 years, and based on this evaluation, no loss reserves were recorded for these securities at the time of adoption.

The Company recorded a reversal of credit loses of $6,775,000 during the year ended December 31, 2021, versus a provision for credit losses totaling $42,813,000 during the trailing year end. The decrease in required provisioning during 2021 was attributed to improvement in both external economic indicators and the Company's internal credit risk assessment under the cohort method including changes in the level of past due and nonperforming loans. Declines in California unemployment levels, reduced concentration risks and an improved gross domestic product outlook contributed to total required qualitative reserves of $59,855,000 as of December 31, 2021, a decline of $2,080,000 or 3.4% from December 31, 2020. Quantitative reserves calculated using the Company's cohort loss model totaled $25,521,000 at December 31, 2021, a decline of $4,391,000 or 14.7% from the trailing period December 31, 2021.

The Company adopted CECL on January 1, 2020, and recorded total credit provisions of $42,813,000 during 2020 based on the "forward-looking" nature of the accounting guidance, coupled with the severe impact on both domestic and foreign markets from the COVID-19 pandemic. Specifically, the qualitative factors associated with forecast levels of California unemployment and declines in gross domestic product, alone contributed to a level of calculated required reserves totaling approximately $60,563,000 as of December 31, 2020.

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Net recoveries for the year ended December 31, 2021 totaled $694,000 as compared to $130,000 for the year ended December 31, 2020. Total nonperforming loans increased 5 basis points to 0.61% of total loans at December 31, 2021 from 0.56% of total loans at December 31, 2020. For further details of the change in nonperforming loans during the year ended December 31, 2021 see the Tables, and associated narratives, labeled “Changes in nonperforming assets during the year ended December 31, 2021” and “Changes in nonperforming assets during the three months ended December 31, 2021” under the heading “Asset Quality and Non-Performing Assets” below.

(1) Changes to the reserve for unfunded commitments was recorded in other noninterest expense prior to adoption of CECL on January 1, 2020.

The provision for credit losses is based on management’s evaluation of inherent risks in the loan portfolio and a corresponding analysis of the allowance for credit losses. Additional discussion on loan quality, our procedures to measure loan impairment, and the allowance for credit losses is provided under the heading “Asset Quality and Non-Performing Assets” below.

Non-interest Income

The following table summarizes the Company’s non-interest income for the periods indicated (dollars in thousands):

Non-interest income increased by $8,470,000 or 15.3% to $63,664,000 during the twelve months ended December 31, 2021, compared to $55,194,000 during the same period ended December 31, 2020. ATM and interchange fees improved $3,696,000 or 17.1% as a result of increased usage due to relaxed social distancing guidelines during the year ended December 31, 2021 when compared to the same period in the prior year. Additionally, during the year ended 2020, there was substantial downward pressure on interest rates following the COVID-19 pandemic, resulting in a decline in the fair value of mortgage servicing rights totaling $2,634,000 during the period. Other non-interest income increased $1,574,000 during the twelve months ended December 31, 2021, largely attributed to an increase of $804,000 in the change of fair value of non-readily marketable equity investments and a $204,000 increase in proceeds from life insurance, respectively, as compared to the trailing 12 months ended.

Non-interest income increased $1,674,000 or 3.1% to $55,194,000 during the twelve months ended December 31, 2020, compared to $53,520,000 during the equivalent period in 2019. This increase was primarily attributed to an increase in gains from the sale of mortgage loans, which resulted from increased volume, and contributed $5,840,000 to the overall increase in non-interest income during the year ended December 31, 2020 as compared to December 31, 2019. Non-interest income was negatively impacted by changes in the fair value of the Company’s mortgage servicing assets, as noted above, which contributed to a $823,000 decline for the year. Both the increased gains from the sale of mortgage loans and the decline in fair value of mortgage servicing assets are directly correlated with the elevated levels of mortgage origination volume, which was motivated by the historically low interest rate environment. Further, fee generative deposit account activity was impacted by reductions in the volume of returned check fees, declining by $2,713,000 to $13,944,000 for the twelve months ended December 31, 2020. Other non-interest income also declined by $1,312,000 during 2020, partially from decreases in the fair value of assets used to fund acquired deferred compensation plans totaling $514,000, as compared to 2019, as well as

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from a $333,000 reduction in one-time death benefits realized during the years ended 2020 and 2019 of $498,000 and $831,000, respectively.

