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Table of Contents

I

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2023

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For transition period from          to          

Commission File Number 000-10537

Graphic

(Exact name of Registrant as specified in its charter)

Delaware

36-3143493

(State or other jurisdiction

(I.R.S. Employer Identification Number)

of incorporation or organization)

37 South River Street, AuroraIllinois     60507

(Address of principal executive offices) (Zip Code)

(630) 892-0202

(Registrant’s telephone number, including area code)

Not applicable

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

Securities registered pursuant to Section 12(b) of the Act:

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common Stock

OSBC

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 and post such files).  Yes  No 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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 filerAccelerated filer

Non-accelerated filerSmaller reporting companyEmerging 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 Exchange Act Rule 12b-2).

Yes         No 

As of August 4, 2023, the Registrant has 44,675,057 shares of common stock outstanding at $1.00 par value per share.

Table of Contents

OLD SECOND BANCORP, INC.

Form 10-Q Quarterly Report

Table of Contents

Cautionary Note Regarding Forward-Looking Statements

PART I

Page Number

Item 1.

Financial Statements

4

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

37

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

61

Item 4.

Controls and Procedures

62

PART II

Item 1.

Legal Proceedings

63

Item 1.A.

Risk Factors

63

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

63

Item 3.

Defaults Upon Senior Securities

63

Item 4.

Mine Safety Disclosure

63

Item 5.

Other Information

63

Item 6.

Exhibits

64

Signatures

65

2

Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This report and other publicly available documents of the Company contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act, including, but not limited to, management’s expectations regarding future plans, strategies and financial performance, including regulatory developments, industry and economic trends and estimates and assumptions underlying accounting policies.  Forward-looking statements are based on our current beliefs, expectations and assumptions and on information currently available and, can be identified by the use of words such as “should,” “anticipate,” “expect,” “estimate,” “intend,” “believe,” “may,” “likely,” “will,” “forecast,” “project,” “looking forward,” “optimistic,” “hopeful,” “potential,” “progress,” “prospect,” “remain,” “continue,” “trend,” “momentum” or the negative thereof as well as other similar words and expressions of the future. Forward-looking statements are subject to risks, uncertainties and assumptions that are difficult to predict as to timing, extent, likelihood and degree of occurrence, which could cause our actual results to differ materially from those anticipated in or by such statements. Potential risks and uncertainties include, but are not limited to, the following:

our ability to execute our growth strategy;
negative economic conditions, including inflation, that may adversely affect the economy, real estate values, the job market and other factors nationally and in our market area, in each case that may affect our liquidity and the performance of our loan portfolio;
our ability to raise cost-effective funding to support business plans when needed;
risks with respect to our ability to successfully expand and integrate businesses and operations that we acquire, as well our ability to identify and complete future mergers or acquisitions;
the financial success and viability of the borrowers of our commercial loans;
changes in U.S. monetary policy, the level and volatility of interest rates, the capital markets and other market conditions that may affect, among other things, our liquidity and the value of our assets and liabilities;
the transition away from LIBOR to an alternative reference rate;
competitive pressures from other financial service businesses and from nontraditional financial technology (“FinTech”) companies;
any negative perception of our reputation or financial strength;
our ability to raise additional capital on acceptable terms when needed;
our ability to use technology to provide products and services that will satisfy customer demands and create efficiencies in operations;
adverse effects on our information technology systems resulting from system failures, human error or cyberattacks;
adverse effects of failures by our vendors to provide agreed upon services in the manner and at the cost agreed, particularly our information technology vendors and those vendors performing a service on the Company’s behalf;
the impact of any claims or legal actions, including any effect on our reputation;
losses incurred in connection with repurchases and indemnification payments related to mortgages;
the soundness of other financial institutions and other counter-party risk;
changes in accounting standards, rules and interpretations and the related impact on our financial statements;
our ability to receive dividends from our subsidiaries;
a decrease in our regulatory capital ratios or negative changes in our capital position;
adverse federal or state tax assessments, or changes in tax laws or policies;
risks associated with actual or potential litigation or investigations by customers, regulatory agencies or others;
legislative or regulatory changes, particularly changes in regulation of financial services companies;
increased costs of compliance, heightened regulatory capital requirements and other risks associated with changes in regulation and the current regulatory environment;
continued increases in FDIC assessment which will continue to increase our cost of doing business;
risks associated with complex and changing regulatory environments, including, among others, with respect to data privacy, artificial intelligence, information security, climate change or other environmental, social and governance matters, and labor matters, relating to the Company’s operations;
the adverse effects of events beyond our control that may have a destabilizing effect on financial markets and the economy, such as epidemics and pandemics, war or terrorist activities, such as the war in Ukraine, essential utility outages, deterioration in the global economy, instability in the credit markets, labor shortages, disruptions in our customers’ supply chains or disruption in transportation;
changes in trade policy and any related tariffs; and
each of the factors and risks under the heading “Risk Factors” in our 2022 Annual Report on Form 10-K and in subsequent filings we make with the SEC.

Because the Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain, there can be no assurances that future actual results will correspond to any forward-looking statements and you should not rely on any forward-looking statements.  Additionally, all statements in this Form 10-Q, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events, except as required by applicable law.

3

Table of Contents

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

Old Second Bancorp, Inc. and Subsidiaries

Consolidated Balance Sheets

(In thousands, except share data)

(unaudited)

June 30, 

December 31, 

    

2023

    

2022

Assets

Cash and due from banks

$

59,466

$

56,632

Interest earning deposits with financial institutions

53,144

58,545

Cash and cash equivalents

112,610

115,177

Securities available-for-sale, at fair value

1,335,622

1,539,359

Federal Home Loan Bank Chicago (“FHLBC”) and Federal Reserve Bank Chicago (“FRBC”) stock

36,730

20,530

Loans held-for-sale

1,218

491

Loans

4,015,525

3,869,609

Less: allowance for credit losses on loans

55,314

49,480

Net loans

3,960,211

3,820,129

Premises and equipment, net

72,797

72,355

Other real estate owned

761

1,561

Mortgage servicing rights, at fair value

11,041

11,189

Goodwill

86,478

86,478

Core deposit intangible

12,436

13,678

Bank-owned life insurance (“BOLI”)

107,268

106,608

Deferred tax assets, net

39,827

44,750

Other assets

106,943

56,012

Total assets

$

5,883,942

$

5,888,317

Liabilities

Deposits:

Noninterest bearing demand

$

1,897,694

$

2,051,702

Interest bearing:

Savings, NOW, and money market

2,368,033

2,617,100

Time

451,855

441,921

Total deposits

4,717,582

5,110,723

Securities sold under repurchase agreements

31,532

32,156

Other short-term borrowings

485,000

90,000

Junior subordinated debentures

25,773

25,773

Subordinated debentures

59,339

59,297

Senior notes

-

44,585

Notes payable and other borrowings

-

9,000

Other liabilities

50,761

55,642

Total liabilities

5,369,987

5,427,176

Stockholders’ Equity

Common stock

44,705

44,705

Additional paid-in capital

200,963

202,276

Retained earnings

355,219

310,512

Accumulated other comprehensive loss

(86,186)

(93,124)

Treasury stock

(746)

(3,228)

Total stockholders’ equity

513,955

461,141

Total liabilities and stockholders’ equity

$

5,883,942

$

5,888,317

June 30, 2023

December 31, 2022

Common

Common

Stock

    

Stock

Par value

$

1.00

$

1.00

Shares authorized

60,000,000

60,000,000

Shares issued

44,705,150

44,705,150

Shares outstanding

44,665,127

44,582,311

Treasury shares

40,023

122,839

See accompanying notes to consolidated financial statements.

4

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Consolidated Statements of Income

(In thousands, except per share data)

(unaudited)

(unaudited)

Three Months Ended June 30, 

Six Months Ended June 30, 

    

2023

    

2022

    

2023

    

2022

    

Interest and dividend income

Loans, including fees

$

61,561

$

38,229

$

118,771

$

74,595

Loans held-for-sale

19

32

31

89

Securities:

Taxable

9,930

6,786

20,665

11,954

Tax exempt

1,337

1,297

2,674

2,615

Dividends from FHLBC and FRBC stock

396

263

676

416

Interest bearing deposits with financial institutions

643

782

1,228

1,051

Total interest and dividend income

73,886

47,389

144,045

90,720

Interest expense

Savings, NOW, and money market deposits

1,742

347

2,891

744

Time deposits

1,156

265

1,820

542

Securities sold under repurchase agreements

7

9

16

20

Other short-term borrowings

5,160

-

7,505

-

Junior subordinated debentures

281

284

560

564

Subordinated debentures

546

547

1,092

1,093

Senior notes

1,414

578

2,408

1,063

Notes payable and other borrowings

-

95

87

198

Total interest expense

10,306

2,125

16,379

4,224

Net interest and dividend income

63,580

45,264

127,666

86,496

Provision for credit losses

2,000

550

5,501

550

Net interest and dividend income after provision for credit losses

61,580

44,714

122,165

85,946

Noninterest income

Wealth management

2,458

2,506

4,728

5,204

Service charges on deposits

2,362

2,328

4,786

4,402

Secondary mortgage fees

76

50

135

189

Mortgage servicing rights mark to market gain (loss)

96

82

(429)

3,060

Mortgage servicing income

499

579

1,015

1,098

Net gain (loss) on sales of mortgage loans

398

(262)

704

1,233

Securities losses, net

(1,547)

(33)

(3,222)

(33)

Change in cash surrender value of BOLI

418

72

660

196

Card related income

2,690

2,965

4,934

5,532

Other income

773

924

2,262

1,793

Total noninterest income

8,223

9,211

15,573

22,674

Noninterest expense

Salaries and employee benefits

21,798

21,332

44,046

41,299

Occupancy, furniture and equipment

3,639

3,046

7,114

6,745

Computer and data processing

1,290

4,006

3,064

10,274

FDIC insurance

794

702

1,378

1,112

Net teller & bill paying

515

834

1,017

2,741

General bank insurance

306

351

611

666

Amortization of core deposit intangible

618

659

1,242

1,324

Advertising expense

103

194

245

376

Card related expense

1,222

1,057

2,438

1,591

Legal fees

283

179

602

436

Consulting & management fees

520

523

1,310

1,139

Other real estate expense, net

(98)

87

208

75

Other expense

3,840

4,279

7,477

7,723

Total noninterest expense

34,830

37,249

70,752

75,501

Income before income taxes

34,973

16,676

66,986

33,119

Provision for income taxes

9,411

4,429

17,817

8,852

Net income

$

25,562

$

12,247

$

49,169

$

24,267

Basic earnings per share

$

0.57

$

0.28

$

1.10

$

0.55

Diluted earnings per share

0.56

0.27

1.08

0.54

Dividends declared per share

0.05

0.05

0.10

0.10

See accompanying notes to consolidated financial statements.

5

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income (Loss)

(In thousands)

(unaudited)

(unaudited)

Three Months Ended June 30, 

Six Months Ended June 30, 

    

2023

    

2022

    

2023

    

2022

Net Income

$

25,562

$

12,247

$

49,169

$

24,267

Unrealized holding (losses) gains on available-for-sale securities arising during the period

(8,360)

(40,485)

7,850

(105,314)

Related tax benefit (expense)

2,342

11,335

(2,194)

29,488

Holding (losses) gains, after tax, on available-for-sale securities

(6,018)

(29,150)

5,656

(75,826)

Less: Reclassification adjustment for the net losses realized during the period

Net realized losses

(1,547)

(33)

(3,222)

(33)

Related tax benefit

434

9

905

9

Net realized losses after tax

(1,113)

(24)

(2,317)

(24)

Other comprehensive (loss) income on available-for-sale securities

(4,905)

(29,126)

7,973

(75,802)

Changes in fair value of derivatives used for cash flow hedges

(3,017)

1,898

(1,415)

2,487

Related tax benefit (expense)

836

(532)

380

(697)

Other comprehensive (loss) income on cash flow hedges

(2,181)

1,366

(1,035)

1,790

Total other comprehensive (loss) income

(7,086)

(27,760)

6,938

(74,012)

Total comprehensive income (loss)

$

18,476

$

(15,513)

$

56,107

$

(49,745)

Accumulated

Accumulated

Total

Unrealized Gain

Unrealized Gain

Accumulated Other

(Loss) on Securities

(Loss) on Derivative

Comprehensive

(unaudited)

Available-for -Sale

Instruments

Income/(Loss)

For the Three Months Ended

Balance, April 1, 2022

$

(35,537)

$

(1,947)

$

(37,484)

Other comprehensive (loss) income, net of tax

(29,126)

1,366

(27,760)

Balance, June 30, 2022

$

(64,663)

$

(581)

$

(65,244)

Balance, April 1, 2023

$

(76,014)

$

(3,086)

$

(79,100)

Other comprehensive loss, net of tax

(4,905)

(2,181)

(7,086)

Balance, June 30, 2023

$

(80,919)

$

(5,267)

$

(86,186)

For the Six Months Ended

Balance, January 1, 2022

$

11,139

$

(2,371)

$

8,768

Other comprehensive (loss) income, net of tax

(75,802)

1,790

(74,012)

Balance, June 30, 2022

$

(64,663)

$

(581)

$

(65,244)

Balance, January 1, 2023

$

(88,892)

$

(4,232)

$

(93,124)

Other comprehensive income (loss), net of tax

7,973

(1,035)

6,938

Balance, June 30, 2023

$

(80,919)

$

(5,267)

$

(86,186)

See accompanying notes to consolidated financial statements.

6

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

Six Months Ended June 30, 

2023

    

2022

    

Cash flows from operating activities

Net income

$

49,169

$

24,267

Adjustments to reconcile net income to net cash provided by operating activities:

Net premium / discount amortization on securities

1,626

3,300

Securities losses, net

3,222

33

Provision for credit losses

5,501

550

Originations of loans held-for-sale

(24,570)

(49,648)

Proceeds from sales of loans held-for-sale

24,271

53,204

Net gains on sales of mortgage loans

(704)

(1,233)

Mortgage servicing rights mark to market loss (gain)

429

(3,060)

Net accretion of discount on loans and unfunded commitments

(2,093)

(3,841)

Net change in cash surrender value of BOLI

(660)

(196)

Net gains on sale of other real estate owned

(158)

(130)

Provision for other real estate owned valuation losses

269

104

Depreciation of fixed assets and amortization of leasehold improvements

2,135

2,101

Net gains on disposal and transfer of fixed assets

(635)

(1,961)

Amortization of core deposit intangibles

1,242

1,324

Change in current income taxes receivable

(456)

(729)

Deferred tax expense

2,204

2,400

Change in accrued interest receivable and other assets

(50,594)

7,000

Accretion of purchase accounting adjustment on time deposits

(701)

(821)

Change in accrued interest payable and other liabilities

(5,709)

(7,033)

Stock based compensation

1,774

1,469

Net cash provided by operating activities

5,562

27,100

Cash flows from investing activities

Proceeds from maturities and calls, including pay down of securities available-for-sale

73,981

148,429

Proceeds from sales of securities available-for-sale

140,166

3,303

Purchases of securities available-for-sale

(4,186)

(301,129)

Net purchases of FHLBC/FRBC stock

(16,200)

(7,156)

Net change in loans

(143,966)

(199,955)

Proceeds from sales of other real estate owned, net of participations and improvements

1,165

845

Proceeds from disposition of premises and equipment

1,105

7,490

Net purchases of premises and equipment

(3,047)

(1,526)

Net cash provided by (used in) investing activities

49,018

(349,699)

Cash flows from financing activities

Net change in deposits

(392,440)

(122,556)

Net change in securities sold under repurchase agreements

(624)

(12,738)

Net change in other short-term borrowings

395,000

-

Repayment of term note

(9,000)

(2,000)

Net change in notes payable and other borrowings, excluding term note

-

(6,056)

Repayment of senior notes

(45,000)

-

Dividends paid on common stock

(4,478)

(4,423)

Purchase of treasury stock

(605)

(400)

Net cash used in financing activities

(57,147)

(148,173)

Net change in cash and cash equivalents

(2,567)

(470,772)

Cash and cash equivalents at beginning of period

115,177

752,107

Cash and cash equivalents at end of period

$

112,610

$

281,335

See accompanying notes to consolidated financial statements.

7

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Consolidated Statements of Changes in

Stockholders’ Equity

(In thousands)

Accumulated

Additional

Other

Total

(unaudited)

Common

Paid-In

Retained

Comprehensive

Treasury

Stockholders’

    

Stock

    

Capital

    

Earnings

    

Income (Loss)

    

Stock

    

Equity

For the Three Months Ended

Balance, April 1, 2022

$

44,705

$

203,190

$

261,807

$

(37,484)

$

(5,900)

$

466,318

Net income

12,247

12,247

Other comprehensive loss, net of tax

(27,760)

(27,760)

Dividends declared on common stock, ($0.05 per share)

(2,223)

(2,223)

Vesting of restricted stock

(2,630)

2,630

-

Stock based compensation

722

722

Purchase of treasury stock from taxes withheld on stock awards

(400)

(400)

Balance, June 30, 2022

$

44,705

$

201,282

$

271,831

$

(65,244)

$

(3,670)

$

448,904

Balance, April 1, 2023

$

44,705

$

200,121

$

331,890

$

(79,100)

$

(746)

$

496,870

Net income

25,562

25,562

Other comprehensive loss, net of tax

(7,086)

(7,086)

Dividends declared on common stock, ($0.05 per share)

(2,233)

(2,233)

Stock based compensation

842

842

Balance, June 30, 2023

$

44,705

$

200,963

$

355,219

$

(86,186)

$

(746)

$

513,955

For the Six Months Ended

Balance, January 1, 2022

$

44,705

$

202,443

$

252,011

$

8,768

$

(5,900)

$

502,027

Net income

24,267

24,267

Other comprehensive loss, net of tax

(74,012)

(74,012)

Dividends declared on common stock, ($0.10 per share)

(4,447)

(4,447)

Vesting of restricted stock

(2,630)

2,630

-

Stock based compensation

1,469

1,469

Purchase of treasury stock from taxes withheld on stock awards

(400)

(400)

Balance, June 30, 2022

$

44,705

$

201,282

$

271,831

$

(65,244)

$

(3,670)

$

448,904

Balance, January 1, 2023

$

44,705

$

202,276

$

310,512

$

(93,124)

$

(3,228)

$

461,141

Net income

49,169

49,169

Other comprehensive income, net of tax

6,938

6,938

Dividends declared on common stock, ($0.10 per share)

(4,462)

(4,462)

Vesting of restricted stock

(3,087)

3,087

-

Stock based compensation

1,774

1,774

Purchase of treasury stock from taxes withheld on stock awards

(605)

(605)

Balance, June 30, 2023

$

44,705

$

200,963

$

355,219

$

(86,186)

$

(746)

$

513,955

8

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Note 1 – Basis of Presentation and Changes in Significant Accounting Policies

The accounting policies followed in the preparation of the interim consolidated financial statements are consistent with those used in the preparation of the annual financial information.  The interim consolidated financial statements reflect all normal and recurring adjustments that are necessary, in the opinion of management, for a fair statement of results for the interim period presented.  Results for the period ended June 30, 2023 are not necessarily indicative of the results that may be expected for the year ending December 31, 2023.  These interim consolidated financial statements and accompanying notes are unaudited and should be read in conjunction with the audited financial statements and notes included in Old Second Bancorp, Inc.’s (the “Company”) annual report on Form 10-K for the year ended December 31, 2022.  Unless otherwise indicated, dollar amounts in the tables contained in the notes to the consolidated financial statements are in thousands.  Certain items in prior periods have been reclassified to conform to the current presentation.

The Company’s consolidated financial statements are prepared in accordance with United States generally accepted accounting principles (“GAAP”) and follow general practices within the banking industry.  Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes.  These estimates, assumptions, and judgments are based on information available as of the date of the consolidated financial statements.  Future changes in information may affect these estimates, assumptions, and judgments, which, in turn, may affect amounts reported in the consolidated financial statements.

Recent Accounting Pronouncements

The following is a summary of recent accounting pronouncements that have impacted or could potentially affect the Company:  

ASU 2018-16, ASU 2020-04, ASU 2021-01, and ASU 2022-06 – In October 2018, the Financial Standards Board, or FASB, issued ASU No. 2018-16 “Derivatives and Hedging (Topic 815): Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate as a Benchmark Interest Rate for Hedge Accounting.”  ASU 2018-16 adds the SOFR overnight index swap rate to the list of United States (U.S.) benchmark rates eligible for hedge accounting purposes, which is the fourth rate permissible to be used as a U.S. benchmark rate.  This guidance was effective for annual and interim periods beginning after December 15, 2018, and did not have a material impact on the financial condition or liquidity of the Company. ASU 2020-04 and ASU 2021-01 Reference Rate Reform (Topic 848) were issued on March 12, 2020 and January 7, 2021, respectively, and each provide further guidance on optional expedients and exceptions for applying GAAP to contract modifications and hedging relationships due to the discontinuation of LIBOR.  In addition, on March 5, 2021, the International Swaps and Derivatives Association (“ISDA”) issued a statement with an “Index Cessation Event Announcement,” which confirmed the extension of the cessation of LIBOR-referenced rates from December 31, 2021, to June 30, 2023, for certain rate tenors. ASU 2022-06 further defers the sunset date of Topic 848 from December 31, 2022, to December 31, 2024, after which entities will no longer be permitted to apply the relief in Topic 848.

The Company formed a LIBOR transition team in 2019 and developed a project plan to assess the use of alternative indexes and to seek to ensure all financial instruments that reference LIBOR are identified, quantified, and researched for the LIBOR fallback language available or needed.  The Company completed the ISDA protocol adherence for LIBOR fallback language for all commercial swaps, met with its commercial loan clients to also guide their swap fallback language adherence, and worked to revise all credit documents being issued by Old Second National Bank (the “Bank”) for new loans to ensure appropriate fallback language is included.  We discontinued the use of LIBOR as a reference rate for all consumer loans issued after July 31, 2021, and all commercial loans issued after December 31, 2021, with certain exceptions for those loans that were in the process of funding at the end of 2021. The Company’s systems were updated to handle multiple SOFR-based indexes and we have planned accordingly for the transition of existing LIBOR exposures as the final LIBOR cessation date was June 30, 2023.

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Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

ASU 2022-01 On March 28, 2022, the FASB issued ASU 2022-01 “Derivatives and Hedging (Topic 815): Fair Value Hedging – Portfolio Layer Method.”  The goal of this new hedging standard is to better align the economic results of risk management activities with hedge accounting, by allowing multiple layers of a single closed portfolio to be hedged, as compared to the single-layer, or last of layer method, allowed with the adoption of ASU 2017-12.  ASU 2022-01 is effective for public business entities for fiscal years beginning after December 15, 2022, and interim periods within those fiscal years, and was adopted by the Company as of January 1, 2023.  There was no material impact of the pronouncement to the financial statements of the Company.

ASU 2022-02 – On March 31, 2022, the FASB issued ASU 2022-02 “Financial Instruments-Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures.” The amendments eliminate certain troubled debt restructuring (“TDR”) recognition and measurement guidance previously in effect, and consideration of the TDRs similar to other modified loans under CECL is now required.  ASU 2022-02 also requires enhancements to vintage loan disclosures, requiring detail be provided on current-period gross write-offs and disclosure of the amortized cost basis of financing receivables by credit quality indicators and by loan portfolio class of the gross charge-off based on year of origination.  ASU 2022-02 was effective for fiscal years beginning after December 15, 2022, including interim periods within those years, and was adopted prospectively by the Company as of January 1, 2023.  There was no material impact of the pronouncement to the financial statements of the Company.

