WILSON BANK HOLDING CO

Net earnings of the Company increased$2,675,000, or 10.20%, to$28,905,000 for thesix months ended June 30, 2024, from$26,230,000 in the first six months of 2023. Net earnings of the Company for the three months ended June 30, 2024 were $16,137,000, an increase of $3,748,000, or 30.25% from $12,389,000 for the three months ended June 30, 2023. The increase in net earnings for the three and six months ended June 30, 2024 was primarily due to an increase in net interest income and non-interest income, and a decrease in provision for credit losses-loans, partially offset by an increase in non-interest expense. The increase in net interest income was due to an increase in average interest earning asset balances and an increase in the average yield earned on earning assets, partially offset by an increase in cost of funds. The increase in non-interest income is primarily due to increases in brokerage income, debit and credit card interchange income, gain on sale of loans and service charges on deposit accounts, partially offset by an increase in the loss on sale of securities due to a realized loss on a security that was redeemed by the issuer. The increase in non-interest expense was primarily due to increases in salaries and employee benefits, data processing expense, and FDIC insurance. The increases in non-interest income and non-interest expenses are discussed in more detail below in the sections of this report titled, "Non-Interest Income" and "Non-Interest Expense". The decrease in provision for credit losses is discussed in more detail below in the section of this report titled "Provision For Credit Losses".

Return on average assets (ROA) and return on average shareholders' equity (ROE) are common benchmarks for bank profitability and are calculated by taking our annualized net earnings for the relevant period and dividing that amount by our average assets and average equity for the relevant periods, respectively. ROA and ROE measure a company’s return on investment in a format that is easily comparable to other financial institutions. ROA is particularly important to the Company as it serves as the basis for certain executive and employee bonuses. The ROA for the three and six months ended June 30, 2024 was 1.31% and 1.19%, respectively; while the ROA for the three and six months ended June 30, 2023 was 1.11% and 1.20%, respectively. The ROE for the three months ended June 30, 2024 and 2023 was 14.84% and 12.65%, respectively. The ROE for the six months ended June 30, 2024 and 2023 was 13.39% and 13.63%, respectively. The increase in ROA and ROE for the three months ended June 30, 2024 was due to an increase in net interest income, a decrease in provision for credit losses-loans, and an increase in non-interest income, partially offset by an increase in non-interest expense. The decrease in ROA for the six months ended June 30, 2024 was due to the growth in average assets outpacing the growth in net income. The decrease in ROE for the six months ended June 30, 2024 was due to the growth in average shareholders' equity outpacing the growth in net income.

Net Interest Income

The average balances, interest, and average rates of our assets and liabilities for thethree and six months ended June 30, 2024 and 2023 are presented in the following table (dollars in thousands):

Notes:

(1)

Yields on loans and total earning assets include the impact of State income tax credits related to incentive loans at below market rates and tax exempt loans to municipalities.

(2)

Loan fees of $4.3 million are included in interest income for the period ended June 30, 2024. Loan fees of $3.2 million are included in interest income for the period ended June 30, 2023.

(3)

The tax equivalent adjustment has been computed using a 21% Federal tax rate.

(4)

Annualized net interest income on a tax equivalent basis divided by average interest-earning assets.

(5)

Average interest rate on interest-earning assets less average interest rate on interest-bearing liabilities.

Notes:

(1)

Yields on loans and total earning assets include the impact of State income tax credits related to incentive loans at below market rates and tax exempt loans to municipalities.

(2)

Loan fees of $6.9 million are included in interest income for the period ended June 30, 2024. Loan fees of $5.9 million are included in interest income for the period ended June 30, 2023.

(3)

The tax equivalent adjustment has been computed using a 21% Federal tax rate.

(4)

Annualized net interest income on a tax equivalent basis divided by average interest-earning assets.

(5)

Average interest rate on interest-earning assets less average interest rate on interest-bearing liabilities.

The components of our loan yield, a key driver to our net interest margin for thethree and six months ended June 30, 2024 and 2023, were as follows:

Net interest margin for the six months ended June 30, 2024 and 2023 was 3.24% and 3.41%, respectively. The decrease in net interest margin for the six months ended June 30, 2024 compared to the prior year comparable periodwas primarily due to an increase in the cost of funds, partially offset by an increase in average interest earning asset balances and an increase in the yield earned on such assets. The increase in cost of funds was due to the Bank raising the rates paid on deposits due to competitive pressures and depositors transferring funds from lower rate earning or non-interest bearing accounts to higher rate earning accounts to take advantage of the higher rates. The Federal Reserve influences the general market rates of interest, including the deposit and loan rates offered by many financial institutions. Our loan portfolio is significantly affected by changes in the prime interest rate. The prime interest rate, which is the rate offered on loans to borrowers with strong credit, increased 525 basis points from the first quarter of 2022 through 2023 as the Federal Reserve sought to address high levels of inflation. The direction and speed with which short-term interest rates move has an impact on our net interest income. The yield on loans increased during the three and six months ended June 30, 2024 when compared to the comparable periods in 2023 due to the higher rates charged on new loans and the repricing of a portion of the Bank's variable rate loan portfolio. The net interest spread was 2.83% and 3.14% for the six months ended June 30, 2024 and 2023, respectively.

