PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements (Unaudited)

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share information) (Unaudited)

 

 

See selected notes to the consolidated financial statements.

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

(Dollars in thousands, except per share data) (Unaudited)

 

 

 

See selected notes to the consolidated financial statements.

 

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME

(In thousands) (Unaudited)

 

 

 

 

 

 

See selected notes to the consolidated financial statements.

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

For the Three Months Ended September 30, 2023 and 2022

(Dollars in thousands, except share information) (Unaudited)

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

For the Nine Months Ended September 30, 2023 and 2022

(Dollars in thousands, except share information) (Unaudited)

 

 

See selected notes to the consolidated financial statements.

 

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands) (Unaudited)

 

 

See selected notes to the consolidated financial statements.

 

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands) (Unaudited)

 

 

See selected notes to the consolidated financial statements.

 

 

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1 - Basis of Presentation and Critical Accounting Policies

 

Organization and nature of business - First Northwest Bancorp, a Washington corporation ("First Northwest"), became the holding company of First Fed Bank ("First Fed" or the "Bank") on January 29, 2015, upon completion of the Bank's conversion from a mutual to stock form of organization (the "Conversion").

 

In connection with the Conversion, the Company issued an aggregate of 12,167,000 shares of common stock at an offering price of $10.00 per share for gross proceeds of $121.7 million. An additional 933,360 shares of Company common stock and $400,000 in cash were contributed to the First Federal Community Foundation ("Foundation"), a charitable foundation that was established in connection with the Conversion, resulting in the issuance of a total of 13,100,360 shares. The Company received $117.6 million in net proceeds from the stock offering of which $58.4 million was contributed to the Bank upon Conversion.

 

Pursuant to the Bank's Plan of Conversion (the "Plan") adopted by its Board of Directors, and as approved by its members, the Company established an employee stock ownership plan ("ESOP"). On December 18, 2015, the ESOP completed its open market purchases, with funds borrowed from the Company, of 8% of the common stock issued in the Conversion for a total of 1,048,029 shares.

 

In April 2021, First Northwest entered into an Amended and Restated Joint Venture Agreement (the "Joint Venture Agreement") with the Bank, POM Peace of Mind, Inc. ("POM"), and Quin Ventures, Inc. ("Quin Ventures"). First Northwest extended $8.0 million to Quin Ventures under a capital financing agreement and related promissory note and issued 29,719 shares of the Company's common stock to POM with a value of $500,000. Quin Ventures sold substantially all of its assets in December 2022 to Quil Ventures Inc., at which time POM returned the 29,719 shares previously issued and the Joint Venture Agreement was terminated. As part of the sale transaction, the Company received a 5% ownership stake in Quil Ventures Inc. valued at $225,000 and recorded a $1.5 million commitment receivable. In June 2023, First Northwest determined that Quin Ventures was no longer a going concern. The Company wrote off the remaining investment in Quin Ventures through retained earnings in accordance with applicable non-controlling interest accounting methods. The noncontrolling interest in Quin Ventures balance was moved to retained earnings, with no change to total shareholders' equity as a result of the transaction.

 

On October 31, 2021, the Bank converted from a State Savings Bank Charter to a State Commercial Bank Charter and was simultaneously renamed First Fed Bank from First Federal Savings and Loan Association of Port Angeles.

 

On August 5, 2022, First Northwest's election to be treated as a financial holding company became effective, allowing the Company to engage in activities that are financial in nature or incidental to financial activities.

 

First Northwest and the Bank are collectively referred to as the "Company." For periods prior to June 30, 2023, Company references also include Quin Ventures.

 

First Northwest's business activities generally are limited to passive investment activities and oversight of its investment in First Fed and former controlling interest in Quin Ventures. Accordingly, the information set forth in this report, including the consolidated unaudited financial statements and related data, relates primarily to the Bank for balance sheet related disclosures and the Bank and Quin Ventures for income statement related disclosures.

 

The Bank is a community-oriented financial institution providing commercial and consumer banking services to individuals and businesses in western Washington State with offices in Clallam, Jefferson, Kitsap, King, and Whatcom counties. These services include deposit and lending transactions that are supplemented with borrowing and investing activities.

 

Basis of presentation - The accompanying unaudited interim consolidated financial statements have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). Accordingly, they do not include all the information and footnotes required by U.S. Generally Accepted Accounting Principles ("GAAP") for complete financial statements. These unaudited interim consolidated financial statements should be read in conjunction with our audited consolidated financial statements and accompanying notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2022. In our opinion, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of the consolidated financial statements in accordance with GAAP have been included. Operating results for the three and nine months ended September 30, 2023, are not necessarily indicative of the results that may be expected for future periods.

 

 

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Principles of consolidation - The accompanying consolidated financial statements include the accounts of First Northwest; its wholly owned subsidiary, First Fed, and its former controlling interest in Quin Ventures. All material intercompany accounts and transactions have been eliminated in consolidation. Through June 2023, First Northwest and POM shared equal ownership in Quin Ventures; however, it was previously determined that First Northwest had a controlling interest for financial reporting purposes under Accounting Standards Codification 810. The Quin Ventures net loss allocable to POM is shown on the financial statements where applicable through a noncontrolling interest adjustment.

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LIBOR

In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. ASU 2020-04 provides temporary optional guidance to ease the potential burden in accounting for reference rate reform. The ASU provides optional expedients and exceptions for applying generally accepted accounting principles to contract modifications and hedging relationships, subject to meeting certain criteria, which reference the London Inter-Bank Offered Rate ("LIBOR") or another reference rate expected to be discontinued. It is intended to help stakeholders during the global market-wide reference rate transition period. This ASU is effective for all entities as of March 12, 2020 through December 31, 2022. On December 31, 2022, FASB issued ASU 2022-06, which deferred the sunset date for Topic 848 to December 31, 2024. The Company implemented a transition plan to identify and modify its loans and other financial instruments that were either directly or indirectly influenced by LIBOR. There was no material impact as a result of transitioning away from LIBOR for its loan and other financial instruments effective July 1, 2023.

 

Recently issued accounting pronouncements not yet adopted

 

Other Pronouncements

In June 2022, the FASB issued ASU No. 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions. ASU 2022-03 clarifies that a contractual restriction on the sale of an equity security should not be considered in measuring fair value, nor should the contractual restriction be recognized and measured separately. Further, this ASU requires disclosure of the fair value of equity securities subject to contractual sale restrictions reflected in the balance sheet, the nature and remaining duration of the restriction(s), and the circumstances that could cause a lapse in the restriction(s). ASU 2022-03 is effective for the Company for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company does not believe this ASU will have a material impact on its consolidated financial statements and related disclosures.

 

In March 2023, the FASB issued ASU 2023-02, Investments - Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method, a consensus of the Emerging Issues Task Force. ASU 2023-02 allows an entity the option to apply the proportional amortization method of accounting to other equity investments that are made for the primary purpose of receiving tax credits or other income tax benefits if certain conditions are met. Prior to this ASU, the application of the proportional amortization method of accounting was limited to investments in low-income housing tax credit structures. The proportional amortization method of accounting results in the amortization of applicable investments, as well as the related income tax credits or other income tax benefits received, being presented on a single line in the statements of income, income tax expense. Under this ASU, an entity has the option to apply the proportional amortization method of accounting to applicable investments on a tax-credit-program-by-tax-credit-program basis. In addition, the amendments in this ASU require that all tax equity investments accounted for using the proportional amortization method use the delayed equity contribution guidance in paragraph 323-740-25-3, requiring a liability to be recognized for delayed equity contributions that are unconditional and legally binding or for equity contributions that are contingent upon a future event when that contingent event becomes probable. Under this ASU, low-income housing tax credit investments for which the proportional amortization method is not applied can no longer be accounted for using the delayed equity contribution guidance. Further, this ASU specifies that impairment of low-income housing tax credit investments not accounted for using the equity method must apply the impairment guidance in Subtopic 323-10: Investments - Equity Method and Joint Ventures - Overall. This ASU also clarifies that for low-income housing tax credit investments not accounted for under the proportional amortization method or the equity method, an entity shall account for them under Topic 321: Investments - Equity Securities. The amendments in this ASU also require additional disclosures in interim and annual periods concerning investments for which the proportional amortization method is applied, including (i) the nature of tax equity investments, and (ii) the effect of tax equity investments and related income tax credits and other income tax benefits on the financial position and results of operations. ASU 2023-02 is effective for the Company for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company is evaluating the effect that ASU 2023-02 will have on its consolidated financial statements and related disclosures.

 

Reclassifications - Certain amounts in the unaudited interim consolidated financial statements for prior periods have been reclassified to conform to the current unaudited financial statement presentation with no effect on net income or shareholders' equity.

 

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Note 2 - Securities

 

The amortized cost, gross unrealized gains and losses, and estimated fair value of securities classified as available-for-sale at September 30, 2023 are summarized as follows:

 

						Gross				Gross				Estimated
		Amortized Cost				Unrealized Gains				Unrealized Losses				Fair Value
		(In thousands)
Available for Sale
Municipal bonds		$	119,164			$	—			$	(25,169	)		$	93,995
U.S. Treasury notes			2,479				—				(102	)			2,377
International agency issued bonds (Agency bonds)			1,962				—				(259	)			1,703
Corporate issued debt securities (Corporate debt)			60,543				—				(6,208	)			54,335
Mortgage-backed securities:
U.S. government agency issued mortgage-backed securities (MBS agency)			83,449				—				(16,503	)			66,946
Non-agency issued mortgage-backed securities (MBS non-agency)			98,029				—				(8,061	)			89,968
Total securities available for sale		$	365,626			$	—			$	(56,302	)		$	309,324

 

The amortized cost, gross unrealized gains and losses, and estimated fair value of securities classified as available-for-sale at December 31, 2022, are summarized as follows:

 

						Gross				Gross				Estimated
		Amortized Cost				Unrealized Gains				Unrealized Losses				Fair Value
		(In thousands)
Available for Sale
Municipal bonds		$	119,990			$	—			$	(21,940	)		$	98,050
U.S. Treasury notes			2,469				—				(105	)			2,364
Agency bonds			1,955				—				(253	)			1,702
Corporate debt			60,700				—				(5,201	)			55,499
Mortgage-backed securities:
MBS agency			88,930				1				(13,283	)			75,648
MBS non-agency			101,139				—				(7,833	)			93,306
Total securities available for sale		$	375,183			$	1			$	(48,615	)		$	326,569

 

There were no securities classified as held-to-maturity at  September 30, 2023 and  December 31, 2022.

 

Accrued interest receivable on available-for-sale debt securities totaled $2.2 million and $2.0 million as of September 30, 2023 and  December 31, 2022, respectively. Accrued interest receivable on securities is reported in accrued interest receivable on the Consolidated Balance Sheets and is excluded from the calculation of the allowance for credit losses on investment securities.

 

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The following shows the unrealized gross losses and fair value of the investment portfolio by length of time that individual securities in each category have been in a continuous loss position as of September 30, 2023:

 

		Less Than Twelve Months								Twelve Months or Longer								Total
		Gross Unrealized Losses				Fair Value				Gross Unrealized Losses				Fair Value				Gross Unrealized Losses				Fair Value
		(In thousands)
Available for Sale
Municipal bonds		$	(49	)		$	396			$	(25,120	)		$	93,299			$	(25,169	)		$	93,695
U.S. Treasury notes			—				—				(102	)			2,377				(102	)			2,377
Agency bonds			—				—				(259	)			1,703				(259	)			1,703
Corporate debt			—				—				(6,208	)			54,335				(6,208	)			54,335
Mortgage-backed securities:
MBS agency			(1	)			1,236				(16,502	)			65,710				(16,503	)			66,946
MBS non-agency			—				—				(8,061	)			89,968				(8,061	)			89,968
Total available for sale		$	(50	)		$	1,632			$	(56,252	)		$	307,392			$	(56,302	)		$	309,024

 

The following shows the unrealized gross losses and fair value of the investment portfolio by length of time that individual securities in each category have been in a continuous loss position as of December 31, 2022:

 

		Less Than Twelve Months								Twelve Months or Longer								Total
		Gross Unrealized Losses				Fair Value				Gross Unrealized Losses				Fair Value				Gross Unrealized Losses				Fair Value
		(In thousands)
Available for Sale
Municipal bonds		$	(15,749	)		$	79,129			$	(6,191	)		$	18,621			$	(21,940	)		$	97,750
U.S. Treasury notes			(105	)			2,364				—				—				(105	)			2,364
Agency bonds			—				—				(253	)			1,702				(253	)			1,702
Corporate debt			(2,570	)			30,555				(2,631	)			24,944				(5,201	)			55,499
Mortgage-backed securities:
MBS agency			(5,079	)			40,099				(8,204	)			33,064				(13,283	)			73,163
MBS non-agency			(3,956	)			51,994				(3,877	)			41,311				(7,833	)			93,305
Total available for sale		$	(27,459	)		$	204,141			$	(21,156	)		$	119,642			$	(48,615	)		$	323,783

 

There were 2 available-for-sale securities with unrealized losses of less than one year, and 180 available-for-sale securities with an unrealized loss of more than one year at September 30, 2023. There were 113 available-for-sale securities with unrealized losses of less than one year, and 69 available-for-sale securities with an unrealized loss of more than one year at December 31, 2022. Management believes that the unrealized losses on our investment securities relate principally to the general change in interest rates, market liquidity and demand, and market volatility that has occurred since the initial purchase, and such unrecognized losses or gains will continue to vary with general interest rate level and market fluctuations in the future. We do not believe the unrealized losses on our securities are related to a deterioration in credit quality. Certain investments in a loss position are guaranteed by government entities or government sponsored entities. The Company does not intend to sell the securities in an unrealized loss position and believes that it is unlikely that we will be required to sell these investments prior to a market price recovery or maturity. Based on the Company’s evaluation of these securities, no credit impairment was recorded at September 30, 2023, or December 31, 2022.

 

 

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The amortized cost and estimated fair value of investment securities by contractual maturity are shown in the following tables at the dates indicated. Expected maturities of mortgage-backed securities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties; therefore, these securities are shown separately.

 

		September 30, 2023
		Available-for-Sale
		Amortized Cost				Estimated Fair Value
		(In thousands)
Mortgage-backed securities:
Due within one year		$	27,154			$	26,742
Due after one through five years			16,184				15,475
Due after five through ten years			10,939				9,986
Due after ten years			127,201				104,711
Total mortgage-backed securities			181,478				156,914
All other investment securities:
Due within one year			300				300
Due after one through five years			22,418				21,066
Due after five through ten years			65,211				56,308
Due after ten years			96,219				74,736
Total all other investment securities			184,148				152,410
Total investment securities		$	365,626			$	309,324

 

		December 31, 2022
		Available-for-Sale
		Amortized Cost				Estimated Fair Value
		(In thousands)
Mortgage-backed securities:
Due within one year		$	13,762			$	13,490
Due after one through five years			28,890				27,808
Due after five through ten years			13,436				12,165
Due after ten years			133,981				115,491
Total mortgage-backed securities			190,069				168,954
All other investment securities:
Due within one year			—				—
Due after one through five years			20,700				18,957
Due after five through ten years			64,211				57,523
Due after ten years			100,203				81,135
Total all other investment securities			185,114				157,615
Total investment securities		$	375,183			$	326,569

 

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Sales of securities available-for-sale for the periods shown are summarized as follows:

 

		Three Months Ended September 30,								Nine Months Ended September 30,
		2023				2022				2023				2022
		(In thousands)
Proceeds from sales		$	—			$	—			$	—			$	12,685
Gross realized gains			—				—				—				128
Gross realized losses			—				—				—				(10	)

 

Note 3 - Loans Receivable

 

The Company has defined its loan portfolio into three segments that reflect the structure of the lending function, the Company's strategic plan and the manner in which management monitors performance and credit quality. The three loan portfolio segments are: Real Estate Loans, Consumer Loans and Commercial Business Loans. These segments are further disaggregated into classes based on similar attributes and risk characteristics.

 

Loan amounts are net of unearned loan fees in excess of unamortized costs and premiums of $14.4 million as of  September 30, 2023 and $13.2 million as of  December 31, 2022. Net loans do not include accrued interest receivable. Accrued interest receivable on loans was $5.8 million as of  September 30, 2023 and $4.7 million as of  December 31, 2022, and was reported in accrued interest receivable on the consolidated balance sheets.

 

The amortized cost of loans receivable, net of ACLL, consisted of the following at the dates indicated:

 

		September 30, 2023				December 31, 2022
		(In thousands)
Real Estate:
One-to-four family		$	369,950			$	343,559
Multi-family			325,496				252,745
Commercial real estate			381,508				388,884
Construction and land			143,434				193,646
Total real estate loans			1,220,388				1,178,834
Consumer:
Home equity			64,424				52,877
Auto and other consumer			248,786				238,913
Total consumer loans			313,210				291,790
Commercial business loans			101,380				76,927
Total loans receivable			1,634,978				1,547,551
Less:
Allowance for credit losses on loans (1)			16,945				16,116
Total loans receivable, net		$	1,618,033			$	1,531,435

(1) Allowance for credit losses on loans in 2023 reported using the CECL method and in 2022 reported using the incurred loss method.

 

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Nonaccrual Loans. The accrual of interest on loans is discontinued at the time the loan is 90 days delinquent unless the credit is well-secured and in process of collection. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful. All interest accrued but not collected for loans that are placed on nonaccrual or charged off is reversed against interest income. The interest on these loans is accounted for on the cash basis or cost recovery method until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured. For those loans placed on non-accrual status due to payment delinquency, return to accrual status will generally not occur until the borrower demonstrates repayment ability over a period of not less than six months.