Change in Significant Accounting Policies

Significant accounting policies are presented in Note 1 to the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.  These policies, along with the disclosures presented in the other financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the consolidated financial statements and how those values are determined.  During the second quarter of 2023, the Company had no changes to significant accounting policies or estimates.

Subsequent Events

On July 18, 2023, our Board of Directors declared a cash dividend of $0.05 per share payable on August 7, 2023, to stockholders of record as of July 28, 2023; dividends of $2.2 million are scheduled to be paid to stockholders on August 7, 2023.

Note 2 – Acquisition

On December 1, 2021, the Company completed its acquisition of West Suburban Bancorp, Inc. (“West Suburban”), a bank holding company, and its wholly owned subsidiary, West Suburban Bank, based in Lombard, Illinois, with operations throughout our existing market footprint.  At closing, the Company acquired $2.94 billion of assets, $1.50 billion of loans, $1.07 billion of securities, and $2.69 billion of deposits, net of fair value adjustments. Under the terms of the merger agreement, each outstanding share of West Suburban common stock was exchanged for 42.413 shares of Company common stock, plus $271.15 of cash. This resulted in merger consideration of $295.2 million, based on the closing price of the Company’s common stock on the date of acquisition, which consisted of 15.7 million shares of the Company’s common stock and $100.7 million of cash.  Goodwill of $67.9 million associated with the acquisition was recorded by the Company, which was the result of expected synergies, operational efficiencies and other factors.  The acquisition of West Suburban was accounted for as a business combination, and none of the $67.9 million of goodwill recorded is expected to be deductible for income tax purposes.

Note 3 – Securities

Investment Portfolio Management

Our investment portfolio serves the liquidity needs and income objectives of the Company.  While the portfolio serves as an important component of the overall liquidity management at the Bank, portions of the portfolio also serve as income producing assets.  The size and composition of the portfolio reflects liquidity needs, loan demand and interest income objectives.  Portfolio size and composition will be adjusted from time to time.  While a significant portion of the portfolio consists of readily marketable securities to address liquidity, other parts of the portfolio may reflect funds invested pending future loan demand or to maximize interest income without undue interest rate risk.

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Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Investments are comprised of debt securities and non-marketable equity investments.  Securities available-for-sale are carried at fair value.  Unrealized gains and losses, net of tax, on securities available-for-sale are reported as a separate component of equity.  This balance sheet component changes as interest rates and market conditions change.  Unrealized gains and losses are not included in the calculation of regulatory capital.  

Federal Home Loan Bank of Chicago (“FHLBC”) and Federal Reserve Bank of Chicago (“FRBC”) stock are considered nonmarketable equity investments.  FHLBC stock was recorded at $21.8 million at June 30, 2023, and $5.6 million at December 31, 2022.  FRBC stock was recorded at $14.9 million at June 30, 2023 and December 31, 2022.  

The following tables summarize the amortized cost and fair value of the securities portfolio at June 30, 2023, and December 31, 2022, and the corresponding amounts of gross unrealized gains and losses:

Gross

Gross

Amortized

Unrealized

Unrealized

Fair

June 30, 2023

    

Cost1

    

Gains

    

Losses

Value

Securities available-for-sale

U.S. Treasury

$

224,337

$

-

$

(9,724)

$

214,613

U.S. government agencies

60,593

-

(4,612)

55,981

U.S. government agencies mortgage-backed

129,973

-

(14,833)

115,140

States and political subdivisions

241,764

557

(12,787)

229,534

Corporate bonds

5,000

-

(118)

4,882

Collateralized mortgage obligations

468,029

-

(60,534)

407,495

Asset-backed securities

140,791

-

(6,472)

134,319

Collateralized loan obligations

177,523

-

(3,865)

173,658

Total securities available-for-sale

$

1,448,010

$

557

$

(112,945)

$

1,335,622

Gross

Gross

Amortized

Unrealized

Unrealized

Fair

December 31, 2022

    

Cost1

    

Gains

    

Losses

Value

Securities available-for-sale

U.S. Treasury

$

224,054

$

-

$

(11,925)

$

212,129

U.S. government agencies

61,178

-

(5,130)

56,048

U.S. government agencies mortgage-backed

140,588

-

(15,598)

124,990

States and political subdivisions

239,999

363

(14,234)

226,128

Corporate bonds

10,000

-

(378)

9,622

Collateralized mortgage obligations

596,336

1

(62,569)

533,768

Asset-backed securities

210,388

6

(8,466)

201,928

Collateralized loan obligations

180,276

-

(5,530)

174,746

Total securities available-for-sale

$

1,662,819

$

370

$

(123,830)

$

1,539,359

1 Excludes accrued interest receivable of $6.9 million and $6.8 million at June 30, 2023 and December 31, 2022, respectively, that is recorded in other assets on the consolidated balance sheets.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The fair value, amortized cost and weighted average yield of debt securities at June 30, 2023, by contractual maturity, are listed in the table below.  Securities not due at a single maturity date are shown separately.

Weighted

Amortized

Average

Fair

Securities available-for-sale

    

Cost

    

Yield

    

Value

  

Due in one year or less

$

153,576

0.93

%

$

149,066

Due after one year through five years

151,098

1.19

140,669

Due after five years through ten years

52,232

3.03

48,401

Due after ten years

174,788

3.07

166,874

531,694

1.91

505,010

Mortgage-backed and collateralized mortgage obligations

598,002

2.29

522,635

Asset-backed securities

140,791

5.15

134,319

Collateralized loan obligations

177,523

6.92

173,658

Total securities available-for-sale

$

1,448,010

3.00

%

$

1,335,622

At June 30, 2023, the Company had no securities issued from any one originator, other than the U.S. Government and its agencies, which individually amounted to over 10% of the Company’s stockholders’ equity.

Securities with unrealized losses with no corresponding allowance for credit losses at June 30, 2023 and December 31, 2022, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows (in thousands except for number of securities):

Less than 12 months

12 months or more

June 30, 2023

in an unrealized loss position

in an unrealized loss position

Total

Number of

Unrealized

Fair

Number of

Unrealized

Fair

Number of

Unrealized

Fair

Securities available-for-sale

    

Securities

   

Losses

   

Value

   

Securities

   

Losses

   

Value

   

Securities

   

Losses

   

Value

U.S. Treasuries

-

$

-

$

-

5

$

9,724

$

214,613

5

$

9,724

$

214,613

U.S. government agencies

-

-

-

9

4,612

55,981

9

4,612

55,981

U.S. government agencies mortgage-backed

3

177

2,188

127

14,656

112,952

130

14,833

115,140

States and political subdivisions

31

1,178

92,606

26

11,609

83,930

57

12,787

176,536

Corporate bonds

-

-

-

1

118

4,882

1

118

4,882

Collateralized mortgage obligations

3

381

7,817

149

60,153

399,678

152

60,534

407,495

Asset-backed securities

4

536

29,088

27

5,936

105,231

31

6,472

134,319

Collateralized loan obligations

1

8

2,970

33

3,857

170,688

34

3,865

173,658

Total securities available-for-sale

42

$

2,280

$

134,669

377

$

110,665

$

1,147,955

419

$

112,945

$

1,282,624

Less than 12 months

12 months or more

December 31, 2022

in an unrealized loss position

in an unrealized loss position

Total

Number of

Unrealized

Fair

Number of

Unrealized

Fair

Number of

Unrealized

Fair

Securities available-for-sale

    

Securities

   

Losses

   

Value

   

Securities

   

Losses

   

Value

   

Securities

   

Losses

   

Value

U.S. Treasuries

1

$

1,025

$

24,121

4

$

10,900

$

188,008

5

$

11,925

$

212,129

U.S. government agencies

-

-

-

9

5,130

56,048

9

5,130

56,048

U.S. government agencies mortgage-backed

15

975

11,369

117

14,623

113,621

132

15,598

124,990

States and political subdivisions

45

5,800

128,770

15

8,434

48,877

60

14,234

177,647

Corporate bonds

-

-

-

2

378

9,622

2

378

9,622

Collateralized mortgage obligations

80

12,895

180,624

120

49,674

348,880

200

62,569

529,504

Asset-backed securities

30

3,030

121,915

21

5,436

79,659

51

8,466

201,574

Collateralized loan obligations

23

3,579

112,772

11

1,951

61,974

34

5,530

174,746

Total securities available-for-sale

194

$

27,304

$

579,571

299

$

96,526

$

906,689

493

$

123,830

$

1,486,260

Each quarter, we perform an analysis to determine if any of the unrealized losses on securities available-for-sale are comprised of credit losses as compared to unrealized losses due to market interest rate adjustments.  Our assessment includes a review of the unrealized loss for each security issuance held; the financial condition and near-term prospects of the issuer, including external credit ratings and recent downgrades; and our ability and intent to hold the security for a period of time sufficient for a recovery in value.  We also consider the extent to which the securities are issued by the federal government or its agencies, and any guarantee of issued amounts by those agencies.  

12

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The portfolio continues to consist of a mix of fixed and floating-rate, high quality securities, largely rated AA (or better), displaying an overall effective duration of approximately 3.0 years.  No credit losses were determined to be present as of June 30, 2023, as there was no credit quality deterioration noted.  Therefore, no provision for credit losses on securities was recognized for the second quarter of 2023.

The following table presents net realized losses on securities available-for-sale for three and six months ended:

Three Months Ended

Six Months Ended

June 30, 

June 30, 

Securities available-for-sale

    

2023

    

2022

    

2023

    

2022

    

Proceeds from sales of securities

$

73,996

$

3,303

$

140,166

$

3,303

Gross realized losses on securities

 

(1,547)

 

(33)

 

(3,222)

 

(33)

Net realized losses

$

(1,547)

$

(33)

$

(3,222)

$

(33)

Income tax benefit on net realized losses

$

434

$

9

$

905

$

9

Effective tax rate applied

28.1

%

27.3

%

28.1

%

27.3

%

As of June 30, 2023, securities valued at $938.5 million were pledged for borrowings, and for other purposes, an increase from $547.8 million of securities pledged at year-end 2022.  

Note 4 – Loans and Allowance for Credit Losses on Loans

Major segments of loans were as follows:

    

June 30, 2023

    

December 31, 2022

Commercial 1

$

820,027

$

840,964

Leases

314,919

277,385

Commercial real estate – investor

1,080,073

987,635

Commercial real estate – owner occupied

824,277

854,879

Construction

189,058

180,535

Residential real estate – investor

55,935

57,353

Residential real estate – owner occupied

218,205

219,718

Multifamily

383,184

323,691

HELOC

102,058

109,202

Other 2

27,789

18,247

Total loans

4,015,525

3,869,609

Allowance for credit losses on loans

(55,314)

(49,480)

Net loans 3

$

3,960,211

$

3,820,129

1 Includes $1.2 million and $1.6 million of Paycheck Protection Program (“PPP”) loans at June 30, 2023 and December 31, 2022, respectively.

2 The “Other” segment includes consumer loans and overdrafts in this table and in subsequent tables within Note 4 – Loans and Allowance for Credit Losses on Loans.

3 Excludes accrued interest receivable of $17.8 million and $15.9 million at June 30, 2023 and December 31, 2022, respectively, that is recorded in other assets on the consolidated balance sheets.

It is the policy of the Company to review each prospective credit prior to making a loan in order to determine if an adequate level of security or collateral has been obtained.  The type of collateral, when required, will vary from liquid assets to real estate.  The Company seeks to assure access to collateral, in the event of borrower default, through adherence to lending laws, the Company’s lending standards and credit monitoring procedures.  Although the Bank makes loans primarily within its market area, there are no significant concentrations

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

of loans where the customers’ ability to honor loan terms is dependent upon a single economic sector.  The real estate related categories listed above represent 71.0% and 70.6% of the portfolio at June 30, 2023, and December 31, 2022, respectively, and include a mix of owner occupied and non-owner occupied commercial real estate, residential, construction and multifamily loans.  

The following tables represent the activity in the allowance for credit losses for loans, or the ACL, for the three and six months ended June 30, 2023 and 2022:

Provision for

Beginning

(Release of)

Ending

Allowance for credit losses

   

Balance

   

Credit Losses

   

Charge-offs

   

Recoveries

   

Balance

Three months ended June 30, 2023

Commercial

$

11,511

$

319

$

380

$

82

$

11,532

Leases

2,766

(83)

-

7

2,690

Commercial real estate – investor

15,260

4,822

71

20

20,031

Commercial real estate – owner occupied

15,576

(2,816)

201

3

12,562

Construction

1,045

134

-

-

1,179

Residential real estate – investor

746

(8)

-

5

743

Residential real estate – owner occupied

1,722

110

-

36

1,868

Multifamily

2,665

72

-

-

2,737

HELOC

1,788

(118)

-

24

1,694

Other

313

(5)

81

51

278

Total

$

53,392

$

2,427

$

733

$

228

$

55,314

Provision for

Beginning

(Release of)

Ending

Allowance for credit losses

   

Balance

   

Credit Losses

   

Charge-offs

   

Recoveries

   

Balance

Six months ended June 30, 2023

Commercial

$

11,968

$

(262)

$

407

$

233

$

11,532

Leases

2,865

691

882

16

2,690

Commercial real estate – investor

10,674

9,391

71

37

20,031

Commercial real estate – owner occupied

15,001

(2,243)

201

5

12,562

Construction

1,546

(367)

-

-

1,179

Residential real estate – investor

768

(49)

-

24

743

Residential real estate – owner occupied

2,046

(224)

-

46

1,868

Multifamily

2,453

284

-

-

2,737

HELOC

1,806

(165)

-

53

1,694

Other

353

23

194

96

278

Total

$

49,480

$

7,079

$

1,755

$

510

$

55,314

Provision for

Beginning

(Release of)

Ending

Allowance for credit losses

   

Balance

   

Credit Losses

   

Charge-offs

   

Recoveries

   

Balance

Three months ended June 30, 2022

Commercial

$

12,576

$

1,582

$

52

$

8

$

14,114

Leases

2,573

(837)

-

-

1,736

Commercial real estate – investor

10,690

(1,029)

243

18

9,436

Commercial real estate – owner occupied

8,139

3,332

-

7

11,478

Construction

2,858

(1,323)

-

-

1,535

Residential real estate – investor

703

(47)

-

5

661

Residential real estate – owner occupied

1,950

(103)

-

22

1,869

Multifamily

2,977

(543)

-

-

2,434

HELOC

1,675

(164)

-

31

1,542

Other

167

462

91

45

583

Total

$

44,308

$

1,330

$

386

$

136

$

45,388

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Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Provision for

Allowance for credit losses

Beginning

(Release of)

Ending

Six months ended June 30, 2022

   

Balance

   

Credit Losses

   

Charge-offs

   

Recoveries

   

Balance

Commercial

$

11,751

$

2,407

$

82

$

38

$

14,114

Leases

3,480

(1,744)

-

-

1,736

Commercial real estate – investor

10,795

(920)

480

41

9,436

Commercial real estate – owner occupied

4,913

6,671

121

15

11,478

Construction

3,373

(1,838)

-

-

1,535

Residential real estate – investor

760

(114)

-

15

661

Residential real estate – owner occupied

2,832

(1,068)

-

105

1,869

Multifamily

3,675

(1,241)

-

-

2,434

HELOC

2,510

(1,035)

-

67

1,542

Other

192

532

217

76

583

Total

$

44,281

$

1,650

$

900

$

357

$

45,388

At June 30, 2023, our allowance for credit losses (“ACL”) on loans totaled $55.3 million, and our ACL on unfunded commitments, included in other liabilities, totaled $3.1 million including related purchase accounting adjustments.  During the first six months of 2023, we recorded net provision expense of $5.5 million based on historical loss rate updates driven by higher charge offs in commercial real estate-investor, loan growth in the reserve of approximately $247.3 million, risk rating migration including an increased reserve on loans individually analyzed, and our assessment of estimated future credit losses. The ACL on loans excludes $2.7 million, $4.3 million and $3.4 million of allowance for unfunded commitments as of June 30, 2023, December 31, 2022 and June 30, 2022, respectively, recorded within Other Liabilities.  The total ACL on unfunded commitments listed as of June 30, 2023, December 31, 2022, and June 30, 2022 excludes the purchase accounting adjustment of $372,000, $819,000 and $1.3 million, respectively, recorded due to our acquisition of West Suburban, which is also recorded within Other Liabilities, and is being accreted in interest income over the estimated life of the unused commitments.

The following tables presents the collateral dependent loans and the related ACL allocated by segment of loans as of June 30, 2023 and December 31, 2022:

Accounts

ACL

June 30, 2023

Real Estate

Receivable

Equipment

Other

Total

Allocation

Commercial

$

859

$

91

$

-

$

-

$

950

$

20

Leases

-

-

637

-

637

637

Commercial real estate – investor

31,464

-

-

-

31,464

9,159

Commercial real estate – owner occupied

17,691

-

-

-

17,691

4,586

Construction

116

-

-

-

116

-

Residential real estate – investor

38

-

-

-

38

-

Residential real estate – owner occupied

1,486

-

-

-

1,486

-

Multifamily

591

-

-

-

591

-

HELOC

39

-

-

-

39

33

Total

$

52,284

$

91

$

637

$

-

$

53,012

$

14,435

Accounts

ACL

December 31, 2022

Real Estate

Receivable

Equipment

Other

Total

Allocation

Commercial

$

883

$

5,915

$

-

$

364

$

7,162

$

569

Leases

-

-

1,248

-

1,248

1,248

Commercial real estate – investor

16,576

-

-

-

16,576

2,875

Commercial real estate – owner occupied

19,188

-

-

2,310

21,498

5,808

Residential real estate – investor

675

-

-

-

675

-

Residential real estate – owner occupied

1,817

-

-

-

1,817

244

Multifamily

1,322

-

-

-

1,322

-

HELOC

180

-

-

-

180

-

Total

$

40,641

$

5,915

$

1,248

$

2,674

$

50,478

$

10,744

15

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Aged analysis of past due loans by segments of loans was as follows:

90 days or

90 Days or

Greater Past

30-59 Days

60-89 Days

Greater Past

Total Past

Due and

June 30, 2023

Past Due

    

Past Due

    

Due

    

Due

    

Current

    

Total Loans

    

Accruing

Commercial

$

-

$

879

$

91

$

970

$

819,057

$

820,027

$

-

Leases

453

37

-

490

314,429

314,919

-

Commercial real estate – investor

132

21

26,579

26,732

1,053,341

1,080,073

149

Commercial real estate – owner occupied

1,120

2,037

4,317

7,474

816,803

824,277

-

Construction

-

-

116

116

188,942

189,058

-

Residential real estate – investor

447

460

292

1,199

54,736

55,935

-

Residential real estate – owner occupied

179

731

2,248

3,158

215,047

218,205

-

Multifamily

6,386

326

-

6,712

376,472

383,184

-

HELOC

549

11

231

791

101,267

102,058

159

Other

1

2

-

3

27,786

27,789

-

Total

$

9,267

$

4,504

$

33,874

$

47,645

$

3,967,880

$

4,015,525

$

308

90 days or

90 Days or

Greater Past

30-59 Days

60-89 Days

Greater Past

Total Past

Due and

December 31, 2022

Past Due

    

Past Due

    

Due

    

Due

    

Current

    

Total Loans

    

Accruing

Commercial

$

3

$

1,012

$

825

$

1,840

$

839,124

$

840,964

$

460

Leases

447

22

614

1,083

276,302

277,385

-

Commercial real estate – investor

3,276

1,276

4,315

8,867

978,768

987,635

-

Commercial real estate – owner occupied

373

113

2,211

2,697

852,182

854,879

173

Construction

14

-

116

130

180,405

180,535

-

Residential real estate – investor

445

-

987

1,432

55,921

57,353

144

Residential real estate – owner occupied

1,191

-

2,232

3,423

216,295

219,718

485

Multifamily

267

361

1,322

1,950

321,741

323,691

-

HELOC

291

90

392

773

108,429

109,202

-

Other

19

-

-

19

18,228

18,247

-

Total

$

6,326

$

2,874

$

13,014

$

22,214

$

3,847,395

$

3,869,609

$

1,262

The table presents all nonaccrual loans as of June 30, 2023, and December 31, 2022:

Nonaccrual loan detail

    

June 30, 2023

    

With no ACL

    

December 31, 2022

    

With no ACL

Commercial

$

1,544

$

1,453

$

7,189

$

6,598

Leases

758

121

1,876

-

Commercial real estate – investor

31,464

12,368

4,346

4,244

Commercial real estate – owner occupied

18,857

4,329

8,050

3,813

Construction

116

116

251

-

Residential real estate – investor

1,445

1,445

1,528

675

Residential real estate – owner occupied

3,660

3,027

3,713

1,572

Multifamily

1,191

1,191

2,538

1,322

HELOC

1,890

1,890

2,109

180

Other

-

-

2

-

Total

$

60,925

$

25,940

$

31,602

$

18,404

The Company recognized $29,000 of interest on nonaccrual loans during the three months ended June 30, 2023.

Credit Quality Indicators

The Company categorizes loans into credit risk categories based on current financial information, overall debt service coverage, comparison to industry averages, historical payment experience, and current economic trends.  This analysis includes loans with outstanding balances or commitments greater than $50,000 and excludes homogeneous loans such as home equity lines of credit and

16

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

residential mortgages.  Loans with a classified risk rating are reviewed quarterly regardless of size or loan type.  The Company uses the following definitions for classified risk ratings:

Special Mention.  Loans classified as special mention have a potential weakness that deserves management’s close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.  They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.  The substandard credit quality indicator includes both potential problem loans that are currently performing and nonperforming loans.

Doubtful.  Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Credits that are not covered by the definitions above are pass credits, which are not considered to be adversely rated.

