Document Contents

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 March 31, 2019

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

For the transition period from _______ to _______

Commission file number: 000-25927

MACATAWA BANK CORPORATION

(Exact name of registrant as specified in its charter)

Michigan		38-3391345
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

10753 Macatawa Drive, Holland, Michigan 49424

(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (616) 820-1444

Indicate by checkmark 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 and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ☐

Accelerated filer ☒

Non-accelerated filer ☐

Smaller reporting company ☒

Emerging Growth Company ☐

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

The number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 34,043,697 shares of the Company's Common Stock (no par value) were outstanding as of April 25, 2019.

Forward-Looking Statements

This report contains forward-looking statements that are based on management's beliefs, assumptions, current expectations, estimates and projections about the financial services industry, the economy, and Macatawa Bank Corporation. Forward-looking statements are identifiable by words or phrases such as “outlook”, “plan” or “strategy”; that an event or trend “could”, “may”, “should”, “will”, “is likely”, or is “possible” or “probable” to occur or “continue”, has “begun” or “is scheduled” or “on track” or that the Company or its management “anticipates”, “believes”, “estimates”, “plans”, “forecasts”, “intends”, “predicts”, “projects”, or “expects” a particular result, or is “committed”, “confident”, “optimistic” or has an “opinion” that an event will occur, or other words or phrases such as “ongoing”, “future”, “signs”, “efforts”, “tend”, “exploring”, “appearing”, “until”, “near term”, “concern”, “going forward”, “focus”, “starting”, “initiative,” “trend” and variations of such words and similar expressions. Such statements are based upon current beliefs and expectations and involve substantial risks and uncertainties which could cause actual results to differ materially from those expressed or implied by such forward-looking statements. These statements include, among others, those related to future levels of earning assets, future composition of our loan portfolio, trends in credit quality metrics, future capital levels and capital needs, including the impact of Basel III, real estate valuation, future levels of repossessed and foreclosed properties and nonperforming assets, future levels of losses and costs associated with the administration and disposition of repossessed and foreclosed properties and nonperforming assets, future levels of loan charge-offs, future levels of other real estate owned, future levels of provisions for loan losses and reserve recoveries, the rate of asset dispositions, future dividends, future growth and funding sources, future cost of funds, future liquidity levels, future profitability levels, future interest rate levels, future net interest margin levels, the effects on earnings of changes in interest rates, future economic conditions, future effects of new or changed accounting standards, future loss recoveries, loan demand and loan growth and the future level of other revenue sources. Management's determination of the provision and allowance for loan losses, the appropriate carrying value of intangible assets (including deferred tax assets) and other real estate owned, and the fair value of investment securities (including whether any impairment on any investment security is temporary or other-than-temporary and the amount of any impairment) involves judgments that are inherently forward-looking. All statements with references to future time periods are forward-looking. All of the information concerning interest rate sensitivity is forward-looking. Our ability to sell other real estate owned at its carrying value or at all, successfully implement new programs and initiatives, increase efficiencies, maintain our current levels of deposits and other sources of funding, maintain liquidity, respond to declines in collateral values and credit quality, increase loan volume, originate high quality loans, maintain or improve mortgage banking income, realize the benefit of our deferred tax assets, continue payment of dividends and improve profitability is not entirely within our control and is not assured. The future effect of changes in the real estate, financial and credit markets and the national and regional economy on the banking industry, generally, and Macatawa Bank Corporation, specifically, are also inherently uncertain. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions (“risk factors”) that are difficult to predict with regard to timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ from what may be expressed or forecasted in such forward-looking statements. Macatawa Bank Corporation does not undertake to update forward-looking statements to reflect the impact of circumstances or events that may arise after the date of the forward-looking statements.

Risk factors include, but are not limited to, the risk factors described in "Item 1A - Risk Factors" of our Annual Report on Form 10-K for the year ended December 31, 2018. These and other factors are representative of the risk factors that may emerge and could cause a difference between an ultimate actual outcome and a preceding forward-looking statement.

Index

INDEX

		Page Number

Part I.	Financial Information:

	Item 1.
	Consolidated Financial Statements	4

	Notes to Consolidated Financial Statements	10

	Item 2.
	Management's Discussion and Analysis of Financial Condition and Results of Operations	34

	Item 3.
	Quantitative and Qualitative Disclosures About Market Risk	45

	Item 4.
	Controls and Procedures	46

Part II.	Other Information:

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

	Item 6.
	Exhibits	47

Signatures		48

Index

Part I

Financial Information

Item 1.