 

The following table presents the amortized cost of nonaccrual loans by class of loan at the dates indicated:

 

		September 30, 2023												December 31, 2022
		Collateral Dependent Loans				Non-Collateral Dependent Loans				Total Nonaccrual Loans				Total Nonaccrual Loans (1)
		(In thousands)
One-to-four family		$	1,430			$	360			$	1,790			$	954
Commercial real estate			—				34				34				53
Construction and land			—				8				8				15
Home equity			32				134				166				196
Auto and other consumer			—				376				376				575
Total nonaccrual loans		$	1,462			$	912			$	2,374			$	1,793
(1) Presentation of December 31, 2022, balances is in accordance with pre-CECL disclosure requirements.

 

Interest income recognized on a cash basis on nonaccrual loans for the three and nine months ended September 30, 2023, was $19,000 and $52,000, respectively.

 

Prior to the implementation of CECL, the Bank categorized loans as performing or nonperforming based on payment activity. Loans that were more than 90 days past due and nonaccrual loans were considered nonperforming.

 

The following table represents the credit risk profile based on payment activity by class of loans as of December 31, 2022, in accordance with pre-CECL disclosure requirements:

 

		Nonperforming				Performing				Total
		(In thousands)
Real Estate:
One-to-four family		$	954			$	342,605			$	343,559
Multi-family			—				252,745				252,745
Commercial real estate			53				388,831				388,884
Construction and land			15				193,631				193,646
Consumer:
Home equity			196				52,681				52,877
Auto and other consumer			575				238,338				238,913
Commercial business			—				76,927				76,927
Total loans		$	1,793			$	1,545,758			$	1,547,551

 

Past due loans. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. There were no loans past due 90 days or more and still accruing interest at  September 30, 2023 or  December 31, 2022.

 

 

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The following table presents the amortized cost of past due loans by segment and class as of September 30, 2023:

 

		30-59 Days				60-89 Days				90 Days or More				Total
		Past Due				Past Due				Past Due				Past Due				Current				Total Loans
		(In thousands)
Real Estate:
One-to-four family		$	—			$	654			$	591			$	1,245			$	368,705			$	369,950
Multi-family			—				—				—				—				325,496				325,496
Commercial real estate			8,583				—				—				8,583				372,925				381,508
Construction and land			—				—				—				—				143,434				143,434
Total real estate loans			8,583				654				591				9,828				1,210,560				1,220,388
Consumer:
Home equity			71				—				45				116				64,308				64,424
Auto and other consumer			1,462				392				381				2,235				246,551				248,786
Total consumer loans			1,533				392				426				2,351				310,859				313,210
Commercial business loans			769				—				—				769				100,611				101,380
Total loans		$	10,885			$	1,046			$	1,017			$	12,948			$	1,622,030			$	1,634,978

 

 

The following table presents the amortized cost of past due loans by segment and class as of December 31, 2022, in accordance with pre-CECL disclosure requirements:

		30-59 Days				60-89 Days				90 Days or More				Total
		Past Due				Past Due				Past Due				Past Due				Current				Total Loans
		(In thousands)
Real Estate:
One-to-four family		$	1,449			$	155			$	652			$	2,256			$	341,303			$	343,559
Multi-family			—				—				—				—				252,745				252,745
Commercial real estate			—				—				—				—				388,884				388,884
Construction and land			—				18				—				18				193,628				193,646
Total real estate loans			1,449				173				652				2,274				1,176,560				1,178,834
Consumer:
Home equity			153				—				11				164				52,713				52,877
Auto and other consumer			1,390				698				557				2,645				236,268				238,913
Total consumer loans			1,543				698				568				2,809				288,981				291,790
Commercial business loans			—				—				—				—				76,927				76,927
Total loans		$	2,992			$	871			$	1,220			$	5,083			$	1,542,468			$	1,547,551

 

Credit quality indicator. Federal regulations provide for the classification of lower quality loans and other assets, such as debt and equity securities, as substandard, doubtful, or loss; risk ratings 6, 7, and 8 in our 8-point risk rating system, respectively. An asset is considered substandard if it is inadequately protected by the current net worth and paying capacity of the borrower or of any collateral pledged. Substandard assets include those characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. Assets classified as doubtful have all the weaknesses inherent in those classified substandard with the added characteristic that the weaknesses present make collection or liquidation in full highly questionable and improbable, on the basis of currently existing facts, conditions, and values. Assets classified as loss are those considered uncollectible and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted.

 

When the Bank classifies problem assets as either substandard or doubtful, it may establish a specific allowance to address the risk specifically or allow the loss to be addressed in the general allowance. General allowances represent loss allowances that have been established to recognize the inherent risk associated with lending activities but that, unlike specific allowances, have not been specifically allocated to certain problem assets. When an insured institution classifies problem assets as a loss, it is required to charge off such assets in the period in which they are deemed uncollectible. Assets that do not currently expose the Bank to enough risk to warrant classification as substandard or doubtful but do possess identified weaknesses are designated as either watch or special mention assets; risk ratings 4 and 5 in our risk rating system, respectively. Loans not otherwise classified are considered pass graded loans and are rated 1-3 in our risk rating system.

 

 

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The following table presents the amortized cost of loans receivable by internally assigned risk grade and class of loans as of  September 30, 2023, as well as gross charge-off activity for the nine months ended September 30, 2023. Term loans that are renewed or extended for periods longer than 90 days are presented as a new origination in the year of most recent renewal or extension.

 

		Term Loans by Year of Origination (1)																								Revolving				Total
		2023				2022				2021				2020				2019				Prior				Loans				Loans
		(In thousands)
One-to-four family
Pass		$	1,987			$	93,396			$	118,341			$	70,904			$	13,977			$	66,929			$	—			$	365,534
Watch			—				276				—				589				—				1,156				—				2,021
Special Mention			—				—				—				302				—				105				—				407
Substandard			—				—				—				328				485				1,175				—				1,988
Total one-to-four family			1,987				93,672				118,341				72,123				14,462				69,365				—				369,950
Gross charge-offs year-to-date			—				—				—				—				—				—				—				—
Multi-family
Pass			47,583				103,255				86,171				58,659				8,278				5,357				—				309,303
Watch			—				—				15,198				—				—				995				—				16,193
Total multi-family			47,583				103,255				101,369				58,659				8,278				6,352				—				325,496
Gross charge-offs year-to-date			—				—				—				—				—				—				—				—
Commercial Real Estate
Pass			32,307				89,244				104,523				82,030				13,186				23,366				—				344,656
Watch			3,881				197				3,785				6,851				3,584				1,019				—				19,317
Special Mention			—				—				15,136				—				—				—				—				15,136
Substandard			—				34				—				2,365				—				—				—				2,399
Total commercial real estate			36,188				89,475				123,444				91,246				16,770				24,385				—				381,508
Gross charge-offs year-to-date			—				—				—				—				—				—				—				—
Construction and Land
Pass			13,763				61,166				39,308				764				354				2,398				—				117,753
Watch			7,109				3,493				—				—				—				—				—				10,602
Special Mention			—				—				—				—				—				16				—				16
Substandard			15,055				—				—				—				—				8				—				15,063
Total construction and land			35,927				64,659				39,308				764				354				2,422				—				143,434
Gross charge-offs year-to-date			—				—				—				—				—				—				—				—
Home Equity
Pass			5,534				7,438				4,737				3,169				1,444				3,638				37,810				63,770
Watch			—				—				—				—				—				56				322				378
Substandard			—				—				31				61				—				14				170				276
Total home equity			5,534				7,438				4,768				3,230				1,444				3,708				38,302				64,424
Gross charge-offs year-to-date			—				—				—				—				—				11				—				11
Other Consumer
Pass			38,604				75,128				66,493				31,104				15,680				18,871				403				246,283
Watch			47				461				485				217				277				226				3				1,716
Special Mention			64				232				33				30				—				51				—				410
Substandard			23				300				—				28				26				—				—				377
Total other consumer			38,738				76,121				67,011				31,379				15,983				19,148				406				248,786
Gross charge-offs year-to-date			—				2,421				15				27				11				112				71				2,657
Commercial business
Pass			18,818				23,987				11,368				2,791				506				4,947				30,510				92,927
Watch			342				66				394				—				—				—				1				803
Special Mention			—				—				—				1,036				—				—				3,754				4,790
Substandard			177				52				—				144				—				—				2,487				2,860
Total commercial business			19,337				24,105				11,762				3,971				506				4,947				36,752				101,380
Gross charge-offs year-to-date			—				—				—				—				—				—				—				—
Total loans
Pass			158,596				453,614				430,941				249,421				53,425				125,506				68,723				1,540,226
Watch			11,379				4,493				19,862				7,657				3,861				3,452				326				51,030
Special Mention			64				232				15,169				1,368				—				172				3,754				20,759
Substandard			15,255				386				31				2,926				511				1,197				2,657				22,963
Total loans		$	185,294			$	458,725			$	466,003			$	261,372			$	57,797			$	130,327			$	75,460			$	1,634,978
Total gross charge-offs year-to-date		$	—			$	2,421			$	15			$	27			$	11			$	123			$	71			$	2,668

(1) Term loans that are renewed or extended for periods longer than 90 days are presented as a new origination in the year of most recent renewal or extension.

 

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The following table presents the amortized cost of loans receivable by internally assigned risk grade and class of loans as of December 31, 2022, in accordance with pre-CECL disclosure requirements:

		Pass				Watch				Special Mention				Substandard				Total
		(In thousands)
Real Estate:
One-to-four family		$	339,812			$	2,234			$	27			$	1,486			$	343,559
Multi-family			237,077				15,668				—				—				252,745
Commercial real estate			350,001				25,586				12,161				1,136				388,884
Construction and land			179,116				529				—				14,001				193,646
Total real estate loans			1,106,006				44,017				12,188				16,623				1,178,834
Consumer:
Home equity			52,295				372				14				196				52,877
Auto and other consumer			238,522				222				75				94				238,913
Total consumer loans			290,817				594				89				290				291,790
Commercial business loans			66,276				2,234				8,417				—				76,927
Total loans		$	1,463,099			$	46,845			$	20,694			$	16,913			$	1,547,551

 

 

Individually Evaluated Loans. The Company evaluates loans collectively for purposes of determining the ACLL in accordance with ASC 326. Collective evaluation is based on aggregating loans deemed to possess similar risk characteristics. In certain instances, the Company may identify loans that it believes no longer possess risk characteristics similar to other loans in the portfolio. These loans are typically identified from a substandard or worse internal risk grade, since the specific attributes and risks associated with such loans tend to become unique as the credit deteriorates. Such loans are typically nonperforming, modified loans made to borrowers experiencing financial difficulty, and/or are deemed collateral dependent, where the ultimate repayment of the loan is expected to come from the operation of or eventual sale of the collateral.

 

Loans that are deemed by management to possess unique risk characteristics are evaluated individually for purposes of determining an appropriate lifetime ACLL. The Company uses a discounted cash flow approach, using the loan’s effective interest rate, for determining the ACL on individually evaluated loans, unless the loan is deemed collateral dependent. Collateral dependent loans are evaluated based on the estimated fair value of the underlying collateral, less estimated costs to sell. The Company may increase or decrease the ACLL for collateral dependent individually evaluated loans based on changes in the estimated expected fair value of the collateral. In cases where the loan is well-secured and the estimated value of the collateral exceeds the amortized cost of the loan, no ACLL is recorded. Changes in the ACLL for all other individually evaluated loans is based substantially on the Company’s evaluation of cash flows expected to be received from such loans.

As of September 30, 2023, $4.1 million of loans were individually evaluated with no ACLL attributed to such loans. At September 30, 2023, two individually evaluated loans totaling $2.7 million were evaluated using a discounted cash flow approach and the remaining loans totaling $1.5 million were evaluated based on the underlying value of the collateral. The two loans evaluated using the discounted cash flow method were accruing at quarter end, while the collateral dependent loans were all on nonaccrual status at September 30, 2023.

 

Collateral Dependent Loans. Loans that have been classified as collateral dependent are loans where substantially all repayment of the loan is expected to come from the operation of or eventual liquidation of the collateral.

The following table summarizes individually evaluated collateral dependent loans by segment and collateral type as of September 30, 2023:

 

		Collateral Type
		Single Family Residence				Total
		(In thousands)
One-to-four family		$	1,430			$	1,430
Home equity			32				32
Total collateral dependent loans		$	1,462			$	1,462

 

Troubled debt restructuring. Prior to the implementation of CECL on January 1, 2023, a loan was identified as a TDR when a loan to a borrower who was experiencing financial difficulty was modified from its original terms and conditions in such a way that the Bank granted the borrower a concession of some kind. First Fed had granted a variety of concessions to borrowers in the form of loan modifications. The modifications were generally related to the loan's interest rate, term and payment amount or a combination thereof.

 

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The following table is a summary of information pertaining to TDR loans included in impaired loans at the date indicated, in accordance with pre-CECL disclosure requirements:

		December 31, 2022
		(In thousands)
Total TDR loans		$	1,753
Allowance for credit losses on loans related to TDR loans			21
Total nonaccrual TDR loans			29

 

There were no newly restructured, renewals, or modifications of existing TDR loans that occurred during the three and nine months ended September 30, 2022.

 

There were no TDR loans that incurred a payment default within 12 months of the restructure date during the three and nine months ended September 30, 2022.

 

The following table presents TDR loans by class by accrual and nonaccrual status at the date indicated, in accordance with pre-CECL disclosure requirements:

 

		December 31, 2022
		Accrual				Nonaccrual				Total
		(In thousands)
One-to-four family		$	1,697			$	29			$	1,726
Home equity			27				—				27
Total TDR loans		$	1,724			$	29			$	1,753

 

Modified Loans to Troubled Borrowers. On January 1, 2023, the Company adopted ASU 2022-02, which introduces new reporting requirements for modifications of loans to borrowers experiencing financial difficulty. The Company refers to these loans as modified loans to troubled borrowers ("MLTB"). A MLTB arises from a modification made to a loan in order to alleviate temporary difficulties in the borrower’s financial condition and/or constraints on the borrower’s ability to repay the loan, and to minimize potential losses to the Company. GAAP requires that certain types of modifications be reported, which consist of the following: (i) principal forgiveness, (ii) interest rate reduction, (iii) other-than-insignificant payment delay, (iv) term extension, or any combination of the foregoing. The ACLL for a MLTB is measured on a collective basis, as with other loans in the loan portfolio, unless management determines that such loans no longer possess risk characteristics similar to others in the loan portfolio. In those instances, the ACLL for a MLTB is determined through individual evaluation.

 

During the three and nine months ended September 30, 2023, there were no MLTB.

 

Note 4 - Allowance for Credit Losses on Loans

 

The Company maintains an ACLL and an ACLUC in accordance with ASC 326: Financial Instruments - Credit Losses. ASC 326 requires the Company to recognize estimates for lifetime credit losses on loans and unfunded loan commitments at the time of origination or acquisition. The recognition of credit losses at origination or acquisition represents the Company’s best estimate of lifetime expected credit losses, given the facts and circumstances associated with a particular loan or group of loans with similar risk characteristics. Determining the ACLL involves the use of significant management judgement and estimates, which are subject to change based on management’s ongoing assessment of the credit quality of the loan portfolio and changes in economic forecasts used in the model. The reserve is an estimate based upon factors and trends at the time the financial statements are prepared. The Company adopted ASU 2016-13 effective January 1, 2023, which increased the beginning ACLL as discussed in Note 1. The incurred loss methodology presentation is used for periods prior to the adoption of ASU 2016-13.

 

The Company has identified segments of loans with similar risk characteristics for which it then applies one of two loss methodologies. The Company uses a DCF methodology for most of its segments to calculate the ACLL. For certain segments with smaller portfolios or where data is prohibitive to running a DCF calculation, management has elected to use a Remaining Life methodology. The Company will evaluate individual loans for expected credit losses when those loans do not share similar risk characteristics with loans evaluated using a collective (pooled) basis. The allowance for individually evaluated loans is calculated using the collateral value method, which considers the likely source of repayment as the value of the collateral, less estimated costs to sell, or another method such as the cash flow method, which considers the contractual principal and interest terms and estimated cash flows available from the borrower to satisfy the debt. When the cash flow method is used, cash flows are discounted back by the effective interest rate and compared to the total recorded investment. If the present value of cash flows is less than the total recorded investment, a reserve is calculated.

 

 

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The Company estimates expected credit losses on unfunded, off-balance sheet commitments over the contractual period in which the Company is exposed to credit risk from a contractual obligation to extend credit, unless the obligation is unconditionally cancellable by the Company. The Company has determined that no allowance is necessary for its home equity line of credit portfolio as it has the ability to unconditionally cancel the available lines of credit. The allowance methodology is similar to the ACLL, but additionally includes an estimate of the future utilization of the commitment as determined by historical commitment utilization. The credit risks associated with the unfunded commitments are consistent with the risks outlined for each loan class. The allowance is recognized in accrued expenses and other liabilities on the Consolidated Balance Sheets and is adjusted as a provision (reversal of provision) for credit losses on the Consolidated Statements of Income.