17

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Credit quality indicators by loan segment and loan origination date at June 30, 2023 were as follows:

  

2023

  

2022

  

2021

  

2020

  

2019

  

Prior

  

Revolving
Loans

  

Revolving
Loans
Converted
To Term
Loans

  

Total

Commercial

Pass

$

127,530

$

226,048

$

45,876

$

16,103

$

9,914

$

5,986

$

335,806

$

1,379

$

768,642

Special Mention

-

-

260

-

43

-

28,837

-

29,140

Substandard

-

3,010

1,432

2,815

11,354

-

3,634

-

22,245

Total commercial

127,530

229,058

47,568

18,918

21,311

5,986

368,277

1,379

820,027

Leases

Pass

86,364

138,055

$

53,672

20,558

12,036

3,260

-

-

313,945

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

-

637

-

-

337

-

-

-

974

Total leases

86,364

138,692

53,672

20,558

12,373

3,260

-

-

314,919

Commercial real estate – investor

Pass

175,445

363,460

213,303

112,372

60,729

71,447

7,982

-

1,004,738

Special Mention

-

12,885

-

5,409

-

-

-

-

18,294

Substandard

351

17,681

1,947

5,033

10,597

9,119

12,313

-

57,041

Total commercial real estate – investor

175,796

394,026

215,250

122,814

71,326

80,566

20,295

-

1,080,073

Commercial real estate – owner occupied

Pass

94,424

145,156

185,929

83,503

57,794

111,532

33,885

-

712,223

Special Mention

-

13,538

22,245

35,427

226

2,123

-

-

73,559

Substandard

-

2,494

15,333

1,164

18,943

561

-

-

38,495

Total commercial real estate – owner occupied

94,424

161,188

223,507

120,094

76,963

114,216

33,885

-

824,277

Construction

Pass

10,078

73,533

56,855

25,249

1,865

1,216

2,144

-

170,940

Special Mention

307

7,574

-

10,121

-

-

-

-

18,002

Substandard

-

-

-

-

116

-

-

-

116

Total construction

10,385

81,107

56,855

35,370

1,981

1,216

2,144

-

189,058

Residential real estate – investor

Pass

2,101

14,624

9,201

6,702

8,029

11,616

1,880

-

54,153

Special Mention

-

-

68

-

-

-

-

-

68

Substandard

-

591

-

-

421

702

-

-

1,714

Total residential real estate – investor

2,101

15,215

9,269

6,702

8,450

12,318

1,880

-

55,935

Residential real estate – owner occupied

Pass

9,856

42,915

42,368

27,072

15,462

76,144

728

-

214,545

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

-

125

-

92

696

2,747

-

-

3,660

Total residential real estate – owner occupied

9,856

43,040

42,368

27,164

16,158

78,891

728

-

218,205

Multifamily

Pass

51,855

81,441

117,460

68,474

12,666

43,224

343

-

375,463

Special Mention

-

373

3,596

337

1,675

549

-

-

6,530

Substandard

-

924

-

-

-

267

-

-

1,191

Total multifamily

51,855

82,738

121,056

68,811

14,341

44,040

343

-

383,184

HELOC

Pass

1,057

2,810

229

1,462

1,648

2,393

90,307

-

99,906

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

41

28

1

-

-

209

1,873

-

2,152

Total HELOC

1,098

2,838

230

1,462

1,648

2,602

92,180

-

102,058

Other

Pass

4,463

2,405

1,577

267

91

103

18,883

27,789

Special Mention

-

-

-

-

-

-

-

-

Substandard

-

-

-

-

-

-

-

-

Total other

4,463

2,405

1,577

267

91

103

18,883

-

27,789

Total loans

Pass

563,173

1,090,447

726,470

361,762

180,234

326,921

491,958

1,379

3,742,344

Special Mention

307

34,370

26,169

51,294

1,944

2,672

28,837

-

145,593

Substandard

392

25,490

18,713

9,104

42,464

13,605

17,820

-

127,588

Total loans

$

563,872

$

1,150,307

$

771,352

$

422,160

$

224,642

$

343,198

$

538,615

$

1,379

$

4,015,525

18

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Credit quality indicators by loan segment and loan origination date at December 31, 2022, were as follows:

  

2022

  

2021

  

2020

  

2019

  

2018

  

Prior

  

Revolving
Loans

  

Revolving
Loans
Converted
To Term
Loans

  

Total

Commercial

Pass

$

225,056

$

70,608

$

21,597

$

12,742

$

6,957

$

2,651

$

447,821

$

-

$

787,432

Special Mention

1,875

272

1,182

2,432

-

-

21,286

-

27,047

Substandard

4,958

2,447

2,981

12,176

7

-

3,916

-

26,485

Total commercial

231,889

73,327

25,760

27,350

6,964

2,651

473,023

-

840,964

Leases

Pass

161,379

64,203

$

26,995

17,653

4,449

830

-

-

275,509

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

1,606

-

-

270

-

-

-

-

1,876

Total leases

162,985

64,203

26,995

17,923

4,449

830

-

-

277,385

Commercial real estate – investor

Pass

416,094

228,686

118,491

63,845

46,935

46,406

7,113

-

927,570

Special Mention

5,349

1,417

5,490

10,206

1,070

9,123

-

-

32,655

Substandard

12,332

2,018

-

10,763

-

2,297

-

-

27,410

Total commercial real estate – investor

433,775

232,121

123,981

84,814

48,005

57,826

7,113

-

987,635

Commercial real estate – owner occupied

Pass

169,703

223,731

105,669

47,351

49,367

86,660

33,745

-

716,226

Special Mention

8,430

22,242

48,184

17,668

231

1,008

-

-

97,763

Substandard

2,546

17,129

1,191

16,962

-

3,062

-

-

40,890

Total commercial real estate – owner occupied

180,679

263,102

155,044

81,981

49,598

90,730

33,745

-

854,879

Construction

Pass

53,058

65,758

39,542

2,390

226

1,408

1,523

-

163,905

Special Mention

-

-

15,297

-

-

-

-

-

15,297

Substandard

1,217

-

-

116

-

-

-

-

1,333

Total construction

54,275

65,758

54,839

2,506

226

1,408

1,523

-

180,535

Residential real estate – investor

Pass

14,737

9,910

6,945

8,585

4,853

9,548

991

-

55,569

Special Mention

-

70

-

-

-

-

-

-

70

Substandard

621

-

-

499

186

408

-

-

1,714

Total residential real estate – investor

15,358

9,980

6,945

9,084

5,039

9,956

991

-

57,353

Residential real estate – owner occupied

Pass

41,885

44,884

28,418

16,146

12,152

70,741

1,638

-

215,864

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

131

267

237

723

131

2,365

-

-

3,854

Total residential real estate – owner occupied

42,016

45,151

28,655

16,869

12,283

73,106

1,638

-

219,718

Multifamily

Pass

76,877

126,257

52,262

13,125

39,703

6,098

329

-

314,651

Special Mention

377

3,683

342

1,684

-

-

-

-

6,086

Substandard

2,100

-

-

-

587

267

-

-

2,954

Total multifamily

79,354

129,940

52,604

14,809

40,290

6,365

329

-

323,691

HELOC

Pass

2,760

517

1,497

1,703

657

2,288

97,258

-

106,680

Special Mention

-

-

-

-

-

-

111

-

111

Substandard

62

1

-

-

67

309

1,972

-

2,411

Total HELOC

2,822

518

1,497

1,703

724

2,597

99,341

-

109,202

Other

Pass

4,195

2,835

432

167

69

111

10,436

-

18,245

Special Mention

-

-

-

-

-

-

-

-

-

Substandard

-

-

1

-

-

-

1

-

2

Total other

4,195

2,835

433

167

69

111

10,437

-

18,247

Total loans

Pass

1,165,744

837,389

401,848

183,707

165,368

226,741

600,854

-

3,581,651

Special Mention

16,031

27,684

70,495

31,990

1,301

10,131

21,397

-

179,029

Substandard

25,573

21,862

4,410

41,509

978

8,708

5,889

-

108,929

Total loans

$

1,207,348

$

886,935

$

476,753

$

257,206

$

167,647

$

245,580

$

628,140

$

-

$

3,869,609

19

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The gross charge-offs activity by loan type and year of origination at June 30, 2023 were as follows:

Current period gross charge-offs

  

2023

  

2022

  

2021

  

2020

  

2019

  

Prior

  

Revolving
Loans

  

Revolving
Loans
Converted To Term
Loans

  

Total

Commercial

$

-

$

-

$

-

$

364

$

-

$

43

$

-

$

-

$

407

Leases

-

870

-

-

12

-

-

-

882

Commercial real estate – investor

-

-

71

-

-

-

-

-

71

Commercial real estate – owner occupied

-

22

179

-

-

-

-

-

201

Construction

-

-

-

-

-

-

-

-

-

Residential real estate – investor

-

-

-

-

-

-

-

-

-

Residential real estate – owner occupied

-

-

-

-

-

-

-

-

-

Multifamily

-

-

-

-

-

-

-

-

-

HELOC

-

-

-

-

-

-

-

-

-

Other

-

3

24

8

-

159

-

-

194

Total

$

-

$

895

$

274

$

372

$

12

$

202

-

-

$

1,755

The Company had $215,000 and $600,000 in residential real estate loans in the process of foreclosure as of June 30, 2023 and December 31, 2022, respectively.  

As of January 1, 2023, the Company prospectively adopted ASU 2022-02, Topic 326 “Troubled Debt Restructuring (“TDRs”) and Vintage Disclosures”, see Note 1. Eleven loans, $32.7 million in aggregate, were modified and were experiencing financial difficulty during the six-month period ending June 30, 2023.  There were two TDR loan modifications for an aggregate of $41,000 for the three months ended June 30, 2022 and three TDR loan modifications for an aggregate of $1.1 million for the six months ended June 30, 2022.  TDRs were classified as being in default on a case-by-case basis when they failed to be in compliance with the modified terms.  There were no financial difficulty loans modified in payment default as of June 30, 2023 and was no TDR default activity for the period ended June 30, 2022, for loans that were restructured within the prior 12-month period.

The following table presents the amortized costs basis of loans at June 30, 2023 that were both experiencing financial difficulty and  modified during the period ended June 30, 2023 by class and by type of modification.  The percentage of the amortized cost basis of loans that were modified to borrowers in financial distress as compared to amortized costs basis of each class of financing receivable is also presented below.

June 30, 2023

Term Extension

Combination - Term Extension and Interest Rate Reduction

Combination - Term Extension and Payment Delay

Total Loans Modified

% of Total Loan Segment Modified to Total Loan Segment

Commercial

$

859

$

979

$

-

$

1,838

0.2%

Commercial real estate – investor

12,664

-

1,774

14,438

1.3%

Commercial real estate – owner occupied

16,318

-

-

16,318

2.0%

HELOC

60

-

-

60

0.1%

Total

$

29,901

$

979

$

1,774

$

32,654

0.8%

20

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The Company closely monitors the performance of loan modifications to borrowers experiencing financial difficulty. The following table presents the performance of loans that have been modified as of June 30, 2023.

June 30, 2023

30-59 days past due

60-89 Days Past Due

90 Days or Greater Past Due

Total Past Due

Current

Total Loan Modified

Commercial

$

-

$

-

$

-

$

-

$

1,838

$

1,838

Commercial real estate – investor

-

-

1,774

1,774

12,664

14,438

Commercial real estate – owner occupied

-

-

-

-

16,318

16,318

HELOC

-

-

-

-

60

60

Total

$

-

$

-

$

1,774

$

1,774

$

30,880

$

32,654

The following table summarizes the financial effect of the loan modifications presented above to borrowers experiencing financial difficulty for the period ended June 30, 2023. The Company had one Commercial real estate – investor loan that had a payment modification, change to a single payment at maturity.

June 30, 2023

Weighted-Average Term Extension (In Months)

Weighted-Average Interest Rate Change

Weighted-Average Delay of Payment (In Months)

Commercial

4.90

5.00

%

-

Commercial real estate – investor

11.50

-

7.00

Commercial real estate – owner occupied

12.00

-

-

HELOC

24.00

-

-

Total

11.40

5.00

%

7.00

Note 5 – Deposits

Major classifications of deposits were as follows:

    

June 30, 2023

    

December 31, 2022

  

Noninterest bearing demand

$

1,897,694

$

2,051,702

Savings

1,050,453

1,145,592

NOW accounts

586,121

609,338

Money market accounts

731,459

862,170

Certificates of deposit of less than $100,000

240,848

244,017

Certificates of deposit of $100,000 through $250,000

148,070

157,438

Certificates of deposit of more than $250,000

62,937

40,466

Total deposits

$

4,717,582

$

5,110,723

21

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Note 6 – Borrowings

The following table is a summary of borrowings as of June 30, 2023 and December 31, 2022.  Junior subordinated debentures are discussed in more detail in Note 7.

    

June 30, 2023

    

December 31, 2022

  

Securities sold under repurchase agreements

$

31,532

$

32,156

Other short-term borrowings

485,000

90,000

Junior subordinated debentures1

25,773

25,773

Subordinated debentures

59,339

59,297

Senior notes

-

44,585

Notes payable and other borrowings

-

9,000

Total borrowings

$

601,644

$

260,811

1 See Note 7: Junior Subordinated Debentures

The Company enters into deposit sweep transactions where the transaction amounts are secured by pledged securities.  These transactions consistently mature overnight from the transaction date and are governed by sweep repurchase agreements.  All sweep repurchase agreements are treated as financings secured by U.S. government agencies and collateralized mortgage-backed securities, and had a carrying amount of $31.5 million at June 30, 2023, and $32.2 million at December 31, 2022.  The fair value of the pledged collateral was $65.0 million at June 30, 2023, and $71.4 million at December 31, 2022.  At June 30, 2023, there were no customers with secured balances exceeding 10% of stockholders’ equity.

The Company’s borrowings at the FHLBC require the Bank to be a member and invest in the stock of the FHLBC.  Total borrowings are generally limited to the lower of 35% of total assets or 60% of the book value of certain mortgage loans.  As of June 30, 2023, the Bank had $485.0 million in short-term advances outstanding under the FHLBC.  There were $90.0 million in short-term advances as of December 31, 2022. The Bank assumed $23.4 million of long-term FHLBC advances with our ABC Bank acquisition in 2018, which were recorded in notes payable and other borrowings.  The remaining balance of $5.9 million was paid off in full during the second quarter of 2022.  FHLBC stock held at June 30, 2023 was valued at $21.8 million, and any potential FHLBC advances were collateralized by loans and securities with a principal balance of $1.48 billion, which carried a FHLBC-calculated combined collateral value of $1.04 billion.  The Company had excess collateral of $551.3 million available to secure borrowings at June 30, 2023.

In the second quarter of 2021, we issued $60.0 million in aggregate principal amount of our 3.50% Fixed-to-Floating Rate Subordinated Notes due April 15, 2031 (the “Notes”). The Notes were offered and sold to eligible purchasers in a private offering in reliance on the exemption from the registration requirements of Section 4(a)(2) of the Securities Act of 1933, as amended and the provisions of Regulation D promulgated thereunder. The Company used the net proceeds from the offering for general corporate purposes.  The Notes bear interest at a fixed annual rate of 3.50%, from and including the date of issuance to but excluding April 15, 2026, payable semi-annually in arrears.  From and including April 15, 2026 to, but excluding the maturity date or early redemption date, the interest rate will reset quarterly to an interest rate per annum equal to Three-Month Term SOFR (as defined by the Note) plus 273 basis points, payable quarterly in arrears. As of June 30, 2023 and December 31, 2022, we had $59.3 million of subordinated debentures outstanding, net of deferred issuance costs.

The Company issued senior notes in December 2016 with a ten-year maturity, and terms included interest payable semiannually at 5.75% for five years.  Beginning December 31, 2021, the senior debt began to pay interest at a floating rate, with interest payable quarterly at three month LIBOR plus 385 basis points. The interest rate at June 30, 2023 and December 31, 2022 was 9.39% and 8.62%, respectively. The notes were redeemable, in whole or in part, at the option of the Company, beginning with the interest payment date on December 31, 2021, and on any floating rate interest payment date thereafter, at a redemption price equal to 100% of the principal amount of the notes plus accrued and unpaid interest.  On June 30, 2023, we redeemed all of the $45.0 million senior notes.  Upon redemption, the related deferred debt issuance costs of $362,000 was also recorded as interest expense, resulting in an effective cost of this debt issuance of 12.85% for the second quarter of 2023.

On February 24, 2020, the Company originated a $20.0 million three-year term note with a correspondent bank. The term note was issued at one-month LIBOR plus 175 basis points, and required principal payments quarterly and interest payments monthly.  This note was

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

included within Notes Payable and Other Borrowings on the Consolidated Balance Sheets, and the remaining $9.0 million balance of the note was paid off on February 24, 2023.  The Company also has an undrawn line of credit of $30.0 million with a correspondent bank to be used for short-term funding needs; advances under this line can be outstanding up to 360 days from the date of issuance.  This line of credit has not been utilized since early 2019.

Note 7 – Junior Subordinated Debentures

The Company issued $25.0 million of cumulative trust preferred securities through a private placement completed by an unconsolidated subsidiary, Old Second Capital Trust II, in April 2007.  These trust preferred securities mature in 30 years, but subject to regulatory approval, can be called in whole or in part on a quarterly basis commencing June 15, 2017.  The quarterly cash distributions on the securities were fixed at 6.77% through June 15, 2017, and now have a floating rate of 150 basis points over three-month LIBOR.  Upon conversion to a floating rate, a cash flow hedge was initiated which resulted in the total interest rate paid on the debt of 4.37% and 4.42% for the quarters ended June 30, 2023 and June 30, 2022, respectively.  The Company issued a new $25.8 million subordinated debenture to Old Second Capital Trust II in return for the aggregate net proceeds of this trust preferred offering.  The interest rate and payment frequency on the debenture are equivalent to the cash distribution basis on the trust preferred securities.  

The junior subordinated debentures issued by the Company are disclosed on the Consolidated Balance Sheets, and the related interest expense for each issuance is included in the Consolidated Statements of Income.  As of June 30, 2023 and December 31, 2022, the remaining unamortized debt issuance costs related to the junior subordinated debentures were $1,000 and are included as a reduction to the balance of the junior subordinated debentures on the Consolidated Balance Sheets.  The remaining deferred issuance costs on the junior subordinated debentures related to the issuance of Old Second Capital Trust II will be amortized to interest expense over the remainder of the 30-year term of the notes and are included in the Consolidated Statements of Income.

Note 8 – Equity Compensation Plans

Stock-based awards are outstanding under the Company’s 2019 Equity Incentive Plan, as amended and restated (the “2019 Plan”).  The 2019 Plan was originally approved at the May 2019 annual stockholders’ meeting and authorized 600,000 shares, and at the May 2021 annual stockholders’ meeting, the Company obtained stockholder approval to increase the number of shares of common stock authorized for issuance under the 2019 Plan by 1,200,000 shares, from 600,000 shares to 1,800,000 shares.  Following the approval of the 2019 Plan, no further awards will be granted under any other prior plan.  

The 2019 Plan authorizes the granting of qualified stock options, non-qualified stock options, restricted stock, restricted stock units, and stock appreciation rights (“SARs”).  Awards may be granted to selected directors, officers, employees or eligible service providers under the 2019 Plan at the discretion of the Compensation Committee of the Company’s Board of Directors.  As of June 30, 2023, 967,600 shares remained available for issuance under the 2019 Plan.  The Company has granted only restricted stock units under the 2019 Equity Plan.

Generally, restricted stock units granted under the 2019 Plan vest three years from the grant date, but the Compensation Committee of the Company’s Board of Directors has discretionary authority to change the terms of particular awards including the vesting schedule.

Under the 2019 Plan, unless otherwise provided in an award agreement, upon the occurrence of a change in control, all equity awards then held by the participant will become fully exercisable immediately if, and all stock awards and cash incentive awards will become fully earned and vested immediately if, (i) the 2019 Plan is not an obligation of the successor entity following a change in control or (ii) the 2019 Plan is an obligation of the successor entity following a change in control and the participant incurs a termination of service without cause or for good reason following the change in control.  Notwithstanding the immediately preceding sentence, if the vesting of an award is conditioned upon the achievement of performance measures, then such vesting will generally be subject to the following: if, at the time of the change in control, the performance measures are less than 50% attained (pro rata based upon the time of the period through the change in control), the award will become vested and exercisable on a fractional basis with the numerator being equal to the percentage of attainment and the denominator being 50%; and if, at the time of the change in control, the performance measures are at least 50% attained (pro rata based upon the time of the period through the change in control), the award will become fully earned and vested immediately upon the change in control.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Awards of restricted stock units under the 2019 Plan generally entitle holders to voting and dividend rights upon grant and are subject to forfeiture until certain restrictions have lapsed including employment for a specific period.  Awards of restricted stock units under the 2019 Plan are also subject to forfeiture until certain restrictions have lapsed including employment for a specific period, but do not entitle holders to voting rights until the restricted period ends and shares are transferred in connection with the units.

There were 238,149 and 264,589 restricted stock units issued under the 2019 Plan during the six months ended June 30, 2023 and June 30, 2022, respectively.  Compensation expense is recognized over the vesting period of the restricted stock units based on the market value of the award on the issue date.  Total compensation cost that has been recorded for the 2019 Plan was $1.8 million for the six months ended June 30, 2023 and $1.5 million for the six months ended June 30, 2022.

A summary of changes in the Company’s unvested restricted awards for the six months ended June 30, 2023, is as follows:

June 30, 2023

Weighted

Restricted

Average

Stock Shares

Grant Date

    

and Units

    

Fair Value

Unvested at January 1

649,210

$

12.84

Granted

238,149

17.05

Vested

(117,674)

12.26

Forfeited

(5,079)

13.55

Unvested at June 30

764,606

$

14.23

Total unrecognized compensation cost of restricted awards was $6.1 million as of June 30, 2023, which is expected to be recognized over a weighted-average period of 2.06 years.  

Note 9 – Earnings Per Share

The earnings per share, both basic and diluted, are as follows:

Three Months Ended June 30, 

Six Months Ended June 30, 

    

2023

    

2022

    

2023

    

2022

    

Basic earnings per share:

Weighted-average common shares outstanding

44,665,127

44,499,395

44,642,250

44,480,326

Net income

$

25,562

$

12,247

$

49,169

$

24,267

Basic earnings per share

$

0.57

$

0.28

$

1.10

$

0.55

Diluted earnings per share:

Weighted-average common shares outstanding

44,665,127

44,499,395

44,642,250

44,480,326

Dilutive effect of unvested restricted awards 1

759,291

747,341

728,556

724,134

Diluted average common shares outstanding

45,424,418

45,246,736

45,370,806

45,204,460

Net Income

$

25,562

$

12,247

$

49,169

$

24,267

Diluted earnings per share

$

0.56

$

0.27

$

1.08

$

0.54

1 Includes the common stock equivalents for restricted share rights that are dilutive.

24

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Note 10 Regulatory & Capital Matters

The Bank is subject to the risk-based capital regulatory guidelines, which include the methodology for calculating the risk-weighted Bank assets, developed by the Office of the Comptroller of the Currency (the “OCC”) and the other bank regulatory agencies.  In connection with the current risk-based capital regulatory guidelines, the Bank’s Board of Directors has established an internal guideline requiring the Bank to maintain a Tier 1 leverage capital ratio at or above eight percent (8%) and a total risk-based capital ratio at or above twelve percent (12%).  At June 30, 2023, the Bank exceeded those thresholds.

At June 30, 2023, the Bank’s Tier 1 capital leverage ratio was 9.70%, an increase of 38 basis points from December 31, 2022, and is above the 8.00% objective.  The Bank’s total capital ratio was 12.83%, an increase of 8 basis points from December 31, 2022, and also above the objective of 12.00%.

Bank holding companies are generally required to maintain minimum levels of capital in accordance with capital guidelines implemented by the Board of Governors of the Federal Reserve System.  The general bank and holding company capital adequacy guidelines are shown in the accompanying table, as are the capital ratios of the Company and the Bank, as of June 30, 2023 and December 31, 2022.

The Basel III Rules are applicable to all banking organizations that are subject to minimum capital requirements, including federal and state banks and savings and loan associations, as well as to bank and savings and loan holding companies, other than “small bank holding companies”, which are generally holding companies with consolidated assets of less than $3.0 billion.  A detailed discussion of the Basel III Rules is included in Part I, Item 1 of the Company’s Form 10-K for the year ended December 31, 2022, under the heading “Supervision and Regulation.”

