# Western New England Bancorp, Inc. (WNEB) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from Western New England Bancorp, Inc.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1157647/000138713123003325/wneb-10k_123122.htm
Accession: 0001387131-23-003325
Filing date: 2023-03-10
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/WNEB/
All MD&A years: /company/WNEB/mda/
Previous year: /company/WNEB/mda/fy2021/ (FY 2021)
Next year: /company/WNEB/mda/fy2023/ (FY 2023)

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

The
following discussion should be read in conjunction with the Company’s Consolidated Financial Statements and notes thereto,
each appearing elsewhere in this Annual Report on Form 10-K. Management’s discussion focuses on 2022 results compared to 2021.
For a discussion of 2021 results compared to 2020, refer to Part II, Item 7 of our Annual Report filed on Form 10-K, which was filed
with the SEC on March 11, 2022.

Overview.

We
strive to remain a leader in meeting the financial service needs of the local community and to provide quality service to the
individuals and businesses in the market areas that we have served since 1853. Historically, we have been a community-oriented
provider of traditional banking products and services to business organizations and individuals, including products such as residential
and commercial real estate loans, consumer loans and a variety of deposit products. We meet the needs of our local community through
a community-based and service-oriented approach to banking.

We
have adopted a growth-oriented strategy that continues to focus on increasing commercial lending and residential lending. Our
strategy also calls for increasing deposit relationships, specifically core deposits, and broadening our product lines and services.
We believe that this business strategy is best for our long-term success and viability, and complements our existing commitment
to high quality customer service.

In
connection with our overall growth strategy, we seek to:

[[GREPCENT_TABLE]]
[["","\u25cf","Grow the Company\u2019s commercial loan portfolio and related commercial deposits by targeting businesses in our primary market area of Hampden County and Hampshire County in western Massachusetts and Hartford and Tolland Counties in northern Connecticut to increase the net interest margin and loan income;"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Supplement the commercial portfolio by growing the residential real estate portfolio to diversify the loan portfolio and deepen customer relationships;"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Focus on expanding our retail banking deposit franchise and increase the number of households served within our designated market area;"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Invest in people, systems and technology to grow revenue, improve efficiency and enhance the overall customer experience;"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Grow revenues, increase tangible book value, continue to pay competitive dividends to shareholders and utilize the Company\u2019s stock repurchase plan to leverage our capital and enhance franchise value; and"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Consider growth through acquisitions. We may pursue expansion opportunities in existing or adjacent strategic locations with companies that add complementary products to our existing business and at terms that add value to our existing shareholders."]]
[[/GREPCENT_TABLE]]

You
should read the following financial results for the year ended December 31, 2022 in the context of this strategy.

For
the twelve months ended December 31, 2022, net income was $25.9 million, or $1.18 diluted earnings per share, compared to net
income of $23.7 million, or $1.02 diluted earnings per share, for the twelve months ended December 31, 2021. The results for the
twelve months ended December 31, 2022 showed increases in net interest income and non-interest income, which were both partially
offset by increases in the provision for loan losses and non-interest expense.

 49

During
the twelve months ended December 31, 2022, net interest income increased $6.0 million, or 8.3%, to $79.2 million, compared to
$73.2 million for the twelve months ended December 31, 2021. The increase in net interest income was due to an increase in interest
and dividend income of $6.1 million, or 7.6%, partially offset by an increase in interest expense of $24,000, or 0.4%. For the
twelve months ended December 31, 2022, the Company generated net interest income growth of 8.3%, overcoming a $6.0 million, or
89.2%, decrease in PPP income as the PPP program comes to a close. Excluding PPP income of $728,000 and $6.8 million for the twelve
months ended December 31, 2022 and the twelve months ended December 31, 2021, respectively, net interest income increased $12.1
million, or 18.2% for the same period.

For
the twelve months ended December 31, 2022, the provision for loan losses was $700,000, compared to a credit for loan losses of
$925,000 for the twelve months ended December 31, 2021. The Company recorded net charge-offs of $556,000 for the twelve months
ended December 31, 2022, as compared to net charge-offs of $445,000 for the twelve months ended December 31, 2021.

General.

Our
consolidated results of operations depend primarily on net interest and dividend income. Net interest and dividend income is the
difference between the interest income earned on interest-earning assets and the interest paid on interest-bearing liabilities.
Interest-earning assets consist primarily of commercial real estate loans, commercial and industrial loans, residential real estate
loans and securities. Interest-bearing liabilities consist primarily of certificates of deposit and money market accounts, demand
deposit accounts and savings account deposits and borrowings from the FHLB. The consolidated results of operations also depend
on the provision for loan losses, non-interest income, and non-interest expense. Non-interest income includes service fees and
charges, income on bank-owned life insurance, gains on sales of mortgages, gains on non-marketable equity investments and gains
(losses) on securities. Non-interest expense includes salaries and employee benefits, occupancy expenses, data processing, advertising
expense, FDIC insurance assessment, professional fees and other general and administrative expenses.

Loan
Modifications/Troubled Debt Restructurings.

The
Company implemented a modification deferral program under the CARES Act, which allowed residential, commercial and consumer borrowers
who were adversely affected by the COVID-19 pandemic, to defer loan payments for a set period of time. As of December 31, 2022,
the Company had no modified loans remaining under the CARES Act.

Allowance
for Loan Losses.

In
determining the allowance for loan losses, the Company considers quantitative loss factors and a number of qualitative factors,
such as underwriting policies, current economic conditions, delinquency statistics, the adequacy of the underlying collateral
and the financial strength of the borrower. The long-term consequences of the COVID-19 pandemic could cause us to experience higher
credit losses in our lending portfolio, reduce demand for our products and services and other negative impacts on our financial
position, results of operations and prospects. As of December 31, 2022, the Company’s delinquency and nonperforming assets
have not been materially impacted by the COVID-19 pandemic, and therefore, have not resulted in material credit losses within
the lending portfolio.

Critical
Accounting Policies.

Our
accounting policies are disclosed in Note 1 to our consolidated financial statements. Given our current business strategy and
asset/liability structure, the more critical policy is the allowance for loan losses and provision for loan losses. In addition
to the informational disclosure in the notes to the consolidated financial statements, our policy on this accounting policy is
described in detail in the applicable sections of “Management’s Discussion and Analysis of Financial Condition
and Results of Operations.” Senior management has discussed the development and selection of this accounting policy
and the related disclosures with the Audit Committee of our Board of Directors.