Net interest margin for the three months ended June 30, 2024 and 2023 was 3.34% and 3.27%, respectively. The increase in net interest margin for the second quarter of 2024 was primarily due to the increase in average interest earning asset balances and an increase in the yield earned on loans outpacing the increase in cost of funds as competitive pressures improved in the second quarter of 2024. The net interest spread was 2.92% and 2.95% for the three months ended June 30, 2024 and 2023, respectively.

We anticipate that our net interest margin is likely to expand throughout the remainder of 2024 as the yield on loans is likely to rise faster than the rates we pay on deposits. However, if our deposit pricing and other funding costs continue to increase, including if we are required to increase the rates we pay on deposits or secure additional brokered deposits, in either case to fund our loan growth in the second half of 2024, while rates we earn on our earning assets rise at slower rates, decrease or remain flat, our net interest margin will be compressed, negatively impacting our net interest income. If short term rates begin to decline, as the Company believes is likely to happen in the second half of 2024, the Company’s net interest margin and earnings could be negatively impacted if the yields on loans decrease faster than the Company is able to lower deposit rates, including as a result of loan growth outpacing our ability to add lower cost core deposits.

Net interest income represents the amount by which interest earned on various earning assets exceeds interest paid on deposits and other interest-bearing liabilities and is the most significant component of the Company’s earnings. Net interest income, excluding tax equivalent adjustments relating to tax exempt securities and loans, for the three and six months ended June 30, 2024 totaled$38,460,000 and $74,021,000, respectively. Net interest income, excluding tax equivalent adjustments relating to tax exempt securities and loans, for the three and six months ended June 30, 2023 totaled $34,053,000 and $69,483,000, respectively.

The increase in net interest income for the three and six months ended June 30, 2024 compared to the comparable periods in 2023 was primarily due to an increase in interest and fees on loans, an increase in interest earned on deposits with depository institutions, and an increase in interest and dividends earned on securities, partially offset by an increase in interest expense resulting from the increase in the cost of funds, as discussed above.

The ratio of average earning assets to total average assets for thethree and six months ended June 30, 2024 was 95.7% compared to 95.3% and 95.2%, respectively, for the same periods in 2023.

Interest expense increased in the three and six months ended June 30, 2024 when compared to the comparable periods in 2023 as competitive pressures in the second half of 2023 in the elevated short-term interest rate environment required the Bank to raise rates paid on deposits and the Bank's customers continued to shift deposits from transaction and money market accounts to time deposit accounts. We expect deposit costs to continue to increase during the remainder of 2024 due to those same factors, as well as our expectation that a portion of the Bank's time deposits that are currently below the current market rates will reprice at higher rates and that we will experience an increase in overall deposit balances. Though we expect deposit costs will continue to rise in the second half of 2024, we believe those costs should increase at a slower pace than we experienced in 2023 as competitive pricing pressures have begun to abate.

Provision for Credit Losses

The provision for credit losses represents a charge to earnings necessary to establish an allowance for credit losses that, in management's evaluation is adequate to provide coverage for all expected credit losses. The determination of the amount of the allowance for credit losses ("ACL") is complex and involves a high degree of judgment and subjectivity. Refer to Note 1, "Summary of Significant Accounting Policies" in the notes to our consolidated financial statements appearing elsewhere in this Quarterly Report on Form 10-Q for a detailed discussion regarding ACL methodology.

There was no provision for credit losses-loans for the three and six months ended June 30, 2024 compared to a provision of $2,078,000 and$4,040,000 for the three and six months ended June 30, 2023, respectively. Loan growth and a slight degradation in credit performance was balanced by an improved economic outlook in the second quarter of 2024, which contributed to management's decision to record no provision for credit losses-loans for the second quarter of 2024.

As discussed below under Financial Condition-Loans, loan growth slowed for the six months ended June 30, 2024 compared to the same period for 2023. Loan growth for the six months ended June 30, 2024 was $161,883,000, while loan growth for the six months ended June 30, 2023 was $262,690,000.

There was no provision for credit losses-off balance sheet exposures for the three and six months ended June 30, 2024 compared to a benefit of $1,020,000 and $2,298,000 for the three and six months ended June 30, 2023. Despite a minor decline in unfunded balances and improved economic outlook, the level of credit losses-off balance sheet exposures for the three and six months ended June 30, 2024 remained unchanged due to the increase in stressed credits on our balance sheet.