At June 30, 2023 and December 31, 2022, the Company, on a consolidated basis, exceeded the minimum thresholds to be considered “well capitalized” under current regulatory defined capital ratios.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Capital levels and industry defined regulatory minimum required levels are as follows:

Minimum Capital

Well Capitalized

Adequacy with Capital

Under Prompt Corrective

Actual

Conservation Buffer, if applicable1

Action Provisions2

    

Amount

    

Ratio

    

Amount

    

Ratio

    

Amount

    

Ratio

June 30, 2023

Common equity tier 1 capital to risk weighted assets

Consolidated

$

503,459

10.29

%

$

342,489

7.00

%

N/A

N/A

Old Second Bank

571,923

11.70

342,176

7.00

$

317,735

6.50

%

Total capital to risk weighted assets

Consolidated

643,871

13.16

513,727

10.50

N/A

N/A

Old Second Bank

627,335

12.83

513,407

10.50

488,959

10.00

Tier 1 capital to risk weighted assets

Consolidated

528,459

10.80

415,917

8.50

N/A

N/A

Old Second Bank

571,923

11.70

415,500

8.50

391,058

8.00

Tier 1 capital to average assets

Consolidated

528,459

8.96

235,919

4.00

N/A

N/A

Old Second Bank

571,923

9.70

235,845

4.00

294,806

5.00

December 31, 2022

Common equity tier 1 capital to risk weighted assets

Consolidated

$

457,206

9.67

%

$

330,966

7.00

%

N/A

N/A

Old Second Bank

552,404

11.70

330,498

7.00

$

306,891

6.50

%

Total capital to risk weighted assets

Consolidated

592,039

12.52

496,518

10.50

N/A

N/A

Old Second Bank

602,237

12.75

495,960

10.50

472,343

10.00

Tier 1 capital to risk weighted assets

Consolidated

482,206

10.20

401,838

8.50

N/A

N/A

Old Second Bank

552,404

11.70

401,319

8.50

377,712

8.00

Tier 1 capital to average assets

Consolidated

482,206

8.14

236,956

4.00

N/A

N/A

Old Second Bank

552,404

9.32

237,083

4.00

296,354

5.00

1 Amounts are shown inclusive of a capital conservation buffer of 2.50%.

2 The prompt corrective action provisions are only applicable at the Bank level. The Bank exceeded the general minimum regulatory requirements to be considered “well capitalized.”

As part of its response to the impact of the COVID-19 pandemic, in the first quarter of 2020, U.S. federal regulatory authorities issued an interim final rule that provided banking organizations that adopted CECL during the 2020 calendar year with the option to delay for two years the estimated impact of CECL on regulatory capital relative to regulatory capital determined under the prior incurred loss methodology, followed by a three-year transition period to phase out the aggregate amount of the capital benefit provided during the initial two-year delay (i.e., a five-year transition in total). In connection with our adoption of CECL on January 1, 2020, we elected to utilize the five-year CECL transition.  As of June 30, 2023, the capital measures of the Company exclude $1.9 million, which is the modified CECL transition adjustment.

26

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Dividend Restrictions

In addition to the above requirements, banking regulations and capital guidelines generally limit the amount of dividends that may be paid by a bank without prior regulatory approval.  Under these regulations, the amount of dividends that may be paid in any calendar year is limited to the current year’s profits, combined with the retained profit of the previous two years, subject to the capital requirements described above.  As of June 30, 2023, the Bank had capacity to pay dividends of $39.5 million to the Company without prior regulatory approval.  Pursuant to the Basel III rules, the Bank must keep a capital conservation buffer of 2.50% above the regulatory minimum capital requirements, which must consist entirely of Common Equity Tier 1 capital in order to avoid additional limitations on capital distributions and certain other payments.

Note 11 Fair Value Measurements

Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  The fair value hierarchy established by the Company also requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  Three levels of inputs that may be used to measure fair value are:

Level 1:  Quoted prices (unadjusted) for identical assets or liabilities in active markets that the Company has the ability to access as of the measurement date.

Level 2:  Significant observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, and other inputs that are observable or can be corroborated by observable market data.

Level 3:  Significant unobservable inputs that reflect a company’s own view about the assumptions that market participants would use in pricing an asset or liability.

During the six-month period ended June 30, 2023, $14.9 million of asset-backed securities and $6.8 million of collateralized mortgage obligations were transferred to Level 2 from Level 3. There were no transfers between levels at June 30, 2022.

The majority of securities available-for-sale are valued by external pricing services or dealer market participants and are classified in Level 2 of the fair value hierarchy.  Both market and income valuation approaches are utilized.  Quarterly, the Company evaluates the methodologies used by the external pricing services or dealer market participants to develop the fair values to determine whether the results of the valuations are representative of an exit price in the Company’s principal markets and an appropriate representation of fair value.  The Company uses the following methods and significant assumptions to estimate fair value:

Government-sponsored agency debt securities are primarily priced using available market information through processes such as benchmark spreads, market valuations of like securities, like securities groupings and matrix pricing.
Other government-sponsored agency securities, MBS and some of the actively traded real estate mortgage investment conduits and collateralized mortgage obligations are priced using available market information including benchmark yields, prepayment speeds, spreads, volatility of similar securities and trade date.
State and political subdivisions are largely grouped by characteristics (e.g., geographical data and source of revenue in trade dissemination systems).  Because some securities are not traded daily and due to other grouping limitations, active market quotes are often obtained using benchmarking for like securities.
Auction rate securities are priced using market spreads, cash flows, prepayment speeds, and loss analytics.  Therefore, the valuations of auction rate asset-backed securities are considered Level 2 valuations.
Asset-backed collateralized loan obligations were priced using data from a pricing matrix supported by our bond accounting service provider and are therefore considered Level 2 valuations.
Annually every security holding is priced by a pricing service independent of the regular and recurring pricing services used.  The independent service provides a measurement to indicate if the price assigned by the regular service is within or outside of a reasonable range.  Management reviews this report and applies judgment in adjusting calculations at year end related to securities pricing.

27

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Residential mortgage loans available for sale in the secondary market are carried at fair market value.  The fair value of loans held-for-sale is determined using quoted secondary market prices.
Lending related commitments to fund certain residential mortgage loans, e.g., residential mortgage loans with locked interest rates to be sold in the secondary market and forward commitments for the future delivery of mortgage loans to third party investors, as well as forward commitments for future delivery of MBS are considered derivatives.  Fair values are estimated based on observable changes in mortgage interest rates including prices for MBS from the date of the commitment and do not typically involve significant judgments by management.
The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income.  The valuation model incorporates assumptions that market participants would use in estimating future net servicing income to derive the resultant value.  The Company is able to compare the valuation model inputs, such as the discount rate, prepayment speeds, weighted average delinquency and foreclosure/bankruptcy rates to widely available published industry data for reasonableness.
Interest rate swap positions, both assets and liabilities, are based on valuation pricing models using an income approach reflecting readily observable market parameters such as interest rate yield curves.
The fair value of individually evaluated loans with specific allocations of the allowance for credit losses is essentially based on recent real estate appraisals or the fair value of the collateralized asset.  These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach.  Adjustments are made in the appraisal process by the appraisers to reflect differences between the available comparable sales and income data.  Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.
Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned (“OREO”) are measured at fair value, less costs to sell.  Fair values are based on third party appraisals of the property, resulting in a Level 3 classification, or an executed pending sales contract.  In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized.

Assets and Liabilities Measured at Fair Value on a Recurring Basis:

The tables below present the balance of assets and liabilities at June 30, 2023 and December 31, 2022, respectively, measured by the Company at fair value on a recurring basis:

June 30, 2023

    

Level 1

    

Level 2

    

Level 3

    

Total

Assets:

Securities available-for-sale

U.S. Treasury

$

214,613

$

-

$

-

$

214,613

U.S. government agencies

-

55,981

-

55,981

U.S. government agencies mortgage-backed

-

115,140

-

115,140

States and political subdivisions

-

214,596

14,938

229,534

Corporate bonds

-

4,882

-

4,882

Collateralized mortgage obligations

-

407,495

-

407,495

Asset-backed securities

-

134,319

-

134,319

Collateralized loan obligations

-

173,658

-

173,658

Loans held-for-sale

-

1,218

-

1,218

Mortgage servicing rights

-

-

11,041

11,041

Interest rate swap agreements, including risk participation agreement

-

6,560

-

6,560

Mortgage banking derivatives

-

77

-

77

Total

$

214,613

$

1,113,926

$

25,979

$

1,354,518

Liabilities:

Interest rate swap agreements, including risk participation agreements

$

-

$

13,740

$

-

$

13,740

Total

$

-

$

13,740

$

-

$

13,740

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

December 31, 2022

    

Level 1

    

Level 2

    

Level 3

    

Total

Assets:

Securities available-for-sale

U.S. Treasury

$

212,129

$

-

$

-

$

212,129

U.S. government agencies

-

56,048

-

56,048

U.S. government agencies mortgage-backed

-

124,990

-

124,990

States and political subdivisions

-

211,899

14,229

226,128

Corporate bonds

-

9,622

-

9,622

Collateralized mortgage obligations

-

526,998

6,770

533,768

Asset-backed securities

-

186,916

15,012

201,928

Collateralized loan obligations

-

174,746

-

174,746

Loans held-for-sale

-

491

-

491

Mortgage servicing rights

-

-

11,189

11,189

Interest rate swap agreements

-

6,516

-

6,516

Mortgage banking derivatives

-

76

-

76

Total

$

212,129

$

1,298,302

$

47,200

$

1,557,631

Liabilities:

Interest rate swap agreements, including risk participation agreements

$

-

$

12,265

$

-

$

12,265

Total

$

-

$

12,265

$

-

$

12,265

The changes in Level 3 assets and liabilities measured at fair value on a recurring basis are as follows:

Six Months Ended June 30, 2023

Securities available-for-sale

Collateralized

States and

Mortgage

Asset-backed

Mortgage

Political

Servicing

   

Securities

Obligations

Subdivisions

   

Rights

Beginning balance January 1, 2023

$

15,012

$

6,770

$

14,229

$

11,189

Transfers out of Level 3

(14,885)

(6,764)

-

-

Total gains or losses

Included in earnings

(11)

-

(66)

6,155

Included in other comprehensive income

226

(6)

622

-

Purchases, issuances, sales, and settlements

Purchases

-

-

406

-

Issuances

-

-

-

281

Settlements

(342)

-

(253)

(6,584)

Ending balance June 30, 2023

$

-

$

-

$

14,938

$

11,041

29

Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Six Months Ended June 30, 2022

Securities available-for-sale

States and

Mortgage

Political

Servicing

    

Subdivisions

    

Rights

    

Beginning balance January 1, 2022

$

15,236

$

7,097

Total gains or losses

Included in earnings

(65)

3,630

Included in other comprehensive income

(1,562)

-

Purchases, issuances, sales, and settlements

Issuances

-

565

Settlements

(521)

(570)

Ending balance June 30, 2022

$

13,088

$

10,722

The following table and commentary present quantitative and qualitative information about Level 3 fair value measurements as of June 30, 2023:

Weighted

Measured at fair value

Significant Unobservable

Average

on a recurring basis:

   

Fair Value

   

Valuation Methodology

   

Inputs

   

Range of Input

   

of Inputs

States and political subdivisions

$

14,938

Discounted Cash Flow

Discount Rate

3.15.2%

4.5

%

Liquidity Premium

0.30.5%

0.5

%

Mortgage servicing rights

$

11,041

Discounted Cash Flow

Discount Rate

9.011.0%

9.0

%

Prepayment Speed

3.022.3%

6.3

%

The following table and commentary present quantitative and qualitative information about Level 3 fair value measurements as December 31, 2022:

Weighted

Measured at fair value

Significant Unobservable

Average

on a recurring basis:

   

Fair Value

   

Valuation Methodology

   

Inputs

   

Range of Input

   

of Inputs

States and political subdivisions

$

14,229

Discounted Cash Flow

Discount Rate

2.35.8%

4.4

%

Liquidity Premium

0.30.5%

0.5

%

Collateralized mortgage obligations

$

6,770

Discounted Cash Flow

Discount Rate

7.07.0%

7.0

%

Asset-backed securities

$

15,012

Discounted Cash Flow

Discount Rate

6.26.5%

6.3

%

Mortgage servicing rights

$

11,189

Discounted Cash Flow

Discount Rate

9.011.0%

9.0

%

Prepayment Speed

3.627.3%

6.2

%

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis:

The Company may be required, from time to time, to measure certain other assets at fair value on a nonrecurring basis in accordance with GAAP.  These assets consist of individually evaluated loans and OREO.  For assets measured at fair value on a nonrecurring basis at

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

June 30, 2023 and December 31, 2022, respectively, the following tables provide the level of valuation assumptions used to determine each valuation and the carrying value of the related assets:

June 30, 2023

    

Level 1

    

Level 2

    

Level 3

    

Total

Individually evaluated loans1

$

-

$

-

$

56,361

$

56,361

Other real estate owned, net2

-

-

761

761

Total

$

-

$

-

$

57,122

$

57,122

1 Represents carrying value and related write-downs of loans for which adjustments are substantially based on the appraised value of collateral for collateral-dependent loans, which had a carrying amount of $81.1 million and a valuation allowance of $24.7 million resulting in an increase of specific allocations within the allowance for credit losses on loans of $7.1 million for the six months ended June 30, 2023.

2 OREO is measured at fair value, less costs to sell, and had a net carrying amount of $761,000 at June 30, 2023, which is made up of the outstanding balance of $1.0 million, net of a purchase accounting adjustment of $130,000 and a valuation allowance of $114,000.

December 31, 2022

    

Level 1

    

Level 2

    

Level 3

    

Total

Individually evaluated loans1

$

-

$

-

$

47,700

$

47,700

Other real estate owned, net2

-

-

1,561

1,561

Total

$

-

$

-

$

49,261

$

49,261

1 Represents carrying value and related write-downs of loans for which adjustments are substantially based on the appraised value of collateral for collateral-dependent loans, which had a carrying amount of $65.3 million and a valuation allowance of $17.6 million resulting in an increase of specific allocations within the allowance for credit losses on loans of $12.2 million for the year December 31, 2022.

2 OREO is measured at fair value, less costs to sell, and had a net carrying amount of $1.6 million at December 31, 2022, which is made up of the outstanding balance of $2.5 million, net of a purchase accounting adjustment of $131,000 and a valuation allowance of $856,000.

The Company has estimated the fair values of these assets based primarily on Level 3 inputs.  OREO and individually evaluated loans are generally valued using the fair value of collateral provided by third party appraisals.  These valuations include assumptions related to cash flow projections, discount rates, and recent comparable sales.  The numerical ranges of unobservable inputs for these valuation assumptions are not meaningful.

Note 12 – Fair Values of Financial Instruments

The estimated fair values approximate carrying amount for all items except those described in the following table.  Securities available-for-sale fair values are based upon market prices or dealer quotes, and if no such information is available, on the rate and term of the security.  The carrying value of FHLBC stock approximates fair value as the stock is nonmarketable and can only be sold to the FHLBC or another member institution at par.  FHLBC stock is carried at cost and considered a Level 2 fair value. For June 30, 2023 and December 31, 2022, the fair values of loans are estimated on an exit price basis incorporating discounts for credit, liquidity and marketability factors.  The fair value of time deposits was estimated using discounted future cash flows at current rates offered for deposits of similar remaining maturities.  The fair values of borrowings were estimated based on interest rates available to the Company for debt with similar terms and remaining maturities.  The fair value of off balance sheet volume was not considered material.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The carrying amount and estimated fair values of financial instruments were as follows:

June 30, 2023

Carrying

Fair

    

Amount

    

Value

    

Level 1

    

Level 2

    

Level 3

Financial assets:

Cash and due from banks

$

59,466

$

59,466

$

59,466

$

-

$

-

Interest earning deposits with financial institutions

53,144

53,144

53,144

-

-

Securities available-for-sale

1,335,622

1,335,622

214,613

1,106,071

14,938

FHLBC and FRBC stock

36,730

36,730

-

36,730

-

Loans held-for-sale

1,218

1,218

-

1,218

-

Net loans

3,960,211

3,833,624

-

-

3,833,624

Mortgage servicing rights

11,041

11,041

11,041

Interest rate swap agreements

6,452

6,452

-

6,452

-

Interest rate lock commitments and forward contracts

77

77

-

77

-

Interest receivable on securities and loans

24,708

24,708

-

24,708

-

Financial liabilities:

Noninterest bearing deposits

$

1,897,694

$

1,897,694

$

1,897,694

$

-

$

-

Interest bearing deposits

2,819,888

2,805,372

-

2,805,372

-

Securities sold under repurchase agreements

31,532

31,532

-

31,532

-

Other short-term borrowings

485,000

485,000

-

485,000

-

Junior subordinated debentures

25,773

19,588

-

19,588

-

Subordinated debentures

59,339

47,339

-

47,339

-

Senior notes

-

-

-

-

-

Note payable and other borrowings

-

-

-

-

-

Interest rate swap agreements

13,740

13,740

-

13,740

-

Interest payable on deposits and borrowings

1,950

1,950

-

1,950

-

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

December 31, 2022

Carrying

Fair

    

Amount

    

Value

    

Level 1

    

Level 2

    

Level 3

Financial assets:

Cash and due from banks

$

56,632

$

56,632

$

56,632

$

-

$

-

Interest earning deposits with financial institutions

58,545

58,545

58,545

-

-

Securities available-for-sale

1,539,359

1,539,359

212,129

1,291,219

36,011

FHLBC and FRBC stock

20,530

20,530

-

20,530

-

Loans held-for-sale

491

491

-

491

-

Net loans

3,820,129

3,681,387

-

-

3,681,387

Mortgage servicing rights

11,189

11,189

-

-

11,189

Interest rate swap agreements

6,391

6,391

-

6,391

-

Interest rate lock commitments and forward contracts

76

76

-

76

-

Interest receivable on securities and loans

22,661

22,661

-

22,661

-

Financial liabilities:

Noninterest bearing deposits

$

2,051,702

$

2,051,702

$

2,051,702

$

-

$

-

Interest bearing deposits

3,059,021

3,042,740

-

3,042,740

-

Securities sold under repurchase agreements

32,156

32,156

-

32,156

-

Other short-term borrowings

90,000

90,000

-

90,000

-

Junior subordinated debentures

25,773

21,907

-

21,907

-

Subordinated debentures

59,297

52,322

-

52,322

-

Senior notes

44,585

44,248

44,248

-

-

Note payable and other borrowings

9,000

8,984

-

8,984

-

Interest rate swap agreements

12,264

12,264

-

12,264

-

Interest payable on deposits and borrowings

1,657

1,657

-

1,657

-

Note 13 – Derivatives, Hedging Activities and Financial Instruments with Off-Balance Sheet Risk

Risk Management Objective of Using Derivatives

The Company is exposed to certain risk arising from both its business operations and economic conditions.  The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of its assets and liabilities and the use of derivative financial instruments.  Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates.  The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts and its known or expected cash payments principally related to the Company’s loan portfolio.  

Cash Flow Hedges of Interest Rate Risk

The Company’s objectives in using interest rate derivatives are to add stability to interest income and expense and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate swaps as part of its interest rate risk management strategy. The aggregate fair value of the swaps are recorded in other assets or other liabilities with changes in fair value recorded in other comprehensive income, net of tax. The amount included in other comprehensive income would be reclassified to current earnings should all or a portion of the hedge no longer be considered effective. For derivatives designated and that qualify as cash flow hedges of interest rate risk, the gain or loss on the derivative is recorded in accumulated other comprehensive income and subsequently reclassified into interest income or interest expense in the same period(s) during which the hedged transaction affects earnings. Amounts

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

reported in accumulated other comprehensive income related to derivatives will be reclassified to interest income or expense as interest payments are received on the variable rate loan pools or paid on the Company’s fixed-rate borrowings.

Interest rate swaps with notional amounts totaling $300.0 million and $250.0 million as of June 30, 2023 and December 31, 2022, respectively, were designated as cash flow hedges of certain variable rate commercial and commercial real estate loan pools. Each of these hedges were executed to pay variable and receive fixed rate cash flows. Each of these hedges was determined to be effective during all periods presented and the Company expects the hedges to remain effective during the remaining terms of the swaps.

An interest rate swap with a notional amount of $25.8 million as of June 30, 2023 and December 31, 2022, is designated as a cash flow hedge of junior subordinated debentures and was executed to pay fixed and receive variable rate cash flows. The hedge was determined to be effective during all periods presented and the Company expects the hedge to remain effective during the remaining terms of the swap.

During the next twelve months, the Company estimates that an additional $6.8 million will be reclassified as an increase to interest income and an additional $688,000 will be reclassified as an increase to interest expense.

Non-designated Hedges

Derivatives not designated as hedges are not speculative and result from a service the Company provides to certain customers. The Company executes interest rate swaps with commercial banking customers to facilitate their respective risk management strategies. The notional amounts of interest rate swaps with its loan customers as of June 30, 2023 and December 31, 2022 were $106.4 million and $110.6 million, respectively. Those interest rate swaps are simultaneously hedged by offsetting derivatives that the Company executes with a third party, such that the Company minimizes its net risk exposure resulting from such transactions. As the interest rate derivatives associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the customer derivatives and the offsetting derivatives are recognized directly in earnings.

At June 30, 2023 and December 31, 2022, the Company had $10.4 million and $11.2 million of cash collateral pledged with two correspondent financial institutions, respectively. The Company held $5.7 million and $5.3 million of cash pledged from one correspondent financial institution to support the interest rate swap activity during the years presented, respectively. No investment securities were required to be pledged to any correspondent financial institution during second quarter of 2023 and in the year of 2022. The Company offsets derivative assets and liabilities that are subject to a master netting arrangement.

The Company also grants mortgage loan interest rate lock commitments to borrowers, subject to normal loan underwriting standards. The interest rate risk associated with these loan interest rate lock commitments is managed with contracts for future deliveries of loans as well as selling forward mortgage-backed securities contracts. Loan interest rate lock commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The notional amount of these commitments at June 30, 2023 and December 31, 2022 were $10.0 million and $5.3 million, respectively. Commitments to originate residential mortgage loans held-for-sale and forward commitments to sell residential mortgage loans or forward MBS contracts are considered derivative instruments and changes in the fair value are recorded to mortgage banking revenue. Fair values are estimated based on observable changes in mortgage interest rates including mortgage-backed securities prices from the date of the commitment.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the Balance Sheets as of June 30, 2023 and December 31, 2022.

Fair Value of Derivative Instruments

June 30, 2023

No. of Trans.

Notional Amount $

Balance Sheet Location

Fair Value $

Balance Sheet Location

Fair Value $

Derivatives designated as hedging instruments

Interest rate swap agreements

5

325,774

Other Assets

2,623

Other Liabilities

9,911

Total derivatives designated as hedging instruments

2,623

9,911

Derivatives not designated as hedging instruments

Interest rate swaps with commercial loan customers

18

106,379

Other Assets

3,829

Other Liabilities

3,829

Interest rate lock commitments and forward contracts

40

10,029

Other Assets

77

Other Liabilities

-

Other contracts

4

43,994

Other Assets

108

Other Liabilities

-

Total derivatives not designated as hedging instruments

4,014

3,829

December 31, 2022

No. of Trans.

Notional Amount $

Balance Sheet Location

Fair Value $

Balance Sheet Location

Fair Value $

Derivatives designated as hedging instruments

Interest rate swap agreements

4

275,774

Other Assets

2,737

Other Liabilities

8,610

Total derivatives designated as hedging instruments

2,737

8,610

Derivatives not designated as hedging instruments

Interest rate swaps with commercial loan customers

21

110,647

Other Assets

3,654

Other Liabilities

3,654

Interest rate lock commitments and forward contracts

28

5,298

Other Assets

76

Other Liabilities

-

Other contracts

4

43,699

Other Assets

125

Other Liabilities

1

Total derivatives not designated as hedging instruments

3,855

3,655

Disclosure of the Effect of Fair Value and Cash Flow Hedge Accounting

The fair value and cash flow hedge accounting related to derivatives covered under ASC Subtopic 815-20 impacted Accumulated Other Comprehensive Income (“AOCI”) and the Income Statement.  The loss recognized in AOCI on derivatives totaled $5.3 million as of June 30, 2023, and $581,000 as of June 30, 2022.  The amount of the loss reclassified from AOCI to interest income on the income statement was $2.4 million for the six months ended June 30, 2023 and $16,000 for the six months ended June 30, 2022, respectively.  

