MARATHON BANCORP, INC. / MD /: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL POSITION AND RESULTS OF OPERATIONS (Form 10-K)
This discussion and analysis reflects our audited consolidated financial statements and other relevant statistical data, and is intended to improve your understanding of our financial condition and results of operations. The information in this section is taken from the audited consolidated financial statements, which appear from page 50 of this Form 10-K.
Net Interest Income. Our primary source of income is net interest income. Net interest income is the difference between interest income, which is the income we earn on our loans and investments, and interest expense, which is the interest we pay on our deposits and borrowings. Provision for Loan Losses. The allowance for loan losses is a valuation allowance for probable incurred credit losses. The allowance for loan losses is increased through charges to the provision for loan losses. Loans are charged against the allowance when management believes that the collectability of the principal loan amount is not probable. Recoveries on loans previously charged-off, if any, are credited to the allowance for loan losses when realized. Non-interest Income. Our primary sources of non-interest income are mortgage banking income, service charges on deposit accounts and net gains in the cash surrender value of bank owned life insurance. Other sources of non-interest income include net gain or loss on disposal of foreclosed assets and other income.
Non-interest charges. Our non-interest expenses include salaries and benefits, net occupancy and equipment, data processing and office costs, professional fees, marketing costs and other general and administrative costs, including the premiums we pay to
Income Tax Expense. Our income tax expense is the total of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between the carrying amounts and the tax basis of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amounts expected to be realized.
Impact of the COVID-19 epidemic
During the first quarter of 2020, global financial markets experienced significant volatility resulting from the spread of COVID-19. In
March 2020, the World Health Organizationdeclared COVID-19 a global pandemic and the United Statesdeclared a National Public Health Emergency. The COVID-19 pandemic has restricted the level of economic activity in our markets. In response to the pandemic, the governments of the state of Wisconsinand of most other states have taken preventative or protective actions, such as imposing restrictions on travel and business operations, advising or requiring individuals to limit or forego time outside of their homes, and ordering temporary closures of businesses that have been deemed to be non-essential. These measures have dramatically increased unemployment in the United Statesand have negatively impacted many businesses, and thereby threatened the repayment ability of some of our borrowers. 36 Table of Contents
June 30, 2021, some of these restrictions have been removed and many non-essential businesses have been allowed to re-open in a limited capacity, adhering to social distancing and disinfection guidelines. In many instances, vaccines are proving effective and rapidly scaling, bending the pandemic curve in many geographies. A new variant of the coronavirus, generally referred to as the "Delta" variant, has emerged in the United Statesand remains a significant concern in some regions and potentially, throughout the country. This variant is believed to be significantly more contagious than earlier variants of the coronavirus. Certain previously-relaxed social distancing and safety protocols have been reinstated in some areas of the country and it is possible that such protocols could be reinstated broadly in the future. The economic effects of these varying protocol reinstatement actions on the Company's operations cannot be determined with certainty at this time. The direct and indirect effects of the COVID-19 pandemic have resulted in dramatic reductions in the level of economic activity in the Company's market area, as well as in the national and global economies and financial markets, and have severely hampered the ability for certain businesses and consumers to meet their current repayment obligations. To address the economic impact of COVID-19 in the United States, the CARES Act was signed into law on March 27, 2020. The CARES Act included a number of provisions that affected us, including accounting relief for TDRs. The CARES Act also established the PPP through the SBA, which allowed us to lend money to small businesses to maintain employee payrolls through the crisis with guarantees from the SBA. Under this program, loan amounts may be forgiven if the borrower maintains employee payrolls and meets certain other requirements. At June 30, 2021, we had $10.4 millionof PPP loans outstanding.
In response to the COVID-19 pandemic, we have put in place protocols and processes to help protect our employees, customers and communities. These measures include:
The safety and health of our staff and customers is our top priority.
We have installed plexiglass sneeze barriers in all checkout areas, new account
offices, and reception desks, and air purification systems in each of our
Â· Branches. Hand sanitizer is available at each of the counters / new
accounts offices. Face masks are optional for all employees at work. All the employees
also have access to gloves, hand sanitizer and Clorox wipes at work. We
continue to follow CDC guidelines.