 50

The
process of evaluating the loan portfolio, classifying loans and determining the allowance and provision is described in detail
in Part I under “Business – Lending Activities - Allowance for Loan Losses.” This evaluation is inherently
subjective as it requires material estimates that may be susceptible to significant change. Our methodology for assessing the
allocation of the allowance consists of two key components, which are a specific allowance for impaired loans and a general allowance
for the remainder of the portfolio. Measurement of impairment can be based on present value of expected future cash flows discounted
at the loan’s effective interest rate, the loan’s observable market price or the fair value of the collateral, if
the loan is collateral dependent. The allocation of the allowance is also reviewed by management based upon our evaluation of
then-existing economic and business conditions affecting our key lending areas and other conditions, such as new loan products,
credit quality trends (including trends in nonperforming loans expected to result from existing conditions), collateral values,
loan volumes and concentrations, specific industry conditions within portfolio segments that existed as of the balance sheet date
and the impact that such conditions were believed to have had on the collectability of the loan portfolio.

Although
management believes it has established and maintained the allowance for loan losses at adequate levels, if management’s
assumptions and judgments prove to be incorrect due to continued deterioration in economic, real estate and other conditions,
and the allowance for loan losses is not adequate to absorb inherent losses, our earnings and capital could be significantly and
adversely affected. There were no changes to the Company’s allowance for loan losses methodology during the year ended December
31, 2022.

Analysis
of Net Interest Income.

The
Company’s earnings are largely dependent on its net interest income, which is the difference between interest earned on
loans and investments and the cost of funding (primarily deposits and borrowings). Net interest income expressed as a percentage
of average interest-earning assets is referred to as net interest margin. For more information regarding the Company’s use
of Non-GAAP financial measures see “Explanation of Use of Non-GAAP Financial Measurements.”

 51

Average
Balance Sheet.

The following
table sets forth information relating to the Company for the years ended December 31, 2022, 2021 and 2020. The average yields
and costs are derived by dividing interest income or interest expense by the average balance of interest-earning assets or interest-bearing
liabilities, respectively, for the periods shown. Average balances are derived from average daily balances. The yields include
fees which are considered adjustments to yields. Loan interest and yield data does not include any accrued interest from non-accruing
loans.

[[GREPCENT_TABLE]]
[["","","For the Years Ended December 31,"],["","","2022","","","2021","","","2020"],["","","Average","","","","","","Average Yield/","","","Average","","","","","","AverageYield/","","","Average","","","","","","Average Yield/"],["","","Balance","","","Interest","","","Cost","","","Balance","","","Interest","","","Cost","","","Balance","","","Interest","","","Cost"],["","","(Dollars in thousands)"],["ASSETS:"],["Interest-earning assets"],["Loans(1)(2)","","$","1,953,527","","","$","77,758","","","","3.98","%","","$","1,887,926","","","$","74,620","","","","3.95","%","","$","1,922,607","","","$","78,284","","","","4.07","%"],["Securities(2)","","","407,444","","","","8,299","","","","2.04","","","","319,778","","","","5,398","","","","1.69","","","","214,312","","","","4,360","","","","2.03"],["Other investments - at cost","","","10,289","","","","177","","","","1.72","","","","10,242","","","","115","","","","1.12","","","","14,915","","","","587","","","","3.94"],["Short-term investments(3)","","","25,712","","","","191","","","","0.74","","","","111,931","","","","139","","","","0.12","","","","45,858","","","","109","","","","0.24"],["Total interest-earning assets","","","2,396,972","","","","86,425","","","","3.61","","","","2,329,877","","","","80,272","","","","3.45","","","","2,197,692","","","","83,340","","","","3.79"],["Total non-interest-earning assets","","","152,941","","","","","","","","","","","","147,980","","","","","","","","","","","","140,725"],["Total assets","","$","2,549,913","","","","","","","","","","","$","2,477,857","","","","","","","","","","","$","2,338,417"],["LIABILITIES AND EQUITY:"],["Interest-bearing liabilities"],["Interest-bearing checking accounts","","$","139,993","","","","530","","","","0.38","","","$","109,648","","","","399","","","","0.36","","","$","86,086","","","","387","","","","0.45"],["Savings accounts","","","222,267","","","","161","","","","0.07","","","","205,394","","","","154","","","","0.07","","","","153,073","","","","136","","","","0.09"],["Money market accounts","","","890,763","","","","3,187","","","","0.36","","","","776,725","","","","2,412","","","","0.31","","","","521,692","","","","2,838","","","","0.54"],["Time deposits","","","363,258","","","","1,474","","","","0.41","","","","477,067","","","","2,543","","","","0.53","","","","634,111","","","","10,139","","","","1.60"],["Total interest-bearing deposits","","","1,616,281","","","","5,352","","","","0.33","","","","1,568,834","","","","5,508","","","","0.35","","","","1,394,962","","","","13,500","","","","0.97"],["Short-term borrowings and long-term debt","","","31,556","","","","1,344","","","","4.26","","","","38,294","","","","1,164","","","","3.04","","","","190,752","","","","4,945","","","","2.59"],["Interest-bearing liabilities","","","1,647,837","","","","6,696","","","","0.41","","","","1,607,128","","","","6,672","","","","0.42","","","","1,585,714","","","","18,445","","","","1.16"],["Non-interest-bearing deposits","","","647,971","","","","","","","","","","","","608,936","","","","","","","","","","","","489,602"],["Other non-interest-bearing liabilities","","","35,615","","","","","","","","","","","","39,108","","","","","","","","","","","","32,251"],["Total non-interest-bearing liabilities","","","683,586","","","","","","","","","","","","648,044","","","","","","","","","","","","521,853"],["Total liabilities","","","2,331,423","","","","","","","","","","","","2,255,172","","","","","","","","","","","","2,107,567"],["Total equity","","","218,490","","","","","","","","","","","","222,685","","","","","","","","","","","","230,850"],["Total liabilities and equity","","$","2,549,913","","","","","","","","","","","$","2,477,857","","","","","","","","","","","$","2,338,417"],["Less: Tax-equivalent adjustment(2)","","","","","","","(497",")","","","","","","","","","","","(424",")","","","","","","","","","","","(465",")"],["Net interest and dividend income","","","","","","$","79,232","","","","","","","","","","","$","73,177","","","","","","","","","","","$","64,430"],["Net interest rate spread(4)","","","","","","","","","","","3.18","%","","","","","","","","","","","3.01","%","","","","","","","","","","","2.61","%"],["Net interest rate spread, on a tax-equivalent basis(5)","","","","","","","","","","","3.20","%","","","","","","","","","","","3.03","%","","","","","","","","","","","2.63","%"],["Net interest margin(6)","","","","","","","","","","","3.31","%","","","","","","","","","","","3.14","%","","","","","","","","","","","2.93","%"],["Net interest margin, on a tax-equivalent basis(7)","","","","","","","","","","","3.33","%","","","","","","","","","","","3.16","%","","","","","","","","","","","2.95","%"],["Ratio of average interest-earning assets to average interest-bearing liabilities","","","","","","","","","","","145.46","%","","","","","","","","","","","144.97","%","","","","","","","","","","","138.59","%"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(1)","Loans, including nonaccrual loans, are net of deferred loan origination costs and unadvanced funds."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(2)","Loan and securities income are presented on a tax-equivalent basis using a tax rate of 21% for 2022, 2021 and 2020. The tax-equivalent adjustment is deducted from tax-equivalent net interest and dividend income to agree to the amount reported on the consolidated statements of net income. See \u201cExplanation of Use of Non-GAAP Financial Measurements\u201d."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(3)","Short-term investments include federal funds sold."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(4)","Net interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average cost of interest-bearing liabilities."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(5)","Net interest rate spread, on a tax-equivalent basis, represents the difference between the tax-equivalent weighted average yield on interest-earning assets and the tax-equivalent weighted average cost of interest-bearing liabilities. See \u201cExplanation of Use of Non-GAAP Financial Measurements\u201d."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(6)","Net interest margin represents net interest and dividend income as a percentage of average interest-earning assets."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(7)","Net interest margin, on a tax-equivalent basis, represents tax-equivalent net interest and dividend income as a percentage of average interest-earning assets. See \u201cExplanation of Use of Non-GAAP Financial Measurements\u201d."]]
[[/GREPCENT_TABLE]]