MACATAWA BANK CORPORATION

CONSOLIDATED BALANCE SHEETS

As of March 31, 2019 (unaudited) and December 31, 2018

(Dollars in thousands, except per share data)

	March 31, 2019			December 31, 2018
ASSETS
Cash and due from banks	$	28,143		$	40,526
Federal funds sold and other short-term investments		115,843			130,758
Cash and cash equivalents		143,986			171,284
Debt securities available for sale, at fair value		224,645			226,986
Debt securities held to maturity (fair value 2019 - $72,733 and 2018 - $71,505)		70,336			70,334
Federal Home Loan Bank (FHLB) stock		11,558			11,558
Loans held for sale, at fair value		512			415
Total loans		1,384,567			1,405,658
Allowance for loan losses		(16,892	)		(16,876	)
Net loans		1,367,675			1,388,782
Premises and equipment – net		44,805			44,862
Accrued interest receivable		5,994			5,279
Bank-owned life insurance		41,433			41,185
Other real estate owned - net		3,261			3,380
Net deferred tax asset		2,660			3,380
Other assets		9,015			7,679
Total assets	$	1,925,880		$	1,975,124
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Noninterest-bearing	$	466,631		$	485,530
Interest-bearing		1,151,233			1,191,209
Total deposits		1,617,864			1,676,739
Other borrowed funds		60,000			60,000
Long-term debt		41,238			41,238
Accrued expenses and other liabilities		8,812			6,294
Total liabilities		1,727,914			1,784,271
Commitments and contingent liabilities		—			—
Shareholders' equity
Common stock, no par value, 200,000,000 shares authorized; 34,043,697 and 34,045,411 shares issued and outstanding at March 31, 2019 and December 31, 2018		217,842			217,783
Retained deficit		(19,384	)		(24,652	)
Accumulated other comprehensive income (loss)		(492	)		(2,278	)
Total shareholders' equity		197,966			190,853
Total liabilities and shareholders' equity	$	1,925,880		$	1,975,124

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

Three month periods ended March 31, 2019 and 2018

(unaudited)

(Dollars in thousands, except per share data)

	Three Months Ended March 31, 2019			Three Months Ended March 31, 2018
Interest income
Loans, including fees	$	16,450		$	13,710
Securities
Taxable		996			868
Tax-exempt		839			876
FHLB Stock		160			197
Federal funds sold and other short-term investments		744			368
Total interest income		19,189			16,019
Interest expense
Deposits		2,256			994
Other borrowings		327			369
Long-term debt		586			474
Total interest expense		3,169			1,837
Net interest income		16,020			14,182
Provision for loan losses		(250	)		(100	)
Net interest income after provision for loan losses		16,270			14,282
Noninterest income
Service charges and fees		1,050			1,049
Net gains on mortgage loans		211			141
Trust fees		890			925
ATM and debit card fees		1,326			1,278
Gain on sales of securities		—			—
Bank owned life insurance ("BOLI") income		236			238
Other		615			501
Total noninterest income		4,328			4,132
Noninterest expense
Salaries and benefits		6,244			6,194
Occupancy of premises		1,093			1,072
Furniture and equipment		844			805
Legal and professional		230			202
Marketing and promotion		228			229
Data processing		730			695
FDIC assessment		120			132
Interchange and other card expense		345			332
Bond and D&O Insurance		104			110
Net (gains) losses on repossessed and foreclosed properties		(35	)		406
Administration and disposition of problem assets		88			55
Other		1,247			1,202
Total noninterest expenses		11,238			11,434
Income before income tax		9,360			6,980
Income tax expense		1,714			1,225
Net income	$	7,646		$	5,755
Basic earnings per common share	$	0.22		$	0.17
Diluted earnings per common share	$	0.22		$	0.17
Cash dividends per common share	$	0.07		$	0.06

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Three month periods ended March 31, 2019 and 2018

(unaudited)

(Dollars in thousands)

	Three Months Ended March 31, 2019			Three Months Ended March 31, 2018
Net income	$	7,646		$	5,755
Other comprehensive income:
Unrealized gains (losses):
Net change in unrealized gains (losses) on debt securities available for sale		2,261			(2,299	)
Tax effect		(475	)		483
Net change in unrealized gains (losses) on debt securities available for sale, net of tax		1,786			(1,816	)
Less: reclassification adjustments:
Reclassification for gains included in net income		—			—
Tax effect		—			—
Reclassification for gains included in net income, net of tax		—			—
Other comprehensive income (loss), net of tax		1,786			(1,816	)
Comprehensive income	$	9,432		$	3,939

