Bank of Marin Bancorp - 10-Q quarterly report FY2022 Q3

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2022

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from __________________ to __________________

Commission File Number 001-33572

Bank of Marin Bancorp

(Exact name of Registrant as specified in its charter)

California

20-8859754

(State or other jurisdiction of incorporation or organization)

(IRS Employer Identification No.)

504 Redwood Blvd.

Suite 100

Novato

94947

(Address of principal executive office)

(Zip Code)

Registrant’s telephone number, including area code: (415) 763-4520

Not Applicable

(Former name, former address and formal fiscal year, if changed since last report)


Securities registered pursuant to 12(b) of the Act:
Title of each class	Trading symbol	Name of each exchange on which registered
Common stock, no par value and attached Share Purchase Rights	BMRC	The Nasdaq Stock Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer

☐

Accelerated filer

☒

Non-accelerated filer

☐

Smaller reporting company

☐

Emerging growth company

☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ☐ No ☒

As of October 31, 2022, there were 16,028,623 shares of common stock outstanding.

TABLE OF CONTENTS


PART I	FINANCIAL INFORMATION	3

ITEM 1.	Financial Statements (Unaudited)	3
	Consolidated Statements of Condition	3
	Consolidated Statements of Comprehensive (Loss) Income	4
	Consolidated Statements of Changes in Stockholders' Equity	5
	Consolidated Statements of Cash Flows	6
	Notes to Consolidated Financial Statements	7

ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	30

ITEM 3.	Quantitative and Qualitative Disclosure about Market Risk	45

ITEM 4.	Controls and Procedures	46

PART II	OTHER INFORMATION	47

ITEM 1.	Legal Proceedings	47

ITEM 1A.	Risk Factors	47

ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds	47

ITEM 3.	Defaults Upon Senior Securities	47

ITEM 4.	Mine Safety Disclosures	47

ITEM 5.	Other Information	47

ITEM 6.	Exhibits	48

SIGNATURES

Page-2

PART I FINANCIAL INFORMATION

ITEM 1. Financial Statements


BANK OF MARIN BANCORP CONSOLIDATED STATEMENTS OF CONDITION


(in thousands, except share data; unaudited)	September 30, 2022		December 31, 2021
Assets
Cash, cash equivalents and restricted cash	$	185,552	$	347,641


Investment securities
Held-to-maturity, at amortized cost (net of zero allowance for credit losses at September 30, 2022 and December 31, 2021)	959,867		342,222
Available-for-sale, at fair value (net of zero allowance for credit losses at September 30, 2022 and December 31, 2021)	812,493		1,167,568
Total investment securities	1,772,360		1,509,790
Loans, at amortized cost	2,158,336		2,255,645
Allowance for credit losses on loans	(22,963)		(23,023)
Loans, net of allowance for credit losses on loans	2,135,373		2,232,622
Goodwill	72,754		72,754
Bank-owned life insurance	62,056		61,473
Operating lease right-of-use assets	25,006		23,604
Bank premises and equipment, net	7,102		7,558
Core deposit intangible, net	5,481		6,605
Other real estate owned	455		800
Interest receivable and other assets	82,514		51,362
Total assets	$	4,348,653	$	4,314,209

Liabilities and Stockholders' Equity
Liabilities
Deposits
Non-interest bearing	$	2,051,975	$	1,910,240
Interest bearing
Transaction accounts	293,722		290,813
Savings accounts	342,630		340,959
Money market accounts	1,074,568		1,116,303
Time accounts	139,815		150,235
Total deposits	3,902,710		3,808,550
Borrowings and other obligations	365		419

Operating lease liabilities	26,744		25,429
Interest payable and other liabilities	22,242		29,443
Total liabilities	3,952,061		3,863,841
Commitments and contingent liabilities (Note 8)
Stockholders' Equity
Preferred stock, no par value, Authorized - 5,000,000 shares, none issued	—		—
Common stock, no par value, Authorized - 30,000,000 shares; issued and outstanding - 16,029,048 and 15,929,243 at September 30, 2022 and December 31, 2021, respectively	214,720		212,524
Retained earnings	261,907		239,868
Accumulated other comprehensive loss, net of taxes	(80,035)		(2,024)
Total stockholders' equity	396,592		450,368
Total liabilities and stockholders' equity	$	4,348,653	$	4,314,209

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

Page-3


BANK OF MARIN BANCORP CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME
	Three months ended						Nine months ended
(in thousands, except per share amounts; unaudited)	September 30, 2022		June 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Interest income
Interest and fees on loans	$	23,357	$	23,334	$	24,027	$	70,368	$	66,117
Interest on investment securities	9,674		8,273		4,084		24,640		10,717
Interest on federal funds sold and due from banks	546		180		178		832		274
Total interest income	33,577		31,787		28,289		95,840		77,108
Interest expense
Interest on interest-bearing transaction accounts	121		53		41		230		119
Interest on savings accounts	32		32		26		93		66
Interest on money market accounts	268		438		417		1,184		1,015
Interest on time accounts	128		67		44		209		221
Interest on borrowings and other obligations	1		—		8		2		8
Interest on subordinated debenture	—		—		—		—		1,361
Total interest expense	550		590		536		1,718		2,790
Net interest income	33,027		31,197		27,753		94,122		74,318
Provision for (reversal of) credit losses on loans	422		—		1,800		(63)		(2,049)
Reversal of credit losses on unfunded loan commitments	—		—		—		(318)		(1,202)
Net interest income after provision for (reversal of) credit losses	32,605		31,197		25,953		94,503		77,569
Non-interest income
Wealth Management and Trust Services	507		630		597		1,737		1,615
Debit card interchange fees, net	502		531		483		1,538		1,268
Service charges on deposit accounts	535		465		464		1,488		1,062
Earnings on bank-owned life insurance, net	222		298		1,402		933		1,892
Dividends on Federal Home Loan Bank stock	251		249		179		759		505
Merchant interchange fees, net	141		149		129		430		247
(Losses) gains on sale of investment securities, net	(63)		—		1		(63)		1
Other income	628		406		310		1,496		823
Total non-interest income	2,723		2,728		3,565		8,318		7,413
Non-interest expense
Salaries and related benefits	10,557		10,341		13,127		32,446		31,223
Occupancy and equipment	1,941		1,891		1,871		5,739		5,373
Data processing	1,093		1,199		1,613		3,569		3,252
Professional services	736		665		2,472		2,314		4,321
Information technology	573		468		496		1,519		1,105
Depreciation and amortization	414		393		431		1,259		1,279
Amortization of core deposit intangible	370		374		334		1,124		742
Federal Deposit Insurance Corporation insurance	300		296		236		886		597
Directors' expense	233		294		255		838		660
Charitable contributions	49		511		4		605		497
Other real estate owned	350		3		—		355		—
Other expense	2,062		2,471		1,847		6,305		4,605
Total non-interest expense	18,678		18,906		22,686		56,959		53,654
Income before provision for income taxes	16,650		15,019		6,832		45,862		31,328
Provision for income taxes	4,476		3,953		1,550		12,157		7,814
Net income	$	12,174	$	11,066	$	5,282	$	33,705	$	23,514
Net income per common share:
Basic	$	0.76	$	0.70	$	0.35	$	2.12	$	1.70
Diluted	$	0.76	$	0.69	$	0.35	$	2.11	$	1.69
Weighted average shares:
Basic	15,939		15,921		14,922		15,912		13,798
Diluted	15,974		15,955		14,993		15,959		13,881
Comprehensive (loss) income:
Net income	$	12,174	$	11,066	$	5,282	$	33,705	$	23,514
Other comprehensive (loss) income:
Change in net unrealized (losses) gains on available-for-sale securities	(31,816)		(27,050)		(2,274)		(97,094)		(8,558)
Reclassification adjustment for losses (gains) on available-for-sale securities included in net income	63		—		(1)		63		(1)
Net unrealized losses on securities transferred from available-for-sale to held-to-maturity	—		—		—		(14,847)		—
Amortization of net unrealized losses on securities transferred from available-for-sale to held-to-maturity	510		472		104		1,126		385
Other comprehensive loss, before tax	(31,243)		(26,578)		(2,171)		(110,752)		(8,174)
Deferred tax benefit	(9,236)		(7,857)		(641)		(32,741)		(2,421)
Other comprehensive loss, net of tax	(22,007)		(18,721)		(1,530)		(78,011)		(5,753)
Total comprehensive (loss) income	$	(9,833)	$	(7,655)	$	3,752	$	(44,306)	$	17,761

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

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BANK OF MARIN BANCORP CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For the three months ended September 30, 2022 and 2021


(in thousands, except share data; unaudited)	Common Stock			Retained Earnings		Accumulated Other Comprehensive (Loss) Income, Net of Taxes		Total
	Shares	Amount
	Three months ended September 30, 2022
Balance at July 1, 2022	16,009,600	$	213,864	$	253,737	$	(58,028)	$	409,573
Net income	—	—		12,174		—		12,174
Other comprehensive loss, net of tax	—	—		—		(22,007)		(22,007)

Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings	363	—		—		—		—
Stock issued under employee stock purchase plan	574	16		—		—		16
Stock issued under employee stock ownership plan	13,000	404		—		—		404



Stock-based compensation - stock options	—	106		—		—		106
Stock-based compensation - restricted stock	—	151		—		—		151
Cash dividends paid on common stock ($0.25 per share)	—	—		(4,004)		—		(4,004)
Stock purchased by directors under director stock plan	515	16		—		—		16
Stock issued in payment of director fees	4,996	163		—		—		163


Balance at September 30, 2022	16,029,048	$	214,720	$	261,907	$	(80,035)	$	396,592
	Three months ended September 30, 2021
Balance at July 1, 2021	13,055,105	$	108,430	$	231,841	$	8,378	$	348,649
Net income	—	—		5,282		—		5,282
Other comprehensive income, net of tax	—	—		—		(1,530)		(1,530)

Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings	3,098	72		—		—		72
Stock issued under employee stock purchase plan	508	18		—		—		18
Stock issued under employee stock ownership plan	9,100	332		—		—		332



Stock-based compensation - stock options	—	115		—		—		115
Stock-based compensation - restricted stock	—	98		—		—		98
Cash dividends paid on common stock ($0.24 per share)	—	—		(3,126)		—		(3,126)
Stock purchased by directors under director stock plan	515	17		—		—		17
Stock issued in payment of director fees	3,063	99		—		—		99
Stock issued to American River Bankshares shareholders	3,441,235	124,401		—		—		124,401
Stock repurchased, including commissions	(445,735)	(15,902)		—		—		(15,902)
Balance at September 30, 2021	16,066,889	$	217,680	$	233,997	$	6,848	$	458,525

The accompanying notes are an integral part of these consolidated financial statements (unaudited).


BANK OF MARIN BANCORP CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For the nine months ended September 30, 2022 and 2021

(in thousands, except share data; unaudited)	Common Stock			Retained Earnings		Accumulated Other Comprehensive (Loss) Income, Net of Taxes		Total
	Shares	Amount
	Nine months ended September 30, 2022
Balance at January 1, 2022	15,929,243	$	212,524	$	239,868	$	(2,024)	$	450,368
Net income	—	—		33,705		—		33,705
Other comprehensive loss, net of tax	—	—		—		(78,011)		(78,011)

Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings	40,674	821		—		—		821
Stock issued under employee stock purchase plan	1,510	46		—		—		46
Stock issued under employee stock ownership plan	38,000	1,233		—		—		1,233
Restricted stock granted	46,672	—		—		—		—
Restricted stock surrendered for tax withholdings upon vesting	(1,169)	(40)		—		—		(40)
Restricted stock forfeited / cancelled	(13,267)	—		—		—		—
Stock-based compensation - stock options	—	221		—		—		221
Stock-based compensation - restricted stock	—	421		—		—		421
Cash dividends paid on common stock ($0.73 per share)	—	—		(11,666)		—		(11,666)
Stock purchased by directors under director stock plan	515	16		—		—		16
Stock issued in payment of director fees	10,145	355		—		—		355

Stock repurchased, including commissions	(23,275)	(877)		—		—		(877)
Balance at September 30, 2022	16,029,048	$	214,720	$	261,907	$	(80,035)	$	396,592
	Nine months ended September 30, 2021
Balance at January 1, 2021	13,500,453	$	125,905	$	219,747	$	12,601	$	358,253
Net income	—	—		23,514		—		23,514
Other comprehensive loss, net of tax	—	—		—		(5,753)		(5,753)

Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings	34,278	423		—		—		423
Stock issued under employee stock purchase plan	2,117	72		—		—		72
Stock issued under employee stock ownership plan	27,400	999		—		—		999
Restricted stock granted	29,454	—		—		—		—
Restricted stock surrendered for tax withholdings upon vesting	(3,961)	(156)		—		—		(156)
Restricted stock forfeited / cancelled	(3,848)	—		—		—		—
Stock-based compensation - stock options	—	315		—		—		315
Stock-based compensation - restricted stock	—	636		—		—		636
Cash dividends paid on common stock ($0.70 per share)	—	—		(9,264)		—		(9,264)
Stock purchased by directors under director stock plan	1,034	34		—		—		34
Stock issued in payment of director fees	6,410	216		—		—		216
Stock issued to American River Bankshares shareholders	3,441,235	124,401		—		—		124,401
Stock repurchased, including commissions	(967,683)	(35,165)		—		—		(35,165)
Balance at September 30, 2021	16,066,889	$	217,680	$	233,997	$	6,848	$	458,525
The accompanying notes are an integral part of these consolidated financial statements (unaudited).

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BANK OF MARIN BANCORP CONSOLIDATED STATEMENTS OF CASH FLOWS
For the nine months ended September 30, 2022 and 2021


(in thousands; unaudited)	2022		2021
Cash Flows from Operating Activities:
Net income	$	33,705	$	23,514
Adjustments to reconcile net income to net cash provided by operating activities:
Reversal of credit losses on loans	(63)		(2,049)
Reversal of credit losses on unfunded loan commitments	(318)		(1,202)

Noncash contribution expense to employee stock ownership plan	1,233		999
Noncash director compensation expense	355		216
Stock-based compensation expense	642		951
Amortization of core deposit intangible	1,124		742
Amortization of investment security premiums, net of accretion of discounts	7,139		3,222
Amortization of premiums (accretion of discounts) on acquired loans, net	143		(201)
Accretion of discount on subordinated debenture	—		1,347
Net change in deferred loan origination costs/fees	(2,484)		(1,135)
Write-down of other real estate owned	345		—
Losses (gains) on sale of investment securities, net	63		(1)
Depreciation and amortization	1,259		1,279



Earnings on bank-owned life insurance policies	(933)		(1,892)




Net changes in interest receivable and other assets	2,230		5,615
Net changes in interest payable and other liabilities	(5,489)		921
Total adjustments	5,246		8,812
Net cash provided by operating activities	38,951		32,326
Cash Flows from Investing Activities:

Purchase of held-to-maturity securities	(293,720)		(133,493)
Purchase of available-for-sale securities	(243,459)		(355,156)
Proceeds from sale of available-for-sale securities	10,664		4,099
Proceeds from paydowns/maturities of held-to-maturity securities	33,198		65,497
Proceeds from paydowns/maturities of available-for-sale securities	112,793		66,981

Loan principal collected, net of originations	97,935		193,265
Purchase of bank-owned life insurance policies	—		(1,943)
Cash receipts from bank-owned life insurance policies	350		2,478
Purchase of premises and equipment	(762)		(833)

Cash acquired from American River Bankshares	—		140,577

Cash paid for low income housing tax credit investment	(30)		(396)
Net cash used in investing activities	(283,031)		(18,924)
Cash Flows from Financing Activities:
Net increase in deposits	94,160		433,425
Proceeds from stock options exercised	821		423

Restricted stock surrendered for tax withholdings upon vesting	(40)		(156)
Proceeds from stock issued under employee and director stock purchase plans	62		106
Stock repurchased, including commissions	(1,250)		(35,451)
Repayment of subordinated debenture including execution costs	—		(4,126)
Repayment of Federal Home Loan Bank borrowings	—		(13,885)
Repayment of finance lease obligations	(96)		(55)
Cash dividends paid on common stock	(11,666)		(9,264)

Net cash provided by financing activities	81,991		371,017
Net (decrease) increase in cash, cash equivalents and restricted cash	(162,089)		384,419
Cash, cash equivalents and restricted cash at beginning of period	347,641		200,320
Cash, cash equivalents and restricted cash at end of period	$	185,552	$	584,739
Supplemental disclosure of cash flow information:
Cash paid in interest	$	1,716	$	1,492
Cash paid in income taxes	$	11,075	$	9,000
Supplemental disclosure of noncash investing and financing activities:

Change in net unrealized gain or (loss) on available-for-sale securities	$	(97,094)	$	(8,558)

Securities transferred from available-for-sale to held-to-maturity, at fair value	$	357,482	$	—
Amortization of net unrealized loss on available-for-sale securities transferred to held-to-maturity	$	1,126	$	385
Purchase of investment securities not yet settled	$	—	$	19,972




Stock issued to employee stock ownership plan	$	1,233	$	999
Stock issued in payment of director fees	$	355	$	216
Repurchase of stock not yet settled	$	—	$	127
Acquisition: Fair value of assets acquired, excluding cash acquired	$	—	$	757,844
Fair value of liabilities assumed	$	—	$	816,558
Restricted cash1	$	2,996	$	15,805

1 Restricted cash includes reserve requirements held with the Federal Reserve Bank of San Francisco and other cash pledged. In response to the COVID-19 pandemic, the Federal Reserve reduced the reserve requirement ratios to zero percent effective March 26, 2020.

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

Note 1: Basis of Presentation

The consolidated financial statements include the accounts of Bancorp, a bank holding company, and its wholly-owned bank subsidiary, Bank of Marin, a California state-chartered commercial bank. References to “we,” “our,” “us” mean Bancorp and the Bank that are consolidated for financial reporting purposes. The accompanying unaudited consolidated interim financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). Certain information and note disclosures normally included in annual financial statements prepared in accordance with U.S. generally accepted accounting principles ("GAAP") have been condensed or omitted pursuant to those rules and regulations.

Although we believe that the disclosures are adequate and the information presented is not misleading, we suggest that these interim financial statements be read in conjunction with the annual financial statements and the notes thereto included in our 2021 Annual Report on Form 10-K. In the opinion of management, the unaudited consolidated financial statements reflect all adjustments, which are necessary for a fair presentation of the consolidated financial position, the results of operations, changes in comprehensive income, changes in stockholders’ equity, and cash flows for the periods presented. All material intercompany transactions have been eliminated. The results of these interim periods may not be indicative of the results for the full year or for any other period.

The following table shows: 1) weighted average basic shares, 2) potentially dilutive weighted average common shares related to stock options and unvested restricted stock awards, and 3) weighted average diluted shares. Basic earnings per share (“EPS”) are calculated by dividing net income by the weighted average number of common shares outstanding during each period, excluding unvested restricted stock awards. Diluted EPS are calculated using the weighted average number of potentially dilutive common shares. The number of potentially dilutive common shares included in the quarterly diluted EPS is computed using the average market prices during the three months included in the reporting period under the treasury stock method. The number of potentially dilutive common shares included in year-to-date diluted EPS is a year-to-date weighted average of potentially dilutive common shares included in each quarterly diluted EPS computation. In computing diluted EPS, we exclude anti-dilutive shares such as options whose exercise prices exceed the current common stock price, as they would not reduce EPS under the treasury method. We have two forms of outstanding common stock: common stock and unvested restricted stock awards. Holders of unvested restricted stock awards receive non-forfeitable dividends at the same rate as common shareholders and they both share equally in undistributed earnings. Under the two-class method, the difference in EPS is nominal for these participating securities.