52

Rate/Volume
Analysis.

The
following table shows how changes in interest rates and changes in the volume of interest-earning assets and interest-bearing
liabilities have affected our interest and dividend income and interest expense during the periods indicated. Information is provided
in each category with respect to: (1) interest income changes attributable to changes in volume (changes in volume multiplied
by prior rate); (2) interest income changes attributable to changes in rate (changes in rate multiplied by prior volume); and
(3) the net change.

The
changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume
and the changes due to rate.

[[GREPCENT_TABLE]]
[["","","Year Ended December 31, 2022 Compared to Year Ended December 31, 2021","","","Year Ended December 31, 2021 Compared to Year Ended December 31, 2020"],["","","Increase (Decrease) Due to","","","Increase (Decrease) Due to"],["","","Volume","","","Rate","","","Net","","","Volume","","","Rate","","","Net"],["Interest-earning assets","","(In thousands)","","","(In thousands)"],["Loans (1)","","$","2,593","","","$","545","","","$","3,138","","","$","(1,428",")","","$","(2,236",")","","$","(3,664",")"],["Investment securities (1)","","","1,480","","","","1,421","","","","2,901","","","","2,136","","","","(1,098",")","","","1,038"],["Other investments - at cost","","","1","","","","60","","","","61","","","","(184",")","","","(287",")","","","(471",")"],["Short-term investments","","","(107",")","","","159","","","","52","","","","160","","","","(130",")","","","30"],["Total interest-earning assets","","","3,967","","","","2,185","","","","6,152","","","","684","","","","(3,751",")","","","(3,067",")"],["Interest-bearing liabilities"],["Interest-bearing checking accounts","","","110","","","","21","","","","131","","","","106","","","","(94",")","","","12"],["Savings accounts","","","13","","","","(6",")","","","7","","","","48","","","","(30",")","","","18"],["Money market accounts","","","354","","","","421","","","","775","","","","1,367","","","","(1,793",")","","","(426",")"],["Time deposits","","","(607",")","","","(462",")","","","(1,069",")","","","(2,510",")","","","(5,086",")","","","(7,596",")"],["Short-term borrowing and long-term debt","","","(205",")","","","385","","","","180","","","","(3,951",")","","","170","","","","(3,781",")"],["Total interest-bearing liabilities","","","(335",")","","","359","","","","24","","","","(4,940",")","","","(6,833",")","","","(11,773",")"],["Change in net interest and dividend income","","$","4,302","","","$","1,826","","","$","6,128","","","$","5,624","","","$","3,082","","","$","8,706"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(1)","Securities and loan income and net interest income are presented on a tax-equivalent basis using a tax rate of 21% for 2022, 2021 and 2020. The tax-equivalent adjustment is deducted from tax-equivalent net interest income to agree to the amount reported in the consolidated statements of net income. See \u201cExplanation of Use of Non-GAAP Financial Measurements\u201d."]]
[[/GREPCENT_TABLE]]

53

Explanation
of Use of Non-GAAP Financial Measurements.

We
believe that it is common practice in the banking industry to present interest income and related yield information on tax-exempt
loans and securities on a tax-equivalent basis and that such information is useful to investors because it facilitates comparisons
among financial institutions. However, the adjustment of interest income and yields on tax-exempt loans and securities to a tax-equivalent
amount is considered a non-GAAP financial measure. A reconciliation from GAAP to non-GAAP is provided below.

[[GREPCENT_TABLE]]
[["","","For the twelve months ended"],["","","12/31/2022","","","12/31/2021","","","12/31/2020"],["","","(In thousands)"],["Loans (no tax adjustment)","","$","77,264","","","$","74,200","","","$","77,837"],["Tax-equivalent adjustment (1)","","","494","","","","420","","","","447"],["Loans (tax-equivalent basis)","","$","77,758","","","$","74,620","","","$","78,284"],["Securities (no tax adjustment)","","$","8,296","","","$","5,394","","","$","4,342"],["Tax-equivalent adjustment (1)","","","3","","","","4","","","","18"],["Securities (tax-equivalent basis)","","$","8,299","","","$","5,398","","","$","4,360"],["Net interest income (no tax adjustment)","","$","79,232","","","$","73,177","","","$","64,430"],["Tax equivalent adjustment (1)","","","497","","","","424","","","","465"],["Net interest income (tax-equivalent basis)","","$","79,729","","","$","73,601","","","$","64,895"],["Net interest income (no tax adjustment)","","$","79,232","","","$","73,177","","","$","64,430"],["Less:"],["Purchase accounting adjustments","","","175","","","","(55",")","","","976"],["Prepayment penalties and fees","","","281","","","","181","","","","409"],["PPP fee income","","","728","","","","6,769","","","","4,842"],["Adjusted net interest income (non-GAAP)","","$","78,048","","","$","66,282","","","$","58,203"],["Average interest-earning assets","","$","2,396,972","","","$","2,329,877","","","$","2,197,692"],["Average interest-earnings asset, excluding average PPP loans","","$","2,391,252","","","$","2,219,286","","","$","2,052,188"],["Net interest margin (no tax adjustment)","","","3.31","%","","","3.14","%","","","2.93","%"],["Net interest margin, tax-equivalent","","","3.33","%","","","3.16","%","","","2.95","%"],["Adjusted net interest margin, excluding purchase accounting adjustments, PPP fee income and prepayment penalties (non-GAAP)","","","3.26","%","","","2.99","%","","","2.84","%"]]
[[/GREPCENT_TABLE]]