Non-interest Expense

The following table summarizes the Company’s other non-interest expense for the periods indicated (dollars in thousands):

Salaries and benefit expense decreased $5,770,000 (5.1%) to $106,351,000 during the year ended December 31, 2021 as compared to $112,121,000 for the trailing twelve month period. Base salaries, net of deferred loan origination costs remained nearly flat, decreasing by $320,000 (0.4%) to $69,844,000 due to a decrease in average full time equivalent employees to 1,039 from 1,093 in the prior year-to-date period, offset by a higher average wage per employee due to both, the addition of personnel with elevated technical skillets to adhere to elevated regulatory expectations and annual merit increases. Commissions and incentive compensation increased $4,935,000 (49.2%) to $14,957,000 during 2021 compared to 2020 primarily due to increased organic non-PPP loan originations as borrower interaction and business demands for loans improved following the disruption from COVID-19 and related mandates in 2020. Benefits and other compensation costs decreased by $10,385,000 (32.5%) to $21,550,000 during the year ended December 31, 2021 as compared to $31,935,000 for the trailing twelve month period, caused by declines in expenses associated with retirement obligations and insurance costs.

Merger and acquisition expenses associated with the proposed merger with Valley Republic Bancorp, which is pending regulatory approval from the FRB, totaled $1,523,000 during the year ended December 31, 2021. Further, during the year ended December 31, 2021, expenses totaling approximately $1,745,000 are attributable to the Company's recently opened loan production offices, of which approximately $1,430,000 relates to salaries and benefits.

During 2018, the FDIC's Deposit Insurance Fund's (DIF) reserves exceeded the minimum set by the Dodd-Frank Act and the Bank with total assets less than $10 billion, was entitled to receive credits to offset a portion of its assessments. As a result, during the years ended December 31, 2020 and 2019, the Bank received credits of $610,000 and $862,000, respectively, which contributed to the fluctuation in regulatory assessments and insurance during those periods. There were no credits provided to the Bank during 2021.

Salaries and benefit expense increased $6,056,000 (5.7%) to $112,121,000 during the year ended December 31, 2020 as compared to $106,065,000 for the trailing twelve month period. Base salaries, net of deferred loan origination costs remained nearly flat, decreasing by $54,000 (0.1%) to $70,164,000 due to a decrease in average full time equivalent employees to 1,093 from 1,150 in the prior year-to-date period, offset by a higher average wage per employee from annual merit increases. Commissions and incentive compensation decreased $3,084,000 (23.5%) to $10,022,000 during 2020 compared to 2019 primarily due to lesser quantities and volumes of non-PPP loan originations as borrower interaction and business demands for loans experienced disruption from COVID-19 related mandates. Benefits and other compensation costs increased by $9,194,000 (40.4%) to $31,935,000 during the year

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ended December 31, 2020 as compared to $22,741,000 for the trailing twelve month period, caused by increases in expenses associated with retirement obligations and insurance costs.

Total other non-interest expense decreased by $8,755,000 or 11.0% to $70,637,000 during the year ended December 31, 2020 as compared to the $79,392,000 for the year ended December 31, 2019. Reductions in advertising expenses totaling $2,806,000 or 49.8% to $2,827,000 contributed to this beneficial change, as did declines in miscellaneous expenses totaling $3,619,000 or 23.1% attributed primarily to a $1,681,000 reduction in travel and training expenses as a result of state-wide shelter-in-place restrictions and a reduction of $418,000 in third party services, which were partially offset by the indirect loan documentation and administrative costs associated with PPP lending activity.

The provisions for income taxes applicable to income before taxes for the years ended December 31, 2021, 2020 and 2019 differ from amounts computed by applying the statutory Federal income tax rates to income before taxes. The effective tax rate and the statutory federal income tax rate are reconciled as follows:

The effective tax rate on income was 28.1%, 25.8%, and 27.4% in 2021, 2020, and 2019, respectively. The effective tax rate was greater than the Federal statutory rates of 21% due to the combination of state tax expenses of 7.9% in 2021, 7.7% in 2020, and 7.9% in 2019. These increases in tax expense were partially offset by Federal tax-exempt interest income of $3,069,000, $3,566,000, and $4,002,000, respectively, Federal and State tax-exempt income of $3,478,000, $3,447,000, and $3,860,000, respectively, from increase in cash value and gain on death benefit of life insurance, low income housing tax credits and losses, net of amortization of $620,000, $619,000, and $230,000, respectively, and equity compensation excess tax benefits, net of non-deductible compensation of $1,495,000, $403,000, and $2,537,000, respectively. The low-income housing tax credits and the equity compensation excess tax benefits represent direct reductions in tax expense. In addition, the 2020 Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) provided the Company with an opportunity to file amended federal tax returns and generate refunds of approximately $805,000 during the year ended December 31, 2020. The items noted above resulted in an effective combined Federal and State income tax rate that differed from the combined Federal and State statutory income tax rate of approximately 29.6% during the three years ended 2021, 2020 and 2019.