 

The following tables detail activity in the allowance for credit losses on loans by class for the periods shown:

 

		At or For the Three Months Ended September 30, 2023
		Adjusted Beginning Balance				Charge-offs				Recoveries				Provision for (Recapture of) Credit Losses				Ending Balance
		(In thousands)
One-to-four family		$	3,012			$	—			$	—			$	526			$	3,538
Multi-family			1,041				—				—				230				1,271
Commercial real estate			2,924				—				—				(390	)			2,534
Construction and land			2,535				—				—				(352	)			2,183
Home equity			1,125				—				—				178				1,303
Auto and other consumer			4,795				(731	)			(501	)			601				4,164
Commercial business			1,865				—				—				87				1,952
Total		$	17,297			$	(731	)		$	(501	)		$	880			$	16,945

 

		At or For the Nine Months Ended September 30, 2023
		Beginning Balance				Impact of Day 1 CECL Adoption				Adjusted Beginning Balance				Charge-offs				Recoveries				Provision for (Recapture of) Credit Losses				Ending Balance
		(In thousands)
One-to-four family		$	3,343			$	(429	)		$	2,914			$	—			$	4			$	620			$	3,538
Multi-family			2,468				(1,449	)			1,019				—				—				252				1,271
Commercial real estate			4,217				(604	)			3,613				—				—				(1,079	)			2,534
Construction and land			2,344				1,555				3,899				—				—				(1,716	)			2,183
Home equity			549				346				895				(11	)			5				414				1,303
Auto and other consumer			2,024				2,381				4,405				(2,657	)			84				2,332				4,164
Commercial business			786				794				1,580				—				—				372				1,952
Unallocated			385				(385	)			—				—				—				—				—
Total		$	16,116			$	2,209			$	18,325			$	(2,668	)		$	93			$	1,195			$	16,945

 

The ACLL decreased $352,000 during the three months ended September 30, 2023. Charge-offs during the third quarter of 2023 were mainly concentrated in unsecured consumer loans purchased through the Splash program. The recovery adjustment is due to a reclassification of funds received from the Splash program which had been recorded as a recovery in the second quarter of 2023. The provision for ACLL reflects higher loss factors in one-to-four family, commercial business and multi-family loans based on our assumptions.

 

The post-adoption ACLL decreased $1.4 million during the nine months ended September 30, 2023, with $2.6 million of year-to-date net charge-offs partially offset by the provision for ACLL. The ACLL provision expense during the nine months ended September 30, 2023, was the result of higher loan balances combined with high loss factors due to the impact of changes in U.S. gross domestic product and unemployment on our model assumptions.

 

 

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The following table details activity in the ALLL by class for the period shown under the incurred loss methodology:

 

		At or For the Three Months Ended September 30, 2022
		One-to-four family				Multi-family				Commercial real estate				Construction and land				Home equity				Auto and other consumer				Commercial business				Unallocated				Total
		(In thousands)
ALLL:
Beginning balance		$	3,026			$	2,168			$	4,154			$	2,550			$	486			$	2,367			$	680			$	316			$	15,747
Provision for (recapture of) loan losses			188				164				(45	)			(36	)			9				428				14				28				750
Charge-offs			—				—				—				—				—				(265	)			—				—				(265	)
Recoveries			—				—				—				—				12				29				—				—				41
Ending balance		$	3,214			$	2,332			$	4,109			$	2,514			$	507			$	2,559			$	694			$	344			$	16,273

 

		At or For the Nine Months Ended September 30, 2022
		One-to-four family				Multi-family				Commercial real estate				Construction and land				Home equity				Auto and other consumer				Commercial business				Unallocated				Total
		(In thousands)
ALLL:
Beginning balance		$	3,184			$	1,816			$	3,996			$	2,672			$	407			$	2,221			$	470			$	358			$	15,124
(Recapture of) provision for loan losses			(2	)			516				113				(160	)			71				644				82				(14	)			1,250
Charge-offs			—				—				—				—				—				(475	)			—				—				(475	)
Recoveries			32				—				—				2				29				169				142				—				374
Ending balance		$	3,214			$	2,332			$	4,109			$	2,514			$	507			$	2,559			$	694			$	344			$	16,273

 

The following table details the ALLL and loan portfolio by class and impairment method for the period shown under the incurred loss methodology:

		At December 31, 2022
		One-to-four family				Multi-family				Commercial real estate				Construction and land				Home equity				Auto and other consumer				Commercial business				Unallocated				Total
		(In thousands)
Total ALLL		$	3,343			$	2,468			$	4,217			$	2,344			$	549			$	2,024			$	786			$	385			$	16,116
General reserve			3,321				2,468				4,217				2,343				545				2,019				786				385				16,084
Specific reserve			22				—				—				1				4				5				—				—				32
Gross loans		$	343,825			$	253,551			$	390,246			$	194,646			$	52,322			$	222,794			$	76,996			$	—			$	1,534,380
Loans collectively evaluated (1)			341,171				253,551				390,196				194,630				52,100				222,702				76,996				—				1,531,346
Loans individually evaluated (2)			2,654				—				50				16				222				92				—				—				3,034

 

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(1) Loans collectively evaluated for general reserves.

(2) Loans individually evaluated for specific reserves.

 

 

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Impaired loans incurred loss model. Prior to the implementation of CECL on January 1, 2023, a loan was considered impaired when the Bank has determined that it may be unable to collect payments of principal or interest when due under the contractual terms of the loan. Impairment was measured on a loan-by-loan basis for all loans in the portfolio except smaller balance homogeneous loans and certain qualifying TDR loans.

 

The following table provides additional information on loans individually evaluated for impairment by portfolio class at the date indicated under the incurred loss methodology. Recorded investment includes the unpaid principal balance or carrying amount of loans less charge-offs.

 

		December 31, 2022
		Recorded Investment				Unpaid Principal Balance				Related Allowance
		(In thousands)
With no allowance recorded:
One-to-four family		$	666			$	705			$	—
Commercial real estate			50				149				—
Construction and land			—				14				—
Auto and other consumer			—				2				—
Total			716				870				—
With an allowance recorded:
One-to-four family			1,988				2,129				22
Construction and land			16				19				1
Home equity			222				224				4
Auto and other consumer			92				95				5
Total			2,318				2,467				32
Total impaired loans:
One-to-four family			2,654				2,834				22
Commercial real estate			50				149				—
Construction and land			16				33				1
Home equity			222				224				4
Auto and other consumer			92				97				5
Total		$	3,034			$	3,337			$	32

 

 

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The following table presents the average recorded investment in loans individually evaluated for impairment and the related interest income recognized for the period shown under the incurred loss methodology:

 

		Three Months Ended								Nine Months Ended
		September 30, 2022								September 30, 2022
		Average Recorded Investment				Interest Income Recognized				Average Recorded Investment				Interest Income Recognized
		(In thousands)
With no allowance recorded:
One-to-four family		$	211			$	1			$	259			$	1
Commercial real estate			56				—				63				—
Construction and land			583				1				194				1
Home equity			—				—				3				—
Auto and other consumer			239				5				246				14
Total			1,089				7				765				16
With an allowance recorded:
One-to-four family			2,258				51				2,138				120
Commercial real estate			—				—				7				—
Construction and land			18				—				21				—
Home equity			232				3				273				8
Auto and other consumer			33				1				104				2
Total			2,541				55				2,543				130
Total impaired loans:
One-to-four family			2,469				52				2,397				121
Commercial real estate			56				—				70				—
Construction and land			601				1				215				1
Home equity			232				3				276				8
Auto and other consumer			272				6				350				16
Total		$	3,630			$	62			$	3,308			$	146

 

Interest income recognized on a cash basis on impaired loans for the three and nine months ended September 30, 2022, was $42,000 and $126,000, respectively, under the incurred loss methodology.

 

Allowance for Credit Losses on Unfunded Loan Commitments. The Company maintains an ACL for off-balance sheet commitments related to unfunded loans and lines of credit, which is included in other liabilities on the consolidated balance sheets. The allowance for unfunded commitments was $828,000 at September 30, 2023, a decrease compared to $1.9 million at the adoption of CECL on January 1, 2023. Included in the year-to-date provision for credit loss expense was a provision recapture for unfunded commitments of $509,000 and $1.0 million for the three and nine months ended September 30, 2023, respectively, primarily attributable to construction loan disbursements resulting in lower unfunded commitments.

 

 

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Note 5 - Deposits

 

Deposits and weighted-average interest rates at the dates indicated are as follows:

 

		September 30, 2023								December 31, 2022
		Amount				Weighted-Average Interest Rate				Amount				Weighted-Average Interest Rate
		(Dollars in thousands)
Noninterest-bearing demand deposits		$	269,800				—	%		$	315,083				—	%
Interest-bearing demand deposits			182,361				0.52	%			193,558				0.01	%
Money market accounts			372,706				1.28	%			473,009				0.58	%
Savings accounts			253,182				1.45	%			200,920				0.26	%
Certificates of deposit			579,713				3.93	%			381,685				2.19	%
Total deposits		$	1,657,762				1.94	%		$	1,564,255				0.74	%

 

Brokered certificates of deposit of $169.6 million and $133.9 million are included in the September 30, 2023 and December 31, 2022 certificates of deposit totals above, respectively. The aggregate amount of time deposits in excess of the Federal Deposit Insurance Corporation ("FDIC") insured limit, currently $250,000, at September 30, 2023 and December 31, 2022, were $165.3 million and $96.6 million, respectively.

 

Maturities of certificates at the dates indicated are as follows:

		September 30, 2023				December 31, 2022
		(In thousands)
Within one year or less		$	449,211			$	262,189
After one year through two years			105,169				69,967
After two years through three years			9,780				37,032
After three years through four years			10,863				7,409
After four years through five years			4,690				5,088
Total certificates of deposit		$	579,713			$	381,685

 

At  September 30, 2023 and December 31, 2022, deposits included $109.4 million and $93.3 million, respectively, in public fund deposits. The Bank had an outstanding letter of credit from the Federal Home Loan Bank of Des Moines ("FHLB") with a notional amount of $60.0 million at  September 30, 2023, to secure public deposits and pledged investment securities with a carrying value of $57.1 million were pledged as collateral for these deposits at  December 31, 2022. This exceeds the minimum collateral requirements established by the Washington Public Deposit Protection Commission. Also included in deposits at  September 30, 2023 and December 31, 2022, were funds held by federally recognized tribes totaling $19.2 million and $10.3 million, respectively. Investment securities with a carrying value of $21.3 million and $23.6 million were pledged as collateral for these deposits at  September 30, 2023 and December 31, 2022, respectively. This exceeds the minimum collateral requirements established by the Bureau of Indian Affairs. 

 

Interest on deposits by type for the periods shown was as follows:

 

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2023				2022				2023				2022
		(In thousands)
Demand deposits		$	204			$	16			$	599			$	58
Money market accounts			1,146				468				2,866				1,089
Savings accounts			918				24				2,056				76
Certificates of deposit			5,431				743				12,740				1,541
Total interest expense on deposits		$	7,699			$	1,251			$	18,261			$	2,764

 

 

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Note 6 - Borrowings

 

First Fed is a member of the FHLB. As a member, First Fed has a committed line of credit of up to 45% of total assets, subject to the amount of FHLB stock ownership and certain collateral requirements.

 

First Fed maintains borrowing arrangements with the FHLB to borrow funds primarily under long-term, fixed-rate advance agreements. First Fed also has overnight borrowings through FHLB which renew daily until paid. First Fed periodically uses fixed-rate advances maturing in less than one year as an alternative source of funds. All borrowings are secured by collateral consisting of single-family, home equity, commercial real estate, and multi-family loans receivable in the amounts of $885.7 million and $753.7 million at  September 30, 2023 and December 31, 2022, respectively. The Bank had outstanding letters of credit from the FHLB with notional amounts of $60.0 million to secure public deposits and $772,000 to secure the Bellevue, Washington branch lease at  September 30, 2023.

 

First Fed also has an established borrowing arrangement with the Federal Reserve Bank of San Francisco ("FRB") to utilize the discount window for short-term borrowing. Available borrowing capacity was $8.58 million and $8.57 million at  September 30, 2023 and December 31, 2022, respectively. No funds have been borrowed to date. Investment securities with a carrying value of $9.02 million and $8.99 million were pledged to the FRB at  September 30, 2023 and December 31, 2022, respectively.

 

On March 25, 2021, the Company completed a private placement of $40.0 million of 3.75% fixed-to-floating rate subordinated notes due 2031 (the "Notes") to certain qualified institutional buyers and institutional accredited investors. The net proceeds to the Company from the sale of the Notes were approximately $39.3 million after deducting placement agent fees and other offering expenses. The Notes have been structured to qualify as Tier 2 capital for the Company for regulatory capital purposes. The Company used the net proceeds of the offering for general corporate purposes.

 

On May 20, 2022, First Northwest consummated a borrowing arrangement with NexBank for a $20.0 million revolving line of credit. Borrowings are secured by a blanket lien on First Northwest's personal property assets (with certain exclusions), including all the outstanding shares of First Fed, cash, loans receivable, and limited partnership investments. The line of credit matures on May 18, 2024, with the option for one 364-day extension.

 

In June 2023, First Fed established a Bank Term Funding ("BTFP") borrowing arrangement with the FRB as an additional source of liquidity. Available borrowing capacity was $18.3 million at  September 30, 2023. No funds have been borrowed to date. Investment securities with a carrying value of $15.0 million were pledged to secure the BTFP at  September 30, 2023.

 

The following table sets forth information regarding our borrowings at the end of and during the nine months ended September 30, 2023. The table includes both long- and short-term borrowings.

 

		FHLB Long-Term Advances				FHLB Overnight Variable-Rate Advances				FHLB Short-Term Fixed-Rate Advances				Line of Credit				Subordinated Debt, net
		(Dollars in thousands)
Balance outstanding		$	80,000			$	168,000			$	5,000			$	8,000			$	39,416
Maximum outstanding at any month-end			85,000				189,000				95,000				11,000				39,416
Average monthly outstanding during the period			82,222				141,444				32,222				10,249				39,384
Weighted-average daily interest rates
Annual			1.96	%			5.15	%			5.08	%			9.06	%			4.02	%
Period End			2.09	%			5.53	%			5.27	%			9.00	%			4.01	%

 

 

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The amounts by year of maturity and weighted-average interest rate of FHLB long-term, fixed-rate advances at September 30, 2023 are as follows:

 

		Amount				Weighted- Average Interest Rate
		(Dollars in thousands)
Within one year or less		$	25,000				2.76	%
After one year through two years			20,000				2.12
After two years through three years			15,000				1.49
After three years through four years			10,000				1.63
After four years through five years			10,000				1.76
Total FHLB long-term advances		$	80,000				2.09	%

 

The following table sets forth information regarding our borrowings at the end of and during the year ended December 31, 2022. The table includes both long- and short-term borrowings.

 

		FHLB Long-Term Advances				FHLB Overnight Variable-Rate Advances				FHLB Short-Term Fixed-Rate Advances				Line of Credit				Subordinated Debt, net
		(Dollars in thousands)
Balance outstanding		$	80,000			$	144,000			$	10,000			$	12,000			$	39,358
Maximum outstanding at any month-end			80,000				206,000				42,500				12,000				39,358
Average monthly outstanding during the period			80,000				90,983				15,208				5,770				39,312
Weighted-average daily interest rates
Annual			1.52	%			2.83	%			1.82	%			6.76	%			4.01	%
Period End			1.52	%			4.30	%			2.12	%			8.00	%			4.01	%

 

Note 7 - Income Tax

 

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. These calculations are based on many complex factors including estimates of the timing of reversals of temporary differences, the interpretation of federal income tax laws, and a determination of the differences between the tax and the financial reporting basis of assets and liabilities. Actual results could differ significantly from the estimates and interpretations used in determining the current and deferred income tax assets and liabilities.

 

The effective tax rates were 19.9% and 19.4% for the nine months ended September 30, 2023 and 2022, respectively. The effective tax rates differ from the statutory maximum federal tax rate for 2023 and 2022 of 21%, largely due to the nontaxable earnings on bank-owned life insurance and tax-exempt interest income earned on certain investment securities and loans. In the second quarter of 2022, the Company began accruing a provision for income tax for certain states in which we have both employees and collateral for loans, thereby creating a nexus in those states for income tax purposes.

 

 

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Note 8 - Earnings per Common Share

 

The two-class method is used for computing basic and diluted earnings per share. Under the two-class method, EPS is determined for each class of common stock and participating security according to dividends declared and participating rights in undistributed earnings. The Company has issued restricted shares under share-based compensation plans which qualify as participating securities.

 

The following table presents a reconciliation of the components used to compute basic and diluted earnings per share for the three and nine months ended September 30, 2023 and 2022.

 

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2023				2022				2023				2022
		(In thousands, except share data)
Net income:
Net income available to common shareholders		$	2,504			$	4,291			$	7,808			$	9,585
Earnings allocated to participating securities			(11	)			(35	)			(39	)			(92	)
Earnings allocated to common shareholders		$	2,493			$	4,256			$	7,769			$	9,493
Basic:
Weighted average common shares outstanding			9,631,929				9,955,322				9,666,900				9,979,152
Weighted average unvested restricted stock awards			(125,338	)			(212,930	)			(143,326	)			(231,253	)
Weighted average unallocated ESOP shares			(600,065	)			(648,571	)			(613,183	)			(661,670	)
Total basic weighted average common shares outstanding			8,906,526				9,093,821				8,910,391				9,086,229
Diluted:
Basic weighted average common shares outstanding			8,906,526				9,093,821				8,910,391				9,086,229
Dilutive restricted stock awards			28,356				44,302				20,013				69,584
Total diluted weighted average common shares outstanding			8,934,882				9,138,123				8,930,404				9,155,813
Basic earnings per common share		$	0.28			$	0.47			$	0.87			$	1.04
Diluted earnings per common share		$	0.28			$	0.47			$	0.87			$	1.04

 

Potentially dilutive shares are excluded from the computation of EPS if their effect is anti-dilutive. At  September 30, 2023 and 2022, antidilutive shares as calculated under the treasury stock method totaled 13,582 and 2,617, respectively.

