Sound Financial Bancorp, Inc. — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019. The unaudited consolidated results cover Sound Financial Bancorp and its subsidiaries, principally Sound Community Bank. Amounts below are in millions unless otherwise noted.
Financial performance and position
- Q3 revenue and earnings: Net interest income was $6.51 million, down 5.1% year over year. Net income was $1.55 million, down 15.4%; diluted EPS was $0.60 versus $0.71.
- Nine-month results: Net interest income was $19.86 million, down 1.6%; net income was $4.81 million, down 10.9%; diluted EPS was $1.87 versus $2.10.
- Interest margin: Net interest margin was 3.95% for Q3 and 4.04% year to date, compared with 4.07% and 4.23%, respectively, in 2018. Management attributed the decline to funding costs rising faster than asset yields.
- Other income and expenses: Q3 noninterest income fell 21.6% to $1.20 million, partly because 2018 included a $490,000 Visa B Shares gain. Nine-month noninterest income fell 16.8% to $3.17 million. Noninterest expense was $5.52 million in Q3, down 6.0%; nine-month expense rose 2.6% to $17.15 million.
- Assets and loans: Total assets were $715.3 million, down 0.2% from December 31, 2018. Net portfolio loans were $607.3 million, down 1.1%; construction and land loans increased 16.2% to $75.8 million, while one-to-four-family loans declined 10.4% to $152.1 million.
- Funding and liquidity: Deposits increased 10.1% to $609.6 million; the average deposit rate for Q3 was 1.22%, versus 0.71% a year earlier. Borrowings declined to $12.5 million from $84.0 million. Cash and cash equivalents were $58.9 million. The Bank reported $192.6 million of remaining FHLB borrowing capacity, $39.4 million of Federal Reserve discount-window capacity, and $20.0 million in other available credit lines.
- Cash flow, nine months: Operating activities provided $7.2 million; investing activities provided $3.2 million; financing activities used $13.4 million. Cash declined $2.9 million to $58.9 million.
- Capital and equity: Stockholders’ equity was $76.0 million, up 6.1% from year-end. The Bank was described as well-capitalized; its total risk-based capital ratio was 11.65% and CET1 ratio was 10.76%.
Material changes and credit quality
- Deposit growth and proceeds from a $16.2 million residential loan sale helped reduce FHLB borrowing. Deposit costs rose, contributing to lower net interest margin and earnings.
- Nonperforming assets increased 39.0% to $4.51 million, or 0.63% of assets, from $3.24 million, or 0.45%, at year-end. Nonperforming loans rose to $3.44 million; OREO and repossessed assets rose to $1.07 million.
- The allowance for loan losses was $5.62 million, or 0.91% of total loans, compared with 0.93% at year-end. The company recorded a $250,000 Q3 provision but a $150,000 recapture for the first nine months. Nonaccrual loans were $3.44 million, up from $2.54 million at year-end.
- Total TDRs were $7.5 million, compared with $2.8 million at year-end; four loans totaling $5.1 million were modified as TDRs during the period. One $97,000 modified loan defaulted within 12 months.
Outlook, risks, and unusual items
- The filing provides no quantified earnings or growth guidance. Management notes that interim results are not necessarily indicative of full-year results.
- Key stated risks include changing loan demand and real estate values, credit losses and allowance estimates, deposit retention and funding costs, interest-rate fluctuations, loan-sale market conditions, regulatory actions, competition, cybersecurity and third-party service-provider risks.
- Lease accounting adoption in 2019 resulted in recognition of $7.90 million in right-of-use assets and $8.25 million in lease liabilities at September 30.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the nine-month period. It stated that routine legal proceedings were not expected to have a material adverse effect.
- After quarter-end, the board declared a $0.14-per-share quarterly dividend, payable November 21, 2019. The existing share repurchase program was extended through February 5, 2020; no program repurchases were reported in Q3.
Important facts for investors to verify
- Whether deposit growth can continue without further increases in deposit rates, and how that affects net interest margin.
- Trends in nonperforming loans, TDRs, OREO, and the adequacy of the loan-loss allowance, particularly given the increase in impaired loans and nonperforming assets.
- Loan portfolio growth and concentration, including construction and commercial real estate exposures, and the effect of the residential loan sale.
- Whether recurring operating costs and mortgage-servicing-rights valuations affect future earnings; Q3 and nine-month efficiency ratios were 71.57% and 74.46%, respectively.
- Liquidity needs against $111.7 million of loan commitments and $67.3 million of certificates of deposit scheduled to mature within one year.