Provide assistance to our customers affected by the COVID-19 pandemic, which
Includes payment deferrals, interest-only loans, waivers of certain fees,
suspend foreclosures and participate in the CARES law and
business loan programs, including PPP. The PPP ended in
We have implemented various consumer and commercial loan modification programs to provide our borrowers relief from the economic impacts of COVID-19. Based on guidance in the CARES Act and COVID-19 related legislation, COVID-19 related modifications to loans that were current as of
December 31, 2019are exempt from TDR classification under U.S.GAAP through the earlier of January 1, 2022, or 60 days after the national emergency concerning COVID-19 declared by the President of the United Statesterminates. In addition, the bank regulatory agencies issued interagency guidance stating that COVID-19 related short-term modifications (i.e., six months or less) granted to loans that were current as of the loan modification program implementation date are not TDRs. As of June 30, 2021, we had granted short-term payment deferrals on 56 loans, totaling approximately $20.0 millionin aggregate principal amount. As of June 30, 2021, all of these loans have returned to normal payment status. Given the unprecedented uncertainty and rapidly evolving economic effects and social impacts of the COVID-19 pandemic, the future direct and indirect impact on our business, results of operations and financial condition are highly uncertain. Should current economic conditions persist or continue to deteriorate, we expect that this macroeconomic environment will have a continued adverse effect on our business and results of operations, which could include, but not be limited to: decreased demand for our products and services, protracted periods of lower interest rates, increased non-interest expenses, including operational losses, and increased credit losses due to deterioration in the financial condition of our consumer and commercial borrowers, including declining asset and collateral values, which may continue to increase our provision for loan losses and net charge-offs. 37 Table of Contents Business Strategy Our business strategy is to operate as a well-capitalized and profitable community bank dedicated to providing personal service to our individual and business customers. We believe that we have a competitive advantage in the markets we serve because of our 118-year history in the community, our knowledge of the local marketplace and our long-standing reputation for providing superior, relationship-based customer service. The following are the key elements of our business strategy: Increase our commercial real estate lending into the higher growth Southeastern Wisconsinmarket. As a result of our recent efforts to better balance the overall loan portfolio between commercial and non-commercial lending and expansion into the Southeastern Wisconsinmarket, including the Milwaukeemetropolitan area, our commercial real estate loans, including multifamily loans, increased to $69.4 million, or 47.3% of our loan portfolio, at June 30, 2021, compared to $50.3 million, or 42.4% of our loan portfolio, at June 30, 2020. We intend to retain our presence as a commercial real estate lender (which includes multifamily loans) in our market area and seek to expand our market share in existing and other growth markets in Southeastern Wisconsin, including Milwaukee. We intend to continue to build relationships with small and medium-sized businesses and high net worth individuals in these market areas focusing on lending to manufacturing, wholesale distribution and professional service businesses. We also intend to increase our Southeastern Wisconsinpresence by using the capital raised in our stock offering to hire experienced local commercial real estate lenders with credit skills that fit well with our focus on asset quality, as well as possibly expand our branch network, either through acquisitions or organically, in Southeastern Wisconsin. We believe the additional capital raised in the offering will enable us to increase our originations of commercial real estate loans and related lending limits, which will enable us to originate larger loans to new and existing customers. Given their larger balances and the complexity of the underlying collateral, commercial real estate and multifamily real estate loans generally have more risk than the owner-occupied one- to four-family residential real estate loans we originate. Because the repayment of commercial real estate and multifamily real estate loans depends on the successful management and operation of the borrower's properties or related businesses, repayment of such loans can be affected by adverse conditions in the local real estate market or economy, including the effects of the COVID-19 pandemic. Continue to originate and sell certain residential real estate loans. Residential mortgage lending has historically been a significant part of our business, and we recognize that originating one- to four-family residential real estate loans is essential to our status as a community-oriented bank. During the year ended June 30, 2021, we originated and sold $51.7 millionof one- to four-family residential real estate loans held for sale for gains on sale of loans of $1.0 million. We intend to continue to sell in the secondary market most of the long-term conforming fixed-rate one- to four-family residential real estate loans that we originate for fee income that enhances our non-interest income and mitigates the risks associated with changes in market interest rates (including due to the effects of the COVID-19 pandemic) that may adversely impact our interest income. Increase our share of lower-cost core deposit growth. We have made a concerted effort to reduce our reliance on higher cost certificates of deposit in favor of obtaining lower cost retail and commercial deposit accounts. We have also made significant investments in our technology-based products. For example, we have enhanced our suite of deposit products, including remote deposit capture, commercial cash management and mobile deposits in order to accommodate business customers. This has had the dual effect of maintaining our concentration of certificates of deposit at approximately 35.4% of total deposits at June 30, 2021and 2020, while growing our core deposits to $112.7 millionat June 30, 2021from $86.5 millionat June 30, 2020. We intend to continue our focus on core deposit growth by offering our retail and commercial customers a full selection of deposit-related services, and making further investments in technology so that we can deliver high-quality, innovative products and services to our customers. Manage credit risk to maintain a low level of non-performing assets. We believe that credit risk management is paramount to our long-term success. Over the past several years, we have invested significantly in both personnel and software to effectively manage our portfolio, and we have considerably enhanced our controls. We have established an experienced commercial credit team and we have implemented well-defined policies, a thorough and efficient loan underwriting process, and active credit monitoring. As a result of our continued focus on credit risk management, our non-performing loans to total loans was 0.12% and 0.27% as of June 30, 2021and June 30, 2020, respectively. We 38
We intend to continue to support our investment in our trade credit department as we grow our loan portfolio in the future.