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

Three month periods ended March 31, 2019 and 2018

(unaudited)

(Dollars in thousands, except per share data)

	Common Stock			Retained Deficit			Accumulated Other Comprehensive Income (Loss)			Total Shareholders' Equity
Balance, January 1, 2018, as reported	$	217,081		$	(42,804	)	$	(1,291	)	$	172,986
Cumulative effect adjustment upon adoption of ASU 2018-02		—			278			(278	)		—
Balance, January 1, 2018, adjusted	$	217,081		$	(42,526	)	$	(1,569	)	$	172,986
Reclassification for equity securities upon adoption of ASU 2016-01		—			(24	)		24			—
Net income for the three months ended March 31, 2018		—			5,755			—			5,755
Cash dividends at $.06 per share		—			(2,041	)		—			(2,041	)
Repurchase of 452 shares for taxes withheld on vested restricted stock		(5	)		—			—			(5	)
Issuance of 45,000 shares for stock option exercise		386			—			—			386
Net change in unrealized loss on debt securities available for sale, net of tax		—			—			(1,816	)		(1,816	)
Stock compensation expense		111			—			—			111
Balance, March 31, 2018	$	217,573		$	(38,836	)	$	(3,361	)	$	175,376

	Common Stock		Retained Deficit			Accumulated Other Comprehensive Income (Loss)			Total Shareholders' Equity
Balance, January 1, 2019	$	217,783	$	(24,652	)	$	(2,278	)	$	190,853
Net income for the three months ended March 31, 2019		—		7,646			—			7,646
Cash dividends at $.07 per share		—		(2,378	)		—			(2,378	)
Net change in unrealized loss on debt securities available for sale, net of tax		—		—			1,786			1,786
Stock compensation expense		59		—			—			59
Balance, March 31, 2019	$	217,842	$	(19,384	)	$	(492	)	$	197,966

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

Three month periods ended March 31, 2019 and 2018

(unaudited)

(Dollars in thousands)

	Three Months Ended March 31, 2019			Three Months Ended March 31, 2018
Cash flows from operating activities
Net income	$	7,646		$	5,755
Adjustments to reconcile net income to net cash from operating activities:
Depreciation and amortization		632			534
Stock compensation expense		59			111
Provision for loan losses		(250	)		(100	)
Origination of loans for sale		(6,881	)		(5,140	)
Proceeds from sales of loans originated for sale		6,995			6,489
Net gains on mortgage loans		(211	)		(141	)
Gain on sales of securities		—			—
Write-down of other real estate		10			280
Net gain (loss) on sales of other real estate		(45	)		126
Deferred income tax expense		245			285
Change in accrued interest receivable and other assets		(2,063	)		(1,120	)
Earnings in bank-owned life insurance		(236	)		(238	)
Change in accrued expenses and other liabilities		2,771			747
Net cash from operating activities		8,672			7,588
Cash flows from investing activities
Loan originations and payments, net		21,357			(5,354	)
Purchases of securities available for sale		(5,297	)		(8,502	)
Purchases of securities held to maturity		(498	)		(5,305	)
Proceeds from:
Maturities and calls of securities		8,300			10,158
Sales of securities available for sale		—			—
Principal paydowns on securities		1,835			1,760
Sales of other real estate		154			431
Additions to premises and equipment		(568	)		(142	)
Net cash from investing activities		25,283			(6,954	)
Cash flows from financing activities
Change in deposits		(58,875	)		(18,138	)
Repayments and maturities of other borrowed funds		(10,000	)		(11,451	)
Proceeds from other borrowed funds		10,000			—
Proceeds from exercise of stock options		—			386
Repurchase of shares for taxes withheld on vested restricted stock		—			(5	)
Cash dividends paid		(2,378	)		(2,041	)
Net cash from financing activities		(61,253	)		(31,249	)
Net change in cash and cash equivalents		(27,298	)		(30,615	)
Cash and cash equivalents at beginning of period		171,284			161,467
Cash and cash equivalents at end of period	$	143,986		$	130,852

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

Three month periods ended March 31, 2019 and 2018

(unaudited)

(Dollars in thousands)

	Three Months Ended March 31, 2019			Three Months Ended March 31, 2018
Supplemental cash flow information
Interest paid	$	2,788		$	1,828
Income taxes paid		—			—
Supplemental noncash disclosures:
Transfers from loans to other real estate		—			293
Security settlement		(253	)		—

See accompanying notes to consolidated financial statements.