54

[[GREPCENT_TABLE]]
[["","","For the twelve months ended"],["","","12/31/2022","","","12/31/2021","","","12/31/2020"],["","","(In thousands)"],["Income Before Income Taxes (GAAP)","","$","34,629","","","$","31,724","","","$","14,156"],["Provision (credit) for loan losses","","","700","","","","(925",")","","","7,775"],["PPP income","","","(728",")","","","(6,769",")","","","(4,842",")"],["Gain on defined benefit plan curtailment","","","(2,807",")","","","\u2014","","","","\u2014"],["Income Before Taxes, Provision, PPP Income and Defined Benefit Curtailment (non-GAAP)","","$","31,794","","","$","24,030","","","$","17,089"],["Adjusted Efficiency Ratio:"],["Non-interest Expense (GAAP)","","$","57,235","","","$","54,942","","","$","51,750"],["Non-GAAP adjustments:"],["Loss on prepayment of borrowings","","","\u2014","","","","(45",")","","","(987",")"],["Non-interest Expense for Adjusted Efficiency Ratio (non-GAAP)","","$","57,235","","","$","54,897","","","$","50,763"],["Net Interest Income (GAAP)","","$","79,232","","","$","73,177","","","$","64,430"],["Non-interest Income (GAAP)","","$","13,332","","","$","12,564","","","$","9,251"],["Non-GAAP adjustments:"],["Loss (gain) on securities, net","","","4","","","","72","","","","(1,965",")"],["Unrealized losses (gain) on marketable equity securities","","","717","","","","168","","","","(109",")"],["Loss on interest rate swap termination","","","\u2014","","","","402","","","","2,353"],["Gain on non-marketable equity investments","","","(422",")","","","(898",")","","","\u2014"],["Gain on defined benefit plan curtailment","","","(2,807",")","","","\u2014","","","","\u2014"],["Non-interest Income for Adjusted Efficiency Ratio (non-GAAP)","","$","10,824","","","$","12,308","","","$","9,530"],["Total Revenue for Adjusted Efficiency Ratio (non-GAAP)","","$","90,056","","","$","85,485","","","$","73,960"],["Efficiency Ratio (GAAP)","","","61.83","%","","","64.08","%","","","70.24","%"],["Adjusted Efficiency Ratio (Non-interest Expense for Efficiency Ratio (non-GAAP)/Total Revenue for Efficiency Ratio (non-GAAP))","","","63.55","%","","","64.64","%","","","69.97","%"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(1)","The tax equivalent adjustment is based upon a 21% tax rate for 2022, 2021 and 2020."]]
[[/GREPCENT_TABLE]]

55

Comparison
of Financial Condition at December 31, 2022 and December 31, 2021.

At
December 31, 2022, total assets were $2.6 billion, an increase of $14.7 million, or 0.6%, from December 31, 2021. The balance
sheet composition and changes since December 31, 2021 are discussed below.

Cash
and Cash Equivalents.

Cash
and cash equivalents is comprised of cash on hand and amounts due from banks, interest-earning deposits in other financial institutions
and federal funds sold. Cash and cash equivalents totaled $30.3 million, or 1.2% of total assets, at December 31, 2022 and $103.5
million, or 4.1% of total assets, at December 31, 2021. Balances in cash and cash equivalents will fluctuate due primarily to
the timing of net deposit flows, borrowing and loan inflows and outflows, investment purchases and maturities, calls and sales
proceeds, and the immediate liquidity needs of the Company. The decrease in cash and cash equivalents at December 31, 2022 is
primarily due to the Company utilizing cash on hand to fund loan growth during the year ended December 31, 2022.

Investments.

At
December 31, 2022, the Company’s available-for-sale securities portfolio decreased $47.4 million, or 24.4%, from $194.4
million at December 31, 2021 to $147.0 million at December 31, 2022. The held-to-maturity securities portfolio, recorded at amortized
cost, increased $7.9 million, or 3.6%, from $222.3 million at December 31, 2021 to $230.2 million at December 31, 2022. The marketable
equity securities portfolio decreased $5.7 million, or 47.6%, from $11.9 million at December 31, 2021 to $6.2 million at December
31, 2022. The decreases were due to principal pay downs and redemptions, as well as an increase in unrealized loss on securities
available-for-sale. The primary objective of the investment portfolio is to provide liquidity and maximize income while preserving
the safety of principal.

The
Bank is required to purchase FHLB stock at par value in association with advances from the FHLB. The stock is classified as a
restricted investment and carried at cost which management believes approximates fair value. The Company’s investment in
FHLB capital stock amounted to $2.9 million and $2.2 million at December 31, 2022 and December 31, 2021, respectively.

At
December 31, 2022 and 2021, the Company held $423,000 of Atlantic Community Bankers Bank stock. The stock is restricted and carried
in other assets at cost. The stock is evaluated for impairment based on an estimate of the ultimate recovery to the par value.

Loans.

At
December 31, 2022, total loans were $2.0 billion, an increase of $126.7 million, or 6.8%, from December 31, 2021. Excluding PPP
loans, total loans increased $149.7 million, or 8.1%, driven by an increase in commercial real estate loans of $89.4 million,
or 9.1%, an increase in total commercial and industrial loans of $16.2 million, or 8.1%, an increase in residential real estate
loans, which include home equity loans, of $43.0 million, or 6.6%, and a decrease in PPP loans of $23.1 million, or 91.0%, from
December 31, 2021. During the twelve months ended December 31, 2022 and 2021, the Company sold $277,000 and $59.7 million, respectively,
of fixed rate, low coupon residential real estate loans to the secondary market. As of December 31, 2022, the Company serviced
$79.3 million in loans sold to the secondary market, compared to $88.2 million at December 31, 2021. Servicing rights will likely
continue to be retained on all loans written and sold to the secondary market.

Bank-Owned
Life Insurance (“BOLI”).

The
Company indirectly utilizes the earnings on BOLI to offset the cost of the Company’s benefit plans. The cash surrender value
of BOLI was $74.6 million and $72.9 million at December 31, 2022 and 2021, respectively.

Deposits.