Grow organically and through opportunistic bank or branch acquisitions or de novo branching. In addition to organic growth, we will also consider acquisition opportunities that we believe would enhance the value of our franchise and yield potential financial benefits for our stockholders. Although we believe opportunities exist to increase our market share in our historical markets, we expect to continue to expand into
Southeastern Wisconsin. We will consider expanding our branch network through acquisitions and/or through establishing de novo branches, although we have no current acquisitions or new branches planned. The recent capital we raised provides us the opportunity to make acquisitions of other financial institutions or branches thereof, and will also help fund improvements in our operating facilities, credit reporting and customer delivery services in order to enhance our competitiveness. Remain a community-oriented institution and relying on high quality service to maintain and build a loyal local customer base. We were established in 1902 and have been operating continuously since that time in our local community. Through the goodwill we have developed over the years of providing timely, efficient banking services, we believe that we have been able to attract a solid base of local retail customers on which we hope to continue to build our banking business.
Expected increase in non-interest charges
Our non-interest expense is expected to increase because of the increased costs associated with operating as a public company, and the increased compensation expenses associated with the allocation of shares of common stock by our employee stock ownership plan and the possible implementation of one or more stock-based benefit plans, if approved by our stockholders, no earlier than six months after the completion of the reorganization and stock offering.
Summary of significant accounting policies
The discussion and analysis of the financial condition and results of operations are based on our audited consolidated financial statements, which are prepared in conformity with
U.S.GAAP. The preparation of these audited consolidated financial statements requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. We consider the accounting policies discussed below to be significant accounting policies. The estimates and assumptions that we use are based on historical experience and various other factors and are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions, resulting in a change that could have a material impact on the carrying value of our assets and liabilities and our results of operations. In 2012, the JOBS Act was signed into law. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an "emerging growth company" we may delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. We intend to take advantage of the benefits of this extended transition period. Accordingly, our financial statements may not be comparable to companies that comply with such new or revised accounting standards.
The following are our main accounting policies:
Allowance for Loan Losses. The allowance for loan losses established as losses is estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectability of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, 39
and current economic conditions. This assessment is inherently subjective as it requires estimates that may be revised significantly as more information becomes available.
The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. General components cover non-impaired loans and are based on historical loss rates for each portfolio segment, adjusted for the effects of qualitative or environmental factors that are likely to cause estimated credit losses as of the evaluation date to differ from the portfolio segment's historical loss experience. Qualitative factors include consideration of the following: changes in lending policies and procedures; changes in economic conditions, changes in the nature and volume of the portfolio; changes in the experience, ability, and depth of lending management and other relevant staff; changes in the volume and severity of past due, nonaccrual and other adversely graded loans; changes in the loan review system; changes in the value of the underlying collateral for collateral-dependent loans; concentrations of credit; and the effect of other external factors such as competition and legal and regulatory requirements. As a result of the COVID-19 pandemic, at
June 30, 2020, we slightly increased certain of our qualitative loan portfolio risk factors relating to local and national economic conditions as well as industry conditions and concentrations, which have experienced deterioration due to the effects of the COVID-19 pandemic. At June 30, 2021, the qualitative loan portfolio risk factors were slightly reduced in all loan categories except commercial real estate which we believe exhibits the most credit risk related to local and national economic conditions as well as industry conditions and concentrations. A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal and interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reason for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial and commercial real estate loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's observable market price, or the fair value of the collateral if the loan is collateral dependent. As an integral part of their examination process, various regulatory agencies review the allowance for loan losses as well. Such agencies may require that changes in the allowance for loan losses be recognized when such regulatory credit evaluations differ from those of management based on information available to the regulators at the time of their examinations. Income Taxes. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. We recognize the tax effects from an uncertain tax position in the consolidated financial statements only if the position is more likely than not to be sustained on audit, based on the technical merits of the position. We recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the consolidated financial statements is the largest benefit that has a greater than 50% likelihood of being realized, upon ultimate settlement with the relevant tax authority. We recognize interest and penalties accrued or released related to uncertain tax positions in current income tax expense or benefit. 40
Debt Securities. Available-for-sale and held-to-maturity debt securities are reviewed by management on a quarterly basis, and more frequently when economic or market conditions warrant, for possible other-than-temporary impairment. In determining other-than-temporary impairment, management considers many factors, including the length of time and the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, whether the market decline was affected by macroeconomic conditions and whether the Company has the intent to sell the debt security or more likely than not will be required to sell the debt security before its anticipated recovery. A decline in value that is considered to be other-than-temporary is recorded as a loss within non-interest income in the statement of income. The assessment of whether other-than-temporary impairment exists involves a high degree of subjectivity and judgment and is based on the information available to management at a point in time. In order to determine other-than-temporary impairment for mortgage-backed securities, asset-backed securities and collateralized mortgage obligations, we compare the present value of the remaining cash flows as estimated at the preceding evaluation date to the current expected remaining cash flows. Other-than-temporary impairment is deemed to have occurred if there has been an adverse change in the remaining expected future cash flows.