Financial Condition

Restricted Equity Securities

Restricted equity securities were $17,250,000 at December 31, 2021 and December 31, 2020. The entire balance of restricted equity securities at December 31, 2021 and 2020 represents the Bank’s investment in the Federal Home Loan Bank of San Francisco (“FHLB”).

FHLB stock is carried at par and does not have a readily determinable fair value. While technically these are considered equity securities, there is no market for the FHLB stock. Therefore, the shares are considered as restricted investment securities. Management periodically evaluates FHLB stock for other-than-temporary impairment. Management’s determination of whether these investments are impaired is based on its assessment of the ultimate recoverability of cost rather than by recognizing temporary declines in value. The determination of whether a decline affects the ultimate recoverability of cost is influenced by criteria such as (1) the significance of any decline in net assets of the FHLB as compared to the capital stock amount for the FHLB and the length of time this situation has persisted, (2) commitments by the FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLB, (3) the impact of legislative and regulatory changes on institutions and, accordingly, the customer base of the FHLB, and (4) the liquidity position of the FHLB.

As a member of the FHLB system, the Bank is required to maintain a minimum level of investment in FHLB stock based on specific percentages of its outstanding mortgages, total assets, or FHLB advances. The Bank may request redemption at par value of any stock in excess of the minimum required investment. Stock redemptions are at the discretion of the FHLB.

Loans

The Bank concentrates its lending activities in four principal areas: real estate mortgage loans (residential and commercial loans), consumer loans, commercial loans (including agricultural loans), and real estate construction loans.  The interest rates charged for the loans made by the Bank vary with

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the degree of risk, the size and maturity of the loans, the borrower’s relationship with the Bank and prevailing money market rates indicative of the Bank’s cost of funds.

The majority of the Bank’s loans are direct loans made to individuals, farmers and local businesses. The Bank relies substantially on local promotional activity and personal contacts by bank officers, directors and employees to compete with other financial institutions. The Bank makes loans to borrowers whose applications include a sound purpose, a viable repayment source and a plan of repayment established at inception and generally backed by a secondary source of repayment.

Loan Portfolio Composition

The following table shows the Company’s loan balances, including net deferred loan fees, at the dates indicated:

During the years ended 2021 and 2020, the Company purchased pools of SFR 1-4 1st DT (consumer) loans totaling approximately $101,466,000 and $41,126,000, respectively, inclusive of loan premiums. As of December 31, 2021 and 2020, the total remaining balances outstanding from these purchases equaled approximately $125,053,000 and $41,126,000, respectively. There was no credit deterioration identified at acquisition for the purchased loans. There were no loan purchases made during the year ended December 31, 2019.

The following table shows the Company’s loan balances, including net deferred loan fees, as a percentage of total loans at the dates indicated:

At December 31, 2021 loans, including net deferred loan costs, totaled $4,916,624,000 which was a 3.2% ($153,497,000) increase over the balances at the end of 2020. Total loans, excluding PPP, increased by 9.4% ($419,120,000) during the same period. At December 31, 2020 loans, including net deferred loan costs, totaled $4,763,127,000 which was a 10.6% ($455,761,000) increase over the balances at the end of 2019. Total loans, excluding PPP, increased by 3.0% ($128,991,000) during the same period. At December 31, 2019 loans, including net deferred loan costs, totaled $4,307,366,000 which was a 7.1% ($285,352,000) increase over the balances at the end of 2018.

In March 2020, the Small Business Administration ("SBA") Paycheck Protection Program ("PPP") was created to help small businesses keep workers employed during the COVID-19 crisis. As a SBA Preferred Lender, the Company was able to provide PPP loans to small business customers. The SBA ended PPP and did not accept new borrowing applications, effective May 31, 2021.

As of December 31, 2021, the total gross balance outstanding of PPP loans was $63,311,000 as compared to total PPP originations of $640,410,000. In connection with the origination of these loans, the Company earned approximately $25,299,000 in loan fees, offset by deferred loan costs of approximately $1,245,000, the net of which will be recognized over the earlier of loan maturity (between 24-60 months), repayment or receipt of forgiveness confirmation. As of December 31, 2021, over 90% of all PPP loans originated have been forgiven and repaid by the SBA and there was approximately $2,164,000 in net deferred fee income remaining to be recognized. During the year ended December 31, 2021, the Company recognized $14,148,000, respectively in fees on PPP loans as compared with $7,760,000 for the year ended December 31, 2020, respectively.

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As of December 31, 2020, the total gross balance outstanding of PPP loans was $333,982,000 as compared to total PPP originations of $438,510,000. In connection with the origination of these loans, the Company earned approximately $15,735,000 in loan fees, offset by deferred loan costs of approximately $763,000. As of December 31, 2020 there was approximately $7,212,000 in net deferred fee income remaining to be recognized.

