Waterstone Financial, Inc. — Q1 2021 Form 10-Q
Reporting period: Three months ended March 31, 2021; balance-sheet comparisons are with December 31, 2020. Unless stated otherwise, amounts are in U.S. dollars. The company operates a Wisconsin-focused community bank and a multistate mortgage-banking business originating loans primarily for sale.
Financial results and position
- Earnings: Net income was $21.3 million, or $0.89 diluted EPS, versus $6.1 million, or $0.24, in Q1 2020. Pretax income was $28.2 million; the effective tax rate was 24.4%.
- Revenue and margins: Net interest income rose 11.4% to $14.0 million. Noninterest income increased 78.6% to $56.2 million, driven chiefly by mortgage banking income of $54.4 million, up 78.9%. Net interest margin was 2.80%, compared with 2.68%; fully tax-equivalent NIM was 2.81% versus 2.69%.
- Costs and credit provision: Noninterest expense increased 22.1% to $43.0 million, including compensation expense up 39.8% to $34.1 million amid higher mortgage production. The company recorded a $1.1 million provision credit, versus a $0.8 million provision in Q1 2020.
- Cash flow: Operating cash flow was $59.4 million, versus cash used of $37.7 million a year earlier. Cash and cash equivalents rose $103.6 million during the quarter to $198.4 million.
- Balance sheet and liquidity: Total assets were $2.20 billion, up 0.6% from year-end. Deposits rose $34.8 million to $1.22 billion; borrowings fell $17.6 million to $490.5 million. Shareholders’ equity increased $17.6 million to $430.7 million.
- Credit quality: Loans receivable were $1.34 billion, down $39.7 million from year-end. The allowance for loan losses was $17.8 million, or 1.33% of loans, compared with $18.8 million, or 1.33%, at year-end. Nonaccrual loans declined to $4.2 million from $5.6 million; total nonperforming assets were $4.3 million, or 0.20% of assets.
- Capital: The Bank was reported well-capitalized. Its total risk-based capital ratio was 24.01%, Tier 1 risk-based ratio 22.93%, and Tier 1 leverage ratio 17.44% at quarter-end.
Material changes versus Q1 2020
- Mortgage originations increased 57.3% in the mortgage-banking segment to approximately $1.12 billion, reflecting both refinancing and home-purchase demand. Segment net income rose to $14.0 million from $2.0 million.
- Community-banking segment net income increased to $7.3 million from $4.1 million. Lower deposit funding costs supported net interest income, while lower loan yields partly offset the benefit.
- Mortgage-servicing rights increased to $8.8 million carrying value from $6.0 million at year-end; loans serviced for others rose to $1.26 billion from $871.8 million.
- Q1 2021 included a $0.315 million credit in professional-fee expense, compared with $1.8 million of expense in Q1 2020. Management cites a legal settlement and lower litigation costs; the cash-flow statement separately reports a $4.25 million legal-settlement outflow.
Outlook, commentary, and risks
- The filing provides no quantitative earnings or revenue guidance. Management cautions that Q1 results are not necessarily indicative of full-year results.
- Management attributed the loan-loss provision credit to improvement in certain economic factors and lower loan balances. The company continued to use the incurred-loss model, delaying CECL adoption under COVID-related relief; it was preparing for adoption no later than January 1, 2022. Its preliminary parallel computation estimated the allowance for credit losses, including unfunded commitments, would not exceed 110% of the March 31 allowance; management says this estimate may change.
- COVID-19 remains a source of uncertainty for borrower repayment, fees, interest income, and economic conditions. At March 31, $0.91 million of loans had COVID-related payment deferrals, and $19.4 million of PPP loans remained outstanding.
- Mortgage results are sensitive to interest rates, refinance demand, origination volumes, loan-sale margins, and secondary-market conditions. Management’s model estimates a 5.95% increase in next-12-month net interest income under an immediate 100-basis-point rate increase and a 4.41% decrease under a 100-basis-point decline; actual outcomes may differ.
- Funding risks include $594.2 million of time deposits scheduled to mature within one year, potential deposit outflows, and possible increases in wholesale funding costs. The company reported $118.3 million in credit commitments and standby letters of credit; these are not all funded obligations.
- Credit exposures include a geographic concentration in the Milwaukee metropolitan area, $11.8 million of troubled debt restructurings, and collateral-value sensitivity on impaired real-estate loans. Management reported no probable losses on credit commitments and no material adverse effect expected from pending legal proceedings.
Important facts for investors to verify
- How much of the record mortgage income and margin is sustainable as refinancing activity and interest rates change.
- The nature and accounting treatment of the legal-settlement items, including the $4.25 million cash outflow and favorable professional-fee credit.
- The assumptions behind the planned CECL transition and its ultimate effect on reserves, retained earnings, and capital.
- Performance of nonaccrual loans, troubled debt restructurings, COVID deferrals, and the adequacy of collateral and the allowance.
- Deposit retention at maturities, liquidity needs, and the cost and availability of FHLB and other borrowing sources.