	Three months ended				Nine months ended
(in thousands, except per share data)	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Weighted average basic common shares outstanding	15,939		14,922		15,912		13,798
Potentially dilutive common shares related to:
Stock options	22		51		33		62
Unvested restricted stock awards	13		20		14		21
Weighted average diluted shares outstanding	15,974		14,993		15,959		13,881
Net income	$	12,174	$	5,282	$	33,705	$	23,514
Basic EPS	$	0.76	$	0.35	$	2.12	$	1.70
Diluted EPS	$	0.76	$	0.35	$	2.11	$	1.69
Weighted average anti-dilutive common shares not included in the calculation of diluted EPS	237		97		213		91

Note 2: Recently Adopted and Issued Accounting Standards

Accounting Standards Not Yet Effective

In March 2020, the FASB issued Accounting Standards Update ("ASU") No. 2020-04, Reference Rate Reform (Topic 848). The amendments in this ASU are elective and provide optional guidance for a limited period of time to ease the potential burden of accounting for, or recognizing the effects of reference rate reform. The amendments in this ASU provide optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of

Page-7

reference rate reform. The amendments in this ASU may be elected as of March 12, 2020 through December 31, 2022. An entity may choose to elect the amendments in this update at an interim period subsequent to March 12, 2020 with adoption methods varying based on transaction type. We have elected not to apply amendments at this time and to assess the applicability of this ASU to us as we continue to monitor guidance for reference rate reform from FASB and its impact on our financial condition and results of operations.

In January 2021, the FASB issued ASU No. 2021-01, Reference Rate Reform (Topic 848). The main amendments in this ASU intend to clarify certain optional expedients and scope of derivative instruments. The amendments are elective and effective immediately upon issuance of this ASU. Amendments may be elected through December 31, 2022. As of September 30, 2022, we had four interest rate swap contracts with notional values totaling $12.3 million indexed to LIBOR that will either be subject to the fall-back index rate stipulated by the ISDA protocol or modified to other reference rates such as Prime or SOFR as mutually agreed by our counterparty and us. We have not elected to apply the amendments at this time and will continue to assess the applicability of this ASU to us as we monitor guidance for reference rate reform from FASB and its impact on our financial condition and results of operations.

In October 2021, the FASB issued ASU No. 2021-08, Accounting for Contract Assets and Contract Liabilities From Contracts With Customers (Topic 805). The amendments address diversity in accounting practices and require acquiring companies to apply ASC 606, Revenue from Contracts with Customers to recognize and measure contract assets and contract liabilities from contracts with customers acquired in a business combination, as opposed to other methods such as fair value. The amendments improve comparability after the business combination by providing consistent recognition and measurement guidance for revenue contracts with customers acquired in a business combination. The amendments are to be applied prospectively to business combinations occurring on or after December 15, 2022 and early adoption is permitted. In the event of a future business combination, we will assess the impact of the ASU on our financial condition and results of operations.

In March 2022, the FASB issued ASU No. 2022-02, Financial Instruments - Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. The amendment eliminates the recognition measurement guidance for troubled debt restructured ("TDR") loans, and instead requires an entity to evaluate whether a modification represents a new loan or a continuation of an existing loan in accordance with ASC Topic 310-20, Receivables - Nonrefundable Fees and Other Costs. In addition, the amendment requires that an entity include in its vintage disclosures the current period-gross loan charge-offs by year of origination. The amendments are effective for years beginning after December 15, 2022, and should be applied prospectively, except that an entity has the option to apply a modified retrospective method for TDR loans, resulting in a cumulative-effect adjustment to retained earnings in the period of adoption. An entity may elect to early adopt each of the amendments separately. As such, we early adopted the current period charge-off disclosures in the first quarter of 2022 and intend to adopt the loan modification amendments when effective in the first quarter of 2023. Neither the early adoption of the amendments related to gross charge-off disclosures nor the future adoption of the TDR amendments had or will have a material impact on our financial condition or results of operations.

In March 2022, the FASB issued ASU No. 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging - Portfolio Layer Method. Among other things, the ASU renames the "last-of-layer" method to the "portfolio layer" method and makes fair value hedging more accessible for hedge accounting of interest rate risk for portfolios and financial assets. For example, the guidance permits an entity to apply the same portfolio hedging method to both prepayable and non-prepayable financial assets, thereby providing for consistency between accounting for similar hedges. The amendments are effective for years beginning after December 15, 2022. The adoption of the amendments will not affect our existing hedge accounting, disclosures, financial condition or results of operations.

In June 2022, the FASB issued ASU No. 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions. The amendment reduces diversity in practice by clarifying that a separate contractual restriction on the sale of an equity security is not considered part of the unit of account of the equity security and, therefore, is not considered in measuring fair value. In addition, this ASU provided amended examples to illustrate that a restriction that is a characteristic of the equity security, which market participants would take into account when pricing them, would be considered in measuring fair value. This ASU also introduces new disclosure requirements. The amendments are effective prospectively for years beginning after December 15, 2023. Early adoption is permitted for both interim and annual financial statements. As discussed in Note 4, Investment Securities, we hold Visa Inc. Class B common stock that is legally restricted from resale to non-member banks of Visa U.S.A. until the covered litigation against Visa Inc. is settled. While the adoption of the amendments may require additional disclosures, we do not anticipate that it will impact our financial condition or results of operations.

Page-8

Note 3: Fair Value of Assets and Liabilities

Fair Value Hierarchy and Fair Value Measurement

We group our assets and liabilities that are measured at fair value into three levels within the fair value hierarchy, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

Level 1: Valuations are based on unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2: Valuations are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-based valuations for which all significant assumptions are observable or can be corroborated by observable market data.

Level 3: Valuations are based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Values are determined using pricing models and discounted cash flow models and may include significant management judgment and estimation.

Transfers between levels of the fair value hierarchy are recognized through our monthly and/or quarterly valuation process in the reporting period during which the event or circumstances that caused the transfer occurred. No such transfers occurred in the years presented.

The following table summarizes our assets and liabilities that were required to be recorded at fair value on a recurring basis.


(in thousands) Description of Financial Instruments	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Measurement Categories: Changes in Fair Value Recorded In1
September 30, 2022
Securities available-for-sale:
Mortgage-backed securities and collateralized mortgage obligations issued by U.S. government-sponsored agencies	$	489,389	$	—	$	489,389	$	—	OCI
SBA-backed securities	$	44,791	$	—	$	44,791	$	—	OCI
Debentures of government sponsored agencies	$	134,921	$	—	$	134,921	$	—	OCI
U.S. Treasury securities	$	10,158	$	10,158	$	—	$	—	OCI

Obligations of state and political subdivisions	$	98,427	$	—	$	98,427	$	—	OCI
Corporate bonds	$	33,202	$	—	$	33,202	$	—	OCI
Asset-backed securities	$	1,605	$	—	$	1,605	$	—	OCI
Derivative financial assets (interest rate contracts)	$	649	$	—	$	649	$	—	NI

December 31, 2021
Securities available-for-sale:
Mortgage-backed securities and collateralized mortgage obligations issued by U.S. government-sponsored agencies	$	759,576	$	—	$	759,576	$	—	OCI
SBA-backed securities	$	33,478	$	—	$	33,478	$	—	OCI
Debentures of government sponsored agencies	$	188,527	$	—	$	188,527	$	—	OCI
U.S. Treasury securities	$	11,630	$	11,630	$	—	$	—	OCI

Obligations of state and political subdivisions	$	134,000	$	—	$	134,000	$	—	OCI
Corporate bonds	$	38,495	$	—	$	38,495	$	—	OCI
Asset-backed securities	$	1,862	$	—	$	1,862	$	—	OCI

Derivative financial liabilities (interest rate contracts)	$	1,085	$	—	$	1,085	$	—	NI

1 Other comprehensive income ("OCI") or net income ("NI").

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Available-for-sale securities are recorded at fair value on a recurring basis. When available, quoted market prices (Level 1) are used to determine the fair value of available-for-sale securities. Level 1 securities include U.S. Treasury securities. If quoted market prices are not available, we obtain pricing information from a reputable third-party service provider, who may utilize valuation techniques that use current market-based or independently sourced parameters, such as bid/ask prices, dealer-quoted prices, interest rates, benchmark yield curves, prepayment speeds, probability of default, loss severity and credit spreads (Level 2). Level 2 securities include asset-backed securities, obligations of state and political subdivisions, U.S. agencies or government-sponsored agencies' debt securities, mortgage-backed securities, government agency-issued, and corporate bonds. As of September 30, 2022 and December 31, 2021, there were no Level 3 securities.

Held-to-maturity securities may be written down to fair value as a result of an other-than-temporary impairment, and we did not record any write-downs during the nine months ended September 30, 2022 or September 30, 2021. Fair value of held-to-maturity securities is determined using the same techniques discussed above for available-for-sale securities.

On a recurring basis, derivative financial instruments are recorded at fair value, which is based on the income approach using observable Level 2 market inputs, reflecting market expectations of future interest rates as of the measurement date. Standard valuation techniques are used to calculate the present value of the future expected cash flows assuming an orderly transaction. Valuation adjustments may be made to reflect both our own credit risk and the counterparties’ credit risk in determining the fair value of the derivatives. These unobservable inputs are not considered significant inputs to the fair value measurement overall. Level 2 inputs for the valuations are limited to observable market prices for London Interbank Offered Rate ("LIBOR") and Overnight Index Swap ("OIS") rates (for the very short term), quoted prices for LIBOR futures contracts, observable market prices for LIBOR and OIS swap rates, and one-month and three-month LIBOR basis spreads at commonly quoted intervals. Mid-market pricing of the inputs is used as a practical expedient in the fair value measurements. We project spot rates at reset days specified by each swap contract to determine future cash flows, then discount to present value using OIS curves as of the measurement date. When the value of any collateral placed with counterparties is less than the interest rate derivative liability, a credit valuation adjustment ("CVA") is applied to reflect the credit risk we pose to counterparties. We have used the spread between the Standard & Poor's BBB rated U.S. Bank Composite rate and LIBOR for the closest maturity term corresponding to the duration of the swaps to derive the CVA. A similar credit risk adjustment, correlated to the credit standing of the counterparty, is made when collateral posted by the counterparty does not fully cover their liability to us. For further discussion on our methodology in valuing our derivative financial instruments, refer to Note 9, Derivative Financial Instruments and Hedging Activities.

Certain financial assets may be measured at fair value on a non-recurring basis. These assets are subject to fair value adjustments that result from the application of the lower of cost or fair value accounting or write-downs of individual assets, such as individually analyzed loans that are collateral dependent and other real estate owned ("OREO").

OREO represents collateral acquired through foreclosure and is initially recorded at fair value as established by a current appraisal of the collateral. Subsequent to foreclosure, OREO is carried at the lower of cost or fair value, less estimated costs to sell. OREO values are reviewed on an ongoing basis and any subsequent decline in fair value is recorded as a foreclosed asset expense in the current period. The value of OREO is classified as Level 3. Our current OREO resulted from the American River Bankshares ("AMRB") merger in 2021.

The following table presents the carrying value of assets measured at fair value on a non-recurring basis and that were held in the consolidated statements of condition at each respective period end, by level within the fair value hierarchy as of September 30, 2022 and December 31, 2021.


(in thousands)	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
September 30, 2022
Other real estate owned	$	455	$	—	$	—	$	455
December 31, 2021
Other real estate owned	$	800	$	—	$	—	$	800

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Disclosures about Fair Value of Financial Instruments

The table below is a summary of fair value estimates for financial instruments as of September 30, 2022 and December 31, 2021, excluding financial instruments recorded at fair value on a recurring basis (summarized in the first table in this note). The carrying amounts in the following table are recorded in the consolidated statements of condition under the indicated captions. Further, we have not disclosed the fair value of financial instruments specifically excluded from disclosure requirements such as bank-owned life insurance policies ("BOLI"), lease obligations and non-maturity deposit liabilities. Additionally, we held shares of Federal Home Loan Bank ("FHLB") of San Francisco stock and Visa Inc. Class B common stock, both recorded at cost, as there was no impairment or changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer as of September 30, 2022 or December 31, 2021. The values are discussed in Note 4, Investment Securities.


	September 30, 2022					December 31, 2021
(in thousands)	Carrying Amounts		Fair Value		Fair Value Hierarchy	Carrying Amounts		Fair Value		Fair Value Hierarchy
Financial assets (recorded at amortized cost):
Cash and cash equivalents	$	185,552	$	185,552	Level 1	$	347,641	$	347,641	Level 1
Investment securities held-to-maturity	959,867		829,048		Level 2	342,222		342,755		Level 2
Loans, net	2,135,373		2,123,520		Level 3	2,232,622		2,234,430		Level 3
Interest receivable	11,458		11,458		Level 2	11,889		11,889		Level 2
Financial liabilities (recorded at amortized cost):
Time deposits	139,815		139,553		Level 2	150,235		150,475		Level 2



Interest payable	83		83		Level 2	81		81		Level 2

Fair value of loans is based on exit price techniques and obtained from an independent third-party that uses its proprietary valuation model and methodology and may differ from actual price from a prospective buyer. The discounted cash flow valuation approach reflects key inputs and assumptions that are unobservable, such as loan probability of default, loss given default, prepayment speed, and market discount rates.

Fair value of fixed-rate time deposits is estimated by discounting future contractual cash flows using discount rates that reflect the current observable market rates offered for time deposits of similar remaining maturities.

The value of off-balance-sheet financial instruments is estimated based on the fee income associated with the commitments, which in the absence of credit exposure, is considered to approximate their settlement value. The fair value of commitment fees was not material as of September 30, 2022 or December 31, 2021.

Note 4: Investment Securities

Our investment securities portfolio consists of U.S. Treasury securities, obligations of state and political subdivisions, U.S. federal government agencies such as Government National Mortgage Association ("GNMA") and Small Business Administration ("SBA"), U.S. government-sponsored enterprises ("GSEs"), such as Federal National Mortgage Association ("FNMA"), Federal Home Loan Mortgage Corporation ("FHLMC"), Federal Farm Credit Banks Funding Corporation and FHLB, U.S. Corporations and one asset-backed security collateralized by student loan pools. We also invest in residential and commercial mortgage-backed securities (“MBS”/"CMBS") and collateralized mortgage obligations (“CMOs”) issued or guaranteed by the GSEs, as reflected in the following table.

A summary of the amortized cost, fair value and allowance for credit losses related to securities held-to-maturity as of September 30, 2022 and December 31, 2021 is presented below.

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Held-to-maturity:	Amortized Cost 1		Allowance for Credit Losses		Net Carrying Amount		Gross Unrealized				Fair Value
(in thousands)							Gains		(Losses)
September 30, 2022
Securities of U.S. government-sponsored enterprises:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	$	335,959	$	—	$	335,959	$	—	$	(53,659)	$	282,300
CMOs issued by FHLMC	236,061		—		236,061		—		(30,272)		205,789
CMOs issued by FNMA	115,043		—		115,043		—		(6,066)		108,977
CMOs issued by GNMA	32,070		—		32,070		—		(2,204)		29,866
SBA-backed securities	2,373		—		2,373		—		(143)		2,230
Debentures of government-sponsored agencies	145,747		—		145,747		—		(25,193)		120,554
Obligations of state and political subdivisions	62,614		—		62,614		—		(11,697)		50,917
Corporate bonds	30,000		—		30,000		—		(1,585)		28,415
Total held-to-maturity	$	959,867	$	—	$	959,867	$	—	$	(130,819)	$	829,048
December 31, 2021

Securities of U.S. government-sponsored enterprises:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	$	126,990	$	—	$	126,990	$	2,110	$	(712)	$	128,388
CMOs issued by FHLMC	106,851		—		106,851		668		(1,045)		106,474
CMOs issued by FNMA	4,866		—		4,866		128		—		4,994

SBA-backed securities	4,840		—		4,840		198		—		5,038
Debentures of government-sponsored agencies	51,472		—		51,472		—		(901)		50,571
Obligations of state and political subdivisions	47,203		—		47,203		296		(209)		47,290
Total held-to-maturity	$	342,222	$	—	$	342,222	$	3,400	$	(2,867)	$	342,755
1 Amortized cost and fair values exclude accrued interest receivable of $2.6 million and $1.1 million at September 30, 2022 and December 31, 2021, respectively, which is included in interest receivable and other assets in the consolidated statements of condition.

Management measures expected credit losses on held-to-maturity securities collectively by major security type with each type sharing similar risk characteristics, and considers historical credit loss information that is adjusted for current conditions and reasonable and supportable forecasts. With regard to MBSs and CMOs issued or guaranteed by the GSEs, and SBA-backed securities, we expect to receive all the contractual principal and interest on these securities as such securities are backed by the full faith and credit of and/or guaranteed by the U.S. government. Accordingly, no allowance for credit losses has been recorded for these securities. With regard to securities issued by states and political subdivisions and corporate bonds, management considers: (i) issuer and/or guarantor credit ratings, (ii) historical probability of default and loss given default rates for given bond ratings and remaining maturity, (iii) whether issuers continue to make timely principal and interest payments under the contractual terms of the securities, (iv) internal credit review of the financial information, and (v) whether or not such securities have credit enhancements such as guarantees, contain a defeasance clause, or are pre-refunded by the issuers. Based on the comprehensive analysis, no credit losses are expected.

The following table summarizes the amortized cost of our portfolio of held-to-maturity securities issued by states and political subdivisions and corporate bonds by Moody's and/or Standard & Poor's bond ratings as of September 30, 2022.


	Obligations of state and political subdivisions				Corporate bonds
(in thousands)	September 30, 2022		December 31, 2021		September 30, 2022		December 31, 2021
AAA / Aaa	$	43,087	$	34,229	$	—	$	—
AA / Aa	19,527		12,873		—		—
A2 / A	—		101		30,000		—
Total	$	62,614	$	47,203	$	30,000	$	—

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A summary of the amortized cost, fair value and allowance for credit losses related to securities available-for-sale as of September 30, 2022 and December 31, 2021 is presented below.


Available-for-sale:	Amortized Cost 1		Gross Unrealized				Allowance for Credit Losses		Fair Value
(in thousands)			Gains		(Losses)
September 30, 2022
Securities of U.S. government-sponsored enterprises:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	$	113,941	$	3	$	(13,702)	$	—	$	100,242
CMOs issued by FHLMC	357,486		—		(35,575)		—		321,911
CMOs issued by FNMA	38,125		—		(4,177)		—		33,948
CMOs issued by GNMA	36,747		—		(3,459)		—		33,288
SBA-backed securities	48,372		4		(3,585)		—		44,791
Debentures of government- sponsored agencies	149,106		—		(14,185)		—		134,921

U.S. Treasury securities	11,899		—		(1,741)		—		10,158
Obligations of state and political subdivisions	117,161		—		(18,734)		—		98,427
Corporate bonds	36,989		—		(3,787)		—		33,202
Asset-backed securities	1,650		—		(45)		—		1,605
Total available-for-sale	$	911,476	$	7	$	(98,990)	$	—	$	812,493
December 31, 2021
Securities of U.S. government-sponsored enterprises:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	$	316,090	$	1,224	$	(2,784)	$	—	$	314,530
CMOs issued by FHLMC	343,047		3,209		(4,829)		—		341,427
CMOs issued by FNMA	48,187		152		(611)		—		47,728
CMOs issued by GNMA	56,345		99		(553)		—		55,891
SBA-backed securities	32,640		993		(155)		—		33,478
Debentures of government- sponsored agencies	191,449		25		(2,947)		—		188,527

U.S. Treasury securities	11,886		—		(256)				11,630
Obligations of state and political subdivisions	129,009		5,372		(381)		—		134,000
Corporate bonds	39,001		—		(506)		—		38,495
Asset-backed securities	1,866		—		(4)		—		1,862
Total available-for-sale	$	1,169,520	$	11,074	$	(13,026)	$	—	$	1,167,568
1 Amortized cost and fair value exclude accrued interest receivable of $3.1 million and $3.7 million at September 30, 2022 and December 31, 2021, respectively, which is included in interest receivable and other assets in the consolidated statements of condition.