 

Note 9 - Employee Benefits

 

Employee Stock Ownership Plan

 

In connection with the Conversion, the Company established an ESOP for eligible employees of the Company and the Bank. Employees of the Company and the Bank who have been credited with at least 1,000 hours of service during a 12-month period are eligible to participate in the ESOP.

 

Pursuant to the Plan, the ESOP purchased shares in the open market with funds borrowed from First Northwest. The Bank will make contributions to the ESOP in amounts necessary to amortize the ESOP loan payable to First Northwest over a period of 20 years, bearing estimated interest at 2.46%. The loan is secured by shares purchased with the loan proceeds and will be repaid by the ESOP with funds from the Bank's discretionary contributions to the ESOP and earnings on the ESOP assets. A $835,000 principal and interest payment was made by the ESOP during the nine months ended September 30, 2023.

 

As shares are committed to be released from collateral, the Company reports compensation expense equal to the average daily market prices of the shares and the shares become outstanding for EPS computations. The compensation expense is accrued monthly throughout the year. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings; dividends on unallocated ESOP shares are recorded as a reduction of debt and accrued interest.

 

 

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Compensation expense related to the ESOP for the three months ended September 30, 2023 and 2022, was $167,000 and $216,000, respectively. Compensation expense related to the ESOP for the nine months ended September 30, 2023 and 2022, was $507,000 and $752,000, respectively.

 

Shares issued to the ESOP as of the dates indicated are as follows:

		September 30, 2023				December 31, 2022
		(Dollars in thousands)
Allocated shares			439,174				386,285
Committed to be released shares			13,257				26,442
Unallocated shares			595,598				635,302
Total ESOP shares issued			1,048,029				1,048,029
Fair value of unallocated shares		$	7,308			$	9,758

 

 

Note 10 - Stock-based Compensation

 

In May 2020, the Company's shareholders approved the First Northwest Bancorp 2020 Equity Incentive Plan ("2020 EIP"), which provides for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock shares or restricted stock units, and performance share awards to eligible participants through May 2030. The cost of awards under the 2020 EIP generally is based on the fair value of the awards on their grant date. The maximum number of shares that may be utilized for awards under the 2020 EIP is 520,000. As of  September 30, 2023, there were 85,490 total shares available for grant under the 2020 EIP, all of which are available to be granted as restricted shares.

 

As a result of the approval of the 2020 EIP, the First Northwest Bancorp 2015 Equity Incentive Plan (the "2015 EIP") was frozen and no additional awards will be made. As of  September 30, 2023, there were no shares available for grant under the 2015 EIP. At this date, there are 34,920 shares granted under the 2015 EIP that are expected to vest subject to the 2015 EIP plan provisions.

 

There were 32,449 and 55,443 shares of restricted stock awarded, respectively, during the nine months ended September 30, 2023 and 2022. Awarded shares of restricted stock vest ratably over periods ranging from one to five years from the date of grant provided the eligible participant remains in service to the Company. The Company recognizes compensation expense for the restricted stock awards based on the fair value of the shares at the grant date amortized over the vesting period.

 

For the three months ended September 30, 2023 and 2022, total compensation expense for the equity incentive plans was $349,000 and $404,000, respectively. Included in the compensation expense for the three months ended September 30, 2023 and 2022, was directors' equity compensation of $59,000 and $50,000, respectively.

 

For the nine months ended September 30, 2023 and 2022, total compensation expense for the equity incentive plans was $1.1 million and $1.3 million, respectively. Included in the compensation expense for the nine months ended September 30, 2023 and 2022, was directors' equity compensation of $190,000 and $189,000, respectively.

 

The following tables provide a summary of changes in non-vested restricted stock awards for the period shown:

 

		For the Three Months Ended
		September 30, 2023
		Shares				Weighted-Average Grant Date Fair Value
Non-vested at July 1, 2023			132,918			$	16.50
Granted			3,100				12.17
Vested			(10,820	)			14.60
Canceled (1)			(3,606	)			14.60
Forfeited			(1,182	)			20.02
Non-vested at September 30, 2023			120,410			$	16.59
(1) A surrender of vested stock awards by a participant surrendering the number of shares valued at the current stock price at the vesting date to cover the participant's tax obligation on the vested shares. The surrendered shares are canceled and are unavailable for reissue.

 

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		For the Nine Months Ended
		September 30, 2023
		Shares				Weighted-Average Grant Date Fair Value
Non-vested at January 1, 2023			166,839			$	17.78
Granted			32,449				13.90
Vested			(49,273	)			18.11
Canceled (1)			(15,412	)			18.11
Forfeited			(14,193	)			17.51
Non-vested at September 30, 2023			120,410			$	16.59
(1) A surrender of vested stock awards by a participant surrendering the number of shares valued at the current stock price at the vesting date to cover the participant's tax obligation on the vested shares. The surrendered shares are canceled and are unavailable for reissue.

 

As of September 30, 2023, there was $1.2 million of total unrecognized compensation cost related to non-vested shares granted as restricted stock awards. The cost is expected to be recognized over the remaining weighted-average vesting period of approximately 1.34 years.

 

Note 11 - Fair Value Accounting and Measurement

 

Fair value is the price to sell an asset or transfer a liability in an orderly transaction between market participants in the Company’s principal market. The Company has established and documented its process for determining the fair values of its assets and liabilities, where applicable. Fair value is based on quoted market prices, when available, for identical or similar assets or liabilities. In the absence of quoted market prices, management determines the fair value of the Company’s assets and liabilities using valuation models or third-party pricing services, both of which rely on market-based parameters when available, such as interest rate yield curves, option volatilities and credit spreads, or unobservable inputs. Unobservable inputs may be based on management’s judgment, assumptions, and estimates related to credit quality, liquidity, interest rates, and other relevant inputs.

 

Any changes to valuation methodologies are reviewed by management to ensure they are relevant and justified. Valuation methodologies are refined as more market-based data becomes available.

 

A three-level valuation hierarchy is used in determining fair value that is based on the transparency of the inputs used in the valuation process. The inputs used in determining fair value in each of the three levels of the hierarchy are as follows:

 

Level 1 - Quoted prices (unadjusted) in active markets for identical assets or liabilities.

 

Level 2 - Either: (i) quoted prices for similar assets or liabilities; (ii) observable inputs, such as interest rates or yield curves; or (iii) inputs derived principally from or corroborated by observable market data.

 

Level 3 - Unobservable inputs.

 

The hierarchy gives the highest ranking to Level 1 inputs and the lowest ranking to Level 3 inputs. The level in the fair value hierarchy within which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the overall fair value measurement.

 

The Company used the following methods to measure fair value on a recurring and nonrecurring basis.

 

Securities available for sale: Where quoted prices are available in an active market, securities are classified as Level 1. Level 1 instruments include highly liquid government bonds, securities issued by the U.S. Treasury, and exchange-traded equity securities. If quoted prices are not available, management determines fair value using pricing models, quoted prices of similar securities, which are considered Level 2, or discounted cash flows. In certain cases, where there is limited activity in the market for an instrument, assumptions must be made to determine their fair value. Such instruments are classified as Level 3.

 

Partnership investments: Management determines fair value using quoted prices of similar investments or discounted cash flows, which are considered Level 2, when available. Where there is limited activity in the market for an instrument, assumptions must be made to determine their fair value. The Company believes that the net asset value obtained through financial statements provided by each partnership approximates fair value. Such instruments are classified as Level 3.

 

 

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Sold loan servicing rights, at fair value: The fair value of sold loan servicing rights is determined through a discounted cash flow analysis, which uses interest rates, prepayment speeds, discount rates, and delinquency rate assumptions as inputs. Servicing rights are classified as Level 3 due to reliance on assumptions used in the valuation.

 

Loans receivable, net: The fair value of loans is estimated by discounting the future cash flows using the current rate at which similar loans and leases would be made to borrowers with similar credit and for the same remaining maturities. Additionally, to be consistent with the requirements under FASB ASC Topic 820 for Fair Value Measurements and Disclosures, the loans were valued at a price that represents the Company’s exit price or the price at which these instruments would be sold or transferred.

 

Interest rate swap derivative: The fair values of interest rate swap agreements are based on valuation models using observable market data as of the measurement date (Level 2). The Company’s derivatives are traded in an over-the-counter market where quoted market prices are not always available. Therefore, the fair values of derivatives are determined using quantitative models that utilize multiple market inputs. The inputs will vary based on the type of derivative, but could include interest rates, prices and indices to generate continuous yield or pricing curves, prepayment rates, and volatility factors to value the position. The majority of market inputs are actively quoted and can be validated through external sources, including market transactions and third-party pricing services. The fair values of all interest rate swaps are determined from third-party pricing services without adjustment.

 

Assets and liabilities measured at fair value on a recurring basis - Assets and liabilities are considered to be valued on a recurring basis if fair value is measured regularly (i.e., daily, weekly, monthly, or quarterly). The following tables show the Company’s assets and liabilities measured at fair value on a recurring basis at the dates indicated:

 

		September 30, 2023
		Quoted Prices in Active Markets for Identical Assets or Liabilities				Significant Other Observable Inputs				Significant Unobservable Inputs
		(Level 1)				(Level 2)				(Level 3)				Total
Financial Assets			(In thousands)
Securities available-for-sale
Municipal bonds		$	4,637			$	89,358			$	—			$	93,995
U.S. Treasury notes			2,377				—				—				2,377
Agency bonds			—				1,703				—				1,703
Corporate debt			5,376				48,959				—				54,335
MBS agency			—				66,946				—				66,946
MBS non-agency			—				60,776				29,192				89,968
Sold loan servicing rights			—				—				3,729				3,729
Partnership investments			—				—				12,787				12,787
Interest rate swap derivative			—				576				—				576
Total assets measured at fair value		$	12,390			$	268,318			$	45,708			$	326,416

 

		December 31, 2022
		Quoted Prices in Active Markets for Identical Assets or Liabilities				Significant Other Observable Inputs				Significant Unobservable Inputs
		(Level 1)				(Level 2)				(Level 3)				Total
Financial Assets			(In thousands)
Securities available-for-sale
Municipal bonds		$	4,913			$	93,137			$	—			$	98,050
U.S. Treasury notes			2,364				—				—				2,364
Agency bonds			—				1,702				—				1,702
Corporate debt			5,326				50,173				—				55,499
MBS agency			—				75,648				—				75,648
MBS non-agency			—				63,707				29,599				93,306
Sold loan servicing rights			—				—				3,887				3,887
Partnership investments			—				—				12,563				12,563
Total assets measured at fair value		$	12,603			$	284,367			$	46,049			$	343,019

 

 

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The following table provides a description of the valuation technique, unobservable input, and qualitative information about the unobservable inputs for the Company's assets and liabilities classified as Level 3 and measured at fair value on a recurring basis at the date indicated:

 

September 30, 2023		Fair Value (In thousands)			Valuation Technique		Unobservable Input (1)		Range (Weighted Average)
Sold loan servicing rights		$3,729			Discounted cash flow		Constant prepayment rate		5.36% - 34.46% (8.39%)
							Discount rate			11.75% - 14.24% (12.56%)
MBS non-agency		$29,192			Consensus pricing		Offered quotes		94.5 - 99.3
							Comparability adjustments (%)			-3.97% - 0.87%
Partnership investments		$12,787			Net asset value per share		Net asset value		n/a
(1) Unobservable inputs were weighted by the relative fair value of the instruments.

 

The following table summarizes the changes in sold loan servicing rights, a Level 3 asset measured at fair value on a recurring basis, at the dates indicated:

 

		As of or For the Three Months Ended September 30,								As of or For the Nine Months Ended September 30,
		2023				2022				2023				2022
		(In thousands)
Balance at beginning of period		$	3,825			$	3,865			$	3,887			$	3,820
Servicing rights that result from transfers and sale of financial assets			71				45				145				143
Changes in fair value due to changes in model inputs or assumptions (1)			(167	)			(38	)			(303	)			(91	)
Balance at end of period		$	3,729			$	3,872			$	3,729			$	3,872
(1) Represents changes due to collection/realization of expected cash flows and curtailments.

 

The following tables summarize the changes in Level 3 securities available for sale and partnership investments, assets which are measured at fair value on a recurring basis, at the dates indicated:

 

		As of or Three Months Ended September 30, 2023
		Balance at beginning of period				Transfers Into Level 3				Purchases, net of Distributions				Unrealized (Losses) Gains				Balance at end of period
		(In thousands)
Securities available for sale:
MBS non-agency		$	29,378			$	—			$	—			$	(186	)		$	29,192
Partnership investments			12,733				—				(82	)			136				12,787

 

 

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		As of or For the Nine Months Ended September 30, 2023
		Balance at beginning of period				Transfers Into Level 3				Purchases, net of Distributions				Unrealized (Losses) Gains				Balance at end of period
		(In thousands)
Securities available for sale:
MBS non-agency		$	29,599			$	—			$	—			$	(407	)		$	29,192
Partnership investments			12,563				—				(69	)			293				12,787

 

		As of or For the Year Ended December 31, 2022
		Balance at beginning of period				Transfers Into Level 3 (1)				Purchases				Unrealized Gains				Balance at end of period
		(In thousands)
Securities available for sale:
MBS non-agency		$	—			$	29,599			$	—			$	—			$	29,599
Sold loan servicing rights			—				12,490				—				73				12,563
(1) Transferred from Level 2 to Level 3 in the fourth quarter of 2022 because of a lack of observable market data, resulting from little to no market activity for the investments.

 

Assets and liabilities measured at fair value on a nonrecurring basis - Assets are considered to be valued on a nonrecurring basis if the fair value measurement of the instrument does not necessarily result in a change in the amount recorded on the consolidated balance sheets. Generally, nonrecurring valuation is the result of the application of other accounting pronouncements that require assets or liabilities to be assessed for impairment or recorded at the lower of cost or fair value.

 

The following table presents the Company’s assets measured at fair value on a nonrecurring basis at the date indicated:

 

		December 31, 2022
		Level 1				Level 2				Level 3				Total
		(In thousands)
Impaired loans		$	—			$	—			$	3,034			$	3,034

 

At  September 30, 2023 and December 31, 2022, there were no impaired loans with discounts to appraisal disposition value or other unobservable inputs.

 

 

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The following tables present the carrying value and estimated fair value of financial instruments at the dates indicated:

 

		September 30, 2023
										Fair Value Measurements Using:
		Carrying Amount				Estimated Fair Value				Level 1				Level 2				Level 3
		(In thousands)
Financial assets
Cash and cash equivalents		$	83,886			$	83,886			$	83,886			$	—			$	—
Investment securities available for sale			309,324				309,324				12,390				267,742				29,192
Loans held for sale			689				689				—				689				—
Loans receivable, net			1,618,033				1,486,050				—				—				1,486,050
FHLB stock			12,621				12,621				—				12,621				—
Accrued interest receivable			8,093				8,093				—				8,093				—
Sold loan servicing rights, at fair value			3,729				3,729				—				—				3,729
Partnership investments			12,787				12,787				—				—				12,787
Interest rate swap derivative			576				576				—				576				—
Financial liabilities
Demand deposits		$	1,078,049			$	1,078,049			$	1,078,049			$	—			$	—
Time deposits			579,713				572,616				—				—				572,616
FHLB Borrowings			253,000				248,031				—				—				248,031
Line of Credit			8,000				8,030				—				—				8,030
Subordinated debt, net			39,416				39,879				—				—				39,879
Accrued interest payable			2,276				2,276				—				2,276				—

 

		December 31, 2022
										Fair Value Measurements Using:
		Carrying Amount				Estimated Fair Value				Level 1				Level 2				Level 3
		(In thousands)
Financial assets
Cash and cash equivalents		$	45,596			$	45,596			$	45,596			$	—			$	—
Investment securities available for sale			326,569				326,569				12,603				284,367				29,599
Loans held for sale			597				597				—				597				—
Loans receivable, net			1,531,435				1,461,470				—				—				1,461,470
FHLB stock			11,681				11,681				—				11,681				—
Accrued interest receivable			6,743				6,743				—				6,743				—
Sold loan servicing rights, at fair value			3,887				3,887				—				—				3,887
Partnership investments			12,563				12,563				—				—				12,563
Financial liabilities
Demand deposits			1,182,570			$	1,182,570			$	1,182,570			$	—			$	—
Time deposits			381,685				372,865				—				—				372,865
FHLB Borrowings			234,000				229,103				—				—				229,103
Line of Credit			12,000				12,034				—				—				12,034
Subordinated debt, net			39,358				38,841				—				—				38,841
Accrued interest payable			455				455				—				455				—

 

 

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Note 12- Change in Accumulated Other Comprehensive Income ("AOCI")

 

Our AOCI includes unrealized gain (loss) on available-for-sale securities and an unrecognized defined benefit plan prior service cost. The following table presents changes to accumulated other comprehensive income after-tax for the periods shown:

 

		Unrealized Gains and Losses on Available-for-Sale Securities				Unrecognized Defined Benefit Plan Prior Service Cost, Net of Amortization				Unrealized Gains and Losses on Derivatives				Total
		(In thousands)
Balance at June 30, 2022		$	(26,653	)		$	(1,794	)		$	—			$	(28,447	)
Other comprehensive loss before reclassification			(12,604	)			—				—				(12,604	)
Amounts reclassified from accumulated other comprehensive income			—				28				—				28
Net other comprehensive (loss) income			(12,604	)			28				—				(12,576	)
Balance at September 30, 2022		$	(39,257	)		$	(1,766	)		$	—			$	(41,023	)
Balance at June 30, 2023		$	(37,679	)		$	(2,079	)		$	(308	)		$	(40,066	)
Other comprehensive loss before reclassification			(6,540	)			—				727				(5,813	)
Amounts reclassified from accumulated other comprehensive income			—				29				—				29
Net other comprehensive (loss) income			(6,540	)			29				727				(5,784	)
Balance at September 30, 2023		$	(44,219	)		$	(2,050	)		$	419			$	(45,850	)
Balance at December 31, 2021		$	2,140			$	(1,852	)		$	—			$	288
Other comprehensive loss before reclassification			(41,304	)			—				—				(41,304	)
Amounts reclassified from accumulated other comprehensive income			(93	)			86				—				(7	)
Net other comprehensive (loss) income			(41,397	)			86				—				(41,311	)
Balance at September 30, 2022		$	(39,257	)		$	(1,766	)		$	—			$	(41,023	)
Balance at December 31, 2022		$	(38,404	)		$	(2,139	)		$	—			$	(40,543	)
Other comprehensive loss before reclassification			(5,815	)			—				419				(5,396	)
Amounts reclassified from accumulated other comprehensive income			—				89				—				89
Net other comprehensive (loss) income			(5,815	)			89				419				(5,307	)
Balance at September 30, 2023		$	(44,219	)		$	(2,050	)		$	419			$	(45,850	)

 

 

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Note 13 - Derivatives and Hedging Activities

 

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.

