PEOPLES BANCORP OF NORTH CAROLINA INC

Results of Operations

*Summary.*The Company reported net earnings of $19.8 million or $3.74 per share and $3.62 per diluted share for the year ended December 31, 2025, as compared to $16.4 million or $3.08 per share and $2.98 per diluted share for the year ended December 31, 2024. The increase in net earnings is primarily attributable to increases in net interest income and non-interest income, which were partially offset by an increase in the provision for credit losses and an increase in non-interest expense, compared to the prior year, as discussed below.

The return on average assets for the year ended December 31, 2025 was 1.17%, as compared to 0.99% for the year ended December 31, 2024. The return on average shareholders’ equity was 13.33% for the year ended December 31, 2025, as compared to 12.59% for the year ended December 31, 2024.

*Net Interest Income.*Net interest income, the major component of the Company’s net income, is the amount by which interest and fees generated by interest-earning assets exceed the total cost of funds used to carry them. Net interest income is affected by changes in the volume and mix of interest-earning assets and interest-bearing liabilities, as well as changes in the yields earned and rates paid. Net interest margin is calculated by dividing tax-equivalent net interest income by average interest-earning assets, and represents the Company’s net yield on its interest-earning assets.

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Net interest income was $59.0 million for the year ended December 31, 2025, compared to $54.1 million for the year ended December 31, 2024. The increase in net interest income is due to a $2.9 million increase in interest income and a $2.1 million decrease in interest expense. The increase in interest income is primarily due to a $4.3 million increase in interest income and fees on loans and a $44,000 increase in interest income on balances due from banks, which was partially offset by a $1.5 million decrease in interest income on investment securities. The increase in interest income and fees on loans is primarily due to an increase in total loans. The increase in interest income on balances due from banks is primarily due to an increase in average balances outstanding. The decrease in interest income on investment securities is due to a reduction in balances outstanding and decreases in yields on variable rate securities. The decrease in interest expense is primarily due to a decrease in rates paid on interest-bearing liabilities resulting from rate decreases implemented by the Federal Reserve.

Table 1 sets forth for each category of interest-earning assets and interest-bearing liabilities, the average amounts outstanding, the interest incurred on such amounts and the average rate earned or incurred for the years ended December 31, 2025 and 2024. The table also sets forth the average rate earned on total interest-earning assets, the average rate paid on total interest-bearing liabilities, and the net yield on total average interest-earning assets for the same periods. Yield information does not give effect to changes in fair value of available for sale investment securities that are reflected as a component of shareholders’ equity. Yields and interest income on tax-exempt investments for the years ended December 31, 2025 and 2024 have been adjusted to a tax equivalent basis using an effective tax rate of 22.78% for securities that are both federal and state tax exempt and an effective tax rate of 20.53% for federal tax-exempt securities. Non-accrual loans and the interest income that was recorded on non-accrual loans, if any, are included in the yield calculations for loans in all periods reported. The Company believes the presentation of net interest income on a tax-equivalent basis provides comparability of net interest income from both taxable and tax-exempt sources and facilitates comparability within the industry. Although the Company believes these non-GAAP financial measures enhance investors’ understanding of its business and performance, these non-GAAP financial measures should not be considered an alternative to GAAP. The reconciliations of these non-GAAP financial measures to their most directly comparable GAAP financial measures are presented below.

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Changes in interest income and interest expense can result from variances in both volume and rates. Table 2 describes the impact on the Company’s tax equivalent net interest income resulting from changes in average balances and average rates for the periods indicated. The changes in net interest income due to both volume and rate changes have been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the changes in each.

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Net interest income on a tax equivalent basis totaled $59.0 million in 2025, as compared to $54.1 million in 2024. The net interest spread, which represents the rate earned on interest-earning assets less the rate paid on interest-bearing liabilities, was 2.88% in 2025, as compared to 2.58% in 2024. The net yield on interest-earning assets was 3.57% in 2025 and 3.36% in 2024.

Tax equivalent interest income increased $2.9 million in 2025 primarily due to a $4.3 million increase in interest income and fees on loans and a $44,000 increase in interest income on balances due from banks, which were partially offset by a $1.5 million decrease in tax equivalent interest income on investment securities. The increase in interest income and fees on loans is primarily due to an increase in average total loans. The increase in interest income on balances due from banks is primarily due to an increase in average balances outstanding. The decrease in interest income on investment securities is due to a reduction in balances outstanding and decreases in yields on variable rate securities. Average interest-earning assets increased by $41.5 million to $1.65 billion in 2025, as compared to $1.61 billion in 2024. The yield on interest-earning assets was 5.06% in 2025, as compared to 5.01% in 2024.

