FS Bancorp, Inc. — Q3 2012 Form 10-Q
Business context and period. The filing covers the quarter and nine months ended September 30, 2012. FS Bancorp is the holding company for 1st Security Bank of Washington, a community bank serving the Puget Sound area. On July 9, 2012, the Bank converted from mutual to stock ownership and the Company completed its IPO. Unless stated otherwise, amounts below are in millions of dollars.
Key financial results
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Interest income | $4.840 | $4.044 | $13.642 | $12.307 |
| Net interest income | $4.269 | $3.344 | $11.810 | $9.981 |
| Provision for loan losses | $0.630 | $0.622 | $1.695 | $1.652 |
| Noninterest income | $1.479 | $0.605 | $3.324 | $1.705 |
| Noninterest expense | $4.116 | $3.102 | $11.539 | $8.801 |
| Income before tax | $1.002 | $0.225 | $1.900 | $1.233 |
| Net income | $3.325 | $0.225 | $4.223 | $1.233 |
- Q3 net income included a $2.323 million income tax benefit from reversing substantially all of the deferred tax asset valuation allowance. The underlying pretax income was $1.002 million; the tax benefit is a major reason reported earnings rose sharply year over year.
- Nine-month net interest margin was 5.39%, up from 5.20%. The nine-month efficiency ratio was 76.3%, compared with 75.3%; the Q3 ratio was 71.6%, compared with 78.6% in the prior-year quarter.
- Q3 gains on sale of loans were $0.915 million; nine-month gains were $1.466 million, primarily from the resumed mortgage banking program. These gains helped lift noninterest income.
Financial position, cash flow and capital
- At September 30, 2012, total assets were $341.2 million, up 20.2% from year-end 2011. Net loans were $259.2 million, up 19.4%; deposits were $274.8 million, up 11.5%; and equity was $59.4 million, versus $26.8 million. IPO proceeds were $32.4 million gross, with $15.5 million contributed to the Bank.
- Cash and cash equivalents were $12.2 million, down from $19.3 million at year-end. Nine-month operating cash flow was negative $2.9 million, investing cash flow negative $56.3 million, and financing cash flow positive $52.2 million; financing included $31.2 million in net stock proceeds and $28.4 million in deposit growth.
- Borrowings, consisting of FHLB advances, were $4.1 million, down from $8.9 million. The Bank reported $22.3 million of unused FHLB capacity, a $75.1 million Federal Reserve borrowing line and a $6.0 million unsecured line; there were no outstanding draws on the latter two facilities. Brokered deposits were $11.2 million.
- The Bank was categorized as well capitalized. Its Tier 1 leverage, Tier 1 risk-based and total risk-based capital ratios were 13.2%, 15.8% and 17.1%, respectively. The Company reported estimated ratios of 16.8%, 20.0% and 21.2%.
Changes, credit quality and management commentary
- Loan growth was broad: commercial business loans rose 41.9% to $61.5 million, real estate loans rose 31.8% to $83.7 million, and consumer loans rose 3.5% to $118.2 million. Management emphasized diversification through expanded commercial, construction and mortgage lending while maintaining the consumer portfolio.
- The allowance for loan losses was $4.4 million, or 1.7% of gross loans, versus 2.0% at year-end 2011. Nonperforming loans were $2.1 million, or 0.8% of loans, compared with $2.2 million, or 1.0%, at year-end. Nine-month net charge-offs were $1.7 million, versus $2.7 million a year earlier.
- Other real estate owned declined to $2.3 million from $4.6 million, reflecting $2.5 million of dispositions and $0.7 million in fair-value write-downs. Total nonperforming assets were $4.4 million.
- Management attributed higher operating costs to added staff and investment in expanded lending platforms. Nine-month noninterest expense increased 31.1%; the filing cites compensation, OREO write-downs and loan costs among the drivers.
- Liquidity needs include $89.2 million of loan commitments and $33.1 million of certificates of deposit scheduled to mature within six months. Management said it expected to retain a majority of maturing deposits; that is an expectation, not a guarantee.
Outlook, risks and unusual items
- The Company provided no formal earnings guidance. Management expected the remaining $269,000 deferred tax valuation allowance to offset Q4 2012 income tax expense and did not expect income tax expense until Q1 2013, subject to actual results and estimates.
- After quarter-end, the Company agreed in principle to sell up to $13.0 million of consumer marine loans, subject to finalizing the agreement. It estimated a Q4 pretax gain of $125,000–$200,000. Management cited balance-sheet diversification and interest-rate risk management as the purpose.
- Key disclosed risks include borrower credit deterioration, real estate values and regional economic conditions; interest-rate and margin changes; deposit retention and competition; growth and execution in new lending channels; expense control; regulatory changes; and the valuation of loans, OREO and deferred tax assets.
- The Bank reported a legal dispute in which the plaintiff’s claims were dismissed with prejudice and the plaintiff’s appeal was dismissed; the Bank’s counterclaims remained. Management said ordinary-course legal matters were not expected to have a material financial effect. The filing also reports no material change in risk factors from the May 2012 prospectus.
Important facts for investors to verify
- How much of reported earnings growth is sustainable operating performance versus the $2.323 million tax benefit and mortgage-loan sale gains.
- Whether loan growth, especially construction, commercial business and warehouse-related lending, is accompanied by stable credit quality, allowance adequacy and charge-offs.
- Whether the Bank can fund commitments and deposit maturities while maintaining liquidity and capital, and whether management’s deposit-retention expectations hold.
- Whether the marine-loan sale closes on the anticipated terms and produces the estimated gain; also assess the effect of disposing of those loans on future interest income and risk.
- Whether the deferred tax asset remains realizable and whether the tax-benefit assumptions remain supported by future profitability.