At
December 31, 2022, total deposits were $2.2 billion, a decrease of $27.5 million, or 1.2%, from December 31, 2021, primarily due
to a decrease in core deposits of $37.1 million, or 2.0%. Core deposits, which the Company defines as all deposits except time
deposits, decreased from $1.9 billion, or 82.2% of total deposits, at December 31, 2021, to $1.8 billion, or 81.5% of total deposits,
at December 31, 2022. Non-interest-bearing deposits increased $4.2 million, or 0.7%, to $645.5 million, interest-bearing checking
accounts increased $3.0 million, or 2.1%, to $148.7 million, savings accounts increased $4.8 million, or 2.2%, to $222.4 million,
and money market accounts decreased $49.3 million, or 5.8%, to $801.1 million. Time deposits increased $9.7 million, or 2.4%,
from $402.0 million at December 31, 2021 to $411.7 million at December 31, 2022. 

56

Borrowed
Funds.

At
December 31, 2022, total borrowings increased $39.9 million, or 178.9%, from $22.3 million at December 31, 2021, to $62.2 million.
Short-term borrowings and long-term debt increased $39.9 million to $42.5 million and subordinated debt outstanding totaled $19.7
million at December 31, 2022 and $19.6 million at December 31, 2021.

Shareholders’
Equity.

At
December 31, 2022, shareholders’ equity was $228.1 million, or 8.9% of total assets, compared to $223.7 million, or 8.8%
of total assets, at December 31, 2021. The increase in shareholders’ equity reflects net income of $25.9 million, partially
offset by $6.4 million for the repurchase of the Company’s common stock, the payment of regular cash dividends of $5.3 million
and an increase in accumulated other comprehensive loss of $12.7 million. Total shares outstanding as of December 31, 2022 were
22,216,789.

The
Company’s book value per share was $10.27 at December 31, 2022 compared to $9.87 at December 31, 2021, while tangible book
value per share, a non-GAAP financial measure, increased $0.40, or 4.3%, from $9.21 at December 31, 2021 to $9.61 at December
31, 2022. Reflected in the book value and tangible book value changes during the year ended December 31, 2022 are the Federal
Reserve’s 425 basis points interest rate increases, which resulted in significant changes in unrealized gains and losses
on investment securities. Such unrealized gains and losses are generally due to changes in interest rates and represent the difference,
net of applicable income tax effect, between the estimated fair value and amortized cost of investment securities classified as
available-for-sale. The Company had no other-than-temporary impairment charges in its investment portfolio in 2022 or 2021. Tangible
book value is a Non-GAAP measure. For more information regarding the Company’s use of Non-GAAP financial measures see “Explanation
of Use of Non-GAAP Financial Measurements.” As of December 31, 2022, the Company’s and the Bank’s regulatory
capital ratios continued to exceed the levels required to be considered “well-capitalized” under federal banking regulations.

Pension
Plan.

On
October 31, 2022, the Board of Director’s previously approved termination of the Westfield Bank Defined Benefit Pension
Plan (“DB Plan”) became effective, subject to regulatory approvals. Once the Company has received regulatory approval
to terminate the DB Plan, which is expected in the first quarter of 2023, the Company will make an additional cash contribution
during the second quarter of 2023, if necessary, in order to fully fund the DB Plan on a plan termination basis, followed by the
purchase of annuity contracts to transfer its remaining liabilities under the DB Plan, for those participants who do not opt for
a one-time lump sum payment. The actual amount of this cash contribution, if any, will depend upon the nature and timing of participant
settlements, as well as prevailing market conditions. At December 31, 2022, the Company reversed $7.3 million in net unrealized
losses recorded in accumulated other comprehensive income attributed to both the DB plan curtailment resulting from the termination
of the DB Plan as well as changes in discount rates. In addition, the Company recorded a gain on curtailment of $2.8 million through
non-interest income. The improvement in book value and tangible book value for the three months ended December 31, 2022 were primarily
related to the termination of the DB Plan.

Assets
under Management.

Total
assets under management include loans serviced for others and investment assets under management. Loans serviced for others and
investment assets under management are not carried as assets on the Company’s consolidated balance sheet, and as such, total assets
under management is not a financial measurement recognized under GAAP, however, management believes its disclosure provides information
useful in understanding the trends in total assets under management.

The
Company provides a wide range of investment advisory and wealth management services through Westfield Investment Services through
LPL Financial, a third-party broker-dealer. Investment assets under management decreased $35.6 million, or 18.9%, from $188.1
million for the year ended December 31, 2021, to $152.5 million for the year ended December 31, 2022.

57

Comparison
of Operating Results for Years Ended December 31, 2022 and 2021.

General.

For
the twelve months ended December 31, 2022, the Company reported net income of $25.9 million, or $1.18 per diluted share, compared
to $23.7 million, or $1.02 per diluted share, for the twelve months ended December 31, 2021.

Net
Interest Income and Net Interest Margin.

During
the twelve months ended December 31, 2022, net interest income increased $6.0 million, or 8.3%, to $79.2 million, compared to
$73.2 million for the twelve months ended December 31, 2021. The increase in net interest income was due to an increase in interest
and dividend income of $6.1 million, or 7.6%, partially offset by an increase in interest expense of $24,000, or 0.4%. For the
twelve months ended December 31, 2022, the Company generated net interest income growth of 8.3%, overcoming a $6.0 million, or
89.2%, decrease in PPP income as the PPP program comes to a close. Excluding PPP income of $728,000 and $6.8 million for the twelve
months ended December 31, 2022 and the twelve months ended December 31, 2021, respectively, net interest income increased $12.1
million, or 18.2% for the same period.

The
net interest margin for the twelve months ended December 31, 2022 was 3.31%, compared to 3.14% during the twelve months ended
December 31, 2021. The net interest margin, on a tax-equivalent basis, was 3.33% for the twelve months ended December 31, 2022,
compared to 3.16% for the twelve months ended December 31, 2021. Excluding the PPP income, the net interest margin increased 29
basis points from 2.99% for the twelve months ended December 31, 2021 to 3.28% for the twelve months ended December 31, 2022.

The
average yield on interest-earning assets increased 15 basis point from 3.43% for the twelve months ended December 31, 2021 to
3.58% for the twelve months ended December 31, 2022. During the twelve months ended December 31, 2022, the average cost of funds,
including non-interest-bearing demand accounts and borrowings, decreased one basis point from 0.30% for the twelve months ended
December 31, 2021 to 0.29% for the twelve months ended December 31, 2022. For the twelve months ended December 31, 2022, the average
cost of core deposits, including non-interest-bearing demand deposits, increased three basis points from 0.17% for the twelve
months ended December 31, 2021 to 0.20% for the twelve months ended December 31, 2022. The average cost of time deposits decreased
12 basis points from 0.53% for the twelve months ended December 31, 2021 to 0.41% during the same period in 2022. The average
cost of borrowings, which include FHLB advances and subordinated debt, increased 122 basis points from 3.04% for the twelve months
ended December 31, 2021 to 4.26% for the twelve months ended December 31, 2022, due to the issuance of $20.0 million in subordinated
debt in April 2021.

