Business context and reporting period
Coastal Financial Corporation filed this Form 10-K for the fiscal year ended December 31, 2020. The Washington-based bank holding company operates Coastal Community Bank, serving consumers and small and medium-sized businesses primarily in the Puget Sound region, and provides banking-as-a-service (BaaS) through its CCBX division. Results reflect substantial Paycheck Protection Program (PPP) lending and rapid balance-sheet growth during the COVID-19 pandemic.
Financial performance and condition
Amounts are in millions of dollars unless otherwise stated.
| Metric | 2020 | 2019 |
|---|---|---|
| Net income | $15.1 | $13.2 |
| Diluted earnings per share | $1.24 | $1.08 |
| Total interest income | $63.0 | $48.6 |
| Net interest income | $57.4 | $42.0 |
| Provision for loan losses | $8.3 | $2.5 |
| Noninterest income | $8.2 | $8.3 |
| Noninterest expense | $38.1 | $31.1 |
| Net interest margin | 3.83% | 4.23% |
| Return on average assets | 0.98% | 1.28% |
| Efficiency ratio | 58.14% | 61.79% |
- Growth and funding: Year-end assets were $1.77 billion, up 56.5%; loans receivable were $1.55 billion, up 64.7%; and deposits were $1.42 billion, up 46.8%. Noninterest-bearing deposits were $592.3 million, or 41.7% of deposits.
- PPP impact: PPP loans totaled $365.8 million at year-end. The company recognized $10.2 million of PPP interest and fee income in 2020, with $5.8 million of net deferred PPP fees remaining to be recognized.
- Credit quality: The allowance for loan losses was $19.3 million, or 1.25% of loans (approximately 1.62% excluding guaranteed PPP loans). Nonperforming assets were $712,000, or 0.04% of assets; net charge-offs were $516,000, or 0.04% of average loans. Three loans totaling $9.3 million remained on COVID-related deferral at year-end.
- Cash flow: Operating activities provided $19.3 million; investing activities used $666.5 million, principally reflecting loan growth; financing activities provided $622.3 million, including deposit and PPPLF funding. The cash-flow statement’s ending cash, due from banks and restricted cash was $19.0 million; separately, the balance sheet reported $144.2 million in interest-earning deposits with other banks.
- Debt and capital: Year-end borrowings included $153.7 million under the PPPLF, $25.0 million of FHLB advances, $10.0 million of subordinated debt and $3.6 million of junior subordinated debentures. The Bank remained well capitalized: common equity Tier 1 was 11.86%, total risk-based capital was 13.11%, and leverage was 9.29%. Shareholders’ equity was $140.2 million, or 7.94% of assets, compared with 11.00% a year earlier.
Material changes versus 2019
- Net income rose 14.7%, supported by 36.6% growth in net interest income, principally from loan expansion and PPP fee recognition. Lower funding costs helped offset lower asset yields.
- Net interest margin declined 40 basis points to 3.83%, reflecting low market rates and lower-yielding PPP loans. Average loan yield fell from 5.38% to 4.64%.
- Provision for loan losses increased by $5.8 million, primarily due to pandemic-related economic uncertainty and loan growth. The allowance rose to $19.3 million from $11.5 million.
- Noninterest expense increased 22.7%, led by hiring and operating costs supporting BaaS, branch expansion and PPP processing. The company also recorded a $400,000 impairment on an equity investment.
- Growth in assets and deposits was accompanied by a higher loans-to-deposits ratio of 108.9%, versus 97.0% in 2019, partly due to PPP lending.
Outlook, commentary and risks
- No specific earnings or financial guidance is provided. Management expected PPP forgiveness activity to accelerate in the first half of 2021 and reported that, as of March 8, 2021, it had funded $259.3 million of third-round PPP loans and received $180.8 million in forgiveness or principal paydowns.
- The Bank expected to launch digital banking accounts with Google Pay in 2021 or early 2022. CCBX had 15 partner relationships at year-end across active, trial, implementation and signed-letter-of-intent stages. Management anticipated further staffing, technology and operating expenses as these businesses grow.
- Management described liquidity as adequate and cited deposits, available borrowing facilities and liquid assets as funding sources. The Bank had $65.7 million of additional FHLB capacity at year-end. Management also stated that the loans-to-deposits ratio was elevated by PPP activity.
- Credit and concentration risks include commercial real estate and local economic exposure: non-owner-occupied CRE loans were $594.6 million, or 357.0% of Bank risk-based capital. Approximately 87% of real estate loans were secured by property or borrowers in the Puget Sound region.
- Other key risks include the uncertain pandemic recovery and borrower performance, BaaS partner or deposit attrition, liquidity and interest-rate sensitivity, cybersecurity and third-party systems, regulatory oversight, and the transition away from LIBOR. The company had $160.0 million of LIBOR-linked loans, including $110.6 million associated with swaps, and $3.6 million of LIBOR-linked junior subordinated debentures.
- Management reported effective disclosure controls and internal control over financial reporting; the auditor issued an unqualified opinion on the financial statements. The company was not required to obtain an auditor attestation on internal control.
- The company had not historically paid common dividends and did not intend to do so in the near term. It announced the planned sale of its Freeland branch in February 2021, expected to close in the second quarter of 2021.
Most important facts for investors to verify
- How quickly PPP loans are forgiven or repaid, how remaining deferred fees affect future earnings, and how much new PPP lending remains outstanding.
- Whether pandemic-related credit stress emerges in CRE, construction, C&I or other borrower segments, and whether the allowance remains adequate as deferrals end and CECL adoption approaches in 2023.
- Whether CCBX and the planned Google-linked digital offering generate durable fee and deposit growth sufficient to cover rising staffing, technology and compliance costs.
- How the high loans-to-deposits ratio, PPPLF repayment mechanics and declining equity-to-assets ratio affect liquidity and capital as the balance sheet changes.
- The progress of LIBOR contract transition, and the sensitivity of earnings to interest-rate changes; management’s model estimated 12-month net interest income would rise 4.5% under a 100-basis-point increase and fall 3.7% under a 100-basis-point decrease on a static balance sheet.