Interest expense totaled $24.6 million in 2025, as compared to $26.7 million in 2024. The decrease in interest expense is primarily due to a decrease in rates paid on interest-bearing liabilities resulting from rate decreases implemented by the FOMC. Average interest-bearing liabilities increased by $33.7 million to $1.13 billion in 2025, as compared to $1.09 billion in 2024. The cost of funds decreased to 2.18% in 2025 from 2.43% in 2024.

*Provision for Credit Losses.*Provisions for credit losses are charged to income in order to bring the total allowance for credit losses to a level deemed appropriate by management of the Company based on factors such as management’s judgment as to losses within the Bank’s loan portfolio, including loan growth, net charge-offs, changes in the composition of the loan portfolio, delinquencies and management’s assessment of the quality of the loan portfolio and general economic climate.

The provision for credit losses for the year ended December 31, 2025 was an expense of $938,000, compared to a recovery of $285,000 for the year ended December 31, 2024. The increase in the provision for credit losses is primarily attributable to a $66.0 million increase in total loans and a $18.0 million increase in unfunded loan commitments from December 31, 2024 to December 31, 2025, which were partially offset by a $925,000 decrease in net charge-offs during the year ended December 31, 2025, compared to the year ended December 31, 2024.

Net charge-offs for the year ended December 31, 2025 were $505,000, compared to $1.4 million for the year ended December 31, 2024. The decrease in net charge-offs during the year ended December 31, 2025, compared to the year ended December 31, 2024 is primarily due a $825,000 decrease in net charge-offs on commercial and industrial loans.

The ratio of net charge-offs/(recoveries) to average total loans was 0.05% and 0.13% in 2025 and 2024, respectively. The allowance for credit losses on loans was $10.1 million or 0.84% of total loans at December 31, 2025, compared to $10.0 million or 0.88% of total loans at December 31, 2024. The allowance for credit losses on loans increased $131,000 primarily due to a $66.0 million increase in total loans from December 31, 2024 to December 31, 2025, which was partially offset by a $925,000 decrease in net charge-offs during the year ended December 31, 2025, compared to the year ended December 31, 2024.

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Table 3 presents a summary of net charge off activity for the years ended December 31, 2025 and 2024

Please see the section below entitled “Allowance for Credit Losses” for a more complete discussion of the Bank’s policy for addressing potential loan losses.

Non-Interest Income. Non-interest income was $31.0 million for the year ended December 31, 2025, compared to $27.7 million for the year ended December 31, 2024. The increase in non-interest income is primarily attributable to a $3.0 million net gain during the year ended December 31, 2025 on the North Carolina Department of Transportation (“NCDOT”) eminent domain acquisition of the Bank’s former Mooresville branch office and a $2.0 million increase in appraisal management fee income due to an increase in appraisal volume. The increases in non-interest income were partially offset by a $1.6 million decrease in miscellaneous non-interest income primarily due to a decrease in income on small business investment company (SBIC) investments and a decrease in deferred compensation income.

The Company periodically evaluates its investments for credit losses. There were no credit losses on investments in 2025 or 2024.

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Table 4 presents a summary of non-interest income for the years ended December 31, 2025 and 2024.

*Non-Interest Expense.*Non-interest expense was $63.2 million for the year ended December 31, 2025, compared to $61.2 million for the year ended December 31, 2024. The increase in non-interest expense is primarily attributable to a $1.6 million increase in appraisal management fee expense due to an increase in appraisal volume, a $386,000 increase in professional fees primarily due to an increase in consulting fees, a $299,000 increase in debit card expense, a $262,000 increase in occupancy expense primarily due to an increase in furniture and equipment maintenance/services expenses and a $219,000 increase in advertising expense.

Table 5 presents a summary of non-interest expense for the years ended December 31, 2025 and 2024.

*Income Taxes.*Income tax expense was $6.0 million for the year ended December 31, 2025, compared to $4.6 million for the year ended December 31, 2024. The effective tax rate was 23.29% for the year ended December 31, 2025, compared to 21.86% for the year ended December 31, 2024. The increase in the effective tax rate is primarily due to a $322,000 interest receivable booked during the year ended December 31, 2024 on a deposit for taxes paid prior to a settlement with the North Carolina Department of Revenue to withdraw the disallowance of certain tax credits previously purchased by the Bank.

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*Liquidity.*The objectives of the Company’s liquidity policy are to provide for the availability of adequate funds to meet the needs of loan demand, deposit withdrawals, maturing liabilities and to satisfy regulatory requirements. Both deposit and loan customer cash needs can fluctuate significantly depending upon business cycles, economic conditions and yields and returns available from alternative investment opportunities. In addition, the Company’s liquidity is affected by off-balance sheet commitments to lend in the form of unfunded commitments to extend credit and standby letters of credit. As of December 31, 2025, such unfunded commitments to extend credit were $366.5 million, while commitments in the form of standby letters of credit totaled $1.6 million.