From time to time the Bank may be presented with the opportunity to purchase individual or pools of loans in whole or in part outside of a transaction that would be considered a business combination. As of December 31, 2021 and 2020, the outstanding carrying value of purchased loans that were not acquired in a business combination totaled $159,373,000 and $96,621,000, respectively.

Asset Quality and Nonperforming Assets

Nonperforming Assets

The following tables set forth the amount of the Bank’s nonperforming assets as of the dates indicated. “Performing non-accrual loans” are loans that may be current for both principal and interest payments, or are less than 90 days past due, but for which payment in full of both principal and interest is not expected, and are not well secured and in the process of collection:

Changes in nonperforming assets during the year ended December 31, 2021

The following table shows the activity in the balance of nonperforming assets for the year ended December 31, 2021:

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The table above does not include deposit overdraft charge-offs.

Nonperforming assets increased by $3,236,000 (10.9%) to $32,944,000 at December 31, 2021 from $29,708,000 at December 31, 2020. The increase in nonperforming assets during 2021 was the result of new nonperforming loans of $20,037,000, which was partially offset by net paydowns, sales or upgrades of nonperforming loans to performing status totaling $13,439,000, dispositions of foreclosed assets totaling $1,293,000, and net charge-offs of $2,069,000.

Changes in nonperforming assets during the year ended December 31, 2020

The following table shows the activity in the balance of nonperforming assets for the year ended December 31, 2020:

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The table above does not include deposit overdraft charge-offs.

Nonperforming assets increased by $10,303,000 (53.1%) to $29,708,000 at December 31, 2020 from $19,405,000 at December 31, 2019. The increase in nonperforming assets during 2020 was the result of new nonperforming loans of $22,114,000, which was partially offset by net paydowns, sales or upgrades of nonperforming loans to performing status totaling $9,908,000, dispositions of foreclosed assets totaling $513,000, and net charge-offs of $1,440,000.

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Changes in nonperforming assets during the three months ended December 31, 2021

The following table shows the activity in the balance of nonperforming assets for the quarter ended December 31, 2021:

(1) Charge-offs and write-downs exclude deposit overdraft charge-offs.

Nonperforming assets increased during the fourth quarter of 2021 by $1,504,000 (4.8%) to $32,944,000 at December 31, 2020 compared to $31,440,000 at September 30, 2021. The increase in nonperforming assets during the fourth quarter of 2021 was the result of new nonperforming loans of $3,858,000, that were partially offset by net paydowns, sales or upgrades of nonperforming loans to performing status totaling $1,690,000, dispositions of foreclosed assets totaling $559,000, and net charge-offs of $105,000 in non-performing loans.

The $3,858,000 in new nonperforming loans during the fourth quarter of 2021 was comprised of, most notably, an increase of $1,992,000 and $1,633,000, respectively, on separate farmland relationships, both of which have been individually evaluated for collectability under the collateral methodology. Reserves of approximately $275,000 have been recorded in connections with these relationships has been recorded as of December 31, 2021.

Changes in nonperforming assets during the three months ended December 31, 2020

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The following table shows the activity in the balance of nonperforming assets for the quarter ended December 31, 2020:

(1) Charge-offs and write-downs exclude deposit overdraft charge-offs.

Nonperforming assets increased during the fourth quarter of 2020 by $4,688,000 (18.7%) to $29,708,000 at December 31, 2020 compared to $25,020,000 at September 30, 2020. The increase in nonperforming assets during the fourth quarter of 2020 was the result of new nonperforming loans of $7,363,000, that were partially offset by net paydowns, sales or upgrades of nonperforming loans to performing status totaling $2,364,000, dispositions of foreclosed assets totaling $609,000, and net charge-offs of $489,000 in non-performing assets.

The $7,363,000 in new nonperforming loans during the fourth quarter of 2020 was comprised of, most notably, an increase of $4,648,000 on one residential construction loan which is considered well secured, $1,337,000 on thirteen home equity lines or loans, $647,000 on five commercial and industrial loans, and finally, $475,000 on two commercial and industrial loans.

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COVID Deferrals

Following the passage of the CARES Act legislation, the "Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus" was issued by federal bank regulators, which offers temporary relief from troubled debt restructuring accounting for loan payment deferrals for certain customers whose businesses are experiencing economic hardship due to Coronavirus. The COVID deferral relief period under the CARES act legislation ended effective January 1, 2022, as such, any further requests for modification from borrowers will be evaluated in accordance with loan modification accounting guidance.