Fair value appraisals. The Company determines the fair value of certain assets in accordance with the provisions of FASB Accounting Standards Codification Topic Accounting Standards Codification 820, Fair Value Measurements, which provides a framework for measuring fair value in accordance with generally accepted accounting principles.
Fair value is defined as the exchange price that would be received for an asset in the principal or most advantageous market for the asset in an orderly transaction between market participants on the measurement date. It is required that valuation techniques maximize the use of observable inputs and minimize the use of unobservable inputs. The Standard also establishes a fair value hierarchy, which prioritizes the valuation inputs into three broad levels:
? Level 1 inputs consist of quoted prices in active markets for identical assets
which the reporting entity can access on the valuation date.
? Level 2 inputs are inputs other than the indicated prices included in level 1 which
are observable for the asset concerned.
? Level 3 inputs are unobservable inputs related to the asset.
Selected financial data
The following selected consolidated financial data sets forth certain financial highlights of the Company and should be read in conjunction with the audited consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K for 2021 and the Bank in 2020. At June 30, 2021 2020 (In thousands) Selected Financial Condition Data: Total assets
Cash, cash equivalents and interest-bearing deposits in other financial institutions 48,111
Debt securities available for sale 10,910
Debt securities held to maturity 709
Loans receivable, net 144,169
Federal Home Loan Bankstock, at cost 262
262 Bank owned life insurance 5,969 5,804 Premises and equipment, net 1,850 1,969 Deferred tax asset 270 700 Deposits 171,956 134,015 Federal Home Loan advances - 8,000 PPPLF Funding 10,372 6,375 Stockholders' Equity 29,849 20,782 41 Table of Contents For the Years Ended June 30, 2021 2020 (In thousands) Selected Operating Data: Interest income
$ 6,484 $ 5,909Interest expense 1,091 1,357 Net interest income 5,393 4,552 Provision for loan losses - 150 Net interest income after provision for loan losses 5,393 4,402 Non-interest income 1,896 1,006 Non-interest expense 5,438 4,902 Income before income taxes 1,851 506 Income tax expense 478 88 Net income $ 1,373 $ 418At or For the Years Ended June 30, 2021 2020 Performance Ratios: Return on average assets 0.73 % 0.27 % Return on average equity 6.14 % 2.08 % Interest rate spread (1) 2.99 % 2.89 % Net interest margin (2) 3.10 % 3.08 %
Non-interest expenses to average assets 2.90 % 3.21 % Efficiency ratio (3) 74.61 % 88.20 % Average interest-earning assets to average interest-bearing liabilities 117.93 % 120.43 % Capital Ratios (4): Average equity to average assets 11.88 % 13.19 % Total capital to risk-weighted assets N/A 14.74 % Tier 1 capital to risk-weighted assets N/A 13.58 % Common equity tier 1 capital to risk-weighted assets N/A 13.58 % Tier 1 capital to average assets
Asset Quality Ratios: Allowance for loan losses as a percentage of total loans 1.49 % 1.43 % Allowance for loan losses as a percentage of non-performing loans 1,228.10 % 666.67 % Net (charge-offs) recoveries to average outstanding loans during the year 0.38 % (0.07) % Non-performing loans as a percentage of total loans 0.12 % 0.27 % Non-performing loans as a percentage of total assets 0.08 % 0.19 % Total non-performing assets as a percentage of total assets
0.08 % 0.19 % Other: Number of offices 4 4
Number of full-time equivalent employees
Represents the difference between the weighted average return on the average (1) of interest-bearing assets and the weighted average cost of interest-bearing assets
(2) Represents net interest income as a percentage of average interest income
(3) Represents non-interest expense divided by the sum of net interest income
and non-interest income.