The following detail provides a breakdown of the provision for credit loss-loans expense and net (charge-offs) recoveries as of and for the six months ended June 30, 2024 and 2023:

The provision for credit losses-loans charged to operating expense requires us to estimate all expected credit losses over the remaining life of our loan portfolio. Other factors which, in management’s judgment, deserve current recognition in estimating expected credit losses include growth and composition of the loan portfolio, review of specific problem loans, the relationship of the allowance for credit losses to outstanding loans, adverse situations that may affect our borrowers' ability to repay, the estimated value of any underlying collateral and current economic conditions that may affect our borrowers' ability to pay.

There was no provision for credit losses on available-for-sale securities for the three and six months ended June 30, 2024 and 2023, respectively.

Non-Interest Income

Our non-interest income is composed of several components, some of which vary significantly between quarterly and annual periods. The following is a summary of our non-interest income for the three and six months ended June 30, 2024 and 2023 (in thousands):

The increase in non-interest income for the three and six months ended June 30, 2024 when compared to the comparable period in 2023 is primarily attributable to increases in brokerage income, debit and credit card interchange income, gain on sale of loans and service charges on deposit accounts, partially offset by an increase in loss on sale of securities. The increase in non-interest income for the six months ended June 30, 2024 was also partially offset by an increase in the loss on sale of fixed assets.

The increase in brokerage income for the three and six months ended June 30, 2024 compared to the comparable time periods in 2023 was primarily due to multiple client acquisitions, the completion of estate planning cases, and an increase of overall market share in our market areas as well as the positive performance of financial markets.

The increase in gain on sale of loans for the three and six months ended June 30, 2024 compared to the comparable time periods in 2023 was primarily due to an increase in gain on sale of SBA loans and an increase in income from Encompass as a result of increased volume.

The increase in service charges on deposit accounts for the three and six months ended June 30, 2024 compared to the three and six months ended June 30, 2023 was primarily due to an increase in overdraft fees as a result of an increase in transaction volume.

The increase in loss on sale of securities for the three and six months ended June 30, 2024 compared to the comparable time periods in 2023 was due to the realized loss on a security that was redeemed by the issuer, partially offset by the realized gain on the sale of another security.

The loss on sale of fixed assets for the six months ended June 30, 2024 was primarily due to write-offs associated with the closure of our leased Wal-Mart branch that we closed on January 13, 2024.

Non-Interest Expense

Non-interest expense consists primarily of employee costs, occupancy expenses, furniture and equipment expenses, advertising and public relations expenses, data processing expenses, director’s fees, audit, legal and consulting fees, FDIC insurance and other operating expenses. The following is a summary of our non-interest expense for the three and six months ended June 30, 2024 and 2023 (in thousands):

The increase in non-interest expense for the three and six months ended June 30, 2024 when compared to the comparable period in 2023 is primarily attributable to increases in salaries and employee benefits, increases in FDIC insurance, an increase in data processing expenses, and an increase in other operating expenses, partially offset by reduced occupancy expenses, furniture and equipment expenses, and advertising and public relations expenses.

Salaries and employee benefits increased for the three and six months ended June 30, 2024 primarily due to an increase in the number of employees necessary to support the Company’s growth in operations.

FDIC insurance expense increased in the three and six months ended June 30, 2024 due to the Company's growth in 2023 as well as an increase in the assessment rate administered by the FDIC.

Data processing expenses increased in the three and six months ended June 30, 2024 due to implementation of a new small business online solution, enhanced treasury management solution, improved information security solutions, governance risk and compliance software, and an increase in the number of customers using digital services. The Company anticipates that data processing expenses will continue to increase as the Company’s operations grow, the demand for digital products and services from customers increases, and the cyber threat environment grows.

The increase in other operating expenses for the three and six months ended June 30, 2024 compared to the comparable periods in 2023 was primarily due to costs associated with a new employee development program, including employee engagement activities. Also contributing to the increase for the six months ended June 30, 2024 were mailing costs associated with the mailing of account change notices and the annual report.

The decrease in occupancy expenses for the three and six months ended June 30, 2024 was primarily due to the closure of our leased Wal-Mart branch that we closed on January 13, 2024.

The decrease in furniture and equipment expense for the three and six months ended June 30, 2024 was primarily due to a decrease in depreciation expense which resulted from the full depreciation of the Company's operations building equipment in the second quarter of 2023.

The decrease in advertising and public relations expense for the three and six months ended June 30, 2024 was primarily due to an increase in advertising in the first six months of 2023 to drive deposit growth, as a result of the competitive rate environment we experienced in 2023.

The efficiency ratio is a common and comparable KPI used in the banking industry. The Company uses this metric to monitor how effective management is at using our internal resources. It is calculated by dividing our non-interest expense by our net interest income plus non-interest income. The efficiency ratio for the six months ended June 30, 2024 and 2023 was 58.45% and 57.48%, respectively. The increase in the efficiency ratio is primarily attributable to an increase in non-interest expense. The efficiency ratio for the three months ended June 30, 2024 and 2023 was 56.10% and 58.86%, respectively. The improvement in the efficiency ratio for the second quarter of 2024 compared to the comparable period in 2023 was primarily due to increases in net interest income and non-interest income outpacing the increase in non-interest expense.