Credit-risk-related Contingent Features

For derivative transactions involving counterparties who are lending customers of the Company, the derivative credit exposure is managed through the normal credit review and monitoring process, which may include collateralization, financial covenants and/or financial guarantees of affiliated parties.  Agreements with such customers require that losses associated with derivative transactions receive payment priority from any funds recovered should a customer default and ultimate disposition of collateral or guarantees occur.

Credit exposure to broker/dealer counterparties is managed through agreements with each derivative counterparty that require collateralization of fair value gains owed by such counterparties.  Some small degree of credit exposure exists due to timing differences between when a gain may occur and the subsequent point in time that collateral is delivered to secure that gain.  This is monitored by the Company and procedures are in place to minimize this exposure.  Such agreements also require the Company to collateralize counterparties in circumstances wherein the fair value of the derivatives result in loss to the Company.

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Table of Contents

Old Second Bancorp, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Dollar amounts in thousands, except per share data, unaudited)

Other provisions of such agreements include the definition of certain events that may lead to the declaration of default and/or the early termination of the derivative transaction(s):

If the Company either defaults or is capable of being declared in default on any of its indebtedness (exclusive of deposit obligations), then the Company could also be declared in default on its derivative obligations.
If a merger occurs that materially changes the Company's creditworthiness in an adverse manner.
If certain specified adverse regulatory actions occur, such as the issuance of a Cease and Desist Order, or citations for actions considered Unsafe and Unsound or that may lead to the termination of deposit insurance coverage by the FDIC.

The Bank also issues letters of credit, which are conditional commitments that guarantee the performance of a customer to a third party.  The credit risk involved and collateral obtained in issuing letters of credit are essentially the same as that involved in extending loan commitments to our customers.  In addition to customer related commitments, the Company is responsible for letters of credit commitments that relate to properties held in OREO.  The following table represents the Company’s contractual commitments due to letters of credit as of June 30, 2023, and December 31, 2022.

The following table is a summary of letter of credit commitments:

June 30, 2023

December 31, 2022

    

Fixed

    

Variable

    

Total

    

Fixed

    

Variable

    

Total

  

Letters of credit:

Borrower:

Financial standby

$

2,116

$

16,370

$

18,486

$

3,514

$

15,365

$

18,879

Performance standby

1,513

12,511

14,024

3,161

13,989

17,150

3,629

28,881

32,510

6,675

29,354

36,029

Non-borrower:

Performance standby

-

67

67

-

67

67

Total letters of credit

$

3,629

$

28,948

$

32,577

$

6,675

$

29,421

$

36,096

Unused loan commitments:

$

139,654

$

765,693

$

905,347

$

139,070

$

860,255

$

999,325

As of June 30, 2023, the Company evaluated current market conditions, including any impacts related to market interest rate changes and unused line of credit utilization trends during the second quarter of 2023, and based on that analysis under the CECL methodology, the Company determined credit losses related to unfunded commitments totaled $2.7 million, excluding a $372,000 purchase accounting adjustment on unfunded commitments recorded from our West Suburban acquisition, which is being accreted to interest income over the estimated life of the unused commitments.  The resultant decrease in the ACL for unfunded commitments of $650,000 for the second quarter of 2023, compared to the prior quarter end, is primarily related to adjustments to historical benchmark assumptions, such as the funding rates and the period used to forecast those rates within the ACL calculation, resulting in a $427,000 reduction, as well as a $223,000 decrease by accretion to interest income of the purchase accounting adjustment.  The Company will continue to assess the credit risk at least quarterly, and adjust the allowance for unfunded commitments, which is carried within other liabilities on our Consolidated Balance Sheets, as needed, with the appropriate offsetting entry to the provision for credit losses on our Consolidated Statements of Income.

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Table of Contents

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

Overview

The following discussion provides additional information regarding our operations for the three and six months ended June 30, 2023, compared to the three and six months ended June 30, 2022, and our financial condition at June 30, 2023, compared to December 31, 2022.  This discussion should be read in conjunction with our consolidated financial statements as well as the financial and statistical data appearing elsewhere in this report and our Form 10-K for the year ended December 31, 2022.  The results of operations for the three and six months ended June 30, 2023, are not necessarily indicative of future results.  Dollar amounts presented in the following tables are in thousands, except per share data, and June 30, 2023 and 2022 amounts are unaudited.

In this report, unless the context suggests otherwise, references to the “Company,” “we,” “us,” and “our” mean the combined business of Old Second Bancorp, Inc. and its subsidiary bank, Old Second National Bank (the “Bank”).

We have made, and will continue to make, various forward-looking statements with respect to financial and business matters. Comments regarding our business that are not historical facts are considered forward-looking statements that involve inherent risks and uncertainties. Actual results may differ materially from those contained in these forward-looking statements. For additional information regarding our cautionary disclosures, see the “Cautionary Note Regarding Forward-Looking Statements” on page 3 of this report.

Business Overview

The Company is a bank holding company headquartered in Aurora, Illinois. Through our wholly-owned subsidiary bank, Old Second National Bank, a national banking organization also headquartered in Aurora, Illinois, we offer a wide range of financial services through our 48 banking centers located in Cook, DeKalb, DuPage, Kane, Kendall, LaSalle and Will counties in Illinois.  These banking centers offer access to a full range of traditional retail and commercial banking services including treasury management operations as well as fiduciary and wealth management services.  We focus our business on establishing and maintaining relationships with our clients while maintaining a commitment to provide for the financial services needs of the communities in which we operate.  We emphasize relationships with individual customers as well as small to medium-sized businesses throughout our market area.  We also have extensive wealth management services, which includes a registered investment advisory platform in addition to trust administration and trust services related to personal and corporate trusts and employee benefit plan administration services.

Our results of operations depend generally on net interest income, which is the difference between interest income from interest-earning assets and interest expense on interest-bearing liabilities. Net interest income is affected by regulatory, economic and competitive factors that influence interest rates, loan demand and deposit flows. In addition, we are subject to interest rate risk to the degree that our interest-earning assets mature or reprice at different times, or at different speeds, than our interest-bearing liabilities. Our results of operations are also affected by non-interest income, such as service charges, wealth management fees, loan fees, gains from the sale of newly originated loans, gains or losses on investments and certain other non-interest related items. Our principal operating expenses, aside from interest expense, consist of compensation and employee benefits, occupancy costs, professional fees, data processing expenses and provision for credit losses.

 

We are significantly impacted by prevailing economic conditions, including federal monetary and fiscal policies, and federal regulations of financial institutions. Deposit balances are influenced by numerous factors such as competing investments, the level of income and the personal rate of savings within our market areas. Factors influencing lending activities include the demand for housing and the interest rate pricing competition from other lending institutions.

As of June 30, 2023, all of our capital ratios were in excess of all regulatory requirements. While we believe that we have sufficient capital to withstand an extended economic recession, our reported and regulatory capital ratios could be adversely impacted by credit losses.

Merger with West Suburban Bancorp, Inc.

On December 1, 2021, we completed our merger with West Suburban Bancorp, Inc. (“West Suburban”), the holding company for West Suburban Bank.  Under the terms of the merger agreement, each share of West Suburban common stock was converted into 42.413 shares of our common stock and $271.15 in cash. Total cash and stock consideration paid was approximately $295.2 million. With the acquisition of West Suburban, we acquired 34 branches in DuPage, Kane, Kendall and Will counties in Illinois. The transaction is discussed in more detail in Note 2 to our Consolidated Financial Statements included in this report and in Note 2 of our Annual Report in Form 10-K.

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Table of Contents

Recent Banking Events

There were three significant bank failures in the first five months of 2023, primarily due to the failed banks’ lack of liquidity as depositors sought to withdraw their deposits. Due to rising interest rates, the failed banks were unable to sell investment securities held to meet liquidity needs without realizing substantial losses. As a result of the bank closures during 2023 and in an effort to strengthen public confidence in the banking system and protect depositors, regulators announced that any losses to the Deposit Insurance Fund to support uninsured depositors will be recovered by a special assessment on banks, as required by law, which could increase the cost of our FDIC insurance assessment. Additionally, the Federal Reserve announced the creation of a new Bank Term Funding Program in an effort to minimize the need for banks to sell securities at a loss in times of stress. We have access but have not received or requested funds from this Program and though we do have access to the Federal Reserve Discount Window we have not accessed these funds and have an unused capacity of $17.4 million at June 30, 2023. The future impact of these failures on the economy, financial institutions and their depositors, as well as any governmental regulatory responses or actions resulting from the same, is difficult to predict at this time.

Financial Overview

Net income for the second quarter of 2023 was $25.6 million, or $0.56 per diluted share, compared to $12.2 million, or $0.27 per diluted share, for the second quarter of 2022. The increase was primarily due to growth in our loan portfolio and higher loan and security yields, which resulted in growth in net interest income, partially offset by lower noninterest income primarily due to losses recognized on securities sold. Also contributing to the increase in net income in the second quarter of 2023, compared to the second quarter of 2022, were reduced acquisition costs, net of gains on branch sales, of $2.1 million incurred in the prior year like quarter, compared to $29,000 of net losses on branch sales in the second quarter of 2023.  Adjusted net income, a non-GAAP financial measure that excludes merger-related costs, net of losses/(gains) on branch sales, was $25.6 million for the second quarter of 2023, compared to $23.4 million for the first quarter of 2023, and $13.8 million for the second quarter of 2022. Adjusted net income, net of losses/(gains) on branch sales, was $49.0 million for the six months ended June 30, 2023, compared to $29.7 million for the six months ended June 30, 2022. See the discussion entitled “Non-GAAP Financial Measures” on page 39, as well as the table below, which provides a reconciliation of this non-GAAP measure to the most comparable GAAP equivalents.

Quarters Ended

Six Months Ended

June 30, 

March 31, 

June 30, 

June 30, 

    

2023

    

2023

2022

    

2023

2022

Net Income

Income before income taxes (GAAP)

$

34,973

$

32,013

$

16,676

$

66,986

$

33,119

Pre-tax income adjustments:

Merger-related costs, net of losses/(gains) on branch sales

29

(306)

2,131

(277)

7,466

Adjusted net income before taxes

35,002

31,707

18,807

66,709

40,585

Taxes on adjusted net income

9,419

8,326

4,995

17,745

10,853

Adjusted net income (non-GAAP)

$

25,583

$

23,381

$

13,812

$

48,964

$

29,732

Basic earnings per share (GAAP)

$

0.57

$

0.53

$

0.28

$

1.10

$

0.55

Diluted earnings per share (GAAP)

0.56

0.52

0.27

1.08

0.54

Adjusted basic earnings per share excluding acquisition-related costs (non-GAAP)

0.58

0.52

0.31

1.10

0.67

Adjusted diluted earnings per share excluding acquisition-related costs (non-GAAP)

0.56

0.52

0.31

1.08

0.66

The following provides an overview of some of the factors impacting our financial performance for the three month period ended June 30, 2023, compared to the like period ended June 30, 2022:

Net interest and dividend income was $63.6 million for the second quarter of 2023, compared to $45.3 million for the second quarter of 2022. Growth in interest and dividend income in the second quarter of 2023 was primarily due to loan growth and higher yields on loans and securities, partially offset by higher funding and borrowing costs.

We recorded a net provision for credit losses of $2.0 million in the second quarter of 2023, driven by a $2.4 million increase in the allowance for credit losses on loans based on historical loss rate updates, loan growth, our assessment of nonperforming loan metrics and trends, and estimated future credit losses, net of a reversal of $427,000 in our allowance for unfunded commitments based on an adjustment of historical benchmark assumptions, such as funding rates and the period used to forecast those rates, within the ACL calculation.  We recorded a net provision for credit loss of $550,000 in the second quarter of 2022.

Noninterest income was $8.2 million for the second quarter of 2023, compared to $9.2 million for the second quarter of 2022.  Contributing to the decrease were security losses of $1.5 million due to strategic sales in the second quarter of 2023 compared

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to security losses of $33,000 in the second quarter of 2022.  These decreases were partially offset by an increase of $620,000 in mortgage banking related income and a $346,000 increase in the cash surrender value of BOLI.

Noninterest expense was $34.8 million for the second quarter of 2023, compared to $37.2 million for the second quarter of 2022, a decrease of $2.4 million, or 6.5%.  Contributing to the decrease was a reduction in computer and data processing and net teller & bill paying expenses in the second quarter of 2023, primarily stemming from acquisition costs incurred in the second quarter of 2022 from our West Suburban acquisition in the fourth quarter of 2021.  We recorded net losses on branch sales of $29,000 in the second quarter of 2023, compared to $2.1 million of acquisition-related cost, net of gains on branch sales, in the second quarter of 2022, primarily within computer and data processing, salaries and employee benefits, and other expense related to the West Suburban acquisition.

We had a provision for income tax expense of $9.4 million for the second quarter of 2023, compared to a provision for income tax expense of $4.4 million for the second quarter of 2022. The effective tax rate was 26.9% and 26.6%, respectively.

Our community-focused banking franchise experienced growth of $145.9 million in total loans in the second quarter of 2023, compared to the year ended December 31, 2022, and an increase of $390.5 million in total loans compared to the second quarter of 2022.  We believe we are positioned for continued loan growth, though likely at a slower pace, as we continue to serve our customers’ needs in a competitive economic environment. We continue to seek to provide value to our customers and the communities in which we operate, by executing on growth opportunities in our local markets and developing new banking relationships, while seeking to ensure the safety and soundness of our Bank, our customers, and our employees.

Nonaccrual loans increased $29.3 million as of June 30, 2023, compared to December 31, 2022, primarily due to a few larger credits that moved from substandard accrual to substandard nonaccrual in the first quarter of 2023 and remain at June 30, 2023, which include two office buildings and one health care facility.  Nonperforming loans as a percent of total loans was 1.5% as of June 30, 2023, compared to 0.9% as of December 31, 2022, and 1.2% as of June 30, 2022.  Classified assets increased to $128.3 million as of June 30, 2023, which is $17.9 million, or 16.2% more than December 31, 2022, and $23.6 million, or 22.5%, more than June 30, 2022.

Critical Accounting Estimates

Our consolidated financial statements are prepared based on the application of accounting policies in accordance with generally accepted accounting principles (“GAAP”) and follow general practices within the banking industry.  These policies require the reliance on estimates and assumptions, which may prove inaccurate or are subject to variations.  These estimates, assumptions, and judgments are based on information available as of the date of the consolidated financial statements.  Future changes in information may affect these estimates, assumptions, and judgments, which, in turn, may affect amounts reported in the consolidated financial statements.  Changes in underlying factors, assumptions, or estimates could have a material impact on our future financial condition and results of operations.  

Of the significant accounting policies used in the preparation of our consolidated financial statements, we have identified certain items as critical accounting policies based on the associated estimates, assumptions, judgments and complexity. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Estimates” in our Annual Report on Form 10-K for the year ended December 31, 2022. There have been no material changes to our critical accounting policies or the estimates made pursuant to those policies during the most recent quarter from those disclosed in our 2022 Annual Report in Form 10-K.

Non-GAAP Financial Measures

This report contains references to financial measures that are not defined in GAAP. Such non-GAAP financial measures include the presentation of net interest income and net interest margin on a tax equivalent (“TE”) basis, adjusted net income, adjusted basic and diluted earnings per share, our adjusted efficiency ratio, and our tangible common equity to tangible assets ratio.  Management believes that the presentation of these non-GAAP financial measures (a) provides important supplemental information that contributes to a proper understanding of our operating performance, (b) enables a more complete understanding of factors and trends affecting our business, and (c) allows investors to evaluate our performance in a manner similar to management, the financial services industry, bank stock analysts, and bank regulators. Management uses non-GAAP measures as follows: in the preparation of our operating budgets, monthly financial performance reporting, and in our presentation of our performance to investors.  However, we acknowledge that these non-GAAP financial measures have a number of limitations. Limitations associated with non-GAAP financial measures include the risk that persons might disagree as to the appropriateness of items comprising these measures and that different companies might calculate these measures differently.  These disclosures should not be considered an alternative to our GAAP results.  A reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measures is presented below or alongside the first instance where each non-GAAP financial measure is used.

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Results of Operations

Overview

Three months ended June 30, 2023 and 2022

Our income before taxes was $35.0 million in the second quarter of 2023 compared to $16.7 million in the second quarter of 2022.  This increase in pretax income was primarily due to a $26.5 million increase in interest and dividend income and a $2.4 million decrease in noninterest expenses. The increase in pretax income was partially offset by an $8.2 million increase in interest expense, a $1.5 million increase in provision for credit losses, and a $988,000 decrease in noninterest income, mainly due to $1.5 million of security losses in the second quarter of 2023. Our net income was $25.6 million, or $0.56 per diluted share, for the second quarter of 2023, compared to net income of $12.2 million, or $0.27 per diluted share, for the second quarter of 2022. The Bank remains well positioned to navigate uncertain macroeconomics; we have mitigated interest rate risk, tightened expenses in a recessionary environment, and actively managed daily liquidity.  Furthermore, we continue to possess strong liquidity metrics and an outsized securities portfolio for funding needs.

Net interest and dividend income was $63.6 million in the second quarter of 2023, compared to $45.3 million in the second quarter of 2022.  The $18.3 million increase was primarily driven by significant growth in our loan portfolio as well as the effect of higher market interest rates on our loan and securities portfolios.  Higher interest and dividend income was partially offset by an increase in interest expense in the second quarter of 2023, compared to the second quarter of 2022, primarily due to a rise in deposit interest rates, an increase in other short-term borrowing expense due to additional FHLB advances, and an increase in the rate paid on our senior notes during the second quarter of 2023, as the senior debt issuance is at LIBOR plus 385 basis points and carried an interest rate of 9.39% at June 30, 2023. As of June 30, 2023, we redeemed the $45.0 million senior debt issuance that was due in 2026, and the related deferred debt issuance costs of $362,000 were also recorded as interest expense, resulting in an effective cost of this debt issuance of 12.85% for the second quarter of 2023.

Six months ended June 30, 2023 and 2022

Our income before taxes was $67.0 million for the six months ended June 30, 2023 compared to $33.1 million for the six months ended June 30, 2022.  This increase in pretax income was primarily due to a $53.3 million increase in interest and dividend income and a $4.7 million decrease in noninterest expenses. These changes were partially offset by a $12.2 million increase in interest expense, a $5.0 million increase in provision for credit losses, and a $7.1 million decrease in noninterest income, mainly due to $3.2 million of security losses recorded in the first six months of 2023 and a $4.2 million decrease in mortgage banking revenues. Our net income was $49.2 million, or $1.08 per diluted share, for the six months ended June 30, 2023, compared to net income of $24.3 million, or $0.54 per diluted share, for the same period of 2022.

Net interest and dividend income was $127.7 million for the six months ended June 30, 2023, compared to $86.5 million for the same period of 2022.  The $41.2 million increase was primarily driven by significant growth in our loan portfolio as well as the effect of higher market interest rates on our loan and securities portfolios.  Higher interest and dividend income was partially offset by an increase in interest expense in the first six months of 2023, compared to the first six months of 2022, primarily due to a rise in deposit interest rates, an increase in other short-term borrowing expense due to FHLB advances, and an increase in the rate paid on our senior notes during the first six months of 2023. The senior notes redeemed on June 30, 2023 had an effective cost of 10.95% for the six months ending June 30, 2023.

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Net Interest Income

Net interest income, which is our primary source of earnings, is the difference between interest income earned on interest-earning assets, such as loans and investment securities, as well as accretion income on purchased loans, and interest incurred on interest-bearing liabilities, such as deposits and borrowings.  Net interest income depends upon the relative mix of interest-earning assets and interest-bearing liabilities, the ratio of interest-earning assets to total assets and of interest-bearing liabilities to total funding sources, and movements in market interest rates.  Our net interest income can be significantly influenced by a variety of factors, including overall loan demand, economic conditions, credit risk, the amount of nonearning assets including nonperforming loans and OREO, the amounts of and rates at which assets and liabilities reprice, variances in prepayment of loans and securities, early withdrawal of deposits, exercise of call options on borrowings or securities, a general rise or decline in interest rates, changes in the slope of the yield-curve, and balance sheet growth or contraction.

Three months ended June 30, 2023 and 2022

The increased yield of 20 basis points on interest earning assets for the quarter ended June 30, 2023, compared to the prior linked period was driven by higher yields on loan originations than those in the previous period as well as repricing within the existing variable rate portfolios for securities available-for-sale and loans. Changes in the market interest rate environment impact earning assets at varying intervals depending on the repricing timeline of loans, as well as the securities maturity, paydown and purchase activities.

The year over year increase of 206 basis points on interest earning assets for the quarters ended June 30, 2023 and 2022 was driven by significant increases to benchmark interest rates as well as strong loan growth throughout the period, specifically within the commercial, leases, and commercial real estate portfolios, as these loan segments generally produce the greatest yield. The increases in benchmark interest rates impacted yields on the securities portfolio through the inverse relationship between interest rates and market value coupled with maturities and strategic sales of lower yielding assets and timely purchases of higher yielding securities, as we work to increase the weighted average yield in the portfolio.

Average balances of interest bearing deposit accounts have decreased steadily since the second quarter of 2022 through the second quarter of 2023, from $3.34 billion to $2.87 billion, with these decreases reflected in all deposit categories. We have continued to control the cost of funds over the periods reflected, with the rate of overall interest bearing deposits increasing to 40 basis points for the quarter ended June 30, 2023, compared to 25 basis points for the quarter ended March 31, 2023, and seven basis points for the quarter ended June 30, 2022. A 25 basis point increase in the cost of money market funds for the quarter ended June 30, 2023, compared to prior linked quarter and a 59 basis point increase compared to the prior year like quarter, were both due to select deposit account exception pricing, and drove a significant portion of the overall increase.  Average rates paid on time deposits for the quarter ended June 30, 2023 also increased by 44 basis points and 83 basis points in the quarter over linked quarter and year over year quarters, respectively, primarily due to CD rate specials we offered.

Borrowing costs increased in the second quarter of 2023, primarily due to the increase in average short term borrowings of $201.7 million stemming from growth in average FHLB advances over the prior linked quarter, and an average increase of $402.5 million in the year over year quarters based on daily liquidity needs. Subordinated and junior subordinated debt interest expense were essentially flat over each of the periods presented. Senior notes had the most significant interest expense increase, as this issuance references three month LIBOR, and rising market interest rates as well as recognition of $362,000 of deferred debt issuance costs upon redemption resulted in a 381 basis point increase to 12.85% for the quarter ended June 30, 2023, from 9.04% for the quarter ended March 31, 2023, and a 764 basis point increase from 5.21% for the quarter ended June 30, 2022. On June 30, 2023 we redeemed the $45.0 million senior notes, net of deferred issuance costs, which were originally due in 2026. In February 2023, we paid off the remaining balance of $9.0 million on the original $20.0 million term note issued in 2020, resulting in notes payable and other borrowings having no balance after that time.

Our net interest margin (GAAP) decreased eleven basis points to 4.61% for the second quarter of 2023, compared to 4.72% for the first quarter of 2023, but increased 145 basis points compared to 3.16% for the second quarter of 2022.  Our net interest margin (TE) decreased 10 basis points to 4.64% for the second quarter of 2023, compared to 4.74% for the first quarter of 2023, but increased 146 basis points compared to 3.18% for the second quarter of 2022.  The decrease in the current quarter, compared to the prior linked quarter, is primarily due to increases in interest expense from FHLB advances and redemption of the senior notes. The increase in the current quarter, compared to the prior year like quarter, is primarily due to an increase in market interest rates, and the related rate resets on loans and securities during the past year, as well as continuing loan growth relative to a more modest increase in costs of interest bearing liabilities. See the discussion entitled “Non-GAAP Presentations” and the table on page 45 that provide a reconciliation of each non-GAAP measure to the most comparable GAAP equivalent.

