TIMBERLAND BANCORP INC annual report, FY2017

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Timberland Bancorp, Inc. — FY2017 Form 10-K

Business context and reporting period. This annual report covers the fiscal year ended September 30, 2017, with comparative results for FY2016 and FY2015. Timberland is a Washington community bank holding company operating 22 branches in western Washington; its lending is concentrated in real estate. The filing also reports fourth-quarter FY2017 results.

Financial performance and condition

  • Profitability: Net income was $14.17 million, up 39.5% from $10.15 million. Diluted EPS rose to $1.92 from $1.43. Return on average assets was 1.53%; return on average equity was 13.65%.
  • Revenue and margins: Interest and dividend income was $38.34 million; net interest income was $35.14 million, up 14.1%. Net interest margin improved 19 basis points to 4.07%. Non-interest income increased 13.6% to $12.37 million. The efficiency ratio improved to 57.92% from 63.89%.
  • Credit costs: The company recorded a $1.25 million recapture of loan losses, versus no provision or recapture in FY2016. Net recoveries were $977,000; the allowance for loan losses ended at $9.55 million, or 1.36% of loans.
  • Cash flow: Operating cash flow was $13.86 million; investing activities used $20.16 million and financing activities provided $45.55 million. Cash and cash equivalents increased $39.25 million to $148.19 million.
  • Balance sheet and liquidity: Total assets rose 6.8% to $952.02 million; deposits increased 10.0% to $837.90 million; shareholders’ equity rose 14.6% to $111.00 million. The bank had no FHLB borrowings at year-end, compared with $30.00 million a year earlier. Its regulatory liquidity ratio was 23.4%; disclosed additional FHLB and FRB borrowing capacity was $360.5 million, with a separate $22.0 million FHLB letter of credit available to secure public deposits.
  • Capital: The bank was categorized as well capitalized. Its common equity Tier 1 ratio was 15.9%, total capital ratio 17.1%, and leverage ratio 11.2%.
  • FY2017 fourth quarter: Net income was $3.62 million and diluted EPS was $0.48. The quarter included no loan-loss recapture; the first and second fiscal quarters recorded recaptures of $250,000 and $1.00 million, respectively.

Material changes versus FY2016

  • Net loans, net of allowance, increased 4.1% to $690.36 million. Gross originations grew 27.4% to $340.61 million; construction loans increased to $168.5 million from $123.1 million.
  • Commercial real estate loans were $328.9 million, or 41.9% of the loan portfolio. Construction, commercial real estate, and land lending together remained a substantial concentration of credit exposure.
  • Credit quality improved: non-accrual loans declined to $1.91 million from $2.87 million; non-performing assets fell to $5.75 million from $7.86 million, or 0.60% of assets versus 0.88%. Classified and special-mention loans also decreased.
  • Net interest income benefited from loan growth and lower interest expense. The bank repaid its remaining $30 million of FHLB borrowings, incurring a $282,000 prepayment penalty; management said repayment would reduce future interest expense by about $100,000 per month.
  • Deposits grew, led by non-interest-bearing demand and transaction accounts; certificates of deposit declined. The company sold $81.44 million of loans, up from $58.90 million.
  • Non-interest expense rose 3.3%, primarily from higher salaries and staffing, partly offset by lower OREO expenses. Shareholders’ equity also benefited from a $2.50 million stock-warrant exercise; dividends paid totaled $3.64 million.

Outlook, commentary, risks, and unusual items

  • Outlook: The filing provides no specific earnings or growth guidance. Management’s stated priorities include growing core deposits and higher-yielding lending, expanding within existing markets, maintaining asset quality, and managing interest-rate exposure.
  • Rate sensitivity: Management’s model estimated that an immediate 100-basis-point rate increase would raise projected net interest income 4.2%, while a 100-basis-point decrease would reduce it 7.7%. These are model estimates, not forecasts, and depend on assumptions about rates, loan repayments, and deposit behavior.
  • Key risks: Credit exposure is concentrated in western Washington real estate, particularly commercial real estate and construction lending; downturns, falling collateral values, cost overruns, or weaker property cash flows could increase losses. Rising funding costs, deposit competition, and changing rates could pressure margins. Other cited risks include liquidity, regulation, cybersecurity and third-party systems, and securities valuation.
  • Other exposures: At year-end, the bank had $9.1 million of potential problem loans, $3.3 million of accruing troubled debt restructurings, and $153.5 million in commitments, including undisbursed construction loans and lines of credit. Businesses associated with Washington’s marijuana industry accounted for $15.5 million, or 1.8%, of deposits.
  • Unusual items and accounting: FY2017 included the $1.25 million loan-loss recapture and the $282,000 FHLB prepayment penalty. Adoption of share-based-payment guidance resulted in a $131,000 cumulative adjustment affecting common stock and income-tax provision; the filing says total equity and regulatory capital ratios were unaffected. The company expects CECL adoption to increase the allowance, but had not estimated the amount.
  • Legal and controls: Management reported no pending legal proceeding expected to have a material adverse effect. The auditor gave an unqualified opinion on the financial statements and internal control over financial reporting; management also concluded controls were effective.

Most important facts for investors to verify

  • Whether growth in construction and commercial real estate loans is keeping pace with underwriting, collateral monitoring, and credit-quality trends.
  • The adequacy of the $9.55 million loan-loss allowance, including its sensitivity to potential problem loans, appraisals, and future CECL requirements.
  • Whether deposit growth and funding costs support net interest margin as rates and competition change; review the disclosed interest-rate sensitivity assumptions.
  • The availability and terms of disclosed borrowing capacity, and the liquidity implications of $153.5 million in commitments and construction disbursements.
  • Regulatory and compliance exposure associated with marijuana-related deposits, and any changes in applicable federal guidance.