Item 1. Business
General
Riverview Bancorp, Inc., a Washington corporation, is the savings and loan holding company of Riverview Community Bank (the “Bank”). At March 31, 2020, the Company had total assets of $1.2
billion, total deposits of $990.4 million and shareholders' equity of $148.8 million. The Company’s executive offices are located in Vancouver, Washington. The Bank's subsidiary, Riverview Trust Company (the “Trust Company”), is a trust and financial
services company located in downtown Vancouver, Washington, and provides full-service brokerage activities, trust and asset management services.
The Company is subject to regulation by the Board of Governors of the Federal Reserve Systems (“Federal Reserve”). Substantially all of the Company’s business is conducted through the Bank which
is regulated by the Office of the Comptroller of the Currency ("OCC"), its primary regulator, and by the Federal Deposit Insurance Corporation ("FDIC"), the insurer of its deposits. The Bank's deposits are insured by the FDIC up to applicable legal
limits under the Deposit Insurance Fund ("DIF"). The Bank is a member of the Federal Home Loan Bank of Des Moines ("FHLB") which is one of the 11 regional banks in the Federal Home Loan Bank System (“FHLB System”).
As a progressive, community-oriented financial services company, the Company emphasizes local, personal service to residents of its primary market area. The Company considers Clark, Klickitat and
Skamania counties of Washington, and Multnomah, Washington and Marion counties of Oregon as its primary market area. The Company is engaged predominantly in the business of attracting deposits from the general public and using such funds in its
primary market area to originate commercial business, commercial real estate, multi-family real estate, land, real estate construction, residential real estate and other consumer loans. The Company’s loans receivable, net, totaled $898.9 million at
March 31, 2020 compared to $864.7 million at March 31, 2019.
The Company’s strategic plan includes targeting the commercial banking customer base in its primary market area for loan originations and deposit growth, specifically small and medium size
businesses, professionals and wealth building individuals. In pursuit of these goals, the Company will seek to increase the loan portfolio consistent with its strategic plan and asset/liability and regulatory capital objectives, which includes
maintaining a significant amount of commercial business and commercial real estate loans in its loan portfolio. Significant portions of our new loan originations – which are mainly concentrated in commercial business and commercial real estate loans
– carry adjustable rates, higher yields or shorter terms and higher credit risk than traditional fixed-rate consumer real estate one-to-four family mortgages.
Our strategic plan also stresses increased emphasis on non-interest income, including increased fees for asset management through the Trust Company and deposit service charges. The strategic plan
is designed to enhance earnings, reduce interest rate risk and provide a more complete range of financial services to customers and the local communities the Company serves. We believe we are well positioned to attract new customers and to increase
our market share through our 18 branches, including, among others, ten in Clark County, four in the Portland metropolitan area and three lending centers.
Market Area
The Company conducts operations from its home office in Vancouver, Washington and 18 branch offices located in Camas, Washougal, Stevenson, White Salmon, Battle Ground, Goldendale, and Vancouver,
Washington (seven branch offices) and Portland (two branch offices), Gresham, Tualatin and Aumsville, Oregon. The Trust Company has two locations, one in downtown Vancouver, Washington and one in Lake Oswego, Oregon, and provides full-service
brokerage activities, trust and asset management services. Riverview Mortgage, a mortgage broker division of the Bank, originates mortgage loans for various mortgage companies predominantly in the Vancouver/Portland metropolitan areas, as well as for
the Bank. The Bank’s Business and Professional Banking Division, with two lending offices located in Vancouver and one in Portland, offers commercial and business banking services.
Vancouver is located in Clark County, Washington, which is just north of Portland, Oregon. Many businesses are located in the Vancouver area because of the favorable tax structure and lower energy
costs in Washington as compared to Oregon. Companies located in the Vancouver area include: Sharp Microelectronics, Hewlett Packard, Georgia Pacific, Underwriters Laboratory, WaferTech, Nautilus, Barrett Business Services, PeaceHealth and Banfield
Pet Hospitals, as well as several support industries. In addition to this industry base, the Columbia River Gorge Scenic Area and the Portland metropolitan area are sources of tourism, which has helped to transform the area from its past dependence
on the timber industry.
Economic conditions in the Company’s market areas have generally been positive until the recent COVID-19 pandemic. According to the Washington State Employment Security Department, unemployment in
Clark County decreased to 4.3% at March 31, 2020 compared to 5.3% at March 31, 2019. According to the Oregon Employment Department, unemployment in Portland decreased to 3.4% at March 31, 2020 compared to 3.9% at March 31, 2019. Unemployment levels
have increased since March 31, 2020 due to the COVID-19 pandemic, as the governors of both Washington and Oregon have instituted stay-at-home orders and closed non-essential businesses and schools. Once these stay-at-home orders are modified,
unemployment levels may begin to reverse the upward trend resulting from COVID-19. According to the Regional Multiple Listing Services (“RMLS”), residential home inventory levels in Portland, Oregon have decreased to 1.8 months at March 31, 2020
compared to 2.2 months at March 31, 2019. Residential home inventory levels in Clark County have decreased to 2.1 months at March 31, 2020 compared to 2.4 months March 31, 2019. According to the RMLS, closed home sales in March 2020 in Clark County
decreased 3.0% compared to March 2019. Closed home sales during March 2020 in Portland increased 7.9% compared to March 2019.
Lending Activities
General. At March 31, 2020, the Company's net loans receivable totaled $898.9 million, or 76.1% of total assets at that date. The principal lending
activity of the Company is the origination of loans collateralized by commercial properties and commercial business loans. A substantial portion of the Company's loan portfolio is secured by real estate, either as primary or secondary collateral,
located in its primary market area. The Company’s lending activities are subject to the written, non-discriminatory, underwriting standards and loan origination procedures established by the Bank’s Board of Directors (“Board”) and management. The
customary sources of loan originations are realtors, walk-in customers, referrals and existing customers. The Bank also uses commissioned loan brokers and print advertising to market its products and services. Loans
are approved at various levels of management, depending upon the amount of the loan.
5
Loan Portfolio Analysis. The following table sets forth the composition of the Company's loan portfolio, excluding loans held for sale, by type of loan at the dates indicated
(dollars in thousands):
|
|
At March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
|
2016
|
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
|
|
|
Commercial and construction:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
179,029
|
|
|
|
19.64
|
%
|
|
$
|
162,796
|
|
|
|
18.58
|
%
|
|
$
|
137,672
|
|
|
|
16.97
|
%
|
|
$
|
107,371
|
|
|
|
13.78
|
%
|
|
$
|
69,397
|
|
|
|
11.11
|
%
|
Other real estate mortgage (1)
|
|
|
580,271
|
|
|
|
63.66
|
|
|
|
530,029
|
|
|
|
60.50
|
|
|
|
529,014
|
|
|
|
65.20
|
|
|
|
506,661
|
|
|
|
65.00
|
|
|
|
399,527
|
|
|
|
63.94
|
|
Real estate construction
|
|
|
64,843
|
|
|
|
7.12
|
|
|
|
90,882
|
|
|
|
10.37
|
|
|
|
39,584
|
|
|
|
4.88
|
|
|
|
46,157
|
|
|
|
5.92
|
|
|
|
26,731
|
|
|
|
4.28
|
|
Total commercial and construction
|
|
|
824,143
|
|
|
|
90.42
|
|
|
|
783,707
|
|
|
|
89.45
|
|
|
|
706,270
|
|
|
|
87.05
|
|
|
|
660,189
|
|
|
|
84.70
|
|
|
|
495,655
|
|
|
|
79.33
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
83,150
|
|
|
|
9.12
|
|
|
|
84,053
|
|
|
|
9.60
|
|
|
|
90,109
|
|
|
|
11.10
|
|
|
|
92,865
|
|
|
|
11.91
|
|
|
|
88,780
|
|
|
|
14.21
|
|
Other installment
|
|
|
4,216
|
|
|
|
0.46
|
|
|
|
8,356
|
|
|
|
0.95
|
|
|
|
14,997
|
|
|
|
1.85
|
|
|
|
26,378
|
|
|
|
3.39
|
|
|
|
40,384
|
|
|
|
6.46
|
|
Total consumer
|
|
|
87,366
|
|
|
|
9.58
|
|
|
|
92,409
|
|
|
|
10.55
|
|
|
|
105,106
|
|
|
|
12.95
|
|
|
|
119,243
|
|
|
|
15.30
|
|
|
|
129,164
|
|
|
|
20.67
|
|
Total loans
|
|
|
911,509
|
|
|
|
100.00
|
%
|
|
|
876,116
|
|
|
|
100.00
|
%
|
|
|
811,376
|
|
|
|
100.00
|
%
|
|
|
779,432
|
|
|
|
100.00
|
%
|
|
|
624,819
|
|
|
|
100.00
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for loan losses
|
|
|
12,624
|
|
|
|
|
|
|
|
11,457
|
|
|
|
|
|
|
|
10,766
|
|
|
|
|
|
|
|
10,528
|
|
|
|
|
|
|
|
9,885
|
|
|
|
|
|
Total loans receivable, net
|
|
$
|
898,885
|
|
|
|
|
|
|
$
|
864,659
|
|
|
|
|
|
|
$
|
800,610
|
|
|
|
|
|
|
$
|
768,904
|
|
|
|
|
|
|
$
|
614,934
|
|
|
|
|
|
|
|
(1) Other real estate mortgage consists of commercial real estate, land and multi-family loans.
|
|
6
Loan Portfolio Composition. The following tables set forth the composition of the Company's commercial and construction loan portfolio based on loan purpose
at the dates indicated (in thousands):
|
|
Commercial
Business
|
|
|
Other
Real Estate
Mortgage
|
|
|
Real Estate Construction
|
|
|
Commercial &
Construction
Total
|
|
March 31, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
179,029
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
179,029
|
|
Commercial construction
|
|
|
-
|
|
|
|
-
|
|
|
|
52,608
|
|
|
|
52,608
|
|
Office buildings
|
|
|
-
|
|
|
|
113,433
|
|
|
|
-
|
|
|
|
113,433
|
|
Warehouse/industrial
|
|
|
-
|
|
|
|
91,764
|
|
|
|
-
|
|
|
|
91,764
|
|
Retail/shopping centers/strip malls
|
|
|
-
|
|
|
|
76,802
|
|
|
|
-
|
|
|
|
76,802
|
|
Assisted living facilities
|
|
|
-
|
|
|
|
1,033
|
|
|
|
-
|
|
|
|
1,033
|
|
Single purpose facilities
|
|
|
-
|
|
|
|
224,839
|
|
|
|
-
|
|
|
|
224,839
|
|
Land acquisition and development
|
|
|
-
|
|
|
|
14,026
|
|
|
|
-
|
|
|
|
14,026
|
|
Multi-family
|
|
|
-
|
|
|
|
58,374
|
|
|
|
-
|
|
|
|
58,374
|
|
One-to-four family construction
|
|
|
-
|
|
|
|
-
|
|
|
|
12,235
|
|
|
|
12,235
|
|
Total
|
|
$
|
179,029
|
|
|
$
|
580,271
|
|
|
$
|
64,843
|
|
|
$
|
824,143
|
|
March 31, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
162,796
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
162,796
|
|
Commercial construction
|
|
|
-
|
|
|
|
-
|
|
|
|
70,533
|
|
|
|
70,533
|
|
Office buildings
|
|
|
-
|
|
|
|
118,722
|
|
|
|
-
|
|
|
|
118,722
|
|
Warehouse/industrial
|
|
|
-
|
|
|
|
91,787
|
|
|
|
-
|
|
|
|
91,787
|
|
Retail/shopping centers/strip malls
|
|
|
-
|
|
|
|
64,934
|
|
|
|
-
|
|
|
|
64,934
|
|
Assisted living facilities
|
|
|
-
|
|
|
|
2,740
|
|
|
|
-
|
|
|
|
2,740
|
|
Single purpose facilities
|
|
|
-
|
|
|
|
183,249
|
|
|
|
-
|
|
|
|
183,249
|
|
Land acquisition and development
|
|
|
-
|
|
|
|
17,027
|
|
|
|
-
|
|
|
|
17,027
|
|
Multi-family
|
|
|
-
|
|
|
|
51,570
|
|
|
|
-
|
|
|
|
51,570
|
|
One-to-four family construction
|
|
|
-
|
|
|
|
-
|
|
|
|
20,349
|
|
|
|
20,349
|
|
Total
|
|
$
|
162,796
|
|
|
$
|
530,029
|
|
|
$
|
90,882
|
|
|
$
|
783,707
|
|
Commercial Business Lending. At March 31, 2020, the commercial business loan portfolio totaled $179.0 million, or 19.6% of total loans. Commercial business
loans are typically secured by business equipment, accounts receivable, inventory or other property. The Company’s commercial business loans may be structured as term loans or as lines of credit. Commercial term loans are generally made to finance
the purchase of assets and usually have maturities of five years or less. Commercial lines of credit are typically made for the purpose of providing working capital and usually have a term of one year or less. Lines of credit are made at variable
rates of interest equal to a negotiated margin above an index rate and term loans are at either a variable or fixed rate. The Company also generally obtains personal guarantees from financially capable parties based on a review of personal financial
statements.
Commercial business lending involves risks that are different from those associated with residential and commercial real estate lending. Although commercial business loans are often collateralized
by equipment, inventory, accounts receivable or other business assets, the liquidation of collateral in the event of default is often an insufficient source of repayment because accounts receivable may be uncollectible and inventories may be obsolete
or of limited use, among other things. Accordingly, the repayment of commercial business loans depends primarily on the cash flow and credit-worthiness of the borrower and secondarily on the underlying collateral provided by the borrower.
Additionally, the borrower’s cash flow may be unpredictable and collateral securing these loans may fluctuate in value.
Other Real Estate Mortgage Lending. At March 31, 2020, the other real estate mortgage loan portfolio totaled $580.3 million, or 63.7% of total loans. The
Company originates other real estate mortgage loans secured by office buildings, warehouse/industrial, retail, assisted living facilities and single-purpose facilities (collectively “commercial real estate loans” or “CRE”); as well as land and
multi-family loans primarily located in its market area. At March 31, 2020, owner occupied properties accounted for 29.9% and non-owner occupied properties accounted for 70.1% of the Company’s commercial real estate loan portfolio.
7
Commercial real estate and multi-family loans typically have higher loan balances, are more difficult to evaluate and monitor, and involve a higher degree of risk than one-to-four family
residential loans. As a result, commercial real estate and multi-family loans are generally priced at a higher rate of interest than residential one-to-four family loans. Often payments on loans secured by commercial properties are dependent on the
successful operation and management of the property securing the loan or business conducted on the property securing the loan; therefore, repayment of these loans may be affected by adverse conditions in the real estate market or the economy. Real
estate lending is generally considered to be collateral based lending with loan amounts based on predetermined loan to collateral values and liquidation of the underlying real estate collateral being viewed as the primary source of repayment in the
event of borrower default. The Company seeks to minimize these risks by generally limiting the maximum loan-to-value ratio to 80% and strictly scrutinizing the financial condition of the borrower, the quality of the collateral and the management of
the property securing the loan. Loans are secured by first mortgages and often require specified debt service coverage (“DSC”) ratios depending on the characteristics of the collateral. The Company generally imposes a minimum DSC ratio of 1.20 for
loans secured by income producing properties. Rates and other terms on such loans generally depend on our assessment of credit risk after considering such factors as the borrower’s financial condition and credit history, loan-to-value ratio, DSC
ratio and other factors.
The Company actively pursues commercial real estate loans. Loan demand within the Company’s market area was competitive in fiscal year 2020 as economic conditions and competition for strong
credit-worthy borrowers remained high. At March 31, 2020 and 2019, the Company had the same two commercial real estate loans totaling $1.0 million and $1.1 million, respectively, on non-accrual status. For more information concerning risks related to
commercial real estate loans, see Item 1A. “Risk Factors – Our emphasis on commercial real estate lending may expose us to increased lending risks.”
Land acquisition and development loans are included in the other real estate mortgage loan portfolio balance and represent loans made to developers for the purpose of acquiring raw land and/or for
the subsequent development and sale of residential lots. Such loans typically finance land purchases and infrastructure development of properties (e.g. roads, utilities, etc.) with the aim of making improved lots ready for subsequent sales to
consumers or builders for ultimate construction of residential units. The primary source of repayment is generally the cash flow from developer sale of lots or improved parcels of land, secondary sources and personal guarantees, which may provide an
additional measure of security for such loans. At March 31, 2020, land acquisition and development loans totaled $14.0 million, or 1.54% of total loans compared to $17.0 million, or 1.94% of total loans at March 31, 2019. The largest land acquisition
and development loan had an outstanding balance at March 31, 2020 of $2.0 million and was performing according to its original payment terms. At March 31, 2020, all of the land acquisition and development loans were secured by properties located in
Washington and Oregon. At March 31, 2020 and 2019, the Company had no land acquisition and development loans on non-accrual status.
Real Estate Construction. The Company originates three types of residential construction loans: (i) speculative construction loans, (ii) custom/presold
construction loans and (iii) construction/permanent loans. The Company also originates construction loans for the development of business properties and multi-family dwellings. All of the Company’s real estate construction loans were made on
properties located in Washington and Oregon.
The composition of the Company’s construction loan portfolio, including undisbursed funds, was as follows at the dates indicated (dollars in thousands):
|
|
At March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
Amount (1)
|
|
|
Percent
|
|
|
Amount (1)
|
|
|
Percent
|
|
|
|
|
|
Speculative construction
|
|
$
|
5,016
|
|
|
|
5.65
|
%
|
|
$
|
12,315
|
|
|
|
8.01
|
%
|
Commercial/multi-family construction
|
|
|
62,929
|
|
|
|
70.85
|
|
|
|
116,815
|
|
|
|
76.01
|
|
Custom/presold construction
|
|
|
19,117
|
|
|
|
21.52
|
|
|
|
19,643
|
|
|
|
12.78
|
|
Construction/permanent
|
|
|
1,759
|
|
|
|
1.98
|
|
|
|
4,923
|
|
|
|
3.20
|
|
Total
|
|
$
|
88,821
|
|
|
|
100.00
|
%
|
|
$
|
153,696
|
|
|
|
100.00
|
%
|
(1) Includes undisbursed funds of $24.0 million and $62.8 million at March 31, 2020 and 2019, respectively.
At March 31, 2020, the balance of the Company’s construction loan portfolio, including undisbursed funds, was $88.8 million compared to $153.7 million at March 31, 2019. The $64.9 million decrease
was primarily due to a $53.9 million decrease in commercial/multi-family construction loans along with a decrease of $7.3 million in speculative construction loans. The Company plans to continue to proactively manage and control the growth in its
construction loan portfolio in fiscal year 2021 while continuing to originate new construction loans to selected customers.
8
Speculative construction loans are made to home builders and are termed “speculative” because the home builder does not have, at the time of loan origination, a signed contract with a home buyer
who has a commitment for permanent financing with either the Company or another lender for the finished home. The home buyer may be identified either during or after the construction period, with the risk that the builder will have to service the
speculative construction loan and finance real estate taxes and other carrying costs of the completed home for a significant period of time after the completion of construction until a home buyer is identified. The largest speculative construction
loan at March 31, 2020 was a loan to finance the construction of a single family home totaling $458,000. This loan is to a single borrower that is secured by a property located in the Company’s market area. The average balance of loans in the
speculative construction loan portfolio at March 31, 2020 was $260,000. At March 31, 2020 and 2019, the Company had no speculative construction loans on non-accrual status.
The composition of land acquisition and development and speculative construction loans by geographical area is as follows at the dates indicated (in thousands):
|
|
Northwest
Oregon
|
|
|
Other
Oregon
|
|
|
Southwest Washington
|
|
|
Total
|
|
March 31, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Land acquisition and development
|
|
$
|
2,124
|
|
|
$
|
1,834
|
|
|
$
|
10,068
|
|
|
$
|
14,026
|
|
Speculative construction
|
|
|
282
|
|
|
|
-
|
|
|
|
11,745
|
|
|
|
12,027
|
|
Total
|
|
$
|
2,406
|
|
|
$
|
1,834
|
|
|
$
|
21,813
|
|
|
$
|
26,053
|
|
March 31, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Land acquisition and development
|
|
$
|
2,184
|
|
|
$
|
1,908
|
|
|
$
|
12,935
|
|
|
$
|
17,027
|
|
Speculative construction
|
|
|
1,680
|
|
|
|
104
|
|
|
|
15,284
|
|
|
|
17,068
|
|
Total
|
|
$
|
3,864
|
|
|
$
|
2,012
|
|
|
$
|
28,219
|
|
|
$
|
34,095
|
|
Unlike speculative construction loans, presold construction loans are made for homes that have buyers. Presold construction loans are made to homebuilders who, at the time of construction, have a
signed contract with a home buyer who has a commitment for permanent financing for the finished home from the Company or another lender. Presold construction loans are generally originated for a term of 12 months. At March 31, 2020 and 2019, presold
construction loans totaled $8.4 million and $8.5 million, respectively and are included in the speculative construction loan category.