 

Fair Value Hedges of Interest Rate Risk

The Company is exposed to changes in the fair value of certain of its fixed-rate assets due to changes in benchmark interest rates. The Company uses interest rate swaps to manage its exposure to changes in fair value on these instruments attributable to changes in the designated benchmark interest rate. Interest rate swaps designated as fair value hedges involve the payment of fixed-rate amounts to a counterparty in exchange for the Company receiving variable-rate payments over the life of the agreement without the exchange of the underlying notional amount.

 

For derivatives designated and that qualify as fair value hedges, the gain or loss on the derivative as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in interest income.

 

At September 30, 2023, the following amounts were recorded on the balance sheet related to cumulative basis adjustment for fair value hedges. The Company had no fair value hedges at December 31, 2022.

Line item in the income statement in which the hedged item is included		Carrying Amount of the Hedged Assets (Liabilities)				Cumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount of the Hedged Assets (Liabilities)
		(In thousands)
September 30, 2023
Investment securities (1)		$	49,467			$	(533	)
Total		$	49,467			$	(533	)

(1) These amounts include the amortized cost basis of a closed portfolio of AFS securities used to designate hedging relationships in which the hedged item is the stated amount of assets in the closed portfolio anticipated to be outstanding for the designated hedged period. At September 30, 2023, the amortized cost basis of the closed portfolio used in this hedging relationship was $59.5 million, the cumulative basis adjustments associated with this hedging relationship was ($533,000), and the amount of the designated hedged items was $50.0 million.

 

The following table summarizes the Company’s derivative instruments at the date indicated. The Company has master netting agreements with derivative dealers with which it does business, but reflects gross assets and liabilities as “Other assets” and “Other liabilities,” respectively, on the Consolidated Balance Sheets, as follows:

						Fair Value
		Notional Amount				Other Assets				Other Liabilities
			(In thousands)
September 30, 2023
Fair value hedges:
Interest rate swaps - securities		$	50,000			$	576			$	—

 

The following table summarizes the effect of fair value accounting on the Consolidated Statements of Income for the periods shown:

		Three Months Ended September 30,								Nine Months Ended September 30,
		2023				2022				2023				2022
		(In thousands)
Total amounts recognized in interest on investment securities		$	3,368			$	2,817			$	9,886			$	7,807
Net gains (losses) on fair value hedging relationships
Interest rate swaps - securities
Recognized on hedged items		$	(925	)		$	—			$	(533	)		$	—
Recognized on derivatives designated as hedging instruments			1,071				—				817				—
Net income recognized on fair value		$	146			$	—			$	284			$	—

 

 

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Credit Risk-related Contingent Features

The Company is exposed to credit-related losses in the event of nonperformance by counterparties to hedging instruments. The counterparties to all derivative transactions are major financial institutions with investment grade credit ratings. However, this does not eliminate the Company’s exposure to credit risk with these institutions. This credit risk is limited to the unrealized gains in such contracts should any of these counterparties fail to perform as contracted.

 

The Company has an interest rate swap agreement with its derivative counterparty that contains a provision where if the Company either defaults or fails to maintain its status as a well or adequately capitalized institution, then the Company could be required to terminate the contract or post additional collateral. At September 30, 2023, the Company had no derivatives in a net liability position related to this agreement. The Company has minimum collateral posting thresholds with its derivative counterparty and has posted collateral of securities with par values totaling $55.8 million and cash of $790,000 to secure the interest rate swap agreement at September 30, 2023. In certain cases, the Company will have posted excess collateral compared to total exposure due to initial margin requirements or day-to-day rate volatility.

 

As of September 30, 2023, the Company was in compliance with all credit risk-related contingent features. Given the considerations described above, the Company considers the impact of the risk of counterparty default to be immaterial.

 

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ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

 

Certain matters discussed in this Quarterly Report on Form 10-Q constitute forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by the use of words such as "believes," "expects," "anticipates," "estimates" or similar expressions. Forward-looking statements include, but are not limited to:

	•	statements of our goals, intentions and expectations;
	•	statements regarding our business plans, prospects, growth and operating strategies;
	•	statements regarding the quality of our loan and investment portfolios; and
	•	estimates of our risks and future costs and benefits.

 

These forward-looking statements are based on current beliefs and expectations of management and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the Company’s control. Actual results may differ materially from those contemplated by the forward-looking statements due to, among others, the following factors:

	•	the risks associated with lending and potential adverse changes in the credit quality of loans in our portfolio;
	•	legislative or regulatory changes, including expanded consumer protection regulation, responses to recent events in the banking industry, inflation and climate change issues, which could adversely affect the Company's business;
	•	continued depressed market demand for loans that we originate for sale;
	•	our ability to control operating costs and expenses;
	•	whether our management team can succeed in implementing our operational strategy, including but not limited to our efforts to achieve loan and revenue growth;
	•	our ability to successfully execute on merger and/or acquisition strategies, integrate any newly acquired assets, liabilities, customers, systems, and management personnel into our operations and realize related cost savings within expected time frames;
	•	our ability to successfully execute on growth strategies related to our entry into new markets and delivery channels, including banking as a service;
	•	our ability to develop user-friendly digital applications to serve existing customers and attract new customers;
	•	the use of estimates in determining fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation;
	•	changes in monetary policy and fiscal policies, including interest rate policies of the Federal Reserve, and the relative differences between short and long-term interest rates, deposit interest rates, our net interest margin and funding sources;
	•	pressures on liquidity, including as a result of withdrawals of deposits or declines in the value of our investment portfolio;
	•	increased competitive pressures among financial services companies, particularly from non-traditional banking entities such as challenger banks, fintech, and mega technology companies;
	•	our ability to attract and retain deposits at a reasonable cost;
	•	changes in consumer spending, borrowing and savings habits, resulting in reduced demand for banking products and services, particularly in the event of a recession that affects our market areas;
	•	results of examinations by the Washington State Department of Financial Institutions, Department of Banks, the Federal Deposit Insurance Corporation, Federal Reserve Bank of San Francisco, or other regulatory authorities, which could result in restrictions that may adversely affect our liquidity and earnings;
	•	disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems or on the third-party vendors who perform several of our critical processing functions;
	•	risks related to overall economic conditions, including the impact on the economy of a rising interest rate environment, inflationary pressures, and geopolitical instability, including the wars in Ukraine and the Middle East;
	•	any failure of key third-party vendors to perform their obligations to us;
	•	the effects of any reputational damage to the Company resulting from any of the foregoing; and
	•	other economic, competitive, governmental, regulatory and technical factors affecting our operations, pricing, products and services and other risks described elsewhere in our filings with the Securities and Exchange Commission, including this Form 10-Q and the Company's Annual Report on Form 10-K for the year ended December 31, 2022, ("2022 Form 10-K").

 

Any of the forward-looking statements that we make in this report and in other statements we make may turn out to be wrong because of inaccurate assumptions we might make, because of the factors illustrated above or because of other factors that we cannot anticipate or predict. Any forward-looking statements are based upon management’s beliefs and assumptions at the time they are made. We undertake no obligation to publicly update or revise any forward-looking statements included or incorporated by reference in this document or to update the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. Due to these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur, and you should not put undue reliance on any forward-looking statements.

 

 

General

 

First Northwest is a bank holding company and a financial holding company and is engaged in banking activities through its wholly owned subsidiary, First Fed Bank, as well as certain non-banking financial activities. Non-financial investments include several limited partnership investments, including a 33.3% interest in The Meriwether Group, LLC ("MWG"). The Company's business activities are generally focused on passive investment activities and oversight of the activities of First Fed. The Company also entered into partnerships to strategically invest in fintech-related businesses, which may result in additional investment opportunities.

 

First Fed Bank is a community-oriented financial institution founded in 1923 in Port Angeles, Washington. We have 16 locations including 12 full-service branches and four business centers in Clallam, Jefferson, King, Kitsap, and Whatcom counties. First Fed’s business and operating strategy is focused on building sustainable earnings by delivering a fully array of financial products and services for individuals, small business, and commercial customers. Lending activities include the origination of first lien one-to-four family mortgage loans, commercial and multi-family real estate loans, residential and commercial construction and land loans, commercial business loans, SBA loans, and consumer loans, consisting primarily of home equity loans and lines of credit. Over the last five years, we have significantly increased the origination of commercial real estate, multi-family real estate, construction, and commercial business loans, and have increased our consumer loan portfolio through our manufactured home and auto loan purchase programs. We offer traditional consumer and business deposit products, including transaction accounts, savings and money market accounts and certificates of deposit ("CDs") for individuals and businesses. Deposits are our primary source of funding for our lending and investing activities.

 

First Northwest's limited partnership investments include Canapi Ventures Fund, LP; BankTech Ventures, LP; and JAM FINTOP Blockchain, LP. These limited partnerships invest in fintech-related businesses with a focus on developing digital solutions applicable to the banking industry. In 2022, First Northwest acquired a 33% interest in MWG, a boutique investment bank and consulting firm focused on providing entrepreneurs with resources to help them succeed. Also in 2022, the Company acquired a 25% equity interest as a general partner in Meriwether Group Capital, LLC ("MWGC"), which provides financial advice for borrowers and capital for the Meriwether Group Capital Hero Fund LP ("Hero Fund"). The Hero Fund is a private commercial lender focused on lower-middle market businesses, primarily in the Pacific Northwest. First Northwest also has a limited partnership investment in the Hero Fund. MWG also holds a 20% general partner interest in MWGC.

 

First Northwest is impacted by prevailing economic conditions as well as government policies and regulations concerning, among other things, monetary and fiscal affairs, housing and financial institutions. Deposit flows are influenced by several factors, including interest rates paid on competing deposits, alternative investment options available to our customers, account maturities, the number and quality of our deposit originators, digital delivery systems, branding and customer acquisition, and the overall level of personal income and savings in the markets where we do business. Lending activities are influenced by the demand and pricing for loan funds, our credit policies, the number and quality of our lenders and credit underwriters, digital delivery systems, branding and customer acquisition, and regional economic cycles.

 

Our primary source of pre-tax income is net interest income. Net interest income is the difference between interest income earned on our loans and investments and interest expense paid on our deposits and borrowings. Changes in our asset and liability mix, market and portfolio interest rates and cash flows from existing assets and liabilities affect our net interest income. A secondary source of income for the Company is noninterest income, which includes revenue earned from providing products and services, including service charges on deposit accounts, late and other charges on loans, mortgage banking income, loan sales and servicing income, interest rate swap fee income, earnings from bank-owned life insurance, investment services income, gains and losses from sales of securities, and changes in the market value of our equity and partnership investments.

 

An offset to net interest income is the provision for credit losses, which represents the periodic charge to operations that is required to adequately provide for losses inherent in our investment, loan and unfunded commitment portfolios through the ACL. A recapture of previously recognized provision for credit losses may be added to net income as the underlying assumptions driving anticipated loss rates within the CECL model improve, such as the United States unemployment and gross domestic product metrics, lower loan or unfunded commitment balances, or receipt of recoveries for amounts previously charged off.

 

Noninterest expenses we incur in operating our business consist of salaries and employee benefit costs, occupancy and equipment expenses, federal deposit insurance premiums and regulatory assessments, data processing expenses, marketing and other customer acquisition expenses, legal and other professional fees, expenses related to real estate and personal property owned, and other expenses.

 

 

 

Critical Accounting Policies

 

On January 1, 2023, the Company adopted ASU 2016-13, Measurement of Credit Losses on Financial Instruments, referred to as the Current Expected Credit Loss or CECL model. In conjunction with the adoption of CECL, the Company also adopted ASU 2022-02, Financial Instruments - Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. For additional information on these ASUs, see "Note 1 - Basis of Presentation and Critical Accounting Policies - Recently adopted accounting pronouncements" of the Notes to the Consolidated Financial Statements included in Part I. Item 1 of this report.

 

Effective with the execution of a hedging agreement in the first quarter of 2023, the Company implemented an accounting policy on derivatives and hedging. For additional information on the hedging policy, see "Note 1 - Basis of Presentation and Critical Accounting Policies - Recently adopted accounting pronouncements" of the Notes to the Consolidated Financial Statements included in Part I. Item 1 of this report.

 

There were no other material changes to the critical accounting policies from those disclosed in the Company's 2022 Form 10-K.

 

Comparison of Financial Condition at September 30, 2023 and December 31, 2022

 

Assets. Total assets increased to $2.15 billion, or 5.5%, at September 30, 2023, from $2.04 billion at December 31, 2022.

 

Cash and cash equivalents increased by $38.3 million, or 84.0%, to $83.9 million as of September 30, 2023, compared to $45.6 million as of December 31, 2022. Cash increased during the current year as the Bank increased balance sheet liquidity in response to stresses within the banking industry and related concerns with respect to uncertainty pertaining to deposit costs and retention.

 

Investment securities decreased $17.3 million, or 5.3%, to $309.3 million at September 30, 2023, from $326.6 million at December 31, 2022. The decrease was due to normal payments and prepayment activity as well as a mark-to-market valuation decrease of $7.7 million, primarily related to a declining market outlook on the municipal bond portfolio due to the current rate environment. The investment portfolio, including mortgage-backed securities, had an estimated projected average life of 7.7 years as of September 30, 2023, compared to 8.2 years as of December 31, 2022, and had an estimated average repricing term of 7.3 years as of September 30, 2023, compared to 7.1 years as of December 31, 2022, based on the interest rate environment at those times. The effective duration of the investment portfolio was 4.9 years at September 30, 2023, compared to 5.1 years at December 31, 2022. We believe prepayment activity may continue to slow if interest rates continue to rise, extending the projected duration and causing additional deterioration to the market value of our securities portfolio.

 

Included in MBS non-agency are $58.7 million of commercial mortgage-backed securities ("CMBS"), of which 85.6%, or $50.2 million, are in "A" tranches. The majority of the remaining 14.4%, or $8.5 million, are in "B" tranches, with one investment in a "C" tranche. Our largest exposure is to long-term care facilities, which makes up 53.9%, or $31.7 million, of our private label CMBS securities. All of the CMBS bonds have credit enhancements that further reduce risk of loss on these investments.

 

The investment portfolio was composed of 49.0% in amortizing securities at September 30, 2023, compared to 50.8% at December 31, 2022. The projected average life of our securities may vary due to prepayment activity, particularly in the mortgage-backed securities portfolio, which is impacted by prevailing market interest rates. Securities are bought and sold to manage liquidity, improve long-term portfolio yields and manage interest rate risk in the portfolio. For additional information, see Note 2 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

 

Net loans, excluding loans held for sale, increased $86.6 million to $1.62 billion at September 30, 2023, from $1.53 billion at December 31, 2022. During the nine months ended September 30, 2023, multi-family loans increased $72.8 million through new originations totaling $40.1 million, and $27.8 million of construction loans converting into permanent amortizing loans, including $17.8 million of acquisition-renovation loans. One-to-four family residential loans increased $26.4 million as a result of $3.3 million in new amortizing loan originations and $48.0 million of residential construction loans that converted to permanent amortizing loans, partially offset by loan prepayments totaling $17.5 million and $7.4 million of scheduled payments received. Commercial business loans increased $24.5 million as a result of $15.2 million of Bankers Healthcare Group loan purchases and $9.2 million of organic originations and draws on existing commitments in excess of payoffs and scheduled payments. Home equity loans increased $11.6 million primarily as a result of $5.7 million in new fixed-rate originations and $7.7 million in new home equity lines of credit, offset by payment activity. Auto and other consumer loans increased $9.9 million, due to a $14.3 million purchase of a pool of manufactured home loans and $2.8 million in individual manufactured home loan purchases, offset by a net decrease in auto loans of $1.3 million and payment activity. Commercial real estate loans decreased $7.3 million, with early payoffs and scheduled payments in excess of the $4.3 million from construction loans that converted into permanent amortizing loans.