For
the twelve months ended December 31, 2022, average demand deposits, an interest-free source of funds, increased $39.0 million,
or 6.4%, from $609.0 million, or 28.0% of total average deposits, for the twelve months ended December 31, 2021, to $648.0 million,
or 28.6% of total average deposits, for the twelve months ended December 31, 2022.

During
the twelve months ended December 31, 2022, average interest-earning assets increased $67.1 million, or 2.9%, to $2.4 billion.
The increase in average interest-earning assets was due to an increase in average loans of $65.6 million, or 3.5%, as well as
an increase in average securities of $87.7 million, or 27.4%, partially offset by a decrease of $86.2 million, or 77.0%, in short-term
investments, which consists of cash and cash equivalents. Excluding average PPP loans, average loans increased $170.5 million,
or 9.6%, and average interest-earnings assets increased $172.0 million, or 7.7%.

Provision
for Loan Losses.

The
provision for loan losses is reviewed by management based upon our evaluation of then-existing economic and business conditions
affecting our key lending areas and other conditions, such as new loan products, credit quality trends (including trends in nonperforming
loans expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions
within portfolio segments that existed as of the balance sheet date and the impact that such conditions were believed to have
had on the collectability of the loan portfolio.

58

The
provision for loan losses increased $1.6 million, to $700,000 for the twelve months ended December 31, 2022, from a credit for
loan losses of $925,000 for the twelve months ended December 31, 2021, primarily driven by loan growth during the year ended December
31, 2022. The credit for loan losses for the twelve months ended December 31, 2021 was due to the Company reducing its qualitative
factors related to the impact of the COVID-19 pandemic and other economic trends used in the Company’s allowance.

The
Company recorded net charge-offs of $556,000 for the twelve months ended December 31, 2022, as compared to net charge-offs of
$445,000 for the twelve months ended December 31, 2021. The allowance for loan losses as a percentage of total loans was 1.00%
at December 31, 2022, compared to 1.06% at December 31, 2021. At December 31, 2022, the allowance for loan losses as a percentage
of nonperforming loans was 350.0%, compared to 398.6%, at December 31, 2021.

Although
management believes it has established and maintained the allowance for loan losses at appropriate levels, future adjustments
may be necessary if economic, real estate and other conditions differ substantially from the current operating environment.

Non-Interest
Income.

For
the twelve months ended December 31, 2022, non-interest income increased $768,000, or 6.1%, from $12.6 million for the twelve
months ended December 31, 2021 to $13.3 million for the twelve months ended December 31, 2022. During the twelve months ended
December 31, 2021, non-interest income included the recognition of $555,000 in BOLI death benefits. During the twelve months ended
December 31, 2022, service charges and fees increased $712,000, or 8.5%, and mortgage banking income decreased $1.4 million from
the twelve months ended December 31, 2021 to the twelve months ended December 31, 2022. In 2021, the Company sold $59.7 million
in fixed rate residential real estate loans to the secondary market, compared to $277,000 in sales during the twelve months ended
December 31, 2022. Other income from loan-level swap fees on commercial loans decreased $33,000, or 56.9%, and income from BOLI
decreased $187,000, or 9.8%.

On
October 31, 2022, the termination of the Westfield Bank Defined Benefit Pension Plan (the “DB Plan”) became effective,
subject to regulatory approvals expected in the first quarter of 2023, with final settlement expected to occur occurring in the
second quarter of 2023. During the twelve months ended December 31, 2022, the Company recorded a curtailment gain related to the
DB Plan termination of $2.8 million through non-interest income. Excluding the defined benefit curtailment gain as a result of
the termination of the DB Plan and BOLI death benefits, non-interest income decreased $1.5 million, or 12.5%. During the twelve
months ended December 31, 2022, the Company reported unrealized losses on marketable equity securities of $717,000, compared to
unrealized losses of $168,000 during the twelve months ended December 31, 2021. During the twelve months ended December 31, 2022,
the Company also reported realized losses on the sale of securities of $4,000, compared to realized losses on the sale of securities
of $72,000 during the twelve months ended December 31, 2021. In addition, the Company reported a gain of $422,000 on non-marketable
equity investments during the twelve months ended December 31, 2022, compared to $898,000 during the twelve months ended December
31, 2021. Gains and losses from the investment portfolio vary from quarter to quarter based on market conditions, as well as the
related yield curve and valuation changes. During the twelve months ended December 31, 2021, the Company also recognized a loss
on interest rate swap termination of $402,000 representing the unamortized portion of a $3.4 million loss associated with the
previous termination of a $32.5 million interest rate swap on March 16, 2016.

Non-Interest
Expense.

For
the twelve months ended December 31, 2022, non-interest expense increased $2.3 million, or 4.2%, to $57.2 million, compared to
$54.9 million for the twelve months ended December 31, 2021. The increase in non-interest expense was primarily due to an increase
in salaries and employee benefits expense of $511,000, or 1.6%, due to normal annual salary increases as well as higher incentive
compensation costs. Other non-interest expense increased $878,000, or 10.2%, professional fees increased $531,000, or 24.3%, which
is comprised of legal fees, audit and compliance fees, as well as other professional fees. Occupancy expense increased $328,000,
or 7.0%, advertising expense increased $116,000, or 9.0%, and FDIC insurance expense increased $50,000, or 5.0%. These increases
were partially offset by a decrease in furniture and equipment expense of $58,000, or 2.8%, and a decrease in data processing
expense of $18,000, or 0.6%. During the twelve months ended December 31, 2021, the Company prepaid $32.5 million of FHLB borrowings
resulting in a loss of $45,000. For the twelve months ended December 31, 2022, the efficiency ratio was 61.8%, compared to 64.1%
for the twelve months ended December 31, 2021. For the twelve months ended December 31, 2022, the adjusted efficiency ratio, a
non-GAAP financial measure, was 63.6%, compared to 64.6% for the twelve months ended December 31, 2021. For more information regarding
the Company’s use of Non-GAAP financial measures see “Explanation of Use of Non-GAAP Financial Measurements.”

59

Income
Taxes.

Income
tax expense for the twelve months ended December 31, 2022 was $8.7 million, representing an effective tax rate of 25.2%, compared
to $8.0 million, representing an effective tax rate of 25.3%, for twelve months ended December 31, 2021.