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Six months ended June 30, 2023 and 2022

The year over year increase of 211 basis points on interest earning assets was driven by significant increases to benchmark interest rates as well as strong loan growth throughout the period specifically within the leases, commercial real estate-investor and multi-family portfolios.  The increases in benchmark interest rates impacted yields on the securities portfolio through the inverse relationship between interest rates and market value coupled with maturities and strategic sales of lower yielding assets and timely purchase of higher yielding securities as we work to increase the weighted average yield in the portfolio.  Average securities available-for-sale decreased $346.1 million for the six months ended June 30, 2023, compared to the six months ended June 30, 2022, due to paydowns, changes in market value, and strategic sales.  Due to market interest rate increases year over year, securities available-for-sale interest income was $24.1 million for the six months ended June 30, 2023, compared to $15.3 million for the like 2022 period.  Average loans, including loans held for sale, increased $529.7 million in the six months ended June 30, 2023, compared to the six months ended June 30, 2022, primarily driven by the growth in commercial, leases, commercial real estate-investor, and multi-family portfolios.  Growth in the loan portfolio, as well as the rising interest rate environment, resulted in $118.8 million of loan interest income in the six months ended June 30, 2023, compared to $74.7 million in the like 2022 period.

Average balances of interest bearing deposit accounts have decreased steadily since June 30, 2022 through the six months ended June 30, 2023 from $3.37 billion to $2.93 billion, with these decreases reflected in all categories. We have continued to control the cost of funds over the periods reflected, with the rate of overall interest bearing deposits increasing by 24 basis points to 32 basis points from eight basis points as of June 30, 2022. A 46 basis point increase in the cost of money market funds as of June 30, 2023, compared to June 30, 2022, was due to select deposit account exception pricing and drove a significant portion of the overall increase.  Interest expense paid on time deposits also contributed to the growth in cost of deposits year over year, as the cost of average time deposits increased 61 basis points to 84 basis points for the six months ended June 30, 2023, compared to 23 basis points for the six months ended June 30,  2022, primarily due to CD rate specials we offered.

Borrowing costs increased in the six months ended June 30, 2023 primarily due to the increase in short term borrowings stemming from average FHLB advance growth of $302.2 million since the six months ended June 30, 2022 based on daily liquidity needs. Subordinated and junior subordinated debt interest expense remained flat over the periods presented. Senior notes interest expense had the most significant interest expense increase, as this issuance references three month LIBOR, and rising market interest rates resulted in a 613 basis point increase to 10.95%, from 4.82% for the six months ended June 30, 2022. Also contributing to the significant basis point increase on senior notes was the $362,000 in deferred issuance costs that were recognized as interest expense due to the early redemption of the debt on June 30, 2023. In the first quarter of 2023, we paid off the remaining balance of $9.0 million on the original $20.0 million term note issued in 2020, recorded within notes payable and other borrowings.

Our net interest margin (GAAP) increased 166 basis points to 4.66% for the six months ended June 30, 2023, compared to 3.00% for the six months ended June 30, 2022.  Our net interest margin (TE) increased 166 basis points to 4.69% for the six months ended June 30, 2023, compared to 3.03% for the six months ended June 30, 2022.  The increase in the current period, compared to the prior year like period, is primarily due to an increase in market interest rates, and the related rate resets on loans and securities during the past year, as well as continuing loan growth relative to a more modest increase in the cost of interest bearing liabilities.

We continue to observe competitive pressure to maintain reduced interest rates on loans retained at renewal.  While our loan prices are targeted to achieve certain returns on equity, significant competition for commercial and industrial loans as well as commercial real estate loans has put pressure on loan yields, and our stringent underwriting standards limit our ability to make higher-yielding loans.

The following tables set forth certain information relating to our average consolidated balance sheets and reflect the yield on average earning assets and cost of average interest bearing liabilities for the periods indicated.  These yields reflect the related interest, on an annualized basis, divided by the average balance of assets or liabilities over the applicable period.  Average balances are derived from daily balances.  For purposes of discussion, net interest income and net interest income to total earning assets in the following tables have been adjusted to a non-GAAP TE basis using a marginal rate of 21% in 2023 and 2022 to compare returns more appropriately on tax-exempt loans and securities to other earning assets.

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Analysis of Average Balances,

Tax Equivalent Income / Expense and Rates

(Dollars in thousands - unaudited)

Quarters Ended

June 30, 2023

March 31, 2023

June 30, 2022

Average

Income /

Rate

Average

Income /

Rate

Average

Income /

Rate

Balance

Expense

%

Balance

Expense

%

Balance

Expense

%

Assets

Interest earning deposits with financial institutions

$

50,309

$

643

5.13

$

49,310

$

585

4.81

$

426,820

$

782

0.73

Securities:

Taxable

1,231,994

9,930

3.23

1,330,295

10,735

3.27

1,610,713

6,786

1.69

Non-taxable (TE)1

172,670

1,692

3.93

173,324

1,693

3.96

181,386

1,642

3.63

Total securities (TE)1

1,404,664

11,622

3.32

1,503,619

12,428

3.35

1,792,099

8,428

1.89

FHLBC and FRBC Stock

34,029

396

4.67

24,905

280

4.56

20,994

263

5.02

Loans and loans held-for-sale1, 2

4,040,202

61,591

6.11

3,932,492

57,228

5.90

3,508,856

38,267

4.37

Total interest earning assets

5,529,204

74,252

5.39

5,510,326

70,521

5.19

5,748,769

47,740

3.33

Cash and due from banks

56,191

-

-

55,140

-

-

53,371

-

-

Allowance for credit losses on loans

(53,480)

-

-

(49,398)

-

-

(44,354)

-

-

Other noninterest bearing assets

379,576

-

-

382,579

-

-

374,309

-

-

Total assets

$

5,911,491

$

5,898,647

$

6,132,095

Liabilities and Stockholders' Equity

NOW accounts

$

600,957

$

312

0.21

$

601,030

$

242

0.16

$

604,937

$

102

0.07

Money market accounts

762,967

1,245

0.65

833,823

828

0.40

1,054,552

155

0.06

Savings accounts

1,073,172

185

0.07

1,126,040

79

0.03

1,213,133

90

0.03

Time deposits

436,524

1,156

1.06

434,655

664

0.62

469,009

265

0.23

Interest bearing deposits

2,873,620

2,898

0.40

2,995,548

1,813

0.25

3,341,631

612

0.07

Securities sold under repurchase agreements

25,575

7

0.11

31,080

9

0.12

34,496

9

0.10

Other short-term borrowings

402,527

5,160

5.14

200,833

2,345

4.74

-

-

-

Junior subordinated debentures

25,773

281

4.37

25,773

279

4.39

25,773

284

4.42

Subordinated debentures

59,329

546

3.69

59,308

546

3.73

59,244

547

3.70

Senior notes

44,134

1,414

12.85

44,599

994

9.04

44,520

578

5.21

Notes payable and other borrowings

-

-

-

5,400

87

6.53

13,103

95

2.91

Total interest bearing liabilities

3,430,958

10,306

1.20

3,362,541

6,073

0.73

3,518,767

2,125

0.24

Noninterest bearing deposits

1,920,448

-

-

2,002,801

-

-

2,119,667

-

-

Other liabilities

48,434

-

-

51,279

-

-

32,636

-

-

Stockholders' equity

511,651

-

-

482,026

-

-

461,025

-

-

Total liabilities and stockholders' equity

$

5,911,491

$

5,898,647

$

6,132,095

Net interest income (GAAP)

$

63,580

$

64,086

$

45,264

Net interest margin (GAAP)

4.61

4.72

3.16

Net interest income (TE)1

$

63,946

$

64,448

$

45,615

Net interest margin (TE)1

4.64

4.74

3.18

Interest bearing liabilities to earning assets

62.05

%

61.02

%

61.21

%

1Represents a non-GAAP financial measure. See the discussion entitled “Reconciliation of Tax-Equivalent Non-GAAP Financial Measures” below that provides a reconciliation of each non-GAAP measure to the most comparable GAAP equivalent. Tax equivalent basis is calculated using a marginal tax rate of 21% in 2023 and 2022.

2 Interest income from loans is shown on a tax equivalent basis, which is a non-GAAP financial measure, as discussed in the table on page 45, and includes loan fee expense of $242,000 for the second quarter of 2023, $730,000 for the first quarter of 2023, and $588,000 for the second quarter of 2022.  Nonaccrual loans are included in the above-stated average balances.

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Analysis of Average Balances,

Tax Equivalent Income / Expense and Rates

(Dollars in thousands - unaudited)

Six Months Ended June 30, 

2023

2022

Average

Income /

Rate

Average

Income /

Rate

Balance

Expense

%

Balance

Expense

%

Assets

Interest earning deposits with financial institutions

$

49,812

$

1,228

4.97

$

530,485

$

1,051

0.40

Securities:

Taxable

1,280,873

20,665

3.25

1,611,669

11,954

1.50

Non-taxable (TE)1

172,995

3,385

3.95

188,275

3,310

3.55

Total securities (TE)1

1,453,868

24,050

3.34

1,799,944

15,264

1.71

Dividends from FHLBC and FRBC

29,492

676

4.62

18,543

416

4.52

Loans and loans held-for-sale 1 , 2

3,986,644

118,819

6.01

3,456,984

74,695

4.36

Total interest earning assets

5,519,816

144,773

5.29

5,805,956

91,426

3.18

Cash and due from banks

55,668

-

-

48,200

-

-

Allowance for credit losses on loans

(51,450)

-

-

(44,348)

-

-

Other noninterest bearing assets

381,070

-

-

372,657

-

-

Total assets

$

5,905,104

$

6,182,465

Liabilities and Stockholders' Equity

NOW accounts

$

600,993

$

555

0.19

$

602,225

$

191

0.06

Money market accounts

798,199

2,073

0.52

1,076,624

325

0.06

Savings accounts

1,099,460

263

0.05

1,207,137

228

0.04

Time deposits

435,595

1,820

0.84

482,157

542

0.23

Interest bearing deposits

2,934,247

4,711

0.32

3,368,143

1,286

0.08

Securities sold under repurchase agreements

28,312

16

0.11

36,837

20

0.11

Other short-term borrowings

302,238

7,505

5.01

-

-

-

Junior subordinated debentures

25,773

560

4.38

25,773

564

4.41

Subordinated debentures

59,318

1,092

3.71

59,233

1,093

3.72

Senior note

44,365

2,408

10.95

44,507

1,063

4.82

Notes payable and other borrowings

2,685

87

6.53

16,040

198

2.49

Total interest bearing liabilities

3,396,938

16,379

0.97

3,550,533

4,224

0.24

Noninterest bearing deposits

1,961,397

-

-

2,106,553

-

-

Other liabilities

49,849

-

-

46,648

-

-

Stockholders' equity

496,920

-

-

478,731

-

-

Total liabilities and stockholders' equity

$

5,905,104

$

6,182,465

Net interest income (GAAP)

$

127,666

$

86,496

Net interest margin (GAAP)

4.66

3.00

Net interest income (TE)1

$

128,394

$

87,202

Net interest margin (TE)1

4.69

3.03

Interest bearing liabilities to earning assets

61.54

%

61.15

%

1Represents a non-GAAP financial measure. See the discussion entitled “Reconciliation of Tax-Equivalent Non-GAAP Financial Measures” below that provides a reconciliation of each non-GAAP measure to the most comparable GAAP equivalent. Tax equivalent basis is calculated using a marginal tax rate of 21% in 2023 and 2022.

2 Interest income from loans is shown on a tax equivalent basis, which is a non-GAAP financial measure, as discussed in the table on page 45, and includes fee expense of $972,000 and $1.3 million for the six months ended June 30, 2023 and 2022, respectively.  Nonaccrual loans are included in the above-stated average balances.

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Reconciliation of Tax-Equivalent Non-GAAP Financial Measures

Net interest and dividend income (TE) and net interest income (TE) to average interest earning assets are non-GAAP measures that have been adjusted on a TE basis using a marginal rate of 21% for 2023 and 2022 to compare returns more appropriately on tax-exempt loans and securities to other earning assets.  The table below provides a reconciliation of each non-GAAP (TE) measure to the GAAP equivalent for the periods indicated:

Three Months Ended

Six Months Ended

June 30, 

March 31, 

June 30, 

June 30, 

Net Interest Margin

    

2023

    

2023

2022

    

2023

2022

Interest income (GAAP)

$

73,886

$

70,159

$

47,389

$

144,045

$

90,720

Taxable-equivalent adjustment:

Loans

11

6

6

17

11

Securities

355

356

345

711

695

Interest and dividend income (TE)

74,252

70,521

47,740

144,773

91,426

Interest expense (GAAP)

10,306

6,073

2,125

16,379

4,224

Net interest income (TE)

$

63,946

$

64,448

$

45,615

$

128,394

$

87,202

Net interest income (GAAP)

$

63,580

$

64,086

$

45,264

$

127,666

$

86,496

Average interest earning assets

$

5,529,204

$

5,510,326

$

5,748,769

$

5,519,816

$

5,805,956

Net interest margin (GAAP)

4.61

%

4.72

%

3.16

%

4.66

%

3.00

%

Net interest margin (TE)

4.64

%

4.74

%

3.18

%

4.69

%

3.03

%

Noninterest Income

Three months ended June 30, 2023 and 2022

The following table details the major components of noninterest income for the periods presented:

2nd Quarter 2023

Noninterest Income

Three Months Ended

Percent Change From

(Dollars in thousands)

June 30, 

March 31, 

June 30, 

March 31, 

June 30, 

    

2023

    

2023

    

2022

    

2023

    

2022

 

Wealth management

$

2,458

$

2,270

$

2,506

8.3

(1.9)

Service charges on deposits

2,362

2,424

2,328

(2.6)

1.5

Residential mortgage banking revenue

Secondary mortgage fees

76

59

50

28.8

52.0

MSRs mark to market gain (loss)

96

(525)

82

118.3

17.1

Mortgage servicing income

499

516

579

(3.3)

(13.8)

Net gain (loss) on sales of mortgage loans

398

306

(262)

30.1

251.9

Total residential mortgage banking revenue

1,069

356

449

200.3

138.1

Securities losses, net

(1,547)

(1,675)

(33)

(7.6)

N/M

Change in cash surrender value of BOLI

418

242

72

72.7

480.6

Card related income

2,690

2,244

2,965

19.9

(9.3)

Other income

773

1,489

924

(48.1)

(16.3)

Total noninterest income

$

8,223

$

7,350

$

9,211

11.9

(10.7)

N/M - Not meaningful

Noninterest income increased $873,000, or 11.9%, in the second quarter of 2023, compared to the first quarter of 2023, and decreased $988,000, or 10.7%, compared to the second quarter of 2022.  The increase from the first quarter of 2023 was primarily driven by a $621,000 increase in mortgage servicing rights (“MSR”) mark to market gains, a $188,000 increase in wealth management income, a

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Table of Contents

$128,000 decrease in securities losses, net, based on strategic sales, and a $446,000 increase in card related income primarily due to increased activity.  These increases in noninterest income in the second quarter of 2023, compared to the first quarter of 2023, were partially offset by a $716,000 decrease in other income driven by credits received in the first quarter of 2023 from a few vendors related to prior year service discounts.

The decrease in noninterest income of $988,000 in the second quarter of 2023, compared to the second quarter of 2022, is primarily due to an increase in security losses of $1.5 million on strategic sales for the quarter ended June 30, 2023. These decreases were partially offset by a $660,000 increase in net gains on sales of mortgage loans and a $346,000 increase in the cash surrender value of BOLI due to market interest rate changes.

Six months ended June 30, 2023 and 2022

Noninterest Income

Six Months Ended

YTD through June 30, 2023

(Dollars in thousands)

June 30, 

June 30, 

Percent

    

2023

    

2022

    

Change

Wealth management

$

4,728

$

5,204

(9.1)

Service charges on deposits

4,786

4,402

8.7

Residential mortgage banking revenue

Secondary mortgage fees

135

189

(28.6)

MSRs mark to market (loss) gain

(429)

3,060

(114.0)

Mortgage servicing income

1,015

1,098

(7.6)

Net gain on sales of mortgage loans

704

1,233

(42.9)

Total residential mortgage banking revenue

1,425

5,580

(74.5)

Securities losses, net

(3,222)

(33)

N/M

Change in cash surrender value of BOLI

660

196

236.7

Card related income

4,934

5,532

(10.8)

Other income

2,262

1,793

26.2

Total noninterest income

$

15,573

$

22,674

(31.3)

N/M - Not meaningful

Noninterest income decreased $7.1 million, or 31.3%, for the six months ended June 30, 2023 compared to the six months ended June 30, 2022.  This decrease was primarily driven by a $4.2 million decline in mortgage banking revenue, comprised mostly of a $3.5 million decrease in MSRs mark to market gains and a $529,000 decrease in net gain on sales of mortgage loans.  In addition, the current six month period decreased due to a $3.2 million increase in net losses on the sale of securities for the year over year period. Partially offsetting these decreases was a $384,000 increase in service charges on deposits, a $464,000 increase in the cash surrender value of BOLI, and a $469,000 increase in other income.

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Noninterest Expense

Three months ended June 30, 2023 and 2022

The following table details the major components of noninterest expense for the periods presented:

2nd Quarter 2023

Noninterest Expense

Three Months Ended

Percent Change From

(Dollars in thousands)

June 30, 

March 31, 

June 30, 

March 31, 

June 30, 

    

2023

    

2023

    

2022

    

2023

    

2022

 

Salaries

$

16,310

$

16,087

$

15,995

1.4

2.0

Officers incentive

2,397

1,827

1,662

31.2

44.2

Benefits and other

3,091

4,334

3,675

(28.7)

(15.9)

Total salaries and employee benefits

21,798

22,248

21,332

(2.0)

2.2

Occupancy, furniture and equipment expense

3,639

3,475

3,046

4.7

19.5

Computer and data processing

1,290

1,774

4,006

(27.3)

(67.8)

FDIC insurance

794

584

702

36.0

13.1

Net teller & bill paying

515

502

834

2.6

(38.2)

General bank insurance

306

305

351

0.3

(12.8)

Amortization of core deposit intangible asset

618

624

659

(1.0)

(6.2)

Advertising expense

103

142

194

(27.5)

(46.9)

Card related expense

1,222

1,216

1,057

0.5

15.6

Legal fees

283

319

179

(11.3)

58.1

Consulting & management fees

520

790

523

(34.2)

(0.6)

Other real estate owned expense, net

(98)

306

87

(132.0)

(212.6)

Other expense

3,840

3,637

4,279

5.6

(10.3)

Total noninterest expense

$

34,830

$

35,922

$

37,249

(3.0)

(6.5)

Efficiency ratio (GAAP)1

46.84

%

47.52

%

67.07

%

Adjusted efficiency ratio (non-GAAP)2

46.49

%

47.66

%

62.73

%

N/M - Not meaningful

1 The efficiency ratio shown in the table above is a GAAP financial measure calculated as noninterest expense, excluding amortization of core deposits and OREO expenses, divided by the sum of net interest income and total noninterest income less any BOLI death benefit recorded, net gains or losses on securities and mark to market gains or losses on MSRs.

2 The adjusted efficiency ratio shown in the table above is a non-GAAP financial measure calculated as noninterest expense, excluding amortization of core deposits, OREO expenses and merger-related costs, net of gain on branch sales, divided by the sum of net interest income on a fully tax equivalent basis, total noninterest income less net gains or losses on securities, mark to market gains or losses on MSRs, and includes a tax equivalent adjustment on the change in cash surrender value of BOLI.  See the section entitled “Reconciliation of Adjusted Efficiency Ratio Non-GAAP Financial Measures” starting on page 49 for a reconciliation of this non-GAAP measure to the most comparable GAAP equivalent.

Noninterest expense for the second quarter of 2023 decreased $1.1 million, or 3.0%, compared to the first quarter of 2023, and decreased $2.4 million, or 6.5%, compared to the second quarter of 2022.  The decrease in the second quarter of 2023 compared to the first quarter of 2023 was attributable to a $450,000 decrease in salaries and employee benefits, primarily due to reductions in employee benefits expense related to a decline in group insurance premiums and payroll taxes, partially offset by an increase in salaries and the officer incentive accrual.  Also contributing to the decrease in the second quarter of 2023 was a $484,000 decrease in computer and data processing costs as the first quarter of 2023 including additional costs due to timing of software contracts and incentives.   Noninterest expense was further decreased in the second quarter of 2023 as there were no OREO valuation adjustments recorded compared to a $269,000 OREO valuation reserve recorded on two properties in the first quarter of 2023, reflected in other real estate owned expense, net.

The year over year decrease in noninterest expense is primarily attributable to a $2.7 million decrease in computer and data processing expenses and a $319,000 decrease in net teller & bill paying expense, both stemming from acquisition related costs in the second quarter of 2022 from our West Suburban acquisition. Partially offsetting the decrease in noninterest expense in the second quarter of 2023,

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compared to the second quarter of 2022, was a $466,000 increase in salaries and employee benefits and a $593,000 increase in occupancy, furniture and equipment expenses. Officer incentive compensation increased $735,000 in the second quarter of 2023, compared to the second quarter of 2022, as incentive accruals increased in the current year due to growth in our commercial and sponsored finance lending team staffing year over year, as well as loan growth in the year over year periods.

Six months ended June 30, 2023 and 2022

Noninterest Expense

Six Months Ended

YTD through June 30, 2023

(Dollars in thousands)

June 30, 

June 30, 

Percent

    

2023

    

2022

    

Change

Salaries

$

32,397

$

31,593

2.5

Officers incentive

4,224

2,656

59.0

Benefits and other

7,425

7,050

5.3

Total salaries and employee benefits

44,046

41,299

6.7

Occupancy, furniture and equipment expense

7,114

6,745

5.5

Computer and data processing

3,064

10,274

(70.2)

FDIC insurance

1,378

1,112

23.9

Net teller & bill paying

1,017

2,741

(62.9)

General bank insurance

611

666

(8.3)

Amortization of core deposit intangible asset

1,242

1,324

(6.2)

Advertising expense

245

376

(34.8)

Card related expense

2,438

1,591

53.2

Legal fees

602

436

38.1

Consulting & management fees

1,310

1,139

15.0

Other real estate owned expense, net

208

75

177.3

Other expense

7,477

7,723

(3.2)

Total noninterest expense

$

70,752

$

75,501

(6.3)

Efficiency ratio (GAAP)1

47.18

%

69.81

%

Adjusted efficiency ratio (non-GAAP)2

47.08

%

62.33

%

N/M - Not meaningful

1 The efficiency ratio shown in the table above is a GAAP financial measure calculated as noninterest expense, excluding amortization of core deposits and OREO expenses, divided by the sum of net interest income and total noninterest income less any BOLI death benefit recorded, net gains or losses on securities and mark to market gains or losses on MSRs.

2 The adjusted efficiency ratio shown in the table above is a non-GAAP financial measure calculated as noninterest expense, excluding amortization of core deposits, OREO expenses and merger-related costs, net of gain on branch sales, divided by the sum of net interest income on a fully tax equivalent basis, total noninterest income less net gains or losses on securities, mark to market gains or losses on MSRs, and includes a tax equivalent adjustment on the change in cash surrender value of BOLI.  See the section entitled “Reconciliation of Adjusted Efficiency Ratio Non-GAAP Financial Measures” starting on page 49 for a reconciliation of this non-GAAP measure to the most comparable GAAP equivalent.