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Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation: The accompanying consolidated financial statements include the accounts of Macatawa Bank Corporation ("the Company", "our", "we") and its wholly-owned subsidiary, Macatawa Bank ("the Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation.

Macatawa Bank is a Michigan chartered bank with depository accounts insured by the Federal Deposit Insurance Corporation. The Bank operates 26 full service branch offices providing a full range of commercial and consumer banking and trust services in Kent County, Ottawa County, and northern Allegan County, Michigan.

The Company owns all of the common stock of Macatawa Statutory Trust I and Macatawa Statutory Trust II. These are grantor trusts that issued trust preferred securities and are not consolidated with the Company under accounting principles generally accepted in the United States of America.

Basis of Presentation: The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) believed necessary for a fair presentation have been included.

Operating results for the three month period ended March 31, 2019 are not necessarily indicative of the results that may be expected for the year ending December 31, 2019. For further information, refer to the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2018.

Use of Estimates: To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ. The allowance for loan losses, valuation of deferred tax assets, loss contingencies, fair value of other real estate owned and fair values of financial instruments are particularly subject to change.

Allowance for Loan Losses: The allowance for loan losses (allowance) is a valuation allowance for probable incurred credit losses inherent in our loan portfolio, increased by the provision for loan losses and recoveries, and decreased by charge-offs of loans. Management believes the allowance for loan losses balance to be adequate based on known and inherent risks in the portfolio, past loan loss experience, information about specific borrower situations and estimated collateral values, economic conditions and other relevant factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Management continues its collection efforts on previously charged-off balances and applies recoveries as additions to the allowance for loan losses.

The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. The general component covers non-classified loans and is based on historical loss experience adjusted for current qualitative factors. The Company maintains a loss migration analysis that tracks loan losses and recoveries based on loan class and the loan risk grade assignment for commercial loans. At March 31, 2019, an 18 month annualized historical loss experience was used for commercial loans and a 12 month historical loss experience period was applied to residential mortgage loans and consumer loans. These historical loss percentages are adjusted (both upwards and downwards) for certain qualitative factors, including economic trends, credit quality trends, valuation trends, concentration risk, quality of loan review, changes in personnel, external factors and other considerations.

A loan is impaired when, based on current information and events, it is believed to be probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified and a concession has been made, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired.

Commercial and commercial real estate loans with relationship balances exceeding $500,000 and an internal risk grading of 6 or worse are evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated and the loan is reported at the present value of estimated future cash flows using the loan’s existing interest rate or at the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment and they are not separately identified for impairment disclosures.

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Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Troubled debt restructurings are also considered impaired with impairment generally measured at the present value of estimated future cash flows using the loan’s effective rate at inception or using the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral.

Foreclosed Assets: Assets acquired through or instead of loan foreclosure, primarily other real estate owned, are initially recorded at fair value less estimated costs to sell when acquired, establishing a new cost basis. If fair value declines, a valuation allowance is recorded through expense. Costs after acquisition are expensed unless they add value to the property.

Income Taxes: Income tax expense is the sum of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are the expected future tax consequences of temporary differences between the carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.

The Company recognizes a tax position as a benefit only if it is "more likely than not" that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the "more likely than not" test, no tax benefit is recorded. The Company recognizes interest and penalties related to income tax matters in income tax expense.

During the first quarter of 2018, the Company adopted ASU 2018-02, allowing for the reclassification of the income tax effects of the revaluation the deferred tax impact on accumulated other comprehensive income (AOCI) due to the enactment of tax reform at the end of 2017. The Company’s only component of accumulated other comprehensive income is the fair value adjustment for securities available for sale. Upon adoption of this ASU, a transfer was made from AOCI to retained earnings in the amount of $278,000.

Revenue Recognition: The Company recognizes revenues as they are earned based on contractual terms, as transactions occur, or as services are provided and collectability is reasonably assured. The Company’s primary source of revenue is interest income from the Bank’s loans and investment securities. The Company also earns noninterest revenue from various banking services offered by the Bank.

Interest Income: The Company’s largest source of revenue is interest income which is primarily recognized on an accrual basis based on contractual terms written into loans and investment contracts.

Noninterest Revenue: The Company derives the majority of its noninterest revenue from: (1) service charges for deposit related services, (2) gains related to mortgage loan sales, (3) trust fees and (4) debit and credit card interchange income. Most of these services are transaction based and revenue is recognized as the related service is provided.