Income Taxes

The Company’s income tax expense was $8,377,000 for the six months ended June 30, 2024, an increase of $689,000 over the comparable period in 2023. The percentage of income tax expense to net income before taxes was 22.43% and 22.63% for the six months ended June 30, 2024 and 2023, respectively. The Company's income tax expense for the three months ended June 30, 2024 was $4,490,000, an increase of $873,000 compared to the three months ended June 30, 2023. The percentage of income tax expense to net income taxes was 21.71% and 22.55% for the three months ended June 30, 2024 and 2023, respectively. Our effective tax rate represents our blended federal and state rate of 26.14% affected by the impact of anticipated favorable permanent differences between our book and taxable income such as bank-owned life insurance, income earned on tax-exempt securities and loans, and certain federal and state tax credits.

Financial Condition

Balance Sheet Summary

The Company’s total assets increased $149,281,000, or 3.08%, to $4,995,757,000 at June 30, 2024 from $4,846,476,000 at December 31, 2023. Loans, net of allowance for credit losses, totaled $3,712,745,000 at June 30, 2024, a 4.56% increase compared to $3,550,675,000 at December 31, 2023. In 2024, management is targeting owner-occupied commercial real estate, residential real estate lending and consumer lending as areas of focus. Total liabilities increased by 2.93% to $4,546,700,000 at June 30, 2024 compared to $4,417,071,000 at December 31, 2023.

Loans

The following details the loans of the Company at June 30, 2024 and December 31, 2023:

Overall, the Bank's loan demand and related new loan production, while slower in the first quarter of 2024, increased throughout the Bank's markets in the second quarter of 2024. Loans grew $140,349,000 in the second quarter of 2024 compared to $21,534,000 in the first quarter of 2023.Contributing to the Company's loan growth in the first half of 2024 were the continued population growth and corporate relocations in the Bank's primary market areas and increased marketing efforts. The increase in residential 1-4 family real estate loans is attributable to the Bank successfully growing its residential portfolio through enhanced marketing efforts directed at homebuilders in the Company's market areas, and the increase the Company is seeing in the investor sector of 1-4 family. The increase in commercial and multi-family real estate and 1-4 family equity lines of credit is primarily attributable to continued economic growth and expansion in the Bank's primary market areas. The Company anticipates that loan growth for the remainder of 2024 will exceed the loan growth experienced in the first half of 2024.

Because construction loans remain a meaningful portion of our portfolio, the Bank has implemented an additional layer of monitoring as it seeks to avoid advancing funds that exceed the present value of the collateral securing the loan. The responsibility for monitoring percentage of completion and distribution of funds tied to these completion percentages is now monitored and administered by a Credit Administration Department independent of the lending function. The Bank continues to seek to diversify its real estate portfolio as it seeks to lessen concentrations in any one type of loan.

Allowance for Credit Losses

The current expected credit losses (CECL) methodology requires us to estimate all expected credit losses over the remaining life of our loan portfolio when calculating our allowance for credit losses for loans. The provision for credit losses for loans represents a charge to earnings necessary to establish an allowance for credit losses that, in management’s evaluation, is adequate to provide coverage for all expected credit losses on loans.

The allowance for credit losses for loans represents the portion of the loan's amortized cost basis that we do not expect to collect due to credit losses over the loan's life, considering past events, current conditions, and reasonable and supportable forecasts of future economic conditions considering macroeconomic forecasts. Loan losses are charged against the allowance when we believe the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for credit losses for loans is based on the loan's amortized cost basis, excluding accrued interest receivables, as we promptly charge off accrued interest receivable determined to be uncollectible. We determine the appropriateness of the allowance through quarterly discounted cash flow modeling of the loan portfolio which considers lending-related commitments and other relevant factors, including macroeconomic forecasts and historical loss rates. In future quarters, we may update information and forecasts that may cause significant changes in the estimate in those future quarters.

Our allowance for credit losses for loans at June 30, 2024 reflects an amount deemed appropriate to adequately cover all expected future losses as of the date the allowance is determined based on our allowance for credit losses for loans assessment methodology. The allowance for credit losses for loans (net of charge-offs and recoveries) decreased to $44,661,000 at June 30, 2024 from $44,848,000 at December 31, 2023. The allowance for credit losses for loans was 1.19% of total loans outstanding at June 30, 2024 compared to 1.25% at December 31, 2023 due to an improved economic outlook. The internally classified loans as a percentage of the allowance for credit losses for loans were 176.0% and 13.2% respectively, at June 30, 2024 and December 31, 2023. This increase was primarily due to the credit downgrade and deterioration in payment performance of a few large borrowers for which we believe the loans to be well-collateralized.