Unlike speculative and presold construction loans, custom construction loans are made directly to the homeowner. At March 31, 2020 and 2019, the Company had no custom construction loans.
Construction/permanent loans are originated to the homeowner rather than the homebuilder along with a commitment by the Company to originate a permanent loan to the homeowner to repay the construction loan at the completion of construction. The
construction phase of a construction/permanent loan generally lasts six to nine months. At the completion of construction, the Company may either originate a fixed-rate mortgage loan or an adjustable rate mortgage (“ARM”) loan or use its mortgage
brokerage capabilities to obtain permanent financing for the customer with another lender. For adjustable rate loans, the interest rates adjust on their first adjustment date. See “Mortgage Brokerage” and “Mortgage Loan Servicing” below for more
information. At March 31, 2020, construction/permanent loans totaled $207,000, had a total commitment balance of $1.8 million and all were performing according to their original repayment terms. The average balance of loans in the
construction/permanent loan portfolio excluding undisbursed funds at March 31, 2020 was $69,000.
The Company provides construction financing for non-residential business properties and multi-family dwellings. At March 31, 2020 commercial construction loans totaled $52.6 million, or 81.1% of
total real estate construction loans and 5.8% of total loans. Borrowers may be the business owner/occupier of the building who intends to operate their business from the property upon construction, or non-owner developers. The expected source of
repayment of these loans is typically the sale or refinancing of the project upon completion of the construction phase. In certain circumstances, the Company may provide or commit to take-out financing upon construction. Take-out financing is subject
to the project meeting specific underwriting guidelines. No assurance can be given that such take-out financing will be available upon project completion. These loans are secured by office buildings, retail rental space, mini storage facilities,
assisted living facilities and multi-family dwellings located in the Company’s market area. At March 31, 2020, the largest commercial construction loan had a balance of $9.5 million and was performing according to its original repayment terms. The
average balance of loans in the commercial construction loan portfolio at March 31, 2020 was $3.8 million. At March 31, 2020 and 2019, the Company had no commercial construction loans on non-accrual status.
9
The Company has originated construction and land acquisition and development loans where a component of the cost of the project was the interest required to service the debt during the
construction period of the loan, sometimes known as interest reserves. The Company allows disbursements of this interest component as long as the project is progressing as originally projected and if there has been no deterioration in the financial
standing of the borrower or the underlying project. If the Company makes a determination that there is such deterioration, or if the loan becomes nonperforming, the Company halts any disbursement of those funds identified for use in paying interest.
In some cases, additional interest reserves may be taken by use of deposited funds or through credit lines secured by separate and additional collateral. For additional information concerning the risks related to construction lending, see Item 1A.
"Risk Factors – Our real estate construction and land acquisition and development loans expose us to risk."
Consumer Lending. Consumer loans totaled $87.4 million at March 31, 2020 and were comprised of $65.9 million of one-to-four family mortgage loans, $15.5
million of home equity lines of credit, $1.8 million of land loans to consumers for the future construction of one-to-four family homes and $4.2 million of other secured and unsecured consumer loans, which included $1.8 million of purchased
automobile loans.
One-to-four family residences located in the Company’s primary market area secure the majority of the residential loans. Underwriting standards require that one-to-four family portfolio loans
generally be owner occupied and that loan amounts not exceed 80% (95% with private mortgage insurance) of the lesser of current appraised value or cost of the underlying collateral. Terms typically range from 15 to 30 years. The Company also offers
balloon mortgage loans with terms of either five or seven years and originates both fixed-rate mortgages and ARMs with repricing based on the one-year constant maturity U.S. Treasury index or other index. At March 31, 2020, the Company had three
residential real estate loans totaling $152,000 on non-accrual status compared to three residential real estate loans totaling $169,000 at March 31, 2019. All of these loans were secured by properties located in Oregon and Washington.
The Company had previously purchased pools of automobile loans from another financial institution as a way to further diversify its loan portfolio and to earn a higher yield than on its cash or
short-term investments. These indirect automobile loans are originated through a single dealership group located outside the Company’s primary market area. Unlike a direct loan where the borrower makes an application directly to the lender, in these
loans the dealer, who has a direct financial interest in the loan transaction, assists the borrower in preparing the loan application. Indirect automobile loans we purchased are underwritten by us using substantially similar guidelines to our
internal guidelines. However, because these loans are originated through a third-party and not directly by us, we do not have direct contact with the borrower and therefore these loans may be more susceptible to a material misstatement on the loan
application and present greater risks than other types of lending activities. The collateral for these loans is comprised of a mix of used automobiles. These loans are purchased with servicing retained by the seller. The Company did not purchase any
automobile loans during fiscal years 2020 and 2019 and does not have plans to purchase any additional automobile loan pools. At March 31, 2020, six of the purchased automobile loans were on non-accrual status totaling $28,000. At March 31, 2019,
twelve of the purchased automobile loans were on non-accrual status totaling $41,000. The Company originates a variety of installment loans, including loans for debt consolidation and other purposes, automobile loans, boat loans and savings account
loans. At March 31, 2020 and 2019, excluding the purchased automobile loans noted above, the Company had no installment loans on non-accrual status.
Installment consumer loans generally entail greater risk than do residential mortgage loans, particularly in the case of consumer loans that are unsecured or secured by assets that depreciate
rapidly, such as mobile homes, automobiles, boats and recreational vehicles. In these cases, we face the risk that any collateral for a defaulted loan may not provide an adequate source of repayment of the outstanding loan balance. Thus, the recovery
and sale of such property could be insufficient to compensate us for the principal outstanding on these loans as a result of the greater likelihood of damage, loss or depreciation. The remaining deficiency often does not warrant further collection
efforts against the borrower beyond obtaining a deficiency judgment. In addition, consumer loan collections are dependent on the borrower’s continuing financial stability and are more likely to be adversely affected by job loss (especially now as a
result of the COVID-19 pandemic), divorce, illness or personal bankruptcy. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit our ability to recover on such loans.
10
Loan Maturity. The following table sets forth certain information at March 31, 2020 regarding the dollar amount of loans maturing in the Company’s total
loan portfolio based on their contractual terms to maturity but does not include potential prepayments. Demand loans, loans having no stated schedule of repayments or stated maturity and overdrafts are reported as due in one year or less. Loan
balances are reported net of deferred fees (in thousands):
|
|
Within 1
Year
|
|
|
1 – 3 Years
|
|
|
After 3 – 5
Years
|
|
|
After 5 – 10
Years
|
|
|
Beyond 10
Years
|
|
|
Total
|
|
Commercial and construction:
|
|
|
|
Commercial business
|
|
$
|
22,035
|
|
|
$
|
11,591
|
|
|
$
|
16,388
|
|
|
$
|
48,733
|
|
|
$
|
80,282
|
|
|
$
|
179,029
|
|
Other real estate mortgage
|
|
|
19,952
|
|
|
|
40,054
|
|
|
|
54,559
|
|
|
|
397,165
|
|
|
|
68,541
|
|
|
|
580,271
|
|
Real estate construction
|
|
|
11,923
|
|
|
|
1,689
|
|
|
|
-
|
|
|
|
44,668
|
|
|
|
6,563
|
|
|
|
64,843
|
|
Total commercial and construction
|
|
|
53,910
|
|
|
|
53,334
|
|
|
|
70,947
|
|
|
|
490,566
|
|
|
|
155,386
|
|
|
|
824,143
|
|
Consumer:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
127
|
|
|
|
365
|
|
|
|
594
|
|
|
|
4,262
|
|
|
|
77,802
|
|
|
|
83,150
|
|
Other installment
|
|
|
1,031
|
|
|
|
1,480
|
|
|
|
1,172
|
|
|
|
233
|
|
|
|
300
|
|
|
|
4,216
|
|
Total consumer
|
|
|
1,158
|
|
|
|
1,845
|
|
|
|
1,766
|
|
|
|
4,495
|
|
|
|
78,102
|
|
|
|
87,366
|
|
Total loans
|
|
$
|
55,068
|
|
|
$
|
55,179
|
|
|
$
|
72,713
|
|
|
$
|
495,061
|
|
|
$
|
233,488
|
|
|
$
|
911,509
|
|
The following table sets forth the dollar amount of loans due after one year from March 31, 2020, which have fixed and adjustable interest rates (in thousands):
|
|
Fixed
Rate
|
|
|
Adjustable
Rate
|
|
|
Total
|
|
|
|
|
|
Commercial and construction:
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
95,081
|
|
|
$
|
61,913
|
|
|
$
|
156,994
|
|
Other real estate mortgage
|
|
|
224,767
|
|
|
|
335,552
|
|
|
|
560,319
|
|
Real estate construction
|
|
|
16,346
|
|
|
|
36,574
|
|
|
|
52,920
|
|
Total commercial and construction
|
|
|
336,194
|
|
|
|
434,039
|
|
|
|
770,233
|
|
Consumer:
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
64,522
|
|
|
|
18,501
|
|
|
|
83,023
|
|
Other installment
|
|
|
2,638
|
|
|
|
547
|
|
|
|
3,185
|
|
Total consumer
|
|
|
67,160
|
|
|
|
19,048
|
|
|
|
86,208
|
|
Total loans
|
|
$
|
403,354
|
|
|
$
|
453,087
|
|
|
$
|
856,441
|
|
Loan Commitments. The Company issues commitments to originate commercial loans, other real estate mortgage loans, construction loans, residential mortgage
loans and other installment loans conditioned upon the occurrence of certain events. The Company uses the same credit policies in making commitments as it does for on-balance sheet instruments. Commitments to originate loans are conditional and are
honored for up to 45 days subject to the Company’s usual terms and conditions. Collateral is not required to support commitments. At March 31, 2020, the Company had outstanding commitments to originate loans of $35.8 million compared to $40.7 million
at March 31, 2019.
Mortgage Brokerage. The Company employs commissioned brokers who originate mortgage loans (including construction loans) for various mortgage companies, as
well as for the Company. The loans brokered to mortgage companies are closed in the name of, and funded by, the purchasing mortgage company and are not originated as an asset of the Company. In return, the Company receives a fee ranging from 1.5% to
2.0% of the loan amount that it shares with the commissioned broker. Loans brokered to the Company are closed on the Company's books and the commissioned broker receives a portion of the origination fee. During the year ended March 31, 2020, brokered
loans totaled $45.5 million (including $11.1 million brokered to the Company) compared to $35.0 million (including $10.4 million brokered to the Company) of brokered loans in fiscal year 2019. Beginning in fiscal year 2022, the Company is planning to
transition to a model where all future mortgage loan originations will be brokered to various third-party mortgage companies. Gross fees of $666,000 and $504,000, which includes brokered loan fees and fees for loans sold to the Federal Home Loan
Mortgage Company (“FHLMC”), were earned for the years ended March 31, 2020 and 2019, respectively. The interest rate environment has a strong influence on the loan volume and amount of fees generated from the mortgage broker activity. In general,
during periods of rising interest rates, the volume of loans and the amount of loan fees generally decrease as a result of slower mortgage loan demand. Conversely, during periods of falling interest rates, the volume of loans and the amount of loan
fees generally increase as a result of the increased mortgage loan demand.
11
Mortgage Loan Servicing. The Company is a qualified servicer for the FHLMC. The Company generally sells fixed-rate residential one-to-four family mortgage
loans that it originates with maturities of 15 years or more and balloon mortgages to the FHLMC as part of its asset/liability strategy. Mortgage loans are sold to the FHLMC on a non-recourse basis whereby foreclosure losses are the responsibility of
the FHLMC and not the Company. The Company's general policy is to close its residential loans on FHLMC modified loan documents to facilitate future sales to the FHLMC. Upon sale, the Company continues to collect payments on the loans, supervise
foreclosure proceedings, and otherwise service the loans. At March 31, 2020, total loans serviced for others were $146.8 million, of which $99.5 million were serviced for the FHLMC. Beginning in fiscal year 2021, the Company does not intend to
originate and sell mortgages loans to FHLMC; however, the Company will continue to service its existing FHLMC portfolio.
Nonperforming Assets. Nonperforming assets were $1.4 million or 0.12% of total assets at March 31, 2020 compared with $1.5 million or 0.13% of total assets
at March 31, 2019. The Company had net loan charge-offs totaling $83,000 during fiscal 2020 compared to net recoveries of $641,000 during fiscal 2019. Credit quality metrics continued to improve in the past fiscal year and the real estate market in
our primary market area has improved steadily. Economic conditions have been stable and even continued to improve throughout a majority of the fiscal year; however, the current economic downturn in our market area related to the COVID-19 pandemic
could result in future increases in nonperforming assets, in the provision for loan losses and in loan charge-offs that may materially adversely affect our results of operations and financial condition.
Loans are reviewed regularly and it is the Company’s general policy that when a loan is 90 days delinquent or when collection of principal or interest appears doubtful, it is placed on non-accrual
status, at which time the accrual of interest ceases and a reserve for any unrecoverable accrued interest is established and charged against operations. In general, payments received on non-accrual loans are applied to reduce the outstanding
principal balance on a cash-basis method.
The Company continues to proactively manage its residential construction and land acquisition and development loan portfolios. At March 31, 2020, the Company’s residential construction and land
acquisition and development loan portfolios were $12.2 million and $14.0 million, respectively, as compared to $20.3 million and $17.0 million, respectively, at March 31, 2019. At March 31, 2020 and 2019, there were no nonperforming loans in the
residential construction loan portfolio or the land acquisition and development portfolio. For the years ended March 31, 2020 and 2019, there were no charge-offs or recoveries in the residential construction and land acquisition and development loan
portfolios.
The following table sets forth information regarding the Company’s nonperforming loans at the dates indicated (dollars in thousands):
|
|
March 31, 2020
|
|
|
March 31, 2019
|
|
|
|
Number
of Loans
|
|
|
Balance
|
|
|
Number
of Loans
|
|
|
Balance
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
|
2
|
|
|
$
|
201
|
|
|
|
2
|
|
|
$
|
225
|
|
Commercial real estate
|
|
|
2
|
|
|
|
1,014
|
|
|
|
2
|
|
|
|
1,081
|
|
Consumer
|
|
|
9
|
|
|
|
180
|
|
|
|
16
|
|
|
|
213
|
|
Total
|
|
|
13
|
|
|
$
|
1,395
|
|
|
|
20
|
|
|
$
|
1,519
|
|
Nonperforming loans decreased compared to the prior fiscal year as the Company continues its efforts to work out problem loans, seek full repayment or pursue foreclosure proceedings. All of these
loans are to borrowers with properties located in Oregon and Washington, with the exception of six automobile loans totaling $28,000. At March 31, 2020, 82.67% of the Company’s nonperforming loans, totaling $1.2 million, were measured for impairment.
These loans have been charged down to the estimated fair market value of the collateral less selling costs or carry a specific reserve to reduce the net carrying value. There were no reserves associated with these nonperforming loans that were
measured for impairment at March 31, 2020. At March 31, 2020, the largest single nonperforming loan was a commercial real estate loan totaling $851,000. This loan was measured for impairment during fiscal year 2020 and management determined that a
specific reserve was not required.
12
The following table sets forth information regarding the Company’s nonperforming assets at the dates indicated (in thousands):
|
|
At March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
Loans accounted for on a non-accrual basis:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
201
|
|
|
$
|
225
|
|
|
$
|
178
|
|
|
$
|
294
|
|
|
$
|
-
|
|
Other real estate mortgage
|
|
|
1,014
|
|
|
|
1,081
|
|
|
|
1,963
|
|
|
|
2,143
|
|
|
|
2,360
|
|
Consumer
|
|
|
180
|
|
|
|
210
|
|
|
|
277
|
|
|
|
278
|
|
|
|
334
|
|
Total
|
|
|
1,395
|
|
|
|
1,516
|
|
|
|
2,418
|
|
|
|
2,715
|
|
|
|
2,694
|
|
Accruing loans which are contractually
past due 90 days or more
|
|
|
-
|
|
|
|
3
|
|
|
|
-
|
|
|
|
34
|
|
|
|
20
|
|
Total nonperforming loans
|
|
|
1,395
|
|
|
|
1,519
|
|
|
|
2,418
|
|
|
|
2,749
|
|
|
|
2,714
|
|
Real estate owned (“REO”)
|
|
|
-
|
|
|
|
-
|
|
|
|
298
|
|
|
|
298
|
|
|
|
595
|
|
Total nonperforming assets
|
|
$
|
1,395
|
|
|
$
|
1,519
|
|
|
$
|
2,716
|
|
|
$
|
3,047
|
|
|
$
|
3,309
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foregone interest on non-accrual loans
|
|
$
|
75
|
|
|
$
|
94
|
|
|
$
|
102
|
|
|
$
|
81
|
|
|
$
|
112
|
|
The following tables set forth information regarding the Company’s nonperforming assets by loan type and geographical area at the dates indicated (in thousands):
|
|
Northwest
Oregon
|
|
|
Other
Oregon
|
|
|
Southwest Washington
|
|
|
Other
|
|
|
Total
|
|
March 31, 2020
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
201
|
|
|
$
|
-
|
|
|
$
|
201
|
|
Commercial real estate
|
|
|
-
|
|
|
|
851
|
|
|
|
163
|
|
|
|
-
|
|
|
|
1,014
|
|
Consumer
|
|
|
-
|
|
|
|
-
|
|
|
|
152
|
|
|
|
28
|
|
|
|
180
|
|
Total nonperforming assets
|
|
$
|
-
|
|
|
$
|
851
|
|
|
$
|
516
|
|
|
$
|
28
|
|
|
$
|
1,395
|
|
March 31, 2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
65
|
|
|
$
|
-
|
|
|
$
|
160
|
|
|
$
|
-
|
|
|
$
|
225
|
|
Commercial real estate
|
|
|
-
|
|
|
|
896
|
|
|
|
185
|
|
|
|
-
|
|
|
|
1,081
|
|
Consumer
|
|
|
-
|
|
|
|
-
|
|
|
|
169
|
|
|
|
44
|
|
|
|
213
|
|
Total nonperforming assets
|
|
$
|
65
|
|
|
$
|
896
|
|
|
$
|
514
|
|
|
$
|
44
|
|
|
$
|
1,519
|
|
Other loans of concern, which are classified as substandard loans and are not presently included in the non-accrual category, consist of loans where the borrowers have cash flow problems, or the
collateral securing the respective loans may be inadequate. In either or both of these situations, the borrowers may be unable to comply with the present loan repayment terms, and the loans may subsequently be included in the non-accrual category.
Management considers the allowance for loan losses to be adequate at March 31, 2020, to cover the probable losses inherent in these and other loans.
The following table sets forth information regarding the Company’s other loans of concern at the dates indicated (dollars in thousands):
|
|
March 31, 2020
|
|
|
March 31, 2019
|
|
|
|
Number
of Loans
|
|
|
Balance
|
|
|
Number
of Loans
|
|
|
Balance
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
|
3
|
|
|
$
|
147
|
|
|
|
9
|
|
|
$
|
1,734
|
|
Commercial real estate
|
|
|
-
|
|
|
|
-
|
|
|
|
3
|
|
|
|
2,308
|
|
Land
|
|
|
-
|
|
|
|
-
|
|
|
|
1
|
|
|
|
728
|
|
Multi-family
|
|
|
3
|
|
|
|
34
|
|
|
|
2
|
|
|
|
20
|
|
Total
|
|
|
6
|
|
|
$
|
181
|
|
|
|
15
|
|
|
$
|
4,790
|
|
At March 31, 2020, loans delinquent 30 – 89 days were 0.03% of total loans compared to 0.04% at March 31, 2019 and were comprised of consumer loans. There were no loans 30-89 days past due in our
commercial real estate (“CRE”) or commercial business portfolio at March 31, 2020 or March 31, 2019. CRE loans represent the largest portion of our loan portfolio at 55.72% of total loans and commercial business loans represent 19.64% of total loans.