As part of our ongoing review of our investment securities portfolio, we reassessed the classification of certain securities issued by government sponsored agencies. In March 2022, we transferred $357.5 million of these securities from available-for-sale to held-to-maturity at fair value. We intend and have the ability to hold these securities to maturity. The net unrealized pre-tax loss of $14.8 million that remained and the related accumulated other comprehensive loss are accreted to interest income over the remaining lives of the securities. Because these entries offset each other, there is no impact to net income.

The amortized cost and fair value of investment debt securities by contractual maturity at September 30, 2022 and December 31, 2021 are shown below. Expected maturities may differ from contractual maturities if the issuers of the securities have the right to call or prepay obligations with or without call or prepayment penalties.


	September 30, 2022								December 31, 2021
	Held-to-Maturity				Available-for-Sale				Held-to-Maturity				Available-for-Sale
(in thousands)	Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value
Within one year	$	453	$	450	$	1,831	$	1,813	$	101	$	103	$	10,785	$	10,841
After one but within five years	90,541		86,684		273,040		251,164		25,666		26,559		219,474		219,957
After five years through ten years	260,148		220,313		256,608		228,766		182,604		182,303		299,937		300,187
After ten years	608,725		521,601		379,997		330,750		133,851		133,790		639,324		636,583
Total	$	959,867	$	829,048	$	911,476	$	812,493	$	342,222	$	342,755	$	1,169,520	$	1,167,568

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Sales of investment securities and gross gains and losses are shown in the following table.


	Three months ended				Nine months ended
(in thousands)	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Available-for-sale:
Sales proceeds	$	10,664	$	4,099	$	10,664	$	4,099
Gross realized gains	17		1		17		1
Gross realized losses	(80)		—		(80)		—

Pledged investment securities are shown in the following table:


(in thousands)	September 30, 2022		December 31, 2021
Pledged to the State of California:
Secure public deposits in compliance with the Local Agency Security Program	$	193,479	$	213,861
Collateral for trust deposits	656		729
Collateral for Wealth Management and Trust Services checking account	554		614
Total investment securities pledged to the State of California	194,689		215,204
Bankruptcy trustee deposits pledged with Federal Reserve Bank	1,844		2,645
Total pledged investment securities	$	196,533	$	217,849

There were 409 and 217 securities in unrealized loss positions at September 30, 2022 and December 31, 2021, respectively. Those securities are summarized and classified according to the duration of the loss period in the tables below:


September 30, 2022	< 12 continuous months				≥ 12 continuous months				Total securities in a loss position
(in thousands)	Fair value		Unrealized loss		Fair value		Unrealized loss		Fair value		Unrealized loss
Held-to-maturity:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	$	203,739	$	(36,140)	$	78,562	$	(17,519)	$	282,301	$	(53,659)
CMOs issued by FHLMC	144,517		(18,126)		51,272		(12,146)		195,789		(30,272)
CMOs issued by FNMA	108,978		(6,066)		—		—		108,978		(6,066)
CMOs issued by GNMA	19,059		(735)		10,807		(1,469)		29,866		(2,204)
SBA-backed securities	2,230		(143)		—		—		2,230		(143)
Debentures of government-sponsored agencies	54,445		(6,704)		66,109		(18,489)		120,554		(25,193)
Obligations of state and political subdivisions	35,899		(7,399)		15,018		(4,298)		50,917		(11,697)
Corporate bonds	28,415		(1,585)		—		—		28,415		(1,585)
Total held-to-maturity	597,282		(76,898)		221,768		(53,921)		819,050		(130,819)
Available-for-sale:
MBS pass-through securities issued by FHLMC, FNMA and GNMA	54,639		(6,702)		44,711		(7,000)		99,350		(13,702)
CMOs issued by FHLMC	192,988		(17,898)		128,923		(17,677)		321,911		(35,575)
CMOs issued by FNMA	7,310		(514)		26,638		(3,663)		33,948		(4,177)
CMOs issued by GNMA	11,248		(399)		22,039		(3,060)		33,287		(3,459)
SBA-backed securities	37,629		(3,443)		6,649		(142)		44,278		(3,585)
Debentures of government- sponsored agencies	128,077		(12,060)		6,844		(2,125)		134,921		(14,185)
U.S. Treasury securities	—		—		10,159		(1,741)		10,159		(1,741)

Obligations of state and political subdivisions	84,021		(15,366)		14,406		(3,368)		98,427		(18,734)
Corporate bonds	23,221		(1,779)		9,981		(2,008)		33,202		(3,787)
Asset-backed securities	1,606		(45)		—		—		1,606		(45)
Total available-for-sale	540,739		(58,206)		270,350		(40,784)		811,089		(98,990)
Total securities at loss position	$	1,138,021	$	(135,104)	$	492,118	$	(94,705)	$	1,630,139	$	(229,809)

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December 31, 2021	< 12 continuous months				≥ 12 continuous months				Total securities in a loss position
(in thousands)	Fair value		Unrealized loss		Fair value		Unrealized loss		Fair value		Unrealized loss
Held-to-maturity:
MBS pass-through securities issued by FHLMC and FNMA	$	76,619	$	(712)	$	—	$	—	$	76,619	$	(712)

CMOs issued by FHLMC	54,811		(1,045)		—		—		54,811		(1,045)
Obligations of state and political subdivisions	19,203		(209)		—		—		19,203		(209)
Debentures of government-sponsored agencies	50,571		(901)		—		—		50,571		(901)
Total held-to-maturity	201,204		(2,867)		—		—		201,204		(2,867)
Available-for-sale:
MBS pass-through securities issued by FHLMC and FNMA	263,474		(2,784)		—		—		263,474		(2,784)
SBA-backed securities	7,478		(112)		1,209		(43)		8,687		(155)
CMOs issued by FHLMC	226,175		(4,677)		4,415		(152)		230,590		(4,829)
CMOs issued by GNMA	44,790		(553)		—		—		44,790		(553)
CMOs issued by FNMA	37,348		(611)		—		—		37,348		(611)
Debentures of government- sponsored agencies	148,979		(2,527)		8,549		(420)		157,528		(2,947)
U.S. Treasury securities	11,629		(256)		—		—		11,629		(256)
Obligations of state and political subdivisions	17,552		(381)		—		—		17,552		(381)
Corporate Bonds	38,495		(506)		—		—		38,495		(506)

Asset-backed securities	1,861		(4)		—		—		1,861		(4)
Total available-for-sale	797,781		(12,411)		14,173		(615)		811,954		(13,026)
Total securities at loss position	$	998,985	$	(15,278)	$	14,173	$	(615)	$	1,013,158	$	(15,893)

As of September 30, 2022, the investment portfolio included 173 investment securities that had been in a continuous loss position for twelve months or more and 236 investment securities that had been in a loss position for less than twelve months.

Securities issued by government-sponsored agencies, such as FNMA and FHLMC, usually have implicit credit support by the U.S. federal government. However, since 2008, FNMA and FHLMC have been under government conservatorship and, therefore, contractual cash flows for these investments carry explicit guarantees by the U.S. federal government. Securities issued by the SBA and GNMA have explicit credit guarantees by the U.S. federal government, which protects us from credit losses on the contractual cash flows of the securities.

Our investment in obligations of state and political subdivisions bonds are deemed credit worthy after our comprehensive analysis of the issuers' latest financial information, credit ratings by major credit agencies, and/or credit enhancements.

At September 30, 2022, management determined that it did not intend to sell any investment securities with unrealized losses, and it is more likely than not that we will not be required to sell securities with unrealized losses before recovery of their amortized cost. No allowances for credit losses have been recognized on available-for-sale securities in an unrealized loss position, as management does not believe any of the securities are impaired due to reasons of credit quality at September 30, 2022.

Non-Marketable Securities Included in Other Assets

FHLB Capital Stock

As a member of the FHLB, we are required to maintain a minimum investment in FHLB capital stock determined by the Board of Directors of the FHLB. The minimum investment requirements can increase in the event we increase our total asset size or borrowings with the FHLB. Shares cannot be purchased or sold except between the FHLB and its members at the $100 per share par value. We held $16.7 million of FHLB stock included in other assets on the consolidated statements of condition at both September 30, 2022 and December 31, 2021. The carrying

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amounts of these investments are reasonable estimates of fair value because the securities are restricted to member banks and they do not have a readily determinable market value. Based on our analysis of FHLB's financial condition and certain qualitative factors, we determined that the FHLB stock was not impaired at September 30, 2022 and December 31, 2021. On October 27, 2022, FHLB announced a cash dividend for the third quarter of 2022 at an annualized dividend rate of 7.00% to be distributed in mid-November 2022. Cash dividends paid on FHLB capital stock are recorded as non-interest income.

VISA Inc. Class B Common Stock

As a member bank of Visa U.S.A., we held 10,439 shares of Visa Inc. Class B common stock at September 30, 2022 and December 31, 2021. These shares have a carrying value of zero and are restricted from resale to non-member banks of Visa U.S.A. until their conversion into Class A (voting) shares upon the termination of Visa Inc.'s Covered Litigation escrow account. Because of the restriction and the uncertainty on the conversion rate to Class A shares, these shares lack a readily determinable fair value. When converting this Class B common stock to Class A common stock based on the estimated conversion rate of 1.6059 and 1.6181 at September 30, 2022 and December 31, 2021, and the closing stock price of Class A shares at those respective dates, the converted value of our shares of Class B common stock would have been $3.0 million and $3.7 million at September 30, 2022 and December 31, 2021, respectively. The conversion rate is subject to further adjustment upon the final settlement of the covered litigation against Visa Inc. and its member banks. As such, the fair value of these Class B shares can differ significantly from their converted values. For further information, refer to Note 8, Commitments and Contingencies.

Low Income Housing Tax Credits

We invest in low-income housing tax credit funds as a limited partner, which totaled $2.6 million and $3.0 million recorded in other assets as of September 30, 2022 and December 31, 2021, respectively. In the first nine months of 2022, we recognized $475 thousand of low-income housing tax credits and other tax benefits, offset by $400 thousand of amortization expense of low-income housing tax credit investment, as a component of income tax expense. As of September 30, 2022, our unfunded commitments for these low-income housing tax credit funds totaled $392 thousand. We did not recognize any impairment losses on these low-income housing tax credit investments during the first nine months of 2022 or 2021, as the value of the future tax benefits exceeds the carrying value of the investments.

Note 5: Loans and Allowance for Credit Losses on Loans

The following table presents the amortized cost of loans by class as of September 30, 2022 and December 31, 2021.


(in thousands)	September 30, 2022		December 31, 2021
Commercial and industrial	$	207,488	$	301,602
Real estate:
Commercial owner-occupied	368,415		392,345
Commercial investor-owned	1,211,651		1,189,021
Construction	112,154		119,840
Home equity	89,244		88,746
Other residential	114,247		114,558
Installment and other consumer loans	55,137		49,533
Total loans, at amortized cost 1	2,158,336		2,255,645
Allowance for credit losses on loans	(22,963)		(23,023)
Total loans, net of allowance for credit losses on loans	$	2,135,373	$	2,232,622

1 Amortized cost includes net deferred loan origination costs (fees) of $1.6 million and $(901) thousand at September 30, 2022 and December 31, 2021, respectively. Amounts are also net of unrecognized purchase discounts of $2.6 million and $2.5 million at September 30, 2022 and December 31, 2021, respectively. Amortized cost excludes accrued interest, which totaled $5.8 million and $7.1 million at September 30, 2022 and December 31, 2021, respectively, and is included in interest receivable and other assets in the consolidated statements of condition.

Lending Risks

Commercial and Industrial Loans - Commercial loans are generally made to established small and mid-sized businesses to provide financing for their growth and working capital needs, equipment purchases and

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acquisitions. Management examines historical, current, and projected cash flows to determine the ability of the borrower to repay obligations as agreed. Commercial loans are made based primarily on the identified cash flows of the borrower and secondarily on the underlying collateral and guarantor support. The cash flows of borrowers, however, may not occur as expected, and the collateral securing these loans may fluctuate in value. Most commercial and industrial loans are secured by the assets being financed, such as accounts receivable and inventory, and typically include personal guarantees. We target stable businesses with guarantors who provide additional sources of repayment and have proven to be resilient in periods of economic stress. A weakened economy, and resultant decreased consumer and/or business spending, may have an effect on the credit quality of commercial loans.

Pursuant to the 2020 CARES Act, Bank of Marin originated 2,876 guaranteed loans totaling $444.1 million in two rounds of the Small Business Administration's ("SBA") Paycheck Protection Program ("PPP"). Additionally in 2021, Bank of Marin assumed 113 PPP loans totaling $18.6 million from AMRB as of the merger date. As of September 30, 2022, there were 42 PPP loans outstanding totaling $7.6 million (net of $161 thousand in unrecognized fees and costs), compared to 368 loans outstanding at December 31, 2021 totaling $111.2 million (net of $2.5 million in unrecognized fees and costs) included in commercial and industrial loan balances. PPP loans have terms of two to five years and earn interest at 1%. In addition, the SBA paid the Bank a fee of 1%-5% depending on the loan amount, which was netted with loan origination costs and accreted/amortized into interest income using the effective yield method over the contractual life of each loan. The recognition of fees and costs is accelerated when the SBA forgives the loan and/or the loan is paid off prior to maturity. PPP loans are fully guaranteed by the SBA if they meet the requirements of the program. As expected, the vast majority of the PPP loans have been fully forgiven by the SBA and we expect the majority of remaining loans to be forgiven as well.

Commercial Real Estate Loans - Commercial real estate loans, which include income producing investment properties and owner-occupied real estate used for business purposes, are subject to underwriting standards and processes similar to commercial loans discussed above. We underwrite these loans to be repaid from cash flow from either the business or investment property and supported by real property collateral. Underwriting standards for commercial real estate loans include, but are not limited to, debt coverage and loan-to-value ratios. Furthermore, a large majority of our loans are guaranteed by the owners of the properties. Conditions in the real estate markets or downturn in the general economy may adversely affect our commercial real estate loans. In the event of a vacancy, we expect guarantors to carry the loans until they find a replacement tenant. The owner's substantial equity investment provides a strong economic incentive to continue to support the commercial real estate projects. As such, we have generally experienced a relatively low level of loss and delinquencies in this portfolio.

Construction Loans - Construction loans are generally made to developers and builders to finance construction, renovation and occasionally land acquisitions in anticipation of near-term development. Construction loans include interest reserves that are used for the payment of interest during the development and marketing periods and are capitalized as part of the loan balance. When a construction loan is placed on nonaccrual status before the depletion of the interest reserve, we apply the interest funded by the interest reserve against the loan's principal balance. These loans are underwritten after evaluation of the borrower's financial strength, reputation, prior track record, and independent appraisals. We monitor all construction projects to determine whether they are on schedule, completed as planned and in accordance with the approved construction budgets. Significant events can affect the construction industry, including: the inherent volatility of real estate markets and vulnerability to delays due to weather, change orders, inability to obtain construction permits, labor or material shortages, and price changes. Estimates of construction costs and value associated with the completed project may be inaccurate. Repayment of construction loans is largely dependent on the ultimate success of the project.

Consumer Loans - Consumer loans primarily consist of home equity lines of credit, other residential loans, floating homes, and indirect luxury auto loans, along with a small number of installment loans. Our other residential loans include tenancy-in-common fractional interest loans ("TIC") located almost entirely in San Francisco County. We originate consumer loans utilizing credit score information, debt-to-income ratio and loan-to-value ratio analysis. Diversification among consumer loan types, coupled with relatively small loan amounts that are spread across many individual borrowers, mitigates risk. We do not originate sub-prime residential mortgage loans, nor is it our practice to underwrite loans commonly referred to as "Alt-A mortgages," the characteristics of which are reduced documentation, borrowers with low FICO scores or collateral with high loan-to-value ratios.

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Credit Quality Indicators

We use a risk rating system to evaluate asset quality, and to identify and monitor credit risk in individual loans, and in the loan portfolio. Our definitions of “Special Mention” risk graded loans, or worse, are consistent with those used by the Federal Deposit Insurance Corporation ("FDIC"). Our internally assigned grades are as follows:

Pass and Watch - Loans to borrowers of acceptable or better credit quality. Borrowers in this category demonstrate fundamentally sound financial positions, repayment capacity, credit history and management expertise. Loans in this category must have an identifiable and stable source of repayment and meet the Bank’s policy regarding debt-service-coverage ratios. These borrowers are capable of sustaining normal economic, market or operational setbacks without significant financial consequences. Negative external industry factors are generally not present. The loan may be secured, unsecured or supported by non-real estate collateral for which the value is more difficult to determine and/or marketability is more uncertain. This category also includes “Watch” loans, where the primary source of repayment has been delayed. “Watch” is intended to be a transitional grade, with either an upgrade or downgrade within a reasonable period.

Special Mention - Potential weaknesses that deserve close attention. If left uncorrected, those potential weaknesses may result in deterioration of the payment prospects for the asset. Special Mention assets do not present sufficient risk to warrant adverse classification.

Substandard - Inadequately protected by either the current sound worth and paying capacity of the obligor or the collateral pledged, if any. A Substandard asset has a well-defined weakness or weaknesses that jeopardize(s) the liquidation of the debt. Substandard assets are characterized by the distinct possibility that we will sustain some loss if such weaknesses or deficiencies are not corrected. Well-defined weaknesses include adverse trends or developments of the borrower’s financial condition, managerial weaknesses and/or significant collateral deficiencies.

Doubtful - Critical weaknesses that make collection or liquidation in full improbable. There may be specific pending events that work to strengthen the asset; however, the amount or timing of the loss may not be determinable. Pending events generally occur within one year of the asset being classified as Doubtful. Examples include: merger, acquisition, or liquidation; capital injection; guarantee; perfecting liens on additional collateral; and refinancing. Such loans are placed on non-accrual status and usually are collateral-dependent.

We regularly review our credits for accuracy of risk grades whenever we receive new information. Borrowers are generally required to submit financial information at regular intervals. Typically, commercial borrowers with lines of credit are required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk and complexity. In addition, investor commercial real estate borrowers with loans exceeding a certain dollar threshold are usually required to submit rent rolls or property income statements annually. We monitor construction loans monthly. We review home equity and other consumer loans based on delinquency. We also review loans graded “Watch” or worse, regardless of loan type, no less than quarterly.