The following is a summary of COVID related loan customer modifications with outstanding balances as of December 31, 2021:

The remaining balance outstanding as of December 31, 2021 are expected to conclude their modification period during the first half of 2022.

Management believes that its analysis of each borrower receiving a loan modification supports the ability of that borrower to return to their normal payment terms at the conclusion of the modification period. However, management determined that a risk rating downgrade to each credit receiving a deferral modification was prudent until such time that the borrower's actual payment performance supported an upgrade to the pre-modification risk grade.

Allowance for Credit Losses - Investment Securities

The Company evaluates available for sale debt securities in an unrealized loss position to determine whether the decline in the fair value below the amortized cost basis (impairment) is due to credit-related factors or noncredit-related factors. Any impairment that is not credit related is recognized in other comprehensive income, net of applicable taxes. Credit-related impairment is recognized as an allowance for credit losses on the balance sheet, limited to the amount by which the amortized cost basis exceeds the fair value, with a corresponding adjustment to earnings. Both the allowance for credit losses and the adjustment to net income may be reversed if conditions change. However, if the Company intends to sell an impaired available for sale debt security or more likely than not will be required to sell such a security before recovering its amortized cost basis, the entire impairment amount is recognized in earnings with a corresponding adjustment to the security's amortized cost basis. During the years ended December 31, 2021 and 2020, no allowance for credit losses nor impairment recognized in earnings related to available for sale investment securities was recorded.

Allowance for Credit Losses - Held to Maturity Investment Securities

In addition to credit losses associated with the Company's loan portfolio, the CECL standard requires that loss estimates be developed for securities

classified as held-to-maturity (HTM). As of January 1, 2020, the date of adoption for ASC 326, the Company's HTM investment portfolio had a carrying value of approximately $375,606,000 and was comprised of $361,785,000 in obligations backed by U.S. government agencies and $13,821,000 in obligations of states and political subdivisions. As the 96.3% of the HTM portfolio consisted of investment securities where payment performance has an implicit or explicit guarantee from the U.S. government and where no history of credit losses exist, management believes that indicators for zero loss are present and therefore, no loss reserves were recognized in conjunction with the adoption of the CECL standard. Management separately evaluated its HTM investment securities from obligations of state and political subdivisions utilizing the historical loss data represented by similar securities over a period of time spanning nearly 50 years. Based on this evaluation, management determined that the expected credit losses associated with these securities is less than significant for financial reporting purposes and therefore, no loss reserves resulted from the adoption and implementation of the CECL standard. Consistent with the portfolio composition at the date of adoption, as of December 31, 2020, 96.2% of the HTM portfolio consisted of investment securities where payment performance has an implicit or explicit guarantee from the U.S. government with the remaining balance of the HTM portfolio consisting of obligations of states and political subdivisions. In addition, the balance of investment securities maintained in the HTM portfolio decreased by $91,043,000 or 24.2% during the year ended December 31, 2020 and management is not aware of any significant changes in credit ratings for the securities held. Therefore, during the year ended December 31, 2020 no allowance for credit losses related to HTM securities was recorded.

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Allowance for Credit Losses - Unfunded Commitments

The estimated credit losses associated with these unfunded lending commitments is calculated using the same models and methodologies noted above and incorporate utilization assumptions at the estimated time of default. While the provision for credit losses associated with unfunded commitments is included in "provision for (benefit from) credit losses" on the consolidated statement of income, the reserve for unfunded commitments is maintained on the consolidated balance sheet in other liabilities.

The Components of the Allowance for Credit Losses

The following table sets forth the Bank’s allowance for credit losses related to loans as of the dates indicated (dollars in thousands):

Based on the current conditions of the loan portfolio, management believes that the $85,376,000 allowance for credit losses at December 31, 2021 is adequate to absorb probable losses inherent in the Bank’s loan portfolio. No assurance can be given, however, that adverse economic conditions or other circumstances will not result in increased losses in the portfolio.

The credit quality of the Company’s loan portfolio, as measured by trends in the volume of past due loans, non-accrual loans, net loan charge-offs (recoveries) and risk grades, remained stable throughout the year. Improved trends in the actual and forecasted levels of unemployment and GDP further contributed to the lower ratio of credit reserves as a percentage of total loans outstanding.

The allowance for credit losses decreased by $6,471,000 during the year ended December 31, 2021 which is reflective of improvement in both the Company's qualitative and quantitative factors. Qualitative factors improved corollary to the trends in actual and forecast levels of California and national unemployment as well as gross domestic product (GDP). Quantitative factors improved during the year as a result of: 1) realizing net loan recoveries, as opposed to net charge-offs, which improved the Company's loss experience; 2) reductions in past due loans, and 3) reductions in loan concentrations.