 

 

 

Construction and land loans decreased $50.2 million, or 25.9%, to $143.4 million at September 30, 2023, from $193.7 million at December 31, 2022, with $77.6 million converting into fully amortizing loans and additional decreases from loans being paid in full, partially offset by draws on new and existing loans. Construction loans in the portfolio are geographically dispersed throughout western Washington with two loans in Oregon and two loans in Idaho. We manage construction lending by utilizing a licensed third-party vendor to assist us in monitoring the progress toward completion of our construction projects. We continue to monitor the impact of supply chain challenges, inflation and consumer demand in a rising interest rate environment on completion of the projects currently in the portfolio. As of the date of this report, we have no reason to believe that any of the projects in process will not be completed. At September 30, 2023, no acquisition-renovation loans were included in the construction loan total compared to $19.3 million at December 31, 2022. These commercial acquisition-renovation loans represent financing primarily for the acquisition of multi-family properties with a construction component used for the renovation of common areas and specific units of the building. Given the construction component of these loans, we are required to report them as construction under regulatory guidelines; however, we consider these loans to be lower risk than typical ground-up construction projects. At September 30, 2023, 42% of construction commitments were for one-to-four family residential properties, which are anticipated to convert into amortizing loans upon completion.

 

We monitor real estate values and general economic conditions in our market areas, in addition to assessing the strength of our borrowers, including their equity contributions to a project, to prudently underwrite construction loans. We continually assess our lending strategies across all product lines and markets where we do business to improve earnings while also prudently managing credit risk.

 

 

The following tables show our construction commitments by type and geographic concentrations at the dates indicated:

 

September 30, 2023		North Olympic Peninsula (1)				Puget Sound Region (2)				Other Washington				Oregon				Idaho				Total
		(In thousands)
Construction Commitment
One-to-four family residential		$	14,635			$	60,461			$	7,577			$	540			$	—			$	83,213
Multi-family residential			—				76,905				9,221				415				3,592				90,133
Commercial real estate			—				24,238				—				—				—				24,238
Total commitment		$	14,635			$	161,604			$	16,798			$	955			$	3,592			$	197,584
Construction Funds Disbursed
One-to-four family residential		$	6,277			$	36,418			$	4,866			$	173			$	—			$	47,734
Multi-family residential			—				60,643				5,679				85				3,334				69,741
Commercial real estate			—				19,498				—				—				—				19,498
Total disbursed		$	6,277			$	116,559			$	10,545			$	258			$	3,334			$	136,973
Undisbursed Commitment
One-to-four family residential		$	8,358			$	24,043			$	2,711			$	367			$	—			$	35,479
Multi-family residential			—				16,262				3,542				330				258				20,392
Commercial real estate			—				4,740				—				—				—				4,740
Total undisbursed			$ 8,358				$ 45,045				$ 6,253				$ 697				$ 258				$ 60,611
Land Funds Disbursed
One-to-four family residential		$	3,639			$	3,033			$	274			$	—			$	—			$	6,946
Total disbursed for land		$	3,639			$	3,033			$	274			$	—			$	—			$	6,946

(1) Includes Clallam and Jefferson counties.

(2) Includes Kitsap, Mason, Thurston, Pierce, King, Snohomish, Skagit, Whatcom, and Island counties.

 

December 31, 2022		North Olympic Peninsula (1)				Puget Sound Region (2)				Other Washington				Oregon				Idaho				Total
		(In thousands)
Construction Commitment
One-to-four family residential		$	39,031			$	75,745			$	12,015			$	—			$	—			$	126,791
Multi-family residential			—				102,429				9,296				415				3,592				115,732
Commercial acquisition-renovation			1,636				18,625				—				—				—				20,261
Commercial real estate			349				39,845				—				540				—				40,734
Total commitment		$	41,016			$	236,644			$	21,311			$	955			$	3,592			$	303,518
Construction Funds Disbursed
One-to-four family residential		$	17,557			$	36,902			$	4,280			$	—			$	—			$	58,739
Multi-family residential			—				68,936				5,296				42				2,752				77,026
Commercial acquisition-renovation			1,636				17,687				—				—				—				19,323
Commercial real estate			212				27,492				—				12				—				27,716
Total disbursed		$	19,405			$	151,017			$	9,576			$	54			$	2,752			$	182,804
Undisbursed Commitment
One-to-four family residential		$	21,474			$	38,843			$	7,735			$	—			$	—			$	68,052
Multi-family residential			—				33,493				4,000				373				840				38,706
Commercial acquisition-renovation			—				938				—				—				—				938
Commercial real estate			137				12,353				—				528				—				13,018
Total undisbursed		$	21,611			$	85,627			$	11,735			$	901			$	840			$	120,714
Land Funds Disbursed
One-to-four family residential		$	3,552			$	3,370			$	419			$	—			$	—			$	7,341
Commercial real estate			372				4,129				—				—				—				4,501
Total disbursed for land		$	3,924			$	7,499			$	419			$	—			$	—			$	11,842

(1) Includes Clallam and Jefferson counties.

(2) Includes Kitsap, Mason, Thurston, Pierce, King, Snohomish, Skagit, Whatcom, and Island counties.

 

 

During the nine months ended September 30, 2023, the Company originated $171.5 million of organic loans, of which $122.8 million, or 71.6%, were originated in the Puget Sound region, $42.2 million, or 24.5%, in the North Olympic Peninsula, $3.0 million, or 1.8%, in other areas throughout Washington State, and $3.5 million, or 2.1%, in other states. The Company purchased an additional $33.2 million in auto loans, $17.1 million in manufactured home loans, and $15.2 million in commercial business loans with collateral located throughout the United States during the nine months ended September 30, 2023. We will continue to strategically evaluate opportunities to acquire assets through wholesale channels in order to supplement organic originations and increase net interest income. The Northpointe Mortgage Purchase Program ("Northpointe MPP") also provides a temporary source of additional interest income but is dependent on demand for funding, with repayment of advances to this program typically occurring within 30 days or less. The total loan portfolio was composed of 79.1% organic originations and 20.9% purchased loans at September 30, 2023.

 

The ACLL increased to $17.0 million at September 30, 2023, as the Company adopted CECL on January 1, 2023, recording a day-one adjusting entry of $2.2 million. The Company made a $315,000 provision for credit loss on loans for the nine-month period. Net charge-offs were $2.5 million for the nine-month period. The ACLL as a percentage of total loans was 1.0% and 1.1% at September 30, 2023 and December 31, 2022, respectively.

 

Nonperforming loans increased $581,000, or 32.4%, to $2.4 million at September 30, 2023, from $1.8 million at December 31, 2022, reflecting the deterioration of three mortgage loans totaling $836,000, partially offset by payments received on other nonperforming loans. Nonperforming loans to total loans was 0.1% at both September 30, 2023 and December 31, 2022. The ACLL as a percentage of nonperforming loans decreased to 714% at September 30, 2023, down from 900% at December 31, 2022.

 

Classified loans increased $6.1 million to $23.0 million at September 30, 2023, from $16.9 million at December 31, 2022, due to downgrades of $2.9 million in commercial business loans, $1.3 million in commercial real estate loans, $1.1 million of additional funds disbursed on a substandard commercial construction loan, $862,000 for three single-family residential loans, along with delinquent unsecured consumer loans totaling $323,000 and home equity loans totaling $141,000.

 

Loan charge-offs are concentrated mainly in purchased unsecured consumer and indirect auto loans. The underwriting criteria for future loans purchased from the Splash unsecured consumer loan program were adjusted in an effort to minimize future losses. The Splash portfolio had loan balances of $8.7 million and $9.2 million at September 30, 2023 and December 31, 2022, respectively. The indirect auto loan program was discontinued in 2020, and the remaining loan balances under that program decreased to $2.6 million at September 30, 2023 from $4.8 million at December 31, 2022. We believe the ACLL is adequate to absorb the known and inherent risks of loss in the overall loan portfolio as of September 30, 2023.

 

Loans receivable, excluding loans held for sale, consisted of the following at the dates indicated:

 

										Increase (Decrease)
		September 30, 2023				December 31, 2022				Amount				Percent
		(In thousands)
Real Estate:
One-to-four family		$	369,950			$	343,559			$	26,391				7.7	%
Multi-family			325,496				252,745				72,751				28.8
Commercial real estate			381,508				388,884				(7,376	)			(1.9	)
Construction and land			143,434				193,646				(50,212	)			(25.9	)
Total real estate loans			1,220,388				1,178,834				41,554				3.5
Consumer:
Home equity			64,424				52,877				11,547				21.8
Auto and other consumer			248,786				238,913				9,873				4.1
Total consumer loans			313,210				291,790				21,420				7.3
Commercial business loans			101,380				76,927				24,453				31.8
Total loans			1,634,978				1,547,551				87,427				5.6
Less:
Allowance for credit losses on loans			16,945				16,116				829				5.1
Loans receivable, net		$	1,618,033			$	1,531,435			$	86,598				5.7

 

 

The following table represents nonperforming assets at the dates indicated.

										Increase (Decrease)
		September 30, 2023				December 31, 2022				Amount				Percent
		(In thousands)
Nonperforming loans:
Real estate loans:
One-to-four family		$	1,790			$	954			$	836				87.6	%
Commercial real estate			34				53				(19	)			(35.8	)
Construction and land			8				15				(7	)			(46.7	)
Total real estate loans			1,832				1,022				810				79.3
Consumer loans:
Home equity			166				196				(30	)			(15.3	)
Auto and other consumer			376				575				(199	)			(34.6	)
Total consumer loans			542				771				(229	)			(29.7	)
Total nonperforming assets		$	2,374			$	1,793			$	581				32.4
Nonaccrual and 90 days or more past due loans as a percentage of total loans			0.1	%			0.1	%			0.0	%			—

 

 

Liabilities. Total liabilities increased to $2.0 billion at September 30, 2023, from $1.88 billion at December 31, 2022, due to an increase in deposits of $93.5 million and borrowings of $15.0 million.

 

Deposit balances increased $93.5 million to $1.66 billion at September 30, 2023 from $1.56 billion at December 31, 2022. During the nine-month period ended September 30, 2023, CDs increased $198.0 million and savings accounts increased $52.3 million, offset by money market account decreases of $100.3 million and demand deposit account decreases of $56.5 million. We believe the shift between categories was driven by customers seeking higher rates and spending excess savings accumulated in 2020 and 2021. We utilize brokered CDs as an additional funding source to provide liquidity, manage cost of funds, reduce reliance on FHLB advances, and manage interest rate risk. Brokered CDs totaling $169.6 million were included in the $579.7 million balance of CDs at September 30, 2023. Brokered CD balances increased $35.7 million, business and public fund account balances increased $33.7 million, and consumer account balances increased $23.4 million during the nine-month period ended September 30, 2023.

 

FHLB advances increased $29.0 million, or 12.9% to $253.0 million at September 30, 2023, from $224.0 million at December 31, 2022. We increased short-term advances to provide additional balance sheet liquidity, fund loan growth and keep the duration of liabilities shorter relative to taking on longer term advances.

 

Equity. Total shareholders' equity decreased $2.2 million to $156.1 million for the nine months ended September 30, 2023. The Company recorded year-to-date net income of $7.8 million and a $419,000 increase in the fair market value of derivatives, net of taxes. Increases were offset by an increase in the after-tax unrealized loss on available-for-sale investments of $5.8 million, a $3.0 million decrease for the cumulative CECL adjustment, $2.0 million of dividends declared and the cost of repurchased shares. Year-to-date, we repurchased 75,690 shares of common stock under the October 2020 stock repurchase plan at an average price of $12.91 per share for a total of $980,000, leaving 226,337 shares remaining in the current share repurchase program.

 

 

Comparison of Results of Operations for the Three Months Ended September 30, 2023 and 2022

 

General. Net income attributable to the Company was $2.5 million for the three months ended September 30, 2023, compared to $4.3 million for the three months ended September 30, 2022. A $2.9 million decrease in net interest income after provision for credit losses was offset by a $570,000 increase in noninterest income and a $1.0 million decrease in noninterest expense.

 

Net Interest Income. Net interest income decreased $3.3 million to $15.0 million for the three months ended September 30, 2023, from $18.2 million for the three months ended September 30, 2022. This decrease was mainly the result of higher rates paid on interest-bearing liabilities, which increased 187 basis points to 2.60% for the three months ended September 30, 2023, compared to 0.73% for the same period in the prior year. This was due to an increase in the average balances of CDs and advances and higher rates paid on all deposits and advances. The average yield on interest-earning assets increased 69 basis points to 5.14% for the three months ended September 30, 2023, compared to 4.45% for the same period last year, due primarily to higher yields on variable-rate assets and new loan originations.

 

Total cost of funds increased 164 basis points to 2.23% for the three months ended September 30, 2023, from 0.59% for the same period in 2022. The net interest margin decreased 91 basis points to 2.97% for the three months ended September 30, 2023, from 3.88% for the same period in 2022. While increases in the cost of funding are currently outpacing the growth of the yield on interest-earning assets, the Company has taken measures to reverse interest rate margin compression. The Bank augments organic loan production with higher yielding purchased loans through relationships with loan originators. A fair value hedging agreement provides additional interest income and new loan originations are priced to current market rates.

 

Interest Income. Total interest income increased $5.0 million, or 23.9%, to $25.8 million for the three months ended September 30, 2023, from $20.9 million for the comparable period in 2022, primarily due to higher yields on interest-earning assets. Interest and fees on loans receivable increased $4.0 million, to $21.7 million for the three months ended September 30, 2023, from $17.8 million for the three months ended September 30, 2022, primarily due to an increase in average loan yields to 5.31% for the three months ended September 30, 2023, from 4.75% for the same period in 2022, coupled with an increase in the average balance of net loans receivable of $140.1 million compared to the third quarter of 2022. The loan portfolio has grown through our renewed short-term participation in the Northpointe MPP, draws on new and existing business lines of credit, originations of multi-family real estate loans, and purchases of auto, manufactured home, and purchased Bankers Healthcare Group commercial loans. Loan yields increased over the prior year due to higher rates on new originations as well as the repricing of variable rate loans tied to the Prime Rate or other indices. The yield earned on investment securities also increased 116 basis points to 4.18% compared to the same period in 2022, as increases in floating bond rates and a slowdown in prepayment speeds, which reduces amortization of premium costs, have positively impacted investment securities income. The yield on interest-earning deposits in banks also increased to 5.46% from 2.72% for the comparable period in 2022, benefitting from increases in rates paid on excess balances held at the FRB.

 

 

 

The following table compares average earning asset balances, associated yields, and resulting changes in interest income for the periods shown:

		Three Months Ended September 30,
		2023								2022
		Average Balance Outstanding				Yield				Average Balance Outstanding				Yield				Increase in Interest Income
		(Dollars in thousands)
Loans receivable, net		$	1,624,722				5.31	%		$	1,484,615				4.75	%		$	3,950
Investment securities			319,508				4.18				348,281				3.21				551
FHLB stock			11,922				7.12				9,269				6.08				72
Interest-earning deposits in banks			38,099				5.46				17,231				2.72				406
Total interest-earning assets		$	1,994,251				5.14	%		$	1,859,396				4.45	%		$	4,979

 

Interest Expense. Total interest expense increased $8.2 million, or 310.6%, to $10.9 million for the three months ended September 30, 2023, compared to $2.7 million for the three months ended September 30, 2022. The increase over the third quarter of 2022 was the result of an increase in the cost of deposits to 1.85% from 0.32% in same period one year ago along with higher volumes of CDs. A shift in the deposit mix from no or low-cost transaction and money market accounts to a higher volume of CDs and promotional savings accounts resulted in higher costs of deposits. Borrowing expense increased due to an average balance increase of $62.3 million and an increase in the cost of advances, primarily FHLB advances, compared to the same period in 2022.

 

Average deposit account balances were composed of 83% in interest-bearing deposits and 17% in noninterest-bearing deposits at September 30, 2023, compared to 78% and 22%, respectively, at September 30, 2022. During the three months ended September 30, 2023, interest expense increased on CDs due to an increase in the average balances of $292.7 million, along with an increase in the average rates paid of 89 basis points, compared to the three months ended September 30, 2022. During the same period, the average balances of money market accounts decreased $183.0 million, offset by a 72 basis point average rate increase, resulting in an increase to interest expense. The average cost of interest-bearing deposit accounts increased to 2.22% for the three months ended September 30, 2023, from 0.41% for the three months ended September 30, 2022, due to changes to the deposit mix, driven by customer preferences and the use of higher rate promotional products designed to retain existing deposits and generate new deposits. The mix of customer deposit balances shifted from non-maturity accounts towards higher cost term certificate and savings products. Customer CDs represented 27.6% and 15.2% of customer deposits at September 30, 2023 and 2022, respectively.