Derivatives: Certain of the Bank’s commercial loan customers have entered into interest rate swap agreements directly with the Bank. At the same time the Bank enters into a swap agreement with its customer, the Bank enters into a corresponding interest rate swap agreement with a correspondent bank at terms mirroring the Bank’s interest rate swap with its commercial loan customer. This is known as a back-to-back swap agreement. Under this arrangement the Bank has five freestanding interest rate swaps, each of which are carried at fair value. As the terms mirror each other, there is no income statement impact to the Bank. At March 31, 2019 and December 31, 2018, the total notional amount of such agreements was $65.7 million and $66.0 million, respectively, and resulted in a derivative asset with a fair value of $1,055,000 and $700,000, respectively, which were included in other assets and a derivative liability of $1,055,000 and $700,000, respectively, which were included in other liabilities.

Reclassifications: Some items in the prior period financial statements were reclassified to conform to the current presentation.

Adoption of New Accounting Standards: FASB issued ASU 2016-02, Leases. The new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. As the Company owns most of its branch locations, this ASU applies primarily to operating leases and the impact of adoption of this ASU by the Company had a nominal income impact and resulted in a right-of-use asset of $800,000 and a corresponding lease obligation liability of $800,000 being established as of January 1, 2019. The right-of-use asset is included in other assets and the lease obligation liability is included in other liabilities in the March 31, 2019 consolidated balance sheet.

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Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

FASB issued ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities. This ASU simplifies and expands the eligible hedging strategies for financial and nonfinancial risks by more closely aligning hedge accounting with a company’s risk management activities, and also simplifies the application of Topic 815, Derivatives and Hedging , through targeted improvements in key practice areas. This includes expanding the list of items eligible to be hedged and amending the methods used to measure the effectiveness of hedging relationships. In addition, the ASU prescribes how hedging results should be presented and requires incremental disclosures. These changes are intended to allow preparers more flexibility and to enhance the transparency of how hedging results are presented and disclosed. Further, the ASU provides partial relief on the timing of certain aspects of hedge documentation and eliminates the requirement to recognize hedge ineffectiveness separately in earnings in the current period. The ASU was effective for years beginning after December 15, 2018, and interim periods within those years. The impact of adoption of this ASU was not material.

Newly Issued Not Yet Effective Standards: FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU provides financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date by replacing the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The new guidance eliminates the probable initial recognition threshold and, instead, reflects an entity’s current estimate of all expected credit losses. The new guidance broadens the information that an entity must consider in developing its expected credit loss estimate for assets measured either collectively or individually to include forecasted information, as well as past events and current conditions. There is no specified method for measuring expected credit losses, and an entity is allowed to apply methods that reasonably reflect its expectations of the credit loss estimate. Although an entity may still use its current systems and methods for recording the allowance for credit losses, under the new rules, the inputs used to record the allowance for credit losses generally will need to change to appropriately reflect an estimate of all expected credit losses and the use of reasonable and supportable forecasts. Additionally, credit losses on available-for-sale debt securities will now have to be presented as an allowance rather than as a write-down. This ASU is effective for fiscal years beginning after December 15, 2019, and for interim periods within those years. The Company selected a software vendor for applying this new ASU, began implementation of the software in the second quarter of 2018, completed integration during the third quarter of 2018 and ran parallel computations with both systems using the current GAAP incurred loss model in the fourth quarter of 2018. The Company went live with this software beginning in January 2019 for its monthly incurred loss computations and began modeling the new current expected credit loss model assumptions to the allowance for loan losses computation in the first quarter of 2019 and will continue throughout 2019. The Company anticipates running parallel computations in the latter part of 2019 and continues to evaluate the impact of adoption of the new standard.

-12-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 2 – SECURITIES

The amortized cost and fair value of securities at period-end were as follows (dollars in thousands):

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
March 31, 2019
Available for Sale
U.S. Treasury and federal agency securities	$	93,056	$	2	$	(973	)	$	92,085
U.S. Agency MBS and CMOs		33,948		234		(270	)		33,912
Tax-exempt state and municipal bonds		46,212		688		(54	)		46,846
Taxable state and municipal bonds		45,052		114		(361	)		44,805
Corporate bonds and other debt securities		6,999		27		(29	)		6,997
	$	225,267	$	1,065	$	(1,687	)	$	224,645
Held to Maturity
Tax-exempt state and municipal bonds	$	70,336	$	2,472	$	(75	)	$	72,733

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
December 31, 2018
Available for Sale
U.S. Treasury and federal agency securities	$	97,102	$	6	$	(1,710	)	$	95,398
U.S. Agency MBS and CMOs		33,287		97		(494	)		32,890
Tax-exempt state and municipal bonds		45,212		246		(331	)		45,127
Taxable state and municipal bonds		46,565		59		(690	)		45,934
Corporate bonds and other debt securities		7,703		2		(68	)		7,637
	$	229,869	$	410	$	(3,293	)	$	226,986
Held to Maturity
Tax-exempt state and municipal bonds	$	70,334	$	1,488	$	(317	)	$	71,505

There were no sales of securities in the three month periods ended March 31, 2019 and 2018.