(4) The capital ratios only concern the Bank. From
to adopt the Community Bank Leverage Ratio Framework. 42 Table of Contents
Comparison of financial position to
Total Assets. Total assets increased
$43.0 million, or 25.2%, to $213.6 millionat June 30, 2021from $170.7 millionat June 30, 2020. The increase was primarily due to an increase of $21.8 million, or 89.7%, in cash and cash equivalents, offset in part by a $4.1 million, or 27.3% decrease in debt securities available-for-sale. Net loans also increased by $27.3 million, or 23.3%. Cash and Cash Equivalents. Total cash and cash equivalents increased $21.8 million, or 89.7%, to $46.0 millionat June 30, 2021from $24.3 millionat June 30, 2020, as securities matured, deposits increased and the Company raised $8.6 millionfrom its common stock offering. This increase was partially offset by the use of cash to fund loan originations. Debt Securities Available for Sale. Total debt securities available for sale decreased $4.1 million, or 27.3%, to $10.9 millionat June 30, 2021from $15.0 millionat June 30, 2020. The decrease was primarily due to a decrease of $3.9 millionin mortgage-backed securities and $1.2 millionin state and municipal obligations as a result of maturities, offset by a purchase of $1.1 millionin corporate bonds. Debt Securities Held to Maturity. Total debt securities held to maturity decreased $2.1 million, or 75.0%, to $709,000at June 30, 2021from $2.8 millionat June 30, 2020. The decrease was primarily due to a decrease of $2.1 millionin mortgage-backed securities as a result of maturities. Net Loans. Net loans increased $27.3 million, or 23.3%, to $144.2 millionat June 30, 2021from $116.9 millionat June 30, 2020. The increase was due to a $11.4 million, or 27.9%, increase in commercial real estate loans to $52.1 millionat June 30, 2021from $40.8 millionat June 30, 2020and an increase in multifamily loans of $7.7 million, or 80.0%, to $17.3 millionat June 30, 2021from $9.6 millionat June 30, 2020. One- to four-family residential mortgage loans also increased by $6.7 million, or 16.0%, to $48.4 millionat June 30, 2021from $41.7 millionat June 30, 2020. Commercial and industrial loans (including Paycheck Protection Program Loans) increased by $6.3 million, or 47.9%, to $19.3 millionat June 30, 2021from $13.0 millionat June 30, 2020. These increases were partially offset by a decrease in construction loans of $3.1 million, or 28.0%, to $8.0 millionat June 30, 2021from $11.1 millionat June 30, 2020. The increase in commercial and industrial, commercial real estate and multifamily loans was primarily due to our strategy to enhance our commercial lending in Southeastern Wisconsinand our participation in the PPP. The increase in one- to four-family residential mortgage loans was primarily the result of customers refinancing their loans at lower rates. Construction loans decreased due to a decrease in our construction loan participations. Deposits. Total deposits increased $37.9 million, or 28.3%, to $172.0 millionat June 30, 2021from $134.0 millionat June 30, 2020. The increase in deposits reflected an increase in demand, NOW and money market accounts of $9.5 million, or 27.3%, to $44.4 millionat June 30, 2021from $34.9 millionat June 30, 2020and an increase in savings accounts of $5.4 million, or 13.8%, to $44.7 millionat June 30, 2021from $39.3 millionat June 30, 2020. Certificates of deposit also increased by $11.8 million, or 24.8%, to $59.2 millionat June 30, 2021from $47.5 millionat June 30, 2020. The increase in all deposit accounts primarily reflected deposit customers increasing cash balances during the COVID-19 pandemic along with the impact of federal stimulus programs and an increase in new customers. Borrowings. Borrowings decreased by $8.0 millionas we paid down our Federal Home Loan Bankadvances as the interest rates on these borrowings were higher than what we earn on our investments in Federal funds sold. We increased our borrowings from the Federal Reserve PPP Liquidity Facility by $4.0 millionto fund our PPP loans originated after June 30, 2020such that our total PPP Liquidity Facility borrowings at June 30, 2021was $10.4 million. Stockholders' Equity. Total stockholders' equity increased by $9.1 million, or 43.6%, to $29.9 millionat June 30, 2021from $20.8 millionat June 30, 2020. The increase was due to net income of $1.4 millionand the $8.6 millionraised from our common stock offering. 43 Table of Contents Average Balance Sheets
The following table sets forth average balances, average yields and costs, and certain other information for the years indicated. No tax-equivalent yield adjustments have been made, as the effects would be immaterial. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances. The yields set forth below include the effect of deferred fees, discounts, and premiums that are amortized or accreted to interest income or interest expense, as applicable. Loan balances include loans held for sale. Deferred loan fees accreted to interest income totaled
$429,000and $29,000for the years ended June 30, 2021and 2020, respectively. For the Year Ended June 30, 2021 2020 Average Average Average Average Outstanding Yield/Rate Outstanding Yield/Rate Balance Interest Balance Interest (Dollars in thousands) Interest-earning assets: Loans (excluding PPP loans) $ 119,103 $ 5,7004.79 % $ 109,624 $ 5,2534.79 % PPP loans 7,964 390 4.90 % 1,177 29 2.46 % Debt securities 14,122 362 2.56 % 19,646 533 2.71 % Cash and cash equivalents 32,394 20 0.06 % 16,882 84 0.50 % Other 262 12 4.58 % 263 10 3.80 %
Total interest-earning assets 173,845 6,484
3.73 % 147,592 5,909 4.00 % Noninterest-earning assets 13,534 4,985 Total assets
$ 187,379 $ 152,577Interest-bearing liabilities: Demand, NOW and money market deposits $ 41,737146 0.35 % $ 34,176145 0.42 % Savings deposits 41,824 60 0.14 % 38,049 67 0.18 % Certificates of deposit 50,233 843
1.68% 47,613 1,123 2.36% Total interest-bearing deposits
0.78% 119,838 1,335 1.11% Advances and other loans FHLB
6,441 19 0.29 % 2,000 19 0.95 % PPP Liquidity Facility borrowings 7,181 23 0.32 % 719 3 0.42 % Total interest-bearing liabilities 147,416 1,091
0.74 % 122,557 1,357 1.11 % Non-interest-bearing demand deposits 16,482 8,870 Other non-interest-bearing liabilities 1,216 1,027 Total liabilities 165,114 132,454 Total stockholders' equity 22,265 20,123 Total liabilities and stockholders' equity
$ 187,379 $ 152,577Net interest income $ 5,393 $ 4,552Net interest rate spread (1) 2.99 % 2.89 %
Net interest-earning assets (2)
$ 26,429 $ 25,035Net interest margin (3) 3.10 % 3.08 % Average interest-earning assets to interest-bearing liabilities 117.93 % 120.43 %
The net interest rate differential represents the difference between the weighted average return (1) on interest-bearing assets and the weighted average rate of
interest bearing liabilities.