13
Troubled debt restructurings (“TDRs”) are loans for which the Company, for economic or legal reasons related to the borrower's financial condition, has granted a concession to the borrower that it
would otherwise not consider. A TDR typically involves a modification of terms such as a reduction of the stated interest rate or face amount of the loan, a reduction of accrued interest, and/or an extension of the maturity date(s) at a stated
interest rate lower than the current market rate for a new loan with similar risk.
TDRs are considered impaired loans and as such, when a loan is deemed to be impaired, the amount of the impairment is measured using discounted cash flows and the original note rate, except when
the loan is collateral dependent. In these cases, the estimated fair value of the collateral (less any selling costs, if applicable) is used. Impairment is recognized as a specific component within the allowance for loan losses if the estimated value
of the impaired loan is less than the recorded investment in the loan. When the amount of the impairment represents a confirmed loss, it is charged off against the allowance for loan losses. At March 31, 2020, the Company had TDRs totaling $5.2
million, of which $4.0 million were on accrual status. The $1.2 million of TDRs accounted for on a non-accrual basis at March 31, 2020 are included as nonperforming loans in the nonperforming asset table above. All of the Company’s TDRs were paying
as agreed at March 31, 2020 except for one commercial real estate loan totaling $851,000. The related amount of interest income recognized on these TDR loans was $221,000 for the year ended March 31, 2020.
The Company has determined that, in certain circumstances, it is appropriate to split a loan into multiple notes. This typically includes a nonperforming charged-off loan that is not supported by
the cash flow of the relationship and a performing loan that is supported by the cash flow. These may also be split into multiple notes to align portions of the loan balance with the various sources of repayment when more than one exists. Generally,
the new loans are restructured based on customary underwriting standards. In situations where they are not, the policy exception qualifies as a concession, and if the borrower is experiencing financial difficulties, the loans are accounted for as
TDRs.
The CARES Act, signed into law on March 27, 2020, amended accounting principles generally accepted in the United States of America (“GAAP”) with respect to the modification of loans to borrowers
affected by the COVID-19 pandemic. Among other criteria, this guidance provided that short-term loan modifications made on a good faith basis to borrowers who were current as defined under the CARES Act prior to any relief, are not TDRs. This
includes short-term (e.g. six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. To qualify as an eligible loan under the CARES Act, a loan modification must
be 1) related to COVID-19; 2) executed on a loan that was not more than 30 days past due as of December 31, 2019; and 3) executed between March 1, 2020, and the earlier of A) 60 days after the date of termination of the national emergency by the
President or B) December 31, 2020. As of March 31, 2020 the Company had approved ten loan modifications related to the COVID-19 pandemic totaling $36.2 million which consisted of deferral of regularly scheduled principal and interest payments for
three months. Loan modifications in accordance with the CARES Act are still subject to an evaluation in regards to determining whether or not a loan is deemed to be impaired. For additional information related to loan modifications as a result of
the COVID-19 pandemic, see “Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Recent Developments Related to COVID-19.
The accrual status of a loan may change after it has been classified as a TDR. The Company’s general policy related to TDRs is to perform a credit evaluation of the borrower’s financial condition
and prospects for repayment under the revised terms. This evaluation includes consideration of the borrower’s sustained historical repayment performance for a reasonable period of time. A sustained period of repayment performance generally would be a
minimum of six months and may include repayments made prior to the restructuring date. If repayment of principal and interest appears doubtful, it is placed on non-accrual status.
In accordance with the Company’s policy guidelines, unsecured loans are generally charged-off when no payments have been received for three consecutive months unless an alternative action plan is
in effect. Consumer installment loans delinquent six months or more that have not received at least 75% of their required monthly payment in the last 90 days are charged-off. In addition, loans discharged in bankruptcy proceedings are charged-off.
Loans under bankruptcy protection with no payments received for four consecutive months are charged-off. The outstanding balance of a secured loan that is in excess of the net realizable value is generally charged-off if no payments are received for
four to five consecutive months. However, charge-offs are postponed if alternative proposals to restructure, obtain additional guarantors, obtain additional assets as collateral or a potential sale of the underlying collateral would result in full
repayment of the outstanding loan balance. Once any other potential sources of repayment are exhausted, the impaired portion of the loan is charged-off. Regardless of whether a loan is unsecured or collateralized, once an amount is determined to be a
confirmed loan loss it is promptly charged off.
14
Asset Classification. The OCC has adopted various regulations regarding problem assets of savings institutions. The regulations require that each insured
institution review and classify its assets on a regular basis. In addition, in connection with examinations of insured institutions, OCC examiners have authority to identify problem assets and, if appropriate, require them to be classified as such.
There are three classifications for problem assets: substandard, doubtful and loss (collectively “classified loans”). Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that the insured
institution will sustain some loss if the deficiencies are not corrected. Doubtful assets have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full on the basis of
currently existing facts, conditions and values questionable, and there is a high possibility of loss. An asset classified as loss is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted.
When the Company classifies problem assets as either substandard or doubtful, we may determine that the loan is impaired and establish a specific allowance in an amount we deem prudent to address
the risk specifically or we may allow the loss to be addressed in the general allowance. General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike
specific allowances, have not been specifically allocated to particular problem assets. When a problem asset is classified by us as a loss, we are required to charge off the asset in the period in which it is deemed uncollectible.
The aggregate amount of the Company's classified loans (comprised entirely of substandard loans), general loss allowances, specific loss allowances and net recoveries were as follows at the dates
indicated (in thousands):
|
|
At or For the Year
|
|
|
|
Ended March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
|
|
|
Classified loans
|
|
$
|
1,576
|
|
|
$
|
6,306
|
|
General loss allowances
|
|
|
12,612
|
|
|
|
11,435
|
|
Specific loss allowances
|
|
|
12
|
|
|
|
22
|
|
Net charge-offs (recoveries)
|
|
|
83
|
|
|
|
(641
|
)
|
All of the loans on non-accrual status as of March 31, 2020 were categorized as classified loans. Classified loans at March 31, 2020 were comprised of five commercial business loans totaling
$348,000, two commercial real estate loans totaling $1.0 million (the largest of which was $851,000), three multi-family loans totaling $34,000, three one-to-four family real estate loans totaling $152,000 and six purchased automobile loans totaling
$28,000.
Allowance for Loan Losses. The Company maintains an allowance for loan losses to provide for probable losses inherent in the loan portfolio consistent with
GAAP guidelines. The adequacy of the allowance is evaluated monthly to maintain the allowance at levels sufficient to provide for inherent losses existing at the balance sheet date. The key components to the evaluation are the Company’s internal loan
review function by its credit administration, which reviews and monitors the risk and quality of the loan portfolio; as well as the Company’s external loan reviews and its loan classification systems. Credit officers are expected to monitor their
loan portfolios and make recommendations to change loan grades whenever changes are warranted. Credit administration approves any changes to loan grades and monitors loan grades. For additional discussion of the Company’s methodology for assessing
the appropriate level of the allowance for loan losses see Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies."
In accordance with GAAP, loans acquired from MBank during the fiscal year ended March 31, 2017 were recorded at their estimated fair value, which resulted in a net discount to the loans’
contractual amounts, of which a portion reflects a discount for possible credit losses. Credit discounts are included in the determination of fair value, and, as a result, no allowance for loan losses is recorded for acquired loans at the acquisition
date. The discount recorded on the acquired loans is not reflected in the allowance for loan losses or related allowance coverage ratios. However, we believe it should be considered when comparing certain financial ratios of the Company calculated in
periods after the MBank transaction, compared to the same financial ratios of the Company in periods prior to the MBank transaction. The net discount on these acquired loans was $1.1 million and $1.5 million at March 31, 2020 and 2019, respectively.
The Company recorded a provision for loan losses of $1.3 million and $50,000 for the years ended March 31, 2020 and 2019, respectively. At March 31, 2020, the Company had an allowance for loan
losses of $12.6 million, or 1.38% of total loans, compared to $11.5 million, or 1.31% at March 31, 2019. The increase in the balance of the allowance for loan losses at March 31, 2020 reflects the consideration of the weakening economic conditions as
a result of the COVID-19 pandemic and to a lesser extent, the $35.4 million increase in loan balances from March 31, 2019 compared to March 31, 2020. During fiscal year 2020, the Company experienced improvement in the level of delinquent,
nonperforming and classified loans. Net
15
charge-offs totaled $83,000 for the fiscal year ended March 31, 2020 compared to net recoveries of $641,000 in the prior fiscal year. Nonperforming loans decreased $124,000 and 30-89 day
delinquent loans decreased $74,000 during the fiscal year ended March 31, 2020. Classified loans were $1.6 million at March 31, 2020 compared to $6.3 million at March 31, 2019. The $4.7 million decrease is primarily attributed to the payoff of six
commercial business loans with an unpaid principal balance of $1.1 million during fiscal year 2020 along with risk rating upgrades totaling $3.3 million, including two commercial real estate loans totaling $2.2 million. The coverage ratio of
allowance for loan losses to nonperforming loans was 904.95% at March 31, 2020 compared to 754.25% at March 31, 2019. The Company’s general valuation allowance to non-impaired loans was 1.39% and 1.31% at March 31, 2020 and 2019, respectively.
Management considers the allowance for loan losses to be adequate at March 31, 2020 to cover probable losses inherent in the loan portfolio based on the assessment of various factors affecting the
loan portfolio, and the Company believes it has established its existing allowance for loan losses in accordance with GAAP. However, a further decline in national and local economic conditions (including declines as a result of the COVID-19
pandemic), results of examinations by the Company’s banking regulators, or other factors could result in a material increase in the allowance for loan losses and may adversely affect the Company’s future financial condition and results of operations.
In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses will be adequate or that substantial increases will not be necessary
should the quality of any loans deteriorate or should collateral values decline as a result of the factors discussed elsewhere in this document.
The following table sets forth an analysis of the Company's allowance for loan losses for the periods indicated (dollars in thousands):
|
|
Year Ended March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
Balance at beginning of year
|
|
$
|
11,457
|
|
|
$
|
10,766
|
|
|
$
|
10,528
|
|
|
$
|
9,885
|
|
|
$
|
10,762
|
|
Provision for (recapture of) loan losses
|
|
|
1,250
|
|
|
|
50
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(1,150
|
)
|
Recoveries:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial and construction
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
|
-
|
|
|
|
1
|
|
|
|
240
|
|
|
|
492
|
|
|
|
30
|
|
Other real estate mortgage
|
|
|
-
|
|
|
|
824
|
|
|
|
347
|
|
|
|
463
|
|
|
|
331
|
|
Real estate construction
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
6
|
|
Total commercial and construction
|
|
|
-
|
|
|
|
825
|
|
|
|
587
|
|
|
|
955
|
|
|
|
367
|
|
Consumer
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
30
|
|
|
|
80
|
|
|
|
11
|
|
|
|
89
|
|
|
|
153
|
|
Other installment
|
|
|
33
|
|
|
|
27
|
|
|
|
48
|
|
|
|
57
|
|
|
|
27
|
|
Total consumer
|
|
|
63
|
|
|
|
107
|
|
|
|
59
|
|
|
|
146
|
|
|
|
180
|
|
Total recoveries
|
|
|
63
|
|
|
|
932
|
|
|
|
646
|
|
|
|
1,101
|
|
|
|
547
|
|
Charge-offs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial and construction
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
|
64
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1
|
|
|
|
-
|
|
Other real estate mortgage
|
|
|
-
|
|
|
|
-
|
|
|
|
68
|
|
|
|
117
|
|
|
|
-
|
|
Real estate construction
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total commercial and construction
|
|
|
64
|
|
|
|
-
|
|
|
|
68
|
|
|
|
118
|
|
|
|
-
|
|
Consumer
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
-
|
|
|
|
30
|
|
|
|
12
|
|
|
|
-
|
|
|
|
8
|
|
Other installment
|
|
|
82
|
|
|
|
261
|
|
|
|
328
|
|
|
|
340
|
|
|
|
266
|
|
Total consumer
|
|
|
82
|
|
|
|
291
|
|
|
|
340
|
|
|
|
340
|
|
|
|
274
|
|
Total charge-offs
|
|
|
146
|
|
|
|
291
|
|
|
|
408
|
|
|
|
458
|
|
|
|
274
|
|
Net charge-offs (recoveries)
|
|
|
83
|
|
|
|
(641
|
)
|
|
|
(238
|
)
|
|
|
(643
|
)
|
|
|
(273
|
)
|
Balance at end of year
|
|
$
|
12,624
|
|
|
$
|
11,457
|
|
|
$
|
10,766
|
|
|
$
|
10,528
|
|
|
$
|
9,885
|
|
Ratio of allowance to total loans
outstanding at end of year
|
|
|
1.38
|
%
|
|
|
1.31
|
%
|
|
|
1.33
|
%
|
|
|
1.35
|
%
|
|
|
1.58
|
%
|
Ratio of net (recoveries) charge-offs to average net
loans outstanding during year
|
|
|
0.01
|
|
|
|
(0.08
|
)
|
|
|
(0.03
|
)
|
|
|
(0.10
|
)
|
|
|
(0.05
|
)
|
Ratio of allowance to total nonperforming loans
|
|
|
904.95
|
|
|
|
754.25
|
|
|
|
445.24
|
|
|
|
382.98
|
|
|
|
364.22
|
|
16
The following table sets forth the breakdown of the allowance for loan losses by loan category as of the dates indicated (dollars in thousands):
|
|
At March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
|
2016
|
|
|
|
Amount
|
|
|
Loan Category
as a
Percent
of Total Loans
|
|
|
Amount
|
|
|
Loan Category
as a
Percent
of Total Loans
|
|
|
Amount
|
|
|
Loan Category
as a
Percent
of Total Loans
|
|
|
Amount
|
|
|
Loan Category
as a
Percent
of Total Loans
|
|
|
Amount
|
|
|
Loan Category
as a
Percent
of Total Loans
|
|
|
|
|
|
Commercial and construction:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial business
|
|
$
|
2,008
|
|
|
|
19.64
|
%
|
|
$
|
1,808
|
|
|
|
18.58
|
%
|
|
$
|
1,668
|
|
|
|
16.97
|
%
|
|
$
|
1,418
|
|
|
|
13.78
|
%
|
|
$
|
1,048
|
|
|
|
11.11
|
%
|
Other real estate mortgage
|
|
|
7,505
|
|
|
|
63.66
|
|
|
|
6,035
|
|
|
|
60.50
|
|
|
|
5,956
|
|
|
|
65.20
|
|
|
|
5,609
|
|
|
|
65.00
|
|
|
|
5,310
|
|
|
|
63.94
|
|
Real estate construction
|
|
|
1,149
|
|
|
|
7.12
|
|
|
|
1,457
|
|
|
|
10.37
|
|
|
|
618
|
|
|
|
4.88
|
|
|
|
714
|
|
|
|
5.92
|
|
|
|
416
|
|
|
|
4.28
|
|
Consumer:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate one-to-four family
|
|
|
1,237
|
|
|
|
9.12
|
|
|
|
1,208
|
|
|
|
9.60
|
|
|
|
1,400
|
|
|
|
11.10
|
|
|
|
1,525
|
|
|
|
11.91
|
|
|
|
1,652
|
|
|
|
14.21
|
|
Other installment
|
|
|
126
|
|
|
|
0.46
|
|
|
|
239
|
|
|
|
0.95
|
|
|
|
409
|
|
|
|
1.85
|
|
|
|
574
|
|
|
|
3.39
|
|
|
|
751
|
|
|
|
6.46
|
|
Unallocated
|
|
|
599
|
|
|
|
-
|
|
|
|
710
|
|
|
|
-
|
|
|
|
715
|
|
|
|
-
|
|
|
|
688
|
|
|
|
-
|
|
|
|
708
|
|
|
|
-
|
|
Total allowance for loan losses
|
|
$
|
12,624
|
|
|
|
100.00
|
%
|
|
$
|
11,457
|
|
|
|
100.00
|
%
|
|
$
|
10,766
|
|
|
|
100.00
|
%
|
|
$
|
10,528
|
|
|
|
100.00
|
%
|
|
$
|
9,885
|
|
|
|
100.00
|
%
|
Investment Activities
The Board sets the investment policy of the Company. The Company's investment objectives are: to provide and maintain liquidity within regulatory guidelines; to maintain a balance of high quality,
diversified investments to minimize risk; to provide collateral for pledging requirements; to serve as a balance to earnings; and to optimize returns. The policy permits investment in various types of liquid assets (generally debt and asset-backed
securities) permissible under OCC regulation, which includes U.S. Treasury obligations, securities of various federal agencies, "bank qualified" municipal bonds, certain certificates of deposit of insured banks, repurchase agreements, federal funds,
real estate mortgage investment conduits (“REMICS”) and mortgage-backed securities (“MBS”), but does not permit investment in non-investment grade bonds. The policy also dictates the criteria for classifying investment securities into one of three
categories: held to maturity, available for sale or trading. At March 31, 2020, no investment securities were held for trading purposes. At March 31, 2020, the Company’s investment portfolio consists of debt securities and does not include any
equity securities. See Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies."
The Company primarily purchases agency securities with maturities of five years or less and purchases a combination of MBS backed by government agencies (FHLMC, Fannie Mae (“FNMA”), U.S. Small
Business Administration (“SBA”) or Ginnie Mae (“GNMA”)). FHLMC and FNMA securities are not backed by the full faith and credit of the U.S. government, while SBA and GNMA securities are backed by the full faith and credit of the U.S. government. At
March 31, 2020, the Company owned no privately issued MBS. Our REMICS are MBS issued by FHLMC, FNMA and GNMA and our CRE MBS are issued by FNMA. The Company does not believe that it has any exposure to sub-prime lending in its investment securities
portfolio. See Note 3 of the Notes to the Consolidated Financial Statements contained in Item 8 of this Form 10-K for additional information.
The following table sets forth the investment securities portfolio and carrying values at the dates indicated (dollars in thousands):
|
|
At March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
|
Carrying
Value
|
|
|
Percent of
Portfolio
|
|
|
Carrying
Value
|
|
|
Percent of
Portfolio
|
|
|
Carrying
Value
|
|
|
Percent of
Portfolio
|
|
|
|
|
|
Available for sale (at estimated fair value):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Municipal securities
|
|
$
|
4,877
|
|
|
|
3.29
|
%
|
|
$
|
8,881
|
|
|
|
4.98
|
%
|
|
$
|
8,732
|
|
|
|
4.09
|
%
|
Agency securities
|
|
|
6,016
|
|
|
|
4.06
|
|
|
|
12,341
|
|
|
|
6.92
|
|
|
|
22,102
|
|
|
|
10.36
|
|
REMICs
|
|
|
43,791
|
|
|
|
29.52
|
|
|
|
40,162
|
|
|
|
22.53
|
|
|
|
46,955
|
|
|
|
22.02
|
|
Residential MBS
|
|
|
60,085
|
|
|
|
40.51
|
|
|
|
75,821
|
|
|
|
42.54
|
|
|
|
89,074
|
|
|
|
41.77
|
|
Other MBS
|
|
|
33,522
|
|
|
|
22.60
|
|
|
|
41,021
|
|
|
|
23.01
|
|
|
|
46,358
|
|
|
|
21.74
|
|
|
|
|
148,291
|
|
|
|
99.98
|
|
|
|
178,226
|
|
|
|
99.98
|
|
|
|
213,221
|
|
|
|
99.98
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Held to maturity (at amortized cost):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential MBS
|
|
|
28
|
|
|
|
0.02
|
|
|
|
35
|
|
|
|
0.02
|
|
|
|
42
|
|
|
|
0.02
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investment securities
|
|
$
|
148,319
|
|
|
|
100.00
|
%
|
|
$
|
178,261
|
|
|
|
100.00
|
%
|
|
$
|
213,263
|
|
|
|
100.00
|
%
|
The following table sets forth the maturities and weighted average yields in the securities portfolio at March 31, 2020 (dollars in thousands):
|
|
Less Than One Year
|
|
|
One to Five Years
|
|
|
More Than Five to
Ten Years
|
|
|
More Than
Ten Years
|
|
|
|
Amount
|
|
|
Weighted
Average
Yield (1)
|
|
|
Amount
|
|
|
Weighted
Average
Yield (1)
|
|
|
Amount
|
|
|
Weighted
Average
Yield (1)
|
|
|
Amount
|
|
|
Weighted
Average
Yield (1)
|
|
|
|
|
|
Municipal securities
|
|
$
|
-
|
|
|
|
-
|
%
|
|
$
|
51
|
|
|
|
2.66
|
%
|
|
$
|
2,333
|
|
|
|
5.03
|
%
|
|
$
|
2,493
|
|
|
|
3.00
|
%
|
Agency securities
|
|
|
1,015
|
|
|
|
2.47
|
|
|
|
1,998
|
|
|
|
1.95
|
|
|
|
3,003
|
|
|
|
1.75
|
|
|
|
-
|
|
|
|
-
|
|
REMICS
|
|
|
-
|
|
|
|
-
|
|
|
|
748
|
|
|
|
1.52
|
|
|
|
12,492
|
|
|
|
1.44
|
|
|
|
30,551
|
|
|
|
1.82
|
|
Residential MBS
|
|
|
-
|
|
|
|
-
|
|
|
|
25
|
|
|
|
3.58
|
|
|
|
8,462
|
|
|
|
2.08
|
|
|
|
51,626
|
|
|
|
1.95
|
|
Other MBS
|
|
|
-
|
|
|
|
-
|
|
|
|
1,523
|
|
|
|
1.76
|
|
|
|
7,696
|
|
|
|
2.33
|
|
|
|
24,303
|
|
|
|
2.23
|
|
Total
|
|
$
|
1,015
|
|
|
|
2.47
|
%
|
|
$
|
4,345
|
|
|
|
1.82
|
%
|
|
$
|
33,986
|
|
|
|
2.08
|
%
|
|
$
|
108,973
|
|
|
|
2.00
|
%
|
(1) For available for sale securities carried at estimated fair value, the weighted average yield is computed using amortized cost without a tax equivalent
adjustment for tax-exempt obligations.