Noninterest expense for the six months ended June 30, 2023, decreased $4.7 million, or 6.3%, compared to the six months ended June 30, 2022, primarily due to a $7.2 million decrease in computer and data processing due to acquisition related costs incurred during the six months ended June 30, 2022 as the result of our acquisition of West Suburban in December 2021. Salaries and employee benefits increased $2.7 million largely from incentives and merit increases effective during the six months ended June 30, 2023. Occupancy, furniture and equipment increased $369,000, or 5.5%. Net teller & bill paying decreased $1.7 million largely due to acquisition related costs that were incurred during the six months ended June 30, 2022. In addition, FDIC insurance increased $266,000 due to growth in our asset size, a scheduled increase in rates used by the FDIC for assessments, as well as the absence of assessment credits fully utilized in the 2022 year to date period. Finally, card related expense increased $847,000 due to the growth in customer transactions and related volume changes.

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Table of Contents

Reconciliation of Adjusted Efficiency Ratio Non-GAAP Financial Measures

GAAP

Non-GAAP

Three Months Ended

Three Months Ended

June 30, 

March 31, 

June 30, 

June 30, 

March 31, 

June 30, 

2023

2023

2022

2023

2023

2022

Efficiency Ratio / Adjusted Efficiency Ratio

Noninterest expense

$

34,830

$

35,922

$

37,249

$

34,830

$

35,922

$

37,249

Less amortization of core deposit

618

624

659

618

624

659

Less other real estate expense, net

(98)

306

87

(98)

306

87

Less acquisition related costs, net of losses/(gains) on branch sales

N/A

N/A

N/A

29

(306)

2,132

Noninterest expense less adjustments

$

34,310

$

34,992

$

36,503

$

34,281

$

35,298

$

34,371

Net interest income

$

63,580

$

64,086

$

45,264

$

63,580

$

64,086

$

45,264

Taxable-equivalent adjustment:

Loans

N/A

N/A

N/A

11

6

6

Securities

N/A

N/A

N/A

355

356

345

Net interest income including adjustments

63,580

64,086

45,264

63,946

64,448

45,615

Noninterest income

8,223

7,350

9,211

8,223

7,350

9,211

Less securities losses

(1,547)

(1,675)

(33)

(1,547)

(1,675)

(33)

Less MSRs mark to market gain (loss)

96

(525)

82

96

(525)

82

Taxable-equivalent adjustment:

Change in cash surrender value of BOLI

N/A

N/A

N/A

111

64

19

Noninterest income (excluding) / including adjustments

9,674

9,550

9,162

9,785

9,614

9,181

Net interest income including adjustments plus noninterest income (excluding) / including adjustments

$

73,254

$

73,636

$

54,426

$

73,731

$

74,062

$

54,796

Efficiency ratio / Adjusted efficiency ratio

46.84

%

47.52

%

67.07

%

46.49

%

47.66

%

62.73

%

N/A - not applicable

GAAP

Non-GAAP

Six Months Ended

Six Months Ended

June 30, 

June 30, 

June 30, 

June 30, 

2023

2022

2023

2022

Efficiency Ratio / Adjusted Efficiency Ratio

(Dollars in thousands)

Noninterest expense

$

70,752

$

75,501

$

70,752

$

75,501

Less amortization of core deposit

1,242

1,324

1,242

1,324

Less other real estate expense, net

208

75

208

75

Less acquisition related costs, net of (gains)/losses on branch sales

N/A

N/A

(277)

7,466

Noninterest expense less adjustments

$

69,302

$

74,102

$

69,579

$

66,636

Net interest income

$

127,666

$

86,496

$

127,666

$

86,496

Taxable-equivalent adjustment:

Loans

N/A

N/A

17

11

Securities

N/A

N/A

711

695

Net interest income including adjustments

127,666

86,496

128,394

87,202

Noninterest income

15,573

22,674

15,573

22,674

Less securities losses, net

(3,222)

(33)

(3,222)

(33)

Less MSRs mark to market (losses) gains

(429)

3,060

(429)

3,060

Taxable-equivalent adjustment:

Change in cash surrender value of BOLI

N/A

N/A

175

52

Noninterest income (excluding) / including adjustments

19,224

19,647

19,399

19,699

Net interest income including adjustments plus noninterest income (excluding) / including adjustments

$

146,890

$

106,143

$

147,793

$

106,901

Efficiency ratio / Adjusted efficiency ratio

47.18

%

69.81

%

47.08

%

62.33

%

N/A - not applicable

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Table of Contents

Income Taxes

We recorded income tax expense of $9.4 million for the second quarter of 2023 on $35.0 million of pretax income, compared to income tax expense of $8.4 million on $32.0 million of pretax income in the first quarter of 2023, and income tax expense of $4.4 million on $16.7 million of pretax income in the second quarter of 2022. Our effective tax rate was 26.9% in the second quarter of 2023, 26.3% for the first quarter of 2023, and 26.6% for the second quarter of 2022.

We recorded income tax expense of $17.8 million on $67.0 million of pretax income for the six months ended June 30, 2023, compared to income tax expense of $8.9 million on $33.1 million of pretax income in the like 2022 period. The effective tax rate was 26.6% and 26.7% for the six months ended June 30, 2023 and 2022, respectively.

Income tax expense reflected all relevant statutory tax rates and GAAP accounting.  There were no significant changes in our ability to utilize our deferred tax assets during the quarter ended June 30, 2023.  We had no valuation reserve on the deferred tax assets as of June 30, 2023.

Financial Condition

Total assets decreased $4.4 million to $5.88 billion at June 30, 2023, from $5.89 billion at December 31, 2022, due primarily to decreases of $2.6 million in cash and cash equivalents, $203.7 million in securities available-for-sale, and $4.9 million in deferred tax assets.  The decrease in securities available-for-sale was primarily due to strategic sales. These decreases were partially offset by increases in net loans of $140.1 million, FHLB and FRB stock held of $16.2 million, and other assets of $50.9 million.  The increase in other assets is due to a timing difference related to a clients transactions effected by overnight sweeps. We continue to actively assess potential investment opportunities to utilize our excess liquidity. Total deposits were $4.72 billion at June 30, 2023, a decrease of $393.1 million from December 31, 2022, primarily due to seasonal decreases of municipal deposits, and to a lesser extent declines in interest bearing demand accounts, savings, money market, and NOW accounts in 2023.

June 30, 2023

Securities

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

    

2023

    

2022

    

2022

    

2022

    

2022

Securities available-for-sale, at fair value

U.S. Treasuries

$

214,613

$

212,129

$

214,820

1.2

(0.1)

U.S. government agencies

55,981

56,048

57,896

(0.1)

(3.3)

U.S. government agencies mortgage-backed

115,140

124,990

141,836

(7.9)

(18.8)

States and political subdivisions

229,534

226,128

233,652

1.5

(1.8)

Corporate bonds

4,882

9,622

9,543

(49.3)

(48.8)

Collateralized mortgage obligations

407,495

533,768

641,498

(23.7)

(36.5)

Asset-backed securities

134,319

201,928

259,622

(33.5)

(48.3)

Collateralized loan obligations

173,658

174,746

175,549

(0.6)

(1.1)

Total securities

$

1,335,622

$

1,539,359

$

1,734,416

(13.2)

(23.0)

Securities available-for-sale decreased $203.7 million as of June 30, 2023 compared to December 31, 2022, and decreased $398.8 million compared to June 30, 2022. The decrease in the portfolio during the second quarter of 2023 was driven by securities sales totaling $74.0

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Table of Contents

million and paydowns totaling $30.9 million. We continue to seek to position the portfolio in higher credit quality, shorter duration securities with an appropriate mix of fixed- and floating-rate exposures.

June 30, 2023

Loans

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

2023

2022

2022

2022

    

2022

Commercial

$

820,027

$

840,964

$

806,725

(2.5)

1.6

Leases

314,919

277,385

230,677

13.5

36.5

Commercial real estate – investor

1,080,073

987,635

834,395

9.4

29.4

Commercial real estate – owner occupied

824,277

854,879

870,181

(3.6)

(5.3)

Construction

189,058

180,535

170,037

4.7

11.2

Residential real estate – investor

55,935

57,353

61,220

(2.5)

(8.6)

Residential real estate – owner occupied

218,205

219,718

207,836

(0.7)

5.0

Multifamily

383,184

323,691

310,706

18.4

23.3

HELOC

102,058

109,202

120,138

(6.5)

(15.0)

Other 1

27,789

18,247

13,155

52.3

111.2

Total loans

$

4,015,525

$

3,869,609

$

3,625,070

3.8

10.8

1 The “Other” segment includes consumer loans and overdrafts.

Total loans were $4.02 billion as of June 30, 2023, an increase of $145.9 million from December 31, 2022.  The increase in total loans in the first six months of 2023, compared to December 31, 2022, was due primarily to growth in loan originations, net of paydowns, within commercial real estate – investor of $92.4 million, multifamily of $59.5 million and leases of $37.5 million offset by net reductions in commercial real estate – owner occupied of $30.6 million from December 31, 2022.  Total loans increased $390.5 million from June 30, 2022 to June 30, 2023, primarily due to growth in loan originations, net of paydowns, within commercial real estate – investor of $245.7 million, leases of $84.2 million and multifamily of $72.5 million, offset by net reductions in commercial real estate – owner occupied of $45.9 million.  As required by CECL, the balance (or amortized cost basis) of purchased credit deteriorated loans, or PCD loans (discussed below) is carried on a gross basis (rather than net of the associated credit loss estimate), and the expected credit losses for PCD loans are estimated and separately recognized as part of the allowance for credit losses, or ACL.  

The quality of our loan portfolio is impacted not only by our credit decisions but also by the economic health of the communities in which we operate.  Since we are located in a corridor with significant open space and undeveloped real estate, real estate lending (including commercial real estate, construction, residential, multifamily, and HELOCs) has been and continues to be a sizeable portion of our portfolio.  These categories comprised 71.0% of the portfolio as of June 30, 2023, compared to 70.6% of the portfolio as of December 31, 2022.  At June 30, 2023, our outstanding commercial real estate loans and undrawn commercial real estate commitments, excluding owner occupied real estate were equal to 311.0% of our Tier 1 capital plus allowance for credit losses, an increase from 304.2% at December 31, 2022.  We continue to oversee and seek to manage our loan portfolio in accordance with interagency guidance on risk management.

Asset Quality

Nonperforming loans consist of nonaccrual loans, and loans 90 days or greater past due.  Prior to January 1, 2023, nonperforming loans also included performing troubled debt restructured loans accruing interest. Nonperforming loans increased by $28.3 million to $61.2 million at June 30, 2023 from $32.9 million at December 31, 2022 and increased $19.1 million from $42.1 million at June 30, 2022. Purchased credit deteriorated loans, or PCD loans, are purchased loans that, as of the date of acquisition, we determined had experienced a more-than-insignificant deterioration in credit quality since origination.  PCD loans and their related deferred loan costs are included in our nonperforming loan disclosures, if such loans otherwise meet the definition of a nonperforming loan.  Management continues to carefully monitor loans considered to be in a classified status.  Nonperforming loans as a percent of total loans were 1.5% as of June 30, 2023, 0.9% as of December 31, 2022, and 1.2% as of June 30, 2022.  The distribution of our nonperforming loans is shown in the following table.

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June 30, 2023

Nonperforming Loans

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

2023

2022

2022

2022

2022

Commercial

$

1,544

$

7,649

$

11,600

(79.8)

(86.7)

Leases

758

1,876

2,005

(59.6)

(62.2)

Commercial real estate – investor

31,613

4,346

8,324

627.4

279.8

Commercial real estate – owner occupied

18,857

8,223

10,670

129.3

76.7

Construction

116

251

1,238

(53.8)

(90.6)

Residential real estate – investor

1,445

1,672

1,092

(13.6)

32.3

Residential real estate – owner occupied

3,660

4,198

3,642

(12.8)

0.5

Multifamily

1,191

2,538

907

(53.1)

31.3

HELOC

2,049

2,158

2,613

(5.1)

(21.6)

Other 1

-

2

3

(100.0)

(100.0)

Total nonperforming loans

$

61,233

$

32,913

$

42,094

86.0

45.5

1 The “Other” segment includes consumer loans and overdrafts.

The components of our nonperforming assets are shown in the following table.

June 30, 2023

Nonperforming Assets

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

  

2023

  

2022

  

2022

  

2022

2022

Nonaccrual loans

$

60,925

$

31,602

$

35,712

92.8

70.6

Performing troubled debt restructured loans accruing interest 1

 

N/A

 

49

 

1,108

N/A

N/A

Loans past due 90 days or more and still accruing interest

 

308

 

1,262

 

5,274

(75.6)

(94.2)

Total nonperforming loans

 

61,233

 

32,913

 

42,094

86.0

45.5

Other real estate owned

 

761

 

1,561

 

1,624

(51.2)

(53.1)

Total nonperforming assets

$

61,994

$

34,474

$

43,718

79.8

41.8

30-89 days past due loans and still accruing interest

$

12,449

$

7,508

$

24,681

Nonaccrual loans to total loans

1.5

%

0.8

%

1.0

%

Nonperforming loans to total loans

1.5

%

0.9

%

1.2

%

Nonperforming assets to total loans plus OREO

1.5

%

0.9

%

1.2

%

Allowance for credit losses

$

55,314

$

49,480

$

45,388

Allowance for credit losses to total loans

1.4

%

1.3

%

1.3

%

Allowance for credit losses to nonaccrual loans

90.8

%

156.6

%

127.1

%

N/A – Not applicable

1 As of January 1, 2023, the Company prospectively adopted ASU 2022-02 Topic 326 “Troubled Debt Restructurings (“TDRs”) and Vintage Disclosures”, which eliminated the need for recognition, measurement and disclosure of TDRs going forward.  See Note 1 for further details of ASU 2022-02 adoption.

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Loan charge-offs, net of recoveries, for the current quarter, prior linked quarter and year over year quarter are shown in the following table.

Loan Charge–offs, Net of Recoveries

Three Months Ended

(Dollars in thousands)

June 30, 

% of

March 31, 

% of

June 30, 

% of

2023

Total1

2023

Total1

2022

Total1

Commercial

$

298

59.0

$

(124)

(16.8)

$

44

17.6

Leases

(7)

(1.4)

873

118.0

-

-

Commercial real estate – investor

51

10.1

(17)

(2.3)

225

90.0

Commercial real estate – owner occupied

198

39.2

(2)

(0.3)

(7)

(2.8)

Residential real estate – investor

(5)

(1.0)

(19)

(2.6)

(5)

(2.0)

Residential real estate – owner occupied

(36)

(7.1)

(10)

(1.4)

(22)

(8.8)

HELOC

(24)

(4.8)

(29)

(3.9)

(31)

(12.4)

Other 2

30

6.0

68

9.3

46

18.4

Net charge–offs

$

505

100.0

$

740

100.0

$

250

100.0

1 Represents the percentage of net charge-offs attributable to each category of loans.

2 The “Other” segment includes consumer and overdrafts.

Net charge-offs of $505,000 were recorded for the second quarter of 2023, compared to net charge-offs of $740,000 for the first quarter of 2023, and net charge-offs of $250,000 for the second quarter of 2022, reflecting continuing management attention to credit quality and remediation efforts.  The net charge-offs for the second quarter of 2023 were primarily due to charge offs of one commercial real estate-owner occupied loan and one commercial loan totaling $598,000 in aggregate.  We have continued our conservative loan valuations and aggressive recovery efforts on prior charge-offs.  

Classified loans include nonaccrual loans and all other loans considered substandard. Classified assets include both classified loans and OREO.  Loans classified as substandard are inadequately protected by either the current net worth and ability to meet payment obligations of the obligor, or by the collateral pledged to secure the loan, if any.  These loans have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt and carry the distinct possibility that we will sustain some loss if deficiencies remain uncorrected.

The following table shows classified assets by segment for the following periods.

June 30, 2023

Classified Assets

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

2023

2022

2022

2022

2022

Commercial

$

22,245

$

26,485

$

31,577

(16.0)

(29.6)

Leases

974

1,876

2,005

(48.1)

(51.4)

Commercial real estate – investor

57,041

27,410

30,407

108.1

87.6

Commercial real estate – owner occupied

38,495

40,890

28,715

(5.9)

34.1

Construction

116

1,333

1,238

(91.3)

(90.6)

Residential real estate – investor

1,714

1,714

1,246

-

37.6

Residential real estate – owner occupied

3,660

3,854

3,785

(5.0)

(3.3)

Multifamily

1,191

2,954

1,336

(59.7)

(10.9)

HELOC

2,152

2,411

2,853

(10.7)

(24.6)

Other 1

-

2

2

(100.0)

(100.0)

Total classified loans

127,588

108,929

103,164

17.1

23.7

Other real estate owned

761

1,561

1,624

(51.2)

(53.1)

Total classified assets

$

128,349

$

110,490

$

104,788

16.2

22.5

1 The “Other” segment includes consumer loans and overdrafts.

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Total classified loans increased $18.7 million and classified assets increased $17.9 million as of June 30, 2023 from December 31, 2022. The increase is due to the addition of $29.6 million of classified loans in commercial real estate – investor, primarily due to three large credits, two of which are office buildings and one is an assisted living facility in the first six months of 2023. The increase from June 30, 2022 is primarily due to the same loan additions to commercial real estate – investor. Management monitors a ratio of classified assets to the sum of Bank Tier 1 capital and the ACL on loans as another measure of overall change in loan related asset quality, which is referred to as the “classified assets ratio.” The classified assets ratio was 20.46% for the period ended June 30, 2023, compared to 18.36% as of December 31, 2022, and 17.79% as of June 30, 2022.  

Allowance for Credit Losses on Loans

The provision for credit losses, which includes a provision for losses on unfunded commitments, is a charge to earnings to maintain the allowance for credit losses (“ACL”) at a level consistent with management’s assessment of expected losses in the loan portfolio at the balance sheet date.

At June 30, 2023, our ACL on loans totaled $55.3 million, and our ACL on unfunded commitments, included in other liabilities, totaled $3.1 million. In the second quarter of 2023, we recorded provision expense on loans of $2.4 million, based on our assessment of nonperforming loan metrics and trends and estimated future credit losses, and a $427,000 release of provision on unfunded commitments, primarily due to an adjustment of historical benchmark assumptions, such as funding rates and the period used to forecast those rates, within the ACL calculation.  These adjustments resulted in a $2.0 million net impact to the provision for credit losses for the second quarter of 2023.  

Management estimates the amount of provision required on a quarterly basis and records the appropriate provision expense, or release of expense, to maintain an adequate reserve for all potential and estimated credit losses on loans, leases and unfunded commitments.  The ACL on loans totaled $55.3 million as of June 30, 2023, $49.5 million as of December 31, 2022, and $45.4 million as of June 30, 2022.  Our ACL on loans to total loans was 1.4% as of June 30, 2023, compared to 1.3% as of December 31, 2022 and June 30, 2022.  See Item 7 – Critical Accounting Estimates in the Management Discussion and Analysis in our 2022 Annual Report in Form 10-K for discussion of our ACL methodology on loans. Allocations of the ACL may be made for specific loans, but the entire allowance is available for any loan that, in our judgment, should be charged-off.

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Table of Contents

Below is a reconciliation of the activity in the allowance for credit losses on loans for the periods indicated (dollars in thousands):

Three Months Ended

Six Months Ended

June 30, 

March 31, 

June 30, 

June 30, 

June 30, 

2023

2023

2022

2023

2022

Allowance at beginning of period

$

53,392

$

49,480

$

44,308

$

49,480

$

44,281

Charge–offs:

Commercial

380

27

52

407

82

Leases

-

882

-

882

-

Commercial real estate – investor

71

-

243

71

480

Commercial real estate – owner occupied

201

-

-

201

121

Construction

-

-

-

-

-

Residential real estate – investor

-

-

-

-

-

Residential real estate – owner occupied

-

-

-

-

-

Multifamily

-

-

-

-

-

HELOC

-

-

-

-

-

Other 1

81

113

91

194

217

Total charge–offs

733

1,022

386

1,755

900

Recoveries:

Commercial

82

151

8

233

38

Leases

7

9

-

16

-

Commercial real estate – investor

20

17

18

37

41

Commercial real estate – owner occupied

3

2

7

5

15

Construction

-

-

-

-

-

Residential real estate – investor

5

19

5

24

15

Residential real estate – owner occupied

36

10

22

46

105

Multifamily

-

-

-

-

-

HELOC

24

29

31

53

67

Other 1

51

45

45

96

76

Total recoveries

228

282

136

510

357

Net charge-offs

505

740

250

1,245

543

Provision for credit losses on loans

2,427

4,652

1,330

7,079

1,650

Allowance at end of period

$

55,314

$

53,392

$

45,388

$

55,314

$

45,388

Average total loans (exclusive of loans held–for–sale)

$

4,039,052

$

3,931,679

$

3,505,806

$

3,985,662

$

3,452,115

Net charge–offs to average loans

0.05

%

0.08

%

0.03

%

0.06

%

0.03

%

Allowance at period end to average loans

1.37

%

1.36

%

1.29

%

1.39

%

1.31

%

1 The “Other” segment includes consumer loans and overdrafts.

The coverage ratio of the ACL on loans to nonperforming loans was 90.3% June 30, 2023, which was a decrease from the coverage ratio of 162.2% as of March 31, 2023 and a decrease from 107.8% as of June 30, 2022.  When measured as a percentage of average loans, our total ACL on loans was 1.39% at June 30, 2023 and 1.31% for the like period of June 30, 2022.

In management’s judgment, an adequate ACL has been established to encompass the current lifetime expected credit losses at June 30, 2023, and general changes in lending policy, procedures and staffing, as well as other external factors.  However, there can be no assurance that actual losses will not exceed the estimated amounts in the future, based on unforeseen economic events, changes in business climates and the condition of collateral at the time of default and repossession.  Continued volatility in the economic environment stemming from the impacts of and response to inflation, potential recession, and the war in Ukraine, and the associated effects on our customers, or other factors, such as changes in business climates and the condition of collateral at the time of default or repossession, may revise our current expectations of future credit losses in future reporting periods.

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Table of Contents

Deposits and Borrowings

June 30, 2023

Deposits

As of

Percent Change From

(Dollars in thousands)

June 30, 

December 31, 

June 30, 

December 31, 

June 30, 

2023

2022

2022

2022

    

2022

Noninterest bearing demand

$

1,897,694

$

2,051,702

$

2,078,272

(7.5)

(8.7)

Savings

1,050,453

1,145,592

1,199,027

(8.3)

(12.4)

NOW accounts

586,121

609,338

609,558

(3.8)

(3.8)

Money market accounts

731,459

862,170

994,616

(15.2)

(26.5)

Certificates of deposit of less than $100,000

240,848

244,017

268,723

(1.3)

(10.4)

Certificates of deposit of $100,000 through $250,000

148,070

157,438

140,266

(6.0)

5.6

Certificates of deposit of more than $250,000

62,937

40,466

52,393

55.5

20.1

Total deposits

$

4,717,582

$

5,110,723

$

5,342,855

(7.7)

(11.7)

Total deposits were $4.72 billion at June 30, 2023, which reflects a $393.1 million decrease from total deposits of $5.11 billion at December 31, 2022, and a decrease of $625.3 million from total deposits of $5.34 billion at June 30, 2022.  The decrease in deposits at June 30, 2023, compared to December 31, 2022, was primarily due to decreases in non-interest bearing deposits of $154.0 million, savings accounts of $95.1 million and money market accounts of $130.7 million. The decrease in deposits at June 30, 2023, compared to June 30, 2022 was primarily due to decreases in non-interest bearing deposits of $180.6 million, savings accounts of $148.6 million, and money market accounts of $263.2 million.  Total quarterly average deposits decreased $667.2 million, or 12.2%, in the year over year period, driven by declines in our average demand deposits of $199.2 million, and savings, NOW and money markets combined of $435.5 million. In general, the bulk of the decline in deposits year over year can be characterized as rate sensitive with significant flows and transfers into investing activities, materially offsetting the significant expansion in those same accounts in the immediate aftermath of the pandemic.