(2) Net interest-bearing assets represent total interest-bearing assets less total interest-bearing liabilities.
(3) The net interest margin represents the net interest income divided by the average total of interest-bearing assets.
Rate/Volume Analysis The following table presents the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior 44
volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The total column represents the sum of the prior columns. For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately based on the changes due to rate and the changes due to volume. Year Ended June 30, 2021 vs. 2020 Increase (Decrease) Due to Total Increase Volume Rate (Decrease) (In thousands) Interest-earning assets: Loans (excluding PPP loans) $ 454 $ (7)
$ 447PPP loans 167 194 361 Debt securities (150) (21) (171) Cash and cash equivalents 77 (141) (64) Other - 2 2 Total interest-earning assets 548 27 575 Interest-bearing liabilities:
Demand, NOW and money market deposits 32 (31)
1 Savings deposits 7 (14) (7) Certificates of deposit 62 (342) (280)
Total interest-bearing deposits 101 (387)
FHLB advances and other borrowings 42 (42) - PPP Liquidity Facility borrowings 27 (7)
Total interest-bearing liabilities 170 (436)
(266) Change in net interest income $ 378 $ 463
Comparison of Operating Results for the Years Ended
June 30, 2021and 2020 General. Net income was $1.4 millionfor the year ended June 30, 2021, an increase of $955,000, or 228.6%, from net income of $418,000for the year ended June 30, 2020. The increase in net income for the year ended June 30, 2021was primarily attributed to an increase in net interest income of $841,000, a decrease in the provision for loan losses of $150,000, and an increase in non-interest income of $890,000, partially offset by an increase in non-interest expenses of $535,000and an increase in the provision for income taxes of $390,000. Interest Income. Interest income increased by $576,000, or 9.7%, to $6.5 millionfor the year ended June 30, 2021from $5.9 millionfor the year ended June 30, 2020, primarily due to an increase in loan interest income which was offset by decreases in debt securities interest income and cash and cash equivalents interest income. Loan interest income increased by $808,000, or 15.3%, to $6.1 millionfor the year ended June 30, 2021from $5.3 millionfor the year ended June 30, 2020, due primarily to an increase in the average balance of the loan portfolio. The average balance of the loan portfolio increased by $16.3 million, or 14.7%, from $110.8 millionfor the year ended June 30, 2020to $127.1 millionfor the year ended June 30, 2021. The increase in the average balance of loans was primarily due to an increase in the average balances of commercial (including PPP loans) and residential loans offset by a decrease in the average balances of construction and consumer loans. The average yield on the loan portfolio (including PPP loans) was 4.79% and 4.77% for the years ended June 30, 2021and 2020, respectively. Debt securities interest income decreased $172,000, or 32.2%, to $362,000for the year ended June 30, 2021from $533,000for the year ended June 30, 2020, primarily due to a decrease of $5.5 millionin the average balance of the debt securities portfolio and a decrease in the average yield on the debt securities portfolio of 15 basis points from 2.71% for the year ended June 30, 2020to 2.56% for the year ended June 30, 2021. The decrease in the average balance of the debt securities portfolio was primarily due to securities paydowns and redemptions in municipal bonds and mortgage-backed securities offset by a purchase of corporate bonds. The decrease in the average yield of debt securities 45 Table of Contents
is explained by redemptions and repurchases of higher rate securities and new investments purchased at lower interest rates due to falling market rates since
Cash and cash equivalent interest income decreased by
$64,000, or 76.2%, to $20,000for the year ended June 30, 2021as compared to $84,000for the year ended June 30, 2020. The average yield decreased to 0.06% for the year ended June 30, 2021from 0.50% for the year ended June 30, 2020, while the average balance of cash and cash equivalents increased from $16.9 millionfor the year ended June 30, 2020to $32.3 millionfor the year ended June 30, 2021. The decrease in the average yield on cash and cash equivalents was primarily due to lower average rates earned on fed funds, as a result of the decrease in market rates since June 30, 2020. The increase in the average balance of cash and cash equivalents was primarily due to an increase in fed funds that were only partially used to