Liquidity
and Capital Resources.

The
term “liquidity” refers to our ability to generate adequate amounts of cash to fund loan originations, loan purchases,
deposit withdrawals and operating expenses. Our primary sources of liquidity are deposits, scheduled amortization and prepayments
of loan principal and mortgage-backed securities, maturities and calls of investment securities and funds provided by our operations.
We also can borrow funds from the FHLB based on eligible collateral of loans and securities. Our material cash commitments include
funding loan originations, fulfilling contractual obligations with third-party service providers, maintaining operating leases
for certain of our Bank properties and satisfying repayment of our long-term debt obligations.

Primary
Sources of Liquidity

At
December 31, 2022 and December 31, 2021, outstanding borrowings from the FHLB were $36.2 million and $2.7 million, respectively.
At December 31, 2022, we had $407.4 million in available borrowing capacity with the FHLB. We have the ability to increase our
borrowing capacity with the FHLB by pledging investment securities or additional loans.

In
addition, we have available lines of credit of $15.0 million and $50.0 million with other correspondent banks. Interest rates
on these lines are determined and reset on a daily basis by each respective bank. At December 31, 2022 and 2021, we did not have
an outstanding balance under either of these lines of credit. In addition, we may enter into reverse repurchase agreements with
approved broker-dealers. Reverse repurchase agreements are agreements that allow us to borrow money using our securities as collateral.

We
also have outstanding at any time, a significant number of commitments to extend credit and provide financial guarantees to third
parties. These arrangements are subject to strict credit control assessments. Guarantees specify limits to our obligations. Because
many commitments and almost all guarantees expire without being funded in whole or in part, the contract amounts are not estimates
of future cash flows. We are also obligated under agreements with the FHLB to repay borrowed funds and are obligated under leases
for certain of our branches and equipment.

Maturing
investment securities are a relatively predictable source of funds. However, deposit flows, calls of securities and prepayments
of loans and mortgage-backed securities are strongly influenced by interest rates, general and local economic conditions and competition
in the marketplace. These factors reduce the predictability of the timing of these sources of funds.

The
Company’s primary activities are the origination of commercial real estate loans, commercial and industrial loans and residential
real estate loans, as well as and the purchase of mortgage-backed and other investment securities. During the year ended December
31, 2022, we originated $447.4 million in loans, compared to $611.4 million in 2021. During the year ended December 31, 2022,
cash and cash equivalents decreased $73.1 million, or 70.7%, to $30.3 million, as cash on hand was used during the year to fund
loan growth. We purchased securities totaling $33.0 million for the year ended December 31, 2022, compared to purchases of $296.6
million for the year ended December 31, 2021. At December 31, 2022, the Company had approximately $176.7 million in loan commitments
and letters of credit to borrowers and approximately $328.8 million in available home equity and other unadvanced lines of credit.

60

Deposit
inflows and outflows are affected by the level of interest rates, the products and interest rates offered by competitors and by
other factors. At December 31, 2022, time deposit accounts scheduled to mature within one year totaled $288.7 million. Based on
the Company’s deposit retention experience and current pricing strategy, we anticipate that a significant portion of these
time deposits will remain on deposit. We monitor our liquidity position frequently and anticipate that it will have sufficient
funds to meet our current funding commitments for the next 12 months and beyond.

At
December 31, 2022, the Company and the Bank exceeded each of the applicable regulatory capital requirements (See Note 13, Regulatory
Capital, to our consolidated financial statements for further information on our regulatory requirements).

Material
Cash Commitments

The
Company entered into a long-term contractual obligation with a vendor for use of its core provider and ancillary services beginning
in 2016. Total remaining contractual obligations outstanding with this vendor as of December 31, 2022 were estimated to be $10.7
million, with $4.9 million expected to be paid within one year and the remaining $5.8 million to be paid within the next three
years. Further, the Company has operating leases for certain of its banking offices and ATMs. Our leases have remaining lease
terms of less than one year to sixteen years, some of which include options to extend the leases for additional five-year terms
up to ten years. Undiscounted lease liabilities totaled $11.2 million as of December 31, 2022. Principal payments expected to
be made on our lease liabilities during the twelve months ended December 31, 2023 were $1.4 million. The remaining lease liability
payments totaled $9.8 million and are expected to be made after December 31, 2023 (See Note 12, Leases, to our consolidated
financial statements for further information on our lease obligations).

In
addition, the Company completed an offering of $20 million in aggregate principal amount of its 4.875% fixed-to-floating rate
subordinated notes (the “Notes”) to certain qualified institutional buyers in a private placement transaction on April
20, 2021. Unless earlier redeemed, the Notes mature on May 1, 2031. At December 31, 2022, $19.7 million aggregate principle amount
of the Notes was outstanding. The Notes will bear interest from the initial issue date to, but excluding, May 1, 2026, or the
earlier redemption date, at a fixed rate of 4.875% per annum, payable quarterly in arrears on May 1, August 1, November 1 and
February 1 of each year, beginning August 1, 2021, and from and including May 1, 2026, but excluding the maturity date or earlier
redemption date, equal to the benchmark rate, which is the 90-day average secured overnight financing rate, plus 412 basis points,
determined on the determination date of the applicable interest period, payable quarterly in arrears on May 1, August 1, November
1 and February 1 of each year. The Company may also redeem the Notes, in whole or in part, on or after May 1, 2026, and at any
time upon the occurrence of certain events, subject in each case to the approval of the Board of Governors of the Federal Reserve
(See Note 8, Long-Term Debt, to our consolidated financial statements for further information on our long-term debt).

We
do not anticipate any material capital expenditures during the calendar year 2023, except in pursuance of the Company’s
strategic initiatives. The Company does not have any balloon or other payments due on any long-term obligations or any off-balance
sheet items other than the commitments and unused lines of credit noted above.

Off-Balance
Sheet Arrangements.

The
Company does not have any off-balance sheet arrangements, other than noted above and in Note 16, Commitments and Contingencies,
to our consolidated financial statements, that have or are reasonably likely to have a current or future effect on our financial
condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital
resources that is material to investors.

Management
of Market Risk.

As
a financial institution, our primary market risk is interest rate risk since substantially all transactions are denominated in
U.S. dollars with no direct foreign exchange or changes in commodity price exposure. Fluctuations in interest rates will affect
both our level of income and expense on a large portion of our assets and liabilities. Fluctuations in interest rates will also
affect the market value of all interest-earning assets and interest-bearing liabilities.