Contractual maturities of debt securities at March 31, 2019 were as follows (dollars in thousands):

	Held–to-Maturity Securities				Available-for-Sale Securities
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Due in one year or less	$	8,022	$	8,054	$	24,104	$	24,016
Due from one to five years		28,932		29,617		129,015		128,063
Due from five to ten years		13,742		14,220		38,771		39,237
Due after ten years		19,640		20,842		33,377		33,329
	$	70,336	$	72,733	$	225,267	$	224,645

-13-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 2 – SECURITIES (Continued)

Securities with unrealized losses at March 31, 2019 and December 31, 2018, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows (dollars in thousands):

	Less than 12 Months					12 Months or More					Total
March 31, 2019	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
Available for Sale
U.S. Treasury and federal agency securities	$	—	$	—		$	82,527	$	(941	)	$	82,527	$	(941	)
U.S. Agency MBS and CMOs		984		(7	)		18,194		(263	)		19,178		(270	)
Tax-exempt state and municipal bonds		268		(1	)		6,667		(58	)		6,935		(59	)
Taxable state and municipal bonds		255		—			36,517		(356	)		36,772		(356	)
Corporate bonds and other debt securities		—		—			8,519		(61	)		8,519		(61	)
Total	$	1,507	$	(8	)	$	152,424	$	(1,679	)	$	153,931	$	(1,687	)

Held to Maturity
Tax-exempt state and municipal bonds	$	—	$	—		$	4,681	$	(75	)	$	4,681	$	(75	)

	Less than 12 Months					12 Months or More					Total
December 31, 2018	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
Available for Sale
U.S. Treasury and federal agency securities	$	1,974	$	(26	)	$	82,895	$	(1,622	)	$	84,869	$	(1,648	)
U.S. Agency MBS and CMOs		1,728		(13	)		18,712		(481	)		20,440		(494	)
Tax-exempt state and municipal bonds		8,987		(69	)		10,785		(262	)		19,772		(331	)
Taxable state and municipal bonds		4,035		(19	)		37,021		(671	)		41,056		(690	)
Corporate bonds and other debt securities		2,698		(12	)		8,170		(118	)		10,868		(130	)
Total temporarily impaired	$	19,422	$	(139	)	$	157,583	$	(3,154	)	$	177,005	$	(3,293	)

Held to Maturity
Tax-exempt state and municipal bonds	$	8,533	$	(76	)	$	4,683	$	(241	)	$	13,216	$	(317	)

Other-Than-Temporary-Impairment

Management evaluates securities for other-than-temporary impairment ("OTTI") at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. At March 31, 2019, 190 securities available for sale with fair values totaling $153.9 million had unrealized losses totaling $1.7 million. At March 31, 2019, 6 securities held to maturity with fair values totaling $4.7 million had unrealized losses totaling $75,000. Management has the intent and ability to hold the securities classified as held to maturity until they mature, at which time the Company will receive full value for the securities. In addition, management believes it is more likely than not that the Company will not be required to sell any if its investment securities before a recovery of cost. Management determined that the unrealized losses for the three month periods ended March 31, 2019 and 2018 were attributable to changes in interest rates and not due to credit quality. As such, no OTTI charges were necessary during each period.

Securities with a carrying value of approximately $1.0 million were pledged as security for public deposits, letters of credit and for other purposes required or permitted by law at March 31, 2019 and December 31, 2018.

-14-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS

Portfolio loans were as follows (dollars in thousands):

	March 31, 2019			December 31, 2018
Commercial and industrial	$	493,891		$	513,345
Commercial real estate:
Residential developed		14,723			14,825
Unsecured to residential developers		—			—
Vacant and unimproved		45,423			44,169
Commercial development		701			712
Residential improved		100,801			98,500
Commercial improved		291,612			295,618
Manufacturing and industrial		119,540			114,887
Total commercial real estate		572,800			568,711
Consumer
Residential mortgage		237,207			238,174
Unsecured		367			130
Home equity		73,631			78,503
Other secured		6,671			6,795
Total consumer		317,876			323,602
Total loans		1,384,567			1,405,658
Allowance for loan losses		(16,892	)		(16,876	)
	$	1,367,675		$	1,388,782