fund loan originations. Interest Expense. Interest expense decreased $265,000, or 19.6%, to $1.1 millionfor the year ended June 30, 2021from $1.4 millionfor the year ended June 30, 2020primarily due to a decrease of $285,000in interest paid on deposits, partially offset by an increase of $20,000in interest paid on borrowings. Interest expense on deposits decreased $285,000, or 21.4%, to $1.0 millionfor the year ended June 30, 2021as compared to $1.3 millionfor the year ended June 30, 2020primarily due to a decrease in interest expense on certificates of deposit. Interest expense on certificates of deposit decreased $280,000, or 24.5%, to $843,000for the year ended June 30, 2021as compared to the prior year due to a decrease in the average rate paid on certificates of deposit, offset by a slight increase in the average balance of certificates of deposit. The average rate paid on certificates of deposit decreased 68 basis points to 1.68% for the year ended June 30, 2021from 2.36% for the year ended June 30, 2020due to the general drop in short-term interest rates. The average balance of certificates of deposit increased by $2.6 millionfor the year ended June 30, 2021compared to the prior year due to the number of new customers added by the Company, offset by our strategic initiative to reduce our higher cost certificates of deposit. The interest expense on borrowings increased $20,000to $42,000for the year ended June 30, 2021when compared to the year ended June 30, 2020primarily due to an increase in the average balance of borrowings from the FHLB and the Federal Reserve PPP Liquidity Facility. The average balance of borrowings for the year ended June 30, 2021was $13.6 millionwith an average rate of 0.31% compared to an average balance of $2.7 millionand an average rate of 0.81% for the year ended June 30, 2020. The increase in the average balance of borrowings was due to additional borrowings that primarily enhanced our liquidity as a result of the COVID-19 pandemic and to participate in the PPP loan program. The 50 basis points decrease in the average rate paid on borrowings was primarily due to the decrease in market rates since June 30, 2020. Net Interest Income. Net interest income increased $841,000, or 18.5%, to $5.4 millionfor the year ended June 30, 2021from $4.6 millionfor the year ended June 30, 2020. This increase reflected a 10 basis points increase in the net interest rate spread to 2.99% for the year ended June 30, 2021from 2.89% for the year ended June 30, 2020. The increase in net interest rate spread reflected a 37 basis points decrease in the average rate paid on interest-bearing liabilities offset by a 27 basis points decrease in the average yield on interest-earning assets. The net interest margin increased two basis points to 3.10% for the year ended June 30, 2021from 3.08% for the year ended June 30, 2020. Net- interest earning assets also increased by $1.4 million, or 5.6%, to $26.4 millionfor the year ended June 30, 2021from $25.0 millionfor the year ended June 30, 2020. Provision for Loan Losses. We recorded no provision for loan losses for the year ended June 30, 2021compared to a provision of $150,000for the year ended June 30, 2020. The decrease in the provision was due primarily to a commercial and industrial loan participation that was impaired during the year ended June 30, 2020which is no longer impaired. Net recoveries were $486,000for the year ended June 30, 2021compared to net charge-offs of $79,000for the year ended June 30, 2020. Non-performing assets decreased to $178,000, or 0.08% of total assets, at June 30, 2021, compared to $319,000, or 0.19% of total assets, at June 30, 2020. The allowance for loan losses was $2.2 million, or 1.49% of loans outstanding, at June 30, 2021and $1.7 million, or 1.43% of loans outstanding, at June 30, 2020. We expect economic uncertainty to continue for additional periods which may result in the allowance for loan losses as a percentage of total loans increasing in the future. 46
To the best of our knowledge, we have recorded all loan losses that are both probable and reasonable to estimate at
June 30, 2021. However, future changes in the factors described herein, including, but not limited to, actual loss experience with respect to our loan portfolio, could result in material increases in our provision for loan losses. In addition, the WDFI and the FDIC, as an integral part of their examination process, will periodically review our allowance for loan losses, and as a result of such reviews, we may have to adjust our allowance for loan losses.
Income other than interest. Information on non-interest income is as follows.