The following tables present the loan portfolio by loan class, origination year and internal risk rating as of September 30, 2022 and December 31, 2021. We early adopted the vintage disclosure requirements of ASU 2022-02 prospectively as described in Note 2 beginning with the first quarter of 2022. Accordingly, the 2022 vintage table reflects gross charge-offs by loan class and year of origination. Generally, existing term loans that were re-underwritten are reflected in the table in the year of renewal. Lines of credit that have a conversion feature at the time of origination, such as construction to perm loans, are presented by year of origination.


(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
September 30, 2022	2022		2021		2020		2019		2018		Prior				Total
Commercial and industrial:
Pass and Watch	$	10,791	$	11,634	$	8,266	$	22,979	$	6,007	$	25,989	$	114,750	$	200,416
Special Mention	—		—		—		477		4,166		—		403		5,046
Substandard	—		—		1,361		—		—		665		—		2,026
Total commercial and industrial	$	10,791	$	11,634	$	9,627	$	23,456	$	10,173	$	26,654	$	115,153	$	207,488
Gross current period charge-offs	$	—	$	—	$	(9)	$	—	$	—	$	—	$	—	$	(9)

Commercial real estate, owner-occupied:
Pass and Watch	$	52,024	$	52,909	$	41,096	$	45,607	$	30,178	$	108,888	$	—	$	330,702
Special Mention	—		16,336		—		309		5,284		4,532		—		26,461
Substandard	—		—		7,127		1,758		—		2,266		—		11,151
Doubtful	—		—		101		—		—		—		—		101
Total commercial real estate, owner-occupied	$	52,024	$	69,245	$	48,324	$	47,674	$	35,462	$	115,686	$	—	$	368,415

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(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
September 30, 2022	2022		2021		2020		2019		2018		Prior				Total
Commercial real estate, investor-owned:
Pass and Watch	$	157,021	$	219,857	$	156,190	$	165,464	$	128,149	$	332,987	$	65	$	1,159,733
Special Mention	—		1,178		12,157		3,961		6,002		9,384		—		32,682
Substandard	—		—		—		—		—		19,236		—		19,236

Total commercial real estate, investor-owned	$	157,021	$	221,035	$	168,347	$	169,425	$	134,151	$	361,607	$	65	$	1,211,651

Construction:
Pass and Watch	$	42,163	$	16,897	$	36,239	$	7,744	$	9,111	$	—	$	—	$	112,154


Total construction	$	42,163	$	16,897	$	36,239	$	7,744	$	9,111	$	—	$	—	$	112,154

Home equity:
Pass and Watch	$	—	$	—	$	—	$	—	$	—	$	742	$	87,685	$	88,427

Substandard	—		—		—		—		—		499		318		817
Total home equity	$	—	$	—	$	—	$	—	$	—	$	1,241	$	88,003	$	89,244

Other residential:
Pass and Watch	$	16,623	$	15,383	$	29,942	$	22,385	$	11,438	$	18,476	$	—	$	114,247


Total other residential	$	16,623	$	15,383	$	29,942	$	22,385	$	11,438	$	18,476	$	—	$	114,247

Installment and other consumer:
Pass and Watch	15,579		$	14,591	$	6,168	$	6,837	$	4,428	$	6,656	$	786	$	55,045

Substandard	—		—		—		—		—		92		—		92
Total installment and other consumer	$	15,579	$	14,591	$	6,168	$	6,837	$	4,428	$	6,748	$	786	$	55,137
Gross current period charge-offs	$	—	$	—	$	—	$	—	$	—	$	(18)	$	(5)	$	(23)
Total loans:
Pass and Watch	$	294,201	$	331,271	$	277,901	$	271,016	$	189,311	$	493,738	$	203,286	$	2,060,724
Total Special Mention	$	—	$	17,514	$	12,157	$	4,747	$	15,452	$	13,916	$	403	$	64,189
Total Substandard	$	—	$	—	$	8,488	$	1,758	$	—	$	22,758	$	318	$	33,322
Total Doubtful	$	—	$	—	$	101	$	—	$	—	$	—	$	—	$	101
Totals	$	294,201	$	348,785	$	298,647	$	277,521	$	204,763	$	530,412	$	204,007	$	2,158,336
Total gross current period charge-offs	$	—	$	—	$	(9)	$	—	$	—	$	(18)	$	(5)	$	(32)


(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
December 31, 2021	2021		2020		2019		2018		2017		Prior				Total
Commercial and industrial:
Pass and Watch	$	96,643	$	35,967	$	25,754	$	12,763	$	2,729	$	31,280	$	90,744	$	295,880
Special Mention	—		1,700		584		273		—		—		2,088		4,645
Substandard	—		—		—		—		—		—		1,077		1,077
Total commercial and industrial	$	96,643	$	37,667	$	26,338	$	13,036	$	2,729	$	31,280	$	93,909	$	301,602
Commercial real estate, owner-occupied:
Pass and Watch	$	58,395	$	43,216	$	49,485	$	36,174	$	42,430	$	104,898	$	—	$	334,598
Special Mention	16,748		—		—		7,846		—		16,996		—		41,590
Substandard	—		7,155		285		—		—		8,603		—		16,043
Doubtful	—		114		—		—		—		—		—		114
Total commercial real estate, owner-occupied	$	75,143	$	50,485	$	49,770	$	44,020	$	42,430	$	130,497	$	—	$	392,345
Commercial real estate, investor-owned:
Pass and Watch	$	225,722	$	186,214	$	187,418	$	143,028	$	75,419	$	325,882	$	84	$	1,143,767
Special Mention	—		1,214		2,714		11,773		1,787		9,540		—		27,028
Substandard	—		—		—		695		—		17,531		—		18,226
Total commercial real estate, investor-owned	$	225,722	$	187,428	$	190,132	$	155,496	$	77,206	$	352,953	$	84	$	1,189,021
Construction:
Pass and Watch	$	31,269	$	70,528	$	8,935	$	9,108	$	—	$	—	$	—	$	119,840


Total construction	$	31,269	$	70,528	$	8,935	$	9,108	$	—	$	—	$	—	$	119,840
Home equity:
Pass and Watch	$	—	$	—	$	—	$	—	$	10	$	268	$	87,693	$	87,971

Substandard	—		—		—		—		—		377		398		775
Total home equity	$	—	$	—	$	—	$	—	$	10	$	645	$	88,091	$	88,746
Other residential:
Pass and Watch	$	15,800	$	31,981	$	25,529	$	15,411	$	7,964	$	17,873	$	—	$	114,558


Total other residential	$	15,800	$	31,981	$	25,529	$	15,411	$	7,964	$	17,873	$	—	$	114,558
Installment and other consumer:
Pass and Watch	$	17,207	$	7,748	$	9,436	$	5,633	$	1,123	$	6,620	$	1,766	$	49,533


Total installment and other consumer	$	17,207	$	7,748	$	9,436	$	5,633	$	1,123	$	6,620	$	1,766	$	49,533
Total loans:
Pass and Watch	$	445,036	$	375,654	$	306,557	$	222,117	$	129,675	$	486,821	$	180,287	$	2,146,147
Total Special Mention	$	16,748	$	2,914	$	3,298	$	19,892	$	1,787	$	26,536	$	2,088	$	73,263
Total Substandard	$	—	$	7,155	$	285	$	695	$	—	$	26,511	$	1,475	$	36,121
Doubtful	$	—	$	114	$	—	$	—	$	—	$	—	$	—	$	114
Totals	$	461,784	$	385,837	$	310,140	$	242,704	$	131,462	$	539,868	$	183,850	$	2,255,645

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The following table shows the amortized cost of loans by class, payment aging and non-accrual status as of September 30, 2022 and December 31, 2021.


Loan Aging Analysis by Class
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor-owned		Construction		Home equity		Other residential		Installment and other consumer		Total
September 30, 2022
30-59 days past due	$	1,007	$	—	$	—	$	—	$	520	$	—	$	—	$	1,527
60-89 days past due	1,474		—		—		—		360		—		—		1,834
90 days or more past due	255		—		—		—		54		—		—		309
Total past due	2,736		—		—		—		934		—		—		3,670
Current	204,752		368,415		1,211,651		112,154		88,310		114,247		55,137		2,154,666
Total loans 1	$	207,488	$	368,415	$	1,211,651	$	112,154	$	89,244	$	114,247	$	55,137	$	2,158,336
Non-accrual loans 2	$	—	$	9,846	$	—	$	—	$	699	$	—	$	92	$	10,637
Non-accrual loans with no allowance	$	—	$	9,846	$	—	$	—	$	699	$	—	$	92	$	10,637
December 31, 2021
30-59 days past due	$	2	$	—	$	—	$	—	$	498	$	—	$	1,036	$	1,536
60-89 days past due	394		—		—		—		67		—		—		461
90 days or more past due	229		—		—		—		88		—		—		317
Total past due	625		—		—		—		653		—		1,036		2,314
Current	300,977		392,345		1,189,021		119,840		88,093		114,558		48,497		2,253,331
Total loans 1	$	301,602	$	392,345	$	1,189,021	$	119,840	$	88,746	$	114,558	$	49,533	$	2,255,645
Non-accrual loans 2	$	—	$	7,269	$	694	$	—	$	413	$	—	$	—	$	8,376
Non-accrual loans with no allowance	$	—	$	7,269	$	694	$	—	$	413	$	—	$	—	$	8,376

1 There were no non-performing loans past due more than ninety days and accruing interest as of September 30, 2022 and December 31, 2021.

2 None of the non-accrual loans as of September 30, 2022 or December 31, 2021 were earning interest on a cash basis. We recognized no interest income on non-accrual loans for the three and nine months ended September 30, 2022 and 2021. Accrued interest of $47 thousand was reversed from interest income for loans that were placed on non-accrual during the nine months ended September 30, 2022. No interest income was reversed for the single loan that was placed on non-accrual during the nine months ended September 30, 2021.

Collateral Dependent Loans

The following table presents the amortized cost basis of individually analyzed collateral-dependent loans, which are all on non-accrual status, by class at September 30, 2022 and December 31, 2021.


	Amortized Cost by Collateral Type
(in thousands)	Commercial Real Estate		Residential Real Estate		Other		Total 1		Allowance for Credit Losses

September 30, 2022
Commercial real estate, owner-occupied	$	9,846	$	—	$	—	$	9,846	$	—


Home equity	—		699		—		699		—

Installment and other consumer	—		—		92		92		—
Total	$	9,846	$	699	$	92	$	10,637	$	—
December 31, 2021
Commercial real estate, owner-occupied	$	7,269	$	—	$	—	$	7,269	$	—
Commercial real estate, investor-owned	694		—		—		694		—

Home equity	—		413		—		413		—


Total	$	7,963	$	413	$	—	$	8,376	$	—

1 There were no collateral-dependent residential real estate mortgage loans in process of foreclosure or in substance repossessed at September 30, 2022 or December 31, 2021. The weighted average loan-to-value of collateral dependent loans was approximately 66% at September 30, 2022 and 67% at December 31, 2021.

Troubled Debt Restructuring

Our loan portfolio includes certain loans modified in a troubled debt restructuring (“TDR”), where we have granted economic concessions to borrowers experiencing financial difficulties. These concessions typically result from our loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. TDRs on non-accrual status at the time of restructure may be returned to accruing status after management considers the borrower’s sustained repayment performance for a reasonable period, generally nine months, and obtains reasonable assurance of repayment and performance.

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We may remove a loan from TDR designation if it meets all of the following conditions:

•The loan is subsequently refinanced or restructured at current market interest rates and the new terms are consistent with the treatment of creditworthy borrowers under regular underwriting standards;

•The borrower is no longer considered to be in financial difficulty;

•Performance on the loan is reasonably assured; and

•Existing loan did not have any forgiveness of principal or interest.

There were no loans removed from TDR designation during the nine months ended September 30, 2022. We removed one commercial loan with a remaining amortized cost of $2 thousand and an unfunded commitment of $600 thousand from TDR designation during the nine months ended September 30, 2021 after meeting all of the conditions above.

In accordance with section 4013 of the CARES Act, subsequently amended by section 541 of the 2020 Economic Aid Act, we elected to apply the temporary accounting relief provisions for loan modifications that met certain criteria, which would otherwise be designated as TDRs under existing GAAP. As of September 30, 2022, one borrowing relationship with two loans totaling $7.1 million was continuing to benefit from payment relief. Shortly after quarter end, both of the loans, which were classified substandard and on non-accrual, were paid off.

The following table summarizes the amortized cost of TDR loans by loan class as of September 30, 2022 and December 31, 2021.


(in thousands)	September 30, 2022		December 31, 2021
Commercial and industrial	$	941	$	1,183
Commercial real estate, owner-occupied	9,436		7,155
Commercial real estate, investor-owned	165		179

Home equity	629		386

Installment and other consumer	561		607
Total 1	$	11,732	$	9,510

1 TDR loans on non-accrual status totaled $9.9 million and $7.4 million at September 30, 2022 and December 31, 2021, respectively. Unfunded commitments for TDR loans totaled $218 thousand and $441 thousand as of September 30, 2022 and December 31, 2021, respectively.

The following table presents information for loans modified in a TDR during the presented periods, including the number of modified contracts, the amortized cost of the loans prior to modification, and the amortized cost of the loans at period end after being restructured. The table excludes fully charged-off TDR loans and loans modified in a TDR and subsequently paid-off during the years presented, if applicable.


(dollars in thousands)	Number of Contracts Modified	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment at Period End
TDRs during the three months ended September 30, 2022:
Commercial real estate, owner occupied	2	$	2,308	$	2,308	$	2,308
Home equity	2	147		147		147
Total	4	$	2,455	$	2,455	$	2,455
TDRs during the three months ended September 30, 2021:
Commercial and industrial	1	$	1,101	$	1,101	$	1,101


(dollars in thousands)	Number of Contracts Modified	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment at Period End
TDRs during the nine months ended September 30, 2022:
Commercial real estate, owner occupied	2	$	2,308	$	2,308	$	2,308
Home equity	3	247		247		247
Total	5	$	2,555	$	2,555	$	2,555
TDRs during the nine months ended September 30, 2021:
Commercial and industrial	1	$	1,101	$	1,101	$	1,101

The loan modifications in 2022 included one or more of the following: payment deferment, maturity date extension, interest rate concession, and/or other payment modifications. Three of the modifications in 2022 (or 93%) were for

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one borrowing relationship. The loan modified in 2021 reflected a maturity date extension and other loan term and payment modifications. During the three and nine months ended September 30, 2022 and 2021, there were no defaults on loans that had been modified in a TDR within the prior twelve-month period. We report defaulted TDRs based on a payment default definition of more than ninety days past due.

Allowance for Credit Losses on Loans Rollforward

The following table discloses activity in the allowance for credit losses on loans for the periods presented.


Allowance for Credit Losses on Loans Rollforward
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor-owned		Construction		Home equity		Other residential		Installment and other consumer		Unallocated		Total
Three months ended September 30, 2022
Beginning balance	$	1,699	$	2,617	$	12,439	$	1,737	$	530	$	585	$	733	$	2,199	$	22,539
Provision (reversal)	265		(81)		299		38		12		5		83		(199)		422
Charge-offs	(9)		—		—		—		—		—		(1)		—		(10)
Recoveries	3		—		—		9		—		—		—		—		12
Ending balance	$	1,958	$	2,536	$	12,738	$	1,784	$	542	$	590	$	815	$	2,000	$	22,963
Three months ended September 30, 2021
Beginning balance	$	1,590	$	2,037	$	10,761	$	1,142	$	412	$	613	$	238	$	2,307	$	19,100
Provision (reversal)	126		(30)		1,011		77		247		4		384		(19)		1,800
Initial allowance for PCD loans	405		559		533		—		—		6		2		—		1,505
Charge-offs	—		—		—		—		—		—		(2)		—		(2)
Recoveries	3		—		—		8		—		—		—		—		11
Ending balance	$	2,124	$	2,566	$	12,305	$	1,227	$	659	$	623	$	622	$	2,288	$	22,414



Allowance for Credit Losses on Loans Rollforward
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Unallocated		Total
Nine months ended September 30, 2022
Beginning balance	$	1,709	$	2,776	$	12,739	$	1,653	$	595	$	644	$	621	$	2,286	$	23,023
Provision (reversal)	248		(240)		(1)		106		(53)		(54)		217		(286)		(63)

Charge-offs	(9)		—		—		—		—		—		(23)		—		(32)
Recoveries	10		—		—		25		—		—		—		—		35
Ending balance	$	1,958	$	2,536	$	12,738	$	1,784	$	542	$	590	$	815	$	2,000	$	22,963
Nine months ended September 30, 2021
Beginning balance	$	2,530	$	2,778	$	12,682	$	1,557	$	738	$	998	$	291	$	1,300	$	22,874
Provision (reversal)	(821)		(771)		(910)		(356)		(129)		(381)		331		988		(2,049)
Initial allowance for PCD loans	405		559		533		—		—		6		2		—		1,505
Charge-offs	—		—		—		—		—		—		(2)		—		(2)
Recoveries	10		—		—		26		50		—		—		—		86
Ending balance	$	2,124	$	2,566	$	12,305	$	1,227	$	659	$	623	$	622	$	2,288	$	22,414

Pledged Loans

Our FHLB line of credit is secured under terms of a blanket collateral agreement by a pledge of certain qualifying loans with unpaid principal balances of $1.300 billion and $1.330 billion at September 30, 2022 and December 31, 2021, respectively. In addition, we pledge eligible TIC loans, which totaled $105.7 million and $106.2 million at September 30, 2022 and December 31, 2021, respectively, to secure our borrowing capacity with the Federal Reserve Bank ("FRB"). For additional information, see Note 6, Borrowings.

Related Party Loans

The Bank has, and expects to have in the future, banking transactions in the ordinary course of its business with directors, officers, principal shareholders and their businesses or associates. These transactions, including loans, are granted on substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for comparable transactions with persons not related to us. Likewise, these transactions do not involve more than the normal risk of collectability or present other unfavorable features. Related party loans totaled

Page-22

$6.5 million at September 30, 2022 and $7.9 million at December 31, 2021. In addition, undisbursed commitments to related parties totaled $562 thousand at September 30, 2022 and $8.6 million at December 31, 2021. The decreases in both the outstanding amount and undisbursed commitment as of September 30, 2022 were primarily due to a Director retirement in the first quarter.

Note 6: Borrowings and Other Obligations

Federal Funds Purchased – The Bank had unsecured available lines of credit with correspondent banks for overnight borrowings totaling $150.0 million at September 30, 2022 and December 31, 2021. In general, interest rates on these lines approximate the federal funds target rate. We had no overnight borrowings under these credit facilities at September 30, 2022 or December 31, 2021.

Federal Home Loan Bank Borrowings – As of September 30, 2022 and December 31, 2021, the Bank had available lines of credit with the FHLB totaling $739.6 million and $820.5 million, respectively, based on eligible collateral of certain loans. There were no FHLB overnight borrowings at September 30, 2022 or December 31, 2021.

Federal Reserve Line of Credit – The Bank has an available line of credit with the Federal Reserve Bank of San Francisco ("FRBSF") secured by certain residential loans. At September 30, 2022 and December 31, 2021, the Bank had borrowing capacity under this line totaling $54.2 million and $70.8 million, respectively, and had no outstanding borrowings with the FRBSF.

Subordinated Debenture – As part of an acquisition in 2013, Bancorp assumed a subordinated debenture with a contractual balance of $4.1 million due to NorCal Community Bancorp Trust II (the "Trust"), established for the sole purpose of issuing trust preferred securities. On March 15, 2021, Bancorp redeemed in full the $2.8 million (book value) subordinated debenture due to the Trust, which had a 251.5% effective rate for the first nine months of 2021, and included accelerated accretion of the $1.3 million remaining purchase discount due to the early redemption.