The following schedule provides an allocation of the allowance for credit losses for loans by portfolio segment for the Company as of June 30, 2024 and December 31, 2023:

The allowance for credit losses for loans is an amount that management believes will be adequate to absorb expected losses on existing loans that may become uncollectible as of the measurement date. The allowance for credit losses for loans as a percentage of total loans outstanding at June 30, 2024, net of deferred fees, decreased from the year ended December 31, 2023. The decrease was primarily due to an improved economic outlook for GDP, unemployment, and home prices as mentioned above.

We measure expected credit losses over the life of each loan utilizing two models. For residential 1-4 family, commercial and multi-family real estate, construction and land development, commercial and industrial, 1-4 family equity lines of credit, municipal, and certain other loan types, we use discounted cash flow models which measure probability of default and loss given default. For farmland, agricultural, credit cards, auto, and other consumer loans we use the remaining life method to estimate credit losses. The measurement of expected credit losses for loan segments utilizing discounted cash flow is impacted by certain macroeconomic variables. Models are adjusted to reflect the current impact of certain macroeconomic variables as well as their expected changes over a reasonable and supportable forecast period.

In estimating expected credit losses as of June 30, 2024, we utilized then available forecasts of macroeconomic variables over our reasonable and supportable horizon based on the review of a variety of forecasts of the U.S. economy provided by Moody's Analytics. Key economic variables as forecasted and utilized in our models include: (i) U.S. Gross Domestic Product ("GDP") with annualized quarterly growth rates in the range of 1.4% to 2.1%; (ii) a U.S. unemployment rate in the range of approximately 4.2% to 4.6%; and (iii) a Home Price Index annualized quarterly growth rates in the range of approximately 0.8% to 4.3%.

We adjust model results using qualitative factor ("Q-factor") adjustments. Q-Factor adjustments are based upon management judgment and current assessment as to the impact of risks related to changes in lending policies and procedures; economic and business conditions; loan portfolio attributes and credit concentrations; and external factors, among other things, that are not already captured within the modeling inputs, assumptions and other processes. Management assesses the potential impact of such items within a range of major risk to improvement and adjusts the modeled expected credit loss by an aggregate adjustment percentage based upon the assessment.

Our charge-off policy for collateral dependent loans is similar to our charge-off policy for all loans in that loans are charged-off in the month when a determination is made that the loan is uncollectible. Net charge-offs decreased to $187,000 for the six months ended June 30, 2024, compared to net charge-offs of $490,000 for the same period in 2023. The ratio of net charge-offs to average total outstanding loans was 0.01% for the six months ended June 30, 2024 and June 30, 2023. Net charge-offs for the three months ended June 30, 2024 and 2023 were $81,000 and $161,000, respectively. Overall, the Bank experienced minimal charge-offs during the three and six months ended June 30, 2024 and it is expected that charge-offs will be modest for the remainder of 2024, in part because management believes the collateral dependent loans to be well-collateralized; however, a deterioration in local economic conditions may negatively impact charge-offs in the future.

We also maintain an allowance for credit losses on off-balance sheet exposures, which was unchanged from December 31, 2023 to June 30, 2024 at $3,147,000.

The level of the allowance and the amount of the provision for credit losses involve evaluation of uncertainties and matters of judgment. The Company maintains an allowance for credit losses for loans which management believes is adequate to absorb losses in the loan portfolio. A formal calculation is prepared quarterly by the Company's Chief Financial Officer and provided to the Board of Directors to determine the adequacy of the allowance for credit losses. The calculation includes an evaluation of historical default and loss experience, current and forecasted economic conditions, an evaluation of qualitative factors, industry and peer bank loan quality indicators and other factors. See the discussion above under “Application of Critical Accounting Policies and Accounting Estimates” for more information. Management believes the allowance for credit losses at June 30, 2024 to be adequate, but if forecasted economic conditions do not meet management’s current expectations, the allowance for credit losses may require an increase through additional provision for credit loss expense which would negatively impact earnings.

For a detailed discussion regarding our allowance for credit losses, see“Provision for Credit Losses and Allowance for Credit Losses” above.

Securities

Securities increased $45,346,000, or 5.59%, to $856,427,000 at June 30, 2024 from $811,081,000 at December 31, 2023, primarily due to the purchase of $84,000,000 in securities as management decided to use excess liquidity to invest in our securities portfolio. The increase was partially offset by run-off of our declining balance securities and a decrease in the fair market value of our securities portfolio as a result of the movement in interest rates experienced in the first half of 2024. The average yield, excluding tax equivalent adjustment, of the securities portfolio at June 30, 2024 was 2.47% with a weighted average life of 7.04 years, as compared to an average yield of 2.33% and a weighted average life of 8.25 years at December 31, 2023. The weighted average lives on mortgage-backed securities reflect the repayment rate used for book value calculations.