The allowance for credit losses increased by $49,529,000 from the January 1, 2020 CECL adoption date to $91,847,000 at December 31, 2020, primarily reflecting the economic impacts of the COVID-19 pandemic and the response by domestic and global governmental authorities, including quarantines and other social distancing policies aimed at fighting the spread of the virus.

The U.S. economy contracted into a recession with unusual speed and force in the first half of 2020. Numerous governmental agencies responded with actions intended to support the economy and reduce the future risks that may be associated a pandemic. Throughout 2021 but more significantly during the second half of 2021, the easing of social distancing policies and the resumption of in person activities generally resulted in improved financial performance of borrowers and the economy as a whole. At the same time, the curtailment of stimulus payments, supply chain disruptions, and inflation related impacts have given rise to additional uncertainty and concerns about the timing and extent of full economic recovery.

These factors shaped the supportable forecast used by the Company in its allowance for credit loss modeled estimate at December 31, 2020. After partial improvements in California unemployment and gross domestic product (GDP) growth in the third and early fourth quarters of 2020, significant increases in COVID-19 infection rates in the latter half of the fourth quarter of 2020 caused both the forecasted levels of unemployment and GDP to deteriorate through the forecast period and thus further extended the expected duration of the current recessionary period.

The following table summarizes the allocation of the allowance for credit losses between loan types:

The following table summarizes the allocation of the allowance for credit losses between loan types as a percentage of the total allowance for credit losses:

The following table summarizes the allocation of the allowance for credit losses between loan types as a percentage of total loans and as a percentage of total loans in each of the loan categories listed:

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The following tables summarize the net charge-off (recovery) activity in the allowance for credit/loan losses as a percentage of loans for the years indicated (dollars in thousands):

Generally, losses are triggered by non-performance by the borrower and calculated based on any difference between the current loan amount and the current value of the underlying collateral less any estimated costs associated with the disposition of the collateral.

Foreclosed Assets, Net of Allowance for Losses

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The following tables detail the components and summarize the activity in foreclosed assets, net of allowances for losses for the years indicated (dollars in thousands):

Deposit Portfolio Composition

The following table shows the Company’s deposit balances at the dates indicated:

Total uninsured deposits were estimated to be approximately $2,190,000,000 at December 31, 2021.

Long-Term Debt

See Note 13 to the consolidated financial statements at Item 8 of this report for information about the Company’s other borrowings and long-term debt.

Junior Subordinated Debt

See Note 14 to the consolidated financial statements at Item 8 of this report for information about the Company’s junior subordinated debt.

Equity

See Note 16 and Note 26 in the consolidated financial statements at Item 8 of this report for a discussion of shareholders’ equity and regulatory capital, respectively. Management believes that the Company’s capital is adequate to support anticipated growth, meet the cash dividend requirements of the Company and meet the future risk-based capital requirements of the Bank and the Company.

On February 25, 2021 the Board of Directors approved the authorization to repurchase up to 2,000,000 shares of the Company's common stock (the 2021 Repurchase Plan), which approximated 6.7% of the shares outstanding as of the approval date. In connection with approval of the 2021 Repurchase Plan, the Company’s previous repurchase program adopted on November 12, 2019 (the 2019 Repurchase Plan) was terminated. The following table shows the repurchases made by the Company under the 2021 Plan:

Market Risk Management

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Overview. The goal for managing the assets and liabilities of the Bank is to maximize shareholder value and earnings while maintaining a high quality balance sheet without exposing the Bank to undue interest rate risk. The Board of Directors has overall responsibility for the Company’s interest rate risk management policies. The Bank has an Asset and Liability Management Committee which establishes and monitors guidelines to control the sensitivity of earnings and the fair value of certain assets and liabilities as may be caused by changes in interest rates. The Company does not hold any financial instruments that are not maintained in US dollars and is not party to any contracts that may be settled or repaid in a denomination other than US dollars.

Asset/Liability Management. Activities involved in asset/liability management include but are not limited to lending, accepting and placing deposits, investing in securities and issuing debt. Interest rate risk is the primary market risk associated with asset/liability management. Sensitivity of earnings to interest rate changes arises when yields on assets change in a different time period or in a different amount from that of interest costs on liabilities. To mitigate interest rate risk, the structure of the balance sheet is managed with the goal that movements of interest rates on assets and liabilities are correlated and contribute to earnings even in periods of volatile interest rates. The asset/liability management policy sets limits on the acceptable amount of variance in net interest margin and market value of equity under changing interest environments. Market value of equity is the net present value of estimated cash flows from the Bank’s assets, liabilities and off-balance sheet items. The Bank uses simulation models to forecast net interest margin and market value of equity.