The following table presents estimated insured and uninsured deposits at June 30, 2023 and December 31, 2022 by deposit type, as well as the weighted average rates for each quarter to date ending period.

(Dollars in thousands)

June 30, 2023

December 31, 2022

Total Deposits

Insured Deposits

Uninsured Deposits

Average Rate Paid

Total Deposits

Insured Deposits

Uninsured Deposits

Average Rate Paid

Noninterest bearing demand

$

1,897,694

$

1,250,055

$

647,639

-

%

$

2,051,702

$

1,327,379

$

724,323

-

%

Savings

1,050,453

980,137

70,316

0.05

1,145,592

1,065,153

80,439

0.03

NOW accounts

586,121

424,084

162,037

0.19

609,338

453,799

155,539

0.09

Money market accounts

731,459

511,142

220,317

0.52

862,170

588,923

273,247

0.10

Time deposits

451,855

380,312

71,543

0.84

441,921

381,980

59,941

0.31

Total

$

4,717,582

$

3,545,730

$

1,171,852

0.19

%

$

5,110,723

$

3,817,234

$

1,293,489

0.06

%

Collateralized public funds

$

279,360

$

15,841

$

263,519

$

262,318

$

15,880

$

246,439

Deposits declined 7.7% for the six months ended June 30, 2023, primarily due to retail run off, partially  offset by a seasonal pick up in public fund deposits.  Deposit run off year to date has been very granular, and not necessarily attributable to a few large deposit accounts.  The largest component of deposit increases were seasonal funds from our public fund clients, while the largest reduction in total deposits was driven by retail customers stemming from tax payments, including personal income as well as real estate taxes, and real estate transactions.  In terms of product mix, we observed some migration into time deposits, which was expected due to CD rate specials offered.  Overall, our deposit level has been stable from observation of recent trends and we expect that to continue going forward.

In addition to deposits, we used other liquidity sources for our funding needs in all periods presented, such as repurchase agreements and other short-term borrowings with the FHLBC. Securities sold under repurchase agreements totaled $31.5 million at June 30, 2023, a

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Table of Contents

$624,000, or 1.9%, decrease from $32.2 million at December 31, 2022. Our excess liquidity on hand during much of 2022 allowed us to fund our short-term liquidity needs with cash on hand. During the third quarter of 2022, we began utilizing short-term borrowings from the FHLBC again. The outstanding balance of our short-term FHLBC borrowings was $485.0 million as of June 30, 2023 and $90.0 million as of December 31, 2022; there were no short-term borrowings outstanding as of June 30, 2022.

We are also indebted on $25.8 million, net of deferred issuance costs, of junior subordinated debentures, which are related to the trust preferred securities issued by its statutory trust subsidiary, Old Second Capital Trust II (“Trust II”).  The Trust II issuance converted from fixed to floating rate at three month LIBOR plus 150 basis points on June 15, 2017.  Upon conversion to a floating rate, we initiated a cash flow hedge which resulted in the total interest rate paid on this debt of 4.38% as of June 30, 2023, as compared to 6.77%, which was the rate paid during the period prior to the June 15, 2017 rate reset.  

In the second quarter of 2021, we entered into Subordinated Note Purchase Agreements with certain qualified institutional buyers pursuant to which we issued $60.0 million in aggregate principal amount of our 3.50% Fixed-to-Floating Rate Subordinated Notes due April 15, 2031 (the “Notes”).  We sold the Notes to eligible purchasers in a private offering, and the proceeds of this issuance were used for general corporate purposes. The Notes bear interest at a fixed annual rate of 3.50% through April 14, 2026, payable semi-annually in arrears.  As of April 15, 2026 forward, the interest rate on the Notes will generally reset quarterly to a rate equal to Three-Month Term SOFR (as defined by the Note) plus 273 basis points, payable quarterly in arrears.  The Notes have a stated maturity of April 15, 2031, and are redeemable, in whole are in part, on April 15, 2026, or any interest payment date thereafter, and at any time upon the occurrence of certain events. As of June 30, 2023, we had $59.3 million of subordinated debentures outstanding, net of deferred issuance costs.

In December 2016, we completed a $45.0 million senior note issuance. The notes had a ten-year term, and included interest payable semiannually at 5.75% for five years. Beginning December 31, 2021, the interest became payable quarterly at three month LIBOR plus 385 basis points. On June 30, 2023 the senior notes were redeemed in full.  The remaining balance of deferred debt issuance costs of $362,000 related to these senior notes was recognized as interest expense as of June 30, 2023.      

On February 24, 2023, we paid off the remaining $9.0 million balance in notes payable and other borrowings, resulting in no balance in this line item as of June 30, 2023, compared to $9.0 million as of December 31, 2022, and $11.0 million as of June 30, 2022. The balance in notes payable was related to a $20.0 million dollar term note originated with a correspondent bank in the first quarter of 2020, to facilitate the redemption of our Old Second Capital Trust I trust preferred securities and related junior subordinated debentures, completed on March 2, 2020.

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Table of Contents

Capital

As of June 30, 2023, total stockholders’ equity was $514.0 million, which was an increase of $52.9 million from $461.1 million as of December 31, 2022.  This increase is primarily attributable to an increase in retained earnings of $44.7 million due to net income of $49.2 million in the first six months of 2023, partially offset by $4.5 million of dividends paid to our common stockholders. In addition, total stockholders’ equity as of June 30, 2023 increased over December 31, 2022, due to a reduction in unrealized net losses on available-for-sale securities, which decreased accumulated other comprehensive loss by $6.9 million in the first six months of 2023, due to changes in market interest rates.  Total stockholders’ equity as of June 30, 2023 increased $65.1 million compared to June 30, 2022 due to net income year over year, less the increase in accumulated other comprehensive loss of $20.9 million year over year.

The following table shows the regulatory capital ratios and the current well capitalized regulatory requirements for the Company and the Bank as of the dates indicated:

Minimum Capital

Well Capitalized

Adequacy with

Under Prompt

Capital Conservation

Corrective Action

June 30, 

December 31, 

June 30, 

Buffer, if applicable1

Provisions2

2023

2022

2022

The Company

Common equity tier 1 capital ratio

7.00

%

N/A

10.29

%

9.67

%

9.35

%

Total risk-based capital ratio

10.50

%

N/A

13.16

%

12.52

%

12.27

%

Tier 1 risk-based capital ratio

8.50

%

N/A

10.80

%

10.20

%

9.91

%

Tier 1 leverage ratio

4.00

%

N/A

8.96

%

8.14

%

7.24

%

The Bank

Common equity tier 1 capital ratio

7.00

%

6.50

%

11.70

%

11.70

%

12.24

%

Total risk-based capital ratio

10.50

%

10.00

%

12.83

%

12.75

%

13.25

%

Tier 1 risk-based capital ratio

8.50

%

8.00

%

11.70

%

11.70

%

12.24

%

Tier 1 leverage ratio

4.00

%

5.00

%

9.70

%

9.32

%

8.94

%

1 Amounts are shown inclusive of a capital conservation buffer of 2.50%.

2 The prompt corrective action provisions are only applicable at the Bank level.

As part of its response to the impact of the COVID-19 pandemic, in the first quarter of 2020, U.S. federal regulatory authorities issued an interim final rule that provided banking organizations that adopted CECL during the 2020 calendar year with the option to delay for two years the estimated impact of CECL on regulatory capital relative to regulatory capital determined under the prior incurred loss methodology, followed by a three-year transition period to phase out the aggregate amount of the capital benefit provided during the initial two-year delay (i.e., a five-year transition in total). In connection with our adoption of CECL on January 1, 2020, we elected to utilize the five-year CECL transition.  As of June 30, 2023, our capital measures exclude $1.9 million, which is the modified CECL transition adjustment.

As of June 30, 2023, the Company, on a consolidated basis, exceeded the minimum capital ratios to be deemed “well capitalized” and met the capital conservation buffer requirements.  In addition to the above regulatory ratios, our GAAP common equity to total assets ratio, which is used as a performance measurement for capital analysis and peer comparisons, increased from 7.83% at December 31, 2022, to 8.73% at June 30, 2023. Our GAAP tangible common equity to tangible assets ratio was 7.17% at June 30, 2023, compared to 6.24% as of December 31, 2022.  Our non-GAAP tangible common equity to tangible assets ratio, which management also considers a valuable performance measurement for capital analysis, increased from 6.28% at December 31, 2022, to 7.21% at June 30, 2023, primarily due to an increase in tangible common equity in the second quarter of 2023.  The increase in tangible common equity was due to an increase in retained earnings of $44.7 million and a decrease in accumulated other comprehensive loss of $6.9 million primarily related to a decline in unrealized losses on available-for-sale securities stemming from the changes in market interest rates.

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Table of Contents

Reconciliation of Tangible Common Equity to Tangible Assets Ratio Non-GAAP Measure

June 30, 2023

December 31, 2022

Tangible common equity

GAAP

Non-GAAP

GAAP

Non-GAAP

(Dollars in thousands)

Total Equity

$

513,955

$

513,955

$

461,141

$

461,141

Less: Goodwill and intangible assets

98,914

98,914

100,156

100,156

Add: Limitation of exclusion of core deposit intangible (80%)

N/A

2,487

N/A

2,736

Adjusted goodwill and intangible assets

98,914

96,427

100,156

97,420

Tangible common equity

$

415,041

$

417,528

$

360,985

$

363,721

Tangible assets

Total assets

$

5,883,942

$

5,883,942

$

5,888,317

$

5,888,317

Less: Adjusted goodwill and intangible assets

98,914

96,427

100,156

97,420

Tangible assets

$

5,785,028

$

5,787,515

$

5,788,161

$

5,790,897

Common equity to total assets

8.73

%

8.73

%

7.83

%

7.83

%

Tangible common equity to tangible assets

7.17

%

7.21

%

6.24

%

6.28

%

The non-GAAP intangible asset exclusion reflects the 80% core deposit limitation per Basel III guidelines within risk based capital calculations, and is useful for us when reviewing risk based capital ratios and equity performance metrics.

Liquidity

Liquidity is our ability to fund operations, to meet depositor withdrawals, to provide for customers’ credit needs, and to meet maturing obligations and existing commitments.  Our liquidity principally depends on our cash flows from operating activities, investment in and maturity of assets, changes in balances of deposits and borrowings, and our ability to borrow funds. In the second quarter of 2023, we continued to experience loan growth, while deposits have trended down as clients moved balances to pursue higher yields as well as due to seasonal declines.  We managed the change in our funding through borrowing from the Federal Home Loan Bank of Chicago (“FHLBC”) and sales of securities, which resulted in minimal losses and mitigated our interest rate risk profile.  The bank failures in the first five months of 2023 exemplify the potentially serious results of the unexpected inability of insured depository institutions to obtain needed liquidity to satisfy deposit withdrawal requests, including how quickly such requests can accelerate once uninsured depositors lose confidence in an institution’s ability to satisfy its obligations to depositors. We seek to ensure our funding needs are met by maintaining a level of liquidity through asset and liability management. We monitor our borrowing capacity at the FHLBC as part of our liquidity management process as supervised by our Asset and Liability Committee (“ALCO”) and reviewed by our Board of Directors.  In addition, our senior management team monitors cash balances daily to ensure we have adequate liquidity to meet our operational and financing needs.  As of June 30, 2023, our cash on hand liquidity totaled $112.6 million, a decrease of $2.6 million over cash balances held as of December 31, 2022.  

Net cash inflows from operating activities were $5.6 million during the first six months of 2023, compared with net cash inflows of $27.1 million in the same period of 2022.  Proceeds from sales of loans held-for-sale, net of funds used to originate loans held-for-sale, were a source of outflows for the first six months of 2023 compared to a source of inflows for the like period of 2022.  Interest paid, net of interest received, combined with changes in other assets and liabilities were a source of outflows for the six months ended June 30, 2023 and for the like period of 2022. The management of investing and financing activities, as well as market conditions, determines the level and the stability of net interest cash flows.  Management’s policy is to mitigate the impact of changes in market interest rates to the extent possible, as part of the balance sheet management process.

Net cash inflows from investing activities were $49.0 million in the six months ended June 30, 2023, compared to net cash outflows of $349.7 million in the same period in 2022.  In the first six months of 2023, securities transactions accounted for net inflows of $210.0 million, and the principal change on loans accounted for net outflows of $144.0 million.  In the first six months of 2022, securities transactions accounted for net outflows of $149.4 million, and principal on loans funded, net of paydowns, accounted for net outflows of $200.0 million.  

Net cash outflows from financing activities in the six months ended June 30, 2023, were $57.1 million, compared with net cash outflows of $148.2 million in the six months ended June 30, 2022.  Net deposit outflows in the first six months of 2023 were $392.4 million

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compared to net deposit outflows of $122.6 million in the first six months of 2022.  Other short-term borrowings had $395.0 million of net cash inflows in the first six months of 2023, compared to no cash inflows or outflows for other short-term borrowings in the first six months of 2022.  Changes in securities sold under repurchase agreements accounted for outflows of $624,000 and outflows of $12.7 million for the six months ended June 30, 2023 and 2022, respectively.  Dividends paid on our common stock totaled $4.5 million in the six months ended June 30, 2023, compared to dividends paid of $4.4 million for the like 2022 period.  The purchase of treasury stock in the first six months of 2023 due to shares acquired with equity award vestings resulted in outflows of $605,000, compared to cash outflows of $400,000 in the first six months of 2022.

Cash and cash equivalents for the six months ended June 30, 2023, totaled $112.6 million, as compared to $115.2 million as of December 31, 2022 and $281.3 million as of June 30, 2022.  The decrease in cash and cash equivalents for the six months ended June 30, 2023 was mainly attributable to loan growth and the payoffs of the remaining balance of the term note and senior notes, as well as seasonal deposit outflows, partially offset by security sales and FHLB advances during the first six months of 2023. The year over year decrease is again driven by loan growth, as well as increased customer use of deposits. In addition to cash and cash equivalents on hand or held as deposits with other financial institutions, we rely on funding sources from customer deposits, cash flows from securities available-for-sale and loans, and a line of credit with the FHLBC to meet potential liquidity needs.  These sources of liquidity are immediately available to satisfy any funding requirements due to depositor or borrower demands through the ordinary course of our business.  Additional sources of funding include a $30.0 million undrawn line of credit held by the Company with a third party financial institution, as well as unpledged securities available-for-sale.    

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Interest Rate Risk

As part of our normal operations, we are subject to interest-rate risk on the assets we invest in (primarily loans and securities) and the liabilities we fund (primarily customer deposits and borrowed funds).  Fluctuations in interest rates may result in changes in the fair market values of our financial instruments, cash flows, and net interest income.  Like most financial institutions, we have an exposure to changes in both short-term and long-term interest rates.

The Federal Reserve slowed its pace of aggressive rate hikes in the second quarter of 2023.  The Federal Reserve took a pause at its June 2023 meeting and have implemented a 0.25% hike at the July 2023 meeting, reaching a federal funds rate of 5.25%.  The forward curve has shifted out from prior quarter expectations, as current indications reach a peak in July with flat rates through the remainder of 2023.  The curve also priced in interest rate cuts in 2024, in anticipation of an economic slowdown.  The Federal Reserve’s objective of shrinking its balance sheet has been slower than planned due to slower prepayments on mortgage-backed securities from the lack of refinancing activity, its balance sheet remains large at $8.3 trillion.

We manage interest rate risk within guidelines established by policy which are intended to limit the amount of rate exposure.  In practice, we seek to manage our interest rate risk exposure within our guidelines so that such exposure does not pose a material risk to our future earnings.  We manage various market risks in the normal course of our operations, including credit, liquidity risk, and interest-rate risk.  Other types of market risk, such as foreign currency exchange risk and commodity price risk, do not arise in the normal course of our business activities and operations.  In addition, since we do not hold a trading portfolio, we are not exposed to significant market risk from trading activities.  Our interest rate risk exposures at June 30, 2023 and December 31, 2022 are outlined in the table below.

Our net income can be significantly influenced by a variety of external factors, including: overall economic conditions, policies and actions of regulatory authorities, the amounts of and rates at which assets and liabilities reprice, variances in prepayment of loans and securities other than those that are assumed, early withdrawal of deposits, exercise of call options on borrowings or securities, competition, a general rise or decline in interest rates, changes in the slope of the yield-curve, changes in historical relationships between indices (such as SOFR and prime), and balance sheet growth or contraction.  Our asset-liability committee seeks to manage interest rate risk under a variety of rate environments by structuring our on-balance sheet and off-balance sheet positions, which includes interest rate swap derivatives as discussed in Note 19 of our consolidated financial statements found in in our Annual Report on Form 10-K for the year ended December 31, 2022.  We seek to monitor and manage interest rate risk within approved policy guidelines and limits.  Asset and liability modeling and tracking is performed and presented to the asset-liability committee and the Board of Directors no less than quarterly. The presentations discuss our current and historical interest rate risk posture, shifts in the balance sheet mix, and the impact of interest rate movements on earnings and equity.  Our current balance sheet is a moderately asset sensitive profile, as our variable rate assets reprice faster than our longer duration, low beta deposit base. Recent market events of failed liquidity management at other banks have been reviewed by the asset-liability committee. The committee concluded that we continue to possess a strong liquidity profile and no new liquidity risks were identified.  Prudently, we added new measures to assess liquidity risk and enhanced our reports to segment deposits by insured, uninsured, and collateralized deposits.  Additionally, we monitor the bank’s funding sources and uses on a regular basis.

We also have a Risk Committee, chaired by our Chief Risk Officer, which reports no less than quarterly to senior management as well as our Board of Directors regarding compliance with risk tolerance limits, key risk factor changes, both internally and externally, due to portfolio changes as well as market conditions.  Our enterprise risk management framework is governed by this committee, with input being provided by line of business managers, senior management and the Board.

We use simulation analysis to quantify the impact of various rate scenarios on our net interest income. Specific cash flows, repricing characteristics, and embedded options of the assets and liabilities held by us are incorporated into the simulation model. Earnings at risk are calculated by comparing the net interest income of a stable interest rate environment to the net interest income of a different interest rate environment in order to determine the percentage change. As of June 30, 2023, our net interest income profile remained sensitive to earnings gains (in both dollars and percentage) should interest rates rise.  However, we continue to have a less sensitive profile relative to December 31, 2022 due to the impact of interest rate swaps and sales of variable rate securities.  

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The following table summarizes the effect on annual income before income taxes based upon an immediate increase or decrease in interest rates of 0.5%, 1.0%, and 2.0%, with no change in the slope of the yield curve.  

Analysis of Net Interest Income Sensitivity

Immediate Changes in Rates

(Dollars in thousands)

    

(2.0)

%

    

(1.0)

%

    

  

(0.5)

%

    

  

0.5

%

    

  

1.0

%

    

  

2.0

%

June 30, 2023

Dollar change

$

(37,532)

$

(18,699)

$

(9,266)

$

9,366

$

18,873

$

37,228

Percent change

(15.0)

%

(7.5)

%

(3.7)

%

3.7

%

7.5

%

14.9

%

December 31, 2022

Dollar change

$

(46,800)

$

(22,963)

$

(11,327)

$

11,278

$

22,593

$

44,482

Percent change

(18.2)

%

(8.9)

%

(4.4)

%

4.4

%

8.8

%

17.3

%

The amounts and assumptions used in the simulation model should not be viewed as indicative of expected actual results.  Actual results will differ from simulated results due to timing, magnitude and frequency of interest rate changes as well as changes in market conditions and management strategies.  The above results do not take into account any management action to mitigate potential risk.

Effects of Inflation

In management’s opinion, although changes in interest rates affect our financial condition to a far greater degree than changes in the inflation rate, we monitor both.  The annual US inflation rate slowed to 3.0% relative to a peak of 9.1% in the year-over-year period ended June 30, 2022.  Management believes the inflation rate will continue to notch down, albeit at a much slower rate than the first half of 2023.  The downside risks of high inflation put upwards pressure to our expenses, which could impact our profits.  Furthermore, higher costs of living weaken the financial condition of our borrowers which could affect our credit profile.  A financial institution’s ability to be relatively unaffected by changes in interest rates is a good indicator of its capability to perform in a volatile rate environment.  We seek to mitigate the impact of interest rate volatility to the Bank by managing rate sensitive of both assets and liabilities respond to changes in interest rates in a similar time frame and to a similar degree.  Overall, we expect the risk of high inflation has been contained with minimal impact to our results.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

The Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended, as of June 30, 2023.  Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that as of June 30, 2023, the Company’s internal controls were effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities and Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified.

There were no changes in the Company’s internal controls over financial reporting during the quarter ended June 30, 2023, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

The design of any system of controls and procedures is based in part upon certain assumptions about the likelihood of future events. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

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PART II - OTHER INFORMATION

Item 1.  Legal Proceedings

The Company and its subsidiaries, from time to time, are involved in collection suits in the ordinary course of business against its debtors and are defendants in legal actions arising from normal business activities.  Management, after consultation with legal counsel, believes that the ultimate liabilities, if any, resulting from these actions will not have a material adverse effect on the financial position of the Bank or on the consolidated financial position of the Company.

Item 1.A.  Risk Factors

Investing in shares of our common stock involves certain risks, including those identified and described in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, as well as cautionary statements contained in this Quarterly Report, on Form 10-Q, including those under the caption “Cautionary Note Regarding Forward-Looking Statements.”

There have been no material changes to the risk factors previously disclosed in the Company’s (i) Annual Report on Form 10-K for the fiscal year ended December 31, 2022 and (ii) Quarterly Report on Form 10-Q for the fiscal quarter ended March 31, 2023.

Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3.  Defaults Upon Senior Securities

None.

Item 4.  Mine Safety Disclosures

Not applicable

Item 5.  Other Information

None.

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Item 6.  Exhibits

Exhibits:

31.1

31.2

32.1

Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2

Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101

Interactive data files pursuant to Rule 405 of Regulation S-T: (i) Consolidated Balance Sheets at June 30, 2023 and December 31, 2022; (ii) Consolidated Statements of Income for the three and six months ended June 30, 2023 and 2022; (iii) Consolidated Statements of Comprehensive Income (Loss) for the three and six months ended June 30, 2023 and 2022; (iv) Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and 2022; (v) Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2023 and 2022; and (vi) Notes to Consolidated Financial Statements, tagged as blocks of text and in detail.

104

Cover Page Interactive Data File (the cover page XBRL tags are embedded within the Inline XBRL document).

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SIGNATURES

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

OLD SECOND BANCORP, INC.

BY:

/s/ James L. Eccher

James L. Eccher

Chairman and Chief Executive Officer

(principal executive officer)

BY:

/s/ Bradley S. Adams

Bradley S. Adams

Executive Vice President and Chief Financial Officer

(principal financial and accounting officer)

DATE: August 8, 2023

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