18
Management reviews investment securities quarterly for the presence of other than temporary impairment (“OTTI”), taking into consideration current market conditions, the extent and nature of
changes in estimated fair value, issuer rating changes and trends, financial condition of the underlying issuers, current analysts’ evaluations, the Company’s ability and intent to hold investments until a recovery of estimated fair value, which may
be maturity, as well as other factors. There was no OTTI charge for investment securities for the years ended March 31, 2020, 2019 or 2018. However, additional deterioration in market and economic conditions related to the COVID-19 pandemic may have
an adverse impact on credit quality in the future and result in OTTI charges.
Deposit Activities and Other Sources of Funds
General. Deposits, loan repayments and loan sales are the major sources of the Company's funds for lending and other investment purposes. Loan repayments
are a relatively stable source of funds, while deposit inflows and outflows and loan prepayments are significantly influenced by general interest rates and money market conditions. Borrowings may be used on a short-term basis to compensate for
reductions in the availability of funds from other sources. They may also be used on a longer-term basis for general business purposes.
Deposit Accounts. The Company attracts deposits from within its primary market area by offering a broad selection of deposit instruments, including demand
deposits, negotiable order of withdrawal ("NOW") accounts, money market accounts, savings accounts, certificates of deposit and retirement savings plans. The Company has focused on building customer relationship deposits which include both business
and consumer depositors. Deposit account terms vary according to, among other factors, the minimum balance required, the time periods the funds must remain on deposit and the interest rate. In determining the terms of its deposit accounts, the
Company considers the rates offered by its competition, profitability to the Company, matching deposit and loan products and customer preferences and concerns.
The following table sets forth the average balances of deposit accounts held by the Company at the dates indicated (dollars in thousands):
|
|
Year Ended March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
|
Average
Balance
|
|
|
Average
Rate
|
|
|
Average
Balance
|
|
|
Average
Rate
|
|
|
Average
Balance
|
|
|
Average
Rate
|
|
|
|
|
|
Non-interest-bearing demand
|
|
$
|
284,748
|
|
|
|
0.00
|
%
|
|
$
|
289,707
|
|
|
|
0.00
|
%
|
|
$
|
264,128
|
|
|
|
0.00
|
%
|
Interest-bearing checking
|
|
|
180,969
|
|
|
|
0.06
|
|
|
|
180,256
|
|
|
|
0.06
|
|
|
|
170,124
|
|
|
|
0.06
|
|
Savings accounts
|
|
|
189,207
|
|
|
|
0.56
|
|
|
|
136,720
|
|
|
|
0.11
|
|
|
|
132,376
|
|
|
|
0.10
|
|
Money market accounts
|
|
|
194,061
|
|
|
|
0.12
|
|
|
|
252,202
|
|
|
|
0.12
|
|
|
|
275,092
|
|
|
|
0.12
|
|
Certificates of deposit
|
|
|
112,282
|
|
|
|
1.34
|
|
|
|
105,049
|
|
|
|
0.43
|
|
|
|
136,370
|
|
|
|
0.47
|
|
Total
|
|
$
|
961,267
|
|
|
|
0.30
|
%
|
|
$
|
963,934
|
|
|
|
0.10
|
%
|
|
$
|
978,090
|
|
|
|
0.12
|
%
|
Deposit accounts totaled $990.4 million at March 31, 2020 compared to $925.1 million at March 31, 2019. The Company did not have any wholesale-brokered deposits at March 31, 2020 and 2019. The
Company continues to focus on core deposits and growth generated by customer relationships as opposed to obtaining deposits through the wholesale markets, although the Company continued to experience increased competition for customer deposits within
its market area during fiscal year 2020. Core branch deposits (comprised of all demand, savings, interest checking accounts and all time deposits excluding wholesale-brokered deposits, trust account deposits, Interest on Lawyer Trust Accounts
(“IOLTA”), public funds, and internet based deposits) increased $58.7 million since March 31, 2019. At March 31, 2020, the Company had $5.3 million, or 0.01% of total deposits, in Certificate of Deposit Account Registry Service (“CDARS”) and Insured
Cash Sweep (“ICS”) deposits, which were gathered from customers within the Company’s primary market-area. CDARS and ICS deposits allow customers access to FDIC insurance on deposits exceeding the $250,000 FDIC insurance limit.
At March 31, 2020 and 2019, the Company also had $12.2 million and $3.2 million, respectively, in deposits from public entities located in the States of Washington and Oregon, all of which were
fully covered by FDIC insurance or secured by pledged collateral.
19
The Company is enrolled in an internet deposit listing service. Under this listing service, the Company may post certificates of deposit rates on an internet site where institutional investors
have the ability to deposit funds with the Company. At March 31, 2020 and 2019, the Company did not have any deposits through this listing service as the Company chose not to utilize these internet based deposits. Although the Company did not
originate any internet based deposits during the year ended March 31, 2020, the Company may do so in the future consistent with its asset/liability objectives.
Deposit growth remains a key strategic focus for the Company and our ability to achieve deposit growth, particularly growth in core deposits, is subject to many risk factors including the effects
of competitive pricing pressures, changing customer deposit behavior, and increasing or decreasing interest rate environments. Adverse developments with respect to any of these risk factors could limit the Company’s ability to attract and retain
deposits and could have a material negative impact on the Company’s future financial condition, results of operations and cash flows.
The following table presents the maturity period, amount and weighted average rate of certificates of deposit equal to or greater than $100,000 at March 31, 2020 (dollars in thousands):
Maturity Period
|
|
Amount
|
|
|
Weighted
Average Rate
|
|
|
|
|
|
Three months or less
|
|
$
|
7,959
|
|
|
|
1.07
|
%
|
Over three through six months
|
|
|
14,065
|
|
|
|
1.76
|
|
Over six through 12 months
|
|
|
24,365
|
|
|
|
1.71
|
|
Over 12 months
|
|
|
45,345
|
|
|
|
2.32
|
|
Total
|
|
$
|
91,734
|
|
|
|
1.96
|
%
|
Borrowings. The Company relies upon advances from the FHLB and borrowings from the Federal Reserve Bank of San Francisco (“FRB”) to supplement its supply of
lendable funds and to meet deposit withdrawal requirements. Advances from the FHLB and borrowings from the FRB are typically secured by the Bank's commercial business loans, commercial real estate loans and first mortgage residential loans. At March
31, 2020, the Bank did not have any FHLB advances or FRB borrowings. At March 31, 2019, the Bank had FHLB advances totaling $56.6 million and no FRB borrowings.
The FHLB functions as a central reserve bank providing credit for member financial institutions. As a member, the Bank is required to own capital stock in the FHLB and is authorized to apply for
advances on the security of such stock and certain of its mortgage loans and other assets (primarily securities which are obligations of, or guaranteed by, the U.S.) provided certain standards related to credit-worthiness have been met. The FHLB
determines specific lines of credit for each member institution and the Bank has a line of credit with the FHLB equal to 45% of its total assets to the extent the Bank provides qualifying collateral and holds sufficient FHLB stock. At March 31, 2020,
the Bank had an available credit capacity of $532.5 million, subject to sufficient collateral and stock investment.
The Bank also has a borrowing arrangement with the FRB with an available credit facility of $67.3 million, subject to pledged collateral, as of March 31, 2020. The following table sets forth
certain information concerning the Company's borrowings for the periods indicated (dollars in thousands):
|
|
Year Ended March 31,
|
|
|
|
2020
|
|
|
2019
|
|
|
2018
|
|
|
|
|
|
Maximum amounts of FHLB advances outstanding at any month end
|
|
$
|
77,241
|
|
|
$
|
62,638
|
|
|
$
|
14,050
|
|
Average FHLB advances outstanding
|
|
|
20,532
|
|
|
|
15,400
|
|
|
|
787
|
|
Weighted average rate on FHLB advances
|
|
|
2.54
|
%
|
|
|
2.58
|
%
|
|
|
1.60
|
%
|
Maximum amounts of FRB borrowings outstanding at any month end
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
Average FRB borrowings outstanding
|
|
|
33
|
|
|
|
3
|
|
|
|
1
|
|
Weighted average rate on FRB borrowings
|
|
|
1.92
|
%
|
|
|
3.00
|
%
|
|
|
1.50
|
%
|
The CARES Act authorized the SBA to temporarily guarantee loans under a new federal loan program called the Paycheck Protection Program (“PPP”) pursuant to which we have originated COVID-19
related loans. We may utilize the FRB's Paycheck Protection Program Liquidity Facility pursuant to which the Company will pledge its PPP loans as collateral at face value to obtain FRB non-recourse borrowings. For additional information, see “Item 7.
“Management’s Discussion and Analysis of Financial Condition and Results of Operations – Recent Developments Related to COVID-19.”
20
At March 31, 2020, the Company had three wholly-owned subsidiary grantor trusts totaling $26.7 million that were established for the purpose of issuing trust preferred securities and common
securities. The trust preferred securities accrue and pay distributions periodically at specified annual rates as provided in each trust agreement. The trusts used the net proceeds from each of the offerings to purchase a like amount of junior
subordinated debentures (the “Debentures”) of the Company. The Debentures are the sole assets of the trusts. The Company’s obligations under the Debentures and related documents, taken together, constitute a full and unconditional guarantee by the
Company of the obligations of the trusts. The trust preferred securities are mandatorily redeemable upon maturity of the Debentures or upon earlier redemption as provided in the indentures. The Company has the right to redeem the Debentures in whole
or in part on or after specific dates, at a redemption price specified in the indentures governing the Debentures plus any accrued but unpaid interest to the redemption date. The Company also has the right to defer the payment of interest on each of
the Debentures for a period not to exceed 20 consecutive quarters, provided that the deferral period does not extend beyond the stated maturity. During such deferral period, distributions on the corresponding trust preferred securities will also be
deferred and the Company may not pay cash dividends to the holders of shares of the Company’s common stock. The common securities issued by the grantor trusts are held by the Company, and the Company’s investment in the common securities of $836,000
at both March 31, 2020 and 2019 is included in prepaid expenses and other assets in the Consolidated Balance Sheets included in the Consolidated Financial Statements contained in Item 8 of this Form 10-K. For more information, see also Note 10 of the
Notes to the Consolidated Financial Statements contained in Item 8 of this Form 10-K.
Taxation
For details regarding the Company’s taxes, see Note 11 of the Notes to the Consolidated Financial Statements contained in Item 8 of this Form 10-K.
Personnel
As of March 31, 2020, the Company had 252 full‑time equivalent employees, none of whom are represented by a collective bargaining unit. The Company believes its relationship with its employees is
good.
Corporate Information
The Company’s principal executive offices are located at 900 Washington Street, Vancouver, Washington 98660. Its telephone number is (360) 693-6650. The Company maintains a website with the
address www.riverviewbank.com. The information contained on the Company’s website is not included as a part of, or incorporated by reference into, this Annual Report on Form 10-K. Other than an investor’s own internet access charges, the Company
makes available free of charge through its website the Annual Report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after it has electronically filed
such material with, or furnished such material to, the Securities and Exchange Commission (“SEC”).
Subsidiary Activities
Under OCC regulations, the Bank is authorized to invest up to 3% of its assets in subsidiary corporations classified as service corporations, with amounts in excess of 2% only if primarily for
community purposes, and unlimited amounts in operating subsidiaries. At March 31, 2020, the Bank’s investments in its wholly-owned subsidiary of $1.3 million in Riverview Services, Inc. (“Riverview Services”) and majority-owned subsidiary of $6.4
million in the Trust Company were within these limitations.
Riverview Services acts as a trustee for deeds of trust on mortgage loans granted by the Bank and receives a reconveyance fee for each deed of trust. Riverview Services had net income of $23,000
for the fiscal year ended March 31, 2020 and total assets of $1.3 million at March 31, 2020. Riverview Services’ operations are included in the Consolidated Financial Statements of the Company contained in Item 8 of this Form 10-K.
The Trust Company is an asset management company providing trust, estate planning and investment management services. The Trust Company had net income of $991,000 for the fiscal year ended March
31, 2020 and total assets of $6.9 million at that date. The Trust Company earns fees on the management of assets held in fiduciary or agency capacity. At March 31, 2020, total assets under management were $1.2 billion. The Trust Company’s operations
are included in the Consolidated Financial Statements of the Company contained in Item 8 of this Form 10-K.
21
Information about our Executive Officers. The following table sets forth certain information regarding the executive officers of the Company and its subsidiaries:
Name
|
Age (1)
|
Position
|
Kevin J. Lycklama
|
42
|
President and Chief Executive Officer
|
David Lam
|
43
|
Executive Vice President and Chief Financial Officer
|
Daniel D. Cox
|
42
|
Executive Vice President and Chief Credit Officer
|
Kim J. Capeloto
|
58
|
Executive Vice President and Chief Banking Officer
|
Steven P. Plambeck
|
60
|
Executive Vice President and Chief Lending Officer
|
Christopher P. Cline
|
59
|
President and Chief Executive Officer of Riverview Trust Company
|
(1) At March 31, 2020
Kevin J. Lycklama is President and Chief Executive Officer of the Company, positions he has held since April 2, 2018. Prior to assuming the role of
President and Chief Executive Officer, Mr. Lycklama served as Executive Vice President and Chief Operating Officer of the Company, positions he had held since July 2017. Prior to July 2017, Mr. Lycklama served as Executive Vice President and Chief
Financial Officer of the Company since 2008 and Vice President and Controller of the Bank since 2006. Prior to joining Riverview, Mr. Lycklama spent five years with a local public accounting firm advancing to the level of audit manager. He holds a
Bachelor of Arts degree from Washington State University, is a graduate of the Pacific Coast Banking School and is a certified public accountant (CPA). Mr. Lycklama is a member of the Washington State University Vancouver Advisory Council.
David Lam is Executive Vice President and Chief Financial Officer of the Company, positions he has held since July 2017. Prior to July 2017, Mr. Lam served
as Senior Vice President and Controller of the Bank since 2008. He is responsible for accounting, SEC reporting and treasury functions for the Bank and the Company. Prior to joining Riverview, Mr. Lam spent ten years working in the public accounting
sector advancing to the level of audit manager. Mr. Lam holds a Bachelor of Arts degree in business administration with an emphasis in accounting from Oregon State University. Mr. Lam is a CPA, holds a chartered global management accountant
designation and is a member of both the American Institute of CPAs and Oregon Society of CPAs.
Daniel D. Cox is Executive Vice President and Chief Credit Officer and is responsible for credit administration related to the Bank’s commercial, mortgage
and consumer loan activities. Mr. Cox joined Riverview in August 2002 and spent five years as a commercial lender and progressed through the credit administration function, most recently serving as Senior Vice President of Credit Administration. He
holds a Bachelor of Arts degree from Washington State University and was an Honor Roll graduate of the Pacific Coast Banking School. Mr. Cox is an active mentor in the local schools and was the Past Treasurer and Endowment Chair for the Washougal
Schools Foundation and Past Board Member of Camas-Washougal Chamber of Commerce.
Kim J. Capeloto is Executive Vice President and Chief Banking Officer. Mr. Capeloto has been employed by the Bank since September 2010. Mr. Capeloto has
over 30 years of banking experience serving as regional manager for Union Bank of California and Wells Fargo Bank directing small business and personal banking activities. Prior to joining the Bank, Mr. Capeloto held the position of President and
Chief Executive Officer of the Greater Vancouver Chamber of Commerce. Mr. Capeloto is active in numerous professional and civic organizations.
Steven P. Plambeck is Executive Vice President and Chief Lending Officer, a position he has held since March 1, 2018.
Mr. Plambeck is responsible for all loan production including commercial, consumer, mortgage and builder/developer construction loans. Mr. Plambeck joined Riverview in January 2011 as Director of Medical Banking. For the past two years Mr. Plambeck
served as Senior Vice President and Team Leader for the Portland Commercial Team. Mr. Plambeck holds a Bachelor of Science degree in Accounting from the University of Wyoming and is also a graduate of the Pacific Coast Banking School. Mr. Plambeck is
a board member for the Providence St. Vincent Council of Trustees, Providence Heart and Vascular Institute and the Providence Brain and Spine Institute. Mr. Plambeck is also a member of the Medical and Dental Advisory Team.
Christopher P. Cline is President and Chief Executive Officer of the Trust Company, a wholly-owned subsidiary of the Bank. Mr. Cline joined the Trust
Company in 2016, after having spent eight years managing the trust department of Wells Fargo’s Private Bank in Oregon and Southwest Washington. Prior to that, Mr. Cline was an estate planning attorney for 17 years, most recently as a partner at
Holland & Knight. Mr. Cline manages all aspects of the trust business, is a Fellow of the American College of Trust and Estate Counsel and is a nationally recognized speaker and author, having written books on estate planning and trust
administration. Mr. Cline holds a Bachelor of Arts degree from San Francisco State University and a Juris Doctor degree from Hastings College of the Law in San Francisco.
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REGULATION
The following is a brief description of certain laws and regulations which are applicable to the Company and the Bank. The description of these laws and regulations, as well as descriptions of
laws and regulations contained elsewhere herein, does not purport to be complete and is qualified in its entirety by reference to the applicable laws and regulations.
Legislation is introduced from time to time in the United States Congress (“Congress”) that may affect the Company’s and Bank’s operations. In addition, the regulations governing the Company and
the Bank may be amended from time to time by the OCC, the FDIC, the Federal Reserve Board or the SEC, as appropriate. Any such legislation or regulatory changes in the future could have an adverse effect on our
operations and financial condition. We cannot predict whether any such changes may occur.
General
As a federally chartered savings bank, the Bank is subject to extensive regulation, examination and supervision by the OCC, as its primary federal regulator, and the FDIC, as the insurer of its
deposits. As used herein, the terms “savings institution” and “savings association” refer to federally chartered savings banks. Additionally, the Company is subject to extensive regulation, examination and
supervision by the Federal Reserve as its primary federal regulator. The Bank is a member of the FHLB System and its deposits are insured up to applicable limits by the DIF, which is administered by the FDIC. The Bank must file reports with the OCC
concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions such as mergers with, or acquisitions of, other financial institutions. There are periodic examinations of the
Bank by the OCC and of the Company by the Federal Reserve to evaluate safety and soundness and compliance with various regulatory requirements. This regulatory structure establishes a comprehensive framework of activities in which the Bank may engage
and is intended primarily for the protection of the DIF and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies,
including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such policies, whether by the OCC, the Federal Reserve, the FDIC or Congress, could have a
material adverse impact on the Company and the Bank and their operations.