Premises and Equipment

Premises and equipment decreased $257,000, or 0.41%, from December 31, 2023 to June 30, 2024. The primary reason for the decrease was due to current year depreciation of $1,942,000 and write-offs due to the closure of a leased branch office location, partially offset by the purchase of equipment and furniture and fixtures, and the remodeling of several branches.

Deposits and Other Liabilities

Deposits increased by $124,249,000, or 2.85%, in the first six months of 2024 due to a strategic focus on growing customers by utilizing deposit promotions. Included in deposits at June 30, 2024 were $29,160,000 in brokered deposits, compared to $69,135,000 at December 31, 2023. The decrease in brokered deposits from December 31, 2023 to June 30, 2024 was the result of management's decision to not renew some brokered deposits when they matured in the first half of 2024 as we were able to grow lower cost core deposits.

The average balance and weighted average interest rate paid for deposit types for the quarters ended June 30, 2024, December 31, 2023 and June 30, 2023 are detailed in the following schedule:

At June 30, 2024 and December 31, 2023, we estimate that we had approximately $1.3 billion and $1.2 billion in uninsured deposits, which are the portion of deposit amounts that exceed the FDIC insurance limit. Approximately 30% of our total deposits exceeded the FDIC deposit insurance limits at June 30, 2024. However, we offer large depositors access to the Certificate of Deposit Account Registry Service (“CDARS”) and the Insured Cash Sweep (“ICS Product”), which allows us to divide customers' deposits that exceed the FDIC insurance limits into smaller amounts, below the FDIC insurance limits, and place those excess deposits in other participating FDIC insured institutions with the convenience of managing all deposit accounts through our Bank. Our total deposits in CDARS and the ICS Products increased to $112,297,000, or 2.50% of total deposits, at June 30, 2024, compared to $104,204,000, or 2.39% of total deposits, at December 31, 2023.

Principal maturities of certificates of deposit and individual retirement accounts at June 30, 2024 are as follows:

The increase in total liabilities since December 31, 2023 was composed of a $124,249,000, or 2.85%, increase in total deposits and a $5,380,000, or 10.77%, increase in accrued interest and other liabilities. The increase in total deposits since December 31, 2023 was primarily attributable to growth in market share and concerted marketing efforts to drive deposit growth which resulted in the opening of new deposit accounts. The increase in accrued interest and other liabilities since December 31, 2023 was primarily attributable to an increase in interest payable on deposits and an increase in employee bonus payable.

Non-Performing Assets

Non-performing loans, which included nonaccrual loans and loans 90 days past due, at June 30, 2024 totaled $724,000, a decrease of $685,000 from $1,409,000 at December 31, 2023. The decrease in non-performing loans during the six months ended June 30, 2024 is due primarily to one residential 1-4 family real estate loan that is no longer 90 days past due. Management believes that it is probable that it will incur losses on its non-performing loans but believes that these losses should not exceed the amount in the allowance for credit losses for loans already allocated to these loans, unless there is unanticipated deterioration of local real estate values.

The net non-performing asset ratio (NPA) is used as a measure of the overall quality of the Company's assets. Our NPA ratio is calculated by taking the total of our loans greater than 90 days past due and accruing interest, nonaccrual loans and other real estate owned and dividing that sum by our total assets outstanding. Our NPA ratio for the periods ended June 30, 2024 and December 31, 2023 was 0.01% and 0.03%, respectively.

Other loans may be classified as collateral dependent when the current net worth and financial capacity of the borrower or of the collateral pledged, if any, is viewed as inadequate and it is probable that the Company will be unable to collect the scheduled payments of principal and interest due under the contractual terms of the loan agreement. Such loans generally have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt, and if such deficiencies are not corrected, there is a probability that the Company will sustain some loss. In such cases, interest income continues to accrue as long as the loan does not meet the Company’s criteria for nonaccrual status. Collateral dependent loans are measured at the fair value of the collateral less estimated selling costs. If the fair value of the collateral dependent loan less estimated selling costs is less than the recorded investment in the loan, the Company shall recognize impairment by creating a valuation allowance with a corresponding charge to the provision for credit losses or by adjusting an existing valuation allowance for the collateral dependent loan with a corresponding charge or credit to the provision for credit losses.

At June 30, 2024 the Company had a recorded investment in collateral dependent loans totaling $71,697,000, an increase of $66,859,000 from a recorded investment in collateral dependent loans totaling $4,838,000 at December 31, 2023. The increase during the six months ended June 30, 2024 as compared to December 31, 2023 is primarily due to the deterioration in payment performance and downgrade of a few large borrowers for which we believe the loans to be well-collateralized. Management has developed performance improvement plans on these relationships and is working to mitigate the credit risk of the loans in order to reduce our potential exposure to credit losses. As of June 30, 2024 and December 31, 2023, no valuation allowance was recorded on collateral dependent loans. The allowance for credit losses for loans related to collateral dependent loans was measured based upon the estimated fair value of related collateral.