Other Obligations – Finance lease liabilities totaling $365 thousand and $419 thousand at September 30, 2022 and December 31, 2021, respectively, are included in borrowings and other obligations in the consolidated statements of condition. See Note 8, Commitments and Contingencies, for additional information.

Note 7: Stockholders' Equity

Dividends

On July 22, 2022, Bancorp declared a $0.25 per share cash dividend, payable on August 12, 2022 to shareholders of record at the close of business on August 5, 2022. Subsequent to quarter end on October 21, 2022, Bancorp declared a $0.25 per share cash dividend, payable on November 14, 2022 to shareholders of record at the close of business on November 7, 2022.

Share-Based Payments

The fair value of stock options as of the grant date is recorded as stock-based compensation expense in the consolidated statements of comprehensive income over the requisite service period, which is generally the vesting period, with a corresponding increase in common stock. Stock-based compensation also includes compensation expense related to the issuance of restricted stock awards. The grant-date fair value of the restricted stock awards, which equals the grant date price, is recorded as compensation expense over the requisite service period with a corresponding increase in common stock as the shares vest. Beginning in 2018, stock option and restricted stock awards issued include a retirement eligibility clause whereby the requisite service period is satisfied at the retirement eligibility date. For those awards, we accelerate the recording of stock-based compensation when the award holder is eligible to retire. However, retirement eligibility does not affect the vesting of restricted stock or the exercisability of the stock options, which are based on the scheduled vesting period.

Performance-based stock awards (restricted stock) are issued to a selected group of employees. Stock award vesting is contingent upon the achievement of pre-established long-term performance goals set by the Compensation Committee of the Board of Directors. Performance is measured over a three-year period and cliff vested. These performance-based stock awards were granted at a maximum opportunity level, and based on the achievement of the pre-established goals, the actual payouts can range from 0% to 200% of the target award. For performance-based stock awards, an estimate is made of the number of shares expected to vest based on the

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probability that the performance criteria will be achieved to determine the amount of compensation expense to be recognized. The estimate is re-evaluated quarterly and total compensation expense is adjusted for any change in the current period.

We record excess tax benefits (deficiencies) resulting from the exercise of non-qualified stock options, the disqualifying disposition of incentive stock options and vesting of restricted stock awards as income tax benefits (expense) in the consolidated statements of comprehensive income with a corresponding decrease (increase) to current taxes payable.

The holders of unvested restricted stock awards are entitled to dividends on the same per-share ratio as holders of common stock. Tax benefits for dividends paid on unvested restricted stock awards are recorded as tax benefits in the consolidated statements of comprehensive income with a corresponding decrease to current taxes payable. Dividends on forfeited awards are included in stock-based compensation expense.

Stock options and restricted stock may be net settled in a cashless exercise by a reduction in the number of shares otherwise deliverable upon exercise or vesting in satisfaction of the exercise payment and/or applicable tax withholding requirements. During the nine months ended September 30, 2022, we withheld 11,505 shares totaling $393 thousand at a weighted-average price of $34.13 for cashless exercises. During the nine months ended September 30, 2021, we withheld 27,679 shares totaling $1.1 million at a weighted-average price of $38.86 for cashless exercises. Shares withheld under net settlement arrangements are available for future grants.

Share Repurchase Program

Bancorp has an approved share repurchase program with $34.7 million outstanding. The last activity under the program was in the first quarter of 2022. Bancorp repurchased 23,275 shares totaling $877 thousand in the first nine months of 2022. Cumulative shares repurchased under the current program totaled 618,991 shares as of September 30, 2022 at an average price of $36.04 per share.

Note 8: Commitments and Contingent Liabilities

Financial Instruments with Off-Balance Sheet Risk

We make commitments to extend credit in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit in the form of loans or through standby letters of credit. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Because various commitments will expire without being fully drawn, the total commitment amount does not necessarily represent future cash requirements.

Our credit loss exposure is equal to the contractual amount of the commitment in the event of nonperformance by the borrower. We use the same credit underwriting criteria for all credit exposure. The amount of collateral obtained, if deemed necessary by us, is based on management's credit evaluation of the borrower. Collateral types pledged may include accounts receivable, inventory, other personal property and real property.

The contractual amount of unfunded loan commitments and standby letters of credit not reflected in the consolidated statements of condition are as follows:


(in thousands)	September 30, 2022		December 31, 2021
Commercial lines of credit	$	283,731	$	330,234
Revolving home equity lines	216,632		210,938
Undisbursed construction loans	47,795		78,381
Personal and other lines of credit	11,556		11,001
Standby letters of credit	1,978		3,657
Total commitments and standby letters of credit	$	561,692	$	634,211

We record an allowance for credit losses on unfunded loan commitments at the balance sheet date based on estimates of the probability that these commitments will be drawn upon according to historical utilization experience of the different types of commitments and expected loss rates determined for pooled funded loans. The allowance

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for credit losses on unfunded commitments totaled $1.5 million and $1.8 million as of September 30, 2022 and December 31, 2021, respectively, which is included in interest payable and other liabilities in the consolidated statements of condition. We recorded no provision for credit losses on unfunded commitments for the third quarters of 2022 and 2021. This compares to reversals of $318 thousand and $1.2 million for the nine months ended September 30, 2022 and 2021, respectively, due to improved economic forecasts at the time.

Leases

We lease premises under long-term non-cancelable operating leases with remaining terms of 3 months to 20 years, most of which include escalation clauses and one or more options to extend the lease term, and some of which contain lease termination clauses. Lease terms may include certain renewal options that were considered reasonably certain to be exercised.

We lease certain equipment under finance leases with initial terms of 3 years to 5 years. The equipment finance leases do not contain renewal options, bargain purchase options or residual value guarantees.

The following table shows the balances of operating and finance lease right-of-use assets and lease liabilities.


(in thousands)	September 30, 2022		December 31, 2021
Operating leases:
Operating lease right-of-use assets	$	25,006	$	23,604
Operating lease liabilities	$	26,744	$	25,429
Finance leases:
Finance lease right-of-use assets	$	512	$	499
Accumulated amortization	(158)		(93)
Finance lease right-of-use assets, net1	$	354	$	406
Finance lease liabilities2	$	365	$	419
1 Included in premises and equipment in the consolidated statements of condition.
2 Included in borrowings and other obligations in the consolidated statements of condition.

The following table shows supplemental disclosures of noncash investing and financing activities for the periods presented.


	Nine months ended
(in thousands)	September 30, 2022		September 30, 2021
Right-of-use assets obtained in exchange for operating lease liabilities	$	4,989	$	2,376
Right-of-use assets obtained in exchange for finance lease liabilities	$	41	$	444

The following table shows components of operating and finance lease cost.


	Three months ended				Nine months ended
(in thousands)	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Operating lease cost	$	1,328	$	1,216	$	3,907	$	3,543
Variable lease cost	—		—		—		—
Total operating lease cost1	$	1,328	$	1,216	$	3,907	$	3,543
Finance lease cost:
Amortization of right-of-use assets2	$	31	$	31	$	93	$	65
Interest on finance lease liabilities3	1		1		2		1
Total finance lease cost	$	32	$	32	$	95	$	66
Total lease cost	$	1,360	$	1,248	$	4,002	$	3,609
1 Included in occupancy and equipment expense in the consolidated statements of comprehensive income.
2 Included in depreciation and amortization in the consolidated statements of comprehensive income.
3 Included in interest on borrowings and other obligations in the consolidated statements of comprehensive income.

The following table shows the future minimum lease payments, weighted average remaining lease terms, and weighted average discount rates under operating and finance lease arrangements as of September 30, 2022. The discount rates used to calculate the present value of lease liabilities were based on the collateralized FHLB

Page-25

borrowing rates that were commensurate with lease terms and minimum payments on the lease commencement date.


(in thousands)	September 30, 2022
Year	Operating Leases			Finance Leases
2022	$	1,369		$	32
2023	5,236			125
2024	4,412			123
2025	3,676			76
2026	2,888			10
Thereafter	11,938			5
Total minimum lease payments	29,519			371
Amounts representing interest (present value discount)	(2,775)			(6)
Present value of net minimum lease payments (lease liability)	$	26,744		$	365
Weighted average remaining term (in years)	7.8			3.1
Weighted average discount rate	2.13		%	0.94		%

Litigation Matters

Bancorp may be party to legal actions that arise from time to time in the normal course of business. Bancorp's management is not aware of any pending legal proceedings to which either it or the Bank may be a party or has recently been a party that will have a material adverse effect on the financial condition or results of operations of Bancorp or the Bank.

The Bank is responsible for a proportionate share of certain litigation indemnifications provided to Visa U.S.A. ("Visa") by its member banks in connection with Visa's lawsuits related to anti-trust charges and interchange fees ("Covered Litigation"). Our proportionate share of the litigation indemnification liability does not change or transfer upon the sale of our Class B Visa shares to member banks. Visa established an escrow account to pay for settlements or judgments in the Covered Litigation. Under the terms of the U.S. retrospective responsibility plan, when Visa funds the litigation escrow account, it triggers a conversion rate reduction of the Class B common stock to shares of Class A common stock, effectively reducing the aggregate value of the Class B common stock held by Visa's member banks like us.

In 2012, Visa reached a $4.0 billion interchange multidistrict litigation class settlement agreement with plaintiffs representing a class of U.S. retailers. For the fiscal year ended September 30, 2022, Visa deposited an additional $600 million into the litigation escrow account to address claims of certain merchants who opted out of the Amended Settlement Agreement for a balance of $1.5 billion. Combined with funds previously deposited with the court, these funds are expected to cover the settlement payment obligations.

The outcome of the Covered Litigation affects the conversion rate of Visa Class B common stock held by us to Visa Class A common stock, as discussed above and in Note 4, Investment Securities. The final conversion rate is subject to change depending on the final settlement payments, and the full effect on member banks is still uncertain. Litigation is ongoing and until the court approval process is complete, there is no assurance that Visa will resolve the claims as contemplated by the amended class settlement agreement, and additional lawsuits may arise from individual merchants who opted out of the class settlement. However, until the escrow account is fully depleted and the conversion rate of Class B to Class A common stock is reduced to zero, no future cash settlement payments are required by the member banks, such as us, on the Covered Litigation. Therefore, we are not required to record any contingent liabilities for the indemnification related to the Covered Litigation, as we consider the probability of losses to be remote.

Note 9: Derivative Financial Instruments and Hedging Activities

We entered into interest rate swap agreements, primarily as an asset/liability management strategy, in order to mitigate the changes in the fair value of specified long-term fixed-rate loans (or firm commitments to enter into long-term fixed-rate loans) caused by changes in interest rates. These hedges allow us to offer long-term fixed-rate loans to customers without assuming the interest rate risk of a long-term asset. Converting our fixed-rate interest payments to floating-rate interest payments, generally benchmarked to the one-month U.S. dollar LIBOR index, protects us against changes in the fair value of our loans associated with fluctuating interest rates.

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Our credit exposure, if any, on interest rate swap asset positions is limited to the fair value (net of any collateral pledged to us) and interest payments of all swaps by each counterparty. Conversely, when an interest rate swap is in a liability position exceeding a certain threshold, we may be required to post collateral to the counterparty in an amount determined by the agreements. Collateral levels are monitored and adjusted on a regular basis for changes in interest rate swap values.

As of September 30, 2022, we had four interest rate swap agreements, which are scheduled to mature in June 2031, October 2031, July 2032, and October 2037. All of our derivatives are accounted for as fair value hedges. The notional amounts of the interest rate contracts are equal to the notional amounts of the hedged loans. Our interest rate swap payments are settled monthly with counterparties. Accrued interest on the swaps totaled $519 at September 30, 2022 and $11 thousand at December 31, 2021. Information on our derivatives follows:


	Asset Derivatives				Liability Derivatives
(in thousands)	September 30, 2022		December 31, 2021		September 30, 2022		December 31, 2021
Fair value hedges:
Interest rate contracts notional amount	$	12,298	$	—	$	—	$	13,037
Interest rate contracts fair value1	$	649	$	—	$	—	$	1,085

1 See Note 3, Fair Value of Assets and Liabilities, for valuation methodology.

The following table presents the carrying amount and associated cumulative basis adjustment related to the application of fair value hedge accounting that is included in the carrying amount of hedged assets as of September 30, 2022 and December 31, 2021.


	Carrying Amounts of Hedged Assets				Cumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount of the Hedged Loans
(in thousands)	September 30, 2022		December 31, 2021		September 30, 2022		December 31, 2021
Loans	$	11,519	$	13,976	$	(779)	$	939

The following table presents the net losses recognized in interest income on loans on the consolidated statements of comprehensive income related to our derivatives designated as fair value hedges.


	Three months ended				Nine months ended
(in thousands)	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Interest and fees on loans 1	$	23,357	$	24,027	$	70,368	$	66,117
Increase in fair value of designated interest rate swaps due to LIBOR interest rate movements	$	547	$	97	$	1,734	$	646
Payment on interest rate swaps	(19)		(93)		(169)		(278)
Decrease in fair value hedging adjustment of hedged loans	(538)		(94)		(1,718)		(631)
Decrease in value of yield maintenance agreement	(3)		(3)		(8)		(9)
Net losses on fair value hedging relationships recognized in interest income	$	(13)	$	(93)	$	(161)	$	(272)

1 Represents the income line item in the statement of comprehensive income in which the effects of fair value hedges are recorded.

Our derivative transactions with counterparties are under International Swaps and Derivative Association (“ISDA”) master agreements that include “right of set-off” provisions. “Right of set-off” provisions are legally enforceable rights to offset recognized amounts and there may be an intention to settle such amounts on a net basis. We do not offset such financial instruments for financial reporting purposes. Information on financial instruments that are eligible for offset in the consolidated statements of condition follows:

Page-27



Offsetting of Financial Assets and Derivative Assets
			Gross Amounts		Net Amounts of		Gross Amounts Not Offset in
	Gross Amounts		Offset in the		Assets Presented		the Statements of Condition
	of Recognized		Statements of		in the Statements		Financial		Cash Collateral
(in thousands)	Assets		Condition		of Condition		Instruments		Received		Net Amount
September 30, 2022
Derivatives by Counterparty:
Counterparty A	$	649	$	—	$	649	$	(649)	$	—	$	—


December 31, 2021
Derivatives by Counterparty:
Counterparty A	$	—	$	—	$	—	$	—	$	—	$	—


Offsetting of Financial Liabilities and Derivative Liabilities
			Gross Amounts		Net Amounts of		Gross Amounts Not Offset in
	Gross Amounts		Offset in the		Liabilities Presented		the Statements of Condition
	of Recognized		Statements of		in the Statements		Financial		Cash Collateral
(in thousands)	Liabilities1		Condition		of Condition1		Instruments		Pledged		Net Amount
September 30, 2022
Derivatives by Counterparty:
Counterparty A	$	—	$	—	$	—	$	—	$	—	$	—


December 31, 2021
Derivatives by Counterparty:
Counterparty A	$	1,085	$	—	$	1,085	$	—	$	(1,085)	$	—

1 Amounts exclude accrued interest on swaps.

For more information on how we account for our interest rate swaps, refer to Note 1 to the Consolidated Financial Statements included in our 2021 Form 10-K filed with the SEC on March 15, 2022.

Note 10: Merger

Bancorp completed its merger and acquired all assets and assumed all liabilities of AMRB on August 6, 2021. The Merger expanded Bank of Marin's presence throughout the Greater Sacramento, Amador and Sonoma County Regions where AMRB had ten branches. The Merger added $297.8 million in investment securities, $419.4 million in loans and $790.0 million in deposits to Bank of Marin as of the merger date. Bancorp accounted for the Merger as a business combination under the acquisition method of accounting. The assets acquired and liabilities assumed, both tangible and intangible, were recorded at their fair values as of the merger date in accordance with ASC 805, Business Combinations.

AMRB shareholders received 0.575 shares of Bancorp's common stock for each share of AMRB common stock outstanding immediately prior to the Merger resulting in the issuance of 3,441,235 shares of Bancorp common stock. In addition, merger consideration included cash paid for outstanding stock options and cash paid in lieu of fractional shares, as summarized in the following table.


(in thousands)	Merger Consideration
Value of common stock consideration paid to shareholders (0.575 fixed exchange ratio, stock price $36.15)	$	124,401
Cash consideration for stock options	63
Cash paid in lieu of fractional shares	13
Total merger consideration	$	124,477

We recorded $42.6 million in goodwill, which represents the excess of the total merger consideration paid over the fair value of the assets acquired, net of the fair values of liabilities assumed. Goodwill mainly reflects expected value created through the combined operations of AMRB and Bancorp and is evaluated for impairment annually.

The core deposit intangible ("CDI") represents the estimated future benefits of acquired deposits and is recorded separately from the related deposits. We recorded a core deposit intangible asset of $3.9 million related to the AMRB merger, of which $174 thousand and $537 thousand, respectively, were amortized in the three and nine month periods ended September 30, 2022. Amortization for both the three and nine month periods ended September 30, 2021 totaled $129 thousand. The CDI is amortized on an accelerated basis over an estimated ten-year life and is evaluated periodically for impairment. No impairment losses were recognized as of September 30, 2022 and September 30, 2021.

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Merger-related one time and conversion costs are recognized as incurred and continue until all systems have been converted and operational functions are fully integrated. Bancorp's merger-related costs reflected in the consolidated statements of comprehensive income are summarized in the following table.


	Three months ended				Nine months ended
(in thousands, unaudited)	September 30, 2022		September 30, 2021		September 30, 2022		September 30, 2021
Personnel and severance	$	—	$	2,668	$	393	$	2,668
Professional services	—		1,778		67		1,979
Data processing	—		433		77		433
Other expense	—		263		321		279
Total merger-related one-time and conversion costs	$	—	$	5,142	$	858	$	5,359

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

Management's discussion of the financial condition and results of operations, which is unaudited, should be read in conjunction with the related consolidated financial statements in this Form 10-Q and with the audited consolidated financial statements and accompanying notes included in our 2021 Annual Report on Form 10-K. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances.

In November 2020, the SEC issued Final Rule 33-10890, Management’s Discussion and Analysis, Selected Financial Data and Supplementary Financial Information, which modernized and simplified certain disclosure requirements of Regulation S-K. The update to Item 303 of Regulation S-K related to interim period disclosures beginning with the first quarter of 2022 allows registrants to compare the results of the most recently completed quarter to the results of either the immediately preceding quarter or the corresponding quarter of the preceding year. Management believes that comparing current quarter results to those of the immediately preceding quarter is more useful in identifying current business trends and provides a more meaningful comparison. Accordingly, we have compared the results for the three months ended September 30, 2022 and June 30, 2022 throughout the Management's Discussion and Analysis sections, where applicable.

Forward-Looking Statements

This discussion of financial results includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, (the "1933 Act") and Section 21E of the Securities Exchange Act of 1934, as amended, (the "1934 Act"). Those sections of the 1933 Act and 1934 Act provide a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their financial performance so long as they provide meaningful, cautionary statements identifying important factors that could cause actual results to differ significantly from projected results.

Our forward-looking statements include descriptions of plans or objectives of management for future operations, products or services, and forecasts of revenues, earnings or other measures of economic performance. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include the words "believe," "expect," "intend," "estimate" or words of similar meaning, or future or conditional verbs preceded by "will," "would," "should," "could" or "may."