Simulation of net interest margin and market value of equity under various interest rate scenarios is the primary tool used to measure interest rate risk. The Bank estimated the potential impact of changing interest rates on net interest margin and market value of equity using computer-modeling techniques. A balance sheet forecast is prepared using inputs of actual loan, securities and interest-bearing liability (i.e. deposits/borrowings) positions as the beginning base.

In the simulation of net interest income and market value of equity, the forecast balance sheet is processed against various interest rate scenarios. These various interest rate scenarios include a flat rate scenario, which assumes interest rates are unchanged in the future, and rate ramp and or shock scenarios including -200, -100, +100, and +200 basis points around the flat scenario. At December 31, 2021, the overnight Federal funds rate, the rate primarily used in these interest rate shock scenarios, was less than 2.00%. Based on the historical nature of these rates in the United States not falling below zero, management believes that a shock scenario that reduces interest rates below zero would not provide meaningful results and therefor, have not been modeled. These scenarios assume that 1) interest rates increase or decrease evenly (in a “ramp” fashion) over a twelve-month period and remain at the new levels beyond twelve months or 2) that interest rates change instantaneously (“shock”). The simulation results shown below assume no changes in the structure of the Company’s balance sheet over the twelve months being measured.

The following table summarizes the estimated effect on net interest income and market value of equity to changing interest rates as measured against a flat rate (no interest rate change) instantaneous shock scenario over a twelve month period utilizing the Company's specific mix of interest earning assets and interest bearing liabilities as of December 31, 2021.

These simulations indicate that given a “flat” balance sheet scenario, and if interest-bearing checking, savings and time deposit interest rates track general interest rate changes by approximately 25%, 50%, and 75%, respectively, the Company’s balance sheet is slightly asset sensitive over a twelve month time horizon for rates up, and slightly sensitive over a twelve month time horizon for rates down. “Asset sensitive” implies that net interest income increases when interest rates rise and decrease when interest rates decrease. “Liability sensitive” implies that net interest income decreases when interest rates rise and increase when interest rates decrease.“Neutral sensitivity” implies that net interest income does not change when interest rates change. The asset liability management policy limits aggregate market risk, as measured in this fashion, to an acceptable level within the context of risk-return trade-offs.

The simulation results noted above do not incorporate any management actions that might moderate the negative consequences of interest rate deviations. In addition, the simulation results noted above contain various assumptions such as a flat balance sheet, and the rate that deposit interest rates change as general interest rates change. Therefore, they do not reflect likely actual results, but serve as estimates of interest rate risk.

As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the preceding tables. For example, although certain of the Company’s assets and liabilities may have similar maturities or repricing time frames, they may react in different degrees to changes in market interest rates. In addition, the interest rates on certain of the Company’s asset and liability categories may precede, or lag behind, changes in market interest rates. Also, the actual rates of prepayments on loans and investments could vary significantly from the assumptions utilized in deriving the results as presented in the preceding tables. Further, a change in U.S. Treasury rates accompanied by a change in the shape of the treasury yield curve could result in different estimations from those presented herein. Accordingly, the results in the preceding tables should not be relied upon as

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indicative of actual results in the event of changing market interest rates. Additionally, the resulting estimates of changes in market value of equity are not intended to represent, and should not be construed to represent, estimates of changes in the underlying value of the Company.

Interest rate sensitivity is a function of the repricing characteristics of the Company’s portfolio of assets and liabilities. One aspect of these repricing characteristics is the time frame within which the interest-bearing assets and liabilities are subject to change in interest rates either at replacement, repricing or maturity. An analysis of the repricing time frames of interest-bearing assets and liabilities is sometimes called a “gap” analysis because it shows the gap between assets and liabilities repricing or maturing in each of a number of periods. Another aspect of these repricing characteristics is the relative magnitude of the repricing for each category of interest earning asset and interest-bearing liability given various changes in market interest rates. Gap analysis gives no indication of the relative magnitude of repricing given various changes in interest rates. Interest rate sensitivity management focuses on the maturity of assets and liabilities and their repricing during periods of changes in market interest rates. Interest rate sensitivity gaps are measured as the difference between the volumes of assets and liabilities in the Company’s current portfolio that are subject to repricing at various time horizons.

The following interest rate sensitivity table shows the Company’s repricing gaps as of December 31, 2020. In this table transaction deposits, which may be repriced at will by the Company, have been included in the less than 3-month category. The inclusion of all of the transaction deposits in the less than 3-month repricing category causes the Company to appear liability sensitive. Because the Company may reprice its transaction deposits at will, transaction deposits may or may not reprice immediately with changes in interest rates.