Activity in the allowance for loan losses by portfolio segment was as follows (dollars in thousands):

Three months ended March 31, 2019	Commercial and Industrial			Commercial Real Estate			Consumer			Unallocated		Total
Beginning balance	$	6,856		$	6,544		$	3,449		$	27	$	16,876
Charge-offs		—			(132	)		(25	)		—		(157	)
Recoveries		136			224			63			—		423
Provision for loan losses		(3	)		(189	)		(61	)		3		(250	)
Ending Balance	$	6,989		$	6,447		$	3,426		$	30	$	16,892

Three months ended March 31, 2018	Commercial and Industrial			Commercial Real Estate			Consumer			Unallocated			Total
Beginning balance	$	6,478		$	6,590		$	3,494		$	38		$	16,600
Charge-offs		(66	)		—			(31	)		—			(97	)
Recoveries		34			203			35			—			272
Provision for loan losses		60			(261	)		105			(4	)		(100	)
Ending Balance	$	6,506		$	6,532		$	3,603		$	34		$	16,675

-15-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method (dollars in thousands):

March 31, 2019	Commercial and Industrial		Commercial Real Estate		Consumer		Unallocated		Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment	$	438	$	41	$	448	$	—	$	927
Collectively evaluated for impairment		6,551		6,406		2,978		30		15,965
Total ending allowance balance	$	6,989	$	6,447	$	3,426	$	30	$	16,892
Loans:
Individually reviewed for impairment	$	6,624	$	3,204	$	6,073	$	—	$	15,901
Collectively evaluated for impairment		487,267		569,596		311,803		—		1,368,666
Total ending loans balance	$	493,891	$	572,800	$	317,876	$	—	$	1,384,567

December 31, 2018	Commercial and Industrial		Commercial Real Estate		Consumer		Unallocated		Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment	$	449	$	181	$	468	$	—	$	1,098
Collectively evaluated for impairment		6,407		6,363		2,981		27		15,778
Total ending allowance balance	$	6,856	$	6,544	$	3,449	$	27	$	16,876
Loans:
Individually reviewed for impairment	$	7,375	$	3,499	$	6,347	$	—	$	17,221
Collectively evaluated for impairment		505,970		565,212		317,255		—		1,388,437
Total ending loans balance	$	513,345	$	568,711	$	323,602	$	—	$	1,405,658

-16-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

The following table presents loans individually evaluated for impairment by class of loans as of March 31, 2019 (dollars in thousands):

March 31, 2019	Unpaid Principal Balance		Recorded Investment		Allowance Allocated
With no related allowance recorded:
Commercial and industrial	$	1,396	$	1,396	$	—
Commercial real estate:
Residential developed		—		—		—
Unsecured to residential developers		—		—		—
Vacant and unimproved		134		134		—
Commercial development		—		—		—
Residential improved		136		136		—
Commercial improved		1,646		1,646		—
Manufacturing and industrial		—		—		—
		1,916		1,916		—
Consumer:
Residential mortgage		—		—		—
Unsecured		—		—		—
Home equity		—		—		—
Other secured		—		—		—
		—		—		—
Total with no related allowance recorded	$	3,312	$	3,312	$	—
With an allowance recorded:
Commercial and industrial	$	5,228	$	5,228	$	438
Commercial real estate:
Residential developed		171		171		3
Unsecured to residential developers		—		—		—
Vacant and unimproved		—		—		—
Commercial development		—		—		—
Residential improved		147		147		11
Commercial improved		595		595		17
Manufacturing and industrial		375		375		10
		1,288		1,288		41
Consumer:
Residential mortgage		4,826		4,826		356
Unsecured		254		254		19
Home equity		960		960		71
Other secured		33		33		2
		6,073		6,073		448
Total with an allowance recorded	$	12,589	$	12,589	$	927
Total	$	15,901	$	15,901	$	927

-17-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2018 (dollars in thousands):