 

The following table details average balances, cost of funds and the change in interest expense for the periods shown:

 

		Three Months Ended September 30,
		2023								2022
		Average Balance Outstanding				Rate				Average Balance Outstanding				Rate				Increase (Decrease) in Interest Expense
		(Dollars in thousands)
Interest-bearing demand deposits		$	176,503				0.46	%		$	190,542				0.03	%		$	188
Money market accounts			373,408				1.22				556,434				0.33				678
Savings accounts			255,956				1.42				198,403				0.05				894
Certificates of deposit			571,867				3.77				279,169				1.06				4,688
Advances			244,859				4.52				182,554				2.18				1,786
Subordinated debt			39,403				3.97				39,326				3.98				(1	)
Total interest-bearing liabilities		$	1,661,996				2.60	%		$	1,446,428				0.73	%		$	8,233

 

Provision for Credit Losses. The Company recorded a $371,000 provision for credit losses in the three months ended September 30, 2023, reflecting growth in the loan portfolio and additional charge-offs from the Splash unsecured consumer loan program, partially offset by a recapture due to a lower unfunded commitment balance. This compares to a $750,000 loan loss provision for the three months ended September 30, 2022, which was estimated using the incurred loss method based on historical loss trends combined with qualitative adjustments.

 

 

 

The following table details activity and information related to the ACLL for the periods shown:

 

		Three Months Ended September 30,
		2023				2022
		(Dollars in thousands)
Provision for credit losses on loans		$	880			$	782
Net charge-offs			(1,232	)			(224	)
Allowance for credit losses on loans			16,945				16,273
Allowance for losses as a percentage of gross loans receivable at period end			1.0	%			1.1	%
Total nonaccrual loans			2,374				3,517
Allowance for credit losses on loans as a percentage of nonaccrual loans at period end			713.8	%			462.7	%
Nonaccrual and 90 days or more past due loans as a percentage of total loans			0.1	%			0.2	%
Total loans		$	1,634,978			$	1,537,391

 

Noninterest Income. Noninterest income increased $570,000, or 24.4%, to $2.9 million for the three months ended September 30, 2023, from $2.3 million for the three months ended September 30, 2022. The increase was primarily due to a $750,000 reclassification from interest income to noninterest income recouped on Splash loan charge-offs, referral fee income of $219,000 and a quarter-over-quarter increase of $108,00 in swap fee income. Saleable mortgage loan production continues to be hindered by the increase in market rates on mortgage loans and a lack of single-family home inventory compared to the same period in the prior year. In addition, during the current quarter, commercial loan late charge fee income declined $159,000, the valuation of servicing rights on sold loans decreased $129,000 and no loans were sold to the SBA, resulting in a combined quarter-over-quarter decrease in the net gain on sale of loans of $114,000.

 

The following table provides a detailed analysis of the changes in the components of noninterest income for the periods shown:

 

		Three Months Ended September 30,								Increase (Decrease)
		2023				2022				Amount				Percent
		(Dollars in thousands)
Loan and deposit service fees		$	1,068			$	1,302			$	(234	)			(18.0	)%
Sold loan servicing fees and servicing rights mark-to-market			98				206				(108	)			(52.4	)
Net gain on sale of loans			171				285				(114	)			(40.0	)
Increase in cash surrender value of bank-owned life insurance			252				221				31				14.0
Other income			1,315				320				995				310.9
Total noninterest income		$	2,904			$	2,334			$	570				24.4	%

 

Noninterest Expense. Noninterest expense decreased $1.0 million, or 6.5%, to $14.4 million for the three months ended September 30, 2023, compared to $15.4 million for the three months ended September 30, 2022. The decrease in expenses compared to the third quarter of 2022 reflects a $1.1 million decrease related to Quin Ventures compensation, advertising and customer acquisition costs, and occupancy expenses. Additional decreases in Bank incentive compensation paid and other non-recurring compensation expenses were partially offset by higher Bank professional fees and FDIC insurance premiums. The Company continues to manage expenses, with a focus on controlling compensation expenses and reducing advertising and other discretionary spending.

 

The following table provides an analysis of the changes in the components of noninterest expense for the periods shown:

 

		Three Months Ended September 30,								Increase (Decrease)
		2023				2022				Amount				Percent
		(Dollars in thousands)
Compensation and benefits		$	7,795			$	9,045			$	(1,250	)			(13.8	)%
Data processing			1,945				1,778				167				9.4
Occupancy and equipment			1,173				1,499				(326	)			(21.7	)
Supplies, postage, and telephone			292				322				(30	)			(9.3	)
Regulatory assessments and state taxes			446				365				81				22.2
Advertising			501				645				(144	)			(22.3	)
Professional fees			929				695				234				33.7
FDIC insurance premium			369				219				150				68.5
Other expense			926				807				119				14.7
Total noninterest expense		$	14,376			$	15,375			$	(999	)			(6.5	)%

 

 

 

Provision for Income Tax. An income tax expense of $603,000 was recorded for the three months ended September 30, 2023, compared to $818,000 for the three months ended September 30, 2022, due to a year-over-year decrease in income before taxes of $1.3 million. The provision includes accruals for both federal and state income taxes. The provision for state income tax began in the second quarter of 2022 with respect to certain states in which we have employees and collateral for loans, thereby creating nexus in those states for income tax purposes. For additional information, see Note 7 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

 

Comparison of Results of Operations for the Nine Months Ended September 30, 2023 and 2022

 

General. Net income attributable to the Company was $7.81 million for the nine months ended September 30, 2023, compared to $9.59 million for the nine months ended September 30, 2022. A $2.6 million decrease in net interest income after provision for credit losses and a $1.8 million decrease in the net loss attributable to the noncontrolling interest in Quin Ventures were offset by a $2.7 million decrease in noninterest expense. Noninterest income was flat period over period.

 

Net Interest Income. Net interest income decreased $3.7 million to $47.2 million for the nine months ended September 30, 2023, from $50.9 million for the nine months ended September 30, 2022, as higher funding costs outpaced increased loan, investment and interest-earning deposit income.

 

Average earning assets increased $135.2 million year-over-year. The yield on average interest-earning assets increased 93 basis points to 5.09% for the nine months ended September 30, 2023, compared to 4.16% for the same period in the prior year, due to an increase in the average net loans receivable balance, higher loan yields, and an increase in yields earned on investment securities and interest-earning deposit accounts.

 

The average cost of interest-bearing liabilities increased to 2.26% for the nine months ended September 30, 2023, compared to 0.55% for the same period last year, due primarily to higher rates paid on all interest-bearing deposits and advances along with increases in the average balances of CDs and FHLB advances. Total cost of funds increased 148 basis points to 1.92% for the nine months ended September 30, 2023, from 0.44% for the same period in 2022. The net interest margin decreased 51 basis points to 3.22% for the nine months ended September 30, 2023, from 3.73% for the same period in 2022.

 

Interest Income. Total interest income increased $17.9 million, or 31.5%, to $74.6 million for the nine months ended September 30, 2023, from $56.7 million for the comparable period in 2022, primarily due to an increase in yields on interest-earning assets and an increase in average net loans receivable balances. Interest and fees on loans receivable increased $14.1 million, to $62.5 million for the nine months ended September 30, 2023, from $48.4 million for the nine months ended September 30, 2022, primarily due to an increase in the average balance of net loans receivable of $163.9 million compared to the prior year, coupled with an increase in average loan yields to 5.28% for the nine months ended September 30, 2023, from 4.56% for the same period in 2022. The loan portfolio saw increases in multi-family and commercial real estate balances, renewed short-term participation in Northpointe MPP, as well as additional purchased auto, manufactured home, and Bankers Healthcare Group commercial loans. Loan yields increased over the prior year due to higher rates on new originations as well as the repricing of variable rate loans tied to the Prime Rate or other variable-rate indices. The yield earned on investment securities also increased 116 basis points to 4.07% compared to the same period in 2022, as the purchase of higher-yielding investments occurred late in the first quarter of 2022 with the related increase only impacting income for the second and third quarters of 2022. An increase in rates on floating bonds and a slowdown in prepayment speeds, which reduces amortization of premium costs, also positively impacted investment securities income.

 

 

 

The following table compares average earning asset balances, associated yields, and resulting changes in interest income for the periods shown:

		Nine Months Ended September 30,
		2023								2022
		Average Balance Outstanding				Yield				Average Balance Outstanding				Yield				Increase in Interest Income
		(Dollars in thousands)
Loans receivable, net		$	1,582,658				5.28	%		$	1,418,734				4.56	%		$	14,136
Investment securities			324,968				4.07				358,419				2.91				2,079
FHLB stock			11,873				7.07				7,605				5.50				315
Interest-earning deposits in banks			40,447				5.11				39,976				0.68				1,343
Total interest-earning assets		$	1,959,946				5.09	%		$	1,824,734				4.16	%		$	17,873

 

Interest Expense. Total interest expense increased $21.6 million, or 372.9%, to $27.4 million for the nine months ended September 30, 2023, compared to $5.8 million for the nine months ended September 30, 2022. The increase over the first nine months of 2022 was the result of a 127 basis point increase in the cost of deposits from 0.24% one year prior along with a higher volume of CD balances. A shift in the deposit mix from no or low-cost transaction and money market accounts to a higher volume of CDs and savings accounts resulted in higher costs of funds on deposits. Interest expense on borrowings increased due to a $62.3 million increase in the average balance and a 234 basis point increase in the cost of advances, primarily FHLB advances, compared to the same period in 2022.

 

During the nine months ended September 30, 2023, interest expense on CDs increased due to higher average balances of $257.5 million, along with a 251 basis point increase in the average rates paid, compared to the nine months ended September 30, 2022. During the same period, the average balances of money market accounts decreased $179.0 million, with a 72 basis point average rate increase, resulting in an overall increase to interest expense. The average cost of interest-bearing deposit accounts increased to 1.83% for the nine months ended September 30, 2023, from 0.30% for the nine months ended September 30, 2022, due to the use of promotional products designed to retain existing deposits and generate new deposits. The mix of customer deposit balances shifted from non-maturity accounts towards higher cost CD and savings products. Customer CDs represented 27.7% and 14.0% of total deposits at September 30, 2023 and 2022, respectively. Brokered CDs represented 10.2% and 8.1% of total deposits at September 30, 2023 and 2022, respectively.

 

The following table details average balances, cost of funds and the change in interest expense for the periods shown:

 

		Nine Months Ended September 30,
		2023								2022
		Average Balance Outstanding				Rate				Average Balance Outstanding				Rate				Increase in Interest Expense
		(Dollars in thousands)
Interest-bearing demand deposits		$	180,789				0.44	%		$	194,568				0.04	%		$	541
Money market accounts			397,023				0.97				576,019				0.25				1,777
Savings accounts			241,802				1.14				196,170				0.05				1,980
Certificates of deposit			514,082				3.31				256,508				0.80				11,199
Advances			246,683				4.29				138,470				1.77				6,072
Subordinated debt			39,384				4.02				39,301				4.02				—
Total interest-bearing liabilities		$	1,619,763				2.26	%		$	1,401,036				0.55	%		$	21,569

 

Provision for Credit Losses. The Company recorded a $171,000 provision for credit losses for the nine months ended September 30, 2023, reflecting year-to-date increases in loan balances offset by a decrease in unfunded commitments primarily due to construction loan disbursements. The provision expense related to higher outstanding loan balances from new funding and disbursements on prior commitments was partially offset by a recapture attributable to the decrease in unfunded commitments. Charged-off loan balances also contributed to the loan-related provision. This compares to a $1.3 million loan loss provision for the nine months ended September 30, 2022, which was estimated using the incurred loss method based on historical loss trends combined with qualitative adjustments.

 

 

 

The following table details activity and information related to the ACLL for the periods shown:

		Nine Months Ended September 30,
		2023				2022
		(Dollars in thousands)
Provision for credit losses on loans		$	1,195			$	1,321
Net charge-offs			(2,575	)			(101	)
Allowance for credit losses on loans			16,945				16,273
Allowance for losses as a percentage of total gross loans receivable at period end			1.0	%			1.1	%
Total nonaccrual loans			2,374				3,517
Allowance for credit losses on loans as a percentage of nonaccrual loans at period end			713.8	%			462.7	%
Nonaccrual and 90 days or more past due loans as a percentage of total loans			0.1	%			0.2	%
Total loans		$	1,634,978			$	1,537,391

 

Noninterest Income. Noninterest income decreased $10,000, or 0.1%, to $6.95 million for the nine months ended September 30, 2023, from $6.96 million for the nine months ended September 30, 2022. Other income increased due to the $750,000 Splash payment reclassification and a year-over-year increase of $271,000 in the recorded value of our equity and partnership fintech investments. Saleable mortgage loan production continues to be hindered by the rise in market rates on mortgage loans and a lack of single-family home inventory compared to the prior year which, when combined with a significant decrease in SBA loan sale activity, resulted in a $364,000 year-over-year decrease in net gain on sale of loans. A decline in the fair value of servicing rights compared to the same period in the prior year decreased that category by $212,000. No investment securities sales were recorded during the current year compared to sales in the same period of 2022 which generated $118,000 in gains.

 

The following table provides a detailed analysis of the changes in the components of noninterest income for the periods shown:

		Nine Months Ended September 30,								Increase (Decrease)
		2023				2022				Amount				Percent
		(Dollars in thousands)
Loan and deposit service fees		$	3,273			$	3,566			$	(293	)			(8.2	)%
Sold loan servicing fees and servicing rights mark-to-market			400				665				(265	)			(39.8	)
Net gain on sale of loans			405				769				(364	)			(47.3	)
Net gain on sale of investment securities			—				118				(118	)			(100.0	)
Increase in cash surrender value of bank-owned life insurance			668				686				(18	)			(2.6	)
Other income			2,203				1,155				1,048				90.7
Total noninterest income		$	6,949			$	6,959			$	(10	)			(0.1	)%

 

Noninterest Expense. Noninterest expense decreased $2.7 million, or 5.7%, to $44.5 million for the nine months ended September 30, 2023, compared to $47.2 million for the nine months ended September 30, 2022. Quin Ventures expenses decreased $3.6 million compared to the first nine months of 2022, mainly due to no Quin Ventures expense recorded for compensation, marketing and occupancy during the first nine months of 2023. Bank compensation and benefits decreased due to lower commissions and incentives paid as well as a decrease in medical insurance and payroll tax expense. The Bank received a medical insurance premium refund of $436,000 in the first quarter of 2023 and transitioned to a self-insured medical plan in 2023. Payroll tax expense was reduced in 2023 by the recognition of a portion of the Employee Retention Credit received in March 2023. These decreases were partially offset by increases in legal fees, consulting fees, data processing expenses associated with building enhanced technological infrastructure and FDIC insurance premiums.

 

The following table provides an analysis of the changes in the components of noninterest expense for the periods shown:

		Nine Months Ended September 30,								Increase (Decrease)
		2023				2022				Amount				Percent
		(Dollars in thousands)
Compensation and benefits		$	23,812			$	27,583			$	(3,771	)			(13.7	)%
Data processing			6,063				5,420				643				11.9
Occupancy and equipment			3,596				4,098				(502	)			(12.2	)
Supplies, postage, and telephone			1,082				1,043				39				3.7
Regulatory assessments and state taxes			1,259				1,167				92				7.9
Advertising			2,471				2,802				(331	)			(11.8	)
Professional fees			2,619				1,883				736				39.1
FDIC insurance premium			939				653				286				43.8
Other expense			2,623				2,520				103				4.1
Total noninterest expense		$	44,464			$	47,169			$	(2,705	)			(5.7	)%

 

 

Provision for Income Tax. An income tax expense of $1.9 million was recorded for the nine months ended September 30, 2023, compared to $1.8 million for the nine months ended September 30, 2022, due to a year-over-year increase in income before taxes of $78,000. The year-over-year provision was also impacted by a higher tax-exempt interest exclusion in 2023 due to a larger interest expense disallowance that impacted the effective tax rate. The provision includes accruals for both federal and state income taxes. The provision for state income tax began in the second quarter of 2022 with respect to certain states in which we have employees and collateral for loans, thereby creating nexus in those states for income tax purposes. For additional information, see Note 7 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

 

Average Balances, Interest and Average Yields/Cost

 

The following tables set forth, for the periods indicated, information regarding average balances of assets and liabilities as well as the total dollar amounts of interest income from average interest-earning assets and interest expense on average interest-bearing liabilities, resultant yields, interest rate spread, net interest margin (otherwise known as net yield on interest-earning assets), and the ratio of average interest-earning assets to average interest-bearing liabilities. Also presented is the weighted average yield on interest-earning assets, rates paid on interest-bearing liabilities and the net spread as of September 30, 2023 and 2022. Income and all average balances are monthly average balances, which management deems to be not materially different than daily averages. Nonaccrual loans have been included in the table as loans carrying a zero yield.

