Waterstone Financial, Inc. — Form 10-Q Summary
Reporting period: Quarter and six months ended June 30, 2014. Amounts below are in millions of dollars unless stated otherwise. The company operates community banking and mortgage banking businesses, with lending concentrated in southeastern Wisconsin and mortgage origination across multiple states. It completed its second-step conversion and public stock offering in January 2014.
Financial performance and condition
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net interest income | $10.6 | $9.9 | $20.3 | $20.1 |
| Mortgage banking income | $22.2 | $25.5 | $36.7 | $47.4 |
| Provision for loan losses | $0.3 | $1.2 | $0.5 | $3.0 |
| Net income | $3.8 | $4.9 | $5.7 | $9.6 |
| Diluted EPS | $0.11 | $0.14 | $0.16 | $0.28 |
| Net interest margin | 2.53% | 2.60% | 2.42% | 2.64% |
- For the six months, total interest and noninterest income was $71.4 million, down from $81.8 million. Pretax income was $8.8 million versus $15.5 million. The effective tax rate was 35.7%, compared with 38.5%.
- Mortgage banking drove the earnings decline: six-month mortgage originations for sale fell 21.6% to $767.0 million, amid weaker refinance demand and lower sales margins. A $1.8 million gain from selling mortgage servicing rights partly offset the decline.
- Net interest income increased modestly as lower deposit and borrowing costs and offering proceeds supported income. However, the six-month net interest margin fell to 2.42% from 2.64%, reflecting lower asset yields.
- At June 30, total assets were $1.80 billion, shareholders’ equity $458.0 million, and loans held for investment, net, $1.10 billion. Equity rose $243.5 million, principally from $248.3 million of net offering proceeds.
- Cash and cash equivalents were $112.6 million, down from $429.2 million at year-end. Deposits were $848.6 million, down $396.1 million, largely because subscription funds held in deposits before the offering were used to buy shares or returned. Borrowings totaled $454.7 million, including $350.0 million of FHLB advances and $104.7 million of repurchase agreements.
- Six-month cash flows were negative $51.8 million from operations, negative $105.6 million from investing, and negative $159.2 million from financing. Cash declined $316.6 million. These flows reflect, among other items, mortgage loan production and sales, offering-related subscriber refunds, securities purchases and loan growth.
Changes, credit quality, and management commentary
- Management attributed lower earnings chiefly to reduced mortgage production and margins. Mortgage banking net income for the six months was $1.0 million, versus $5.3 million a year earlier; community banking net income increased to $4.6 million from $4.1 million.
- Credit metrics improved overall: non-accrual loans declined to $46.0 million from $51.0 million at year-end, and nonperforming assets were $68.1 million versus $73.6 million. The allowance for loan losses fell to $21.2 million from $24.3 million; net charge-offs were $3.6 million for the six months.
- Credit risks remain material. Loans past due 90 days or more were $26.5 million; total past-due loans were $43.9 million. Troubled debt restructurings totaled $26.2 million, of which $16.9 million were non-accruing. About 87.1% of the loan portfolio involved residential real estate, and credit risk was geographically concentrated in the Milwaukee area.
- Real estate owned was $22.1 million. The company recorded $603,000 of write-downs in the first half and transferred $6.9 million of loans into foreclosed property. Management cited local real estate stabilization as a factor in improved credit trends, but noted further property-value deterioration could require additional provisions or charge-offs.
- The Bank met regulatory capital requirements and was categorized as well capitalized. Its June 30 total risk-based capital ratio was 30.25%, and Tier 1 leverage ratio was 18.88%. Management cautioned that the offering-related increase in equity would continue to weigh on return on equity.
Outlook, risks, and contingencies
- The filing provides no numerical earnings or revenue guidance. Management said offering proceeds would be deployed over time for general corporate purposes, including loan funding, and could increase net interest-earning assets and net interest income; the larger equity base may constrain returns on equity.
- Key stated risks include economic and competitive conditions, interest-rate changes, mortgage and securities market conditions, credit losses, regulatory changes, operational and market-risk management, and the ability to retain key employees or execute growth plans.
- Interest-rate modeling estimated that a gradual 100-basis-point increase would raise annual net interest income by 2.61%, while a 100-basis-point decline would reduce it by 2.54%. The filing cautions that actual results may differ, particularly because mortgage prepayment assumptions may not hold.
- At June 30, certificates of deposit totaling $433.2 million were scheduled to mature within one year. Management expected a significant portion to remain, but gave no assurance; replacement funding could cost more or be unavailable on attractive terms.
- Off-balance-sheet commitments totaled $52.6 million, including loan commitments, unused credit lines and standby letters of credit. Management reported no probable losses on these commitments. Mortgage loan sale agreements include limited representations, warranties and recourse provisions; historically, repurchases and losses were insignificant.
- The company reported no material pending legal proceedings and stated that disclosure controls were effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether mortgage originations and sales margins stabilize, and how much of earnings remains dependent on mortgage banking.
- Whether improved credit indicators persist, including delinquency trends, non-accrual loans, troubled restructurings, charge-offs, and allowance adequacy.
- How the company deploys offering proceeds and whether loan and securities growth generates returns sufficient to offset the larger equity base.
- Deposit retention and funding needs as $433.2 million of time deposits mature within a year; also monitor borrowing costs and callable advances or repurchase agreements.
- Potential sensitivity to interest rates, mortgage prepayments, real estate values, and unrealized or credit-related securities losses, including the municipal securities with previously recognized impairment.