In connection with the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”), the laws and regulations affecting depository institutions and
their holding companies have changed particularly affecting the bank regulatory structure and the lending, investment, trading and operating activities of depository institutions and their holding companies. Among other changes, the Dodd-Frank Act
established the Consumer Financial Protection Bureau (“CFPB”) as an independent bureau of the Federal Reserve Board. The CFPB assumed responsibility for the implementation of the federal financial consumer protection and fair lending laws and
regulations and has authority to impose new requirements. The Bank is subject to regulations issued by the CFPB, but as a smaller financial institution, the Bank is generally subject to supervision and enforcement by the OCC with respect to its
compliance with consumer financial protection laws and CFPB regulations.
On May 23, 2018, the President signed into law the Economic Growth, Regulatory Relief, and Consumer Protection Act passed by Congress (the “Act”). The Act contains a number of provisions extending
regulatory relief to banks and savings institutions and their holding companies. Some of these provisions may benefit the Company and the Bank, such as (1) a simplified capital ratio, called the Community Bank Leverage Ratio, computed as the ratio of
tangible equity capital to average consolidated total assets to be set by the federal banking regulators at not less than 8% and not more than 10%, which for most institutions with less than $10 billion in consolidated assets will replace the
leverage and risk-based capital ratios under current regulations; (2) an option for federal savings institutions to operate as national banks with respect to limits on lending, investments, and subsidiaries, without changing their charters to
national bank charters; and (3) a lower risk weight on certain loans classified as high volatility commercial real estate exposures. Effective January 1, 2020, the Community Bank Leverage Ratio is 9.0%.
23
Federal Regulation of Savings Institutions
Office of the Comptroller of the Currency. The OCC has extensive authority over the operations of federal savings institutions. As part of this authority,
the Bank is required to file periodic reports with the OCC and is subject to periodic examinations by the OCC. The OCC also has extensive enforcement authority over federal savings institutions, including the Bank. This enforcement authority
includes, among other things, the ability to assess civil money penalties, issue cease-and-desist or removal orders and initiate prompt corrective action orders. In general, these enforcement actions may be initiated for violations of laws and
regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with the OCC. Except under certain circumstances, public disclosure of final
enforcement actions by the OCC is required by law.
All federal savings institutions are required to pay assessments to the OCC to fund the agency's operations. The general assessments, paid on a semi-annual basis, are determined based on the
savings institution's total assets, including consolidated subsidiaries. The Bank's OCC assessment for the fiscal year ended March 31, 2020 was $244,000.
The Bank's general permissible lending limit for loans to one borrower is equal to the greater of $500,000 or 15% of unimpaired capital and surplus (except for loans fully secured by certain
readily marketable collateral, in which case this limit is increased to 25% of unimpaired capital and surplus). At March 31, 2020, the Bank's lending limit under this restriction was $22.2 million and, at that date, the Bank’s largest lending
relationship with one borrower was $16.9 million, which consisted of one commercial real estate loan of $14.4 million and one commercial construction loan with a contractual amount of $2.5 million. The commercial construction loan has an outstanding
balance of $1.6 million and undisbursed funds of $900,000 at March 31, 2020. Both loans are performing in accordance to their original terms.
The OCC’s oversight of the Bank includes reviewing its compliance with the customer privacy requirements imposed by the Gramm-Leach-Bliley Act of 1999 (“GLBA”) and the anti-money laundering
provisions of the USA Patriot Act. The GLBA privacy requirements place limitations on the sharing of consumer financial information with unaffiliated third parties. They also require each financial institution offering financial products or services
to retail customers to provide such customers with its privacy policy and with the opportunity to opt out of the sharing of their personal information with unaffiliated third parties. The USA Patriot Act imposes significant responsibilities on
financial institutions to prevent the use of the U.S. financial system to fund terrorist activities. Its anti-money laundering provisions require financial institutions operating in the U.S. to develop anti-money laundering compliance programs and
due diligence policies and controls to ensure the detection and reporting of money laundering. These compliance programs are intended to supplement requirements under the Bank Secrecy Act and the regulations of the Office of Foreign Assets Control.
The OCC, as well as the other federal banking agencies, has adopted guidelines establishing safety and soundness standards on such matters as loan underwriting and documentation, asset quality,
earnings standards, internal controls and audit systems, interest rate risk exposure and compensation and other employee benefits. Any institution that fails to comply with these standards must submit a compliance plan.
Capital Requirements. Federally insured savings institutions, such as the Bank, are required by the OCC to maintain minimum levels of regulatory capital,
including a common equity Tier 1 (“CET1”) capital to risk-based assets ratio, a Tier 1 capital to risk-based assets ratio, a total capital to risk-based assets ratio and a Tier 1 capital to total assets leverage ratio. The capital standards require
the maintenance of the following minimum capital ratios: (i) a CET1 capital ratio of 4.5%; (ii) a Tier 1 capital ratio of 6%; (iii) a total capital ratio of 8%; and (iv) a Tier 1 leverage ratio of 4%.
Certain changes in what constitutes regulatory capital, including the phasing-out of certain instruments as qualifying capital, are subject to transition periods, most of which have expired. The
Bank does not have any such instruments. Because of the Bank’s asset size, the Bank elected to take a one-time option to permanently opt-out of the inclusion of unrealized gains and losses on available for sale debt and equity securities in its
capital calculations.
The Bank also must maintain a capital conservation buffer consisting of additional CET1 capital greater than 2.5% of risk-weighted assets above the required minimum risk-based capital levels in
order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses.
In order to be considered well-capitalized under the prompt corrective action regulations, the Bank must maintain a CET1 risk-based ratio of 6.5%, a Tier 1 risk-based ratio of 8%, a total
risk-based capital ratio of 10% and a leverage ratio of 5%, and the Bank must not be subject to any of certain mandates by the OCC requiring it as an individual institution to meet any specified capital level. Effective January 1, 2020, a bank or
savings institution that elects to use the Community Bank Leverage Ratio will generally be considered well-capitalized and to have met the risk-based and leverage capital requirements of the capital regulations if it has a leverage ratio greater than
9.0%. In order to qualify for the Community
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Bank Leverage Ratio framework, in addition to maintaining a leverage ratio greater than 9%, the bank or institution also must have total consolidated assets of less than $10 billion, off-balance
sheet exposures of 25% or less of its total consolidated assets, and trading assets and trading liabilities of 5.0% or less of its total consolidated assets, all as of the end of the most recent quarter.
As of March 31, 2020, the most recent notification from the OCC categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action. For additional information,
see Note 13 of the Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K.
Prompt Corrective Action. An institution is considered adequately capitalized if it meets the minimum capital ratios described above. The OCC is required
to take certain supervisory actions against undercapitalized savings institutions, the severity of which depends upon the institution's degree of undercapitalization. Subject to a narrow exception, the OCC is required to appoint a receiver or
conservator for a savings institution that is critically undercapitalized. OCC regulations also require that a capital restoration plan be filed with the OCC within 45 days of the date a savings institution receives notice that it is
undercapitalized, significantly undercapitalized or critically undercapitalized. In addition, numerous mandatory supervisory actions become immediately applicable to an undercapitalized institution, including, but not limited to, increased monitoring
by regulators and restrictions on growth, capital distributions and expansion. Significantly undercapitalized and critically undercapitalized institutions are subject to more extensive mandatory regulatory actions. The OCC also can take a number of
discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors. An institution that is not well-capitalized is subject to certain restrictions on deposit rates and
brokered deposits.
Federal Home Loan Bank System. The Bank is a member of the FHLB, which is one of 11 regional Federal Home Loan Banks that administer the home financing
credit function of savings institutions, each of which serves as a reserve or central bank for its members within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes
loans or advances to members in accordance with policies and procedures established by the Board of Directors of the FHLB, which are subject to the oversight of the Federal Housing Finance Agency. All advances from the FHLB are required to be fully
secured by sufficient collateral as determined by the FHLB. In addition, all long-term advances are required to provide funds for residential home financing. See Business – “Deposit Activities and Other Sources of Funds – Borrowings.” As a member,
the Bank is required to purchase and maintain stock in the FHLB. At March 31, 2020, the Bank held $1.4 million in FHLB stock, which was in compliance with this requirement. During the year ended March 31, 2020, the Bank purchased $40,000 of FHLB
membership stock at par and redeemed $2.3 million of FHLB activity stock at par with the payoff of borrowed funds.
The FHLB continues to contribute to low- and moderately-priced housing programs through direct loans or interest subsidies on advances targeted for community investment and low- and
moderate-income housing projects. These contributions have adversely affected the level of FHLB dividends paid and could continue to do so in the future. These contributions could also have an adverse effect on the value of FHLB stock in the future.
A reduction in value of the Bank's FHLB stock may result in a decrease in net income and possibly capital.
Federal Deposit Insurance Corporation. The DIF of the FDIC insures deposits in the Bank up to $250,000 per separately insured depositor ownership rights or
category. As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of and to require reporting by FDIC-insured institutions. The Bank’s deposit insurance premiums for the fiscal year ended March 31, 2020 were
$81,000. The Bank received full credit for the premiums for the first three quarters of fiscal year 2020 from the FDIC since the DIF reserve ratio exceeded 1.35% for these quarters. The Bank has $44,000 of remaining small bank assessment credits as
of March 31, 2020.
Under its regulations, the FDIC sets assessment rates for established small institutions (generally, those with total assets of less than $10 billion) based on an institution’s weighted average
CAMELS component ratings and certain financial ratios. Total base assessment rates currently range from 3 to 30 basis points subject to certain adjustments. Assessment rates are expected to decrease in the future as the reserve ratio increases in
specified increments. The FDIC may increase or decrease its rates up to two basis points without further rule-making. In an emergency, the FDIC may also impose a special assessment.
The Dodd-Frank Act increased the minimum FDIC deposit insurance reserve ratio from 1.15 percent to 1.35 percent. The FDIC surpassed the 1.35% as of September 30, 2018. The Dodd-Frank Act directed
the FDIC to offset the effects of higher assessments due to the increase in the reserve ratio on established small institutions by charging higher assessments to large institutions. To implement this mandate, large and highly complex institutions
paid a surcharge on their base since
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established small institutions automatically receive credits from the FDIC for the portion of their assessments that contribute to the increase.
The FDIC may prohibit any insured institution from engaging in any activity determined by regulation or order to pose a serious risk to the DIF. The FDIC may terminate the deposit insurance of any
insured depository institution, including the Bank, if it determines after a hearing that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any
applicable law, regulation, order or any condition imposed by an agreement with the FDIC. It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible
capital. If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC. Management
is not aware of any existing circumstances which would result in termination of the deposit insurance of the Bank.
Qualified Thrift Lender Test. All federal savings institutions, including the Bank, are required to meet a qualified thrift lender ("QTL") test to avoid
certain restrictions on their operations. This test requires a savings institution to have at least 65% of its total assets, as defined by regulation, in qualified thrift investments on a monthly average for nine out of every 12 months on a rolling
basis. As an alternative, the savings institution may maintain 60% of its assets in those assets specified in Section 7701(a) (19) of the Internal Revenue Code ("Code"). Under either test, such assets primarily consist of residential housing related
loans and investments.
Any institution that fails to meet the QTL test is subject to certain operating restrictions and may be required to convert to a national bank charter, and a savings and loan holding company of
such an institution may become regulated as a bank holding company. As of March 31, 2020, the Bank maintained 89.83% of its portfolio assets in qualified thrift investments and therefore met the QTL test.
Limitations on Capital Distributions. OCC regulations impose various restrictions on savings institutions with respect to their ability to make
distributions of capital, which include dividends, stock redemptions or repurchases, cash-out mergers and other transactions charged to the capital account. Generally, savings institutions, such as the Bank, that before and after the proposed
distribution are well-capitalized, may make capital distributions during any calendar year equal to up to 100% of net income for the year-to-date plus retained net income for the two preceding years. However, an institution deemed to be in need of
more than normal supervision by the OCC may have its dividend authority restricted by the OCC. If the Bank, however, proposes to make a capital distribution when it does not meet its capital requirements (or will not following the proposed capital
distribution) or that will exceed these net income-based limitations, it must obtain the OCC's approval prior to making such distribution. In addition, the Bank must file a prior written notice of a dividend with the Federal Reserve. The Federal
Reserve or the OCC may object to a capital distribution based on safety and soundness concerns. Additional restrictions on Bank dividends may apply if the Bank fails the QTL test. In addition, as noted above, if the Bank does not have the required
capital conservation buffer, its ability to pay dividends to the Company will be limited, which may limit the ability of the Company to pay dividends to its stockholders.
Activities of Savings Associations and their Subsidiaries. When a savings institution establishes or acquires a subsidiary or elects to conduct any new
activity through a subsidiary that the savings institution controls, the savings institution must file a notice or application with the OCC and, in certain circumstances with the FDIC, and receive regulatory approval or non-objection. Savings
institutions also must conduct the activities of subsidiaries in accordance with existing regulations and orders. With respect to subsidiaries generally, the OCC may determine that investment by a savings institution in, or the activities of, a
subsidiary must be restricted or eliminated based on safety and soundness or legal reasons.
Transactions with Affiliates. The Bank’s authority to engage in transactions with affiliates is limited by Sections 23A and 23B of the Federal Reserve Act
as implemented by the Federal Reserve’s Regulation W. The term affiliates for these purposes generally mean any company that controls or is under common control with an institution except subsidiaries of the institution. The Company and its
non-savings institution subsidiaries are affiliates of the Bank. In general, transactions with affiliates must be on terms that are as favorable to the institution as comparable transactions with non-affiliates. In addition, certain types of
transactions are restricted to an aggregate percentage of the institution’s capital. In addition, savings institutions are prohibited from lending to any affiliate that is engaged in activities that are not permissible for bank holding companies and
no savings institution may purchase the securities of any affiliate other than a subsidiary. FDIC-insured institutions are subject, with certain exceptions, to certain restrictions on extensions of credit to their parent holding companies or other
affiliates, on investments in the stock or other securities of affiliates and on the taking of such stock or securities as collateral from any borrower. Collateral in specified amounts must be provided by affiliates in order to receive loans from an
institution. In addition, these institutions are prohibited from engaging in certain tying arrangements in connection with any extension of credit or the providing of any property or service.
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The Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley Act”) generally prohibits a company that makes filings with the SEC from making loans to its executive officers and directors. That act, however,
contains a specific exception for loans by a depository institution to its executive officers and directors, if the lending is in compliance with federal banking laws. Under such laws, the Bank’s authority to extend credit to executive officers,
directors and 10% stockholders (“insiders”), as well as entities which such persons control, is limited. The law restricts both the individual and aggregate amount of loans the Bank may make to insiders based, in part, on the Bank’s capital position
and requires certain Board approval procedures to be followed. Such loans must be made on terms substantially the same as those offered to unaffiliated individuals and not involve more than the normal risk of repayment. There is an exception for
loans made pursuant to a benefit or compensation program that is widely available to all employees of the institution and does not give preference to insiders over other employees. There are additional restrictions applicable to loans to executive
officers.
Community Reinvestment Act and Consumer Protection Laws. Under the Community Reinvestment Act of 1977 (“CRA”), every FDIC-insured institution has a
continuing and affirmative obligation consistent with safe and sound banking practices to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or
programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OCC, in
connection with the examination of the Bank, to assess the institution’s record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications, such as a merger or the establishment of a
branch, by the Bank. The OCC may use an unsatisfactory rating as the basis for the denial of an application. Similarly, the Federal Reserve is required to take into account the performance of an insured institution under the CRA when considering
whether to approve an acquisition by the institution’s holding company. Due to the heightened attention being given to the CRA in the past few years, the Bank may be required to devote additional funds for investment and lending in its local
community.
In connection with its deposit-taking, lending and other activities, the Bank is subject to a number of federal laws designed to protect consumers and promote lending to various sectors of the
economy and population. Some state laws can apply to these activities as well. The CFPB issues regulations and standards under these federal laws, which include, among others, the Equal Credit Opportunity Act, the Truth-in-Lending Act, the Home
Mortgage Disclosure Act and the Real Estate Settlement Procedures Act. Through its rulemaking authority, the CFPB has promulgated a number of regulations under these laws that affect our consumer businesses. Among these are regulations setting
“ability to repay” and “qualified mortgage” standards for residential mortgage loans and establishing new mortgage loan servicing and loan originator compensation standards. The Bank devotes substantial compliance, legal and operational business
resources to ensure compliance with applicable consumer protection standards. In addition, the OCC has enacted customer privacy regulations that limit the ability of the Bank to disclose nonpublic consumer information to non-affiliated third parties.
The regulations require disclosure of privacy policies and allow consumers to prevent certain personal information from being shared with non-affiliated parties.
Enforcement. The OCC has primary enforcement responsibility over federally-chartered savings institutions and has the authority to bring action against all
"institution-affiliated parties," including shareholders, and any attorneys, appraisers and accountants who knowingly or recklessly participate in a wrongful action likely to have an adverse effect on an insured institution. Formal enforcement action
may range from the issuance of a capital directive or cease and desist order to removal of officers or directors, receivership, conservatorship or termination of deposit insurance. Civil penalties cover a wide range of violations. The FDIC has the
authority to recommend to the OCC that enforcement action be taken with respect to a particular savings institution. If action is not taken by the OCC, the FDIC has authority to take such action under certain circumstances. Federal law also
establishes criminal penalties for certain violations.
Standards for Safety and Soundness. As required by statute, the federal banking agencies have adopted interagency guidelines prescribing standards for
safety and soundness. The guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes impaired. If the OCC determines that a
savings institution fails to meet any standard prescribed by the guidelines, the OCC may require the institution to submit an acceptable plan to achieve compliance with the standard.
Federal Reserve System. The Federal Reserve requires that all depository institutions maintain reserves on transaction accounts or non-personal time
deposits. These reserves may be in the form of cash or non-interest-bearing deposits with the regional Federal Reserve Bank. Interest-bearing checking accounts and other types of accounts that permit payments or transfers to third parties fall within
the definition of transaction accounts and are subject to Regulation D reserve requirements, as are any non-personal time deposits at a bank. At March 31, 2020, the Bank was in compliance with these
27
reserve requirements. The balances maintained to meet the reserve requirements imposed by the Federal Reserve Board may be used to satisfy any liquidity requirements that may be imposed by the
OCC.
Commercial Real Estate Lending Concentrations. The federal banking agencies have issued guidance on sound risk management practices for concentrations in
commercial real estate lending. The particular focus is on exposure to commercial real estate loans that are dependent on the cash flow from the real estate held as collateral and that are likely to be sensitive to conditions in the commercial real
estate market (as opposed to real estate collateral held as a secondary source of repayment or as an abundance of caution). The purpose of the guidance is not to limit a bank’s commercial real estate lending but to guide banks in developing risk
management practices and capital levels commensurate with the level and nature of real estate concentrations. The guidance directs the OCC and other federal bank regulatory agencies to focus their supervisory resources on institutions that may have
significant commercial real estate loan concentration risk. A federal savings bank that has experienced rapid growth in commercial real estate lending, has notable exposure to a specific type of commercial real estate loan, or is approaching or
exceeding the following supervisory criteria may be identified for further supervisory analysis with respect to real estate concentration risk:
•
|
Total reported loans for construction, land development and other land represent 100% or more of the bank’s capital; or
|
•
|
Total commercial real estate loans (as defined in the guidance) represent 300% or more of the bank’s total capital or the outstanding balance of the bank’s commercial real estate loan
portfolio has increased 50% or more during the prior 36 months.
|
The guidance provides that the strength of an institution’s lending and risk management practices with respect to such concentrations will be taken into account in supervisory guidance on
evaluation of capital adequacy.
Environmental Issues Associated with Real Estate Lending. The Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”), is a federal
statute that generally imposes strict liability on all prior and present "owners and operators" of sites containing hazardous waste. However, Congress acted to protect secured creditors by providing that the term “owner and operator” excludes a
person whose ownership is limited to protecting its security interest in the site. Since the enactment of the CERCLA, this “secured creditor exemption” has been the subject of judicial interpretations which have left open the possibility that lenders
could be liable for cleanup costs on contaminated property that they hold as collateral for a loan. To the extent that legal uncertainty exists in this area, all creditors, including the Bank, that have made loans secured by properties with potential
hazardous waste contamination (such as petroleum contamination) could be subject to liability for cleanup costs, which could substantially exceed the value of the collateral property.