		Three Months Ended September 30,
		2023												2022
		Average				Interest								Average				Interest
		Balance				Earned/				Yield/				Balance				Earned/				Yield/
		Outstanding				Paid				Rate				Outstanding				Paid				Rate
		(Dollars in thousands)
Interest-earning assets:
Loans receivable, net (1)		$	1,624,722			$	21,728				5.31	%		$	1,484,615			$	17,778				4.75	%
Investment securities			319,508				3,368				4.18				348,281				2,817				3.21
FHLB dividends			11,922				214				7.12				9,269				142				6.08
Interest-earning deposits in banks			38,099				524				5.46				17,231				118				2.72
Total interest-earning assets (2)			1,994,251				25,834				5.14				1,859,396				20,855				4.45
Noninterest-earning assets			145,483												137,369
Total average assets		$	2,139,734											$	1,996,765
Interest-bearing liabilities:
Interest-bearing demand deposits		$	176,503			$	204				0.46			$	190,542			$	16				0.03
Money market accounts			373,408				1,146				1.22				556,434				468				0.33
Savings accounts			255,956				918				1.42				198,403				24				0.05
Certificates of deposit			571,867				5,431				3.77				279,169				743				1.06
Total interest-bearing deposits (3)			1,377,734				7,699				2.22				1,224,548				1,251				0.41
Advances			244,859				2,791				4.52				182,554				1,005				2.18
Subordinated debt			39,403				394				3.97				39,326				395				3.98
Total interest-bearing liabilities			1,661,996				10,884				2.60				1,446,428				2,651				0.73
Noninterest-bearing deposits (3)			276,294												342,944
Other noninterest-bearing liabilities			40,450												39,129
Total average liabilities			1,978,740												1,828,501
Average equity			160,994												168,264
Total average liabilities and equity		$	2,139,734											$	1,996,765
Net interest income						$	14,950											$	18,204
Net interest rate spread											2.54												3.72
Net earning assets		$	332,255											$	412,968
Net interest margin (4)											2.97												3.88
Average interest-earning assets to average interest-bearing liabilities			120.0	%											128.6	%

 

(1) The average loans receivable, net balances include nonaccrual loans. (2) Includes interest-earning deposits (cash) at other financial institutions. (3) Cost of all deposits, including noninterest-bearing demand deposits, was 1.85% and 0.32% for the three months ended September 30, 2023 and 2022, respectively. (4) Net interest income divided by average interest-earning assets.

 

 

		Nine Months Ended September 30,
		2023												2022
		Average				Interest								Average				Interest
		Balance				Earned/				Yield/				Balance				Earned/				Yield/
		Outstanding				Paid				Rate				Outstanding				Paid				Rate
		(Dollars in thousands)
Interest-earning assets:
Loans receivable, net (1)		$	1,582,658			$	62,531				5.28	%		$	1,418,734			$	48,395				4.56	%
Total investment securities			324,968				9,886				4.07				358,419				7,807				2.91
FHLB dividends			11,873				628				7.07				7,605				313				5.50
Interest-earning deposits in banks			40,447				1,545				5.11				39,976				202				0.68
Total interest-earning assets (2)			1,959,946				74,590				5.09				1,824,734				56,717				4.16
Noninterest-earning assets			143,034												129,004
Total average assets		$	2,102,980											$	1,953,738
Interest-bearing liabilities:
Interest-bearing demand deposits (3)		$	180,789			$	599				0.44			$	194,568			$	58				0.04
Money market accounts			397,023				2,866				0.97				576,019				1,089				0.25
Savings accounts			241,802				2,056				1.14				196,170				76				0.05
Certificates of deposit			514,082				12,740				3.31				256,508				1,541				0.80
Total interest-bearing deposits			1,333,696				18,261				1.83				1,223,265				2,764				0.30
Advances			246,683				7,909				4.29				138,470				1,837				1.77
Subordinated debt			39,384				1,183				4.02				39,301				1,183				4.02
Total interest-bearing liabilities			1,619,763				27,353				2.26				1,401,036				5,784				0.55
Noninterest-bearing deposits (3)			284,282												338,745
Other noninterest-bearing liabilities			38,362												36,934
Total average liabilities			1,942,407												1,776,715
Average equity			160,573												177,023
Total average liabilities and equity		$	2,102,980											$	1,953,738
Net interest income						$	47,237											$	50,933
Net interest rate spread											2.83												3.61
Net earning assets		$	340,183											$	423,698
Net interest margin (4)											3.22												3.73
Average interest-earning assets to average interest-bearing liabilities			121.0	%											130.2	%

 

(1) The average loans receivable, net balances include nonaccrual loans. (2) Includes interest-earning deposits (cash) at other financial institutions. (3) Cost of all deposits, including noninterest-bearing demand deposits, was 1.51% and 0.24% for the nine months ended September 30, 2023 and 2022, respectively. (4) Net interest income divided by average interest-earning assets.

 

 

Rate/Volume Analysis

 

The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and changes in interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.

 

		Three Months Ended												Nine Months Ended
		September 30, 2023 vs. 2022												September 30, 2023 vs. 2022
		Increase (Decrease) Due to												Increase (Decrease) Due to
		Volume				Rate				Total Increase (Decrease)				Volume				Rate				Total Increase (Decrease)
		(In thousands)												(In thousands)
Interest-earning assets:
Loans receivable, net		$	1,667			$	2,283			$	3,950			$	5,602			$	8,534			$	14,136
Investments			(232	)			783				551				(734	)			2,813				2,079
FHLB stock			41				31				72				176				139				315
Other (1)			143				263				406				2				1,341				1,343
Total interest-earning assets		$	1,619			$	3,360			$	4,979			$	5,046			$	12,827			$	17,873
Interest-bearing liabilities:
Interest-bearing demand deposits		$	(2	)		$	190			$	188			$	(2	)		$	543			$	541
Money market accounts			(156	)			834				678				(348	)			2,125				1,777
Savings accounts			10				884				894				13				1,967				1,980
Certificates of deposit			782				3,906				4,688				1,544				9,655				11,199
Advances			342				1,444				1,786				1,428				4,644				6,072
Subordinated debt			—				(1	)			(1	)			—				—				—
Total interest-bearing liabilities		$	976			$	7,257			$	8,233			$	2,635			$	18,934			$	21,569
Change in net interest income		$	643			$	(3,897	)		$	(3,254	)		$	2,411			$	(6,107	)		$	(3,696	)

 

(1) Includes interest-earning deposits (cash) at other financial institutions.

 

 

 

Off-Balance Sheet Activities

 

In the normal course of operations, First Fed engages in a variety of financial transactions that are not recorded in the financial statements. These transactions involve varying degrees of off-balance sheet credit, interest rate and liquidity risks. These transactions are used primarily to manage customers’ requests for funding and take the form of loan commitments and lines of credit. For the nine months ended September 30, 2023 and the year ended December 31, 2022, we engaged in no off-balance sheet transactions likely to have a material effect on our financial condition, results of operations or cash flows.

 

 

Contractual Obligations

 

At September 30, 2023, our scheduled maturities of contractual obligations were as follows:

 

		Within				After 1 Year Through				After 3 Years Through				Beyond				Total
		1 Year				3 Years				5 Years				5 Years				Balance
		(In thousands)
Certificates of deposit		$	449,211			$	114,949			$	15,553			$	—			$	579,713
FHLB advances			198,000				35,000				20,000				—				253,000
Line of credit			8,000				—				—				—				8,000
Subordinated debt obligation			—				—				—				39,416				39,416
Operating leases			892				1,880				1,652				3,396				7,820
Borrower taxes and insurance			2,375				—				—				—				2,375
Deferred compensation			113				243				186				667				1,209
Total contractual obligations		$	658,591			$	152,072			$	37,391			$	43,479			$	891,533

 

Commitments and Off-Balance Sheet Arrangements

 

The following table summarizes our commitments and contingent liabilities with off-balance sheet risks as of September 30, 2023:

 

		Amount of Commitment by Expiration
		Within				After 1 Year Through				After 3 Years Through				Beyond				Total Amounts
		1 Year				3 Years				5 Years				5 Years				Committed
		(In thousands)
Commitments to originate loans:
Fixed-rate		$	183			$	—			$	—			$	—			$	183
Variable-rate			497				—				—				—				497
Unfunded commitments under lines of credit or existing loans			54,347				7,373				3,628				89,374				154,722
Standby letters of credit			58				—				—				200				258
Total commitments		$	55,085			$	7,373			$	3,628			$	89,574			$	155,660

Liquidity Management

 

Liquidity is the ability to meet current and future financial obligations of a short-term and long-term nature. Our primary sources of funds consist of deposit inflows, loan repayments, maturities and sales of securities, and borrowings from the FHLB. While maturities and scheduled amortization of loans and securities are usually predictable sources of funds, deposit flows, calls of investment securities and borrowed funds, and prepayments on loans and investment securities are greatly influenced by general interest rates, economic conditions and competition, which can cause those sources of funds to fluctuate.

 

Management regularly adjusts our investments in liquid assets based upon an assessment of expected loan demand, expected deposit flows, yields available on interest-earning deposits and securities, and the objectives of our liquidity management, interest-rate risk and investment policies. We increased available liquidity during 2023 in response to stresses within the banking industry and related concerns regarding liquidity.

 

Our most liquid assets are cash and cash equivalents followed by available-for-sale securities. The levels of these assets depend on our operating, financing, lending and investing activities during any given period. At September 30, 2023, cash and cash equivalents totaled $83.9 million and unpledged securities classified as available-for-sale had a market value of $279.1 million. The Bank pledged collateral of $582.8 million to support borrowings from the FHLB, with a remaining borrowing capacity of $269.0 million at September 30, 2023. The Bank also has an established discount window borrowing arrangement with the FRB, for which available-for-sale securities with a market value of $9.0 million were pledged as of September 30, 2023, with a remaining borrowing capacity of $8.5 million. The Bank has established an additional arrangement with the FRB through the BTFP, for which available-for-sale securities with a market value of $15.1 million were pledged as of September 30, 2023, with a remaining borrowing capacity of $18.3 million. First Northwest has a $20.0 million borrowing arrangement with NexBank which is secured by First Northwest's personal property assets (with certain exclusions), including all the outstanding shares of First Fed, cash, loans receivable, and limited partnership investments. The remaining borrowing capacity of the NexBank line of credit was $12.0 million at September 30, 2023.

 

 

 

At September 30, 2023, we had $680,000 in loan commitments outstanding and $155.0 million in undisbursed loans and standby letters of credit, including $60.6 million in undisbursed construction loan commitments.

 

CDs due within one year as of September 30, 2023, totaled $449.2 million, or 77.5% of CDs with a weighted-average rate of 4.21%. If these maturing deposits are not renewed, we will seek other sources of funds, including other CDs, non-maturity deposits, and borrowings. We have the ability to attract and retain deposits by adjusting the interest rates offered as well as through sales and marketing efforts in the markets we serve. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on CDs. In addition, we believe that our branch network, and the general cash flows from our existing lending and investment activities, will provide adequate long-term liquidity. For additional information, see the Consolidated Statements of Cash Flows in Item 1 of this Form 10-Q.

 

First Fed has a diversified deposit base with approximately 61% of deposit account balances held by consumers, 29% held by business and public fund depositors, and 10% in brokered deposits. The average deposit account balance, excluding brokered and public fund accounts, was $28,000 at September 30, 2023. We estimate that 80-85% of our customer deposit balances are below the $250,000 FDIC insurance limit or fully collateralized. The remaining uninsured deposits represent less than 5% of depositors. Management believes that maintaining a diversified deposit base is an important factor in managing and maintaining adequate levels of liquidity.

 

The Company is a separate legal entity from the Bank and provides for its own liquidity. At September 30, 2023, the Company, on an unconsolidated basis, had liquid assets of $507,000. In addition to its operating expenses, the Company is responsible for paying dividends declared, if any, to its shareholders, funds paid for Company stock repurchases, interest payments on subordinated notes held at the Company level, payments on the NexBank revolving credit facility, and commitments to limited partnership investments. The Company may receive dividends or capital distributions from the Bank, although there may be regulatory limitations on the ability of the Bank to pay dividends. First Northwest previously contributed $8.0 million to Quin Ventures pursuant to the terms of a capital financing agreement and related promissory note. Quil Ventures Inc. agreed to repay the amount owed by Quin Ventures under the terms and conditions specified in a repayment and security agreement with First Northwest dated December 20, 2022.

 

Capital Resources

 

At September 30, 2023, shareholders' equity totaled $156.1 million, or 7.2% of total assets. Our book value per share of common stock was $16.20 at September 30, 2023, compared to $16.31 at December 31, 2022.

 

At September 30, 2023, the Bank exceeded all regulatory capital requirements and was considered "well capitalized" under FDIC regulatory capital guidelines.

 

The following table provides the capital requirements and actual results for First Fed at September 30, 2023.

 

		Actual								Minimum Capital Requirements								Minimum Required to be Well-Capitalized
		Amount				Ratio				Amount				Ratio				Amount				Ratio
										(Dollars in thousands)
Tier 1 leverage capital (to average assets)		$	219,326				10.1	%		$	86,654				4.0	%		$	108,318				5.0	%
Common equity tier 1 (to risk-weighted assets)		$	219,326				13.4				73,482				4.5				106,141				6.5
Tier 1 risk-based capital (to risk-weighted assets)		$	219,326				13.4				97,976				6.0				130,635				8.0
Total risk-based capital (to risk-weighted assets)		$	234,841				14.4				130,635				8.0				163,294				10.0

 

In order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses, the Bank must maintain common equity tier 1 capital ("CET1") at an amount greater than the required minimum levels plus a capital conservation buffer of 2.5%.

 

 

 

Effect of Inflation and Changing Prices

 

The consolidated financial statements and related financial data presented in this report have been prepared according to GAAP, which require the measurement of financial and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time due to inflation. The primary impact of inflation on our operations is reflected in increased operating costs and the effect that general inflation may have on both short-term and long-term interest rates. Unlike companies in many other industries, virtually all the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on a financial institution's performance than do general levels of inflation. Although inflation expectations do affect interest rates, interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

 

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

There has not been any material change in the market risk disclosures contained in the 2022 Form 10-K.

 

Item 4. Controls and Procedures

 

(a) Evaluation of Disclosure Controls and Procedures.

 

An evaluation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934 (the "Exchange Act")) was carried out under the supervision and with the participation of the Company's Chief Executive Officer (Principal Executive Officer), Chief Financial Officer (Principal Financial and Accounting Officer), and other members of the Company's management team as of the end of the period covered by this quarterly report. The Company's Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2023, the Company's disclosure controls and procedures were effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is (i) accumulated and communicated to the Company's management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission's rules and forms.

 

(b) Changes in Internal Controls.

 

There have been no changes in the Company's internal control over financial reporting (as defined in 13a-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2023, that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

 

The Company intends to continually review and evaluate the design and effectiveness of its disclosure controls and procedures and to improve its controls and procedures over time and to correct any deficiencies that it may discover in the future. The goal is to ensure that senior management has timely access to all material financial and non-financial information concerning the Company's business. While the Company believes the present design of its disclosure controls and procedures is effective to achieve its goal, future events affecting its business may cause the Company to modify its disclosure controls and procedures. The Company does not expect that its disclosure controls and procedures and internal control over financial reporting will prevent every error or instance of fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met. Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns in controls or procedures can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any control procedure is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.

 

 

PART II - OTHER INFORMATION

 

 

Item 1. Legal Proceedings

 

From time to time, the Company is engaged in legal proceedings in the ordinary course of business, none of which are currently considered to have a material impact on the Company’s financial position or results of operations.

 

Item 1A. Risk Factors

 

There have been no material changes to the risk factors set forth in Part I. Item 1A of the Company's 2022 Form 10-K.

 

Item 2. Unregistered Sales of Equity Securities, Use of Proceeds and Issuer Purchases of Equity Securities

 

(a)	Not applicable.

 

(b)	Not applicable.

 

(c)	The following table summarizes common stock repurchases during the three months ended September 30, 2023:

Period		Total Number of Shares Purchased (1)				Average Price Paid per Share				Total Number of Shares Repurchased as Part of Publicly Announced Plans (2)				Maximum Number of Shares that May Yet Be Repurchased Under the Plans
July 1, 2023 - July 31, 2023			2,814			$	11.10				1,073				226,337
August 1, 2023 - August 31, 2023			604				—				—				226,337
September 1, 2023 - September 30, 2023			1,261				—				—				226,337
Total			4,679			$	11.10				1,073
(1) Shares repurchased by the Company during the quarter include shares acquired from participants in connection with cancellation of restricted stock to pay withholding taxes totaling 1,741 shares, 604 shares, and 1,261 shares, respectively, for the periods indicated.
(2) On October 28, 2020, the Company announced that its Board of Directors had authorized the repurchase of up to an additional 1,023,420 shares of its common stock, or approximately 10% of its shares of common stock issued and outstanding as of October 27, 2020. As of September 30, 2023, a total of 797,083 shares, or 77.9% percent of the shares authorized in the October 2020 stock repurchase plan, have been purchased at an average cost of $15.86 per share, leaving 226,337 shares available for future purchases.

 

 

 

Item 3. Defaults Upon Senior Securities

 

Not applicable.

 

Item 4. Mine Safety Disclosures

 

Not applicable.

 

Item 5. Other Information

 

Not applicable.

 

Item 6. Exhibits

 

Exhibit No.	Exhibit Description	Filed Herewith	Form	Original Exhibit No.	Filing Date
31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act	X
31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act	X
32	Certification pursuant to Section 906 of the Sarbanes-Oxley Act	X
101	The following materials from the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2023, formatted in Inline Extensible Business Reporting Language (iXBRL): (1) Consolidated Balance Sheets; (2) Consolidated Statements of Income; (3) Consolidated Statements of Comprehensive (Loss) Income; (4) Consolidated Statements of Changes in Shareholders' Equity; (5) Consolidated Statements of Cash Flows; and (6) Selected Notes to Consolidated Financial Statements
104	Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)

 

 

SIGNATURES

 

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

 

 

	FIRST NORTHWEST BANCORP
Date: November 13, 2023	/s/ Matthew P. Deines
	Matthew P. Deines
	President, Chief Executive Officer and Director
	(Principal Executive Officer)
Date: November 13, 2023	/s/ Geraldine Bullard
	Geraldine Bullard
	Executive Vice President, Chief Financial Officer and Chief Operating Officer
	(Principal Financial and Accounting Officer)