The Company uses several funding sources to meet its liquidity requirements. The primary funding source is core deposits, a non-GAAP measure, which includes demand deposits, savings accounts and non-brokered certificates of deposits of denominations less than $250,000. Management believes it is useful to calculate and present core deposits because of the positive impact this low cost funding source provides to the Bank’s funding base The Company considers these to be a stable portion of the Company’s liability mix and the result of on-going consumer and commercial banking relationships. As of December 31, 2025, the Company’s core deposits totaled $1.35 billion, or 89.44% of total deposits.

The Bank’s two largest deposit relationships amounted to $122.7 million and $117.0 million at December 31, 2025 and 2024, respectively. These balances represent 8.13% and 7.88% of total deposits at December 31, 2025 and 2024, respectively.

The other sources of funding for the Company are through large denomination certificates of deposit, including brokered deposits, federal funds purchased, securities under agreement to repurchase and FHLB borrowings. The Bank is also able to borrow from the Federal Reserve Bank (“FRB”) on a short-term basis. The Bank’s policies include the ability to access wholesale funding up to 40% of total assets. The Bank’s wholesale funding includes FHLB borrowings, FRB borrowings, brokered deposits and internet certificates of deposit. The Bank did not have any wholesale funding at December 31, 2025.

The Bank has a line of credit with the FHLB equal to 20% of the Bank’s total assets, with no balances outstanding at December 31, 2025. At December 31, 2025, the carrying value of loans pledged as collateral to the FHLB totaled approximately $247.8 million. The availability under the line of credit with the FHLB was $148.5 million at December 31, 2025. FRB borrowings are collateralized by a blanket assignment on all qualifying loans that the Bank owns that are not pledged to the FHLB. At December 31, 2025, the carrying value of loans pledged as collateral to the FRB totaled approximately $689.9 million. Availability under the line of credit with the FRB was $583.8 million at December 31, 2025.

The Bank also had the ability to borrow up to $110.5 million for the purchase of overnight federal funds from five correspondent financial institutions as of December 31, 2025.

The liquidity ratio for the Bank, which is defined as net cash, interest-bearing deposits with banks, federal funds sold and certain investment securities, as a percentage of net deposits and short-term liabilities was 26.86%, and 28.16% at December 31, 2025 and 2024, respectively. The minimum required liquidity ratio as defined in the Bank’s Asset/Liability and Interest Rate Risk Management Policy for on balance sheet liquidity was 10% at December 31, 2025 and 2024.

As disclosed in the Company’s Consolidated Statements of Cash Flows, net cash provided by operating activities was $21.5 million during 2025. Net cash used in investing activities was $41.9 million during 2025 and net cash provided by financing activities was $19.3 million during 2025.

*Asset Liability and Interest Rate Risk Management.*The objective of the Company’s Asset Liability and Interest Rate Risk strategies is to identify and manage the sensitivity of net interest income to changing interest rates and to minimize the interest rate risk between interest-earning assets and interest-bearing liabilities at various maturities. This is done in conjunction with the need to maintain adequate liquidity and the overall goal of maximizing net interest income. Table 6 presents an interest rate sensitivity analysis for the interest-earning assets and interest-bearing liabilities for the year ended December 31, 2025.

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The Company manages its exposure to fluctuations in interest rates through policies established by the Asset/Liability Committee (“ALCO”) of the Bank. The ALCO meets quarterly and has the responsibility for approving asset/liability management policies, formulating and implementing strategies to improve balance sheet positioning and/or earnings and reviewing the interest rate sensitivity of the Company. The ALCO seeks to minimize interest rate risk between interest-earning assets and interest-bearing liabilities by attempting to minimize wide fluctuations in net interest income due to interest rate movements. The ability to control these fluctuations has a direct impact on the profitability of the Company. Management monitors this activity on a regular basis through analysis of its portfolios to determine the difference between rate sensitive assets and rate sensitive liabilities.

The Company’s rate sensitive assets are those earning interest at variable rates and those with contractual maturities within one year. Rate sensitive assets therefore include both loans and available for sale (“AFS”) securities. Rate sensitive liabilities include interest-bearing checking accounts, money market deposit accounts, savings accounts, time deposits and borrowed funds. At December 31, 2025, rate sensitive assets and rate sensitive liabilities totaled $1.65 billion and $1.12 billion, respectively.

Included in the rate sensitive assets are $179.3 million in variable rate loans indexed to prime rate subject to immediate repricing upon changes by the FOMC. The Bank utilizes interest rate floors on certain variable rate loans to protect against further downward movements in the prime rate. At December 31, 2025, the Bank had $125.0 million in loans with interest rate floors. Floors were in effect on four loans, totaling $11,000, at December 31, 2025.

An analysis of the Company’s financial condition and growth can be made by examining the changes and trends in interest-earning assets and interest-bearing liabilities. A discussion of these changes and trends follows.