Bank Secrecy Act/Anti-Money Laundering Laws. The Bank is subject to the Bank Secrecy Act and other anti-money laundering laws and regulations, including the
USA Patriot Act of 2001. These laws and regulations require the Bank to implement policies, procedures, and controls to detect, prevent, and report money laundering and terrorist financing and to verify the identity of their customers. Violations of
these requirements can result in substantial civil and criminal sanctions. In addition, provisions of the USA Patriot Act require the federal financial institution regulatory agencies to consider the effectiveness of a financial institution's
anti-money laundering activities when reviewing mergers and acquisitions.
Other Consumer Protection Laws and Regulations. The Dodd-Frank Act established the CFPB and empowered it to exercise broad regulatory, supervisory and
enforcement authority with respect to both new and existing consumer financial protection laws. The Bank is subject to consumer protection regulations issued by the CFPB, but as a financial institution with assets of less than $10 billion, the Bank
is generally subject to supervision and enforcement by the OCC with respect to compliance with consumer financial protection laws and CFPB regulations.
The Bank is subject to a broad array of federal and state consumer protection laws and regulations that govern almost every aspect of its business relationships with consumers. While the following
list is not exhaustive, these include the Truth-in-Lending Act, the Truth in Savings Act, the Electronic Fund Transfers Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Real Estate Settlement
Procedures Act, the Home Mortgage Disclosure Act, the Fair Credit Reporting Act, the Right to Financial Privacy Act, the Home Ownership and Equity Protection Act, the Fair Credit Billing Act, the Homeowners Protection Act, the Check Clearing for the
21st Century Act, laws governing flood insurance, laws governing consumer protections in connection with the sale of insurance, federal and state laws prohibiting unfair and deceptive business practices, and various regulations that implement some or
all of the foregoing. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits, making loans, collecting loans, and providing other
services. Failure to comply with these laws and regulations can subject the Bank to various penalties, including but not limited to, enforcement actions, injunctions, fines, civil liability, criminal penalties, punitive damages, and the loss of
certain contractual rights.
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Savings and Loan Holding Company Regulation
General. The Company is a unitary savings and loan holding company subject to regulatory oversight of the Federal Reserve. Accordingly, the Company is
required to register and file reports with the Federal Reserve and is subject to regulation and examination by the Federal Reserve. In addition, the Federal Reserve has enforcement authority over the Company and its non-savings institution
subsidiaries, which also permits the Federal Reserve to restrict or prohibit activities that are determined to present a serious risk to the subsidiary savings institution. In accordance with the Dodd-Frank Act, the Federal Reserve must require any
company that controls an FDIC-insured depository institution to serve as a source of financial strength for the institution. These and other Federal Reserve policies, as well as the capital conservatism buffer requirement, may restrict the Company’s
ability to pay dividends.
Capital Requirements. For a savings and loan holding company that qualifies as a small bank
holding company under the Federal Reserve’s Small Bank Holding Company Policy Statement, such as the Company, the capital regulations apply to its savings institution subsidiaries, but not the Company. The Federal Reserve expects the holding
company’s savings institution subsidiaries to be well capitalized under the prompt corrective action regulations. At March 31, 2020, the Company exceeded all regulatory capital requirements. See “Federal Regulation of Savings Institutions- Capital
Requirements” above.
Activities Restrictions. The GLBA provides that no company may acquire control of a savings association after May 4, 1999 unless it engages only in the
financial activities permitted for financial holding companies under the law or for multiple savings and loan holding companies. Further, the GLBA specifies that, subject to a grandfather provision, existing savings and loan holding companies may
only engage in such activities. The Company qualifies for grandfathering and is therefore not restricted in terms of its activities. Upon any non-supervisory acquisition by the Company of another savings association as a separate subsidiary, the
Company would become a multiple savings and loan holding company and would be limited to activities permitted by Federal Reserve regulation.
Mergers and Acquisitions. The Company must obtain approval from the Federal Reserve before acquiring more than 5% of the voting stock of another savings
institution or savings and loan holding company or acquiring such an institution or holding company by merger, consolidation or purchase of its assets. In evaluating an application for the Company to acquire control of a savings institution, the
Federal Reserve would consider the financial and managerial resources and future prospects of the Company and the target institution, the effect of the acquisition on the risk to the DIF, the convenience and the needs of the community, including
performance under the CRA and competitive factors.
The Federal Reserve may not approve any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state,
subject to two exceptions; (i) supervisory acquisitions and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. The states vary in the extent
to which they permit interstate savings and loan holding company acquisitions.
Acquisition of the Company. Any company, except a bank holding company, that acquires control of
a savings association or savings and loan holding company becomes a “savings and loan holding company” subject to registration, examination and regulation by the Federal Reserve and must obtain the prior approval of the Federal Reserve under the
Savings and Loan Holding Company Act before obtaining control of a savings association or savings and loan holding company. A bank holding company must obtain the prior approval of the Federal Reserve under the Bank Holding Company Act before
obtaining control of, or more than 5% of a class of voting stock of, a savings association or savings and loan holding company and remains subject to regulation under the Bank Holding Company Act. The term “company” includes corporations,
partnerships, associations, and certain trusts and other entities. “Control” of a savings association or savings and loan holding company is deemed to exist if a company has voting control, directly or indirectly, of more than 25% of any class of the
savings association’s voting stock or controls in any manner the election of a majority of the directors of the savings association or savings and loan holding company, and may be presumed under other circumstances, including, but not limited to,
holding in certain cases 10% or more of a class of voting securities. In addition, a savings and loan holding company must obtain Federal Reserve approval prior to acquiring voting control of more than 5% of any class of voting stock of another
savings association or another savings association holding company. A similar provision limiting the acquisition by a bank holding company of 5% or more of a class of voting stock of any company is included in the Bank Holding Company Act.
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Accordingly, the prior approval of the Federal Reserve would be required:
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before any savings and loan holding company or bank holding company could acquire 5% or more of the common stock of the Company; and
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before any other company could acquire 25% or more of the common stock of the Company and may be required for an acquisition of as little as 10% of such stock.
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In addition, persons that are not companies are subject to the same or similar definitions of control with respect to savings and loan holding companies and savings associations and requirements
for prior regulatory approval by the Federal Reserve in the case of control of a savings and loan holding company or by the OCC in the case of control of a savings association not obtained through control of a holding company of such savings
association.
Dividends and Stock Repurchases. The Federal Reserve’s policy statement on the payment of cash dividends applicable to savings and loan holding companies
expresses its view that a savings and loan holding company must maintain an adequate capital position and generally should not pay cash dividends unless the company’s net income for the past year is sufficient to fully fund the cash dividends and
that the prospective rate of earnings appears consistent with the company’s capital needs, asset quality, and overall financial condition. The Federal Reserve policy statement also indicates that it would be inappropriate for a company experiencing
serious financial problems to borrow funds to pay dividends. In addition, a savings and loan holding company is required to give the Federal Reserve prior written notice of any purchase or redemption of its outstanding equity securities if the gross
consideration for the purchase or redemption, when combined with the net consideration paid for all such purchases or redemptions during the preceding twelve months, is equal to 10% or more of its consolidated net worth. The Federal Reserve may
disapprove such a purchase or redemption if it determines that the proposal would constitute an unsafe or unsound practice or would violate any law, regulation, Federal Reserve order or any condition imposed by, or written agreement with, the Federal
Reserve. The capital conservation buffer requirement may also limit or preclude dividends payable by the Company.
Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act was enacted in 2002 in response to public concerns regarding corporate accountability in connection with
accounting scandals. The stated goals of the Sarbanes-Oxley Act are to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving
the accuracy and reliability of corporate disclosures pursuant to the securities laws. The Sarbanes-Oxley Act generally applies to all companies, both U.S. and non-U.S., that file or are required to file periodic reports with the SEC under the
Securities Exchange Act of 1934, including the Company.
The Sarbanes-Oxley Act includes very specific additional disclosure requirements and new corporate governance rules, and requires the SEC and securities exchanges to adopt extensive additional
disclosures, corporate governance and related rules. The Sarbanes-Oxley Act represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state
corporate law, such as the relationship between a board of directors and management and between a board of directors and its committees.
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. The Dodd-Frank-Act imposed new restrictions and an expanded framework of regulatory
oversight for financial institutions, including capital regulations of depository institutions discussed above under “- Regulation and Supervision of the Bank - Capital Requirements.” In addition, among other requirements, the Dodd-Frank Act requires
public companies, such as the Company, to (i) provide their shareholders with a non-binding vote (a) at least once every three years on the compensation paid to executive officers and (b) at least once every six years on whether they should have a
“say on pay” vote every one, two or three years; (ii) have a separate, non-binding shareholder vote regarding golden parachutes for named executive officers when a shareholder vote takes place on mergers, acquisitions, dispositions or other
transactions that would trigger the parachute payments; (iii) provide disclosure in annual proxy materials concerning the relationship between the executive compensation paid and the financial performance of the issuer; and (iv) amend Item 402 of
Regulation S-K to require companies to disclose the ratio of the Chief Executive Officer's annual total compensation to the median annual total compensation of all other employees.
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Item 1A. Risk Factors
An investment in our common stock is subject to risks inherent in our business. Before making an investment decision, you should carefully consider the risks and
uncertainties described below together with all of the other information included in this report. In addition to the risks and uncertainties described below, other risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially and adversely affect our business, financial condition and results of operations. The value or market price of our common stock could decline due to any of these identified or other risks, and you could lose all or part of your investment. The risks below also include forward-looking statements. This
report is qualified in its entirety by these risk factors.
The COVID-19 pandemic has adversely affected our ability to conduct business and is expected to adversely impact our future financial results and those of our customers. The
ultimate impact will depend on future developments, which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities in response to the COVID-19 pandemic.
The COVID-19 pandemic has significantly adversely affected our operations and the way we provide banking and financial services to businesses and individuals, most of whom are currently under
varying levels of government issued stay-at-home orders. As an essential business, we continue to provide banking and financial services to our customers with drive-thru access available at the majority of our branch locations and in-person services
available by appointment. In addition, we continue to provide access to banking and financial services through online banking, ATMs and by telephone. If the COVID-19 pandemic worsens, it could limit or disrupt our ability to provide banking and
financial services to our customers.
In response to the stay-at-home orders, approximately forty percent of our employees are currently working remotely to enable us to continue to provide banking services to our customers.
Heightened cybersecurity, information security and operational risks may result from these remote work-from-home arrangements. We also could be adversely affected if key personnel or a significant number of employees were to become unavailable due to
the effects and restrictions of the COVID-19 pandemic. We also rely upon our third-party vendors to conduct business and to process, record and monitor transactions. If any of these vendors are unable to continue to provide us with these services, it
could negatively impact our ability to serve our customers. We have business continuity plans and other safeguards in place; however, there is no assurance that such plans and safeguards will be effective.
There is uncertainty surrounding the future economic conditions that will emerge in the months and years following the start of the COVID-19 pandemic. As a result, management is confronted with a
significant and unfamiliar degree of uncertainty in estimating the impact of the COVID-19 pandemic on credit quality, revenues and asset values. To date, the COVID-19 pandemic has resulted in declines in loan demand and loan originations (other than
through government sponsored programs such as the PPP), deposit availability, and market interest rates and has negatively impacted many of our business and consumer borrowers’ ability to make their loan payments. Because the length of the COVID-19
pandemic and the efficacy of the extraordinary measures being put in place to address its economic consequences (including recent reductions in the targeted federal funds rate) are unknown, until the COVID-19 pandemic subsides, we expect our net
interest income and net interest margin will be adversely affected. Many of our borrowers have become unemployed or may face unemployment, and certain businesses are at risk of insolvency as their revenues decline precipitously, especially in
businesses related to travel, hospitality, leisure and physical personal services. Businesses may ultimately not reopen as there is a significant level of uncertainty regarding the level of economic activity that will return to our markets over time,
the impact of governmental assistance, the speed of economic recovery, the resurgence of COVID-19 in subsequent seasons and changes to demographic and social norms that will take place.
The impact of the COVID-19 pandemic is expected to continue to adversely affect us during 2020 and possibly longer as the ability of many of our customers to make loan payments has been
significantly affected. Although the Company makes estimates of loan losses related to the COVID-19 pandemic as part of its evaluation of the allowance for loan losses, such estimates involve significant judgment and are made in the context of
significant uncertainty as to the impact the COVID-19 pandemic will have on the credit quality of our loan portfolio. It is likely that loan delinquencies, adversely classified loans and loan charge-offs will increase in the future as a result of the
COVID-19 pandemic. Consistent with guidance provided by banking regulators through an interagency statement and guidance under the CARES Act, we have modified loans by providing various loan payment deferral options to our borrowers affected by the
COVID-19 pandemic. Notwithstanding these modifications, these borrowers may not be able to resume making full payments on their loans once the COVID-19 pandemic subsides. Any increases in the allowance for loan losses will result in a decrease in net
income and, most likely, capital, and may have a material negative effect on our financial condition and results of operations.
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The PPP loans made by the Bank are guaranteed by the SBA and, if the loan funds are used by the borrower for specific purposes as provided under the PPP, may be fully or partially forgiven by the
SBA at which time, the Bank will receive funds related to the PPP loan forgiveness directly from the SBA. However, in the event of a loss resulting from a default on a PPP loan and a determination by the SBA that there was a deficiency in the manner
in which the PPP loan was originated, funded or serviced by the Bank, the SBA may deny its liability under the guaranty, reduce the amount of the guaranty or, if it has already made payment under the guaranty, seek recovery of any loss related to the
deficiency from the Bank. In addition, since the commencement of the PPP, several banks have been subject to litigation regarding their processing of PPP loan applications. The Bank may be exposed to the risk of similar litigation, from both
customers and non-customers that approached the Bank seeking PPP loans. PPP lenders, including the Bank, may also be subject to the risk of litigation in connection with other aspects of the PPP, including but not limited to borrowers seeking
forgiveness of their loans. If any such litigation is filed against the Bank, it may result in significant financial or reputational harm to us.
Even after the COVID-19 pandemic subsides, the U.S. economy will likely require some time to recover from its effects, the length of which is unknown and during which time the U.S. may experience
a recession. As a result, we anticipate our business may be materially and adversely affected during this recovery. To the extent the effects of the COVID-19 pandemic adversely impact our business, financial condition, liquidity or results of
operations, it may also have the effect of heightening many of the other risks described below and in any subsequently filed Quarterly Reports on Form 10-Q.
Our business may be adversely affected by downturns in the national and the regional economies on which we depend.
Substantially all of our loans are to businesses and individuals in the states of Washington and Oregon. A decline in the economies of the seven counties in which we operate, including the
Portland, Oregon metropolitan area, which we consider to be our primary market area, could have a material adverse effect on our business, financial condition, results of operations and prospects. Weakness in the global economy has adversely affected
many businesses operating in our markets that are dependent upon international trade and it is not known how changes in tariffs being imposed on international trade may also affect these businesses. Changes in agreements or relationships between the
U.S. and other countries may also affect these businesses. The COVID-19 pandemic has adversely impacted most of the Company's customers directly or indirectly. Their businesses have been adversely affected by quarantines and travel restrictions due
to the COVID-19 pandemic. See “-The COVID-19 pandemic has adversely impacted our ability to conduct business and is expected to adversely impact our financial results and those of our customers. The ultimate impact will depend on future developments,
which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities in response to the COVID-19 pandemic.”
Deterioration in economic conditions in the market areas we serve as a result of COVID-19 or other factors could result in the following consequences, any of which could have a
materially adverse impact on our business, financial condition and results of operations:
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loan delinquencies, problem assets and foreclosures may increase;
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we may increase our allowance for loan losses;
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the slowing of sales of foreclosed assets;
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demand for our products and services may decline possibly resulting in a decrease in our total loans or assets;
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collateral for loans made may decline further in value, exposing us to increased risk loans, reducing customers’ borrowing power, and reducing the value of assets and collateral
associated with existing loans;
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the net worth and liquidity of loan guarantors may decline, impairing their ability to honor commitments to us; and
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the amount of our low-cost or non-interest bearing deposits may decrease.
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A decline in local economic conditions may have a greater effect on our earnings and capital than on the earnings and capital of larger financial institutions whose real estate
loan portfolios are geographically diverse. Many of the loans in our portfolio are secured by real estate. Deterioration in the real estate markets where collateral for a mortgage loan is located could negatively affect the borrower’s ability to
repay the loan and the value of the collateral securing the loan. Real estate values are affected by various other factors, including changes in general or regional economic conditions, governmental rules or policies and natural disasters such as
earthquakes and tornadoes. If we are required to liquidate a significant amount of collateral during a period of reduced real estate values, our financial condition and profitability could be adversely affected.
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Adverse changes in the regional and general economy could reduce our growth rate, impair our ability to collect loans and generally have a negative effect on our financial
condition and results of operations.
Our real estate construction and land acquisition and development loans expose us to risk.
We make construction and land acquisition and development loans primarily to builders to finance the construction of single and multifamily homes, subdivisions, as well as commercial properties.
We originate these loans whether or not the collateral property underlying the loan is under contract for sale. At March 31, 2020, construction loans totaled $64.8 million, or 7.1% of our total loan portfolio, of which $12.2 million were for
residential real estate projects. Undisbursed funds for construction projects totaled $24.0 million at March 31, 2020. Land acquisition and development loans, which are loans made with land as security, totaled $14.0 million, or 1.5% of our total
loan portfolio at March 31, 2020.
In general, construction and land lending involves additional risks because of the inherent difficulty in estimating a property's value both before and at completion of the project, as well as the
estimated cost of the project and the time needed to sell the property at completion. Construction costs may exceed original estimates as a result of increased materials, labor or other costs. Because of the uncertainties inherent in estimating
construction costs, as well as the market value of the completed project and the effects of governmental regulation on real property, it is relatively difficult to evaluate accurately the total funds required to complete a project and the related
loan-to-value ratio. Changes in the demand, such as for new housing and higher than anticipated building costs may cause actual results to vary significantly from those estimated. For these reasons, this type of lending also typically involves higher
loan principal amounts and is often concentrated with a small number of builders. A downturn in housing, or the real estate market, could increase loan delinquencies, defaults and foreclosures, and significantly impair the value of our collateral and
our ability to sell the collateral upon foreclosure. Some of our builders have more than one loan outstanding with us and also have residential mortgage loans for rental properties with us. Consequently, an adverse development with respect to one
loan or one credit relationship can expose us to a significantly greater risk of loss.
In addition, during the term of most of our construction loans, no payment from the borrower is required since the accumulated interest is added to the principal of the loan through an interest
reserve. As a result, construction loans often involve the disbursement of substantial funds with repayment dependent on the success of the ultimate project and the ability of the borrower to sell or lease the property or refinance the indebtedness,
rather than the ability of the borrower or guarantor to repay principal and interest. If the appraisal of the value of the completed project proves to be overstated, we may have inadequate security for the
repayment of the loan upon completion of construction of the project and may incur a loss. Because construction loans require active monitoring of the building process, including cost comparisons and on-site inspections, these loans are more
difficult and costly to monitor.
Increases in market rates of interest may have a more pronounced effect on construction loans by rapidly increasing the end-purchasers' borrowing costs, thereby reducing the overall demand for the
project. Properties under construction are often difficult to sell and typically must be completed in order to be successfully sold which also complicates the process of working out problem construction loans. This may require us to advance
additional funds and/or contract with another builder to complete construction. Further, in the case of speculative construction loans, there is the added risk associated with identifying an end-purchaser for the finished project, and thus pose a
greater potential risk than construction loans to individuals on their personal residences. Loans on land under development or raw land held for future construction, including lot loans made to individuals for the future construction of a residence
also pose additional risk because of the lack of income being produced by the property and the potential illiquid nature of the collateral. These risks can also be significantly impacted by supply and demand conditions.
At March 31, 2020, real estate construction and land acquisition and development loans totaled $78.9 million comprised mainly of $12.0 million of speculative construction loans, $14.0 million of
land acquisition and development loans, $52.6 million of commercial/multi-family construction loans and $207,000 of custom/presold construction loans.
Our emphasis on commercial real estate lending may expose us to increased lending risks.
Our current business strategy is focused on the expansion of commercial real estate lending. This type of lending activity, while potentially more profitable than single-family residential
lending, is generally more sensitive to regional and local economic conditions, making loss levels more difficult to predict. Collateral evaluation and financial statement analysis in these types of loans requires a more detailed analysis at the time
of loan underwriting and on an ongoing basis. Many of our commercial borrowers have more than one loan outstanding with us. Consequently, an adverse development with respect to one loan or one credit relationship can expose us to a significantly
greater risk of loss.