Due to the limitations of gap analysis, as described above, the Company does not actively use gap analysis in managing interest rate risk. Instead, the Company relies on the more sophisticated interest rate risk simulation model described above as its primary tool in measuring and managing interest rate risk.

Liquidity

Liquidity refers to the Company’s ability to provide funds at an acceptable cost to meet loan demand and deposit withdrawals, as well as contingency plans to meet unanticipated funding needs or loss of funding sources. These objectives can be met from either the asset or liability side of the balance sheet. Asset liquidity sources consist of the repayments and maturities of loans, selling of loans, short-term money market investments, maturities of securities and sales of securities from the available-for-sale portfolio. These activities are generally summarized as investing activities in the Consolidated Statement of Cash Flows. Net cash used by investing activities totaled $883,811,000 in 2021. Net increases in loan balances from both originations and purchases used approximately $153,855,000 of cash, while purchases of investment securities, net of calls and maturities, used approximately $735,129,000 of cash.

Liquidity may also be generated from liabilities through deposit growth and borrowings. These activities are included under financing activities in the Consolidated Statement of Cash Flows. In 2021, financing activities provided funds totaling $850,474,000, resulting from $861,225,000 in deposits and offset by $29,724,000 in dividend payments and an additional $4,344,000 used to repurchase shares of common stock. In addition, at December 31, 2021, the Company had loans and securities available to pledge towards future borrowings from the Federal Home Loan Bank and the Federal Reserve Bank of up to $2,251,285,000 and $184,694,000, respectively. As of December 31, 2021, the Company had $84,975,000 of other borrowings as described in Note 13 of the consolidated financial statements of the Company and the related notes at Item 8 of this report. While these sources are expected to continue to provide significant amounts of funds in the future, their mix, as well as the possible use of other sources, will depend on future economic and market

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conditions. Liquidity is also provided or used through the results of operating activities. In 2021, operating activities provided cash of $132,207,000 and primarily included net income of $117,655,000.

The Company’s investment securities, excluding held-to-maturity securities, plus cash and cash equivalents in excess of reserve requirements totaled $2,976,359,000 at December 31, 2021, which was 34.5% of total assets at that time. This was an increase of $892,544,000 from $2,083,815,000 and 27.3% of total assets as of December 31, 2020.

Loan demand during 2022 will depend in part on economic and competitive conditions. The Company emphasizes the solicitation of non-interest bearing demand deposits and money market checking deposits, which are the least sensitive to interest rates. The growth of deposit balances is subject to heightened competition, the success of the Company’s sales efforts, delivery of superior customer service and market conditions. In addition to Federal economic stimulus actions, inclusive of loan programs and direct payments to taxpayers, which contributed to the growth in deposit balances, the Federal Reserve's efforts to manage interest rates has resulted in historic low short-term and long-term interest rates, which could further impact deposit volumes in the future. Depending on economic conditions, interest rate levels, and a variety of other conditions, deposit growth may be used to fund loans, to reduce short-term borrowings or purchase investment securities. However, due to concerns such as uncertainty in the general economic environment, competition and political uncertainty, loan demand and levels of customer deposits are not certain and forecasted changes in those balances are subject to significant volatility and uncertainty.

The principal cash requirements of the Company are dividends on common stock when declared. The Company is dependent upon the payment of cash dividends by the Bank to service its commitments. Shareholder dividends are expected to continue subject to the Board’s discretion and continuing evaluation of capital levels, earnings, asset quality and other factors. The Company expects that the cash dividends paid by the Bank to the Company will be sufficient to meet this payment schedule. Dividends from the Bank are subject to certain regulatory restrictions.

The maturity distribution of certificates of deposit in denominations of $100,000 or more is set forth in the following table. These deposits are generally more rate sensitive than other deposits and, therefore, are more likely to be withdrawn to obtain higher yields elsewhere if available. The Bank participates in a program wherein the State of California places time deposits with the Bank at the Bank’s option. At December 31, 2021, 2020 and 2019, the Bank had $1,000,000, $10,000,000, and $30,000,000, respectively, of these State deposits.

Certificates of Deposit in Denominations of $250,000 or More

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Loan maturities

Loan demand also affects the Company’s liquidity position. The following table presents the maturities of loans, net of deferred loan costs, at December 31, 2021:

Investment maturities

The maturity distribution and yields of the investment portfolio at December 31, 2021 is presented in the following tables. The timing of the maturities indicated in the tables below is based on final contractual maturities. Most mortgage-backed securities return principal throughout their contractual lives. As such, the weighted average life of mortgage-backed securities based on outstanding principal balance is usually significantly shorter than the final contractual maturity indicated below. Yields on tax exempt securities are shown on a tax equivalent basis.