Forward-looking statements are based on management's current expectations regarding economic, legislative, and regulatory issues that may impact Bancorp's earnings in future periods. Factors that could cause future results to vary materially from current management expectations include, but are not limited to, general economic conditions and the economic uncertainty in the United States and abroad, including economic or other disruptions to financial markets caused by acts of terrorism, war or other conflicts such as Russia's military action in Ukraine, impacts from inflation, supply change disruptions, changes in interest rates (including the actions taken by the Federal Reserve to control inflation), California's unemployment rate, deposit flows, real estate values, and expected future cash flows on loans and securities; costs or effects of acquisitions; competition; changes in accounting principles, policies or guidelines; changes in legislation or regulation; natural disasters (such as wildfires and earthquakes in our area); adverse weather conditions; interruptions of utility service in our markets for sustained periods; and other economic, competitive, governmental, regulatory and technological factors (including external fraud and cybersecurity threats) affecting our operations, pricing, products and services; and successful integration of acquisitions.

Important factors that could cause results or performance to materially differ from those expressed in our prior forward-looking statements are detailed in ITEM 1A, Risk Factors section of our 2021 Form 10-K as filed with the SEC, copies of which are available from us at no charge. Forward-looking statements speak only as of the date they are made. We do not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events.

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Critical Accounting Estimates

Critical accounting estimates are those estimates made in accordance with generally accepted accounting principles that involve a significant level of estimation and uncertainty and have had or are reasonably likely to have a material impact on our financial condition and results of operations. We consider accounting estimates to be critical to our financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain, (ii) management could have applied different assumptions during the reported period, and (iii) changes in the accounting estimate are reasonably likely to occur in the future and could have a material impact on our financial statements. Our critical estimates include: Allowance for Credit Losses on Loans and Unfunded Commitments, Income Taxes, and Fair Value Measurements. For a detailed discussion, refer to the Critical Accounting Estimates section of our 2021 Form 10-K filed with the SEC on March 15, 2022.

Executive Summary

We generated record earnings of $12.2 million for the third quarter of 2022, compared to $11.1 million for the second quarter of 2022. Diluted earnings per share were $0.76 for the third quarter, compared to $0.69 for the preceding quarter. Earnings for the first nine months of 2022 totaled $33.7 million, compared to $23.5 million for the same period last year. Diluted earnings per share were $2.11 and $1.69 for the first nine months of 2022 and 2021, respectively. Certain periods of earnings presented were impacted by the costs associated with our acquisition of American River Bankshares ("AMRB"), the details of which are discussed in this report. In particular, non-GAAP diluted earnings per share for the first nine months of 2022 would have increased by 16 cents per share over 2021 without those costs (refer to page 34 for a discussion of this non-GAAP financial measure).

The following are highlights of our operating and financial performance for the periods presented:

•Return on average assets ("ROA") of 1.11% and return on average equity ("ROE") of 11.65% for the three months ended September 30, 2022, increased from 1.03% and 10.74% for the three months ended June 30, 2022. ROA of 1.04% and ROE of 10.65% for the nine months ended September 30, 2022 also compared favorably to the same period in 2021, with ROA of 0.96% and ROE of 8.40%.

•Our declining efficiency ratios quarter-over-quarter and year-over-year are a testament to the improved operating leverage of our larger post-merger organization. The efficiency ratios of 52.24% for the third quarter of 2022 and 55.60% year-to-date 2022 compared favorably to 55.73% and 65.65% for the second quarter of 2022 and year-to-date 2021, respectively. The improvement in both periods was primarily due to a significant increase in net interest income and reduced merger-related expenses in 2022.

•The third quarter tax-equivalent net interest margin improved 11 basis points over the preceding quarter from 3.05% to 3.16%, as rising interest rates positively impacted the Bank's earning asset portfolio while the cost of deposits remained flat. The tax-equivalent net interest margin for the first nine months of 2022 of 3.06% decreased 17 basis points from 3.23% for the same period in 2021. The decrease was largely due to higher average investment securities in proportion to the larger balance sheet in 2022, as compared to 2021. This shift was mostly the result of deposit growth in 2022 contributing to a larger investment portfolio and the assumption of AMRB's balance sheet with a lower loan-to-deposit ratio in the third quarter of 2021.

•Deposits increased by $94.2 million to $3.903 billion at September 30, 2022, compared to $3.809 billion at December 31, 2021. Non-interest bearing deposits made up 53% of total deposits as of September 30, 2022 versus 50% as of December 31, 2021, representing one of the strongest deposit franchises among peers. The cost of average deposits in the third quarter of 2022 was 0.06%, unchanged from the preceding quarter. The cost of average deposits in the first nine months of 2022 was 0.06%, a decrease from 0.07% in the same period of the prior year.

•Loan balances of $2.158 billion at September 30, 2022 decreased modestly from $2.256 billion at December 31, 2021, but increased $6.3 million excluding PPP loans. Year-to-date originations of $204.1 million in the first nine months of 2022 were double when compared to the first nine months of 2021 and included $52.2 million in the third quarter. Year-to-date payoffs were concentrated in expected construction project completions, borrowers’ sales of underlying commercial real estate, and third-party refinancing of acquired loans outside the Bank’s credit risk appetite.

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•Credit quality remains strong, with non-accrual loans representing 0.49% of total loans at September 30, 2022, compared to 0.37% at December 31, 2021. Classified loans totaled $33.4 million at September 30, 2022, compared to $36.2 million at December 31, 2021. Shortly after quarter end, non-accrual and classified loans decreased $7.1 million due to the resolution and payoff of a long-standing substandard credit.

•In the third quarter of 2022, there was a provision for credit losses on loans of $422 thousand and no provision for credit losses on unfunded commitments. The provision for credit losses on loans was primarily due to an increase in qualitative factors to account for the ongoing deterioration in the economic outlook not captured in the quantitative portion of the allowance.

•All capital ratios were above well-capitalized regulatory requirements. The total risk-based capital ratio for Bancorp was 15.1% at September 30, 2022, compared to 14.6% at December 31, 2021. Bancorp's tangible common equity to tangible assets was 7.5% at September 30, 2022, compared to 8.8% at December 31, 2021 (refer to footnote 4 on page 35 for a discussion of this non-GAAP financial measure). The total risk-based capital ratio for the Bank was 14.7% at September 30, 2022, compared to 14.4% at December 31, 2021. The Bank's tangible common equity to tangible assets was 7.3% at September 30, 2022, compared to 8.6% at December 31, 2021. Declines in the Bank's and Bancorp's tangible common equity were primarily related to a $78.0 million increase in after-tax unrealized losses on available-for-sale securities associated with interest rate increases since December 31, 2021, partially offset by earnings.

•Given the strength and durability of the Bank's financial performance, the Board of Directors declared a cash dividend of $0.25 per share on October 21, 2022, which represents the 70th consecutive quarterly dividend paid by Bancorp. The dividend is payable on November 14, 2022, to shareholders of record at the close of business on November 7, 2022.

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Statement Regarding use of Non-GAAP Financial Measures

In this Form 10-Q, Bancorp's financial results are presented in accordance with GAAP and with reference to certain non-GAAP financial measures. Management believes that presentation of operating results using non-GAAP financial measures provides useful supplemental information to investors and facilitates the analysis of Bancorp's operating results and comparison of operating results across reporting periods. Management also uses non-GAAP financial measures to establish budgets and manage Bancorp's business. A reconciliation of the GAAP financial measures to comparable non-GAAP financial measures is presented below.

Reconciliation of GAAP and Non-GAAP Financial Measures


	Three months ended						Nine months ended
(in thousands, unaudited)	September 30, 2022			June 30, 2022				September 30, 2022			September 30, 2021
Net income
Net income (GAAP)	$	12,174		$	11,066			$	33,705		$	23,514
Merger-related one-time and conversion costs:
Personnel and severance	—			58				393			2,668
Professional services	—			—				67			1,979
Data processing	—			29				77			433
Other	—			224				321			279
Total merger costs before tax benefits	—			311				858			5,359
Income tax benefit of merger-related expenses	—			(92)				(254)			(1,239)
Total merger-related one-time and conversion costs, net of tax benefits	—			219				604			4,120
Comparable net income (non-GAAP)	$	12,174		$	11,285			$	34,309		$	27,634
Diluted earnings per share
Weighted average diluted shares	15,974			15,955				15,959			13,881
Diluted earnings per share (GAAP)	$	0.76		$	0.69			$	2.11		$	1.69
Merger-related one-time and conversion costs, net of tax benefits	—			0.02				0.04			0.30
Comparable diluted earnings per share (non-GAAP)	$	0.76		$	0.71			$	2.15		$	1.99
Return on average assets
Average assets	$	4,334,842		$	4,312,919			$	4,330,968		$	3,280,505
Return on average assets (GAAP)	1.11		%	1.03		%		1.04		%	0.96		%
Comparable return on average assets (non-GAAP)	1.11		%	1.05		%		1.06		%	1.13		%
Return on average equity
Average stockholders' equity	$	414,619		$	413,271			$	423,073		$	374,445
Return on average equity (GAAP)	11.65		%	10.74		%		10.65		%	8.40		%
Comparable return on average equity (non-GAAP)	11.65		%	10.95		%		10.84		%	9.87		%
Efficiency ratio
Non-interest expense (GAAP)	$	18,678		$	18,906			$	56,959		$	53,654
Merger-related expenses	—			(311)				(858)			(5,359)
Non-interest expense (non-GAAP)	$	18,678		$	18,595			$	56,101		$	48,295
Net interest income	$	33,027		$	31,197			$	94,122		$	74,318
Non-interest income	$	2,723		$	2,728			$	8,318		$	7,413
Efficiency ratio (GAAP)	52.24		%	55.73		%		55.60		%	65.65		%
Comparable efficiency ratio (non-GAAP)	52.24		%	54.81		%		54.76		%	59.09		%

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RESULTS OF OPERATIONS

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


	Three months ended						Nine months ended
(dollars in thousands, except per share data)	September 30, 2022			June 30, 2022				September 30, 2022			September 30, 2021
Selected operating data:
Net interest income	$	33,027		$	31,197			$	94,122		$	74,318
Provision for (reversal of) credit losses on loans	422			—				(63)			(2,049)
Reversal of credit losses on unfunded loan commitments	—			—				(318)			(1,202)
Non-interest income	2,723			2,728				8,318			7,413
Non-interest expense	18,678			18,906				56,959			53,654
Net income	12,174			11,066				33,705			23,514
Net income per common share:
Basic	$	0.76		$	0.70			$	2.12		$	1.70
Diluted	$	0.76		$	0.69			$	2.11		$	1.69
Performance and other financial ratios:
Return on average assets	1.11		%	1.03		%		1.04		%	0.96		%
Return on average equity	11.65		%	10.74		%		10.65		%	8.40		%
Tax-equivalent net interest margin 1	3.16		%	3.05		%		3.06		%	3.23		%
Cost of deposits	0.06		%	0.06		%		0.06		%	0.07		%
Efficiency ratio	52.24		%	55.73		%		55.60		%	65.65		%
Net (recoveries) charge-offs	$	(2)		$	8			$	(3)		$	(83)
Cash dividend payout ratio on common stock 2	32.89		%	34.29		%		34.43		%	41.18		%


(dollars in thousands, except per share data)	September 30, 2022			December 31, 2021
Selected financial condition data:
Total assets	$	4,348,653		$	4,314,209
Loans, net	2,135,373			2,232,622
Deposits	3,902,710			3,808,550
Borrowings and other obligations	365			419

Stockholders' equity	396,592			450,368
Book value per share	24.74			28.27
Asset quality ratios:
Allowance for credit losses on loans to total loans	1.06		%	1.02		%
Allowance for credit losses on loans to total loans, excluding SBA PPP loans 3	1.07		%	1.07		%
Allowance for credit losses on loans to non-performing loans	2.16x			2.75x
Non-accrual loans to total loans	0.49		%	0.37		%
Capital ratios:
Equity to total assets ratio	9.12		%	10.44		%
Tangible common equity to tangible assets 4	7.45		%	8.76		%
Total capital (to risk-weighted assets)	15.06		%	14.58		%
Tier 1 capital (to risk-weighted assets)	14.21		%	13.70		%
Tier 1 capital (to average assets)	9.21		%	8.85		%
Common equity Tier 1 capital (to risk weighted assets)	14.21		%	13.70		%
1 Tax-equivalent net interest margin is computed by dividing taxable equivalent net interest income, which is adjusted for taxable equivalent income on tax-exempt loans and securities based on Federal statutory rate of 21 percent, by total average interest-earning assets.
2 Calculated as dividends on common shares divided by basic net income per common share.
3 The allowance for credit losses on loans to total loans, excluding SBA-guaranteed PPP loans, is considered a meaningful non-GAAP financial measure, as it represents only those loans that were considered in the calculation of the allowance for credit losses on loans. SBA PPP loans at September 30, 2022 and December 31, 2021 totaled $7.6 million and $111.2 million, respectively.
4 Tangible common equity to tangible assets is considered to be a meaningful non-GAAP financial measure of capital adequacy and is useful for investors to assess Bancorp's ability to absorb potential losses. Tangible common equity of $318 million and $371 million at September 30, 2022 and December 31, 2021, respectively, includes common stock, retained earnings and unrealized gains (losses) on available-for sale securities, net of tax, less goodwill and intangible assets. Tangible assets exclude goodwill and intangible assets of $78.2 million and $79.4 million at September 30, 2022 and December 31, 2021, respectively.

Page-34

Net Interest Income

Net interest income is the interest earned on loans, investments and other interest-earning assets minus the interest expense incurred on deposits and other interest-bearing liabilities. Net interest income is impacted by changes in general market interest rates and by changes in the composition of interest-earning assets and interest-bearing liabilities. Interest rate changes can create fluctuations in the net interest income and/or margin due to an imbalance in the timing of repricing and maturity of assets and liabilities. We manage interest rate risk exposure with the goal of minimizing the impact of interest rate volatility on net interest income. For more information, refer to Item 3. Quantitative and Qualitative Disclosure about Market Risk in this Form 10-Q.

Net interest margin is expressed as net interest income divided by average interest-earning assets. Net interest rate spread is the difference between the average rate earned on total interest-earning assets and the average rate incurred on total interest-bearing liabilities. Both of these measures are reported on a taxable-equivalent basis. Net interest margin is the higher of the two because it reflects interest income earned on assets funded with non-interest-bearing sources of funds, which include demand deposits and stockholders’ equity.

Average Statements of Condition and Analysis of Net Interest Income

The following table compares interest income, average interest-earning assets, interest expense, and average interest-bearing liabilities for the periods presented. The table also presents net interest income, net interest margin and net interest rate spread for each period reported.


		Three months ended						Three months ended
		September 30, 2022						June 30, 2022
				Interest						Interest
		Average		Income/		Yield/		Average		Income/		Yield/
(dollars in thousands)		Balance		Expense		Rate		Balance		Expense		Rate
Assets
	Interest-earning deposits with banks 1	$	94,963	$	546	2.24	%	$	95,326	$	180	0.75	%
	Investment securities 2, 3	1,875,660		9,875		2.11	%	1,807,710		8,469		1.87	%
	Loans 1, 3, 4	2,166,879		23,540		4.25	%	2,194,810		23,522		4.24	%
	Total interest-earning assets 1	4,137,502		33,961		3.21	%	4,097,846		32,171		3.21	%
	Cash and non-interest-bearing due from banks	44,597						56,408
	Bank premises and equipment, net	7,052						7,182
	Interest receivable and other assets, net	145,691						151,483
Total assets		$	4,334,842					$	4,312,919
Liabilities and Stockholders' Equity
	Interest-bearing transaction accounts	$	293,296	$	121	0.16	%	$	300,258	$	53	0.07	%
	Savings accounts	341,468		32		0.04	%	343,338		32		0.04	%
	Money market accounts	1,025,722		268		0.10	%	1,076,912		438		0.16	%
	Time accounts including CDARS	142,341		128		0.36	%	144,432		67		0.19	%
	Borrowings and other obligations 1	337		1		0.93	%	370		—		0.61	%

	Total interest-bearing liabilities	1,803,164		550		0.12	%	1,865,310		590		0.13	%
	Demand accounts	2,069,476						1,984,629
	Interest payable and other liabilities	47,583						49,709
	Stockholders' equity	414,619						413,271
Total liabilities & stockholders' equity		$	4,334,842					$	4,312,919
Tax-equivalent net interest income/margin 1				$	33,411	3.16	%			$	31,581	3.05	%
Reported net interest income/margin 1				$	33,027	3.12	%			$	31,197	3.01	%
Tax-equivalent net interest rate spread						3.09	%					2.98	%

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		Nine months ended						Nine months ended
		September 30, 2022						September 30, 2021
				Interest						Interest
		Average		Income/		Yield/		Average		Income/		Yield/
(in thousands)		Balance		Expense		Rate		Balance		Expense		Rate
Assets
	Interest-earning deposits with banks 1	$	140,114	$	832	0.78	%	$	273,045	$	274	0.13	%
	Investment securities 2, 3	1,770,882		25,214		1.90	%	683,600		11,196		2.18	%
	Loans 1, 3, 4	2,196,173		70,944		4.26	%	2,117,631		66,665		4.15	%
	Total interest-earning assets 1	4,107,169		96,990		3.11	%	3,074,276		78,135		3.35	%
	Cash and non-interest-bearing due from banks	56,585						53,020
	Bank premises and equipment, net	7,220						5,353
	Interest receivable and other assets, net	159,994						147,856
Total assets		$	4,330,968					$	3,280,505
Liabilities and Stockholders' Equity
	Interest-bearing transaction accounts	$	296,239	$	230	0.10	%	$	193,502	$	119	0.08	%
	Savings accounts	342,704		93		0.04	%	245,374		66		0.04	%
	Money market accounts	1,074,597		1,184		0.15	%	784,313		1,015		0.17	%
	Time accounts including CDARS	144,807		209		0.19	%	105,419		221		0.28	%
	Borrowings and other obligations 1	368		2		0.71	%	1,047		8		1.10	%
	Subordinated debenture 1, 5	—		—		—	%	713		1,361		251.54	%
	Total interest-bearing liabilities	1,858,715		1,718		0.12	%	1,330,368		2,790		0.28	%
	Demand accounts	1,999,433						1,531,564
	Interest payable and other liabilities	49,747						44,128
	Stockholders' equity	423,073						374,445
Total liabilities & stockholders' equity		$	4,330,968					$	3,280,505
Tax-equivalent net interest income/margin 1				$	95,272	3.06	%			$	75,345	3.23	%
Reported net interest income/margin 1				$	94,122	3.02	%			$	74,318	3.19	%
Tax-equivalent net interest rate spread						2.99	%					3.07	%
1 Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated interest rate terms, where applicable.
2 Yields on available-for-sale securities are calculated based on amortized cost balances rather than fair value, as changes in fair value are reflected as a component of stockholders' equity. Investment security interest is earned on 30/360 day basis monthly.
3 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the Federal statutory rate of 21 percent in 2022 and 2021.
4 Average balances on loans outstanding include non-performing loans. The amortized portion of net loan origination fees is included in interest income on loans, representing an adjustment to the yield.
5 2021 interest on subordinated debenture included $1.3 million in accelerated discount accretion from the early redemption of our last subordinated debenture on March 15, 2021.