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At March 31, 2020, we had $566.2 million of commercial and multi-family real estate mortgage loans, representing 61.12% of our total loan portfolio. These loans typically involve higher principal
amounts than other types of loans and some of our commercial borrowers have more than one loan outstanding with us. Consequently, an adverse development with respect to one loan or one credit relationship can expose us to a significantly greater risk
of loss compared to an adverse development with respect to a one-to-four family residential loan. Repayment on these loans is dependent upon income generated, or expected to be generated, by the property securing the loan in amounts sufficient to
cover operating expenses and debt service, which may be adversely affected by changes in the economy or local market conditions. For example, if the cash flow from the borrower’s project is reduced as a result of leases not being obtained or renewed,
the borrower’s ability to repay the loan may be impaired. Commercial and multi-family mortgage loans also expose a lender to greater credit risk than loans secured by one-to-four family residential real estate because the collateral securing these
loans typically cannot be sold as easily as residential real estate. In addition, many of our commercial and multi-family real estate loans are not fully amortizing and contain large balloon payments upon maturity. Such balloon payments may require
the borrower to either sell or refinance the underlying property in order to make the payment, which may increase the risk of default or non-payment.
A secondary market for most types of commercial real estate and multi-family loans is not readily liquid, so we have less opportunity to mitigate credit risk by selling part or all of our interest
in these loans. As a result of these characteristics, if we foreclose on a commercial or multi-family real estate loan, our holding period for the collateral typically is longer than for one-to-four family residential mortgage loans because there are
fewer potential purchasers of the collateral. Accordingly, charge-offs on commercial and multi-family real estate loans may be larger on a per loan basis than those incurred with our residential or consumer loan portfolios.
The level of our commercial real estate loan portfolio may subject us to additional regulatory scrutiny.
The FDIC, the Federal Reserve and the Office of the Comptroller of the Currency have promulgated joint guidance on sound risk management practices for financial institutions
with concentrations in commercial real estate lending. Under this guidance, a financial institution that, like us, is actively involved in commercial real estate lending should perform a risk assessment to identify concentrations. A financial
institution may have a concentration in commercial real estate lending if, among other factors (i) total reported loans for construction, land development, and other land represent 100% or more of total capital, or (ii) total reported loans secured
by multi-family and non-farm residential properties, loans for construction, land development and other land, and loans otherwise sensitive to the general commercial real estate market, including loans to commercial real estate related entities,
represent 300% or more of total capital. Based on these criteria, the Bank has a concentration in commercial real estate lending as total loans for multifamily, non-farm/non-residential, construction, land development and other land represented 358%
of total risk-based capital at March 31, 2020. The particular focus of the guidance is on exposure to commercial real estate loans that are dependent on the cash flow from the real estate held as collateral and that are likely to be at greater risk
to conditions in the commercial real estate market (as opposed to real estate collateral held as a secondary source of repayment or as an abundance of caution). The purpose of the guidance is to guide banks in developing risk management practices and
capital levels commensurate with the level and nature of real estate concentrations. The guidance states that management should employ heightened risk management practices including board and management oversight and strategic planning, development
of underwriting standards, risk assessment and monitoring through market analysis and stress testing.
Our business may be adversely affected by credit risk associated with residential property.
At March 31, 2020, $83.2 million, or 9.1% of our total loan portfolio, was secured by one-to-four family mortgage loans and home equity loans. This type of lending is generally
sensitive to regional and local economic conditions that significantly impact the ability of borrowers to meet their loan payment obligations, making loss levels difficult to predict. A decline in residential real estate values resulting from a
downturn in the Washington and Oregon housing markets in which we operate may reduce the value of the real estate collateral securing these types of loans and increase our risk of loss if borrowers default on their loans. Recessionary conditions or
declines in the volume of real estate sales and/or the sales prices coupled with elevated unemployment rates may result in higher than expected loan delinquencies or problem assets, and a decline in demand for our products and services. These
potential negative events may cause us to incur losses, adversely affect our capital and liquidity and damage our financial condition and business operations.
Many of our one-to-four family loans and home equity lines of credit are secured by liens on mortgage properties. Residential loans with high combined loan-to-value ratios will
be more sensitive to declining property values than those with lower combined loan-to-value ratios and therefore may experience a higher incidence of default and severity of losses. In addition, if the borrowers sell their homes, they may be unable
to repay their loans in full from the sale. Further, the majority of our home equity lines of credit consist of second mortgage loans. For those home equity lines secured by a second
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mortgage, it is unlikely that we will be successful in recovering all or a portion of our loan proceeds in the event of default unless we are prepared to repay the first
mortgage loan and such repayment and the costs associated with a foreclosure are justified by the value of the property.
Repayment of our commercial business loans is often dependent on the cash flows of the borrower, which may be unpredictable, and the collateral securing
these loans may fluctuate in value.
At March 31, 2020, we had $179.0 million, or 19.6% of total loans, in commercial business loans. Commercial lending involves risks that are different from those associated with
residential and commercial real estate lending. Real estate lending is generally considered to be collateral based lending with loan amounts based on predetermined loan to collateral values and liquidation of the underlying real estate collateral
being viewed as the primary source of repayment in the event of borrower default. Our commercial loans are primarily made based on the cash flow of the borrower and secondarily on the underlying collateral provided by the borrower. The borrowers'
cash flow may be unpredictable, and collateral securing these loans may fluctuate in value. This collateral may consist of equipment, inventory, accounts receivable, or other business assets. In the case of loans secured by accounts receivable, the
availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts due from its customers. Other collateral securing loans may depreciate over time, may be difficult to appraise,
may be illiquid and may fluctuate in value based on the specific type of business and equipment. As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business
itself which, in turn, is often dependent in part upon general economic conditions and secondarily on the underlying collateral provided by the borrower.
Our allowance for loan losses may prove to be insufficient to absorb losses in our loan portfolio.
Lending money is a substantial part of our business and each loan carries a certain risk that it will not be repaid in accordance with its terms or that any underlying collateral will not be
sufficient to assure repayment. This risk is affected by, among other things:
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the cash flow of the borrower and/or the project being financed;
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in the case of a collateralized loan, the changes and uncertainties as to the future value of the collateral;
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the duration of the loan;
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the credit history of a particular borrower; and
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changes in economic and industry conditions.
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We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, which we believe is appropriate to provide for probable losses in
our loan portfolio. The amount of this allowance is determined by management through periodic reviews and consideration of several factors, including, but not limited to:
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our general reserve, based on our historical default and loss experience and certain macroeconomic factors based on management’s expectations of future events;
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our specific reserve, based on our evaluation of impaired loans and their underlying collateral or discounted cash flow; and
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an unallocated reserve to provide for other credit losses inherent in our loan portfolio that may not have been contemplated in the other loss factors.
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The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to make significant estimates of current credit risks
and future trends, all of which may undergo material changes. If our estimates are incorrect, the allowance for loan losses may not be sufficient to cover losses inherent in our loan portfolio, resulting in the need for increases in our allowance for
loan losses through the provision for losses on loans which is charged against income. Deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors,
both within and outside of our control, may also require an increase in the allowance for loan losses. Additionally, pursuant to our growth strategy, management recognizes that significant new growth in loan portfolios, new loan products and the
refinancing of existing loans can result in portfolios comprised of unseasoned loans that may not perform in a historical or projected manner and will increase the risk that our allowance may be insufficient to absorb losses without significant
additional provisions.
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The Financial Accounting Standards Board has adopted a new accounting standard update (“ASU”) that will be effective for our first fiscal year beginning after December 15, 2022. This standard,
referred to as “Current Expected Credit Loss”, or “CECL”, will require financial institutions to determine periodic estimates of lifetime expected credit losses on loans and recognize the expected credit losses as allowances for credit losses at
inception of the loan. This will change the current method of providing allowances for credit losses that are probable of having been incurred, which may require us to increase our allowance for loan losses, and may greatly increase the types of data
we would need to collect and review to determine the appropriate level of the allowance for credit losses. For more on this ASU, see Note 1 of the Notes to Consolidated Financial Statements - Recently Issued Accounting Pronouncements contained in
Item 8 of this report. In addition, a further decline in national and local economic conditions, including as a result of the COVID-19 pandemic, results of the bank regulatory agencies’ periodic review of our allowance for loan losses or other
factors may require an increase in the provision for possible loan losses or the recognition of further loan charge-offs. If charge-offs in future periods exceed the allowance for loan losses, we may need additional provisions to replenish the
allowance for loan losses. Any increases in the allowance for loan losses will result in a decrease in net income and, most likely, capital, and may have a material negative effect on our financial condition and results of operations.
Uncertainty relating to the London Interbank Offered Rate ("LIBOR") calculation process and potential phasing out of LIBOR may adversely affect our results of operations.
On July 27, 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends to stop persuading or compelling banks to submit rates for
the calibration of LIBOR to the administrator of LIBOR after 2021. The announcement indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. It is impossible to predict whether and to what extent
banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to LIBOR may be enacted in the United Kingdom or elsewhere. At this time, no consensus exists as to what rate or rates may become
acceptable alternatives to LIBOR and it is impossible to predict the effect of any such alternatives on the value of LIBOR-based securities and variable rate loans, subordinated debentures, or other securities or financial arrangements, given LIBOR's
role in determining market interest rates globally. The Federal Reserve, in conjunction with the Alternative Reference Rates Committee, a steering committee comprised of large U.S. financial institutions, selected a new index (the Secured Overnight
Financing Rate or "SOFR") to replace LIBOR. SOFR is calculated as a volume-weighted median of transaction level data from the Bank of New York Mellon, Global Collateral Finance Repo and bilateral Treasury repo transactions cleared through the Fixed
Income Clearing Corporation. SOFR is observed and backward looking, which stands in contrast with LIBOR under the current methodology, which is an estimated forward-looking rate and relies, to some degree, on the expert judgment of submitting panel
members. Given that SOFR is a secured rate backed by government securities, it will be a rate that does not take into account bank credit risk (as is the case with LIBOR). SOFR is therefore likely to be lower than LIBOR and is less likely to
correlate with the funding costs of financial institutions. Whether or not SOFR attains market traction as a LIBOR replacement tool remains in question, although some transactions using SOFR have been completed including by Fannie Mae. Both Fannie
Mae and Freddie Mac have recently announced that they will cease accepting adjustable rate mortgages tied to LIBOR by the end of 2020 and will soon begin accepting mortgages based on SOFR. Continued uncertainty as to the nature of alternative
reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR rates and the value of LIBOR-based loans, and to a lesser extent securities in our portfolio, and may impact the availability and cost of hedging
instruments and borrowings, including the rates we pay on our subordinated debentures and trust preferred securities. If LIBOR rates are no longer available, and we are required to implement substitute indices for the calculation of interest rates
under our loan agreements with our borrowers or our existing borrowings, we may incur significant expenses in effecting the transition, and may be subject to disputes or litigation with customers and creditors over the appropriateness or
comparability to LIBOR of the substitute indices, which could have an adverse effect on our results of operations.
If our investments in real estate are not properly valued or sufficiently reserved to cover actual losses, or if we are required to increase our valuation reserves, our earnings
could be reduced.
We obtain updated valuations in the form of appraisals and broker price opinions when a loan has been foreclosed and the property is taken in as REO and at certain other times during the assets’
holding periods. Our net book value (“NBV”) in the loan at the time of foreclosure and thereafter is compared to the updated market value of the foreclosed property less estimated selling costs (fair value). A charge-off is recorded for any excess in
the asset’s NBV over its fair value. If our valuation process is incorrect, or if property values decline, the fair value of the investments in real estate may not be sufficient to recover our carrying value in such assets, resulting in the need for
additional write-downs. Significant write-downs to our investments in real estate could have a material adverse effect on our financial condition, liquidity and results of operations.
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In addition, bank regulators periodically review our REO and may require us to recognize further write-downs. Any increase in our write-downs, as required by the bank regulators, may have a
material adverse effect on our financial condition, liquidity and results of operations.
Our securities portfolio may be negatively impacted by fluctuations in market value and interest rates.
Our securities portfolio may be impacted by fluctuations in market value, potentially reducing accumulated other comprehensive income (loss) and/or earnings. Fluctuations in market value may be
caused by changes in market interest rates, lower market prices for securities and limited investor demand. Our securities portfolio is evaluated for OTTI. If this evaluation shows impairment to the actual or projected cash flows associated with one
or more securities, a potential loss to earnings may occur. Changes in interest rates can also have an adverse effect on our financial condition, as our available-for-sale securities are reported at their estimated fair value and therefore are
impacted by fluctuations in interest rates. We increase or decrease our shareholders' equity by the amount of change in the estimated fair value of the available-for-sale securities, net of taxes. There can be no assurance that declines in market
value, including as a result of the COVID-19 pandemic, will not result in OTTI of these assets, which would lead to accounting charges that could have a material adverse effect on our net income and capital levels.
Changes in interest rates may reduce our net interest income and may result in higher defaults in a rising rate environment.
Our earnings and cash flows are largely dependent upon our net interest income, which is the difference, or spread, between the interest earned on loans, securities and other
interest-earning assets and the interest paid on deposits, borrowings, and other interest-bearing liabilities. Interest rates are highly sensitive to many factors that are beyond our control, including domestic and international economic conditions
and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve. After steadily increasing the target federal funds rate in 2018 and 2017, the Federal Reserve in 2019 decreased the target federal funds rate by 75
basis points, and in response to the COVID-19 pandemic in March 2020, decreased the target federal funds rate by an additional 150 basis points to a range of 0.0% to 0.25% as of March 31, 2020. The Federal Reserve could make additional changes in
interest rates during 2020 subject to economic conditions. If the Federal Reserve increases the target federal funds rate, overall interest rates will likely rise, which may negatively impact the housing markets and the U.S. economic recovery. In
addition, deflationary pressures, while possibly lowering our operating costs, could have a significant negative effect on our borrowers, especially our business borrowers, and the values of collateral securing loans, which could negatively affect
our financial performance.
We principally manage interest rate risk by managing our volume and mix of our earning assets and funding liabilities. Changes in monetary policy, including changes in interest
rates, could influence not only the interest we receive on loans and investments and the amount of interest we pay on deposits and borrowings, but also can affect: (1) our ability to originate and/or sell loans; (2) the fair value of our financial
assets and liabilities, which could negatively impact shareholders’ equity, and our ability to realize gains from the sale of such assets; (3) our ability to obtain and retain deposits in competition with other available investment alternatives; (4)
the ability of our borrowers to repay adjustable or variable rate loans; and (5) the average duration of our investment securities portfolio and other interest-earning assets.
If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, our net interest income,
and therefore earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings. In a
changing interest rate environment, we may not be able to manage this risk effectively. If we are unable to manage interest rate risk effectively, our business, financial condition and results of operations could be materially affected.
Changes in interest rates could also have a negative impact on our results of operations by reducing the ability of borrowers to repay their current loan obligations or by
reducing our margins and profitability. Our net interest margin is the difference between the yield we earn on our assets and the interest rate we pay for deposits and our other sources of funding. Changes in interest rates—up or down—could
adversely affect our net interest margin and, as a result, our net interest income. Although the yields we earn on our assets and our funding costs tend to move in the same direction in response to changes in interest rates, one can rise or fall
faster than the other, causing our net interest margin to expand or contract. Our liabilities tend to be shorter in duration than our assets, so they may adjust faster in response to changes in interest rates. As a result, when interest rates rise,
our funding costs may rise faster than the yield we earn on our assets, causing our net interest margin to contract until the yield catches up. Changes in the slope of the “yield curve”—or the spread between short-term and long-term interest
rates—could also reduce our net interest margin. Normally, the yield curve is upward sloping, meaning short-term rates are lower than long-term rates. Because our liabilities tend to be shorter in duration than our
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assets, when the yield curve flattens or even inverts, we could experience pressure on our net interest margin as our cost of funds increases relative to the yield we can earn
on our assets. Also, interest rate decreases can lead to increased prepayments of loans and mortgage-backed securities as borrowers refinance their loans to reduce borrowing costs. Under these circumstances, we are subject to reinvestment risk as
we may have to redeploy such repayment proceeds into lower yielding investments, which would likely hurt our income.
A sustained increase in market interest rates could adversely affect our earnings. A significant portion of our loans have fixed interest rates and longer terms than our
deposits and borrowings. As is the case with many financial institutions, our emphasis on increasing the development of core deposits, those deposits bearing no or a relatively low rate of interest with no stated maturity date, has resulting in our
having a significant amount of these deposits which have a shorter duration than our assets. At March 31, 2020, we had $271.0 million in non-interest bearing demand deposits and $74.1 million in certificates of deposit that mature within one year. We
would incur a higher cost of funds to retain these deposits in a rising interest rate environment. Our net interest income could be adversely affected if the rates we pay on deposits and borrowings increase more rapidly than the rates we earn on
loans. In addition, a substantial amount of our home equity lines of credit have adjustable interest rates. As a result, these loans may experience a higher rate of default in a rising interest rate environment.
Changes in interest rates also affect the value of our interest-earning assets and in particular our securities portfolio. Generally, the fair value of fixed-rate securities
fluctuates inversely with changes in interest rates. Unrealized gains and losses on securities available for sale are reported as a separate component of equity, net of tax. Decreases in the fair value of securities available for sale resulting
from increases in interest rates could have an adverse effect on stockholders’ equity.
Although management believes it has implemented effective asset and liability management strategies to reduce the potential effects of changes in interest rates on our results
of operations, any substantial, unexpected or prolonged change in market interest rates could have a material adverse effect on our financial condition and results of operations. Also, our interest rate risk modeling techniques and assumptions likely
may not fully predict or capture the impact of actual interest rate changes on our consolidated balance sheet or projected operating results. In this regard, because the length of the COVID-19 pandemic and the efficacy of the extraordinary measures
being put in place to address its economic consequences are unknown, including the recent 150 basis point reductions in the targeted federal funds rate, until the COVID-19 pandemic subsides, the Company expects its net interest income and net
interest margin will be adversely affected in fiscal 2021 and possibly longer. See Item 7A., “Quantitative and Qualitative Disclosures About Market Risk,” of this Form 10-K.
Ineffective liquidity management could adversely affect our financial results and condition.
Effective liquidity management is essential to our business. We require sufficient liquidity to meet customer loan requests, customer deposit maturities and withdrawals, payments on our debt
obligations as they come due and other cash commitments under both normal operating conditions and other unpredictable circumstances, including events causing industry or general financial market stress. An inability to raise funds through deposits,
borrowings, the sale of loans or investment securities, or other sources could have a substantial negative effect on our liquidity. Our access to funding sources in amounts adequate to finance our activities on terms that are acceptable to us could
be impaired by factors that affect us specifically or the financial services industry or economy in general. Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity as a result
of a downturn in the Washington or Oregon markets in which our loans are concentrated, negative operating results, or adverse regulatory action against us. Our ability to borrow could also be impaired by factors that are not specific to us, such as a
disruption in the financial markets or negative views and expectations about the prospects for the financial services industry and the continued uncertainty in credit markets. In particular, our liquidity position could be significantly constrained
if we are unable to access funds from the FHLB, the Federal Reserve Bank of San Francisco or other wholesale funding sources, or if adequate financing is not available at acceptable interest rates. Finally, if we are required to rely more heavily on
more expensive funding sources, our revenues may not increase proportionately to cover our costs. Any decline in available funding could adversely impact our ability to originate loans, invest in securities, meet our expenses, or fulfill obligations
such as repaying our borrowings or meeting deposit withdrawal demands, any of which could, in turn, have a material adverse effect on our business, financial condition and results of operations.
Additionally, collateralized public funds are bank deposits of state and local municipalities. These deposits are required to be secured by certain investment grade securities to ensure repayment,
which on the one hand tends to reduce our contingent liquidity risk by making these funds somewhat less credit sensitive, but on the other hand reduces standby liquidity by restricting the potential liquidity of the pledged collateral. Although these
funds historically have been a relatively stable source of funds for us, availability depends on the individual municipality's fiscal policies and cash flow needs.