61

The
Company’s interest rate management strategy is to limit fluctuations in net interest income as interest rates vary up or
down and control variations in the market value of assets, liabilities and net worth as interest rates vary. We seek to coordinate
asset and liability decisions so that, under changing interest rate scenarios, net interest income will remain within an acceptable
range.

In
order to achieve the Company’s objectives of managing interest rate risk, the Asset and Liability Management Committee (“ALCO”)
meets periodically to discuss and monitor the market interest rate environment relative to interest rates that are offered on
our products. ALCO presents quarterly reports to the Board of Directors which includes the Company’s interest rate risk
position and liquidity position.

The
Company’s primary source of funds are deposits, consisting primarily of time deposits, money market accounts, savings accounts,
demand accounts and interest-bearing checking accounts, which have shorter terms to maturity than the loan portfolio. Several
strategies have been employed to manage the interest rate risk inherent in the asset/liability mix, including but not limited
to:

[[GREPCENT_TABLE]]
[["","\u25cf","maintaining the diversity of our existing loan portfolio through residential real estate loans, commercial and industrial loans and commercial real estate loans;"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","emphasizing investments with an expected average duration of five years or less; and"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","when appropriate, using interest rate swaps to manage the interest rate position of the balance sheet."]]
[[/GREPCENT_TABLE]]

In
2022, cash flows from deposit inflows were used to fund loan growth and purchase held-to-maturity and available-for-sale securities.
The Company continues its emphasis on growing commercial loans, which typically have variable interest rates and shorter maturities
than residential loans.

The
actual amount of time before loans are repaid can be significantly affected by changes in market interest rates. Prepayment rates
will also vary due to a number of other factors, including the regional economy in the area where the loans were originated, seasonal
factors, demographic variables and the assumability of the loans. However, the major factors affecting prepayment rates are prevailing
interest rates, related financing opportunities and competition. We monitor interest rate sensitivity so that we can adjust our
asset and liability mix in a timely manner and minimize the negative effects of changing rates.

The
Company’s liquidity sources are vulnerable to various uncertainties beyond our control. Loan amortization and investment
cash flows are a relatively stable source of funds, while loan and investment prepayments and calls, as well as deposit flows
vary widely in reaction to market conditions, primarily prevailing interest rates. Asset sales are influenced by pledging activities,
general market interest rates and unforeseen market conditions. Our financial condition is affected by our ability to borrow at
attractive rates, retain deposits at market rates and other market conditions. We consider our sources of liquidity to be adequate
to meet expected funding needs and also to be responsive to changing interest rate markets.

Interest
Rate Risk.

Interest
rate risk represents the sensitivity of earnings to changes in market interest rates. As interest rates change, the interest income
and expense streams associated with our financial instruments also change, thereby impacting net interest income, the primary
component of our earnings. ALCO utilizes the results of a detailed and dynamic simulation model to quantify the estimated exposure
of net interest income to sustained interest rate changes. While ALCO routinely monitors simulated net interest income sensitivity
over a rolling two-year horizon, they also utilize additional tools to monitor potential longer-term interest rate risk.

The
simulation model captures the impact of changing interest rates on the interest income received and interest expense paid on all
interest-earning assets and interest-bearing liabilities reflected on our consolidated balance sheet, as well as for derivative
financial instruments. This sensitivity analysis is compared to ALCO policy limits, which specify a maximum tolerance level for
net interest income exposure over a one and two-year horizon, assuming no balance sheet growth.

62

The
repricing and/or new rates of assets and liabilities moved in tandem with market rates. However, in certain deposit products,
the use of data from a historical analysis indicated that the rates on these products would move only a fraction of the rate change
amount. Pertinent data from each loan account, deposit account and investment security was used to calculate future cash flows.
The data included such items as maturity date, payment amount, next repricing date, repricing frequency, repricing index, repricing
spread, caps and floors. Prepayment speed assumptions were based upon the difference between the account rate and the current
market rate. We also evaluate changes in interest rate sensitivity under various scenarios including but not limited to nonparallel
shifts in the yield curve, variances in prepayment speeds and variances to correlations of instrument rates to market indexes.

The
table below shows our net interest income sensitivity analysis reflecting the following changes to net interest income for the
first and second years of the simulation model. The analysis assumes no balance sheet growth, a parallel shift in interest rates,
and all rate changes were “ramped” over the first 12-month period and then maintained at those levels over the remainder
of the simulation horizon.

[[GREPCENT_TABLE]]
[["","","Estimated Changes in Net Interest Income"],["Changes in Interest Rates","","At December 31, 2022","","","At December 31, 2021"],["1 \u2013 12 Months"],["+200 basis points","","","-3.9","%","","","-3.9","%"],["-100 basis points","","","1.4","%","","","-2.8","%"],["-200 basis points","","","2.2","%","","","N/A","(1)"],["13 \u2013 24 Months"],["+200 basis points","","","0.2","%","","","-4.5","%"],["-100 basis points","","","9.2","%","","","-8.6","%"],["-200 basis points","","","11.4","%","","","N/A","(1)"],["(1) The down 200 basis points scenario for 2021 is not presented due to certain market rates being below 200 basis points."]]
[[/GREPCENT_TABLE]]

The
preceding sensitivity analysis does not represent a forecast of net interest income, nor do the calculations represent any actions
that management may undertake in response to changes in interest rates. They should not be relied upon as being indicative of
expected operating results. These hypothetical estimates are based upon numerous assumptions including, among others, the nature
and timing of interest rate levels, yield curve shape, prepayments on loans and securities, deposit decay rates, pricing decisions
on loans and deposits and reinvestment/replacement of asset and liability cash flows. While assumptions are developed based upon
current economic and local market conditions, we cannot make any assurances as to the predictive nature of these assumptions,
including how customer preferences or competitor influences might change.

Periodically,
if deemed appropriate, we may use interest rate swaps, floors and caps, which are common derivative financial instruments, to
hedge our interest rate exposure to interest rate movements. The Board of Directors has approved hedging policy statements governing
the use of these instruments. These interest rate swaps are designated as cash flow hedges and involve the receipt of variable
rate amounts from a counterparty in exchange for our making fixed payments. We did not have any interest rate swap agreements
designated as cash flow hedges at December 31, 2022 or 2021.

Recent
Accounting Pronouncements.

Refer
to Note 1 to our consolidated financial statements for a summary of the recent accounting pronouncements.

Impact
of Inflation and Changing Prices.

The
Company’s consolidated financial statements and accompanying notes have been prepared in accordance with GAAP. GAAP generally
requires the measurement of financial position and operating results in terms of historical dollars without consideration for
changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased
cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result,
changes in market interest rates have a greater impact on performance than do the effects of inflation.

63