The following table presents the effects of changes in average balances (volume) or changes in average rates on tax-equivalent net interest income for the periods indicated. Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates. Rate variances are equal to the increase or decrease in rates multiplied by prior period average balances. Mix variances are attributable to the change in yields or rates multiplied by the change in average balances, including one more day in the three months ended September 30, 2022 compared to June 30, 2022.

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	Three Months Ended September 30, 2022 Compared to Three Months Ended June 30, 2022								Nine Months Ended September 30, 2022 Compared to Nine Months Ended September 30, 2021
(in thousands)	Volume		Yield/Rate		Mix		Total		Volume		Yield/Rate		Mix		Total
Interest-earning deposits with banks	$	(1)	$	361	$	6	$	366	$	(133)	$	1,345	$	(654)	$	558
Investment securities 1	318		1,048		40		1,406		17,808		(1,462)		(2,328)		14,018
Loans 1	(299)		63		254		18		2,473		1,742		64		4,279
Total interest-earning assets	18		1,472		300		1,790		20,148		1,625		(2,918)		18,855
Interest-bearing transaction accounts	(1)		70		(1)		68		63		31		17		111
Savings accounts	—		—		—		—		26		1		—		27
Money market accounts	(21)		(160)		11		(170)		376		(151)		(56)		169
Time accounts, including CDARS	(1)		61		1		61		83		(69)		(26)		(12)
Borrowings and other obligations	—		—		1		1		(6)		(3)		3		(6)
Subordinated debenture 2	—		—		—		—		—		(1,361)		—		(1,361)
Total interest-bearing liabilities	(23)		(29)		12		(40)		542		(1,552)		(62)		(1,072)
Changes in tax-equivalent net interest income	$	41	$	1,501	$	288	$	1,830	$	19,606	$	3,177	$	(2,856)	$	19,927
1 Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21%.
2 Nine months ended September 30, 2021 includes $1.3 million in accelerated discount accretion from the early redemption of our last subordinated debenture on March 15, 2021.

Third Quarter of 2022 Compared to the Second Quarter of 2022

Net interest income totaled $33.0 million in the third quarter of 2022, compared to $31.2 million in the second quarter of 2022. The $1.8 million increase from the prior quarter was primarily attributable to higher average balances and yields on investment securities. In addition, higher interest rates increased income from other interest-earning assets while the cost of interest-bearing liabilities went down slightly.

The tax-equivalent net interest margin was 3.16% in the third quarter of 2022, compared to 3.05% in the second quarter of 2022. The increase from the prior quarter was primarily due to continued deployment of cash into higher yielding investment securities and higher yields on loans and Federal Reserve balances, partially offset by lower interest and fee income on PPP loans and lower construction loan balances. The average yield on the investment portfolio increased 24 basis points in the third quarter.

First Nine Months of 2022 Compared to the First Nine Months of 2021

Net interest income totaled $94.1 million for the nine months ended September 30, 2022, compared to $74.3 million for the same period in the prior year. The $19.8 million increase from the prior year was primarily due to the larger balance sheet resulting from the AMRB acquisition and deposit growth. The Bank also benefited from its asset sensitivity in the rising interest rate environment. Additionally, 2021 included a $1.3 million accelerated discount from the early redemption of a subordinated debenture.

The tax-equivalent net interest margin was 3.06% in the nine months ended September 30, 2022, compared to 3.23% in the same period in the prior year. The decrease resulted from a higher proportion of investment securities in the larger balance sheet associated with the acquisition and AMRB's lower loan-to-deposit ratio. Additionally, other deposit growth over the period contributed to the larger investment portfolio. Reductions were partially offset by the shift to a higher percentage of non-PPP loans within the loan portfolio and the absence of a subordinated debenture that was redeemed in 2021.

Market Interest Rates

Market interest rates are, in part, based on the target federal funds interest rate (the interest rate banks charge each

other for short-term borrowings) implemented by the Federal Reserve Open Market Committee ("FOMC").

In response to economic risks posed by the COVID-19 pandemic, the FOMC made two emergency cuts totaling 150 basis points to the federal funds rate in March 2020. The federal funds target rate range resided between 0.0% and 0.25% after March 15, 2020 through the beginning of 2022, putting downward pressure on our asset yields and net interest margin through early 2022. In its March 16, 2022 meeting, the FOMC raised the target federal funds by 25 basis points followed by a 50 basis point increase on May 4, 2022. Continued evolving economic risks exacerbated by global economic contraction and international political unrest have resulted in oil shortages and other supply chain disruptions, and elevated inflation. In response, the FOMC increased the federal funds rate by 75 basis

Page-37

points four additional times this year effective June 16, 2022, July 28, 2022, September 21, 2022, and November 2, 2022 to a range of 3.75% - 4.00%. It is widely anticipated that additional increases in the target range will occur in 2022. Our net interest margin should benefit from a rising interest rate environment. See ITEM 3. Quantitative and Qualitative Disclosure about Market Risk for further information.

Provision for Credit Losses on Loans

Management assesses the adequacy of the allowance for credit losses on loans quarterly based on several factors including growth of the loan portfolio, past events, current conditions, and reasonable and supportable forecasts to estimate expected losses over the contractual terms of our loans. The allowance for credit losses on loans is increased by provisions charged to expense and loss recoveries and decreased by loans charged off.

The following table shows the activity for the periods presented.


	Three months ended				Nine months ended
(dollars in thousands)	September 30, 2022		June 30, 2022			September 30, 2022		September 30, 2021
Provision for (reversal of) credit losses on loans	$	422	$	—		$	(63)	$	(2,049)

We recorded a $422 thousand provision for credit losses on loans in the third quarter. The provision was due primarily to an increase in qualitative factors to account for the ongoing deterioration in the economic outlook not captured in the quantitative portion of the allowance.

There was no provision made to the allowance for credit losses on loans in the second quarter. An improvement in the California unemployment rate forecast decreased the quantitative portion of estimated credit losses while ongoing supply chain issues, inflation and recession risks increased qualitative factors.

The net provision reversal for the first nine months in 2022 resulted from a provision reversal in the first quarter due to improvements in the economic forecasts, partially offset by the provision in the third quarter as discussed above. The provision reversal for the first nine months in 2021 was primarily due to continued improvements in the forecasted California unemployment rates at the time, partially offset by a provision in the third quarter related to the purchased AMRB loans without credit deterioration.

Loans designated special mention, which are not considered adversely classified, decreased year-to-date by $9.1 million to $64.2 million at September 30, 2022 from $73.3 million at December 31, 2021. The decrease was largely due to $30.1 million in upgrades to pass risk ratings because of the borrowers' improved financial condition, which was partially offset by $26.1 million in downgrades from pass to special mention. Additionally, there were $3.6 million in downgrades from special mention to substandard and $2.1 million in paydowns and payoffs.

Classified assets (loans with risk ratings of substandard or doubtful) totaled $33.3 million at September 30, 2022, compared to $36.1 million at December 31, 2021. The $2.8 million decrease was primarily due to $5.2 million in upgrades to pass risk rating and $3.2 million in paydowns and payoffs. These decreases were partially offset by $1.4 million in commercial loans to one borrowing relationship that were downgraded from special mention to substandard (comprised of $3.6 million as of December 31, 2021, net of $2.3 million in paydowns 2022) and the downgrade of two well-secured owner occupied commercial real estate loans totaling $2.3 million. Classified loans also included one $101 thousand loan acquired from AMRB with a doubtful risk rating as of September 30, 2022 and December 31, 2021, which is well-secured by real estate collateral.

The ratio of allowance for credit losses on loans to total loans was 1.06% and 1.02% at September 30, 2022 and December 31, 2021, respectively. Non-accrual loans increased $2.2 million to $10.6 million, or 0.49% of total loans at September 30, 2022 from $8.4 million, or 0.37% of total loans at December 31, 2021. The increase was mainly due to the $3.0 million in non-accrual loans designated during 2022, partially offset by the removal of a $695 thousand commercial real estate loan from non-accrual status and paydowns of $88 thousand. Over 90% of the non-accrual loans as of September 30, 2022 were well secured by commercial real estate. In addition, subsequent to quarter end, $7.1 million of the substandard non-accrual loans paid off.

For more information, refer to Note 5 to the consolidated financial statements in this Form 10-Q.

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Non-interest Income

The following table details the components of non-interest income.


	Three months ended				Amount Change	Percent Change
(dollars in thousands)	September 30, 2022		June 30, 2022
Wealth Management and Trust Services	$	507	$	630		$	(123)	(19.5)	%
Debit card interchange fees, net	502		531			(29)		(5.5)	%
Service charges on deposit accounts	535		465			70		15.1	%
Earnings on bank-owned life insurance, net	222		298			(76)		(25.5)	%
Dividends on Federal Home Loan Bank stock	251		249			2		0.8	%
Merchant interchange fees, net	141		149			(8)		(5.4)	%
Losses on sale of investment securities, net	(63)		—			(63)		NM
Other income	628		406			222		54.7	%
Total non-interest income	$	2,723	$	2,728		$	(5)	(0.2)	%
NM - not meaningful



	Nine months ended				Amount Change		Percent Change
(dollars in thousands)	September 30, 2022		September 30, 2021
Wealth Management and Trust Services	$	1,737	$	1,615	$	122	7.6	%
Debit card interchange fees, net	1,538		1,268		270		21.3	%
Service charges on deposit accounts	1,488		1,062		426		40.1	%
Earnings on bank-owned life insurance, net	933		1,892		(959)		(50.7)	%
Dividends on Federal Home Loan Bank stock	759		505		254		50.3	%
Merchant interchange fees, net	430		247		183		74.1	%
(Losses) gains on sale of investment securities, net	(63)		1		(64)		NM
Other income	1,496		823		673		81.8	%
Total non-interest income	$	8,318	$	7,413	$	905	12.2	%
NM - not meaningful

Third Quarter of 2022 Compared to the Second Quarter of 2022

Non-interest income totaled $2.7 million in the third quarter of 2022, substantially unchanged from the preceding quarter. The reduction in Wealth Management and Trust Services income related to stock market volatility and losses on investment securities sold were generally offset by increased fees for off-balance sheet deposits within other income. The $63 thousand loss on sale of investment securities was related to the sale of short-term municipal bonds. The sales proceeds were reinvested into higher yielding securities with an expected loss earnback period of less than four months.

First Nine Months of 2022 Compared to the First Nine Months of 2021

Non-interest income totaled $8.3 million in the nine months ended September 30, 2022, compared to $7.4 million in the same period of the prior year. The $905 thousand improvement from the prior year period was mostly attributable to higher activity associated with the AMRB acquisition and higher fees on deposit balances held off balance sheet with deposit networks, partially offset by a decrease in benefits year-over-year associated with bank-owned life insurance payments.

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Non-interest Expense

The following table details the components of non-interest expense.


	Three months ended				Amount Change	Percent Change
(dollars in thousands)	September 30, 2022		June 30, 2022
Salaries and related benefits	$	10,557	$	10,341		$	216	2.1	%
Occupancy and equipment	1,941		1,891			50		2.6	%
Data processing	1,093		1,199			(106)		(8.8)	%
Professional services	736		665			71		10.7	%
Information technology	573		468			105		22.4	%
Depreciation and amortization	414		393			21		5.3	%
Amortization of core deposit intangible	370		374			(4)		(1.1)	%
Federal Deposit Insurance Corporation insurance	300		296			4		1.4	%
Directors' expense	233		294			(61)		(20.7)	%
Charitable contributions	49		511			(462)		(90.4)	%
Other real estate owned	350		3			347		NM
Other non-interest expense
Advertising	221		221			—		—	%
Other expense	1,841		2,250			(409)		(18.2)	%
Total other non-interest expense	2,062		2,471			(409)		(16.6)	%
Total non-interest expense	$	18,678	$	18,906		$	(228)	(1.2)	%

NM - Not Meaningful



	Nine months ended				Amount Change		Percent Change
(dollars in thousands)	September 30, 2022		September 30, 2021
Salaries and related benefits	$	32,446	$	31,223	$	1,223	3.9	%
Occupancy and equipment	5,739		5,373		366		6.8	%
Data processing	3,569		3,252		317		9.7	%
Professional services	2,314		4,321		(2,007)		(46.4)	%
Information technology	1,519		1,105		414		37.5	%
Depreciation and amortization	1,259		1,279		(20)		(1.6)	%
Amortization of core deposit intangible	1,124		742		382		51.5	%
Federal Deposit Insurance Corporation insurance	886		597		289		48.4	%
Directors' expense	838		660		178		27.0	%
Charitable contributions	605		497		108		21.7	%
Other real estate owned	355		—		355		NM
Other non-interest expense
Advertising	789		603		186		30.8	%
Other expense	5,516		4,002		1,514		37.8	%
Total other non-interest expense	6,305		4,605		1,700		36.9	%
Total non-interest expense	$	56,959	$	53,654	$	3,305	6.2	%

NM - Not Meaningful

Third Quarter of 2022 Compared to the Second Quarter of 2022

Non-interest expense totaled $18.7 million in the third quarter of 2022, compared to $18.9 million in the prior quarter. The decrease from the prior quarter was primarily from $462 thousand less in charitable contributions due to the annual distribution of grant funding related to the Bank's corporate giving program primarily occurring in the second quarter. In addition, the third quarter included a partial reversal of a vendor contract termination fee accrual originally recorded in the second quarter, for a net quarter-over-quarter effect of $200 thousand. These decreases were partially offset by a $345 thousand valuation adjustment to other real estate owned.

First Nine Months of 2022 Compared to the First Nine Months of 2021

Almost all expense categories increased over 2021 due primarily to a full nine months of operating expenses attributable to the 2021 AMRB acquisition. In addition, salaries and benefits reflected annual merit and other incentive increases, data processing and information technology expenses were elevated due to the systems conversions associated with the merger and systems upgrades in 2022, and other expense reflected higher

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recruiting fees. These increases were partially offset by a $2.0 million decrease in professional services expense, as 2021 included merger-related legal and other professional fees.

Provision for Income Taxes

Income tax provisions reflect accruals for taxes at the applicable rates for federal income tax and California franchise tax based upon reported pre-tax income. Provisions also reflect permanent differences between income for tax and financial reporting purposes (such as earnings on tax exempt loans and municipal securities, BOLI, low-income housing tax credits, and stock-based compensation from the exercise of stock options, disqualifying dispositions of incentive stock options and vesting of restricted stock awards).

The provision for income taxes for the third quarter of 2022 totaled $4.5 million at an effective tax rate of 26.9%, compared to $4.0 million at an effective tax rate of 26.3% in the prior quarter. The provision for income taxes for the first nine months of 2022 totaled $12.2 million at an effective tax rate of 26.5%, compared to $7.8 million at an effective tax rate of 24.9% for the first nine months of 2021. The increase in the provision in the third quarter of 2022 reflected higher pre-tax income as compared to the prior quarter. The 160 basis point increase in the effective tax rate in the first nine months of 2022 as compared to the same period in 2021 was primarily due to lower BOLI income in 2022 and a higher level of tax benefits in 2021 from the disqualifying dispositions of incentive stock options, partially offset by the non-deductible merger expenses incurred in 2021.

We file a consolidated return in the U.S. Federal tax jurisdiction and a combined return in the State of California tax jurisdiction. There were no ongoing federal or state income tax examinations at the issuance of this report. At September 30, 2022, neither the Bank nor Bancorp had accruals for interest nor penalties related to unrecognized tax benefits.

FINANCIAL CONDITION SUMMARY

Cash, Cash Equivalents and Restricted Cash

Total cash, cash equivalents and restricted cash were $185.6 million at September 30, 2022, compared to $347.6 million at December 31, 2021. The $162.0 million decrease was primarily due to the deployment of funds into investment securities, as noted below. Cash and cash equivalents do not include $11.3 million and $173.1 million in one-way sale transfers of deposits to third-party deposit networks as part of our liquidity management at September 30, 2022 and December 31, 2021, respectively.

Investment Securities

The investment securities portfolio totaled $1.772 billion at September 30, 2022, an increase of $262.6 million from December 31, 2021. The increase was primarily due to purchases of $537.2 million to deploy excess cash into interest earning assets in a more favorable interest rate environment in 2022, partially offset by paydowns, sales, maturities and calls of $156.7 million. Additionally, the unrealized losses on available-for-sale securities increased $97.0 million as a result of higher interest rates in the first nine months of 2022. In March 2022, we transferred $357.5 million securities at fair value from available-for-sale to held-to-maturity to reduce the effect of future rate increases on the available-for-sale portfolio mark-to-market, other comprehensive income and equity. See Note 4, Investment Securities, for additional information.

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The following table summarizes our investment in obligations of state and political subdivisions at September 30, 2022 and December 31, 2021.


		September 30, 2022								December 31, 2021
(dollars in thousands)		Amortized Cost			Fair Value			% of Total State and Political Subdivisions		Amortized Cost			Fair Value			% of Total State and Political Subdivisions
Within California:
	General obligation bonds	$	25,831		$	20,560		14.3	%	$	25,036		$	25,020		14.2	%
	Revenue bonds	3,722			2,961			2.1		5,249			5,185			3.0
	Tax allocation bonds	—			—			—		503			510			0.3
Total within California		29,553			23,521			16.4		30,788			30,715			17.5
Outside California:
	General obligation bonds	122,244			103,209			68.0		117,278			121,303			66.5
	Revenue bonds	27,978			22,614			15.6		28,146			29,272			16.0
Total outside California		150,222			125,823			83.6		145,424			150,575			82.5
Total obligations of state and political subdivisions		$	179,775		$	149,344		100.0	%	$	176,212		$	181,290		100.0	%
Percent of investment portfolio		9.6		%	9.1		%			11.7		%	12.0		%

Of the total investment in obligations of state and political subdivisions, the largest concentrations outside of California are in Texas (39.7%), Washington (14.4%) and Wisconsin (8.9%). Our investment in obligations issued by municipal issuers in Texas are either guaranteed by the AAA-rated Texas Permanent School Fund ("PSF") or backed by revenue sources from essential services (such as utilities and transportation). We have $6.0 million in obligations of Texas school district issuers having high concentrations in oil and gas industry taxpayers and all of them have credit guarantees from PSF.

Investments in states, municipalities and political subdivisions are subject to an initial pre-purchase credit assessment and ongoing monitoring. Key considerations include:

•The soundness of a municipality’s budgetary position and stability of its tax revenues

•Debt profile and level of unfunded liabilities, diversity of revenue sources, taxing authority of the issuer

•Local demographics/economics including unemployment data, largest taxpayers and local employers, income indices and home values

•For revenue bonds, the source and strength of revenue for municipal authorities including the obligor’s financial condition and reserve levels, annual debt service and debt coverage ratio, and credit enhancement (such as insurer’s strength and collateral in escrow accounts)

•Credit ratings by major credit rating agencies

Loans

During the first nine months of 2022, loans decreased by $97.3 million and totaled $2.158 billion at September 30, 2022, primarily due to $103.6 million in PPP loans forgiven and paid off. New non-PPP related loan originations totaled $204.1 million in the first nine months of 2022. Non-PPP loan payoffs were $204.2 million in the first nine months of 2022. These payoffs reflected construction project completions, borrowers' sales of underlying real estate and business assets and third-party refinancing of acquired loans outside the Bank's credit risk appetite.

As of September 30, 2022, there were 42 PPP loans outstanding totaling $7.6 million (net of $161 thousand in unrecognized fees and costs), compared to 368 loans outstanding December 31, 2021 for a total of $111.2 million (net of $2.5 million in unrecognized fees and costs). In the first nine months of 2022, Bank of Marin recognized $2.3 million in PPP fees, net of costs, compared to $6.6 million in the same period of 2021.

