KBRA Affirms Ratings for Orrstown Financial Services, Inc.

KBRA affirms the senior unsecured debt rating of BBB, the subordinated debt rating of BBB-, and the short-term debt rating of K3 for Harrisburg, Pennsylvania-based Orrstown Financial Services, Inc. (NASDAQ: ORRF) ("Orrstown" or “the company”). In addition, KBRA affirms the deposit and senior unsecured debt ratings of BBB+, the subordinated debt rating of BBB, and the short-term deposit and debt ratings of K2 for the subsidiary, Orrstown Bank ("the bank"). The Outlook for all long-term ratings is Stable.

Key Credit Considerations

The ratings are supported by the company’s branch-based deposit franchise with a footprint largely in secondary Pennsylvania markets, supporting the durable core deposit base as core deposits accounted for 92% of total funding at 3Q24 (5-year average of 93%). Additionally, the company has sustained peer-like funding costs despite its comparatively lower concentration in noninterest bearing accounts (11% of total deposits at 3Q24), largely due to its limited reliance on wholesale funding. Moreover, the recent merger with Codorus Valley Bancorp ("Codorus') provides meaningful expansion of its footprint into desirable markets (Lancaster and York Counties in PA) while increasing market share in existing markets, namely, the Baltimore MSA. Excluding non-recurring items, the core earnings profile has proven to be rather durable with core ROA of 1.33% through 9M24, underpinned by an above peer average NIM (3.81% at 9M24) which is supported by the less rate sensitive footprint as well as a shift in the earning asset mix towards higher yielding loans (loan to earning asset mix of 79%). Supporting the earnings base is ORRF’s diversified revenue stream with noninterest income generally comprising near 20% of total revenues. ORRF’s ratings also reflect conservative underwriting, a relatively granular loan portfolio, and manageable loan concentrations. Despite an increase in NPAs stemming from the merger with Codorus, overall credit losses have been well contained over time as the annual NCO ratio has tracked below 0.15% since 2015. The ratings acknowledge the decline in capital metrics as the CET1 ratio declined 100 bps from 2023 to 9.8% at 3Q24, below the similarly rated peer average (11.3% at 9M24). However, moving forward, KBRA expects capital metrics to improve as management is focused on rebuilding capital in conjunction with mid-single digit loan growth.

Rating Sensitivities

Sustained strong asset quality with low credit costs supplementing core earnings that track in line with higher rated peers, coupled with the meaningful rebuild of capital as well as the company’s continued efforts to better diversify both its revenues as well as its geographic footprint could lead to positive rating momentum over time. Conversely, significant deterioration in credit quality metrics evidenced by elevated credit costs adversely impacting earnings over an extended period, inability to demonstrate improvement in capital metrics, or significant runoff of core deposits could result in negative rating action.

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