At June 30, 2024 as a result of the downgrade of several loans to the borrowers mentioned above, our internally classified loans increased $72,725,000, or 1,232.63%, to $78,625,000 from $5,900,000 at December 31, 2023. Loans are listed as classified when information obtained about possible credit problems of the borrower has prompted management to question the ability of the borrower to comply with the repayment terms of the loan agreement. If short-term rates rise or remain elevated for a significant period of time and economic conditions worsen, or management's performance improvement plan proves to be unsuccessful, our classified loan balances could increase further.

Liquidity and Asset Liability Management

Liquidity

The Company’s management seeks to maximize net interest income by managing the Company’s assets and liabilities within appropriate constraints on capital, liquidity and interest rate risk. Liquidity is a measure of our ability to meet our cash flow requirements, including inflows and outflows of cash for depositors and borrowers, while at the same time meeting our operating, capital and strategic cash flow needs. Several factors influence our liquidity needs, including depositor and borrower activity, interest rate trends, changes in the economy, maturities, re-pricing and interest rate sensitivity of our debt securities, loan portfolio and deposits. We strive to maintain appropriate levels of liquidity. We calculate our liquidity ratio by taking cash and due from banks, interest bearing deposits, federal funds sold, and available-for-sale debt securities not pledged as collateral and dividing by total assets. Our total liquidity ratios were 11.63% at June 30, 2024 and 13.09% at December 31, 2023. The decrease in our liquidity ratio is primarily attributable to a decrease in liquid assets including interest bearing deposits with other financial institutions due to loan growth outpacing deposit growth.

The Company’s primary source of liquidity is a stable core deposit base. In addition, Federal funds purchased, Federal Home Loan Bank advances, and brokered deposits provide a secondary source of liquidity. These sources of liquidity are generally short-term in nature and are used to fund asset growth and meet other short-term liquidity needs. Liquidity needs can also be met from loan payments and investment security sales or maturities. While maturities and scheduled amortization of loans and debt securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by market interest rates, economic conditions, and competition. At June 30, 2024, the Company’s liquid assets totaled $580.6 million, a decrease from $634.0 million at December 31, 2023, though a portion of these liquid assets include available-for-sale securities that are in an unrealized loss position at June 30, 2024. If the Company was required to sell any of these securities, including to meet liquidity needs, while they are in an unrealized loss position the Company would be required to recognize the loss on those securities through the income statement when they are sold. Recognition of these losses would negatively impact the Bank's and the Company's regulatory capital levels. Additionally, as of June 30, 2024, the Company had available approximately $118.4 million in unused federal funds lines of credit with regional banks and, subject to certain restrictions and collateral requirements, approximately $523.6 million of borrowing capacity with the Federal Home Loan Bank of Cincinnati to meet short term funding needs. The Company maintains a formal asset and liability management process in an effort to quantify, monitor and control interest rate risk and to assist management as management seeks to maintain stability in net interest margin under varying interest rate environments. The Company accomplishes this process through the development and implementation of lending, funding and pricing strategies designed to maximize net interest income under varying interest rate environments subject to specific liquidity and interest rate risk guidelines and competitive market conditions.

Securities classified as available-for-sale include securities intended to be used as part of the Company’s asset/liability strategy and/or securities that may be sold in response to changes in interest rate, prepayment risk, or the need to fund loan demand or other liquidity needs. At June 30, 2024, securities totaling approximately $44.8 million mature or will be subject to rate adjustments within the next twelve months.

A secondary source of liquidity is the Company’s loan portfolio. At June 30, 2024, loans totaling approximately $1.3 billion either will become due or will be subject to rate adjustments within twelve months from that date.

As for liabilities, at June 30, 2024, certificates of deposit of $250,000 or greater totaling approximately $590.3 million will become due or reprice during the next twelve months. Historically, there has been no significant reduction in immediately withdrawable accounts such as negotiable order of withdrawal accounts, money market demand accounts, demand deposit accounts and regular savings accounts. Management does not anticipate that there will be significant withdrawals from these accounts in the future.

Management believes that with present maturities, borrowing capacity with the Federal Home Loan Bank of Cincinnati and the efforts of management in its asset/liability management program, the Company should be able to meet its liquidity needs in the near term future.

Asset Liability Management

Analysis of rate sensitivity and rate gap analysis are the primary tools used to assess the direction and magnitude of changes in net interest income resulting from changes in interest rates. Included in the analysis are cash flows and maturities of financial instruments held for purposes other than trading, changes in market conditions, loan volumes and pricing and deposit volume and mix. These assumptions are inherently uncertain, and, as a result, net interest income cannot be precisely estimated nor can the impact of higher or lower interest rates on net interest income be precisely predicted. Actual results will differ due to timing, magnitude and frequency of interest rate changes and changes in market conditions and management’s strategies, among other factors.