As of the date of this report, there were no loans benefiting from payment relief under the provisions of the 2020 CARES Act. During the onset of the pandemic, Bank of Marin granted payment relief for 269 loans totaling $402.9 million. Of the three loans outstanding for $23.6 million as of June 30, 2022, one resumed payments and was removed from payment relief prior to September 30, 2022, and the others paid off in early October.

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Liabilities

During the first nine months of 2022, total liabilities increased by $88.2 million to $3.952 billion. Deposits increased $94.2 million in the first nine months of 2022 to $3.903 billion. Non-interest bearing deposits increased $141.7 million while money market deposits decreased $41.7 million in the first nine months of 2022. The decrease in money market deposits was primarily due to seasonal fluctuations in some of our large clients' business accounts. The net increase in total deposits was primarily due to the replacement of expected deposit outflows with deposits held off balance sheet. Additionally, as part of our liquidity management, the Bank maintained $11.3 million in deposits off-balance sheet with deposit networks at September 30, 2022, compared to $173.1 million at December 31, 2021. Non-interest bearing deposits represented 52.6% of total deposits at September 30, 2022, compared to 50.2% at December 31, 2021. The average cost of deposits was 0.06% in the first nine months of 2022 compared to 0.07% in the same period of 2021.

Capital Adequacy

We are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements as set forth in the following tables can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on our consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and the Bank’s prompt corrective action classification are also subject to qualitative judgments by the regulators about components of capital, risk weightings and other factors.

Management reviews capital ratios on a regular basis and produces a five-year capital plan semi-annually to ensure that capital exceeds the prescribed regulatory minimums and is adequate to meet our anticipated future needs. Stress tests are performed on capital ratios and include scenarios such as additional unrealized losses on the investment portfolio, additional deposit growth and potential share repurchases. For all periods presented, the Bank’s ratios exceed the regulatory definition of “well capitalized” under the regulatory framework for prompt corrective action and Bancorp’s ratios exceed the required minimum ratios to be considered a well-capitalized bank holding company. In addition, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action as of September 30, 2022. There are no conditions or events since that notification that management believes have changed the Bank’s categories and we expect the Bank to remain well capitalized for prompt corrective action purposes.

Tangible common equity to tangible assets was 7.5% at September 30, 2022, compared to 8.8% at December 31, 2021 for Bancorp and 7.3% at September 30, 2022, compared to 8.6% at December 31, 2021 for the Bank (refer to footnote 4 on page 35 for a discussion of this non-GAAP financial measure). Declines in the Bank's and Bancorp's tangible common equity ratios were primarily related to a $78.0 million increase in after-tax unrealized losses on available-for-sale securities associated with interest rate increases since December 31, 2021, partially offset by earnings. As mentioned above, our substantial liquidity position enabled us to transfer $357.5 million of securities at fair value from available-for-sale to held-to-maturity in March 2022, to reduce the effect of future rate increases on other comprehensive income and equity.

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The Bancorp’s and Bank’s capital adequacy ratios as of September 30, 2022 and December 31, 2021 are presented in the following tables.


Capital Ratios for Bancorp (dollars in thousands)	Actual Ratio				Adequately Capitalized Threshold				Ratio to be a Well Capitalized Bank Holding Company
September 30, 2022	Amount		Ratio		Amount		Ratio		Amount		Ratio
Total Capital (to risk-weighted assets)	$	422,110	15.06	%	$	294,306	≥ 10.50	%	$	280,292	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	398,412	14.21	%	$	238,248	≥ 8.50	%	$	224,233	≥ 8.00	%
Tier 1 Capital (to average assets)	$	398,412	9.21	%	$	172,967	≥ 4.00	%	$	216,209	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	398,412	14.21	%	$	196,204	≥ 7.00	%	$	182,190	≥ 6.50	%
December 31, 2021
Total Capital (to risk-weighted assets)	$	397,101	14.58	%	≥ $	286,035	≥ 10.50	%	≥ $	272,414	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	373,286	13.70	%	≥ $	231,552	≥ 8.50	%	≥ $	217,931	≥ 8.00	%
Tier 1 Capital (to average assets)	$	373,286	8.85	%	≥ $	168,750	≥ 4.00	%	≥ $	210,937	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	373,286	13.70	%	≥ $	190,690	≥ 7.00	%	≥ $	177,069	≥ 6.50	%


Capital Ratios for the Bank (dollars in thousands)	Actual Ratio				Adequately Capitalized Threshold				Ratio to be Well Capitalized under Prompt Corrective Action Provisions
September 30, 2022	Amount		Ratio		Amount		Ratio		Amount		Ratio
Total Capital (to risk-weighted assets)	$	413,236	14.74	%	$	294,282	≥ 10.50	%	$	280,269	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	389,538	13.90	%	$	238,228	≥ 8.50	%	$	224,215	≥ 8.00	%
Tier 1 Capital (to average assets)	$	389,538	9.01	%	$	172,957	≥ 4.00	%	$	216,197	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	389,538	13.90	%	$	196,188	≥ 7.00	%	$	182,175	≥ 6.50	%
December 31, 2021
Total Capital (to risk-weighted assets)	$	390,924	14.35	%	≥ $	286,009	≥ 10.50	%	≥ $	272,390	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	367,109	13.48	%	≥ $	231,531	≥ 8.50	%	≥ $	217,912	≥ 8.00	%
Tier 1 Capital (to average assets)	$	367,109	8.70	%	≥ $	168,724	≥ 4.00	%	≥ $	210,905	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	367,109	13.48	%	≥ $	190,673	≥ 7.00	%	≥ $	177,053	≥ 6.50	%

Liquidity and Capital Resources

The goal of liquidity management is to provide adequate funds to meet loan demand and to fund operating activities and deposit withdrawals. We accomplish this goal by maintaining an appropriate level of liquid assets and formal lines of credit with the FHLB, FRBSF and correspondent banks that enable us to borrow funds as discussed in Note 6 to the Consolidated Financial Statements in ITEM 1 of this report. Our Asset Liability Management Committee ("ALCO"), which is comprised of independent Bank directors and the Bank's Chief Executive Officer, is responsible for approving and monitoring our liquidity targets and strategies, which are subject to projection and stress testing over a two-year horizon. ALCO has adopted a contingency funding plan that provides early detection of potential liquidity issues in the market or the Bank and institutes prompt responses that may prevent or alleviate a potential liquidity crisis. Management monitors liquidity daily and regularly adjusts our position based on current and future liquidity needs. We also have relationships with third-party deposit networks and can adjust the placement of our deposits via reciprocal or one-way sales as part of our cash management strategy. We maintained $11.3 million in one-way-sale deposits off-balance sheet with deposit networks at September 30, 2022, compared to $173.1 million at December 31, 2021.

We obtain funds from the repayment and maturity of loans, deposit inflows, investment security maturities and paydowns, federal funds purchases, FHLB advances, other borrowings, and cash flow from operations. Our primary uses of funds are the origination of loans, the purchase of investment securities, withdrawals of deposits, maturity of certificates of deposit, repayment of borrowings, and dividends to common stockholders.

The most significant component of our daily liquidity position is customer deposits. The attraction and retention of new deposits depends upon the variety and effectiveness of our customer account products, service and

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convenience, rates paid to customers, and our financial strength. The cash cycles and unique business activities of some of our large commercial depositors may cause short-term fluctuations in their deposit balances held with us.

Our cash and cash equivalents decreased $162.0 million in the first nine months of 2022. Significant uses of liquidity during 2022 were $537.2 million in investment securities purchased, $11.7 million in cash dividends paid on common stock to our shareholders, and $1.2 million in common stock repurchases. Refer to the Consolidated Statement of Cash Flows in this Form 10-Q for additional information on our sources and uses of liquidity. Management anticipates that our current strong liquidity position and core deposit base are adequate to fund our operations.

The most significant source of liquidity during the first nine months of 2022 was proceeds from principal paydowns, maturities, sales and calls of investment securities of $156.7 million, loans collected (net of loan originations) of $97.9 million, a net increase in deposits of $94.2 million (primarily related to $162 million of one-way sell deposits brought back on the balance sheet that were previously placed in third-party deposit networks), and $39.0 million in net cash provided by operating activities.

Undrawn credit commitments, as discussed in Note 8 to the Consolidated Financial Statements in this Form 10-Q, totaled $561.7 million at September 30, 2022. We expect to fund these commitments to the extent utilized primarily through the repayment of existing loans, deposit growth and liquid assets. Over the next twelve months, $106.2 million of time deposits will mature. We expect to replace these funds with new deposits or excess liquidity. Our emphasis on local deposits, combined with our liquid investment portfolio, provides a very stable funding base. While we had no borrowings under our credit facilities at September 30, 2022 or December 31, 2021, as discussed in Note 6 to the Consolidated Financial Statements in ITEM 1 of this report, the available credit lines with FHLB and FRB SF have declined by $97.5 million from December 31, 2021 to September 30, 2022, primarily because the rising market interest rates in the first nine months of 2022 have unfavorably affected the market value of the loans collateralizing these lines.

Since Bancorp is a holding company and does not conduct regular banking operations, its primary sources of liquidity are dividends from the Bank. Under the California Financial Code, payment of a dividend from the Bank to Bancorp without advance regulatory approval is restricted to the lesser of the Bank’s retained earnings or the amount of the Bank’s net profits from the previous three fiscal years less the amount of dividends paid during that period. The primary uses of funds for Bancorp are shareholder dividends and ordinary operating expenses. Bancorp held $8.8 million in cash at September 30, 2022, which is expected to be sufficient to cover Bancorp's operational needs and cash dividends to shareholders through 2022. Management anticipates that there will be sufficient earnings at the Bank to provide dividends to Bancorp to meet its funding requirements for the foreseeable future.

ITEM 3. Quantitative and Qualitative Disclosure about Market Risk

Market risk is defined as the risk of loss arising from an adverse change in the market value (or prices) of financial instruments. A significant component of market risk is interest rate risk, which is inherent in our lending, investment, borrowing and deposit gathering activities. The Bank manages interest rate sensitivity to minimize the exposure of our net interest margin, earnings, and capital to changes in interest rates. Interest rate changes can create fluctuations in the net interest margin due to an imbalance in the timing of repricing or maturity of assets or liabilities. Interest rate changes can also affect the market value of our financial instruments, such as available-for-sale securities and the related unrealized gains or losses, which affects our equity value.

To mitigate interest rate risk, the structure of our assets and liabilities is managed with the objective of correlating the effects of interest rate changes on loans and investments with those of deposits and borrowings. The asset liability management policy sets limits on the acceptable amount of change to net interest income and economic value of equity in different interest rate environments.

From time to time, we enter into interest rate swap contracts to mitigate the changes in the fair value of specified long-term fixed-rate loans and firm commitments to enter into long-term fixed-rate loans caused by changes in interest rates. See Note 9 to the Consolidated Financial Statements in this Form 10-Q.

ALCO and the Board of Directors review our exposure to interest rate risk at least quarterly. We use simulation models to measure interest rate risk and to evaluate strategies to improve profitability. A simplified statement of condition is prepared on a quarterly basis as a starting point, using instrument level data of our actual loans,

Page-45

investments, borrowings and deposits as inputs. If potential changes to net equity value and net interest income resulting from hypothetical interest rate changes are not within the limits established by the Board of Directors, management may adjust the asset and liability mix to bring the risk position within approved limits or take other actions. At September 30, 2022, interest rate risk was within policy guidelines established by ALCO and the Board. One set of interest rates modeled and evaluated against flat interest rates and a static balance sheet is a series of immediate parallel shifts in the yield curve. Our most recent analysis of our interest rate sensitivity is provided in the following table as an example rather than an expectation of likely interest rate movements.


Immediate and Parallel Shift in Interest Rates (in basis points)	Estimated Change in Net Interest Income in Year 1, as percent of Net Interest Income		Estimated Change in Net Interest Income in Year 2, as percent of Net Interest Income
up 400	0.6	%	9.0	%
up 300	0.6	%	7.2	%
up 200	0.6	%	5.2	%
up 100	0.6	%	3.2	%
down 100	(4.1)	%	(5.7)	%
down 200	(8.5)	%	(11.6)	%

Asset sensitivity decreased over the prior quarter due to loan growth, higher yielding bond purchases and an increase in the average interest-bearing deposit beta from 26% to 28%. Interest rate sensitivity is a function of the repricing characteristics of our assets and liabilities. The Bank runs a combination of scenarios and sensitivities to capture the range of interest rate risk including the simulations mentioned above. As with any simulation model or other method of measuring interest rate risk, limitations are inherent in the process and dependent on assumptions. For example, if we choose to pay interest on certain business deposits that are currently non-interest bearing, causing those deposits to become rate sensitive in the future, we would become less asset sensitive than the model currently indicates. Additionally, assets and liabilities may react differently to changes in market interest rates in terms of both timing and responsiveness to market rate movements. Important deposit modeling assumptions include the speed of deposit run-off and the amount by which interest-bearing deposit rates increase or decrease when market interest rates change, otherwise known as the deposit beta. The actual rates and timing of prepayments on loans and investment securities could vary significantly from the assumptions applied in the various scenarios. Lastly, uneven changes in different tenors of U.S. Treasury rates that result in changes to the shape of the yield curve could produce different results from those presented in the table. Accordingly, the results presented should not be relied upon as indicative of actual results in the event of changing market interest rates.

ITEM 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Bank of Marin Bancorp and its subsidiary (the "Company") conducted an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934 (the “Act”)) as of the end of the period covered by this report. The term disclosure controls and procedures means controls and other procedures that are designed to ensure that information we are required to disclose in the reports that we file or submit under the Act (15 U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information we are required to disclose in the reports that we file or submit under the Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control over Financial Reporting

During the quarter ended September 30, 2022, there were no significant changes that materially affected, or are reasonably likely to affect, our internal control over financial reporting. The term internal control over financial

Page-46

reporting, as defined by Rule 15d-15(f) of the Act, is a process designed by, or under the supervision of, the issuer's principal executive and principal financial officers, or persons performing similar functions, and effected by the issuer's board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles.

PART II OTHER INFORMATION

ITEM 1 Legal Proceedings

Refer to Note 12 to the Consolidated Financial Statements in Item 8 of our 2021 Form 10-K and Note 8 to the Consolidated Financial Statements in this Form 10-Q.

ITEM 1A Risk Factors

Our business is influenced by many factors that are difficult to predict, involve uncertainties that may materially affect actual results and are often beyond our control. In evaluating an investment in Bancorp's common stock, investors should consider, among other things, the risks previously disclosed in Part I, Item 1A, "Risk Factors" of our 2021 Form 10-K, and the information contained in this quarterly report on Form 10-Q and other reports and registration statements filed with the SEC, which are incorporated herein by reference. There have been no material changes in the risk factors disclosed in our 2021 Form 10-K.

ITEM 2 Unregistered Sales of Equity Securities and Use of Proceeds

There were no unregistered sales of equity securities during the period covered by this report.

Issuer Purchases of Equity Securities

On July 16, 2021, Bancorp Board of Directors approved a share repurchase program under which Bancorp could repurchase up to $25.0 million of its outstanding common stock through July 31, 2023. On October 22, 2021, Bancorp's Board of Directors approved an amendment to the current share repurchase program, which increased the total authorization from $25.0 million to $57.0 million and left the expiration date unchanged.

During the nine months ended September 30, 2022, Bancorp repurchased 23,275 shares at an average price of $37.64 per share for a total cost of $877 thousand. The last activity under the program was in the first quarter of 2022. Cumulative shares repurchased under the current program totaled 618,991 shares at an average price of $36.04 per share, with $34.7 million outstanding as of September 30, 2022.

ITEM 3 Defaults upon Senior Securities

None.

ITEM 4 Mine Safety Disclosures

Not applicable.

ITEM 5 Other Information

None.

Page-47

ITEM 6 Exhibits

The following exhibits are filed as part of this report or hereby incorporated by references to filings previously made with the SEC.

Incorporated by Reference

Exhibit Number

Exhibit Description

Form

File No.

Exhibit

Filing Date

Herewith

2.01

Agreement to Merge and Plan of Reorganization, dated April 16, 2021 by and among Bank of Marin Bancorp and American River Bankshares

8-K

001-33572

2.1

April 19, 2021

3.01

Articles of Incorporation, as amended

S-4

333-257025

3.01

June 11, 2021

3.02

Bylaws, as amended

S-4

333-257025

3.02

June 11, 2021

4.01

Rights Agreement, dated July 6, 2017

8-A12B

001-33572

4.1

July 7, 2017

4.02

Description of Capital Stock

10-K

001-33572

4.02

March 13, 2020

10.01

Employee Stock Ownership Plan

S-8

333-218274

4.1

May 26, 2017

10.02

2017 Employee Stock Purchase Plan

S-8

333-221219

4.1

October 30, 2017

10.03

2017 Equity Plan, as amended

S-8

333-227840

4.1

October 15, 2018

10.04

2020 Director Stock Plan

S-8

333-239555

4.1

June 30, 2020

10.05

Form of Indemnification Agreement for Directors and Executive Officers, dated August 9, 2007

10-Q

001-33572

10.06

November 7, 2007

10.06

2010 Annual Individual Incentive Compensation Plan, revised 2019

10-K

001-33572

10.07

March 15, 2021

10.07

Salary Continuation Agreement for executive officer Tani Girton, Chief Financial Officer, dated October 18, 2013

8-K

001-33572

10.2

November 4, 2014

10.08

Salary Continuation Agreement for executive officer Elizabeth Reizman, Chief Credit Officer, dated July 20, 2014

8-K

001-33572

10.3

November 4, 2014

10.09

2007 Form of Change in Control Agreement

8-K

001-33572

10.1

October 31, 2007

10.10

Salary Continuation Agreement for executive officer Timothy Myers, President and Chief Operating Officer, dated January 1, 2016

10-Q

001-33572

10.12

November 6, 2020

10.11

Director Deferred Fee Plan, dated December 17, 2020

10-K

001-33572

10.13

March 15, 2021

10.12

Employment Agreement with Timothy Myers, dated September 23, 2021

8-K

001-33572

10.1

September 24, 2021

31.01

Certification of Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Filed

31.02

Certification of Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Filed

32.01

Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002

Filed

101.INS

Inline XBRL Instance Document

Filed

101.SCH

Inline XBRL Taxonomy Extension Schema Document

Filed

101.CAL

Inline XBRL Taxonomy Extension Calculation Linkbase Document

Filed

101.LAB

Inline XBRL Taxonomy Extension Label Linkbase Document

Filed

101.PRE

Inline XBRL Taxonomy Extension Presentation Linkbase Document

Filed

101.DEF

Inline XBRL Taxonomy Extension Definition Linkbase Document

Filed

Page-48

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.



									Bank of Marin Bancorp
									(registrant)


			November 8, 2022						/s/ Timothy D. Myers
			Date						Timothy D. Myers
									President and Chief Executive Officer
									(Principal Executive Officer)



			November 8, 2022						/s/ Tani Girton
			Date						Tani Girton
									Executive Vice President &
									Chief Financial Officer
									(Principal Financial Officer)


			November 8, 2022						/s/ David A. Merck
			Date						David A. Merck
									First Vice President & Controller
									(Principal Accounting Officer)

Page-49

Bank of Marin Bancorp - 10-Q quarterly report FY2022 Q3

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