December 31, 2018	Unpaid Principal Balance		Recorded Investment		Allowance Allocated
With no related allowance recorded:
Commercial and industrial	$	2,515	$	1,375	$	—
Commercial real estate:
Residential developed		—		—		—
Unsecured to residential developers		—		—		—
Vacant and unimproved		143		143		—
Commercial development		—		—		—
Residential improved		140		140		—
Commercial improved		1,675		1,675		—
Manufacturing and industrial		—		—		—
		1,958		1,958		—
Consumer:
Residential mortgage		—		—		—
Unsecured		—		—		—
Home equity		—		—		—
Other secured		—		—		—
		—		—		—
Total with no related allowance recorded	$	4,473	$	3,333	$	—
With an allowance recorded:
Commercial and industrial	$	6,000	$	6,000	$	449
Commercial real estate:
Residential developed		172		172		2
Unsecured to residential developers		—		—		—
Vacant and unimproved		—		—		—
Commercial development		—		—		—
Residential improved		193		193		13
Commercial improved		794		794		155
Manufacturing and industrial		382		382		11
		1,541		1,541		181
Consumer:
Residential mortgage		5,029		5,029		371
Unsecured		—		—		—
Home equity		1,318		1,318		97
Other secured		—		—		—
		6,347		6,347		468
Total with an allowance recorded	$	13,888	$	13,888	$	1,098
Total	$	18,361	$	17,221	$	1,098

-18-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

The following table presents information regarding average balances of impaired loans and interest recognized on impaired loans for the three month periods ended March 31, 2019 and 2018 (dollars in thousands):

	Three Months Ended March 31, 2019		Three Months Ended March 31, 2018
Average of impaired loans during the period:
Commercial and industrial	$	6,825	$	6,847
Commercial real estate:
Residential developed		172		178
Unsecured to residential developers		—		—
Vacant and unimproved		138		168
Commercial development		—		126
Residential improved		308		1,455
Commercial improved		2,340		3,731
Manufacturing and industrial		379		253
Consumer		6,197		8,067
Interest income recognized during impairment:
Commercial and industrial		288		302
Commercial real estate		44		74
Consumer		75		85
Cash-basis interest income recognized
Commercial and industrial		282		294
Commercial real estate		49		80
Consumer		76		87

Nonaccrual loans include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans. The following tables present the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of March 31, 2019 and December 31, 2018:

March 31, 2019	Nonaccrual		Over 90 days Accruing
Commercial and industrial	$	—	$	—
Commercial real estate:
Residential developed		—		—
Unsecured to residential developers		—		—
Vacant and unimproved		—		—
Commercial development		—		—
Residential improved		102		—
Commercial improved		111		—
Manufacturing and industrial		—		—
		213		—
Consumer:
Residential mortgage		195		—
Unsecured		—		—
Home equity		—		1
Other secured		—		—
		195		1
Total	$	408	$	1

-19-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

December 31, 2018	Nonaccrual		Over 90 days Accruing
Commercial and industrial	$	874	$	—
Commercial real estate:
Residential developed		—		—
Unsecured to residential developers		—		—
Vacant and unimproved		—		—
Commercial development		—		—
Residential improved		15		—
Commercial improved		303		—
Manufacturing and industrial		—		—
		318		—
Consumer:
Residential mortgage		111		—
Unsecured		—		—
Home equity		—		1
Other secured		—		—
		111		1
Total	$	1,303	$	1

The following table presents the aging of the recorded investment in past due loans as of March 31, 2019 and December 31, 2018 by class of loans (dollars in thousands):

March 31, 2019	30-90 Days		Greater Than 90 Days		Total Past Due		Loans Not Past Due		Total
Commercial and industrial	$	69	$	—	$	69	$	493,822	$	493,891
Commercial real estate:
Residential developed		—		—		—		14,723		14,723
Unsecured to residential developers		—		—		—		—		—
Vacant and unimproved		—		—		—		45,423		45,423
Commercial development		—		—		—		701		701
Residential improved		59		102		161		100,640		100,801
Commercial improved		—		111		111		291,501		291,612
Manufacturing and industrial		—		—		—		119,540		119,540
		59		213		272		572,528		572,800
Consumer:
Residential mortgage		—		194		194		237,013		237,207
Unsecured		6		—		6		361		367
Home equity		3		1		4		73,627		73,631
Other secured		129		—		129		6,542		6,671
		138		195		333		317,543		317,876
Total	$	266	$	408	$	674	$	1,383,893	$	1,384,567

-20-

Index

MACATAWA BANK CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 3 – LOANS (Continued)

December 31, 2018	30-90 Days		Greater Than 90 Days		Total Past Due		Loans Not Past Due		Total
Commercial and industrial	$	—	$	—	$	—	$	513,345	$	513,345
Commercial real estate:
Residential developed		—		—		—		14,825		14,825
Unsecured to residential developers		—		—		—		—		—
Vacant and unimproved		57		—		57		44,112		44,169
Commercial development		—		—		—		712		712
Residential improved		86		16		102		98,398		98,500
Commercial improved		100		303		403		295,215		295,618
Manufacturing and industrial

Section 1: 10-Q (10-Q)