Year Ended June 30, Change 2021 2020 Amount Percent (Dollars in thousands) Service charges on deposit accounts
$ 168 $ 178 $ (10)(5.6) % Mortgage banking 1,527 606 921 152.0 % Increase in cash surrender value of BOLI 165 164 1 0.6 % Gain (loss) on sale of foreclosed real estate 11 (3)
14 1,200.0 % Other 25 61 (36) (59.0) % Total non-interest income
$ 1,896 $ 1,006 $ 89088.5 % Non-interest income increased by $890,000, or 88.5%, to $1.9 millionfor the year ended June 30, 2021from $1.0 millionfor the year ended June 30, 2020due primarily to an increase in mortgage banking income. Mortgage banking income (consisting primarily of sales of fixed-rate one- to four-family residential real estate loans) increased $921,000as we sold $50.6 millionof mortgage loans during the year ended June 30, 2021compared to $26.6 millionof such sales during the year ended June 30, 2020due to the decrease in market rates, which resulted in increased demand for mortgage loan refinancing.
Non-interest charges. Information on non-interest charges is as follows.
Year Ended June 30, Change 2021 2020 Amount Percent (Dollars in thousands) Salaries and employee benefits
$ 3,345 $ 3,022 $ 3238.7 % Occupancy and equipment 671 674 (3) (0.4) % Data processing and office 463 416 47 11.3 % Professional fees 367 274 93 33.9 % Marketing expenses 63 64 (1) (1.6) % Debit card expenses 89 80 9 11.3 Directors fees 78 68 10 14.7 Other 362 304 58 19.1 % Total non-interest expenses $ 5,438 $ 4,902 $ 53610.9 %
Non-interest expenses were
$5.4 millionfor the year ended June 30, 2021as compared to $4.9 millionfor the year ended June 30, 2020. Salaries and employee benefits increased $323,000which was primarily related to new hires to assist with the growth of the Company. Professional fees increased $93,000due to additional costs associated with being a new public reporting company. Income Tax Expense. Income tax expense increased to $478,000for the year ended June 30, 2021from $87,000for the year ended June 30, 2020due to an increase in income before income taxes. The effective tax rate was 25.8% for the year ended June 30, 2021as compared to 17.3% for the year ended June 30, 2020.
Liquidity and capital resources
Liquidity describes our ability to meet financial obligations that arise in the normal course of business. Liquidity is primarily needed to meet our clients’ borrowing and deposit withdrawal needs and to fund
current and planned expenditures. Our primary sources of funds are deposits, principal and interest payments on loans and securities, proceeds from the sale of loans, and proceeds from maturities of securities. We also have the ability to borrow from the
Federal Home Loan Bank of Chicago. At June 30, 2021, we had a $75.5 millionline of credit (subject to providing additional collateral) with the Federal Home Loan Bank of Chicago, and had no borrowings outstanding as of that date. Under the Federal Reserve PPP Liquidity Facility program, we have borrowed $10.4 millionto fund PPP loans as of June 30, 2021, which is secured by an equal amount of PPP loans. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and short-term investments including interest-bearing demand deposits. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period. Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash provided by operating activities was $1.5 millionand $1.1 millionfor the years ended June 30, 2021and 2020, respectively. Net cash used in investing activities, which consists primarily of disbursements for loan originations and the purchase of securities, offset by principal collections on loans, proceeds from the sale of securities and proceeds from maturing securities and pay downs on securities, was $21.3 millioncompared to $3.5 millionprovided by investing activities for the years ended June 30, 2021and 2020, respectively. Net cash provided by financing activities, consisting of activity in deposit accounts and borrowings and net proceeds from our common stock offering, was $41.6 millionand $17.1 millionfor the years ended June 30, 2021and 2020, respectively. We are committed to maintaining a strong liquidity position. We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. Based on our deposit retention experience, current pricing strategy and regulatory restrictions, we anticipate that a substantial portion of maturing time deposits will be retained, and that we can supplement our funding with borrowings in the event that we allow these deposits to run off at maturity.
Off-balance sheet arrangements and global contractual obligations
Commitments. As a financial services provider, we routinely are a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. While these contractual obligations represent our future cash requirements, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans we make. At
June 30, 2021, we had outstanding commitments to originate loans of $15.2 million, and outstanding commitments to sell loans of $3.8 million. We anticipate that we will have sufficient funds available to meet our current lending commitments. Time deposits that are scheduled to mature in one year or less from June 30, 2021totaled $21.2 million. Management expects that a substantial portion of the maturing time deposits will be renewed. However, if a substantial portion of these deposits is not retained, we may utilize Federal Home Loan Bankadvances or other borrowings, which may result in higher levels of interest expense. Contractual Obligations. In the ordinary course of our operations, we enter into certain contractual obligations. Such obligations include data processing services, operating leases for premises and equipment, agreements with respect to borrowed funds and deposit liabilities.
Recent accounting positions
Please refer to Note 1 to the financial statements beginning on page 50 for a description of recent accounting pronouncements that may affect our financial condition and results of operations. 48
Impact of inflation and price changes
The financial statements and related data presented herein have been prepared in accordance with
U.S.GAAP, which requires the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. The primary impact of inflation on our operations is reflected in increased operating costs. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates, generally, have a more significant impact on a financial institution's performance than does inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.
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