The Company also uses simulation modeling to evaluate both the level of interest rate sensitivity as well as potential balance sheet strategies. The Company's Asset Liability Committee (ALCO) meets quarterly to analyze the interest rate shock ("IRR") simulation. The interest rate shock simulation model is based on a number of assumptions. The assumptions include, but are not limited to, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment and replacement of asset and liability cash flows and balance sheet management strategies. We model instantaneous change in interest rates using a growth in the balance sheet as well as a flat balance sheet to understand the impact to earnings and capital. Based on the Company's IRR simulation, the Company had a neutral interest-rate risk position as of June 30, 2024, though the Company’s net interest margin and earnings could be negatively impacted if short-term rates remain elevated and competitive pressures in the Company's market areas or funding needs force the Company to increase deposit rates faster than it is able to increase yields on loans. If short term rates begin to decline, as the Company believes is likely to happen in the second half of 2024, the Company’s net interest margin and earnings could be negatively impacted if the yields on loans decrease faster than the Company is able to lower deposit rates, including as a result of loan growth outpacing our ability to add lower cost core deposits. The Company also uses Economic Value of Equity (“EVE”) sensitivity analysis to understand the impact of changes in interest rates on long-term cash flows, income and capital. EVE is calculated by discounting the cash flows for all balance sheet instruments under different interest rate scenarios. The EVE is a longer term view of interest rate risk because it measures the present value of the future cash flows. Presented below is the estimated impact on the Bank’s net interest income and EVE as of June 30, 2024, assuming an immediate shift in interest rates:

While an instantaneous and severe shift in interest rates was used in this analysis to provide an estimate of exposure under these scenarios, we believe that a gradual shift in interest rates would have a more modest impact. Further, the earnings simulation model does not take into account factors such as future balance sheet growth, changes in product mix, changes in yield curve relationships, and changing product spreads that could mitigate any potential adverse impact of changes in interest rates. Moreover, since EVE measures the discounted present value of cash flows over the estimated lives of instruments, the change in EVE does not directly correlate to the degree that earnings would be impacted over a shorter time horizon (i.e., the current year). Further, EVE does not take into account factors such as future balance sheet growth, changes in product mix, changes in yield curve relationships, hedging strategies that we may institute, and changing product spreads that could mitigate any potential adverse impact of changes in interest rates.

Interest rate risk (sensitivity) management focuses on the earnings risk associated with changing interest rates. Management seeks to maintain profitability in both immediate and long-term earnings through funds management/interest rate risk management. The Company’s rate sensitivity position has an important impact on earnings. Senior management of the Company analyzes the rate sensitivity position quarterly. Management focuses on the spread between the Company’s cost of funds and interest yields generated primarily through loans and investments.

In addition to the ALCO, the Audit Committee as well as the Chief Risk Officer are all responsible for the “risk management framework” of the Company. The ALCO meets monthly and the Audit Committee meets quarterly, with the authority to convene additional meetings, as circumstances require.

Off Balance Sheet Arrangements

At June 30, 2024, we had unfunded loan commitments outstanding of $1,071,287,000 and outstanding standby letters of credit of $104,030,000, compared to $1,217,963,000 and $118,064,000, respectively, at December 31, 2023. Because these commitments generally have fixed expiration dates and many will expire without being drawn upon, the total commitment level does not necessarily represent future cash requirements. If needed to fund these outstanding commitments, the Bank has the ability to liquidate federal funds sold or securities available-for-sale or on a short-term basis to borrow and purchase federal funds from other financial institutions. Additionally, the Bank could sell participations in these or other loans to correspondent banks. As mentioned above, the Bank has historically been able to fund its ongoing liquidity needs through its stable core deposit base, loan payments, investment security maturities and short-term borrowings.

Capital Position and Dividends

At June 30, 2024, total shareholders’ equity was $449,057,000, or 8.99% of total assets, which compares with $429,405,000, or 8.86% of total assets, at December 31, 2023. The dollar increase in shareholders’ equity during the six months ended June 30, 2024 is the result of the net effect of $589,000 related to stock option compensation, restricted share awards, restricted share units, and performance share units, the Company’s net earnings of $28,905,000 and proceeds from the issuance of common stock related to exercise of stock options of $109,000. Also included was $67,000 of net earnings attributable to Encompass. The increase in shareholders' equity was partially offset by cash dividends declared of $8,775,000, net of $6,405,000 reinvested under the Company’s dividend reinvestment plan, $5,467,000 of unrealized losses on investment securities (described elsewhere in this report), net of applicable income tax benefit of $1,933,000, and the $2,181,000 repurchase of common stock from a limited number of the Company's shareholders.