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Revenue from mortgage banking operations is sensitive to changes in economic conditions, decreased economic activity, a slowdown in the housing market, higher interest rates or
new legislation which may adversely impact our financial condition and results of operations
Our mortgage banking operations provide a significant portion of our non-interest income. We generate mortgage revenues primarily from gains on the sales of single-family mortgage loans pursuant
to programs currently offered by FNMA, FHLMC, GNMA and non-government sponsored entities. These entities account for a substantial portion of the secondary market in residential mortgage loans. Any future changes in these programs, our eligibility to
participate in such programs, the criteria for loans to be accepted or laws that significantly affect the activity of such entities could, in turn, materially adversely affect our results of operations. Mortgage banking is generally considered a
volatile source of income because it depends largely on the level of loan volume which, in turn, depends largely on prevailing market interest rates. In a rising or higher interest rate environment, our originations of mortgage loans may decrease,
resulting in fewer loans that are available to be sold to investors. This would result in a decrease in mortgage banking revenues and a corresponding decrease in non-interest income. In addition, our results of operations are affected by the amount
of non-interest expense associated with mortgage banking activities, such as salaries and employee benefits, occupancy, equipment and data processing expense and other operating costs. During periods of reduced loan demand, our results of operations
may be adversely affected to the extent that we are unable to reduce expenses commensurate with the decline in loan originations. In addition, although we sell loans into the secondary market without recourse, we are required to give customary
representations and warranties about the loans to the buyers. If we breach those representations and warranties, the buyers may require us to repurchase the loans and we may incur a loss on the repurchase.
The required accounting treatment of loans we acquire through acquisitions could result in higher net interest margins and interest income in current periods and lower net
interest margins and interest income in future periods.
Under GAAP, we are required to record loans acquired through acquisitions, including purchase credit-impaired loans, at fair value. Estimating the fair value of such loans requires management to
make estimates based on available information and facts and circumstances on the acquisition date. Actual performance could differ from management’s initial estimates. If these loans outperform our original fair value estimates, the difference
between our original estimate and the actual performance of the loan (the “discount”) is accreted into net interest income. Thus, our net interest margins may initially increase due to the discount accretion. We expect the yields on our loans to
decline as our acquired loan portfolio pays down or matures and the discount decreases, and we expect downward pressure on our interest income to the extent that the runoff on our acquired loan portfolio is not replaced with comparable high-yielding
loans. This could result in higher net interest margins and interest income in current periods and lower net interest margins and lower interest income in future periods.
A general decline in economic conditions may adversely affect the fees generated by our asset management company.
To the extent our asset management clients and their assets become adversely affected by weak economic and stock market conditions, they may choose to withdraw the amount of assets managed by us
and the value of their assets may decline. Our asset management revenues are based on the value of the assets we manage. If our clients withdraw assets or the value of their assets decline, the revenues generated by the Trust Company will be
adversely affected.
Our branching strategy may cause our expenses to increase faster than revenues.
The Company previously announced plans for three new branches located in Clark County, Washington, to complement its existing branch network. A new branch in downtown Camas is scheduled to open
this summer while our new location in the Cascade Park neighborhood of Vancouver is scheduled to open later this fall. A construction delay due to COVID-19 pandemic has pushed the opening of the new branch location in Ridgefield to early 2021. The
success of our expansion strategy is contingent upon numerous factors, such as our ability to secure managerial resources, hire and retain qualified personnel and implement effective marketing strategies. The opening of new branches may not increase
the volume of our loans and deposits as quickly or to the degree that we hope and opening new branches will increase our operating expenses. On average, de novo branches do not become profitable until three to four years after opening. Further, the
projected timeline and the estimated dollar amounts involved in opening de novo branches could differ significantly from actual results. We may not successfully manage the costs and implementation risks associated with our branching strategy.
Accordingly, any new branch may negatively impact our earnings for some period of time until the branch reaches certain economies of scale. Finally, there is a risk that our new branches will not be successful even after they have been established.
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Our growth or future losses may require us to raise additional capital in the future, but that capital may not be available when it is needed or the cost of that capital may be
very high.
We are required by federal regulatory authorities to maintain adequate levels of capital to support our operations. Our ability to raise additional capital, if needed, will
depend on conditions in the capital markets at that time, which are outside our control, and on our financial condition and performance. Accordingly, we cannot make assurances that we will be able to raise additional capital if needed on terms that
are acceptable to us, or at all. If we cannot raise additional capital when needed, our ability to further expand our operations could be materially impaired and our financial condition and liquidity could be materially and adversely affected. In
addition, any additional capital we obtain may result in the dilution of the interests of existing holders of our common stock. Further, if we are unable to raise additional capital when required by our bank regulators, we may be subject to adverse
regulatory action.
We may experience future goodwill impairment, which could reduce our earnings.
In accordance with GAAP, we record assets acquired and liabilities assumed in a business combination at their fair values with the excess of the purchase consideration over the
net assets acquired resulting in the recognition of goodwill. As a result, business combinations typically result in recording goodwill. We perform a goodwill evaluation at least annually to test for goodwill impairment. We performed our annual
goodwill impairment test as of October 31, 2019, and no impairment was identified. Our assessment of the fair value of goodwill is based on an evaluation of current purchase transactions, discounted cash flows from forecasted earnings, our current
market capitalization, and a valuation of our assets. Our evaluation of the fair value of goodwill involves a substantial amount of judgment. If our judgment was incorrect and an impairment of goodwill was deemed to exist, we would be required to
write down our goodwill resulting in a charge to earnings, which could adversely affect our results of operations, perhaps materially; however, it would have no impact on our liquidity, operations or regulatory capital. As a result of the effects of
the COVID-19 pandemic and its impacts on the financial markets and economy, the Company completed a qualitative assessment of goodwill as of March 31, 2020 and concluded that it is more likely than not that the fair value of the Bank (the reporting
unit), exceeds its carrying value at March 31, 2020. If adverse economic conditions or the recent decrease in the Company’s common stock price and market capitalization as a result of the COVID-19 pandemic were sustained in the future rather than
temporary, it may significantly affect the fair value of the reporting unit and may trigger future goodwill impairment charges. Any such impairment charge could have a material adverse effect on our operating results and financial condition.
We operate in a highly regulated environment and may be adversely affected by changes in federal and state laws and regulations.
The financial services industry is extensively regulated. Federal and state banking regulations are designed primarily to protect the deposit insurance funds and consumers, not
to benefit a company’s shareholders. These regulations may sometimes impose significant limitations on operations. Regulatory authorities have extensive discretion in connection with their supervisory and
enforcement activities, including the imposition of restrictions on the operation of an institution, the classification of assets by the institution and the adequacy of an institution's allowance for loan losses. These bank regulators also have the
ability to impose conditions in the approval of merger and acquisition transactions. The significant federal and state banking regulations that affect us are described under the heading “Item 1. Business-Regulation” in Item I of this Form 10-K. These
regulations, along with the currently existing tax, accounting, securities, insurance, and monetary laws, regulations, rules, standards, policies, and interpretations control the methods by which financial institutions conduct business, implement
strategic initiatives and tax compliance, and govern financial reporting and disclosures. These laws, regulations, rules, standards, policies, and interpretations are constantly evolving and may change significantly over time. Any new regulations or
legislation, change in existing regulations or oversight, whether a change in regulatory policy or a change in a regulator’s interpretation of a law or regulation, may require us to invest significant management attention and resources to make any
necessary changes to operations to comply and could have an adverse effect on our business, financial condition and results of operations. Additionally, actions by regulatory agencies or significant litigation against us may lead to penalties that
materially affect us. Further, changes in accounting standards can be both difficult to predict and involve judgment and discretion in their interpretation by us and our independent registered public accounting firm. These accounting changes could
materially impact, potentially even retroactively, how we report our financial condition and results of our operations as could our interpretation of those changes.
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Non-compliance with the USA PATRIOT Act, Bank Secrecy Act, or other laws and regulations could result in fines or sanctions and limit our ability to get
regulatory approval of acquisitions.
The USA PATRIOT and Bank Secrecy Acts require financial institutions to develop programs to prevent financial institutions from being used for money laundering and terrorist activities. If such
activities are detected, financial institutions are obligated to file suspicious activity reports with the U.S. Treasury’s Office of Financial Crimes Enforcement Network. These rules require financial institutions to establish procedures for
identifying and verifying the identity of customers seeking to open new financial accounts. Failure to comply with these regulations could result in fines or sanctions and limit our ability to get regulatory approval of acquisitions. Recently,
several banking institutions have received large fines for non-compliance with these laws and regulations. While we have developed policies and procedures designed to assist in compliance with these laws and regulations, no assurance can be given
that these policies and procedures will be effective in preventing violations of these laws and regulations. Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational
consequences for us. Any of these results could have a material adverse effect on our business, financial condition, results of operations and growth prospects.
Competition with other financial institutions could adversely affect our profitability.
Although we consider ourselves competitive in our market areas, we face intense competition in both making loans and attracting deposits. Price competition for loans and deposits might result in
our earning less on our loans and paying more on our deposits, which reduces net interest income. Some of the institutions with which we compete have substantially greater resources than we have and may offer services that we do not provide. We
expect competition to increase in the future as a result of legislative, regulatory and technological changes and the continuing trend of consolidation in the financial services industry. Our profitability will depend upon our continued ability to
compete successfully in our market areas.
We are subject to certain risks in connection with our use of technology.
Our security measures may not be sufficient to mitigate the risk of a cyber-attack. Communications and information systems are essential to the conduct of
our business, as we use such systems to manage our customer relationships, our general ledger and virtually all other aspects of our business. Our operations rely on the secure processing, storage, and transmission of confidential and other
information in our computer systems and networks. Although we take protective measures and endeavor to modify them as circumstances warrant, the security of our computer systems, software, and networks may be vulnerable to breaches, fraudulent or
unauthorized access, denial or degradation of service attacks, misuse, computer viruses, malware or other malicious code and cyber-attacks that could have a security impact. If one or more of these events occur, this could jeopardize our or our
customers' confidential and other information processed and stored in, and transmitted through, our computer systems and networks, or otherwise cause interruptions or malfunctions in our operations or the operations of our customers or
counterparties. We may be required to expend significant additional resources to modify our protective measures or to investigate and remediate vulnerabilities or other exposures, and we may be subject to litigation and financial losses that are
either not insured against or not fully covered through any insurance maintained by us. We could also suffer significant reputational damage.
Further, our cardholders use their debit and credit cards to make purchases from third parties or through third-party processing services. As such, we are subject to risk from data breaches of
such third-party’s information systems or their payment processors. Such a data security breach could compromise our account information. The payment methods that we offer also subject us to potential fraud and theft by criminals, who are becoming
increasingly more sophisticated, seeking to obtain unauthorized access to or exploit weaknesses that may exist in the payment systems. If we fail to comply with applicable rules or requirements for the payment methods we accept, or if payment-related
data is compromised due to a breach or misuse of data, we may be liable for losses associated with reimbursing our clients for such fraudulent transactions on clients’ card accounts, as well as costs incurred by payment card issuing banks and other
third parties or may be subject to fines and higher transaction fees, or our ability to accept or facilitate certain types of payments may be impaired. We may also incur other costs related to data security breaches, such as replacing cards
associated with compromised card accounts. In addition, our customers could lose confidence in certain payment types, which may result in a shift to other payment types or potential changes to our payment systems that may result in higher costs.
Breaches of information security also may occur through intentional or unintentional acts by those having access to our systems or our clients’ or counterparties’ confidential information,
including employees. The Company is continuously working to install new and upgrade its existing information technology systems and provide employee awareness training around phishing, malware, and other cyber risks to further protect the Company
against cyber risks and security breaches.
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There continues to be a rise in electronic fraudulent activity, security breaches and cyber-attacks within the financial services industry, especially in the commercial banking sector due to cyber
criminals targeting commercial bank accounts. We are regularly the target of attempted cyber and other security threats and must continuously monitor and develop our information technology networks and infrastructure to prevent, detect, address and
mitigate the risk of unauthorized access, misuse, computer viruses and other events that could have a security impact. Insider or employee cyber and security threats are increasingly a concern for companies, including ours. We are not aware that we
have experienced any material misappropriation, loss or other unauthorized disclosure of confidential or personally identifiable information as a result of a cyber-security breach or other act, however, some of our clients may have been affected by
third-party breaches, which could increase their risks of identity theft, credit card fraud and other fraudulent activity that could involve their accounts with us.
Security breaches in our internet banking activities could further expose us to possible liability and damage our reputation. Increases in criminal
activity levels and sophistication, advances in computer capabilities, new discoveries, vulnerabilities in third-party technologies (including browsers and operating systems) or other developments could result in a compromise or breach of the
technology, processes and controls that we use to prevent fraudulent transactions and to protect data about us, our clients and underlying transactions. Any compromise of our security could deter customers from using our internet banking services
that involve the transmission of confidential information. We rely on standard internet security systems to provide the security and authentication necessary to effect secure transmission of data. Although we have developed and continue to invest in
systems and processes that are designed to detect and prevent security breaches and cyber-attacks and periodically test our security, these precautions may not protect our systems from compromises or breaches of our security measures, and could
result in losses to us or our clients, our loss of business and/or clients, damage to our reputation, the incurrence of additional expenses, disruption to our business, our inability to grow our online services or other businesses, additional
regulatory scrutiny or penalties, or our exposure to civil litigation and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operations.
Our security measures may not protect us from system failures or interruptions. While we have established policies and procedures to prevent or limit the
impact of systems failures and interruptions, there can be no assurance that such events will not occur or that they will be adequately addressed if they do. In addition, we outsource certain aspects of our data processing and other operational
functions to certain third-party providers. While the Company selects third-party vendors carefully, it does not control their actions. If our third-party providers encounter difficulties, including those
resulting from breakdowns or other disruptions in communication services provided by a vendor, failure of a vendor to handle current or higher transaction volumes, cyber-attacks and security breaches or if we otherwise have difficulty in
communicating with them, our ability to adequately process and account for transactions could be affected, and our ability to deliver products and services to our customers and otherwise conduct our business operations could be adversely impacted.
Replacing these third-party vendors could also entail significant delay and expense. Threats to information security also exist in the processing of customer information through various other vendors and their personnel.
We cannot assure that such breaches, failures or interruptions will not occur or, if they do occur, that they will be adequately addressed by us or the third parties on which we rely. We may not
be insured against all types of losses as a result of third-party failures and insurance coverage may be inadequate to cover all losses resulting from breaches, system failures or other disruptions. If any of our third-party service providers
experience financial, operational or technological difficulties, or if there is any other disruption in our relationships with them, we may be required to identify alternative sources of such services, and we cannot assure that we could negotiate
terms that are as favorable to us, or could obtain services with similar functionality as found in our existing systems without the need to expend substantial resources, if at all. Further, the occurrence of any systems failure or interruption could
damage our reputation and result in a loss of customers and business, could subject us to additional regulatory scrutiny, or could expose us to legal liability. Any of these occurrences could have a material adverse effect on our financial condition
and results of operations.
The board of directors oversees the risk management process, including the risk of cybersecurity, and engages with management on cybersecurity issues.
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Our ability to retain and recruit key management personnel and bankers is critical to the success of our business strategy and any failure to do so could impair our customer
relationships and adversely affect our business and results of operations.
Competition for qualified employees and personnel in the banking industry is intense and there are a limited number of qualified persons with knowledge of, and experience in, the community banking
industry where the Bank conducts its business. The process of recruiting personnel with the combination of skills and attributes required to carry out our strategies is often lengthy. Our success depends to a significant degree upon our ability to
attract and retain qualified management, loan origination, finance, administrative, marketing and technical personnel and upon the continued contributions of our management and personnel. In particular, our success has been and continues to be highly
dependent upon the abilities of key executives, including our President and Chief Executive Officer, and certain other employees. Our ability to retain and grow our loans, deposits, and fee income depends upon the business generation capabilities,
reputation, and relationship management skills of our lenders. If we were to lose the services of any of our bankers, including successful bankers employed by banks that we may acquire, to a new or existing competitor, or otherwise, we may not be
able to retain valuable relationships and some of our customers could choose to use the services of a competitor instead of our services. In addition, our success has been and continues to be highly dependent upon the services of our directors, many
of whom are at or nearing retirement age, and we may not be able to identify and attract suitable candidates to replace such directors.
We rely on other companies to provide key components of our business infrastructure.
We rely on numerous external vendors to provide us with products and services necessary to maintain our day-to-day operations. Accordingly, our operations are exposed to risk that these vendors
will not perform in accordance with the contracted arrangements under service level agreements. The failure of an external vendor to perform in accordance with the contracted arrangements under service level agreements because of changes in the
vendor’s organizational structure, financial condition, support for existing products and services or strategic focus or for any other reason, could be disruptive to our operations, which in turn could have a material negative impact on our financial
condition and results of operations. We also could be adversely affected to the extent such an agreement is not renewed by the third-party vendor or is renewed on terms less favorable to us. Additionally, the bank regulatory agencies expect financial
institutions to be responsible for all aspects of our vendors’ performance, including aspects which they delegate to third parties. Disruptions or failures in the physical infrastructure or operating systems that support our business and clients, or
cyber-attacks or security breaches of the networks, systems or devices that our clients use to access our products and services could result in client attrition, regulatory fines, penalties or intervention, reputational damage, reimbursement or other
compensation costs, and/or additional compliance costs, any of which could materially adversely affect our results of operations or financial condition.
If our enterprise risk management framework is not effective at mitigating risk and loss to us, we could suffer unexpected losses and our results of operations could be
materially adversely affected.
Our enterprise risk management framework seeks to achieve an appropriate balance between risk and return, which is critical to optimizing shareholder value. We have established processes and
procedures intended to identify, measure, monitor, report, analyze and control the types of risk to which we are subject. These risks include, among others, liquidity, credit, market, interest rate, operational, legal and compliance, and reputational
risk. Our framework also includes financial or other modeling methodologies that involve management assumptions and judgment. We also maintain a compliance program to identify, measure, assess, and report on our adherence to applicable laws, policies
and procedures. While we assess and improve these programs on an ongoing basis, there can be no assurance that our risk management or compliance programs, along with other related controls, will effectively mitigate risk under all circumstances, or
that it will adequately mitigate any risk or loss to us. However, as with any risk management framework, there are inherent limitations to our risk management strategies as they may exist, or develop in the future, including risks that we have not
appropriately anticipated or identified. If our risk management framework proves ineffective, we could suffer unexpected losses and our business, financial condition, results of operations or growth prospects could be materially adversely affected.
We may also be subject to potentially adverse regulatory consequences.
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Our business may be adversely affected by an increasing prevalence of fraud and other financial crimes.
As a bank, we are susceptible to fraudulent activity that may be committed against us or our clients, which may result in financial losses or increased costs to us or our clients, disclosure or
misuse of our information or our client information, misappropriation of assets, privacy breaches against our clients, litigation or damage to our reputation. Such fraudulent activity may take many forms, including check fraud, electronic fraud, wire
fraud, phishing, social engineering and other dishonest acts. Nationally, reported incidents of fraud and other financial crimes have increased. We have also experienced losses due to apparent fraud and other financial crimes. While we have policies
and procedures designed to prevent such losses, there can be no assurance that such losses will not occur.
Managing reputational risk is important to attracting and maintaining customers, investors and employees.
Threats to our reputation can come from many sources, including adverse sentiment about financial institutions generally, unethical practices, employee misconduct, failure to deliver minimum
standards of service or quality or operational failures due to integration or conversion challenges as a result of acquisitions we undertake, compliance deficiencies, and questionable or fraudulent activities of our customers. We have policies and
procedures in place to protect our reputation and promote ethical conduct, but these policies and procedures may not be fully effective. Negative publicity regarding our business, employees, or customers, with or without merit, may result in the loss
of customers, investors and employees, costly litigation, a decline in revenues and increased governmental regulation.
We rely on dividends from the Bank for substantially all of our revenue at the holding company level.
We are an entity separate and distinct from our principal subsidiary, the Bank, and derive substantially all of our revenue at the holding company level in the form of dividends from that
subsidiary. Accordingly, we are, and will be, dependent upon dividends from the Bank to pay the principal of and interest on our indebtedness, to satisfy our other cash needs and to pay dividends on our common stock. The Bank's ability to pay
dividends is subject to its ability to earn net income and to meet certain regulatory requirements. In the event the Bank is unable to pay dividends to us, we may not be able to pay dividends on our common stock. Also, our right to participate in a
distribution of assets upon a subsidiary's liquidation or reorganization is subject to the prior claims of the subsidiary's creditors.
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